Eagle Hospitality Trust closed its initial public offering (IPO) on 22 May 2019. The trust, which owns 18 hotels across seven states in the United States, has set its IPO price at US$0.78 per stapled security. At this price, it has a distribution yield of around 8.2%, an attractive proposition, compared to the other hospitality trusts in the market, which average around 6%.
But the yield is just one aspect of looking at a real estate investment trust (REIT). There are other factors to consider such as risk factors, gearing, and management incentives. In this article, I will take a look at some of the key risks that investors of Eagle Hospitality Trust should be aware of.
One of the biggest concerns for investors is whether the trust has the ability to grow, or at the very least, sustain its distribution to shareholders.
Eagle Hospitality Trust leases its properties to third-party hotel operators who pay a fixed rent and a variable rent that is dependent on the operating income of the REIT. The variable portion is calculated based on gross operating revenue and gross operating profit, less fixed rent.
The leases are structured in a way that rental income collected by the trust will fluctuate depending on the gross operating revenue and gross operating profit earned by the hotel operators. The fixed portion acts as the minimum rental income that the trust will collect.
While this structure allows the REIT to collect higher rent should the hotel earn higher operating revenue and profit, it also means that rental income can decline if its portfolio of hotels performs poorly.
As demonstrated by other hospitality trusts listed here, individual hotel performances are highly susceptible to changing market conditions and could fluctuate wildly. This could impact Eagle Hospitality Trust’s distribution per stapled security in the future.
On top of the volatility of income earned by the trust, investors are also exposed to currency risks. The trust earns its income in US dollars but Singapore investors who collect distribution in Singapore dollars will be affected by the conversion rates at the time of distribution.
The forecasted revenue and distributions are also projected based on assumed exchange rates. Any unforeseen changes in the exchange rate can materially impact the actual earnings and distributions.
Another major risk is the fact that all of the trust’s portfolio is located in the United States. This exposes the trust to concentration risk, which makes it susceptible to changing economic conditions in a single country.
Moreover, two hotels — The Queen Mary Long Beach and Holiday Inn Resort Orlando Suites – Waterpark — contribute around 31% of the trust’s fixed rental income. As such, Eagle Hospitality Trust, despite its relatively large portfolio of 18 properties, is still highly dependent on just two properties within its portfolio.
The Foolish bottom line
No investment is free from risk. Investors who are looking to purchase Eagle Hospitality Trust’s units should consider the three risk factors listed above and other potential risks that could harm investors’ return in the future.
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The information provided is for general information purposes only and is not intended to be personalized investment or financial advice. Motley Fool Singapore contributor Jeremy Chia does not own shares in any of the companies mentioned.