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Mapletree Industrial Trust is a S$4.7b mid-cap, real estate investment trust (REIT) based in Singapore, Singapore. REIT shares give you ownership of the company than owns and manages various income-producing property, whether it be commercial, industrial or residential. The structure of ME8U is unique and it has to adhere to different requirements compared to other non-REIT stocks. In this commentary, I'll take you through some of the things I look at when assessing ME8U.
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REIT investors should be familiar with the term Fund from Operations (FFO) – a REIT’s main source of cash flow from its day-to-day business activities. FFO is a higher quality measure of earnings because it takes out the impact of non-recurring sales and non-cash items such as depreciation. These items can distort the bottom line and not necessarily reflective of ME8U’s daily operations. For ME8U, its FFO of S$245m makes up 95% of its gross profit, which means the majority of its earnings are high-quality and recurring.
In order to understand whether ME8U 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 ME8U to pay off its debt using its income from its main business activities, and gives us an insight into ME8U’s ability to service its borrowings. With a ratio of 18%, the credit rating agency Standard & Poor would consider this as significantly high risk. This would take ME8U 5.7 years to pay off using operating income alone. Given that long-term debt is a multi-year commitment this is not unusual, however, the longer it takes for a company to pay back debt, the higher the risk associated with that company.
Next, interest coverage ratio shows how many times ME8U’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 6.51x, it’s safe to say ME8U is generating an appropriate amount of cash from its borrowings.
In terms of valuing ME8U, 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. In ME8U’s case its P/FFO is 19.08x, compared to the long-term industry average of 16.5x, meaning that it is slightly overvalued.