With Singapore being a hub for REITs, it’s not surprising to hear of occasional announcements of a REIT turning to the capital markets to raise funds.
The nature of REITs is such that they have to pay out at least 90% of their earnings as a distribution to enjoy tax benefits.
The above criterion makes REITs dependable dividend investments for income-focused investors.
However, when it comes to the funding of acquisitions or setting aside cash for development projects or extensive asset enhancement initiatives, REITs will need to tap on capital markets to raise funds.
It’s a common occurrence for REITs to fund major, billion-dollar acquisitions using a mix of equity (i.e. issuance of new units), debt and internal funds.
Equity fundraising (EFR) normally entails two components – a private placement of units to accredited or institutional investors, and a preferential offer of units to existing unitholders.
Let’s dig deeper to analyse what preferential offers are whether you should take them up.
What is a preferential offer?
A preferential offer is an offer of new units to existing unitholders as part of a REIT’s EFR exercise.
The word “preferential” here takes its reference from the word “prefer”, which states that this exercise only involves unitholders of the REIT and is not open to the general public.
To qualify for the preferential offer, you can purchase units of the REIT from the open market before it goes ex-entitlement (XE) or ex-rights (XR).
In contrast, a private placement of shares usually involves third parties who are not existing unitholders of the REIT.
Such private placements are dilutive as they increase the number of units in issue, thereby increasing the pool of available units when a REIT computes its distribution per unit (DPU).
The terms of each offer
Investors need to scrutinise the purpose of the preferential offer to decide on its merits.
For this discussion, we will use two examples of preferential offers to illustrate this point.
The first is that of Mapletree Logistics Trust (SGX: M44U), or MLT, which recently announced an EFR to fund the acquisition of S$1.4 billion worth of logistics assets in China, Vietnam, and Japan.
An EFR was launched to raise around S$700 million through a private placement and preferential offer to partially fund these acquisitions.
The second example is that of CapitaLand China Trust (SGX: AU8U), or CLCT.
The China-focused REIT purchased five business park properties and the remaining 49% interest in Rock Square for close to RMB 5 billion last November.
The REIT held an EFR to raise about S$300 million to partially fund these acquisitions, also involving both a private placement and preferential offer.
Offer ratio and discount rate
Next, unitholders need to review the offer ratio and discount rate for each preferential offer.
For MLT, new units were offered on the basis of 37 new units for every 1,000 existing units at a unit price of S$1.84, which was a 5.6% discount to the volume-weighted average price (VWAP) of S$1.9485 per unit.
CLCT offered 56 new units for every 1,000 held at S$1.17 per new unit, which was a 9.2% discount to the VWAP of S$1.2891 per unit.
A simple rule here — the higher the ratio per number of existing units, the more dilutive the preferential offer will be if unitholders do not accept it.
A larger discount also makes the offer more attractive to unitholders as it means you can purchase additional units more cheaply than from the open market.
Implications
There are two options you can choose from when it comes to preferential offers.
If you decide to take up the offer, then you should pay the amount required per your entitlement.
For example, if you own 5,000 units of MLT, you will be entitled to subscribe for 5 x 37 = 185 new units of the REIT at S$1.84 per unit.
This means that you have to cough up S$340.4 (S$1.84 x 185 units) for your entitlement.
Unlike rights issues, the units from the preferential offer are not renounceable and therefore cannot be sold.
If you do not accept the offer, then there is nothing more that needs to be done, but you will suffer dilution when other unitholders receive their proportional entitlement and new units are issued for the preferential offer.
Excess units
If you are feeling very enthusiastic about the acquisition(s) and think that the preferential offer is a great way to accumulate more units on the cheap, there is the option of applying for excess units.
In a nutshell, excess units refer to units that are over and above what you are entitled to apply for.
Using the previous example, you can apply for your 185 units as per your entitlement and also opt to subscribe for, say, an additional 1,015 units (to round off the units to 1,200).
You will have to pay S$2,208 (1,200 x S$1.84) upfront.
It’s important to note that you may or may not be allotted any excess units.
When the results of the preferential offer are announced, any unitholders who did not take up their entitlement will form a pool of units that will be distributed to those who applied for excess.
Hence, you may only get a portion of the excess you applied for, but note that you will be allotted your entitled quantity of 185 units.
Get Smart: Decide on a case by case basis
Not all preferential offers are the same.
Investors need to scrutinise the details of the deal — whether the acquisition will be yield-accretive and boost DPU, the merits of the purchase, and other salient details of the acquisition(s) as will be reported by the REIT.
You also need to assess the attractiveness of the offer in terms of the offer ratio and discount given.
As more cash needs to be deployed for a preferential offer, you may decide to hold off if you are saving your funds for another purpose.
As a rule, you should only accept an offer if you are comfortable owning the REIT over the long term, as the increased DPU will take time to flow through to the new plus existing units.
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Disclaimer: Royston Yang does not own shares in any of the companies mentioned.
