ESR-REIT 1H2026: Stable operations, but leverage remains elevated

• Leasing remained healthy across the group, though higher operating costs compressed net property income (NPI) margins.
• Lower financing costs offset weaker NPI, lifting pre-fair-value net income by 5%.
• The Melbourne acquisitions should partly replace divested income, with fuller contributions expected from FY2027.
• Reported leverage improved, but adjusted leverage including perpetuals remains high, alongside substantial refinancing needs.
• ESR-REIT senior bonds and perpetuals appear fairly priced. Since our last article, 2030 bond prices have increased meaningfully, weakening its relative value.

(Unless otherwise stated, figures are in Singapore Dollars [$], and growth rates are year-on-year [y/y].)

Leasing remained healthy, but performance varies by segment

Leasing activity remained healthy. ESR-REIT secured 260,976 sqm of leases in 1H26 (1H25: 173,915 sqm), while tenant retention remained high at 84%. Its 336-tenant base provides diversification, though the top 10 tenants accounted for a sizeable 37% of portfolio rent.

Rental reversions remained strong at 9.8%, broadly unchanged from 9.7% in 1H25. Performance continued to vary materially by segment. Logistics led with 11.3% positive reversions, while Business Parks achieved only 0.5% (Chart 1).

Portfolio occupancy improved modestly to 92% in 1H26 (1H25: 91%). Australia remained at near-full occupancy, while Japan occupancy rates remained around 90%. Management indicated that regional occupancy was generally above the respective market benchmarks, though the margin varied by geography and asset type.

Chart 1: Rental reversions remained strong

Lower financing costs offset softer property earnings, but fair value losses persist

Divestments reduced headline property earnings

Reported property earnings were affected by the loss of income from the divestment of non-core assets across FY25 and 1H26. Gross revenue declined -0.3% y/y to $222m, while net property income (NPI) fell -2% to $162m. Nonetheless, on a same-store basis, revenue rose +2% to $212m, and NPI increased +1% to $155m, indicating that the retained portfolio remained broadly stable.

Positive rental reversions and higher rental rates partly offset the income lost through divestments. However, property expenses rose faster than revenue, particularly utilities and property taxes. This caused reported NPI margin to compress from 75% to 73%, while same-store NPI margin also narrowed from 74% to 73%, indicating that cost pressures affected the retained portfolio as well as headline results (Table 1).

Net borrowing costs declined -12% to $39m. Divestment proceeds were partly used to repay debt, reducing bank-loan interest payments from around $35m to $26m, while lower base rates provided a secondary benefit. Despite the lower absolute interest expense, ESR-REIT’s reported average cost of debt rose because it repaid relatively cheap revolving facilities, leaving a higher-cost residual funding mix.

Taken together, lower borrowing costs and higher income from Australian property-fund investments helped offset the NPI decline, lifting net income before fair value changes by +5% to $98m. This indicates resilient underlying earnings, though the improvement was driven below the NPI line rather than by stronger property performance.

Table 1: Net property income margins narrowed due to higher expenses

Fair value losses continued to weigh on headline returns

Fair value movements materially affected statutory earnings despite being largely non-cash. ESR-REIT recorded a fair value loss of -$56m on investment properties, larger than the -$42m loss in 1H25. This was partly offset by a $3m derivative gain (1H25: -$18m loss). Including other valuation items, the net fair value drag remained prominent at -$49m but still marked an improvement from 1H25’s -$59m loss.

Total return after tax rose sharply by +43% y/y to $49m. This was driven by lower borrowing costs, lower tax expense, and most significantly, the $21m favourable swing in derivative fair values. As the latter $21m swing is potentially volatile and non-cash, the +43% increase in statutory total return overstates the improvement in recurring earnings. Instead, we view the 5% increase in net income before fair value changes as more representative of ESR-REIT’s resilient underlying performance (Table 2).

