Office REITs - UOB Kay Hian 2019-05-30: Tight Vacancies Pushing Office Rents Higher


Office REITs - Tight Vacancies Pushing Office Rents Higher

  • The office market bottomed in 1H17 and has progressed to the second year of recovery. Continued upside for office rents is supported by tapering of supply. Supply has eased to 1.3m sf this year, of which only 228,958sf is within the core CBD.
  • Net absorption of office space remains positive and is driven by modern services, technology companies, including start-ups and fintechs, and co-working operators.
  • Maintain OVERWEIGHT. Our top-pick is CAPITALAND COMMERCIAL TRUST (SGX:C61U), followed by KEPPEL REIT (SGX:K71U).


Rents are on a rising trend.

  • Grade A office rents for core CBD surged 14.9% to S$10.80psf pm in 2018, after a trepid increase of 3.3% in 2017. Grade A office rents further increased 3.2% q-o-q to S$11.15psf pm in 1Q19. We see demand driven by:
    • Company formation in modern services, such as Banking & Insurance, Information & Communications and Business Services.
    • Leasing demand from technology companies (Microsoft, Facebook and Google), including start-ups and fintechs.
    • Co-working operators have strong appetite for expansion. The co-working market doubled in size to 1.4m sf in 2018, driven by a boom in venture capital/private equity within ASEAN. Co-working’s market share remains small at 2.3%.

Deluge of mega office buildings already absorbed.

  • Occupancy for Grade A office space within the core CBD experienced a v-shaped recovery from the trough of 91.6% in 3Q17 after the completion of Marina One (East Tower and West Tower) with 1.9m sf of office space. Occupancy has recovered to a healthy 95.2% in 1Q19.

New supply was concentrated in 2016-18 but tapered off starting 2019.

  • Core CBD supply is meagre at 0.2m sf in 2019 (18 Robinson and HD 139), which should underpin a pick-up in rentals. Future supply is estimated at 5.33m sf for 2019-22, representing an average of 1.36m sf p.a. (29% below 10-year average of 1.91m sf).

Net absorption remains in positive territory.

  • Leasing interest for upcoming new developments is fairly healthy. Net absorption of office space is at 137,936sf in 1Q19, comparable to 149,444sf in 1Q18 (1Q is usually seasonally softer).


Office occupancy costs remain affordable compared to other global cities.

  • Based on a survey on global prime office occupancy costs by CBRE conducted in Jun 18, which include rents, local taxes and service charges, Hong Kong is ranked the most expensive office market in the world. Occupancy costs at Hong Kong (Central) total US$306.57, 30% higher than London’s (West End) which is ranked second.
  • Singapore’s occupancy costs ranked 22nd at US$100.74, one third that of Hong Kong. A subsequent survey by JLL conducted in Dec 18 concluded that Singapore’s occupancy at US$108 is less than one third of Hong Kong’s US$338.

CapitaLand Commercial Trust (SGX:C61U; Rating: BUY; Target Price: S$2.16)

Opportune time to renew leases in 2019.

  • CAPITALAND COMMERCIAL TRUST (SGX:C61U) is the largest landlord in Singapore’s CBD with Grade-A office buildings accounting for 81% of its portfolio NLA. 23% of NLA for its office space is up for renewal in 2019, of which 14% is already completed. Committed rents were attractive at S$11.00-12.50psf pm for AST2, S$11.70-13.50psf pm for 6 Battery Road and S$12.30-13.30psf pm for CapitaGreen in 1Q19.
  • We expect positive rental reversion for Capital Tower, CapitaGreen and Raffles City in 2H19.

Opportune timing for launch of CapitaSpring.

  • The 51-storey CapitaSpring (redevelopment of Golden Shoe Car Park) with 635,000sf of office space, 12,000sf of retail space and food centre of 44,000sf is scheduled for completion in 1H21. Supply of new office space is manageable at only 899,781sf in 2021, which poses minimal competition for CapitaSpring (Rochester Commons with 264,781sf of office space is located at one-north). The marketing show suite is ready and leasing activities has commenced. JPMorgan has committed to 155,000sf or 24% of NLA at CapitaSpring.

