Hong Kong's latest Reit scrapes through

The IPO of RREEF China Commercial Trust is priced just below the mid-point of the range for a 6.2% yield despite modest orders from institutional and retail investors.
RREEF China Commercial Trust was able to price its initial public offering in Hong Kong towards the mid-point of the offering range despite being only marginally oversubscribed, which suggests the company and the bookrunners are confident about the quality of the investors who bought in.

The deal, which is sponsored by the real estate and infrastructure arm of Deutsche Asset Management, will be only the second Hong Kong-listed Reit to hold Chinese assets after GZI Reit and the third in total if you count CapitaLand-sponsored CapitaRetail China Trust which is listed in Singapore. At launch, the Reit will hold one asset û a twin tower Grade-A office complex in Beijing called Beijing Gateway Plaza.

The price was fixed at HK$5.15 per unit for a total deal size of HK$2.25 billion ($288 million). The units had been offered in a range between HK$5 and HK$5.40. The final price translates into an annualised 2007 yield of 6.2%, which some observers referred to as being quite tight û especially in light of the sharp rise in global bond yields last week.

During the roadshow, the 10-year Hong Kong Interbank Offered Rate (Hibor) rose to about 4.9% from 4.6% and yields in the US market widened as much as 50 basis points as the unwinding of technical positions accelerated the move.

RREEF CCT, which will be the seventh Reit to list in the Hong Kong market, was being offered at a lower absolute yield than most of its local peers from the start. However, joint bookrunners Deutsche Bank and HSBC have been stressing that this Reit comes with a ôclean yieldö - which means it uses no financial engineering to increase the yield beyond what the underlying property can support.

This was expected to give RREEF CCT an advantage over most of the other Hong Kong-listed Reits because investors have consistently shown that they donÆt like such artificial dividend boosting measures (which leave the Reit highly exposed to a drop in yields when the measures come to an end).

The average 2007 distribution yield (including yield enhancing measures) for the six Reits currently in the market is about 7%, but ranges from 3.7% for The Link Reit to 10.2% for Henderson Land-backed Sunlight Reit. Regal Reit, which is backed by hotel properties and as the most recent one to list also uses the least amount of yield enhancing measures, trades at a 5.5% yield.

When RREEF CCT's books closed on Thursday last week, however, the 90% institutional tranche was only between one and two times covered, while the retail tranche was close to three times covered. Consequently there will be no clawback at all on this deal, leaving the retail tranche at 10%.

Supposedly, there was never really any danger that the institutional portion of the deal wouldnÆt get filled as pre-bookbuilding commitments from one cornerstone investor (the Government Investment Corp of Singapore) and five to six undisclosed anchor investors meant the deal was half covered already at launch. Still, the limited interest from other investors meant there wasnÆt much margin to play with in the end. Even so, investors say the bookrunners have allocated the 10% greenshoe, which gives them a pool of shares to use should they need to stabilise the stock in the secondary market.

About 50 investors, predominantly from Asia, came into the institutional book. The majority of them were long-only funds, which isnÆt surprising given that Reits tend to cater to investors with long-duration liabilities. There was also good participation of property specialists.

The IPO comprised 436 million units plus an additional 48.5 million if the greenshoe is exercised in full. If that happens, the total proceeds will increase to $320 million. The Government Investment Corporation (GIC) of Singapore bought 50 million units for about $33 million, which gives it a 10.3% stake in the Reit post-shoe.

The proceeds will go towards the acquisition of the Gateway Plaza from its current owner, an experienced Chinese developer by the name of Tin Lik, at a cost of $499 million. To meet the full price, RREEF-CCT will also take on 35% in debt.

The acquisition price represents a 2.2% discount to appraised value of the property, which has been estimated at HK$3.98 billion ($510 million) by independent valuer DTZ. Going forward the Reit will be looking to make acquisitions of similar size û or at least of institutional grade û which makes it a different proposition to most other China property funds, which tend to focus on smaller properties to make sure their portfolios donÆt get too exposed to one signal project.

Gateway Plaza is the only grade-A office building in the so called Lufthansa district, which is one of the four main commercial districts in Beijing. As there is no other office buildings scheduled for completion in this area until 2010, the RREEF-CCT is in a prime position to benefit from further rental increases, observers say.

Aside from the clean yield, another rarity with RREEF-CCT is the fact that it will be managed by an independent manager which has no skin in the game. This means that the only way for the manager to make more money is to make sure the Reit grows, both in terms of generating higher net income and in terms of its asset value. As a result, the managerÆs interest is entirely in line with the unit holders.

Tin Lik, will own 20% of the management company, while the remaining 80% will be owned by RREEF.

Some investors had expressed concern that the Reit hasnÆt obtained a letter of first refusal with regard to potential future projects that RREEF may acquire in China. However, sources close to the offering said RREEF currently has no competing business in China, which is one of its newest markets. It is understood that RREEF didnÆt want to set a precedent in China on this issue as it doesnÆt grant such rights in any of the other 28 markets were it manages real estate assets.

It has obtained such a right of first refusal to any suitable acquisition opportunities within the prime commercial or Grade A office building that Tin Lik may develop, or any other space that he sources or develops over the next five years. At present he has three projects in the pipeline, but none of them is expected to be completed within the next two to three years.

The growth strategy will be focused primarily on acquisitions, and while other Hong Kong-listed Reits have so far completed very few acquisitions between them, observers note that RREEF CCT does have an advantage here. The reason, they say, is that its lower yield, compared with Reits that use financial engineering, means the hurdle rate for making yield accretive acquisitions is also lower.

Aside from The Link Reit, which is up 77% since its listing in November 2005, the other five Hong Kong-listed Reits are currently either flat or significantly below their respective IPO price. GZI Reit, which invests in commercial and industrial properties based in Guangzhou that are of lower quality than the Gateway Plaza, is one of those that is flat.

The trading debut is scheduled for June 22.
¬ Haymarket Media Limited. All rights reserved.
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