Keppel DC REIT Just Announced Its First Japanese Acquisition: Is the REIT an Attractive Buy?
Despite the headwinds facing the REIT sector, several REITs have conducted opportunistic acquisitions to not just boost their asset base, but also improve their distribution per unit (DPU).
One of them is Keppel DC REIT (SGX: AJBU).
The data centre REIT announced last week that it acquired a hyperscaler data centre in Tokyo, Japan.
This purchase is the REIT’s first foray in the land of the rising sun and investors may be wondering about the merits of this move.
Do Keppel DC REIT’s units provide an attractive buying opportunity?
Details of the acquisition
First, let’s dive into the details of Keppel DC REIT’s latest acquisition.
The REIT agreed with its sponsor, Keppel Ltd (SGX: BN4), to acquire this data centre for JPY 23.4 billion (or around S$201 million).
Keppel DC REIT will have a 98.47% effective stake in the data centre while Keppel Ltd will own the remaining 1.53%.
This purchase was conducted at a small 2.5% discount to the property’s valuation of S$206.1 million.
The property is fully occupied by a Fortune Global 500 company and the land lease is freehold.
The data centre was built just five years ago in 2019 and the asset has a weighted average lease expiry (WALE) of around seven years.
Management expects the acquisition to close by the third quarter of 2024 (3Q 2024).
Benefits of the acquisition
The REIT manager highlighted several key benefits of this acquisition.
Japan is the largest and fastest-growing data centre market in Asia and the addition of this country will help to further diversify Keppel DC REIT’s geographic exposure.
The country’s data centre market is also projected to expand by a compound annual growth rate (CAGR) of 10% from 2024 to 2028, with demand expected to stay robust as cloud computing, artificial intelligence (AI), and digital transformation take centre stage.
Another positive factor is that the current rent for the data centre was committed back in the mid-2010s, thereby providing an opportunity for positive rental reversion along with organic rental growth.
With a tight supply-demand balance in Greater Tokyo, the REIT should also be able to pass on rising costs to its tenants.
The acquisition also enhances Keppel DC REIT’s operating and financial metrics.
Portfolio occupancy will inch up from 98.1% to 98.2% while portfolio WALE will increase slightly from 6.5 years to 6.6 years.
The REIT will also enjoy a slightly higher proportion of rental income coming from internet enterprise clients, at 45.1% versus 44.1% before the acquisition.
Most importantly, the REIT’s 2023 DPU is projected to rise by 1.1% from S$0.09383 to S$0.09488 assuming the transaction occurred on 1 January 2023.
With the REIT taking on Japanese Yen-denominated debt as a natural hedge, the average cost of debt will also fall from 3.6% to 3.3% post-acquisition.
Floating along with Bluesea
Investors may recall that Keppel DC REIT reported a downbeat set of earnings for 1Q 2024.
The loss allowance recognised on the non-payment of rental from its Chinese tenant, Bluesea, caused property expenses to balloon by 89.6% year on year to S$12.4 million.
Along with higher finance costs, the DPU for 1Q 2024 fell by 13.7% year on year to S$0.02192.
The manager continues to engage with the master lessee for the REIT’s Guangdong data centres and has communicated that the lessee is committed to resolving the situation.
For 1Q 2024, a payment of RMB 0.65 million has been made.
A recovery roadmap has been implemented and this is a preferred route to resolving the situation compared to litigation which would not only be more costly but be long-drawn.
Management is seeing signs of recovery but warned that the recovery will take time to flow through.
Capital recycling continues
Despite the non-payment by Bluesea, Keppel DC REIT has carried out other capital recycling initiatives to unlock value and optimise unitholders’ returns.
During 1Q 2024, the REIT divested the Intellicentre Campus in Australia for A$174 million, which was a 148% premium to its original investment of around A$70 million.
Part of the proceeds (A$90 million) was reinvested into an Australian Data Centre Note issued by Macquarie Data Centres Group that provides the REIT with a recurring income stream of A$6.3 million per annum at an initial yield of 6.97%.
This series of transactions is expected to lift the REIT’s 2023 DPU by 0.7%.
The manager’s expertise in capital recycling should reassure income investors that the REIT can steadily grow its DPU, excluding the effects of Bluesea.
Get Smart: Sector fundamentals remain strong
The data centre market’s fundamentals remain strong, with IndustryARC projecting that the data centre sector will grow at a CAGR of 9.6% from 2023 to 2030 to reach US$418 billion.
Keppel DC REIT is a direct beneficiary of this growth and should find more opportunities to conduct choice acquisitions.
Coupled with good capital recycling capabilities and a negotiation plan with Bluesea, Keppel DC REIT’s prospects look attractive.
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Disclosure: Royston Yang owns shares of Keppel DC REIT.
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