• Ascendas REIT's 2Q19 results in line with estimates.
• Transitional quarter as contribution from recent acquisitions have yet to be reflected into DPUs.
• Manager looking to acquire more in overseas markets while staying selective in Singapore.
• Maintain BUY, Target Price adjusted to S$2.95.

Maintain BUY, Target Price revised to S$2.95.

• Ascendas REIT (A-REIT) remains one of the must-haves among Singapore REITs. Priced at a premium, A-REIT offers a steady 1% growth in DPU backed by a solid portfolio with the ability to embark on earnings accretive acquisitions.
• Maintain BUY!

• Our revised recent acquisitions and fund raising activities and current Singapore.
• The key attractiveness for Ascendas REIT is park space (37% of earnings), which is in a strong business in the “New Economy”.
•  In fact, we see ample surprises which include
  1. the REIT’s ability to re-let its portfolio, and
  2. acquisitions the street.

Inorganic strategy to drive improvement in portfolio quality.

• The Manager recently added UK as another leg of growth for Ascendas REIT, which is in our view offers similar risk-reward profile as Singapore, with the key attractiveness being the freehold nature of land tenures.
• The Manager intends to have 20%-30% of its exposure in overseas markets which would infuse the REIT with improved diversity and earnings stability.

Valuation:

• Our DCF-based Target Price is revised to S$2.95 to account for higher discount rates. 
• Maintain BUY on the back of total potential returns of 15%.

Key Risks to Our View:

• Interest-rate risk. An increase in lending rates will negatively impact dividend distributions. However, Ascendas REIT's strategy has been to actively manage its exposure and it currently has 80% of its interest cost hedged with fixed rates.

2Q19 results in line:

• Ascendas REIT a set of operational results. 2Q19 gross revenues came in two properties in Australia (100 & 108 Wickham Street), the acquisition of UK in Singapore (dipped by 3ppts y-o-y to 87.1%).
• Net property income came in 1.0% of accrued property expenses in 2Q18 amount for distribution fell S$115m on the back of additional fund acquisitions.
• Given the enlarged unit DPU dipped 3.887 Scts.

1H19 DPU formed 49% of our full-year forecast.

• 1H19 operational results came in line with estimates. Gross revenues and net property income was 1.3% higher y-o-y to S$434.7m and S$318.1m respectively. Total amount available for distributable income dipped 2.1% to S$232.3m on the back of higher incurred interest expenses.
• 1H19 DPU of 7.889 Scts formed 49% of our full year forecasts.

Singapore operations facing some “challenges” but diversified portfolio to enable A-REIT to weather through these challenges.

• Ascendas REIT maintained positive rental reversions of 1.2% in the quarter, achieved across all property segments with notable increases in the Business Parks (+3.0%) and Hi-Specs & Data-centers sub-segments (+1.9%).
• However overall occupancy rates in Singapore dipped slightly to 87.3% (vs 89.1% in 1Q19) with the multi-tenanted portfolio hitting 82.9% (vs 84.4% in 1Q19). We understand that the drop mainly came from tenants in the logistics segment where tenants rationalised their space requirements or moved into their own facilities.
• Looking ahead, the Manager continues to see near term challenges (5% and 20% of Singapore revenues expiring in FY19 and FY20 respectively) as the feedback from tenants is that the most are still in the process of optimising their space requirements in the current uncertain operational conditions, hampered by competition from new supply completions.
• To defend occupancies, the strategy is to offer more “attractive tenant packages” in order to achieve higher retention rates.

Overseas properties stable.

• Ascendas REIT’s properties in Australia and UK continue to churn out stable cashflows. The weighted average lease expiry for Australia and the UK are 4.7 years and 14.5 years respectively, offering strong income visibility and have minimal expiries in FY19.
• The Manager is attempting to reduce income volatility by hedging cashflows from Australia and UK, which are substantially hedged up to 1 year out while taking on a natural hedge position to limit risk to NAV.

Acquisitions in the UK to drive earnings.

• Post this quarter, Ascendas REIT announced and completed the acquisition of a portfolio of 26 logistics assets in the UK for S$459.2m at an initial yield of 5.4%. Income from this portfolio will start contributing in 3Q19 and will minimise the drag in distributions felt in 2Q19 from the recent equity fund raising.

Gearing level and hedging policies.

• 2Q19 gearing was at a low of 33% post the recent equity fund raising but is projected to rise to 36% after the close of the recent UK acquisition. With a planned built-to-suit (BTS) project in Singapore (estimated construction value of S$180m ), we project gearing to rise to 37% in the medium term, which is still within the Manager’s optimal level.
• Interest rates have increased marginally by 10 bps to 3.0% (from 2.9% a quarter ago) due to proactive steps to minimise interest rate risks. The Manager lengthened the debt expiry profile to 3.7 years and has taken on a higher hedge rate of 85%.

Estimates tweaked.

• We have adjusted our forecast for the following:
  1. imputed recent fund raising,
  2. acquisition of second portfolio of properties in the UK, and
  3. BTS project completing in FY21, and
  4. increased interest rate assumptions.
• DPUs are largely unchanged but Target Price is reduced to S$2.95 on the back of a higher discount rates.