• Keppel REIT's 3Q/9M19 DPU of 1.40/4.18 Scts was within market expectations but slightly below our projections.
• Keppel REIT has and expects to continue to benefit from positive rental reversion.
• Maintain ADD with a lower DDM-based Target Price of S$1.35.

Keppel REIT's 3Q19 DPU Slightly Below Our Forecast But in Line With Market

• KEPPEL REIT (SGX:K71U) reported a 15.6%/2.5% y-o-y increase in gross revenue and distribution income in 3Q19, thanks to a full quarter’s contribution from T Tower, higher average portfolio rents and capital gains distribution of S$2m, partly offset by absence of rental support and divestment of 20% stake in OFC.
• Keppel REIT's 3Q/9M19 DPU of 1.40/4.18 Scts was slightly below our projections at 24%/71% of our FY19 forecast, but in line with consensus. See Keppel REIT's dividend history.

Achieving Positive Rental Reversion

• Keppel REIT renewed/leased 516.4k sqft of space in 9M19 at an average 14.8% positive rental reversion and average Singapore signing rents of S$12.35psf. 31% of new demand was from the technology, media and telco sectors and 19.4% from real estate and property services.
• Upward office rental momentum has slowed in tandem with the slower economic outlook but positive reversions are still expected as 2020-2022 expiring rents are in the range of S$9.59-10.00psf, below current signing rents. Keppel REIT has another 1% and 12.1% of gross rental income to be renewed/reviewed in 4Q19 and 2020.
• That said, the relocation of HSBC to MBFC2 and UBS’s move from ORQ may have a little near-term dampening effect on property occupancy and performance.

Portfolio Optimisation Strategy

• Keppel REIT announced the divestment of Bugis Junction Towers for S$547.5m, or at NPI yield of 3%. The rationale was to unlock value of capital appreciation to optimise portfolio while maintaining its exposure to Singapore’s CBD. It is expected to achieve an asset-level return of 19.4%, driven by S$378.1m of capital gains. Keppel REIT plans to redeploy the funds into higher yielding assets, continue its DPU-accretive unit buyback programme or pare down debt. See Keppel REIT's announcements.
• We have currently assumed the proceeds are utilised to reduce borrowings as the trust continues to scout for new acquisitions. 3Q19 gearing stands at 38.9% while funding costs ticked down to 2.82%.

Maintain ADD Rating

• We tweak down our FY19-21F DPU by 1.8-3.1% to factor in the net income vacuum from the divestment of Bugis Junction Tower, expected to be completed in 4Q19, as well as tone down our forward spot rental growth expectation of 5% to 3% annually for FY20-21F due to the softer macroeconomic outlook. Accordingly, our DDM-based Target Price is reduced to S$1.35.
• Catalysts would be a better-than-projected office rental market and redeployment of divestment proceeds into new accretive acquisitions while downside risk would be longer-than-expected frictional vacancy from tenant movements such as HSBC and UBS due to a slowdown in demand for office space on the back of a protracted slow economic outlook.

Source: CGS-CIMB Research - 16 Oct 2019