Bought: L'Occitane International SA (HKSE:0973)

In an earlier post, I described how I disposed of almost all my REIT investments. I had initially intended these REITs as inflation hedges. History shows that real estate is a relatively stable asset class during (hyper) inflation. Turns out that a REIT is not the greatest wrapper for real estate holdings. It often comes along with a lot of debt. I decided to abandon my REIT strategy.

That does not mean my worries about inflation are gone too. I switched my attention towards consumer staples stocks to address those worries. 

The best businesses during inflation are the businesses that you buy once and then you don’t have to keep making capital investments subsequently, so you don't face the problem of continuous reinvestments involving more and more dollars because of inflation. That's one reason why real estate, in general, is good during inflation. It's a one-time outlay and you also get the rise in value as well. A brand keeps increasing in value and is a wonderful thing to own during inflation.

In contrast, the utilities and rail road business keep eating more and more money. Your depreciation charges are inadequate and the real economic profits poor. Any business with heavy capital investment tends to be a poor business to be in during inflation and in general for that matter.

(Paraphrased from Warren Buffett, Berkshire Shareholder Meeting 2015)

L'Occitane is a cosmetics company that offers several brands: L’Occitane en Provence, Elemis, Sol de Janeiro, Grown Alchemist, Melvita, Erborian, and LimeLife. Most of the products are targeted towards women. Let me disclose here that I am male and not familiar with any of these brands. Thanks to social media, I did some basic vetting of these brands. The Instagram page of L'Occitane has 947K followers, Sol de Janeiro has almost the same amount. Elemis has 533K, Erborian 219K, Grown Alchemist 167K, Melvita nearly 100K and LimeLife 68K followers. These numbers are for the general pages of these brands. Most have additional country pages with localized content and separate communities. To calibrate these numbers, let's look at competitor and market leader L'Oreal which has more than 10 million Instagram followers just for its leading brand. However, L'Oreal has a 241 billion USD market cap, whereas L'Occitane clocks in at 4.3 billion. This quick sanity check tells us that L'Occitane has a good position in the cosmetics universe but also has room to grow.

Stock researcher Morningstar considers the core brand L’Occitane en Provence as mature. It expects growth to come from Elemis and Sol de Janeiro. The Morningstar analyst also expects sales to shift from retail stores to e-commerce. The analyst is optimistic about L'Occitane's brand equity and attributes a narrow moat (= competitive advantage) to the business. In conclusion, Morningstar considers the share significantly undervalued. I don't want to reveal more details because this Morningstar research report is behind a paywall. I am a subscriber and find their research occasionally insightful. In this case, Morningstar's report was very helpful for my research.

Adding to my conviction is the family ownership of L'Occitane. Mr Reinold Geiger holds 72.82% of the shares. He is not the original founder of L'Occitane but has developed the group from a local French operation to an international business. At age 74, he is stepping back from the company, but two of his sons remain active.

L'Occitane sells its products on a worldwide scale. Its headquarters are in Luxembourg and Switzerland, while the listing is on the Hong Kong Stock Exchange. The dividend withholding tax is taken by Luxembourg, where it is 15% of gross dividends. This will be hard to claim back. If L'Occitane increases its dividend payout ratio from 0.2 to 0.4, as was common before the Covid lockdowns, we are looking at a 4% dividend yield. This is good for a growth company. At the moment of this writing, the share still seems cheap. 

Last minute addition: as I was finishing this post, news came out that Mr Reinold Geiger is considering de-listing L'Occitane by bidding on the shares listed in Hong Kong. He may then list L'Occitane on another exchange. This news is unconfirmed, but it is likely true, as such a move is common sense considering the circumstances. I am only holding L'Occitane for a few weeks, so this might become a quick profit for my portfolio. On the downside, I need to find a suitable replacement for L'Occitane, and I have not seen many bargains recently.

