Initial Public Offering. Why you should subscribe to Mindspace REIT IPO

A year after the launch of India’s first real-estate investment trust (REIT), the second REIT in the market — Mindspace Business Parks —is set to hit the primary market.

Backed by one of the largest realty players, K Raheja Corp (KRC) and private-equity firm Blackstone, Mindspace Business Parks is expected to raise ₹4,500 crore (fresh issue of ₹1,000 crore, and ₹3,500 crore as offer for sale (OFS)).

The amount is proposed to be utilised to bring down the REIT’s debt and improve the entity’s cash flow.

The REIT also plans to purchase non-cumulative redeemable preference shares of Mindspace Business Parks held by KRC group.

The proceeds of the OFS, accruing to the KRC group, is also proposed to be used to pay off debt. The total outstanding debt of Mindspace REIT stands at ₹7,382.3 crore as on March 2020.

Of this, KRC group has borrowed around ₹2,753.7 crore (as of June 2020, some of which has been repaid in July) from one of the SPVs (special purpose vehicles) of the REIT which will be paid by the group through the proceeds of the OFS. The debt level, post-listing, is expected to be ₹3,614 crore.

Currently, Mindspace REIT owns five integrated business parks and five independent office properties in major IT hubs (in micro-markets) of Mumbai, Pune, Hyderabad and Chennai, with a portfolio of 29.5 million sq ft leasable area.

It has occupancy of 92 per cent as on March 2020, with over 170 clients, including multinational and domestic companies (and Fortune 500 companies).

The client base is diversified across sectors such as technology, financial services, telecommunications and media, healthcare, and manufacturing.

Mindspace is predominantly present in micro markets in key cities, while Embassy REIT is mostly present in prime locations.

Mindspace’s office spaces are available at comparatively low rental cost, giving it an advantage to retain and attract new clients.

However, near-term challenges remain for the office space market, at least for 2-4 quarters — delay in delivery timeline of new projects and deferment in leasing decisions in new or ongoing projects.

On the positive side, the demand for office space outpaces the supply in the market, particularly in micro markets. Mindspace was able to lease additional 0.7 million sq ft since April 2020.

The units of Mindspace REIT are being issued at a discount to the portfolio’s NAV, and the yield for investors is expected to be around 7 per cent for FY21. While the yield appearsslightlylow compared with Embassy REIT (around 7-8 per cent yield), Mindspace REIT is fairly priced at ₹275, reflecting its lower distribution per unit of ₹19.39 (Embassy was priced ₹300, with distribution per unit of ₹24.39).

The coming years are expected to be better for Mindspace, which could improve the returns for investors.

Also, a diversified portfolio, stable occupancy levels and a healthy client base provides a long-term growth visibility for Mindspace. Therefore, investors with a high risk appetite can consider investing in this issue.

Do take note that investment in real estate is exposed to the risk of volatility in property prices and rental income. Further, how the demand for office spaces pans out post the pandemic crisis still needs to be seen.

Mindspace REIT issue is open for subscription between July 27 and July 29, with a minimum subscription of ₹55,000 (200 units and in multiples thereof). The price band is ₹274-275.

About the REIT

Nearly 85 per cent of the entity’s revenue comes from multinational corporates.

The REIT’s top 10 clients, including Facebook, Qualcomm, UBS, Barclays and Schlumberger, contribute about 42 per cent to its gross rental revenue.

Quality of tenants, high occupancy and long-term lease contracts offer income stability and minimal chances of default.

Further, no client of Mindspace contributes more than 7.7 per cent towards its gross rental revenue, mitigating the concentration risk.

Also, the average lease tenure is 5-10 years, with an initial commitment period of 3-5 years.

It has contractual escalations of 12-15 per cent every three years. The management also recently introduced annual lease escalation of 4-5 per cent for some clients. All this lends comfort to the REIT’s revenue growth prospects.

Mindspace’s office properties are concentrated in micro markets such as Hyderabad and Mumbai where availability of quality office spaces is minimal.

Factors such as better infrastructure facilities, low rentals and easy transport access help attract and retain clients.

The REIT has about 2.8 million sq ft under-construction and 3.6 million sq ft for future project development, which could aid realisations going ahead.

Even during the recent turbulent market conditions, Mindsapce Business Parks REIT was able to collect 98 per cent and 95 per cent of its rental revenue for April and May, respectively.

An advantage of investing in REITs is that regulation mandates distribution of at least 90 per cent of the income generated by REITs to the unit-holders. Mindspace REIT proposes to pass 93 per cent of its income, mostly in the form of dividend, to its investors.

The REIT also earns income by way of capital appreciation at the time of sale of any of its underlying properties.

In addition to the rental income (about 68 per cent of total revenue), Mindspace Office Parks also generates income from amenities such as facility maintenance (16 per cent), contract works (12 per cent) and power supply.

Concerns

Though Mindspace Business Parks REIT is well-diversified, it still has higher concentration of clients in the technology sector, contributing to about 44 per cent of gross rental revenue.

So, if there is a downturn in the technology sector or if companies pull out of the contract, the revenue of the REIT can take a hit.

Also, some of the companies in the technology sector are contemplating a shift to work-from-home practice.

If the pandemic continues, it could also lead to deferment in leasing decision, especially in new properties, and could affect the revenue growth of the REIT as well.

Between March and May, the REIT’s exposure to education, entertainment, co-working and hospitality sectors impacted about 1 per cent of its gross rental revenue. Investors should well keep this mind while investing.

Also, Mindspace has about 2.8 million sq ft of under-construction properties in Mumbai, Pune and Hyderabad regions.

With construction activities halted amid the Covid-induced lockdown, there is likely to be a delay in construction and delivery of projects by at least 2-3 quarters.

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