What investors are betting against (Hospitality – Ascott Residence Trust Management Limited & CDL Hospitality Trusts)

During the COVID-19 pandemic, one of the worst-hit sectors will be the hospitality sector.

Extract from the article below: “The hospitality industry here has been among the worst and most immediately hit by the virus situation, with a sharp dip in tourist arrivals.”

• Singapore watching rapidly evolving global Covid-19 outbreak, is prepared to do more if needed: DPM Heng (read here)

To be investing or invested in this sector is really taking a bet against what is dire right now and forecasting better days. Oh yeah…Not many people want to invest in this sector at this time for obvious reasons.

• “The key to making money in stocks is not to get scared out of them.” Peter Lynch

It goes without saying that what COVID-19 has done to the economy and the stock market as a whole, is unprecedented.

While screening through SGX companies’ announcements, it is common to see companies deferring their AGMs and the announcement of dividends (or even withdrawal of the dividend announced, and to be scheduled at a later date).

While looking through the companies’ announcements, I am curious as to how much dry powder these companies have in their war-chest to weather this downturn.

Two notices jumped out in particular.

1. Ascott Residence Trust Management Limited (General Announcement: Update on COVID-19 ) dated 9 April 2020 – Read here
2. M&C Reit Management Limited (General Announcement: Press Release – Update on Transactions Timeline and Impact of COVID-19 Outbreak on Portfolio) dated 9 April 2020 – Read here

I consider Ascott Residence Trust and CDL Hospitality Trusts, bellwethers of the hospitality sector. To give some context (see below).

1. Ascott Residence Trust

 

2. CDL Hospitality Trusts

 

Let me highlight the extracts (see below) from the articles stated earlier. Well, if you are not really into bad news or horror nightmares – you can skip the below.

1. Ascott Residence Trust

2. CDL Hospitality Trusts

So yeah, does not look pretty.

In times of crisis, cash is like oxygen.

“Cash, though, is to a business as oxygen is to an individual: never thought about when it is present, the only thing in mind when it is absent. When bills come due, only cash is legal tender. Don’t leave home without it.” Warren Buffett

There is another section in the articles that is interesting (see below).

1. Ascott Residence Trust

I am curious as to how much ART has in terms of cash, so I did a quick check from their 4th quarter reports (see below). Approx. S$246 mil.

2. CDL Hospitality Trusts

So from the above, we know that for ART has a gearing of about 33.6% and approx. S$409 mil cash eg. S$246 + S$163 (if I include the S$163 from the Somerset Liang Court sale proceeds), and CDLHT has a gearing of about 37.3% and $100 mil cash.

Ok, with the potential drop in valuation of their properties, this might affect the gearing. However, I am interested to know base on their cash balance, how long can they sustain, assuming that there is negligible income. Just a ballpark study. I do not know how long the pandemic will last, some people say weeks, some months, some years, etc.

Basically, these figures mean nothing if we don’t consider the size of the entities and their related expenses. After all, ART is a much bigger beast than CDLHT. As per previous reports, ART’s assets are valued at S$7.4 billion while CDLHT’s assets are valued at S$2.85 billion.

With the recent combination of Ascott Reit and Ascendas Hospitality Trust (read here) which happened sometime in Dec 2019, I will only be using the recent quarterly reports as a reference.

1. Ascott Residence Trust

I am not trying to be accurate here (no knowledge of accountancy), but lumping the various fees, staff cost, finance cost, Forex loss, etc (basically the direct expenses), it came to be around S$68 to S$73 mil, per quarter (round up to S$75 mil – let’s be even more conservative since expenses per quarter will fluctuate).

However, the actual cash expenditure per year is approx. S$36 mil, looking at the cash flow table below (from Yahoo Finance).

Note: Cash Flow Expenses – Items placed under the operating expenses section of a cash flow statement are things that reduce current assets, such as a decrease in inventory or accounts receivable. However, depreciation, which is subtracted as an expense on the income statement, is added back on the cash flow statement since it involves no actual expenditure of cash. Expenses under investment activities are expenditures for purchasing long-term assets (read here)

Assuming that ART properties totally closed down and has Zero revenue (and expenses stay the same), and if I just consider the cash on hand of about S$409 mil, it can last about 5 quarters or slightly more than 1 year considering all the various expenses.

However, if we consider actual cash expenditure, that period would become approx. 11 years (S$409/36).

