Credit Ratings for Real Estate Backed Securities Diane K.Y. Lam, CFA Tel: 852-2533-3522

1. Credit Ratings for Real Estate Backed Securities Diane K.Y. Lam, CFA Tel: 852-2533-3522 Email: Diane_Lam@standardandpoors.com Standard & Poor’s October 2003

2. Today’s Agenda • Trends in debt capital markets for real estate backed securities • Evaluation of REIT • Evaluation of commercial mortgage backed securities (CMBS) • What are the implications for Taiwan?

3. Credit Risk Spectrum Unsecured Corporate Debt (risk is default of entity) Secured Corporate Debt Reduced Credit Risk CMBSRating vs.LPT Corporate Rating Structured Finance (insolvency remote issuer; risk is asset related)

4. Debt Capital Markets Offerings forReal Estate REITS

5. Issuers Intermediaries Investors • Enlarge the universe of potential investors • More favorable credit terms • Facilitate the pricing and placement of securities • Monitor counterparty risk • Global measure of credit risk • Benchmark for risk premium • Portfolio monitoring The Value of Credit Ratings

6. Performance of REITs in other Countries

7. Case Study: US Real Estate Investment Trusts (REITs) in the United States: • Created in 1960 to enable small investors to invest in real estate. • Slow start but picked up in the 1990s after tax reforms and property downturn (companies saw them as an efficient way to access capital). • There are currently 300 REITs operating in the United States. • Total assets under management currently over US$300 billion. • Approximately two-thirds are trade on the national stock exchange.

8. Case Study: Australia Listed Property Trusts (LPT) in Australia: • Launched in the early 1980s • The LPT sector has been one of the strongest performing sectors of the Australian Stock Exchange (ASX). • The capitalisation of Australia's listed property trusts represents seven percent of the ASX. • There are presently more than 38 listed property trusts on the ASX and these are capitalised at more than A$50 billion. • REITs own around 50% of an estimated A$120 billion of institutional quality property in Australia

9. Case Study: Asia Japan • J-REITs were launched in Japan in 2000 • Real estate to account for more than 50% of total assets. • There are currently six registered J-REITs in the market. Korea • Property trusts were launched in Korea in 2001. • There are two types of trust: K-REITs and CR-REITs. • K-REITs are not preferred by investors because dividend income is taxable (there are some exemptions). Singapore • S-REITs were launched in 2002. • Three S-REITs in the market CapitaMall (retail) and Ascendas (industrial) and Fortune Reits (retail). Hong Kong • Enabling legislation launched in 2003

10. Global REIT Overview

11. 7.06% 2.83% CapitaMall SESPROPDividendYield (3) Case Study: Attractive Yield 8.0% 8 6 4.44% 4.01% 4 (%) 3.19% 3.16% 2.50% 2 0.50% 0 OCBC Sub due 2011(3)(5%-BBB+) UOB Sub Notes due 2016(3)(4.95% -A-) A-REIT Yield at IPO STIEquity Index (3) 10 YearGovernmentBond (3) 12 Month Deposit Rate (1) CPF (Ordinary Account) (2) Notes: (1)Domestic interbank overnight interest rate as at December 27, 2002. (2)Based on interest paid on CPF Ordinary Account from Oct 1, 2002 to December 31, 2002. (3) Straits Times Index.

12. Global CMBS Issuance 1985-2002

13. CMBS Market in Australia

14. CMBS Market In Japan • Growth Factors: • Corporate restructuring—divesting owned real estate • Establishment of JREIT market • Efforts of the RCC to securitise non-performing pools • Liquidations of real estate portfolios by failed companies • Emergence of some performing loan conduits—still sporadic • Challenges: • Securitization continues to be lender of last resort • Still faces competition from direct lending market

15. CMBS Market In Korea • Growth Factors: • Corporate restructuring—divesting owned real estate • Establishment of REITS enabling legislation • Securitization of non-performing NPL loans held by private equity firms • Challenges: • Tenant Rights and Tenant Senior Liens (Chonsae) • Still faces competition from direct lending market

16. CMBS Market In Hong Kong & Singapore • Growth Factors: • Corporate restructuring—divesting owned real estate • Establishment of REITS • Challenges: • Valuation Gap • Still faces competition from direct lending market

17. What is a REIT? • Equity - The shares or unit trusts are usually traded on the stock exchange. • Most REITs remit at least 90% of their income to shareholders. • REITs are usually not required to pay income tax. • A REIT is a company that owns and, in most cases, operates income producing real estate. • Laws differ across geographic locations, but broad parameters are similar.