Disclosure: Long L'Occitane International SA, when publishing this blog

Sold out: Beshom Holdings Bhd aka Hai-O (No more confidence)

I have held this share for over two years and have watched it decline slowly over that time frame. Last week, I cut my losses at -22%, including dividends. Beshom breached my minimum market cap rule of 100 mln USD long ago. I don't think that it will ever grow back to that amount. Beshom sells TCM (Traditional Chinese Medicine) products under the Hai-O brand name. It also targets the Malay/Muslim population with consumer staple products under the brand name Sahajidah. Hai-O is mainly sold through physical stores and e-commerce, while Sahajidah products are distributed through an MLM scheme.

There are always controversies surrounding multi-level marketing schemes. I realize that not every MLM is a Ponzi or pyramid scheme. However, legitimate MLM companies like Herbalife and Amway occasionally raise legal and ethical questions too. There is another concern. MLM seems to be disappearing slowly. People have no more time and desire to meet up and sell pots, pans, and Tupperware boxes to each other. We now have e-commerce sites like Amazon, Shopee and Lazada, which offer much more transparency on the value and quality of everyday products. Gathering information about products and ordering them is much more efficient through these websites.

Let me be clear that I did not discover any legal or ethical issues surrounding Beshom's MLM operation. It looks like they sold a popular water filter in 2017. Revenues and also the share price peaked that year. Unfortunately, it has been only downhill from there. I guess that end-users don't need a new water filter every year. The Covid lockdowns have been a factor here too. However, we do not see Beshom recover like most retail stores now that these lockdowns have ended.

Perhaps Beshom should drop the MLM component altogether and focus on its wholesale and retail operations. There is room for improvement in its e-commerce business. I noticed a significant presence of Hai-O products on Lazada and Shopee, but the monthly sales numbers are low. The Hai-O brand can be found on the packaging of vermicelli, bird's nest, tea, coffee, medicine and many other categories. When you spread your brand so broad and thin, it is not much more than a seal of approval. It becomes like a house brand of a supermarket. This type of marketing will not allow you to charge higher prices than your competitors. Hai-O does have an Instagram presence, but it looks like a message board rather than a lifestyle destination. It has less than 2,000 followers. Hai-O seems clueless in the modern world of retailing. I don't see where the brand is going. 

To end positively, let me note that Beshom has no debt. In fact, 30% of its market cap is in cash. The balance sheet is solid, and there are resources to turn the business around. I do not like to bet on turnarounds, but this might be an interesting opportunity for other investors.

Note to self: no more investments in MLM-related companies.

I sold all my REITs except one

I started my REIT selling spree in early 2023 with the disposals of Suntec Real Estate Investment Trust (SGX:T82U), ESR-Logos REIT (SGX:J91U), and Sunway REIT (KLS:5176) as described in this blog.  My two main concerns are rising interest rates and the relatively short weighted average land lease expiry (WALL-E) that some REITs in Singapore and China are facing. I didn't stop at these three REITS and eventually sold all my REIT holdings for the same reasons. Except for Daiwa House Logistics REIT. Let's go through the details case by case. 

Sold out: CapitaLand China Trust (SGX:AU8U)

Well-run REIT with diversified properties in Mainland China. The WALL-E is below 25 years. I heard that land leases are usually extended in China, but that is anecdotal information. There is still a possibility that a property will lose its underlying land lease holding and must be demolished. Even if a land lease is extended, there is still uncertainty up to the moment of that decision. Suppose a property's land lease expiry is 8 years away and needs some renovations or enhancements. Management can not spend much money because it potentially has only 8 years to earn that investment back. This uncertainty is hard to quantify. The Capitaland China Trust currently has a dividend yield near 7%. It is too low for me to compensate the investor for these land lease expiry risks.

