The Motley Fool

Are Cromwell European REIT’s Latest Acquisitions a Good Move?

Cromwell European REIT (SGX: CNNU) is a real estate investment trust (REIT) that invests in a diversified portfolio of income-producing real estate assets in Europe used for office, light industrial or logistics, and retail. As of today, the REIT’s portfolio consists of 97 properties in Denmark, Finland, France, Germany, Italy, the Netherlands and Poland. The portfolio has a net lettable area of around 1.4 million square metres with over 900 tenants.

On Friday, Cromwell announced the acquisition of six properties – three in France and three in Poland. Let’s look deeper.

Key aspects of the acquisitions

1. The acquisition properties are predominantly office assets, valued at EUR 248.1 million. They are 100% freehold, have a very high occupancy rate of 98.7%, and a weighted average lease expiry (WALE) of 4.8 years.

2. The acquisitions will enlarge Cromwell’s portfolio from 97 to 103 properties, and valuation will increase by 13.8% from EUR 1.79 billion to EUR 2.04 billion. The purchases also increase the geographical diversification for the REIT by decreasing the Netherlands’ contribution from 33.9% to 29.8% and increasing Poland’s exposure from 4% to 11.8%.

Source: Cromwell REIT’s Acquisitions Presentation Slides

3. 58 new tenants will be added to the portfolio, and this will increase the trade sector diversification for the portfolio. Public administration and manufacturing still form the bulk of the trade sectors at 14.9% and 13.6%, respectively.

Source: Cromwell REIT’s Acquisitions Presentation Slides

4. The properties have an initial yield of 7.4%, and the enlarged portfolio should see a rise of around 19.7% in net property income. Distribution per unit (DPU) is expected to be 6.5% higher at 3.99 EUR cents as compared to FY 2018’s 3.75 EUR cents. Note that these numbers are computed based on the weighted average number of shares from the rights issue from December 2018.

5. The purchase price for the properties would be at EUR 246.9 million. The mode of financing includes EUR 146.9 million of debt and EUR 100 million of equity from a private placement of shares at prices between EUR 0.46 and EUR 0.47 per share. Aggregate leverage will rise to 38.9% after the close of the acquisitions. However, if the placement is fully upsized from EUR 100 million to EUR 150 million, less debt would be required to finance the deal, and aggregate leverage would be 36.6%.

The rationale for the acquisitions

The acquisitions are made based on compelling reasons – one of which is that the net initial yield of the properties of 7.4% is much higher than the existing REIT portfolio’s office portfolio net initial yield of 5.8%. There are also rental escalation clauses linked to inflation for further upside for investors.

The deal also offers the REIT entry into the Greater Paris office market, which is one of the largest and most attractive commercial real estate markets in Europe. Increased exposure to Poland was cited as another reason for the acquisition of the three Polish properties.

Risks for the REIT

The main risk relating to the REIT is a slowdown in the office property markets in the respective countries, and also a general downturn in the European region. If there is an economic recession impacting the Eurozone, demand for office space will fall, resulting in higher vacancy rates and also negative rental reversions. These would hurt the rental income for the REIT and also cause DPU to decline.

Another risk is that of the weakening Euro, as distributions are declared in Euro and translated to Singapore dollars. €1 could buy S$1.59 a year ago but has since weakened to around S$1.53 currently. If the Euro continues to weaken, it would have a negative impact on DPU even after accounting for the accretion.

Positive overall but investors need to remain watchful

I am positive overall on the acquisitions, but feel that the DPU increase of 2.3% is low assuming a private placement amount of EUR 150 million instead of EUR 100 million. The key positives are the increased diversification in terms of geographic and tenant exposure, and a larger portfolio also means smaller single tenant risk for the REIT. Investors, however, need to remain watchful for the Eurozone’s economic fundamentals and also keep an eye on the EUR-SGD rate.

Maximise dividends on your REITs with our brand-new Complete Guide To Buying The Best Singapore REITs. We reveal everything we think you need to know about finding the best REITs that hands you a fat dividend cheque ...even if you have no REITs experience at all! Get instant access to your 100% FREE, actionable, 42-page PDF guide here.

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Royston Yang does not own shares in any of the companies mentioned.