MCT-MNACT merger makes most sense when viewed from perspective of Mapletree Investments

AFTER digesting the proposed merger of Mapletree Commercial Trust (MCT) and Mapletree North Asia Commercial Trust (MNACT) over the past week, the verdict from the market seems clear: MCT has lost 8.5 per cent of its market value while MNACT has slipped 1.8 per cent.

As I see it, the implications of this thumbs-down from the market are 3-fold:

• Unitholders of MCT should vote against the merger.
• Unitholders of MNACT should sell their holdings in the market to take advantage of MNACT's elevated but falling unit price.
• Mapletree Investments - the sponsor group behind MCT and MNACT - should prepare to address concerns that the merger prioritises its own interests over those of investors who have been supporting its capital management platforms.

Under the proposed merger, unitholders of MNACT will exchange each unit they own for 0.5963 of a new MCT unit; or 0.5009 of a new MCT unit plus S$0.1912 in cash.

The gross exchange ratio of 0.5963 is very much in favour of unitholders of MNACT.

Just before the merger announcement, MNACT had closed at S$1.11 while MCT had closed at S$2.00. Given the exchange ratio, units in MNACT were being priced at more than S$1.19 worth of MCT units - or some 7 per cent more than MNACT's market price.

Not surprisingly, since the merger was announced on Dec 31, the relative market prices of MNACT and MCT have moved towards the gross exchange ratio under the deal.

On Jan 3, the first post-announcement trading day, MNACT climbed 3.6 per cent to close at S$1.15 while MCT fell 4 per cent to close at S$1.92.

MCT has continued falling though, dragging MNACT down with it. On Friday, MCT closed at S$1.83 while MNACT closed at S$1.09.

Why is the market seemingly baulking at MCT's proposal to combine itself with MNACT?

Merits of merger

Much like every other real estate investment trust (Reit) merger proposed over the last couple of years, the combination of MCT and MNACT is premised on the idea that bigger is better.

MCT currently owns 5 Singapore-based properties worth S$8.8 billion, while MNACT holds 13 properties worth S$8.3 billion located in China, Hong Kong, Japan and South Korea.

The combined entity - to be named Mapletree Pan Asia Commercial Trust (MPACT) - would be more diversified in terms of assets, geography and tenants.

MPACT is also expected to be among the 10 largest Reits in Asia, putting it in a stronger position to garner an investor following.

On top of that, the merger is expected to be immediately accretive in terms of distribution per unit (DPU) and net asset value (NAV) per unit for unitholders of MCT.

On a proforma basis, MCT's DPU for the 6 months to Sep 30, 2021 would have been boosted by as much as 8.9 per cent. Its NAV per unit as at Sep 30, 2021 would have been lifted by as much as 7.1 per cent.

Higher valuation unlikely

However, MCT has a better performance track record than MNACT.

Since its initial public offering (IPO) in 2011, MCT's DPU and NAV per unit have grown by compound annual rates of 4.8 per cent and 6.3 per cent, respectively.

MNACT's DPU and NAV per unit have grown by much slower compound annual rates of 1.9 per cent and 3.2 per cent, respectively, since its IPO in 2013.

Before the merger was unveiled, MCT was trading at an annualised H1 FY2022 DPU yield of 4.4 per cent and a 16.3 per cent premium to its NAV as at Sep 30 2021. (Mapletree's Reits have March year-ends).

MNACT was trading at an annualised H1 FY2022 DPU yield of 6.2 per cent and a 12.3 per cent discount to NAV as at Sep 30 2021.

While the merger with MNACT will certainly enlarge and diversify MCT's portfolio, it may not lead to a superior market valuation for the combined entity.

For one thing, the largest asset in MPACT's portfolio will be Festival Walk in Hong Kong - which includes a shopping mall that suffered rental reversions of negative 30 per cent in the first half of FY2022.

Another concern is that Festival Walk's leasehold title will expire in 25 years - on June 30, 2047. Comprising a mall and offices, Festival Walk is valued at some S$4.45 billion and will account for more than one-quarter of MPACT's portfolio.

The largest asset MCT currently owns is VivoCity, a thriving mall that is highly visible to Singapore-based investors. The property - which has a 99-year leasehold title starting on Oct 1, 1997 - is valued at nearly S$3.15 billion and accounts for more than one-third of MCT's portfolio.

MCT achieved a positive 2.3 per cent portfolio rental reversion in H1 FY2022. Its office and business park assets saw a 1.5 per cent reversion while its retail properties benefited from a 3.5 per cent reversion.

Vote against merger

On balance, MCT would probably be better off not merging with MNACT.

While it would be smaller, it would arguably wield a superior market valuation - better enabling it to raise funds and make acquisitions on terms that would be immediately accretive to its DPU and NAV per share.

More to the point, its unitholders would be spared the market de-rating that seems to be unfolding.

Of course, if unitholders of MCT do not pass the resolutions to implement the proposed merger, MNACT is likely to be hit by a nasty sell-off.

During the 1-month period leading up to the announcement of the merger, MNACT rallied 11 per cent.

By selling in the market, unitholders of MNACT would be protecting themselves from further de-rating of MCT in anticipation of the merger going through as well as the risk of MNACT becoming untethered from MCT if the merger is blocked.

Sponsors' priorities

This brings me to the question of why the merger is being proposed at all.

Two months ago, this column asserted that Reit mergers in the local market have been less about the pursuit of size than the priorities of their sponsors.

The proposed merger of MCT and MNACT starts to make more sense when viewed from that angle. MPACT is likely to be a far more effective and viable asset securitisation platform for Asian commercial property than MNACT, and thus more useful to Mapletree Investments.

MCT and MNACT are not the only Mapletree Reits currently in the spotlight.

Mapletree Logistics Trust (MLT) is due to hold an extraordinary general meeting this week to seek approval for the acquisition of 16 properties from its sponsor for more than S$1 billion.

On a pro forma basis, the acquisition would lift MLT's DPU by 1.1 per cent.

However, excluding the "income support" provided to some of the properties that are still undergoing stabilisation, the pro forma impact on MLT's DPU would actually be marginally dilutive.

Coming just as MCT and MNACT are trading lower on their merger proposal, this could add to the unfortunate perception that Mapletree Investments' priorities are not aligned with the interests of public investors.

• The writer owns units in Mapletree North Asia Commercial Trust.