SUNTEC REAL ESTATE INV TRUST (SGX:T82U)
CAPITALAND INTEGRATED COMM TR (SGX:C38U)
KEPPEL REIT (SGX:K71U)
Singapore Office REITs - Working In A New Normal ~ Fundamentals Weak; Work-From-Home A Structural Negative
Initiate Keppel REIT, Suntec REIT at SELL
- Singapore office REITs have outperformed peers year-to-date, but we expect this trend to reverse in 2021 due to weak fundamentals. Recessionary conditions have dampened leasing demand, while macro uncertainties have reduced visibility on corporate expansion plans and office space needs.
- We are cautious on potential structural demand erosion with the adoption of WFH (work-from-home) practices, which could offset gains from de-densifying offices, and temper an already slow macro-led net absorption trend.
- Office vacancies are on the rise, and with rents pressured, we initiate coverage on Keppel REIT and Suntec REIT at SELL, with 19-21% downside to our DDM-based target prices.
- Gearing has risen after recent deals, limiting headroom for acquisition-growth opportunities, relative to industrials.
Structural headwinds with work-from-home entrenchment, tenant downsizing
- Against the recessionary backdrop, businesses across an array of industries are looking to curb costs and defer non-essential capital expenditure, with many downsizing through renewals or relocations. At the same time, firms are assessing office space needs as they ease out from the pandemic.
- Financial institutions and professional services firms will be the most willing to implement work-from-home arrangements in our view, as they trim office space needs with a larger proportion of their staff working remotely.
- We assume CBD office occupiers could aim to reduce their footprint by 10-20% over three years, and estimate demand to fall by 0.5-1.0m sf pa from 2020-22. This compares to the average of 1.1m sf of net absorption in the past decade.
Demand weak with recessionary headwinds, U-shaped recovery
- We expect leasing momentum to slow further, and estimate net office absorption of -1.0m sf in 2020, with occupiers holding back on expansions and business sentiment staying cautious as firms struggle with weaker revenue.
- We estimate net absorption will gradually improve to 0m sf in 2021, and +1.0m sf in 2022 as the economy rebounds, bringing net absorption to zero from 2020-22. This is slower than the improvement seen in 2004, and also below the average annual net absorption of 1.0m sf from 2015-19, as Singapore’s GDP recovers at a modest +4.5% in 2021 and +3.0% in 2022 from the contraction of -5.7% in 2020.
- We do not expect the recovery in GDP to correlate to a pick-up in office demand, as the increase in productivity would have been alongside greater work-from-home adoption and lower office demand.
Work-from-home arrangements to support flexible space demand
- The silver lining in rising work-from-home adoption is the increased demand for flexible space, which currently occupies c.5% of Singapore’s office stock, and has scope to grow.
- On our estimates, Singapore’s office density has risen to 105 sf, but could reverse as occupiers could require 15-20% more space for social distancing according to Cushman and Wakefield, as workers return to the office with the easing of lockdown measures.
- De-densification could help mitigate the reduction in demand as more work-from-home, but this is likely insufficient, as occupiers will be reluctant to increase operating expenses against a weak growth environment, and with Singapore’s office space already 44% under-utilised pre-COVID, we expect firms will more likely adopt a wait-and-see, retaining current capacities, ahead of committing to additional leases.
Supply thin, with no net additions till 2023
- After factoring in the elimination of office stock by 3.0% (or 2.0m sf) due to redevelopment projects, we estimate no new net supply till 2023. While this is the lowest level of net supply against a recessionary overlay, we note that removal of supply largely represents Grade B office stock or those at fringe CBD locations, where rents are at a significant differential to those of Grade A offices.
- As such, we believe it is likely for occupiers that are displaced by potential redevelopment activities to relocate to other fringe CBD locations or business parks. The latter is currently seeing high vacancies of c.15%, therefore leaving much room for traditional office space occupiers as they move to older business parks properties.
Rents to fall 15% through 2020-21
- We forecast rents for Grade A office to decline by a further 5% in 2021, after falling 10% in 2020, then rising by 5% in 2022. This is on the back of weak demand at least until 2H21, and with increasing work-from-home and tenant downsizing offsetting near-term gains from social distancing measures and thin supply.
- We expect the rental decline to be underpinned by island-wide vacancies, which have edged up from 10.5% in 4Q19 to 12.0% in 3Q20 on the back of the slowing economy, and which we expect to widen to 13.0% through 2022.
