• Keppel REIT reported good results with DPU increasing 0.7% y-o-y to 1.40 S cents in 2Q20, supported by capital distribution of S$5.0m. Keppel REIT achieved average signing rents of S$11.86psf pm, representing positive rental reversion of 14.2%. Tenant relief has a limited impact on Keppel REIT’s portfolios in Singapore, Australia and South Korea. Keppel REIT intends to keep distribution stable, topping up with capital distribution to “smooth out” DPU.
• Keppel REIT trades at a P/NAV of 0.82x.
• Maintain BUY. Target price: S$1.30.

Keppel REIT's 2Q20 Results

• Keppel REIT (SGX:K71U) reported a DPU of 1.40 S cents for 2Q20 (+0.7% y-o-y), bringing 1H20 DPU to 2.8 S cents.

Singapore: Maintained strong positive rental reversion.

• The Singapore office portfolio achieved positive rental reversion of 14.2% in 2Q20 (1Q20: 18.8%). The average signing rents was S$11.86psf pm in 1H20 (Grade A Core CBD: S$11.15psf pm), which is comfortably above expiring rents of S$10.45psf pm in 2020.
• 1H20 income contributions from Ocean Financial Centre (OFC) and One Raffles Quay (ORQ) grew 1.7% and 1.3% y-o-y respectively. Income contribution from Marina Bay Financial Centre (MBFC) declined 9.8% y-o-y due to the absence of rental support. HSBC has commenced its 10-year lease at MBFC Tower 2 in May 20. Portfolio occupancy for Singapore remained stable at 98.7%.
• Total leases representing attributable NLA of 267,800sf were committed in 1H20. Renewal and rent review made up the lion’s share of 37.7% and 39.7% of committed leases. New leasing demand was driven by real estate & property services (41.9%), technology, media and telecommunications (27%), and banking, insurance & financial services (15.2%). Retention rate was high at 91% in 2Q20 (1Q20: 50%). Keppel REIT has only 2.2% leases expiring, and 0.5% due for rent review in 2020.

Australia: Sydney and Melbourne more resilient.

• Portfolio occupancy for Australia eased 0.5ppt q-o-q to 98.3%. Occupancy for 275 George Street at Brisbane dropped 1.6ppt q-o-q to 96.5%. Income contribution dropped 6.7% in 1H20 due to the weaker Australian dollar.

South Korea: Slight dip in occupancy.

• Income contribution from T Tower increased 4.8% qoq to S$3.5m. However, occupancy dipped 2.3ppt q-o-q to 97.7%.

Aggregate Leverage Maintained at 36.3%

• Keppel REIT has completed all its refinancing for 2020. It has lowered its all-in cost of borrowings by 0.38ppt y-o-y to 2.48% in 2Q20, resulting in a 28.4% y-o-y decline in borrowing costs. It has total undrawn credit facilities of S$938m, of which S$369m are committed facilities.

Limited Impact From Tenant Relief

• Based on the eligibility criteria, 4.2% of Keppel REIT’s Singapore tenants qualify for mandatory relief targeted at SMEs under the COVID-19 (Temporary Measures) (Amendment) Bill. Keppel REIT’s tenant support package is estimated at S$12.5m, which is largely covered by property tax rebates (30% for office and 100% for retail) and cash grants from the government totalling S$9.2m. Keppel REIT has allowed S$1.6m of rents to be deferred, mainly for tenants providing serviced offices.

Stable Outlook for Singapore

• Management has started to engage tenants with leases expiring in 1H20. Local enquiries have picked up after the Circuit Breaker period, predominantly from technology companies. There is demand from some financial institutions for relocation and expansion. For example, Deutsche Bank’s new CEO for the Asia Pacific region has made the decision to be based in Singapore, instead of Hong Kong. This will help stabilise occupancy at ORQ, where Deutsche Bank is an anchor tenant.
• According to CBRE, Grade A office rents in core CBD declined by 3% q-o-q to 11.15psf pm in 2Q20. Average occupancy dropped 1ppt q-o-q to 94.4%.

311 Spencer Street Achieved Practical Completion on 9 Jul 20

• 311 Spencer Street commenced its 30-year lease with the Minister of Finance for the State of Victoria, with the office towers serving as the headquarters for the Victoria Police. The long lease will contribute a steady stream of income to Keppel REIT. Management expects 311 Spencer Street to generate NPI yield of 6.4% on development cost of S$362.4m. Management guided rental escalation of 3-4% p.a., in line with market rates.

Gradual Normalisation and Re-opening in Australia

• With the exception of the State of Victoria, which is under a six-week lockdown, restrictions in most states have been gradually lifted and this has facilitated the return of office tenants. The “Mandatory Code of Conduct” issued by the Australian National Cabinet has negligible impact on Keppel REIT as Australian SMEs (revenue < A$50m), which stand to qualify for the partial rent waivers and deferrals, only make up 1.4% of Australia portfolio’s NLA.

Aims to Maintain Stable Distribution

• Keppel REIT intends to keep distribution stable, topping up with capital distribution to “smooth out” DPU. It has capital gains available from past divestments of S$467m, which could be utilised to support future distribution. Management does not intend to withhold distribution.

Maintain BUY

• We maintain our existing earnings forecasts.
• Maintain BUY with target price of S$1.30, based on DDM (required rate of return: 5.5%, terminal growth: 1.5%).
• Keppel REIT Share Price catalysts:
  • Positive rental reversion for office properties in Singapore.
  • Melbourne, Australia.

Source: UOB Kay Hian Research - 21 Jul 2020