About a Reit - SUNTEC Reit and its deferred units

For those of you who have not been following SUNTEC Reit since its IPO days may not be aware that there are a certain number of deferred units that are to be issued to its Sponsors in instalments at later dates. Following is a related extract from its IPO prospects page ii:

"The Sponsor will be issued with additional Units (the “Deferred Units”) in part satisfaction of the purchase consideration for the Properties. The number of Deferred Units to be issued to the Sponsor will be based on the Offering Price. The Deferred Units will be issued in six equal instalments, with the first instalment to be issued on the date falling 42 months after the date of completion of the sale and purchase of the Properties and the rest semi-annually thereafter. Any change in rental rates, occupancy rates, and distributable income of Suntec REIT can affect the impact of any dilution in the yields of Suntec REIT arising from the issuance of the Deferred Units in the future."

These deferred units have been issued semi-annually since June 2008 at equal instalments of about 34,500,000 units. So far 3 instalments have been issued, and the 4th instalment should be issued in Dec 2009. To put things into perspective, the number of outstanding units upon IPO was about 1,287,000,000 units. From the latest quarterly earnings report in Sep 2009, the latest no. of units in issue is 1,628,774,865. Other than the deferred units, the latest units in issue includes management fee payable in units issued over the past quarters. Related information about the deferred units can also be found in the quarterly report under the section "Details of any changes in the units since the end of the previous period reported on" on page 13. If the final 3 instalments of deferred units are included, the total issued and issuable units should be 1,737,800,826.

Following are some possible impact of the deferred units that we should take note:

• Possible dilution of DPU. Come Dec 2009, the 4th instalment of 34,500,000 units implies an increase of about 2% over the existing outstanding units of 1,628,774,865. In this sense, the impact on DPU is rather small, especially if the REIT is able to continue to grow its distributable income.
• There is no lock-up arrangement in respect of Deferred Units receivable by the Sponsor (IPO prospectus page 38). This means that the sponsors can choose to sell the deferred units immediately after issue. There is no obligation to hold the units for a certain period of time. Checking the price trend and trading volume shortly after the deferred units were previously issued may give some idea whether this was happening. Any reports of cutting in stake by substantial shareholders shortly after the deferred units were issued may also shed some light, though this will depend on whether the sponsors were still holding more than 5% of outstanding shares. Another factor to consider is that with the IPO price at $1 per unit, they would have paid $1 per unit for the deferred units if they were issued during IPO.
  
• These deferred units may introduce some level of complexity if there is going to be any rights issue now. Should the sponsors get the rights for deferred units that have not been issued to them? If no, then the sponsors may lose out. If yes, then these rights units will come into the market before their parent units are issued. The REIT has no refinancing issue until 2011, while the last instalment of the deferred units will be issued in Dec 2010. Now this is purely speculation on my part: there may not be rights issue until 2011 because of these deferred units, unless the management can think of a good way to resolve the above issues.