Limited acquisition catalysts, prefer industrials
- Leverage for Keppel REIT and Suntec REIT would have risen to c.37% and c.43% respectively after their recent acquisitions, higher than their large-cap peers at 34-39%, and this could limit their debt capacity to fund further deals. At the same time, the high forward dividend yields for office REITs, which are above the 3-5% cap rates for prime office assets globally, could limit opportunities for DPU-accretive deals.
- We believe it will be challenging for office REITs to raise equity to fund acquisitions, as they are trading at below 1x P/B. While this would reflect concerns on declining office rents and potentially lower capital values, we also see limited scope for asset recycling, or at the least, we think this would likely have a neutral DPU impact given weak pricing power in this cycle.
Recommendations on Singapore Office REITs
We initiate on Keppel REIT (SGX:K71U) at SELL with a DDM-based target price of S$0.90 (COE: 7.1%, LTG: 1.0%).
- Keppel REIT (SGX:K71U) has emerged as the only pure play office S-REIT following the CCT-CMT's merger to CapitaLand Integrated Commercial Trust in Nov 2020, with a significant exposure to Singapore Grade A offices. Its outlook remains challenging given uncertainties in office demand amid the macro downturn and work-from-home entrenchment.
- We continue to see headwinds for leasing out vacancies and at pressured rents, especially in the coming quarters as firms reassess options post-COVID, and anticipate further downsizing by its financial institution tenants (c.36% of its NLA).
- Keppel REIT’s promises flattish DPU growth, which is unexciting versus peers.
- See Keppel REIT Share Price; Keppel REIT Target Price; Keppel REIT Analyst Reports; Keppel REIT Dividend History; Keppel REIT Announcements; Keppel REIT Latest News.
We initiate on Suntec REIT (SGX:T82U) at SELL with a DDM-based target price of S$1.20 (COE: 8.2%, LTG: 1.0%).
- Suntec REIT (SGX:T82U)’s slow retail recovery and rising office vacancy with increasing work-from-home trends, suggest weak fundamentals. Its inorganic initiative is a silver lining, as contributions rise in 2021 from 21 Harris and 477 Collins in Australia, together with the recently-acquired Nova properties in the UK. These are likely insufficient to fully offset downward pressure in its existing operation, but could help it wean off capital distributions, which have been supplementing dividends.
- We see an overhang from a potential dilutive equity raising as it continues to pursue acquisition opportunities, given high c.43% gearing, and valuations at 0.7x P/B.
- See Suntec REIT Share Price; Suntec REIT Target Price; Suntec REIT Analyst Reports; Suntec REIT Dividend History; Suntec REIT Announcements; Suntec REIT Latest News.
We reinstate coverage on CapitaLand Integrated Commercial Trust (SGX:C38U) at BUY with a DDM-based target price of S$2.50 (COE: 5.9%, LTG: 1.5%).
- CapitaLand Integrated Commercial Trust (SGX:C38U) has emerged post-merger as Singapore’s largest REIT and also among Asia’s largest, with a S$22.4b AUM diversified across 24 retail, office and integrated development assets. Its office portfolio is likely to face higher vacancies in 2021, but NPI growth will be supported with the completion of its AEIs at 20 Collyer Quay and 6 Battery Road, as well as earnings contribution from the 45%-owned CapitaSpring development from 2022.
- Valuations are undemanding at 5.1% FY21 dividend yield and 1.0x PB versus history and peers. We see near-term catalyst from DPU recovery in 2021 and medium-term earnings upside as it leverages added development capacities into value-accretive AEIs and redevelopment opportunities.
- See CapitaLand Integrated Commercial Trust Share Price; CapitaLand Integrated Commercial Trust Target Price; CapitaLand Integrated Commercial Trust Analyst Reports; CapitaLand Integrated Commercial Trust Dividend History; CapitaLand Integrated Commercial Trust Announcements; CapitaLand Integrated Commercial Trust Latest News.
Reports on Singapore Office REITs
- CapitaLand Integrated Commercial Trust - Maybank Kim Eng 2020-12-15: Proxy To Recovery.
- Keppel REIT - Maybank Kim Eng 2020-12-15: Less Business As Usual; Initiate At SELL.
- Suntec REIT - Maybank Kim Eng 2020-12-15: Challenging Headwinds, Further Deterioration Ahead; Initiate At SELL.
- See attached 35-page report for complete analysis on Singapore office sector, the S-REIT peer comparison table and also the summary of Singapore office REITs' portfolios.
Chua Su Tye
Maybank Kim Eng Research
|
https://www.maybank-ke.com.sg/
2020-12-15
SGX Stock
Analyst Report
1.200
SAME
1.200
2.500
SAME
2.500
0.900
SAME
0.900