This article first appeared in The Edge Malaysia Weekly on October 2, 2023 - October 8, 2023

AFTER 17 years, Hektar Real Estate Investment Trust (Hektar REIT), the country’s first listed retail-focused REIT, is diversifying its portfolio to include the education and industrial sectors as it adapts to changing market dynamics.

“Retail, like all sectors, is susceptible to economic cycles. We believe that diversification will lead Hektar REIT to navigate through potential downturns by leveraging gains from other sectors. A few sectors, namely education and industrial, are performing well which present an attractive opportunity to invest in,” says Hektar REIT executive director and CEO Johari Shukri Jamil in an email response to questions from The Edge. Previously a non-executive director, Johari was redesignated to his current role in June last year.

He says exploring new business segments will allow the REIT to uncover new opportunities that can bring new revenue streams and mitigate risk from reliance on one sector.

“By having a mixed portfolio, the REIT can be deemed more attractive with its diversification of risk. In this aspect, these sectors (education and industrial) consist predominantly of long lease agreements, encouraging stronger weighted average lease expiry from a portfolio perspective, offering a stable income stream and security.

“Furthermore, the industrial sector in 2022 and so far this year saw a large spike in transaction volume and price transacted, evidencing its attractiveness as a diversification opportunity. At the same time, educational assets are not only protected by long lease expiries but are resilient to local and global market changes, portraying [the sector’s] advantage as a special asset class,” he adds.

Hektar REIT, just like its peers, was severely affected by the global Covid-19 pandemic and the lockdowns imposed by the government to curb the spread of the virus. The trust posted two consecutive years of losses for the financial years ended Dec 31, 2020 (FY2020) and FY2021, suffering a net loss of RM24.09 million and RM31.5 million respectively, compared to a net income of RM39.61 million in FY2019. But it managed to recover quickly post-pandemic to post a net income of RM78 million in FY2022, thanks to pent-up demand.

However, its net income in the first six months of 2023 (1HFY2023) was down 20% year on year (y-o-y) to RM16.16 million on higher finance costs. The first half saw Hektar REIT’s net property income (NPI) rise by a marginal 1% y-o-y to RM30.7 million. It booked a revenue of RM56.15 million, a 4% y-o-y decline from 1HFY2022.

For FY2023, Johari expects the trust to record comparable revenue to last year’s as it rebalances its portfolio and boosts overall occupancy.

“As we phase out our ‘occupancy first’ strategy, we anticipate seeing a much-improved performance from 4Q2023.

“In 2023, medium voltage commercial tariff users have been heavily affected by the surprise increase in the imbalance cost pass-through (ICPT) rate, and the impact is more severe on mall operators like us as electricity consumption constitutes a substantial portion of our operational expenditure. However, the situation has prompted us to accelerate and intensify our cost optimisation efforts, which have shown promising results as reflected in the improved y-o-y performance of our NPI and net realised income, which rose 13% and 6%, respectively, in 2QFY2023,” he says. “Additionally, as we implement more initiatives both on the revenue and cost sides, we do not expect our financial performance to fall below the FY2022 level.”

Hektar REIT declared an interim income distribution per unit of 2.7 sen, amounting to RM13.4 million, for 2QFY2023.

“The recently announced interim payout is similar to the amount declared for the interim dividend last year, and that equates to an annualised yield of 8%. That is currently the highest among Malaysian REITs (M-REITs) with exposure to the retail sector. Our target for FY2023 is to achieve a similar outcome as FY2022’s of eight sen or higher,” says Johari.

Johari says Hektar REIT’s previous strategy on geographical diversification has helped the trust in navigating the challenges brought by the Covid-19 pandemic.

“However, the rising cost of living and uncertain macroeconomic and microeconomic landscape have continued to weigh heavily on the performance and outlook of Malaysia’s retail segment. This does not only affect Hektar REIT, but also other M-REITs with exposure to the retail sector.

“Given the Hektar REIT portfolio’s current high concentration in retail assets, we have to strategise the best way forward for our future sustainability and reassess the relevance of Hektar REIT to remain the only retail-focused REIT in Malaysia,” he notes.

Johari says Hektar REIT has planned this diversification for some time, and several properties for this purpose have been carefully identified with the anticipation of welcoming a new educational asset to its portfolio.

“Post-pandemic, we have been exploring acquisitions as these will be a huge milestone for Hektar REIT being our maiden venture into an asset class outside retail properties. We have undertaken a rigorous screening and due diligence process with help from external advisers to venture into the education sector. We want to be affirmed that any risks associated with this diversification have been adequately identified with proper mitigation actions before we take the next big leap.

“We are particularly inclined to balance our portfolio mix with the education sector as it tends to be able to weather economic cycles, such as recessionary periods, better than the retail segment. We are also exploring industrial sectors as we chart the next growth phase of Hektar REIT,” he says.

He believes that these property types are among the most resilient asset classes that can provide consistent returns to the REIT. This aligns with the trust’s strategy to diversify into pandemic-proof real estate that can ride any extreme swings in the market.

“The Malaysian education market, for example, is expected to grow at a compound annual growth rate of 6.5%, with the market size expected to reach RM20 billion by 2026.

“Meanwhile, the market for advanced and integrated industrial facilities has seen significant growth, as demand for such facilities continues to rise, riding on the rapid growth of electronic commerce and Industry 4.0. Despite announcements of new industrial property developments, we think the risk of an oversupply is still relatively minimal, as most of the development is on a build-to-suit basis,” he says.

