Based on Sabana Real Estate Investment Management’s (SREIM) last available financial statement for FY2021, for the 12 months to December 31, 2021, its revenue was $5.1 million, and operating profit $1.5 million. Operating costs amounted to $1.27 million, and staff costs $2.1 million. Other costs were non-cash, such as depreciation. Hence, annual costs to run the manager (internal or external) is around $3.4 million.
SREIM reported some finance expense, and of course paid tax. The net profit of the manager in FY2021 was a paltry $1.26 million. The operating and free cash flow figures are lower than the net profit.
Our REIT table (in issue 1094) shows Sabana Industrial REIT received a base fee of $4.4 million, and property management fees of $2.8 million giving a total of $7.25 million in fees. The fees received by HSBC Institutional Trust Services (HSBC Trustee) was $355,000. A quick check shows that Link REIT also reported property management fees. Any entity with a property portfolio would have to incur property management fees.
On June 7, SREIM received a requisition for an EGM from Quarz Capital Asia. Two resolutions were proposed to be voted on in an EGM to be held on August 7. They are i)to vote out SREIM, and ii)to direct HSBC Trustee to effect an internalisation process. Both are ordinary resolutions.
The maths is different
The rationale for the resolutions is that unitholders would save from its fees paid to SREIM, Sabana REIT’s external manager. But the figures announced by Quarz differs from SREIM’s last published financial statement significantly.
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On June 19, Quarz made an amendment to an earlier statement: “In our EGM requisition notice dated 7 June 2023 and our 8 June 2023 website commentary, we stated that the increase in dividend “…would mainly come from cost savings of about S$7.25 million of fees” and net profit which unitholders currently pay to the External Manager and its shareholder.
“We intended to say that the increase in dividend “…would mainly come from cost savings from the S$7.25 million of fees” and net profit which unitholders currently pay to the External Manager and its shareholder.”
Most probably, in reality, based on the arithmetic, the increase in dividend would mainly come from the cost savings of $1.26 million a year. But that is likely to be wiped away by the upfront costs of internalisation, excluding refinancing costs.
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In a statement on July 20, Quarz said “unitholders can potentially save more than S$40 million of fees they need to pay to the External Manager over the next 10 years”. Quarz also said in its requisition letter unitholders would reap “[i]mmediate cost savings of ~S$2.4 million per year through internalisation of the REIT manager”.
This appears to be an arithmetic issue and clarified by a statement by ESR Group. On July 21, ESR, which owns SREIM, and 20.6% of Sabana REIT, says, “this is a completely unwarranted assumption. Quarz is once again making sweeping statements that cannot be supported by any basis. Even by Quarz’s assumption in its Requisition that there can be such savings, [they] obviously do not amount to S$40 million of fees over the next 10 years.”
Based on the real arithmetic using net profit - but this figure could fluctuate from year to year - did Quarz mean that $12 million would be saved in 10 years from internalisation? That arithmetic may not work out either.
What are the costs?
HSBC Institutional Trust Services (HSBC Trustee), Sabana REIT’s trustee, says it is unable to establish the time and costs of setting up an internalised structure, except to indicate that it will be at least 12 months.
The set-up costs of a new manager is estimated at anything from $3 million to $5 million, of which $2 million is likely to be the minimum paid-up capital, fund managers with Capital Markets Services (CMS) licences have indicated.
Owners of the new manager – the unitholders – are likely to have other costs such as consultancy, legal and accounting fees as it sets up its operations.
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HSBC Trustee has said in its draft letter that if either or both resolutions are passed, the trustee will be “directed by unitholders to remove SREIM as manager and/or set up an internalised management structure, without a replacement manager having been identified or an internalised management structure in place to transition the management of Sabana REIT”.
Unitholders may be drawn to the statement by the trustee that “an estimate of time and costs involved in this exercise is not available. All fees, costs and expenses of such exercise will be reimbursed out of the assets of Sabana REIT in accordance with the terms of the trust deed.”
HSBC Trustee has indicated internalisation involves obtaining the relevant approvals, holding at least two more EGMs including one to change the trust deed which is an extraordinary resolution requiring approval of 75% of unitholders.
In the interim, SREIM would continue to manage Sabana REIT as directed by the trustee. The cost of managing Sabana REIT will continue to be paid for by unitholders, in parallel with the costs associated with implementing the internalised manager.
Interestingly, Quarz said on July 20, that the Sabana Trustee “confirmed that they are formulating a steps plan to implement the Resolutions” and that this therefore “tells us that the Trustee is fully capable of setting up a new internal manager”.
There is no confirmation by HSBC Trustee of implementing resolutions that have not yet been voted on. “The Trustee and the Sabana Manager have both confirmed that the timeframe and costs to implement the Resolution(s) if passed, are not certain. The only certainty is that it is the unitholders who will bear these costs,” ESR says.
Sabana REIT’s unsecured portfolio
Sabana REIT’s loans are unsecured. The problem with an unsecured portfolio is that all the lenders rank pari pasu. And, since the loans are unsecured, the lenders need to agree to refinance the loans in the event of a change of control. Since no new internal or external manager awaits on the sidelines, only SREIM can liaise with the lenders in the interim.
While Sabana REIT’s next refinancing is not due till 2026, Ernst&Young, Sabana REIT’s external auditor has indicated that material uncertainty has arisen from the inability of the lenders to grant a waiver to Sabana REIT at the current juncture from a review event under its existing financing arrangements of totally unsecured loans, as a result of the removal of SREIM.
Lim Wei Huang, Chief Financial Officer, SREIM, says that if resolution 1 – to remove the manager – is passed, it will not trigger the review event by the lenders.
“The event will only happen when the trustee serves notice to terminate SREIM’s contract,” Lim says. “However, if both resolutions 1 and 2 are passed, there is a prolonged period of uncertainty to cause the lenders to trigger the MAE (material adverse event) clause which is generally imposed on all loans in Singapore and overseas,” he adds.
“We wrote to the banks and we are seeking bank waivers. We hoped to see some clarity from the banks but they were unable to provide any clarity,” Lim continues. He indicates there are certain additional clauses that would enable the lenders to call on their loans.
Donald Han, CEO of SREIM indicated during a media briefing on July 21, that there is no certainty that the current employees of SREIM would stay on after the EGM.
Despite proposing the two resolutions, the requisionists have not done an estimate of the costs of the internalisation process. For current unitholders of Sabana REIT, based on analysts’ estimates, the upfront cost (excluding refinancing and cost of debt) over the next 12 months will outweigh the benefits from internalisation. The $5 million, $8 million or $10 million upfront expenditure, over time, can be depreciated / amortised over the next 5-10 years, after which unitholders would reap the full benefits.