Sold out: China Merchants Commercial REIT (HKEX:1503)

This REIT is also active in Mainland China and has a dividend yield of 14%, which is appealing. Yet, I exited this HK-listed REIT with a -13.23% loss (including dividends received). Like Capitaland China Trust, the WALL-E of the land under the properties is below 25 years. Furthermore, its debt is higher than its equity. The interest coverage rate (ICR) of 3.2 worries me too much. Also, this REIT's debt repayments are not staggered over the years. It agreed on just one revolving loan facility, which is renewed every three years. This seems risky to me. I should have noticed this detail before buying this REIT. In 2022, I bought too many REITs in a short time period. At the time, I naively assumed that REITs are an ultra-safe asset class and don't need deep-dive research.

Sold out: Cromwell European REIT (SGX:CWBU) 

I like this REIT with its good logistics and office properties all over Europe. Almost all of its properties are on freehold land. The ICR is 4.9, which seems very safe until we realize that Cromwell has been borrowing at an average interest rate of only 2.4 %. One can no longer borrow at those rates in the new interest rate environment. This means that when Cromwell's debt agreements expire, it has to refinance at higher rates; 2.4 % becomes 5%, for example. The ICR will drop from 5 to only 2.5 in that example. Of course, Cromwell can raise the rents on their tenants to prevent that, but can they double the rents to keep up with doubling finance costs? I doubt that. 

ESR Group Ltd ultimately owns a large stake in Cromwell European REIT (HKEX:1821). I have expressed worries about the leverage of this group. In addition, I observed that Cromwell European REIT does not seem to fit their profile. By now, ESR Group has indeed announced its desire to sell Cromwell Property Group and Cromwell European REIT. But who will buy this in the current commercial real estate environment? The REIT seems somewhat orphaned now. I believe it is better to side-step these developments for the time being. However, I will keep an eye on Cromwell European REIT and possibly reinvest in the future.

Sold out: Axis REIT (5106.KL) 

This is a well-run Malaysian REIT with industrial and logistics properties. However, the price-to-book value has risen to 1.2 by now. I do not see a reason to pay more than the REIT's self-published net asset value. If anything, we should pay less, assuming the property value estimations ordered by management are likely to be too optimistic. With interest rates rising, capitalization rates are rising, and NAV calculation results will decrease. I am not sure why the market is paying more than the published NAV per share. I held Axis REIT for about a year and earned a decent 6.4% yield in price appreciation plus dividends. I am putting Axis back on my watch list for potential re-investment, for example, if the P/B drops back to 1.

Sold out: AIMS APAC REIT (SGX:O5RU)

Another well-run industrial REIT, but there are some leverage concerns. This REIT has issued a lot of perpetual bonds (perps). The holders of these bonds get paid before the unit holders get paid. In the case that AIMS APAC experiences liquidity issues, they can skip a perps coupon payment at a moment where they also skip the dividend payment to regular unit holders. They have two lines of defence, so to speak, and hence there are two ICR numbers to publish. AIMS APAC lists an ICR of 3.8, excluding distributions to perpetual bondholders and 2.3, including distributions to perpetual bondholders (As of 31 March 2023). I believe that a regular unit holder should use the second number. An ICR of 2.3 seems really low. AIMS APAC has been enjoying a debt funding cost of only 3.4%. Permanently higher interest rates will eventually affect this REIT. 

Sold out: Frasers Centrepoint Trust (SGX:J69U)

This REIT has nine retail malls and an office building in Singapore. Its ICR = 4.4 as of 31 March 2023. When an ICR dives below 1, it becomes problematic as the operating income (EBIT) does not even cover the interest payments, let alone dividend payments. This is unlikely to happen with Frasers Centrepoint, but an increase in finance costs will still have to be financed. This can only be done by a decrease in dividend payments unless it can raise rents drastically. Looking at a weighted average debt maturity of not even 2 years, we know that Frasers has to renegotiate a large part of its fixed-rate debt agreements. 