“We believe now is the right time to diversify. The education sector, for instance, covers a wide spectrum from K-12 to pre-university and tertiary studies, and we believe that most of these subsectors will bring further opportunities for Hektar REIT. We see value in these assets as, apart from being resilient, they are able to generate a predictable and steady income stream that is generally unaffected by any market downward trends,” says Johari.

“In our strategic decision to diversify and acquire KYSM (Kolej Yayasan Saad in Ayer Keroh, Melaka), we are not only looking at financial growth but also fulfilling a deeper societal obligation. Recognising the increasing importance of environmental, social and governance (ESG) factors, we see this transition as an opportunity to bolster our commitment to sustainability,” he adds.

On Sept 12, Hektar REIT announced its first acquisition of an educational asset, KYSM, for RM150 million. The acquisition of the private boarding school will increase Hektar REIT’s assets under management by 12.4% to RM1.36 billion from RM1.21 billion currently. The acquisition will be satisfied through a combination of proceeds from a proposed placement, internal funds and borrowings. Its cash and bank balances stood at RM16.51 million as at end-June 2023.

Johari explains that the proposed placement is intended to fund the final balance amounting to RM35 million, out of the total RM150 million. Hektar REIT also has the option to allot the units to the vendor as payment of the final balance.

“We have also obtained a general mandate from our unitholders at the annual general meeting (AGM) held in April this year for the placement of up to 20% of Hektar REIT’s issued capital as a way to raise funds for the REIT. We shall tap into this avenue to raise funds for this acquisition.

“We are exploring several ways to fund the acquisition without limiting ourselves to acquiring new debt, as we are mindful of keeping our gearing healthy. Hektar REIT’s gearing ratio is currently at 44.3% and as part of our diversification strategy, we target that our gearing will improve to a healthier level of below 40% in the medium term,” says Johari.

He notes that prior to the proposal to acquire KYSM, Hektar REIT was approached by several parties from educational, retail and other sectors.

“We have identified and shortlisted potential assets that align with Hektar’s overall strategy and long-term goals. Some of the assets would be ready soon for acquisition. However, we are not in a rush; we are still monitoring its performance while ensuring our current portfolio remains stable. Having said that, we have a target portfolio size we want to achieve in the next five years. 

“Geographical diversification has worked to our advantage so far, so we are not limiting ourselves to any location. What is more important in assessing new assets for acquisition is the ability of the asset to generate sustainable recurring income backed by financially strong tenants, and the medium- to long-term growth prospect. We continue to welcome new opportunities that will add value to our overall portfolio and provide attractive returns to our unitholders,” he says.

The trust was listed on the Main Market of Bursa Malaysia in December 2006 and currently owns a portfolio of six shopping malls and a hotel in four states, with assets valued at RM1.2 billion as at June 30, 2023. Its portfolio of commercial properties currently includes Subang Parade in Subang Jaya, Selangor; Mahkota Parade in Melaka; Wetex Parade & Classic Hotel in Muar, Johor; Central Square in Sungai Petani, Kedah; Kulim Central in Kulim, Kedah and Segamat Central in Johor.

“While our core identity has always been centred on retail, our diversification into the education sector does not negate this identity. As we navigate this diversification journey, our commitment to the six shopping malls and our hotel remains unshaken. The pandemic undoubtedly presented challenges across the board, but what we have seen in its aftermath is a remarkable resurgence in demand for in-person shopping experiences and travel.

“At the moment, we do not have any intention to dispose of these assets. On the contrary, they remain central to our strategy. Our focus will be to continue to invest in and nurture them, ensuring they remain relevant and vibrant spaces for all our visitors and stakeholders. However, we would be open to exploring [disposal] if it benefits our unitholders,” he adds.

Mahkota Parade remains Hektar REIT’s top profit contributor, given its size and high occupancy. Hektar REIT’s overall portfolio occupancy stood at 85.7% for 2Q2023. Mahkota Parade, Wetex Parade and Kulim Central have reported more than 90% occupancies, with Kulim Central inching to almost 97%. Post-pandemic, Subang Parade’s occupancy has also increased, from 70% last year to 75% as at this quarter.

“Our committed occupancy stands at 87.3%, which has already surpassed our full-year target for this year of 86% stated during the AGM in April. Our goal is to steadily increase our occupancy by improving our tenancy mix,” says Johari.

In the short to medium term, Hektar REIT expects retail assets to continue occupying a major part of its portfolio.

“In five years, we anticipate that at least 20% of our portfolio will cover non-retail assets. However, this depends on the performance of the blended assets in our portfolio.

“When we consider a new asset type, our management takes into consideration our capability of managing the new asset type and how we can mitigate any managerial or potential operation risk that could occur post-acquisition and would potentially affect our income,” says Johari.

As per its current strategic direction, Hektar REIT is not actively seeking to acquire commercial assets.

“The commercial real estate market is undergoing substantial shifts, influenced by remote working trends, abundant supply, and the reimagining of office spaces. Our existing assets, especially in the retail segment, offer attractive yields. With careful management and strategic improvements, we believe there’s significant untapped potential to enhance returns for our stakeholders, especially in the less saturated market. Therefore, it is crucial for us to maintain a balanced and diversified portfolio. With our recent foray into the education sector, we are already broadening our asset base. Adding commercial assets at this juncture would increase our exposure and potentially our risk profile,” he adds.

Hektar REIT units are down 14% so far this year. At last Wednesday’s closing price of 60.5 sen per unit, the REIT was trading at a 101% discount to its net asset value of RM1.217 per unit as at June 30.

Hektar Black Sdn Bhd, the estate of the late Hektar REIT founder and CEO Datuk Jaafar Abdul Hamid, is the single largest unitholder in the trust, owning 25.3% as at Sept 26. 

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