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3 Risks of Prime US REIT’s IPO

Prime US REIT is set to list on 19 July. The US office REIT has priced its units at an initial public offering (IPO) price of US$0.88, representing a forecasted distribution yield of 7.4% in 2019 and 7.6% in 2020.

With the public offer closing on 15 July, I decided to do a quick review of important elements of the REIT and in my previous article, I covered three potential growth drivers for the REIT. In the interests of a balanced argument, though, here I’ll discuss some of the negative attributes that I do not like about it.

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High gearing

Based on the projected funds raised through the offering, Prime US REIT will have a gearing of 37.0%. While this is below the regulatory ceiling of 45% for REITs in Singapore, it is still on the high side. 

The REIT will, therefore, have limited capacity to take on more debt for acquisitions. If it wants to make an acquisition, the REIT will most likely have to raise funds through a rights issue, which depending on market conditions, could end up being distribution per unit (DPU)-dilutive.

Foreign currency risk

As with all REITs with predominantly foreign assets, investors of Prime US REIT will be exposed to foreign currency risks. The distributions for Prime US REIT will be declared in US dollars and unitholders who want distributions in Singapore dollars will get the equivalent based on the relevant exchange rates at that time.

Fluctuations in exchange rates can materially impact the Singapore dollar-denominated distributions.

IPO price

Based on its IPO price of US$0.88, the REIT will have a price-to-book value of 1.05 and a forecasted distribution yield of 7.4% for 2019. While the yield is comparable to other pure-play US REITs in the market, it is priced at a premium to its book value.

The projected distribution yields are also based on a 100% payout ratio. Prime US REIT is committed to paying out 100% of its distributable income for 2019 and 2020 but left the door open for its distribution policy to change after that. If the REIT decides to drop its distribution policy to the regulatory minimum of 90%, it may result in a fall in DPU. This could, in turn, negatively impact the REIT’s unit price.

In addition, the fact that its gearing is relatively high will also limit the REIT’s potential for inorganic growth. 

The Foolish bottom line

While Prime US REIT certainly has some solid attributes, there are also certain aspects of it that are not so attractive. Investors will have to weigh each of these factors when deciding whether to subscribe to its IPO.

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