Table 2: Net income before fair value changes (+5%) may better represent underlying performance

Outlook: Underlying earnings may soften slightly in FY26 before fuller acquisition benefits from FY27

Rental reversions should moderate, NPI may remain flat or decline modestly

Management expects rental reversions to moderate from 9.8% toward positive single-digit levels. Singapore industrial completions are expected to remain above average through 2027 before moderating from 2028. However, approximately 61% of the remaining 2026 pipeline comprises single-user factories, limiting direct competition with parts of ESR-REIT’s multi-tenanted, high-specification portfolio. Broader industrial demand should remain supported by Singapore’s electronics, semiconductor and AI-related investment activity.

Meanwhile, higher operating costs may put further pressure on NPI margins. Management highlighted electricity, repair & maintenance, and service contract costs as key areas to note, with the latter two expected to increase by around 8% - 10% annually. Combined with moderating rental reversions, this could leave FY26 NPI broadly flat or modestly lower.

Fair value losses may persist, but capital recycling may gradually reduce lease decay exposure

Property fair value losses are likely to remain a drag on headline profit. ESR-REIT has several Singapore industrial properties with short tenures. As these leases shorten, the decline in residual land value (lease decay) can offset any benefit from rental reversions, contributing to recurring valuation pressure. This was most apparent for assets with the shortest remaining tenures, such as 11 Lorong 3 Toa Payoh (Table 3).

Weak Business Park operating conditions nonetheless did not translate into material valuation declines. 6/8 Changi Business Park Avenue 1 was valued at $318m, broadly unchanged from end-2025. The reduction in ESR-REIT’s Business Park exposures instead reflected asset divestments and valuation effects at other properties, including lease-decay pressure at 750 – 750E Chai Chee Road.

We expect the magnitude of losses to gradually moderate over time as management divests shorter-lease properties. Management aims to reduce short-tenure assets (< 15 years) from 10.8% of total assets to approximately 4% - 6% through further capital recycling. If achieved, this should materially reduce the effect of land-lease decay on portfolio valuations and NAV, though any disposals may also temporarily affect NPI.

We note that such fair value losses are non-cash and do not directly affect ESR-REIT’s ability to pay interest or principal. However, they can affect leverage by reducing asset values and potential proceeds from future asset sales. Persistent valuation declines can therefore constrain future refinancing flexibility without any immediate cash outflow.

Table 3: Short-tenure properties saw the largest changes in fair value

Divestments create 2H26 earnings gap; Melbourne acquisitions will fully contribute from FY27

The full earnings effect of recent divestments will become more visible in 2H2026. Most of the industrial assets were divested only near the end of 1H2026. Hence, their absence will weigh more fully on 2H2026 NPI, although debt repayment and lower interest expense should offset part of the loss.

The proposed Melbourne acquisitions could partly replace divested income. ESR-REIT expects the 6 properties to generate around $17m in first-year NPI, on a total acquisition outlay of $322m. However, the increase in distributable income will be lower after financing costs and other expenses. Furthermore, completion is expected only in 3Q26, meaning the full-year benefit should become more visible only from 2027.

Overall, we expect underlying NPI and distributable income to soften in 2H26 and FY26, with scope for improvement thereafter. Recently divested assets would cease contributing in 2H26, though the Melbourne acquisitions should provide a partial offset after completion in 3Q26. Meanwhile, moderating rental reversions and potentially higher property expenses could weigh on FY26 NPI, though the supply outlook should improve from FY27.

Cashflows remain stable, but refinancing is required for significant outlays ahead

Operating cashflows (OCF) remain sufficient to service ongoing obligations. OCF before working capital declined just -2% to $156m, indicating broadly stable underlying cash generation. However, reported OCF after working capital fell -18% to $122m due to working capital outflows. Recent divestments in 1H26 will likely reduce future OCF through the loss of rental income, though this effect will become more apparent in 2H26 as the divestments were completed only near the end of 1H26.

Free cash flows (FCF) declined by -15% to $110m. FCF coverage of cash finance costs, lease payments, and perpetual distributions remained adequate at 1.69%, but weakened from 1.95% in 1H25. While OCF coverage would have looked stronger before the working-capital outflow, these reported figures broadly show that ESR-REIT still distributes most of its recurring cash generation (Table 4).

