Debt burden weighs on commercial real estate sector

Top Australian real estate investment trusts have issued $75bn of debt and could be exposed if a credit crunch hits locally, according to a top investment bank.

Major Australian real estate investment trusts have issued $75bn of debt and could be exposed if a credit crunch hits locally. Picture: Ian Waldie/Getty Images

Top Australian real estate investment trusts have issued $75bn of debt and could be exposed if a credit crunch hits locally, according to investment bank Morgan Stanley.

Tighter finance markets could hit even large landlords which own major city buildings and shopping centres as commercial real estate lending is under pressure offshore, though the situation here is not yet dire.

The bank’s property analysts warned that global market volatility suggested that access to capital may come under pressure, and many listed groups are putting assets on the market or are quietly taking offers on key buildings.

“We are concerned that access to financing may be an emerging issue in the commercial real estate sector. After all, in other parts of the world such as the US, cost of debt in commercial real estate has spiked up materially, whilst the number of lenders participating in the space has declined,” Morgan Stanley analysts Simon Chen and Lauren Berry said.

Their analysis showed the bulk of the borrowings by A-REITs came from capital market sources, with bank facilities making up the remainder.

The split across the 22 stocks followed by the bank is 69 per cent from capital markets and 31 per cent made up of bank facilities If the trusts’ available debt is included it becomes more even, with the split of capital markets and bank debt running at 51/49.

Big companies have also made early moves ahead of liquidity drying up, with both Dexus and a Centuria Capital-run fund tapping the convertible market in recent months.

Local Westfield owner, Scentre Group, recently used undrawn bank debt to replace a €500m medium-term note which matured in March 2023.

The analysis showed that most real estate investment trusts have a gearing covenant at 50 per cent and an interest coverage ratio covenant at two times, so at present they are not under duress from a leverage perspective.

However, as the cost of debt continues to rise and cheap hedging rolls off interest coverage ratios are likely to deteriorate.

Top Australian real estate investment trusts have issued $75bn of debt and could be exposed if a credit crunch hits locally, according to investment bank Morgan Stanley. Picture: Ian Waldie/Getty Images

Morgan Stanley said Lendlease, Scentre Group, Centuria Industrial REIT, the Charter Hall Long WALE REIT and HomeCo Daily Needs REIT and, to a certain extent, the Centuria Office REIT had interest coverage ratios that could drop to about four times, or lower, in the next 12 to 18 months.

“For now, no REIT, looks to be in real trouble, and less debt market pressure persist into the medium term,” the Morgan Stanley analysts said.

They said that it was clear that REITs have a large amount of undrawn bank debt, perhaps as insurance against the risk of credit crunch.

In the last few months, lenders in the US are rather apprehensive around commercial property debt, on the back of asset value declines and loan defaults.

“There has been no signs of that in Australia, but it’s worth noting that across our coverage, 44 per cent of total available facilities are sourced from offshore, with 27 per cent from the US and 11 per cent from Europe,” he said.

The bank said that the debt topic was exacerbated for REITs with near-term maturities and the bank said that with the exception of fund managers HomeCo and Centuria Capital, every REIT has enough undrawn bank facilities to offset drawn maturing debt in this and the next financial year.

Originally published as Debt burden weighs on commercial real estate sector