Keppel REIT 2H21 - UOB Kay Hian 2022-01-26: Sustaining Positive Rental Reversion

KEPPEL REIT (SGX:K71U)

Keppel REIT 2H21 - Sustaining Positive Rental Reversion

Keppel REIT’s property income and NPI grew 16.9% and 17.5% y-o-y respectively in 2H21 due to the acquisition of Pinnacle Office Park in Sydney (completed on 31 Dec 20) and Keppel Bay Tower in Singapore (completed on 18 May 21).
Physical occupancy has improved as more employees are working from offices. Management plans to backfill transitional vacancy at OFC and MBFC and targets positive low-to-mid single-digit rental reversion in 2022.
Maintain BUY with a target price of S$1.52.

Keppel REIT (SGX:K71U) reported 2H21 DPU of S$0.0288 (-1.7% y-o-y), which is in line with our expectations.

NPI attributable to unitholders increased 17.5% y-o-y in 2H21 due to contributions from Victoria Police Centre in Melbourne (practical completion on 9 Jul 20), Pinnacle Office Park in Sydney (acquisition completed on 31 Dec 20) and Keppel Bay Tower in Singapore (acquisition completed on 18 May 21), which were partially offset by the divestment of 275 George Street in Brisbane (divestment completed on 30 Jul 21).
Contributions from Keppel REIT's associates and JVs decreased 10.9% y-o-y due to transitional vacancy at One Raffles Quay (ORQ) and Marina Bay Financial Centre (MBFC).

Leases committed amounted to 888,600sf (attributable) and Keppel REIT achieved positive rental reversion of 3% in 2021. Average signing rents for Singapore office leases was S$10.56psf in 2021 (1H21: S$10.73psf). New leasing demand and expansion were mainly from banking, insurance & financial services (29.3%), technology, media & telecommunications (23.1%) and manufacturing & distribution (14.9%). Retention rate was 62%. Rental collection was healthy at 99.6% in 2021.

Occupancy at ORQ improved 1.3ppt q-o-q to 98.5% due to backfilling of space vacated by UBS.
Occupancy at Ocean Financial Centre (OFC) and MBFC eased 2.5ppt and 2.1ppt q-o-q respectively to 94.6% and 95.5% as tenants rationalised their usage of office space.
Occupancy for Chifley Square (2.8% of AUM) dropped 31.4ppt q-o-q to 68.6% due to lease expiry for Quantium. A quarter of the vacant space was backfilled by a financial institution and the remaining space is expected to be leased to smaller companies by 2H22.
Weighted average lease expiry (WALE) is long at 6.1 years (top 10 tenants: 10.8 years).

Aggregate leverage was 38.4% with 63% of borrowings on fixed interest rates as of end-Dec 21. All-in interest rate has improved 37bp y-o-y to 1.98%. Keppel REIT has diversified its funding source with the issuance of S$150m 7-year medium-term notes at 2.07% in Sep 21. Green loans account for 39% of total borrowings. The average term to maturity is 3.1 years and only 5% of its total borrowings are due for refinancing in 2022 (part of a bridging loan of S$138m has already been repaid with a green loan facility that matures in 2025).

Working from home is no longer the default and 50% of employees have been allowed back to their offices since 1 Jan 22. Physical occupancy at office buildings has spiked to 50% in January. Leasing enquiries and viewings have picked up. Besides the technology companies and non-bank financial institutions, Keppel REIT also saw demand from industrial and consumer companies. Multinational companies are also adding regional roles in Singapore.

According to CBRE, rents for Grade A core CBD offices increased 3.8% y-o-y and 1.4% q-o-q to S$10.80psf/month in 4Q21, the third consecutive quarter of increase. Net absorption remains positive and increased 63% q-o-q to 336,919sf in 4Q21. Occupancy rates for Grade A core CBD has inched higher by 1.2ppt q-o-q to 93.3%.
Keppel REIT’s average expiring rents are S$10.35psf in 2022, S$10.84psf in 2023 and S$10.67psf in 2024. It targets to achieve positive low-to-mid single-digit rental reversion in 2022.

Sydney and Melbourne have emerged from lockdowns and lifted COVID-19 restrictions in Oct 21. Leasing enquiries have picked up. However, rents could come under pressure due to the high nationwide CBD vacancy rate of 14% and new supply coming on-stream.
Occupancy and rents for the Australia portfolio (18.1% of AUM) could come under some pressure but the negative impact is cushioned by a long WALE of 10.8 years.

Keppel REIT has entered into an agreement to acquire Blue & William, a freehold Grade A office building with NLA of 14,133sqm under development in North Sydney for A$327.7m. Blue & William is located 160m from the North Sydney Train Station. It is 350m from the upcoming Victoria Cross Metro Station, which will reduce commuting time to Barangaroo and Martin Place in the Sydney CBD to three minutes and five minutes respectively, when completed in 2024.
Blue & William is being developed by Lendlease and will provide net property income (NPI) yield of 4.5% after practical completion in mid-23. It is able to attract tenants from the technology, media & telecommunication, professional services and insurance sectors. It provides built-in rental escalation of 3-4% post practical completion. The acquisition expands Keppel REIT’s AUM by 4% to S$9.0b and increases exposure to Australia from 16.4% to 19.5% of AUM. It is expected to increase pro forma 2020 DPU by 3% to S$0.059.

Maintain BUY call on Keppel REIT. Our target price of S$1.52 is based on DDM (cost of equity: 5.5%, terminal growth: 1.5%).
Catalysts:
- Keppel Bay Tower will provide full-year contribution in 2022.
- Practical completion of Blue & William in mid-23.
See

Jonathan KOH CFA UOB Kay Hian Research | https://research.uobkayhian.com/ 2022-01-26

SGX Stock Analyst Report BUY MAINTAIN BUY 1.520 SAME 1.520