Keppel DC REIT - Premium for a future-ready asset class

22 Jul 2020
  • 1H20 DPU of 4.375 cents was in line, forming 49% of FY20e DPU estimates.
  • Portfolio metrics healthy – long WALE of 7.4 years, portfolio occupancy at 96.1% and AEIs to drive revenue growth.
  • Reiterate NEUTRAL with a higher target price of $2.57 (previously $2.31). We raised our terminal growth rate assumption from 1.5% to 2.0% to better reflect KDC acquisition-driven 5-year DPU CAGR of 2.7%. While we like KDC for its strong portfolio metrics and future-ready asset class, we think that upside is limited given the strong rally in prices and yields at c.3%, which are not compelling.

 

The Positives
+ No out-of-pocket rental rebate to tenants but passed on the property tax rebates by the government to Singapore tenants. All tenants remain current with rents.

+ $2.8mn tax savings p.a. upon attainment of tax transparency for KDC 4. KDC 4 attained of tax transparency status on 25 May 2020, which will result in some $2.8mn worth in tax savings. An extended land lease title at KDC 4 by 30 years till June 2050 (cost $5mn). Despite some anticipated delays, the tax transparency status was attained within c.7 months after acquisition on 31 October 2019, within the estimated 6 to 9-month gauge based on past application.

+ Early lease renewal negotiations reduced FY21 expiries from 10.75 to 6.2% by NLA as at end-June 2020. The REIT has 2.6% of total net lettable area (NLA) up for renewal in 2H 2020. The Manager has started engaging clients for early renewals and brought down the total NLA due for expiry in 2021 from 10.7% as at end 2019 to 6.2% as at 30 June 2020.

 

The Negatives

– Delay in AEI and development timelines due to lockdowns. KDC has several AEIs ongoing – Dub 1 (increase energy efficiency, TBC 2H20), KDC SG 5 (conversion of 15.8% NLA from non-DC space to DC), DC1 (fit out of shell & core space, TBC 1H21) and the development of Intellicentre 3 (delayed from 4Q20 to 1H21). AEIs for Dub 1 and Dub 2 have resumed following a 2-month lockdown, however construction works in Singapore remain suspended due to government policies on foreign workers residing in dormitories. While development works in Australia were allowed to continue through the pandemic, delay in certain supplies may result in delays.

– Gearing increased from 30.7% to 34.5% as at 30 June 2020, as expected, due to acquisition of Kelsterbach DC (Germany, TBC 1H20) and the balance of the 999-year land lease for KDC Dub 1. However, with KDC‘s strong balance sheet and high-interest coverage ratio of 12.8x, we view this utilisation of gearing headroom favourably.

 

Outlook
Acquisition timeline thwarted by travel restrictions. KDC is negotiating several third-party deals, some of which are in advanced stages. However, travel restrictions have made asset viewing impossible. Increase in potential buyers may lead to bidding-up of prices.

 

Maintain NEUTRAL with a higher target price of $2.57 (previously $2.31)
In the 5 years since listing, KDC has grown DPU at a CAGR of 2.7%. Our previous DDM assumptions incorporated a 1.5% terminal growth rate which is below the historical pace of DPU growth. Our change in TP is attributed to a higher terminal growth of 2.0% incorporated (prev. 1.5%). In light of the increased competition for assets, we have assumed a more tapered terminal growth rate of 2.0% (vs. the historical CAGR or 2.7%). Based on our FY20e DPU of S$0.90, DPU yield of 3.3% is on the low side while P/NAV of 2.26x

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