Is CapitaLand Retail China Trust (SGX:AU8U) A Healthy REIT?

CapitaLand Retail China Trust is a S$1.5b small-cap, real estate investment trust (REIT) based in Singapore, Singapore. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how AU8U’s business operates and also how we should analyse its stock. In this commentary, I’ll take you through some of the things I look at when assessing AU8U.

See our latest analysis for CapitaLand Retail China Trust

A common financial term REIT investors should know is Funds from Operations, or FFO for short, which is a REIT’s main source of income from its portfolio of property, such as rent. FFO is a cleaner and more representative figure of how much AU8U actually makes from its day-to-day operations, compared to net income, which can be affected by one-off activities or non-cash items such as depreciation. For AU8U, its FFO of S$118m makes up 87% of its gross profit, which means the majority of its earnings are high-quality and recurring.

SGX:AU8U Historical Debt, March 8th 2019
SGX:AU8U Historical Debt, March 8th 2019

In order to understand whether AU8U has a healthy balance sheet, we have to look at a metric called FFO-to-total debt. This tells us how long it will take AU8U to pay off its debt using its income from its main business activities, and gives us an insight into AU8U’s ability to service its borrowings. With a ratio of 11%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take AU8U 8.81 years to pay off using just operating income, which is a long time, and risk increases with time. But realistically, companies have many levers to pull in order to pay back their debt, beyond operating income alone.

Next, interest coverage ratio shows how many times AU8U’s earnings can cover its annual interest payments. Usually the ratio is calculated using EBIT, but for REITs, it’s better to use FFO divided by net interest. This is similar to the above concept, but looks at the nearer-term obligations. With an interest coverage ratio of 4.33x, it’s safe to say AU8U is generating an appropriate amount of cash from its borrowings.

In terms of valuing AU8U, FFO can also be used as a form of relative valuation. Instead of the P/E ratio, P/FFO is used instead, which is very common for REIT stocks. AU8U’s price-to-FFO is 12.72x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.

Next Steps:

In this article, I’ve taken a look at Funds from Operations using various metrics, but it is certainly not sufficient to derive an investment decision based on this value alone. CapitaLand Retail China Trust can bring about diversification for your portfolio, but before you decide to invest, take a look at the other aspects you must consider before investing:

  1. Future Outlook: What are well-informed industry analysts predicting for AU8U’s future growth? Take a look at our free research report of analyst consensus for AU8U’s outlook.
  2. Valuation: What is AU8U worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AU8U is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.