Meanwhile, net investing cashflows increased sharply to $436m (1H25: $3m), reflecting proceeds from the asset divestments completed in 1H26. Net financing cashflows turned significantly more negative to -$386m (1H25: -$169m) as part of the divestment proceeds was used to repay borrowings.

Turning to ESR-REIT’s liquidity profile, ESR-REIT held $217m of unrestricted cash alongside $284m of committed undrawn facilities at end-June 2026, implying available liquidity of around $501m. This comfortably covers the $266m due in 2H26, including the August 2026 bonds management intends to repay ($125m). However, it is insufficient to cover the additional $568m due in 1H27. ESR therefore remains reliant on refinancing rather than balance sheet liquidity alone (Table 5).

Furthermore, ESR-REIT also faces several material uses of liquidity ahead. First, it intends to repay the $125m August 2026 bonds. Second, part of the remaining divestment proceeds will be re-deployed into the $322m Melbourne acquisition outlay, with the balance funded via additional debt and/or perpetuals. Third, the proposed redevelopment of 2 Fishery Port Road is expected to require $200m - $250m over 30 months from 4Q26 (i.e. around $80m - $100m per year). Finally, the $150m Series 008 perpetuals will reach their first call date in June 2027. While redemption is optional, exercising the call would create an additional funding requirement. Hence, all of these indicate that ESR-REIT’s elevated June 2026 cash balance may be temporary.

Table 4: Cashflows weakened in 1H26, fixed-charge coverage is adequate but not overly strong

Table 5: ESR-REIT remains reliant on refinancing; liquidity itself is insufficient

Reported leverage improved but remains elevated

MAS Aggregate Leverage improved to 41.4% at end-June 2026, compared to 43.4% at end-December 2025, as gross debt fell to $2,017m following asset divestments and debt repayment. Management expects this ratio to decline further to 39.9% after repaying the $125m August 2026 bonds. This would place reported gearing within management’s stated target range of high-30% to low-40%.

However, (adjusted) leverage or gearing would look significantly higher if we include perpetuals. Using a conservative estimate where perpetuals are counted fully as debt, gearing would instead be around 50.8%, much higher than the official figure of 41.4%. While perpetuals are classified as equity rather than debt due to their subordination and optional coupon payments, the significantly higher adjusted gearing ratio indicates ESR-REIT’s ongoing reliance on perpetuals and overall ‘debt-like’ funding (Table 6).

We also reiterate that ESR-REIT’s upcoming Melbourne acquisitions ($322m) and 2 Fishery Port Road redevelopments ($200m - $250m) will require substantial additional funding. MAS Aggregate Leverage could rise to 42%+ if these are fully debt-funded or remain in the high-30% range if they are funded by perpetuals. Ultimately, it depends on whether ESR-REIT plans to effectively ‘replace’ senior debt with perpetual capital, and whether ongoing capital recycling will continue to support ESR-REIT’s liquidity position.

MAS Interest Coverage Ratio (ICR) improved modestly to 2.6x at end-June 2026 (end-December 2025: 2.5x). Management estimates that ICR would decline to 2.3x if EBITDA fell by 10%, or 2.1x if its weighted average interest rate rose by 100 bps. Around 75.5% of debt is currently fixed or hedged, limiting the immediate effect of higher benchmark rates, though weighted-average fixed-debt maturity is only 1.4 years. Hence, we find the 2.6x ICR adequate rather than strong, considering its high leverage ratios and notable short- to medium-term refinancing sensitivities.

Table 6: MAS gearing has improved, but adjusted gearing including perpetuals remains high

Short debt maturities leave ESR-REIT reliant on regular refinancing

ESR-REIT faces substantial refinancing requirements. $266m matures in 2H26, followed by $568m in 1H27 and another $532m in 2028. Effectively, over 40% of gross debt matures within 12 months, and almost 70% matures by end-2028 (Chart 2). ESR-REIT reported a weighted average debt maturity of 2.1 years (end-December 2025: 2.0 years), while weighted average fixed debt maturity shortened to 1.4 years (end-December 2025: 1.9 years).

