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CapitaLand Retail China Trust is a S$1.3b small-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 AU8U is unique and it has to adhere to different requirements compared to other non-REIT stocks. I’ll take you through some of the key metrics you should use in order to properly assess AU8U.
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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$116m makes up 81% of its gross profit, which means the majority of its earnings are high-quality and recurring.
AU8U’s financial stability can be gauged by seeing how much its FFO generated each year can cover its total amount of debt. The higher the coverage, the less risky AU8U is, broadly speaking, to have debt on its books. The metric I’ll be using, FFO-to-debt, also estimates the time it will take for the company to repay its debt with its FFO. With a ratio of 16%, the credit rating agency Standard & Poor would consider this as significantly high risk. This would take AU8U 6.45 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 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 4.95x, 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. In AU8U’s case its P/FFO is 11.47x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.
Next Steps:
As a REIT, CapitaLand Retail China Trust offers some unique characteristics which could help diversify your portfolio. However, before you decide on whether or not to invest in AU8U, I highly recommend taking a look at other aspects of the stock to consider: