Saizen REIT was listed in November 2007 and it invests in residential properties across 13 regional cities in Japan. The properties are leased out typically to the working singles and small families. Demand for rental housing is strong in Japan as home ownership is relatively low at 60% compared to about 91% in Singapore and 76% in Hong Kong and 69% in the United States.

Saizen REIT’s income stream is steady and reliable as its portfolio is well-diversified with 6000 apartment units. Residential rent in Japan has been stable over the last 20 years, growing at an average of 1% p.a. The rental rates of Saizen REIT’s properties have been consistent at around S$2 psf/mth and occupancy rates maintained at about 90%. Yet the property values appear distressed (few real estate transactions due to lack of financing and sellers are in distressed state). With refinancing issues pending to be resolved, the stock is trading at even more distressed level of 0.4x P/NAV.

However, with proceeds from the rights issue, cash-on-hand, operating cash flow conserved and short-term bridging facilities, Saizen REIT expects to repay five out of six CMBS loans maturing in end 2009 and early 2010. The management is likely to default on the YK Shintoku CMBS loan (S$121m loan on assets ring-fenced of $375.5m) due in Nov 2009. This is the best option as Saizen REIT will still be able to operate as a going-concern and the reduction in Group NAV is only 10% or S$37.6m. Repayment of these CMBS would remove the encumbrance for half of its property portfolio (S$340m).

The manager has targeted to resume distribution by the middle of 2010 and this should encourage the exercise of warrants. The 3-year warrants came free (exercise price of 9 cts) with every right subscribed for. Proceeds from the warrants (S$41.1m in the event all the warrants are exercised) could be used for debt repayment. Assuming constant asset values, Group gearing could decline to 33% by 2012.

As operations are expected to be stable, we estimate post-rights DPU to be in the range of 2.0-2.5 cts (yield 12.5-15.6% yield), based on a payout ratio of 90%. Assuming all warrants are exercised, the stock still yields 8% (est. fully diluted DPU 1.3 cts). With this, we also believe that the market is pricing in the possibility of the REIT having difficulty in securing loans on favourable terms in future due to their history of default.