We nonetheless expect ESR-REIT to retain access to refinancing under our base case. Its investment-grade rating (BBB) broadens access to bond markets, while its 10-bank lending group supports bank-loan refinancing. Most of its assets (70%) remain unencumbered, providing asset coverage for unsecured creditors and additional financing flexibility. These strengths mitigate ESR-REIT’s dependence on continued refinancing access.

Chart 2: Debt maturity and perpetual first-reset profile

About the bonds

To summarise, ESR-REIT’s 1H26 operating performance was stable, but NPI may weaken moderately in 2H26 following multiple divestments, followed by fuller contribution from the Melbourne acquisitions in FY27. Credit metrics remain adequate, but high economic leverage, short debt maturities, and several acquisition & redevelopment funding needs leave ESR-REIT dependent on disciplined capital recycling and continued financing access.

Senior unsecured bonds appear fairly priced

We find ESR-REIT’s 2030 senior unsecured bonds (EREIT 4.050% 27Feb2030 Corp (SGD)) fairly priced (Table 7). Since we wrote about ESR-REIT last year, the 2030 bond’s price has risen from 102.35 to 105.51, while bond yields have also fallen significantly from 3.48% to 2.42%. This indicates that ESR-REIT’s improved performance may already be partially priced in.

These bonds provide some yield pickup over higher-rated industrial and logistics REIT peers like Frasers Logistics & Commercial Trust (FLTSP) and Mapletree Industrial Trust (MINTSP). They also trade at similar or higher yields than comparable 2030 bonds by CapitaLand India Trust (AITSP) despite ESR-REIT’s one-notch-higher bond rating. These imply modest relative value reflecting ESR-REIT’s high leverage and short refinancing profile, rather than a compelling mispricing.

Perpetuals also appear broadly fairly priced

(Risks: Perpetuals are deeply subordinated and have no contractual maturity. Distributions are discretionary and non-cumulative, meaning ESR-REIT is not required to repay any missed distributions. However, dividend-stopper provisions create a strong practical incentive to continue servicing these perpetuals barring a stressed scenario. Perpetual calls are optional, leaving investors exposed to extension and coupon-reset risks if these are not redeemed.)

ESR-REIT’s perpetuals appear broadly fairly priced (Table 8). They generally offer higher indicative yields (3.9% - 4.6%) compared to selected peer perpetuals (3.2% - 4.0%), alongside higher reset spreads. This yield pickup is meaningful, but also reflects ESR-REIT’s weaker credit metrics, including its higher leverage and shorter debt maturity profile. ESR-REIT’s perpetuals are technically unrated – for relative-value purposes, we apply a BB+ risk assessment, two notches below the BBB-rated senior unsecured bonds.

These perpetuals may appeal to income investors seeking more defensive income than ESR-REIT’s ordinary units (shares). Its SGX-listed units offer substantially higher distribution yields (TTM: 7+%) than the perpetuals’ yields (3.9% - 4.6%). However, perpetuals offer a more predictable distribution (assuming no coupon deferrals) based on the stated coupon, whereas the SGX-listed units are more exposed to fluctuations in distributable income and DPU. Perpetual-holders are also not diluted by potential rights issue(s) or placement(s), unlike unitholders. Finally, perpetuals rank ahead of ordinary units in the capital structure, while the dividend-stopper provision strengthens the practical priority of distributions in favour of perpetual-holders.

Table 7: Senior bond comparison (ESR-REIT bolded)

Table 8: Perpetuals comparison (ESR-REIT bolded)

Declaration: For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) holds positions in AAREIT 4.100% Perpetual Corp (SGD). The analyst who produced this report holds NIL positions in the above-mentioned securities. This research report was prepared with the assistance of artificial intelligence (AI) tools. iFAST Financial Pte Ltd does not rely exclusively on AI for content generation; the content of this report – including all investment theses, ratings, price targets and conclusions – has been independently reviewed and verified by the research analyst(s) to ensure accuracy and professional integrity.