DBS Group Research 2015-07-16: Keppel DC REIT - Acquisitions are key. Maintain BUY.

Acquisitions are key 


  • Solid set of 2Q15 results 
  • Higher Singapore earnings mitigated by one-off property tax provision 
  • Overseas distribution income fully hedged until 2017 
  • Maintain BUY, TP S$1.12 


Highlights 


2Q15 DPU of 1.62Scts beats IPO forecast by 2%, in line with our estimates. 

  • Keppel DC REIT’s 2Q15 revenue of S$26m beat prospectus forecasts by 4% due to higher variable income from Singapore and cost recovery clawbacks from tenants at Gore Hill. 
  • NPI variance was smaller at 3.4%, as the Trust made a one-off provision for higher property taxes levied on the Singapore data centres. 
  • 2Q15 DPU came in at 1.62Scts, bringing 1H15 DPU to 3.56Scts. This is in line with our estimates, as we expect a stronger 2H15 stemming from the acquisition of Intellicentre 2 in Australia. 

Hedging profile. 

  • Major currencies that will impact earnings - AUD and EUR - have been hedged for 2 years at better than current spot rates, minimizing any currency fluctuations going forward. 
  • However, rolling forward these hedges might mean translation losses from 1H17 onwards if spot rates of the AUD and EUR remain at current levels. 

Ability to gear up to acquire; significant acquisition size might trigger an equity fund raisings. 

  • In May 2015, Keppel DC REIT announced the acquisition of Intellicentre 2 in Sydney, Australia, for S$46m. 
  • While post-acquisition gearing level of 29.5% is healthy in our view and there is still headroom to acquire. 
  • While the manager is comfortable to gear up to 40%, the intention is to keep gearing at a low level of 30%, in order to keep financial flexibility for opportunistic acquisitions. This might mean that future acquisitions, if significant, will likely be funded through a 30%/70% debt to equity ratio in order to maintain a 30% gearing level. 
  • However, given the stock is trading at an implied yield of close to 6.0%, acquisitions are likely to be accretive. 
  • The Manager remains on a constant lookout for third party acquisitions in Europe (Germany, France, Ireland) and the Asia Pacific (China, Korea, Japan, Australia) which will drive earnings higher. 
  • In our view, the most visible opportunity would be the injection of T27 in Singapore from the Sponsor, which we understand is seeing strong leasing interests and a probably time for acquisition might be from 1H16 onwards. 


Valuation: 


  • Our DCF-based target price is maintained S$1.12 which include S$50m of acquisitions into our FY16 forecast. 
  • The stock offers attractive yields in excess of 6.2% and upside will hinge on better than expected returns from acquisitions or embarking on larger sized acquisitions. 


Key Risks: 


Higher maintenance capex relative to other asset classes. 

  • Keppel DC REIT is responsible for maintenance capex for certain properties in the portfolio. 
  • Due to the shorter lifespan of a data centre’s infrastructure, it is possible that the REIT may have to rely on borrowings to fund these works, which would result in higher gearing levels, or there could be some pressure on the REIT’s cash flow, potentially affecting its ability to pay distributions. 

Competition from larger third party data centre players. 

  • The data centre market is dominated by several large international operators which have been aggressively expanding into markets where Keppel DC REIT has a presence. 
  • Keppel DC REIT may face higher barriers to entry should it wish to expand into areas where it does not have a significant presence, as tenants prefer to remain with providers they are familiar with. 

Currency risk. 

  • As a Singapore REIT, Keppel DC REIT pays its distributions in SGD, even though it derives income in AUD, JPY, GBP and EUR. Any depreciation of these currencies against the SGD would therefore negatively affect distribution that investors receive. 
  • Management has entered into hedging contracts to limit currency volatility on foreign currencies vs SGD. 

Risk to our estimates from lack of acquisitions. 

  • We previously imputed S$50m worth of acquisitions in FY16, based on a 35% gearing limit, which we have maintained for now. However, given the Manager’s guidance that it is keen to acquire T27 (which had an estimated value in excess of S$200m) in FY16, there could be downside risks to our estimates if there is an EFR exercise and DPU accretion is diluted.


(Rachael TAN, Derek TAN)

Source: http://www.dbsvickers.com/




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