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With 6.8% yield, CGS-CIMB sees downside factored in for Keppel REIT

Keppel REIT will likely enjoy positive rental reversions in the second half of this year for its Singapore properties

CGS-CIMB analysts Lock Mun Yee and Natalie Ong have maintained their "add" call and $1.14 target price on Keppel REIT.

While the REIT's office portfolio might see some pressures because of changing working habits, the analysts, in their Sept 25 note, hold the view that with FY2023 yield already at 6.8%, much of the downside has already been factored in.

At a recent roadshow organised by CGS-CIMB, Keppel REIT’s management remains the most upbeat on its Singapore portfolio.

"Keppel REIT allayed investors’ concerns over the structural change in office take-up due to the hybrid work-from-home trend by sharing that its Singapore properties do not have any shadow space," state Lock and Ong.

According to the analysts, signing rents for Singapore properties are at $12-15psf. As such, the REIT will likely enjoy positive rental reversions in the second half of this year, based on the average expiring rents of $11.55psf in 2023, $11.06psf in 2024 and S$11.11psf in 2025.

Separately, Keppel REIT expects the occupancy rates of its Australia properties to improve in 2HFY2023 too.

In addition to a new government tenant at 8 Chifley Square and a new banking sector tenant at Blue & William, there continues to be leasing interest and anticipates committed occupancy in its Australia portfolio to continue to improve towards end-FY23F.

In addition, rents at some of its Sydney properties have started to strengthen while tenant incentives have compressed marginally.

In Japan, backfilling of space by an energy sector tenant has lifted occupancy at KR Ginza II property to 75%. Office rents in South Korea's continuing to trend up as well.

Keppel REIT maintains that potential acquisitions "remain challenging" in the near term with negative spreads between cap rates and funding cost in the majority of its geographic footprint. The exception is Japan.

Thus, to deliver unitholder value, management indicated that it would focus on growing DPU and close the wide 32% gap between share price and NAV of $1.31 as at June 30.

To this end, the REIT had bought back 19.65 million units at an average of 87.5 cents, and cancelled these units, equivalent to 0.5% of the total in 1H23.

"Management maintains its flexibility in utilising share buybacks and capital distributions as part of its capital management strategy as well as managing its gearing level," the analysts note.
Meanwhile, average funding costs, at current levels, could trend closer to mid-3%, up from 2.84% at end of 1HFY2023, suggest Lock and Ong.

Potential re-rating catalysts include the redeployment of capital proceeds to new accretive acquisitions and recovery of demand for office space to pre-Covid levels.

On the other hand, downside risks include longer-than-expected frictional vacancy from tenant movements and reduced appetite for its office space due to a hybrid work environment.


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