Manulife US REIT - OCBC Investment 2022-11-02: Repositioning Amid Headwinds

• Manulife US REIT's portfolio occupancy dipped 1.9ppt q-o-q to 88.1%.
• Rental reversion improved to 4.3% in 3Q22.
• A potential beneficiary of increasing flight to quality.

Manulife US REIT's 3Q22 business update

• Manulife US REIT (SGX:BTOU) reported its 3Q22 business update. Portfolio occupancy in 3Q22 dipped 1.9 ppt q-o-q to 88.1%, largely due to downsizing of one major tenant Quinn Emanuel at Figueroa, partially offset by improvement in occupancy rate at Diablo.
• As shared by management in 2Q22, Quinn Emanuel will downsize by 71k square feet (sq ft) effective 31 Aug 2022 but will renew the remaining 64k sq ft for 5.4 years from Sep 2023 with +2.5% rental reversion.
• Physical occupancy rate at Manulife US REIT’s properties remained subdued at 30%.

Maintained guidance of low single digit positive rental reversion in 2022

• Rental reversion improved to +4.3% (+1% in 1H22) with ~61,000 sq ft executed in 3Q22, of which 93% came from new leases. Year-to-date rental reversion was at 1.7%.
• Management maintained its guidance of positive low single digit positive rental reversion in 2022.

Leasing momentum in the US remained soft

• According to JLL, leasing volume in the US remained sluggish in 3Q22 as tenants generally adopted more defensive approach by downsizing their office space or halting expansion plans. Increasing flight to quality by tenants, and vast majority of downsizing companies are relocating into better quality spaces with higher rents. While downsizing, tenants increasingly opt to upgrade office space, driving demand for Class A/Trophy assets.

Repositioning, recycle and rejuvenate

• Manulife US REIT will embark on hotelisation project at Peachtree in 1H23 and introduced flexible space to Plaza in 3Q22 as part of its repositioning strategy to reinvent office space. MUST sees potential rent premium of 30% post completion.
• As of 30 Sep 2022, Manulife US REIT’s gearing was at 42.5%. Management indicated that its top priority would be to manage leverage ratio.
• In the face of a soft US office market, Manulife US REIT formed a Strategic Working group by Board and management team to explore opportunities including recycling of assets and potential portfolio diversification into other asset classes and geographical markets.

Fair value estimate of US$0.47 for Manulife US REIT

• Factoring a slower economic growth, headwinds in the US office sector and higher interest rate, we decrease our DPU estimates for Manulife US REIT by 3-14% for FY22-26. Meanwhile, we raise our cost of equity assumption from 8.5% to 10.5% on higher beta and lower terminal growth assumption.
• Collectively, our new assumptions lead us to a lower fair value estimate of US$0.47 for Manulife US REIT (previously US$0.69).

Manulife US REIT – ESG Updates

• Manulife US REIT’s ESG rating was upgraded in Dec 2021, mainly due to its robust efforts to further increase the proportion of green-certified buildings in its portfolio (89% vs the industry average of 37.8% in 2020).
• Additionally, Manulife US REIT falls into the highest scoring range relative to global peers in terms of corporate governance. However, Manulife US REIT shows lagging efforts to attract and retain talent relative to peers according to research.