Instead of repeating my interest rate worries again, let me introduce two Youtubers with similar concerns. SingvestingDiary is worried about higher interest rates for the long term and finds the dividend yield of Frasers Centrepoint insufficient to compensate for this. Gabriel Yap is even more bearish on Frasers Centrepoint and believes the management is too aggressive with its acquisitions for the REIT. Note that the production quality of these Youtube clips is poor, but both have some worthwhile analysis to share. Finally, this article may be interesting if you prefer a similar analysis, although not specifically about Frasers, in written format. 

Sold out: Sabana Industrial REIT (SGX:M1GU)

Sabana has 18 industrial properties, all located in Singapore. All my fears come together in this one REIT. The WALL-E is only 30 years (1 January 2023). That means we lose 3.33% in value to the decay in the remaining land lease value. Hence, of the current 7% dividend yield, only 3.66% is of real value to us. Looking at the debt, we see an ICR of 3.8 on 31 March 2023. Not disastrous, but not very good either. 

To complete my nightmare, ESR Group is involved in Sabana too. ESR attempted to merge Sabana with ESR REIT (Now ESR-LOGOS) with a lowball payout offer. Since it holds only about 20% of Sabana, other shareholders were able to block this transaction. The feuds between the shareholders didn't end there. News of disagreements between Sabana plus ESR management versus other shareholders keeps popping up in the local business media. I want to have no part in this.

Sold out: Frasers Logistics & Commercial Trust (SGX:BUOU)

The disposal of Frasers Logistics & Commercial Trust at a small loss concludes my REIT sell-fest. The ICR of this REIT is 8.4 (31 March 2023), and the WALL-E is 88 years (30 September 2023). My two pet peeve concerns are non-issues here. The REIT is conservatively managed with regard to debt. The properties are mostly located in Australia, where freehold land holdings are the norm. 

So why did I sell? The share price seems high compared to different valuation estimates. Also, I have no insights at all into the Australian commercial real estate market. A few articles suggest that this market is in bubble territory, and weakness is to be expected here. When I came across a cheap consumer staple stock, I sold Frasers Logistics & Commercial Trust to free up funds to buy it. 

I will write about my consumer staples stock buy-fest in the next posting. First, let me wrap up this blog by featuring the last remaining REIT in my portfolio.

Hold: Daiwa House Logistics REIT (SGX:DHLU)

This REIT has 16 large logistics properties in Japan. These warehouses are, on average, only 5 years old. The WALL-E is 67 Years (1 January 2023), and the ICR is 11.4 (31 March 2023). No concerns here. With a Price to FFO of 14.07 and a dividend yield of 9.4%, the REIT seems very cheap considering the quality of the assets. 

The consistent drop of the Japanese Yen against the Singapore Dollar since late 2021 could offer an explanation for the low share price of Daiwa House Logistics REIT. Its share price decline correlates with the Yen decline. The REIT is listed in Singapore, and most of its unit holders are also based in Singapore. The weak Yen means that the REITs' dividend will be lower when converted into Singapore Dollars. It looks like the REIT's share price dropped because unit investors seek a higher dividend yield to compensate for this currency loss. 

Besides the currency rate issue, I don't see any fundamental reason for Daiwa House Logistics REIT to be priced so low. Its logistics business does not seem distressed or irrelevant in any way. We know that Japan is facing an ageing and declining population, but this would first affect labour-intensive sectors such as shops and restaurants rather than e-commerce. If anything, remote areas in Japan will depend more on e-commerce to receive necessities. 

Daiwa House Logistics REIT does not face typical Japanese corporate governance issues. Management consists of Japanese and Singaporean individuals, as does the board. IR materials are in English. Strategy and operational issues are clearly described. I went to the REIT's first AGM. Board members and management seemed frank and open towards investor questions and feedback. The payout ratio of dividends out of income is mandated at 90% by the Singaporean REIT regime. Hence, there can be no hoarding of cash on the balance sheet. Unlike in Japan, there is no withholding tax on dividends in Singapore. Enough reasons to hold on to Daiwa House Logistics REIT.

Disclosure: Long Daiwa House Logistics at the time of this writing