Link picks rent rise to asset sale
The Link Reit Management, which recently appointed Nicholas Sallnow-Smith as its chairman, plans to renovate more shopping centres and raise rents instead of selling its assets to boost returns, according to company sources.
Such a strategy is good news for investors including major shareholder The Children's Investment Trust, but the company is also likely to face more protests from tenants who claim that rising rents are forcing them out of business.
By raising rent levels, the company would favour improving shareholder value rather than carrying out social responsibility, as all the centres it manages are in public housing estates catering to low-income families.
According to a source, that dilemma was partly responsible for the resignation of Paul Cheng Ming-fun as The Link Reit's chairman. He had wanted to leave six months before the official announcement but agreed to stay longer to allow the firm to find a successor.
The Link Reit early this month said that Mr Cheng would quit at the end of March - a year before his three-year term expires and would be replaced by Mr Sallnow-Smith, retiring chief executive of Hongkong Land Holdings.
A friend of Mr Cheng's said he decided to quit because 'he felt that he was in the most difficult job in the world as he faced demands from TCI to achieve a better return while tenants protested against rising rents.
Mr Cheng considered it better to just quit and enjoy his retirement.
Many analysts said that the new leadership may mean a quick rent increase - a view also shared by bankers, brokers and retailers in Central who are now paying rent to Hongkong Land, the largest landlord in that district.
'Mr Sallnow-Smith is definitely the one with the know-how - he knows how to set the rent in line with market prices, how to renovate the shopping centres for a reasonable price and how to attract clients. At the end of the day, he knows how to make profit,' a British fund manager said.
Hongkong Land reported an 11.1 per cent increase in underlying profit to US$117.1 million for the first half of last year.
As of June last year, only 4.6 per cent of its Hong Kong offices were untenanted while the vacancy rate of its retail outlets was even lower at 0.2 per cent.
After the announcement of Mr Sallow-Smith's appointment, The Link Reit's share price rose 4 per cent, reflecting investor confidence in the new management.
Mr Sallnow-Smith takes up the position on April 1.
As management has remained silent, speculation on the company's plans continues to emerge, including suggestions that TCI would press for asset sales to make a quick profit.
Under Securities and Futures Commission rules, reits cannot sell their assets until two years after their acquisition. In Link Reit's case, the restriction will expire in November.
A source at Link Reit, however, said that TCI had never expressed its intention to sell assets.
The fund wanted only to boost returns on its investment by renovating the shopping centres so it could raise rents to a reasonable level.
'Typically reits are put together as long-term investments, so unless you think they are exhausted by organic growth, there's little point in selling off assets,' a fund manager familiar with TCI said.
'I would have thought it more likely to acquire assets and increase the diversification of the asset base.'
Of 150 shopping centres under Link Reit management, only Tze Wan Shan, Lung Cheung Mall and Hau Tak Shopping Centres have completed renovations to bring in new tenants.
Fifteen others have been selected to undergo similar improvements but the hedge fund considered the pace was not quick enough.
'I wouldn't say [TCI is] at odds with management and other shareholders but it does have different timeframes that it wants to extract performance. Everyone wants to see [better returns] but different people have different ways of thinking about it,' the fund manager said.
A Link Reit source said Mr Cheng, handpicked by the government, was not active in challenging TCI's ideas about change but neither did he have the relevant background experience to push through changes.
'Mr Cheng did not have the experience in running shopping centres so he could not push the reform effectively and that is why TCI needs someone with experience to handle it,' the source said.
The source said TCI's representative John Ho, who joined the reit's board after the fund became the single-largest shareholder, had never verbally embarrassed Mr Cheng or complained about the chairman's decisions.
'TCI only expressed the wish that it wanted someone with experience of rental and shopping centre business to run it,' the company source said.
Meanwhile, none of the government's top appointments at the reit had previous experience in running shopping centres.
Peter Wong Tung-shun, The Link Reit's first chairman, was a banker while Mr Cheng spent most of his working life in the trading and financial services industry.
A government source said its choices were in line with good corporate governance practice to bring an independent view to the board room.
Mr Sallnow-Smith's appointment indicated that TCI had more say this time as he was chosen mainly because of his years with Hongkong Land.
Mr Ho was a member of the selection committee, sources said.
'Among the candidates, Mr Sallnow-Smith is the one who knows how to calculate reasonable rents, and how to reform the design of shopping centres to attract customers,' the company source said.
While Mr Sallnow-Smith has more than 10 years of experience managing Hongkong Land's high-end shopping complexes such as the Landmark, a Link Reit director said his appointment did not mean the reit was changing direction.
'Public housing tenants are by no means able to afford the same brands you can shop for in the Landmark. Even if Gucci or Dior were to move in [to the estates] there would be no business,' the director said.
'What we want is to depend on Mr Sallnow-Smith's experience to see how to reform and bring the shopping centres, some of which are stuck in the 1950s, up to 2007 levels.'
The reit's shopping centres, formerly managed by the Housing Authority, have not been run for profit but as a service to low-income public housing tenants.
As a result, many of the designs are unappealing and have attracted many family-run businesses that pay below market price rents.
When the shopping centres were bought by The Link Reit for a stock market listing in 2005, some critics said it was inevitable that the management firm would raise rents and force small businesses out, leading to more unemployment, while shoppers would have to pay more.
Such fears have been heightened by Mr Cheng's resignation. Just one day after he quit, more than 100 shopping centre tenants staged a rally demanding The Link Reit either freeze or cut rents.
The Link Watch, a civil watchdog, criticised the government for 'sowing the seeds of this evil consequence' by relinquishing all responsibility and control over the properties to Link Reit.
The watchdog urged the government to consider buying back some of the shares so it could offer some protection for public interests.
One Link Reit director said it would be impossible to turn back the clock, and stressed that the company had taken care of its social responsibilities - in some aspects at least.
'The board has to achieve the best returns for shareholders. Sometimes, it may put some tenants at a disadvantage but we have to look into the social benefits brought to others,' he said.
'Since the listing, more bank branches and ATMs have appeared at the shopping centres. New shops and restaurants have opened to create more jobs. Customers have a wider choice of shops and the environment has also improved.
'Overall, there are more winners than losers in the process. Some people may not be able to catch up with this upgrade but to keep protecting companies that are uncompetitive is not the right way forward. Protectionism is not the solution to bring our society forwards.'
Victor So, chief executive of The Link Reit, said about 90 per cent of customers in a survey conducted by Polytechnic University reported that prices charged to new tenants were affordable and the renovations had benefited their neighbourhoods.
'Since our listing, we have successfully let out shops that stood vacant for ages. A total area of 150,000 square feet was newly let out in the first six months of the current financial year, creating at least 800 job opportunities. We have also introduced more than 80 popular brands,' Mr So said.
'We have made 800,000 sqft available for welfare groups at concessionary rents and allowed charity groups to conduct promotion events. We have also brought in seven more bank branches and 26 more ATMs, reversing the decline in banking facilities.'
International accounting firm Grant Thornton principal Patrick Rozario said The Link Reit should strive for a balanced approach to take care of the interests of shareholders and tenants.
'It is not easy but The Link Reit has to bear in mind that if it fails to bring about a balanced approach, it will face many more protests from tenants which would tarnish its image,' Mr Rozario said.
No one questions Mr Sallnow-Smith's ability to ensure the reit's profitability.
The challenge, however, will be whether he can strike such a balance.
Additional reporting by Tim LeeMaster