Prior to Covid-19, market rents were 20-30% higher than the current rents that its tenants were paying
The Embassy Office Parks REIT
(Embassy REIT) stock has underperformed its peer index, BSE Realty, over the past three months, with negative returns of 2 per cent, as against 17 per cent gains for the realty index. The underperformance of the only listed real estate investment trust (REIT) is because of a partial stake sale by Embassy REIT’s sponsor Blackstone and worries that its major clients will scale down their office presence in the aftermath of the Covid-19
IBM, which accounts for 12 per cent of Embassy REIT’s gross rentals, is looking at reducing its office presence (1 million square feet of leased office space, currently) in the Indian market. Both IBM and Cognizant (over a fifth of Embassy REIT’s gross rentals) have reduced their headcount which, coupled with the ongoing trend of work from home, does not bode well for the owners of office infrastructure. About half the REIT’s clients are from the information technology (IT) sector.
The other trigger, which is hurting sentiment, is the partial stake sake by Blackstone, the sponsor of Embassy REIT.
Blackstone, which had a 55 per cent stake as sponsor. It has sold 8.7 per cent stake. Prior to the sale, Blackstone and the Embassy group held 70 per cent of Embassy REIT’s units.
Amit Agarwal of Nirmal Bang Institutional Equities says the sale of units by Blackstone sponsor group through a block deal and reports of commercial office space reduction in India by IBM, which contributes 12 per cent to gross rentals of Embassy Office Parks, support the view that the Indian commercial real estate space has peaked.
One of the key triggers for the stock has been the upside that was to accrue to the company, given that 19 per cent of leasable area is due for a renewal over the FY20-23 period. Before the Covid-19
outbreak, the market rate was 20-30 per cent higher than the rents its tenants were paying. Thus, there is significant room for increasing rents for expiring leases. However, if clients discontinue current leases when they come up for expiry as they reduce staff and defer new leasing, occupancies could come down for Embassy REIT.
While the company’s rent collections have been strong in the March-May period, any rent waiver, especially to sectors worst-hit by Covid-19, could hit cash flows. These include sectors, such as hospitality, aviation, co-working spaces and retail, which account for 6-7 per cent of the sectoral mix. Occupancies for the company’s two hotel assets (477 rooms) could come under pressure given limited business travel and flights currently.
Liquidity for retail investors is another factor in the current scenario. The minimum lot value for Embassy REIT
is 200, which given the current prices would mean a single trade costs about Rs 68,000. Any reduction in the minimum lot could improve liquidity, expand the number of investors and volumes in the scrip.
What's positive for Embassy REIT is its strong balance sheet with the net debt-to-operating profit ratio under 3 and cash balance of Rs 950 crore. The debt maturity profile, too, is comfortable with just 1.3 per cent of debt maturing over the next couple of years.