I figure why should one bother with the intermediate.. just jump to the worst-case scenario (eg. Zero revenue). Looking at the news now and the above articles, that is not far fetched. And also assuming expenses remain the same (eg. no shorten work-week, no no-pay leave, no pay cut, no retrenchment, no tax rebates, still pay their shareholders and perpetual securities holders…. eg. being the model employer and listed company).

Well, that is two extremes: The complete loss in revenue and full expenses still payable.

In addition, that is also disregarding the potential drop in the valuation of their properties which might affect the gearing.

2. CDL Hospitality Trusts

By considering the difference between Revenue and Net Property income, I am estimating that the direct expenses for CDLHT to be around S$14 to S$16 mil per quarter (let’s round up to S$18 mil per quarter).

However, the actual cash expenditure per year is approx. S$46 mil, looking at the cash flow table below (from Yahoo Finance).

Assuming that CDLHT properties totally closed down and has Zero revenue (and expenses stay the same), and if I just consider the cash on hand of about S$100 mil, it can also last about 5 quarters or slightly more than 1 year considering all the various expenses.

However, if we consider actual cash expenditure, that period would become only approx. 2 years (S$100/46).

Again, that is disregarding the potential drop in the valuation of their properties which might affect the gearing.

 

In gist

Actually, every time we invest (or staying invested), we are making many assumptions and taking a stand as to what we think might happen in the future. Nobody can comprehend the full impact of the COVID-19 pandemic, but sometimes we just have to make some calculated guess or risks.

In a crisis, the better companies will become stronger subsequently, while the weak will be in trouble.

Will the pandemic last for more than a year? Your guess is as good as mine.

What we are witnessing now is unprecedented, and yes, it kinds of make forecasting difficult. Look around you, just take a drive or take a bus … go to town.

• S’pore man shares photos of empty roads & deserted malls, says it’s like a ‘Resident Evil’ scene (read here)

The government can only offer so much help. Globally, if this continues, no amount of stimulus or tax rebate will make people stay in hotels, have holidays or hold conferences.

Since we first caught wind of COVID-19 at the start of 2020, we are now at the full-blown pandemic stage. The finances of the Trusts for 1st quarter 2020 would have already been impacted. In other words, the clock is already ticking. And assuming the Trusts use other means to raise some cash (or to reduce cash burn)… I would say they probably have until mid next year until their dry powder runs out. The ones with the deepest pocket tend to come out better in the long run, when there is a crisis.

To raise cash in the unthinkable event…Every action has consequences (from the perspective of the Trust):

1) Right issuance (offer new shares) – this will mean dilution of shares and still need to have distribution expenses downstream. And given the situation, there would probably be at a substantiate discount to last trading price. Existing shareholders may not look favourably towards it (if as a whole there is little or no revenue.. eg. further dumping of existing shares).

2) Selling of Assets – That is generally a bad idea during a crisis. Only the strong will stand to profit by buying distressed assets at a discount.

3) Issuance of Perpetual bonds: Again it would also mean more expenses downstream as still need to pay bond-holders (and I am not sure if they can sell at a good/low rate now given the situation.. like who would want to buy if the whole industry is in dire straits. Only the vultures).

4) Borrow from Bank… What is the collateral? Assets with declining values? Banks are not your friends in a crisis. Interest expenses will go up. And there is a cap (max 45% gearing).

Nevertheless, for Item 4:

As per this Jan 2020 DBS report, ART has a debt headroom of S$1.5 billion (see below) based on maximum gearing of 45%. That will significantly further lengthen the lifespan of a Trust with no revenue (by approx. 5 years or 41 years if considering just cash expenditure).

As reported by CDLHT (read here and see below), as of Dec 2019, they have a debt headroom of S$526.4 million based on maximum gearing of 45%. That will significantly further lengthen the lifespan of a Trust with no revenue (by approx. 7 years or 11 years if considering just cash expenditure).

Provided the net asset values of their assets do not fall off the cliff and they do not use the debt to purchase new properties. I probably remove a year or a few months given the potential drop on NAV of their properties.

Ultimately, nothing beats having cash in their own balance sheets.

My take is, give it approx. a year (or less, since first quarter is over) … some of these hospitality Trusts will feel the Heat (esp. CDLHT and those smaller ones with shallower pockets). Considering financial capacity and capital expenditure, ART seems to be in better shape. CDLHT has a lower cash holding, higher capital expenditure, and higher gearing. All these are not to its advantage.

Anyway, nothing is black and white. Who knows what will happen, a partial lift of the ‘circuit breaker’ measures when situations turn better.

• “I deal in facts, not forecasting the future.” Peter Lynch

Note: I am currently vested in Ascott Residence Trust.