18. Structure of REITs

19. The REITS Ratings Approach Industry Characteristics Degree of Operating Risk Trust Operational Risk Specific trust risk factors. . Financial risk is portrayed largely through quantitative ratios. Financial Risk/Flexibility The company’s business risk profile determines the level of financial risk appropriate for a rating category.

20. Rated REITs in Asia Pacific

21. What is a CMBS • Debt -- Fixed Income Securities backed by real estate • Issuer contracts to pay a stated coupon to investor • Issuer contracts to repay principal to investor over the tenor of the bond • Issuer is typically tax neutral • Issuer is a SPV company that either owns operates income producing real estate or owns a secured loan backed by real estate.

22. CMBS Characteristics Noteholders Notes SecurityTrustee LiquidityFacility Issuer(SPV) SecuredLoan Interest &PrincipalPayments Capex, Relet & Other Reserves SwapCounterparty Owner/Borrower (eg. REIT) Trustee PropertyManagement Property Assets LeasePayments ($) Tenants

23. The CMBS Rating Approach • Transaction enquiry • Desk top review of collateral, indicative ranges provided • Staged engagement entered into • Detailed review of collateral, site visits, underwriting • S&P assessed collateral values, stabilised cash flows, loan-to-value and debt-service-coverage-ratio’s assigned • Proceed onto second stage – YES/NO?? • Review of building condition, environmental and general due diligence information (including requirements for reserves) • Transaction documents • Ratings assigned

24. Major Issues to Examine Property industry characteristics: Structural Considerations: Cyclical trends Interest rate risks, F/X risk Competition Insurance requirements Economic outlook Liquidity Lines, Reserves Collections Management/Commingling Risks Refinancing Risk Amortizing Debt or Bullet Debt Asset Quality and Stability of Cash Flow: Asset Valuation Consideration Diversification Stabilized cashflows & yields Rent review details Determine valuation Tenant quality Is loan to value appropriate for the target rating Lease maturity profile Vacancy & Re-letting reserves Cash Flow Consideration Capital expenditures Determine refinancing constant Is the debt service coverage ratio appropriate for the target rating Management evaluations: Legal Considerations: Property Manager’s Expertise Creditor’s rights on real estate security Rental Manager’s Expertise Liquidation process and timeframe Credit control and administration Bankruptcy remoteness of the Issuer (SPV)

25. Distinction with a CMBS Rating • Issuer rating vs. issue rating • Corporate approach incorporates REIT’s business strategy and asset profile for a rolling five year period. It is our opinion of an issuers capacity to pay its financial obligations • CMBS seeks to protect the bondholder from the REIT’s insolvency risk. CMBS rates to the bond documents underpinned by income from the rental property. The rating takes into account recovery prospects • Default rating vs. ultimate recovery

26. CMBSRating vs. REIT/Real Estate Issuer Rating

27. Case Study: CMBS and REITS

28. Case Study: CapitaMall Trust Trust:                CapitaMallCountry:                SingaporeType:                   Shopping mallsLettable area: 813,352 sq. ftManagement:       CapitaMall Trust ManagementSponsor:                Subsidiary of CapitaLandListed:                 July 2002S&P rating:            A-/stable Placement: 60-70% institutional Listed yield: 7.2%

29. Case Study: Silver Maple Investment Corp. Ltd. Issuer:                Silver Maple Investment Corp. Ltd.Country:                SingaporeSponsor:                CapitaMall TrustClosed:                 February 2002 (class A-1) June 2003 (class A-2)S&P rating:            class A-1 Sing $ 172MM ‘AAA’ class A-2 US$ 73MM ‘AAA’ class B Sing $ 52MM ‘A’ Placement: private, single investor Coupon: floating rate Maturity: December, 2011

30. Outlook for Real Estate Backed Securities in Asia • Diversification in portfolio • Can offer high income and stable yields (example: REITS) • Can offer bond backed by real estate security which are immune to event risks (example: CMBS) • Demands of investor base (pension funds, insurance companies, banks) • Demographics (aging population seeks income, preservation of capital)

31. Implications for Taiwan? Lessons From Global Trends: • Capital markets can allocate funds efficiently for real estate assets – RMBS, CMBS and REITS vs. corporate bond vs. equity • Real estate backed securities provide high quality investments for investors • New source of funding for real estate would alleviate the concentrated risk of Taiwan bank to real estate • New source of stable revenue (property management fees) is beneficial to developers • Setting clear legal, security, accounting and tax legislations are critical to establishing REIT and CMBS markets in Taiwan • Capital market transaction propels the industry to higher levels of standard and accountability (valuation, management and reporting) • Capital market is efficient in pricing risk and return (and will differentiate high quality assets from poor quality assets) • Cultivate and educate the investors

32. uestions nswers