Keppel-KBS US REIT - DBS Research 2018-10-18: Hits The Mark


Keppel-KBS US REIT - Hits The Mark

  • Keppel-KBS US REIT's 3Q18 DPU of 1.50 UScts in line with expectations.
  • Continues to benefit from US office upturn with 5.6% increase in average rental reversions.
  • Strong performance should allay fears over potential fall in rents after recent price correction.
  • Maintain BUY, Target Price of US$0.95.

What’s New

3Q18 DPU of 1.50 UScts

  • Keppel-KBS US REIT (KORE) delivered 3Q18 DPU of 1.50 UScts which was in line with expectations but marginally ahead of IPO forecasts (+0.7%).
  • For the first nine months of 2018, we estimate DPU of c.4.5 UScts which represents c.76% of our FY18F DPU of 5.94 UScts.
  • While 3Q18 gross revenue of US$22.7m was 2% below IPO forecasts on account of the early lease termination at Westmoor Center in Denver in 1Q18, NPI of US$13.6m was in line with IPO projections, due to the lower than expected lower property expenses.
  • DPU was marginally ahead of IPO forecasts due to the one-off compensation income from the early lease termination at Westmoor Center. Do note that the space vacated at Westmoor Center has been backed filled by an existing tenant who is expanding, with cash contribution to commence in December 2018.

Positive rental reversions

  • Keppel-KBS US REIT announced that the majority of leases signed during 3Q18 saw positive rental reversions with 5.6% increase on average with a range of 4-25%. The 5.6% average rental reversion includes c.1% drop in face rents for a large renewal (c.49k sqft) at 1800 West Loop, and excluding this, average rents would have increased by c.17%.
  • While face rents at 1800 West Loop fell, on net effective basis due to the lack of free rent and tenant improvements, effective rents would have increased by at least 8%.
  • The ability of Keppel-KBS US REIT to achieve higher signing rents is a continuation of the positive trend in 1H18 and is largely a result of rising spot rents and Keppel-KBS US REIT’s portfolio being generally under-rented.
  • In addition, for new leases signed during the quarter, average annual rental escalations amounted to 3% per annum. Overall, 98% of Keppel-KBS US REIT’s portfolio has annual escalations of between 2-3% per annum.
  • Following the signing of 18 leases representing c.134,000 sqft of space, 6.4% and 13.6% of leases are set to expire for the remainder of FY18 and FY19, down from 9.1% and 14.6% respectively at end 2Q18.
  • Overall portfolio WALE has also been extended to 3.8 years from 3.7 years previously.

Committed occupancy tracking ahead of IPO projections

  • As at 30 September 2018, overall portfolio committed occupancy stood at 90.1%, in line with 90.3% reported at end 2Q18. This is tracking ahead of 87.8% occupancy projected in Keppel-KBS US REIT’s prospectus for FY18.
  • Over the quarter, notable movements include occupancy at Bellevue Tech Center rising to 98.1% versus 95.1% at end 2Q18. This was partially offset by committed occupancy for The Plaza falling to 86.0% versus 88.8% at end 2Q18. Nevertheless, this is tracking ahead of the initial IPO projections of 81.9% by year end.
  • Furthermore, Keppel-KBS US REIT guided that committed occupancy at 1800 Westloop remains on target to dip to 75% as per its prospectus projections from 82.2% currently owing to planned vacancies. Due to softer than expected market performance in Houston despite the firm economic conditions and rise in oil prices, there is also the risk of occupancy not recovering to earlier guidance of 85.8% by end of FY19.
  • However, this potential weakness is expected to be offset by stronger than expected performance from Keppel-KBS US REIT’s Seattle and Atlanta properties owing to a stronger market and greater success in finding replacement tenants.

Stable gearing

  • Gearing was stable at 33.3% with average cost of debt inching up marginally to 3.47% from 3.40% in 2Q18.
  • The proportion of fixed rate debt remains at 75% with no debt refinancing until FY21.

Faster projected rental growth ahead bodes well for future earnings

  • Based on CoStar data, spot rents in markets where Keppel-KBS US REIT’s properties are located are projected to grow between 1.2% and 10.4%. This is slightly faster than 0.6-9.5% range previously guided by CoStar at end June. The higher rents would be largely driven by an improved rental outlook in Seattle which is benefiting from limited new deliveries and continued growth in the technology sector.
  • This bodes well for Keppel-KBS US REIT maintaining positive rental reversions over the next 12-24 months and growth in DPU in FY19.
  • This data point should also allay fears raised by some investors of a potential downturn in the office market following the recent correction in Keppel-KBS US REIT’s share price.

Waiting for equity fund raising details

  • Keppel-KBS US REIT’s unitholders at the recent EGM approved the proposed acquisition of Westpark Portfolio, which is a business campus located in Redmond Washington.
  • Costing US$169.4m, the acquisition will further deepen Keppel-KBS US REIT’s presence in the Seattle office market which is benefiting from growth in the technology sector.
  • Keppel-KBS US REIT has not finalised the equity fund raising exercise (rights issue or preferential offering) to fund the purchase of Westpark Portfolio.

Maintain BUY, Target Price of US$0.95

  • With 3Q18 results in line with expectations, we maintain our BUY call and Target Price of US$0.95 pending further details on Keppel-KBS US REIT’s equity fund raising.

Mervin SONG CFA DBS Group Research | Derek TAN DBS Research | https://www.dbsvickers.com/ 2018-10-18
SGX Stock Analyst Report BUY MAINTAIN BUY 0.950 SAME 0.950