K-Reit Asia - Growing its Australian portfolio (DBSVickers)

HOLD S$1.33 STI : 3,078.95

Price Target : 12-Month S$ 1.32

Reason for Report : 2Q11 Results

Potential Catalyst: Potential acquistions

DBSV vs Consensus: in line anchored by long leases

• 2Q DPU of 1.93cts in line with expectation

• Forward purchase of 8 Chifley Square Sydney will grow DPU by 0.9%/3.4% in FY 11/12

• Maintain Hold and DCF-based TP of $1.32

In line with expectations. 2Q gross revenue and NPI declined by 22.2% to S$18.1m and S$14.3m respectively due to the sale of KTGE Towers but remained relatively stable qoq. The 250% increase in associates’ contribution (one-third stake in MBFC phase 1) lifted distributable income to $26.3m (+19.7%), translating to a DPU of 1.93cts. Operationally, portfolio occupancy remained fairly robust at 98% with Marina Bay Link Mall’s occupancy rising from 87% to 95%.

Forward purchase of 8 Chifley Square, Sydney. Meanwhile, K-reit announced the acquisition of a 50% stake in 8 Chifley Square from Mirvac Group. The prime Grade A office building with NLA of 205,700 sf within Sydney's prime CBD area, will be completed in 2013. The estimated acquisition price is set at a min of A$154 m to a max of A$169m (S$203m - S$223.3m) based on a 6.65% net yield pegged to a net base rent of A$1,050 psm p.a. The purchase consideration, fully funded by debt at a cost of SOR + 50bps, will be paid in 9 tranches till completion. K-reit is expected to make its down payment of AUD S$ 24.5m (S$32.2m) soon. The subsequent 7 tranches of A$16.3m (cS$21.5 m) will be made on a quarterly basis, commencing on 1 Jan’12. The final payment, upon completion, will be subjected to the actual NPI of the building to incentivise the vendor to maximize operational performance. Meanwhile, the reit will also received income upon each payment.

Downside protection structure. The vendor has undertaken to top up any shortfall for a period of 5 years to the agreed 6.65% yield. We understand that management is currently in talks with 2 major tenants to take-up 70% to 80% of space.

Maintain Hold at an unchanged TP of S$1.32. While the acquisition will benefit K-Reit in the longer term and improve the portfolio quality, initial impact on earnings and valuation is limited in our view. FY11/FY12 DPU accretion from this purchase is estimated at 0.9% to 3.4%, while DCF-backed TP remains unchanged at $1.32. Gearing is estimated to increase to c.42% post-acquisition.