Credit Update: Maintain negative view on Lippo Malls Indonesia Retail Trust perpetuals

• LMIRT’s 1Q23 results showed a year-on-year decline in SGD revenue and income.
• LMIRT’s gearing ratio remains dangerously close to the 45% regulatory limit.
• We see significant liquidity challenges for LMIRT ahead with a significant amount of debt maturing in the next 12 months.
• We look at several potential scenarios for LMIRT ahead and how they could affect bond and perpetual-holders.
• We maintain our sell-call for both LMIRT perpetuals. The company has little incentive and no obligation to resume distributions soon, and perpetual-holders should prepare for a prolonged period of non-distributions.

About Lippo Malls Indonesia Retail Trust (“LMIRT”)

Lippo Malls Indonesia Retail Trust (“LMIRT”) is a REIT which manages 29 retail properties across Indonesia. This includes retail malls and retail spaces, and LMIRT saw a combined visitor trffic of 27.4m people in the first quarter of 2023 (“1Q23”).

In early March this year, we expressed a negative view on LMRTSP perpetuals. Following a series of ratings downgrades, weak financial results, and cessations of perpetual distributions (Table 1), LMIRT bonds and perpetuals are now trading in distressed territory (below 70 cents on the dollar), including its two perpetuals trading below 20 cents on the dollar. In this article, we provide a credit update on LMIRT and outline different scenarios that could occur for the Group and their perpetual-holders.

Table 1: A timeline of events for LMIRT

LMIRT financial and credit highlights

1Q23 revenue and income declined YoY in SGD terms

In SGD terms, first-quarter rental revenue, gross revenue, and net property income all declined on a year-on-year (“YoY”) basis (Chart 1). LMIRT attributed this to macroeconomic factors, particularly (i) the interest rate environment (ii) foreign exchange (“FX”) volatility, and (iii) a tightening credit market. FX movements in particular had a big effect on LMIRT given the 7.8% YoY depreciation of IDR against the SGD in 1Q23.

Thin interest coverage, and gearing levels dangerously close to regulatory limits

LMIRT reported an adjusted interest coverage ratio (“ICR”) of 1.7X in 1Q23 (FY22: 1.7X). This figure is relatively low, and suggests that a large proportion of the company’s earnings might be dedicated just to cover interest payments.

LMIRT also reported an aggregate leverage ratio of 42.9% in 1Q23. While this was an improvement from FY22 (44.6%), we note that this remains very close to MAS’s regulatory limit of 45%. This is especially pertinent considering significant FX volatility (highlighted above) which could affect the value of their assets (denominated in IDR) relative to their debt (denominated in SGD and USD), putting this ratio at risk of breaching the 45% limit in the near future should IDR continue depreciating heavily.

LMIRT faces significant near-term liquidity challenges

A breakdown of its debt profile reveals a heavy debt maturity schedule in the next 12 months (SGD 135m in Nov 2023, SGD 82.5m in Jan 2024, and SGD 307.5m in Jun 2024) (Table 3). This is exacerbated by the fact that a majority of its debts are on floating rates (61.3% as of 1Q23), which could affect their debt servicing abilities in a higher-for-longer rates environment.

We believe that LMIRT’s cash (and equivalents) position is insufficient to meet its debt liabilities in the next year without some sort of restructuring. This is based on the following estimates – the three underlined figures add up to about SGD 142m, much less than the debt maturities they face in the next 12 months:

• LMIRT held SGD 99.5m of cash and cash equivalents as of 1Q23;
• LMIRT paid about SGD 23.9m in unitholder distributions last year, which they have since ceased (following the dividend stopper clause); and
• LMIRT stands to save about SGD 18.8m in perpetual distributions each year based on existing coupon rates (6.4751% / 8.096%) and outstanding amounts (SGD 140m / SGD 120m).

Chart 1: LMIRT’s revenue and income declined in 1Q23, mainly due to a weakening of the IDR

Table 2: LMIRT’s credit profile remains weak

Table 3: LMIRT has a heavy debt maturity schedule over the next 12 months (SGD 532.0m)

Tough road ahead for LMIRT – a look at various scenarios

Given the tough environment for LMIRT ahead, particularly with an upcoming maturity wall contributing to near-term liquidity risks, we look at several scenarios or options that LMIRT management may undertake.

1. Selling assets to raise liquidity

LMIRT has said it is exploring asset recycling opportunities to divest its non-core non-strategic assets. However, LMIRT has mentioned that the Indonesian commercial real estate market remains muted, and to expect any potential divestment to take some time. As such, both bond and perpetual-holders should not count on any last-minute asset sales to provide near-term liquidity.

2. Bankruptcy / Liquidation

In the event of a liquidation, we expect a recoverable asset value of about SGD 820.5m, translating to a recovery rate of about 79%, based on the same assumptions on cap rates and recovery rates as our previous article (Table 4). This figure is less than LMIRT’s total liabilities of SGD 1033.8m (as of 1Q23). Given the subordinated nature of perpetuals, we think that perpetual-holders will not see significant recovery of their perpetual bonds in the event of a bankruptcy.

As for senior bondholders, they can expect to see some recovery of their bonds in the event of a bankruptcy, but should take note of two caveats. First, bondholders should be prepared for a more protracted repayment schedule given the difficulty in divesting real estate assets highlighted above. Second, they should take note of any debt restructuring deals announced by LMIRT, which may affect the seniority of their bonds and therefore their eventual recovery value.

3. Refinancing or restructuring of debt

While debt refinancing would be a typical solution, recent ratings downgrades will make it difficult for LMIRT to issue new bonds. Currently, their non-perpetual bonds are trading at over 30% yields as of writing. The company has acknowledged this difficulty in refinancing their debt given the ratings downgrades (e.g. Fitch’s recent downgrade to CCC-).

The one silver lining is that LMIRT’s capital structure is currently unencumbered, and they could potentially gain additional financing by pledging assets for their loan facilities. Fitch has pointed out that existing bond covenants limit LMIRT’s ability to raise secured debt, but we do not fully rule out this possibility – the company has said they are in “active discussion with our bank lenders … which may require the provision of our shopping malls as collateral”. This pledging scenario could potentially push bank loans up in seniority, as both the 2024 and 2026 bonds are pari passu only to other unsecured obligations.

To summarise: (i) we acknowledge a debt restructuring or refinancing could improve LMIRT’s credit profile (a positive development for all creditors); (ii) but it will be difficult to execute given LMIRT’s credit profile and other legal considerations; and (iii) may even come with negative repercussions specifically for bondholders who may find themselves pushed down in seniority.

Table 4: Breakdown of estimates for LMIRT’s recoverable asset value

Recommendation

For perpetual-holders, we maintain our sell call for both the LMRTSP 8.096% Perpetual Corp (SGD) and LMRTSP 6.4751% Perpetual Corp (SGD). We reiterate that LMIRT faces an uncertain environment ahead, and note the subordinated nature of these perpetuals. LMIRT also has little incentive (and no obligation) at this point to resume perpetual distributions. While LMIRT remains focused on stabilising the companies, LMIRT perpetual-holders should expect a prolonged period of non-distributions.

Declaration: For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) holds a position in LMRTSP 8.096% Perpetual Corp (SGD). The analyst who produced this report holds a NIL position in the abovementioned securities.

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