Sabana defends ESR deal valuation but Quarz says reasoning 'absurd'

Singapore

THE manager of Sabana Shari'ah Compliant Industrial Real Estate Investment Trust (Sabana Reit) has insisted that its proposed deal with ESR-Reit does not necessarily undervalue Sabana as it is a merger and not an asset sale. But activist fund Quarz Capital Management criticised this reasoning as "absurd".

Quarz was responding to a statement from Sabana on Wednesday explaining that because Sabana Reit and ESR were merging, unitholders would be able to stay invested in a "stronger, larger and more resilient enlarged Reit".

Sabana Reit's manager also pointed out in the statement that the Reit had consistently traded at a discount to its net asset value (NAV) in recent years.

While NAV "may be a pertinent metric in an asset sale", Sabana Reit's management said it is important to consider other factors in the context of a 100 per cent unit swap between two listed entities.

They include trading unit prices and the corresponding exchange ratio, pro forma dividend per unit (DPU) accretion, the ability to leverage benefits of scale, enhancements to portfolio resilience and diversification, and other potential upsides not available in an asset sale.

Sabana Reit's statement came after Quarz complained that the offer price for the acquisition of Sabana by ESR was "too low".

"Unless the management of Sabana Reit's manager shows that they are willing to sell their personal properties at a 25 per cent discount to valuation, we are puzzled why they would propose to merge Sabana Reit at a 25 per cent discount to book value," Quarz had said.

Under the proposed merger, Sabana Reit unitholders will be entitled to receive new units in ESR-Reit on an agreed exchange ratio of 0.94 ESR-Reit unit for one Sabana Reit unit.

Sabana Reit's manager said the agreed exchange ratio is at a 4 per cent premium to the exchange ratio implied by the volume-weighted average price of Sabana Reit units for the one-month period up to July 15, which is the last trading day before the date the proposed merger was announced.

The pro forma DPU accretion of 12.9 per cent for Sabana Reit unitholders, on a H1 2020 annualised adjusted basis, will be "the highest in the history of S-Reit mergers", it added.

Quarz on Wednesday said it was "appalled" at the manager's "persistent defence of a proposed transaction which clearly undervalues Sabana units and is suboptimal to unitholders it has a fiduciary duty to".

Quarz also said the Reit's continued trading at a discount to book value could be attributed to the manager's lack of capability to improve the Reit's valuation.

Besides the development of its retail component, Quarz said the manager had not executed any strategic transactions since early 2019.

This was despite the Reit having one of the lowest leverage levels among Singapore-listed industrial Reits, with substantial debt headroom, it noted.

It also said the Reit's portfolio occupancy had fallen by about 10 per cent, from 84.1 per cent to 77.3 per cent, since chief executive of the manager Donald Han was hired in January 2018.

"Despite arguments that this is due to the end of master leases, peer industrial Reits with similar portfolios have been able to manage the situation with substantially higher occupancy rate versus Sabana," Quarz said.

"Given the low leverage, ample liquidity and healthy financials of the Reit, why is there the pressure to conduct a transaction now?"

In its defence of the proposed merger, Sabana Reit's manager reiterated its "compelling transaction rationale", including the creation of a "sizeable and liquid" industrial Reit with an expanded network of 75 properties.

Unitholders would be owners of a Reit with a larger market value and free float, which could bring the benefit of inclusion in key indices on top of higher trading liquidity, a wider investor base, and broader research coverage - all of which could lead to a re-rating of the enlarged Reit.

The enlarged Reit will be better equipped to face the current Covid-19 challenges, as it will be more diversified and benefit from significantly more favourable debt terms.

It will also be better positioned to capitalise on asset enhancement initiatives and acquisition opportunities locally and overseas, helping it overcome the Singapore industrial market's structurally short land lease tenor, and enabling it to participate in the growth of the industrial sector as the global economy emerges from the pandemic.

The manager added that there were several challenges involving an asset sale, including searching for willing and approved buyers that can acquire all the Reit's assets on a portfolio basis at NAV, and the "relatively high" transaction costs that an asset sale on a portfolio basis may incur.

Units of Sabana Reit ended Wednesday flat at 38 Singapore cents. Units of ESR-Reit also closed at 38 cents, down 0.5 cent or 1.3 per cent.