Keppel REIT - DBS Research 2020-01-23: The Only Purist


Keppel REIT - The Only Purist

  • Keppel REIT's 4Q19 DPU +2.9% y-o-y to 1.40 Scts, supported by contributions from newly acquired T Tower, higher rentals and capital distributions.
  • Positive rental reversions of 17.6% in FY19; expect double digit rental reversion to continue.
  • Key highlights:
    1. Potential acquisition;
    2. 2 major leases commencing from 2Q2020,
    3. potential participation in redevelopment of Keppel Tower.
  • Maintain BUY; Target Price of S$1.45.

Maintain BUY; Target Price of S$1.45.

  • We maintain our BUY call on KEPPEL REIT (SGX:K71U) and Target Price of S$1.45. Despite some expected vacancies at selected properties, we believe downside will be mitigated by strong positive rental reversions with new signing rents in 4Q19 higher than current Grade A core CBD rents of S$11.55 psf/mth.
  • The divestment of Bugis Junction Tower has generated some buffer in terms of lowering overall cost of debt and offering higher capital distributions, as well as enabling the REIT to leverage on inorganic growth opportunities.

4Q19 DPU of 1.40 Scts (+2.9% y-o-y) supported by maiden full quarter contributions from T Tower, higher rentals and capital distributions.

  • Keppel REIT reported 4Q19 DPU of 1.40 Scts, up 2.9% y-o-y and flat q-o-q. partially supported by maiden full quarter contributions from T Tower, higher rentals and higher capital distributions. FY19 DPU was 5.58 Scts, in line with our estimates.
  • Stripping out S$4m worth of capital distributions made in 4Q19 (vs S$3m in 4Q18), underlying 4Q19 DPU would have come in at 1.281 Scts, which was marginally up by 0.8% y-o-y.
  • For FY19, excluding S$12m capital distributions (vs S$3m in FY18), FY19 DPU fell 4.6% y-o-y to 5.225 Scts.
  • The higher y-o-y underlying 4Q19 DPU was largely from maiden contributions from the recently acquired T Tower in Seoul and higher rentals, offset by
    1. lower contribution from Bugis Junction Tower following the divestment (-34% y-o-y),
    2. absence of income support on MBFC but partially mitigated by higher rents, and
    3. the impact of a weaker AUD.
  • Keppel REIT’s portfolio valuation (excluding Bugis Junction Tower and T Tower) increased 0.1% mainly from 10-25bps cap rate compression and completion of 311 Spencer St, partially offset by impact of AUD depreciation. Two Australian assets, 8 Chifley Square and 8 Exhibition St, saw lower valuations due to potential movements in occupancy.

Heathy double-digit rental reversions to remain; management more positive with spot rents sustainable on limited supply.

  • Overall portfolio occupancy inched up q-o-q to 99.1% from 98.9% in 3Q19 (vs 98.4% in 4Q18) mainly from ORQ (+0.8 ppt) and OFC (+0.6 ppt). On y-o-y basis, all occupancies were up, especially 8 Exhibition St (from 98.7% to 100%), except MBFC, which fell to 98.9% from 99.9%.
  • Keppel REIT disclosed that average signing rents for FY19 stood at c.S$12.42 psf/mth, an increase from c.S$12.35 psf/mth reported for 9M19. Hence, Keppel REIT reported strong positive rental reversions of 22% in 4Q19, taking FY19 rental reversions to 17.6% vs 14.8% in 9M19.
  • With average expiring rents for FY20, FY21 and FY22 at S$9.69 psf/mth, S$9.74 psf/mth and S$10.20 psf/mth respectively compared to current Grade A core CBD rents of S$11.55 psf/mth, we believe Keppel REIT will continue to report healthy rental reversions going forward in spite of spot rents remaining flattish. In addition, management remains positive that they can continue to sign rents at S$12psf and above.
  • There are 10.8% of leases due to expire in FY20, of which 3.7% are rent review leases. Heading into peak supply in FY22, Keppel REIT has 23.1% and 22.6% of leases up for renewal in FY21 and FY22 respectively, of which 7% are rent review leases in FY21.
  • During the quarter, management continued to see leasing demand and expansion coming from the technology, media and telecommunications sectors with increasing interest from Chinese tech companies, and starting to see enquiries from HK. WeWork’s expansion has slowed but smaller coworking operators are still looking for more space. While corporates (MNCs and law firms) have held back their expansion plans, management expects demand from this segment to pick up if economic growth outlook does not deteriorate.
  • Overall, management believes muted supply should be able to support rents.

Key updates – 2 major leases to commence in 2Q2020; management hopes to make an acquisition soon.

  • Fit-out work for HSBC at MBFC is ongoing and the 10- year lease is expected to commence in May2020.
  • The 30-year lease to Victoria Police at 311 Spencer St, Melbourne is expected to commence upon completion of the building in 2Q2020.
  • There are 2 major tenants at 8 Chiffley Square and 8 Exhibition St with leases expiring, Quantium in Nov21 and Ernst & Young (EY) in 2022 respectively. While Quantium, which contributes c.2% of Keppel REIT’s income, will be moving out, management hopes to be able to renew EY’s lease. Management remains confident to backfill Quantium’s space with possibly positive net rental reversions.
  • Management hopes to fill some income gaps from the recent divestments with a potential acquisition in the next few months. Management’s focus is to expand within its existing markets however may broaden its search to secondary markets such as Perth, Brisbane, Adelaide, Canberra, Tokyo, and New Zealand.
  • Keppel REIT is in talks with its sponsor on potential development of Keppel Tower.

Gearing and borrowing costs lowered following divestment of Bugis Junction Tower

  • Gearing lower q-o-q to 35.8% from 38.9% in 3Q19 following the repayment from the divestment of Bugis Junction Tower.
  • Average borrowing costs dropped to 2.77% from 2.82% in 3Q19.
  • NAV per unit (excluding distributions) was relatively stable at S$1.35 owing to the buy back of 38m units in 4Q19 and 67m in FY19.

Maintain BUY; Target Price of S$1.45

Where we differ – The only pure office REIT.

  • Post the announcement of CapitaLand Mall Trust (SGX:C38U)-CapitaLand Commercial Trust (SGX:C61U) merger yesterday, Keppel REIT is soon-to-be the only pure office REIT.
  • While concerns of an economic slowdown might slow the upward trajectory in market rents, we believe the divestment of Bugis Junction Tower has improved the quality of its commercial assets portfolio anchored by Singapore Grade A offices in prime CBD locations.
  • The long WALE of 4.9 years (Singapore 4.2 years), strong committed occupancy and the ability to sign higher than market rents are strong attributes of its portfolio, contrary to consensus’ hold rating, in our view.

Rachel TAN DBS Group Research | Derek TAN DBS Research | https://www.dbsvickers.com/ 2020-01-23
SGX Stock Analyst Report BUY MAINTAIN BUY 1.450 SAME 1.450