Markets

Cromwell’s shelved IPO reflects market’s preference for simpler fare, Opinion

Mon, Oct 02, 2017 – 5:50 AM

THE scrapped initial public offering (IPO) of Cromwell European Real Estate Investment Trust (Reit) suggests that investors here are still more partial to easy-to-understand structures and portfolios than complicated offerings such as Cromwell’s. This is not necessarily a bad thing, although hopefully in time, the local market will develop the necessary sophistication to properly evaluate other non-straightforward securities.

It was tempting to root for Cromwell Reit if you had any kind of a stake in the future of the Singapore stock market. You didn’t necessarily have to think it was fantastically investment-worthy, but you would have at least hoped that it would be well-received.

That is because Cromwell Reit seemed to be exactly the kind of Reit that the Singapore Exchange (SGX) was courting. SGX wanted overseas Reits, and Cromwell Reit had a portfolio of European industrial, commercial and retail properties. SGX wanted Reits denominated in foreign currencies, and Cromwell Reit was to have been traded in euros. SGX wanted large IPOs as well, and Cromwell Reit, in its preliminary prospectus, had been hoping to raise up to 1.25 billion euros (S$2 billion), which would have made it the second-largest IPO so far this year for the market.

So if Cromwell Reit had listed, it would have meant vindication for SGX’s strategy to reignite its primary market, and would have showed that SGX is able to deliver on that strategy.

Complex portfolio

Of course, those hopes are now dashed. On Sept 18, Cromwell Property Group, the sponsor, cut the offering size, the first sign of trouble. A few days later, it announced that it was calling off the IPO due to “market conditions”.

One can argue about the definition of “market conditions”, but the Reit sector is certainly not depressed at the moment. The FTSE ST Reit index has gained about 14.5 per cent so far this year. The current forward yield for the index is about 6 per cent, which is less than the three-year average yield of 6.5 per cent and which represents a tighter spread over Singapore government bonds than the three-year average.

From an asset perspective, the fact that Cromwell’s portfolio of 81 properties were not “trophy” assets sitting in prime areas would not on its own have defeated the IPO either. After all, listed IREIT Global also holds industrial, commercial and retail assets, albeit only in Germany, and its presence on SGX suggests that investors here are comfortable with non-landmark assets.

Market sources however, have said that some potential investors were wary about the complexity of Cromwell’s portfolio. If that is correct, it would suggest that investors in Singapore are bigger fans of transparent structures and easy-to-understand portfolios than Cromwell’s creators expected.

The Reit’s properties spanned six countries – Poland, the Netherlands, Italy, France, Germany and Denmark. One could argue that the different countries offer a natural diversification within the portfolio, but that diversification came with a heavy cost in terms of complexity. The portfolio contained a mix of fully and partially owned properties, some were freehold and some leasehold, as well as structures meant to address different jurisdictional issues.

These are hurdles for investors trying to gain a good understanding of the portfolio, and rightly demand a discount to valuations.

Not helping was criticism about the costs associated with the Reit in terms of the fees collected by Cromwell Property and the manager – the annual base management fee was set at 0.28 per cent. The 89.3 per cent occupancy rate of the portfolio was also seen to be on the low side, as was the initially planned sponsor stake of 12.7 per cent. Cromwell Property later considered doubling that stake, before the IPO was pulled.

None of those factors are negative on the face of it. As with any deal, it ultimately comes down to price. The Reit’s indicative yield was about 7.5 per cent to 7.7 per cent, which is higher than the industry average, but apparently still insufficient for investors.

Market sophistication

The takeaway here is that in addition to price, Reit investors in Singapore are still partial to relatively simpler portfolios and underlying structures, at least more so than what Cromwell Property was expecting.

In the long run, the market should ideally become less averse to complex products and develop the sophistication to price them properly. If Singapore wants to retain its global reputation as a hub for Reits, it will need a segment of investors here with an appetite for unorthodox offerings.

In the immediate term, however, signs of prudence among investors is a positive indicator that the Reit segment’s current strength is not blind optimism. Notwithstanding the possibility of unrealistic expectations from the Reit’s sponsor, if potential investors in Cromwell Reit were able to look past the hype attached to the deal, that bodes well for the rest of the market.

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