Thoughtful overseas expansion.

  • CapitaLand Commercial Trust completed the acquisition of freehold office building, Gallileo, in Frankfurt’s banking district for €356m or a NPI yield of 4.0% in Jun 18. The acquisition was partially funded by a loan of €212m with interest rate at 1.4%, which provides a natural hedge. It plans to increase depth in selected gateway cities in Germany, such as Berlin, Munich, Hamburg and Dusseldorf. Management plans to cap exposures to overseas markets at 20% of deposited properties.

Keppel REIT (SGX:K71U; Rating: BUY; Target Price: S$1.37)

Strong defensive qualities.

  • KEPPEL REIT (SGX:K71U) has a well-spread lease expiry with only 2.7% of portfolio NLA for renewal in 2019. However, its WALE was at 5.7 years as of Mar 19 (Singapore: 4.5 years, Australia: 9.6 years), already one of the longest WALE for Singapore REITs. WALE would be longer at 8.3 years if we include 311 Spencer Street. Its top-10 tenants’ WALE was at 8.0 years.

Further expansion down under.

  • The development of 311 Spencer Street in Melbourne is progressing smoothly with the superstructure for 24 floors already completed. The 30- year lease to the Victoria Police will commence when the building is completed in 1H20. The building will provide recurrent income stream with fixed annual rental escalations. It provides an NPI yield of 6.4%.

Maiden acquisition in Seoul, South Korea.

  • Keppel REIT has announced the proposed acquisition of T Tower in Seoul at an agreed value of ₩252.6b (S$301.4m). T Tower provides an NPI yield of 4.7%. The acquisition is expected to boost pro-forma 2018 DPU by 2.5% to 5.70 S cents. The proposed acquisition will be funded by debt, split between a ₩-denominated loan with interest rate at sub-3% and proceeds from issuance of S$200m 1.90% convertible bonds. The acquisition was completed in May 19.

Suntec REIT (SGX:T82U; Rating: HOLD; Target Price: S$1.99)

Office portfolio resilient.

  • 8.2% of NLA for SUNTEC REIT (SGX:T82U)'s office space is up for renewal in 2019, of which 2.2% is already completed. The average rent secured for Suntec City office has improved 2.5% q-o-q to S$9.37psf pm in 1Q19. Retention ratio was healthy at 80%. Committed occupancies for Suntec City Office, One Raffles Quay (ORQ) and Marina Bay Financial Centre (MBFC) were healthy at 98.9%, 96.1% and 100% respectively.

Some signs of weakness at Suntec City Mall.

  • 24.7% of Suntec REIT's retail space is up for renewal in 2019, of which 5.7% is already completed. Occupancy at Suntec City Mall has eased slightly by 1.9ppt q-o-q to 97.7%. Tenant retention ratio was at 39%.

9 Penang Road achieves 100% pre-commitment for office.

  • The office component of 9 Penang Road (previously known as Park Mall) was 100% pre-leased to UBS, which will occupy all eight floors across two wings with NLA of 381,000sf. The move will bring 4,000 employees currently working at One Raffles Quay and Suntec City under one roof to enhance collaboration. Pre-leasing for the retail component with NLA of 15,000sf is on-going and has received strong interest from specialty shops and F&B outlets. Park Mall is scheduled to complete in 4Q19. Suntec REIT owns a 30% stake in 9 Penang Road.


  • Higher office rentals and positive newsflow on leasing activities.
  • Interest rates are expected to drift sideways for the foreseeable future.


  • Higher government bond yields, which we believe is unlikely.

Jonathan KOH CFA UOB Kay Hian Research | Peihao LOKE UOB Kay Hian | https://research.uobkayhian.com/ 2019-05-30
SGX Stock Analyst Report BUY MAINTAIN BUY 1.370 SAME 1.370