K-Reit Asia - Expected move, unexpected timing (DBSVickers)

HOLD S$0.93 STI : 2,724.69

Price Target : 12-Month S$ 1.32

Reason for Report : 3Q results, company update

Potential Catalyst: Improved global economic conditions

DBSV vs Consensus: Slightly below

• Results in line, 9M DPU forms 78% of our FY11F estimate

• OFC acquisition, a long-term strategic positive

• Limited near term sector catalyst; maintain Hold

In line with expectations. 3Q gross revenue and NPI declined by 14.5% y-oy and 16.3% to S$18.6m and S$14. 6m respectively due to the sale of KTGE Towers, which was partially offset by contributions from its Australian portfolio. The 4.6x increase in associates’ contribution (one-third stake in MBFC Phase 1) lifted distributable income to S$26.7m (+17.7%), translating to a DPU of 1.96Scts. 9M DPU forms 78% of FY11F estimates. Portfolio occupancy remained healthy at 98% with limited leases up for renewals for the remainder of the year.

Strategic long-term positive move. Separately, K-Reit announced that it is purchasing an 87.5% interest in Ocean Financial Centre (OFC) from Keppel Land at S$2.013b or S$2,600psf including an income support of S$170m until end 2016 or 4.25% cap rate. Net of the S$441.8m adjustments including ongoing construction of the carpark and retail podium and other transaction costs, total consideration will be S$1.578b. Although timing was a little unexpected, we see this deal as a strategic long-term positive for Kreit with the ability to deepen its presence in the prime CBD area, upgrade its portfolio quality as well as ensure a strong and stable income stream for unitholders through the long leases and a blue chip tenant base. Committed occupancy at OFC is at 79.6% with underlying monthly rent of $9psf. Kreit will fund the purchase with S$602.6m debt (38%) and S$976.3m (62%) of equity through a 17-for-20 rights issue at 85Scts per unit. Gearing is expected to head up to 41.6% post acquisition.

Maintain Hold. Our current numbers have not included the OFC acquisition. In terms of financial impact, the purchase is likely to be accretive, lifting our FY12 DPU estimates by 4.4% on a fully diluted basis while book NAV per unit could moderate to cS$1.19 based on Dec 2010 balance sheet due to the enlarged unit base. In terms of valuation, our current target price of $1.32 could potentially be diluted by 11%, after taking into account the expansion in issued units and factoring in the additional contributions as well as rolling forward into FY12 numbers. Post acquisition, we believe Kreit would gain more brand recognition and visibility as the largest prime commercial landlord and as the 3rd largest Sreit by asset size. However, current global macro uncertainties could likely be an overhang in the office sector. Maintain Hold.