Keppel DC Reit reports 13.7% lower Q1 DPU of S$0.02192 amid loss allowances

 

KEPPEL DC Reit posted a 13.7 per cent lower first-quarter distribution per unit (DPU) of S$0.02192, compared with S$0.02541 in the year-ago period.

 

Gross revenue was up 18.4 per cent to S$83.4 million for the quarter, from S$70.4 million in Q1 FY2023.

 

This was mainly due to a settlement sum received in relation to a dispute with DXC Technology Services, and positive reversions and escalations, said the manager on Friday (Apr 19).

 

The manager noted that the S$13.3 million settlement sum from DXC has been received in full. After the deduction of related expenses and taxes, distributable income of about S$11.2 million will be distributed equally over four quarters in FY2024.

 

The Q1 rental income from Guangdong data centres (GDCs) continues to be recognised under gross revenue, correspondingly net off via loss allowance in property expenses, said the manager.

 

Property expenses for the period, as a result, rose 89.6 per cent to S$12.4 million from S$6.5 million the year before.

 

DPU for Q1 was reduced by S$0.00326 due to the GDCs' leases. The quarter' s DPU would be S$0.02518, down 0.9 per cent from the previous year, if not for the impact of rental arrears.

 

In the second half of FY2023, the real estate investment trust (Reit) reported a S$10.5 million loss allowance to account for the rental owed by the tenant of GDC 1, 2 and 3 &ndash Guangdong Bluesea Data Development. The loss allowance affected FY2023 DPU by S$0.00649.

 

For Q1 FY2024, net property income grew 11.2 per cent on the year to S$71 million for the quarter, from S$63.9 million.

 

Distributable income for the period declined 16.3 per cent year on year to S$38.8 million, from S$46.3 million.

 

" Distributable income and DPU were also impacted by higher finance costs and less favourable foreign exchange hedges in 2024," said the manager.

 

Finance costs for Q1 was up 23.7 per cent on the year to S$13 million from S$10.5 million.

 

As at Mar 31, 2024, the Reit' s aggregate leverage stood at 37.6 per cent, up 20 basis points from Dec 31, 2023. Interest coverage ratio for the trailing 12 months stood at 4.6 times, from 0.1 times as at end-2023.

 

Portfolio occupancy stood at 98.3 per cent as at the end of March. Portfolio weighted average lease expiry (Wale) was 7.4 years by lettable area. Wale by rental income was 4.3 years, as a higher proportion of rental income was from co-location assets, which typically have shorter contractual periods, the manager noted.

 

Keppel DC Reit acquired its first data centre in China from Guangdong Bluesea Data Development &ndash a unit of Neo Telemedia &ndash for 635.9 million yuan (S$119.8 million) in July 2021. Around a year later, the Reit acquired two more data centre facilities from Bluesea for 1.6 billion yuan.

 

Neo Telemedia, the GDCs' master tenant, has been in financial distress. In its 2022 annual report, its independent auditors said there was material uncertainty that may cast significant doubt on the group' s ability to continue as a going concern. It reported a net loss of HK$179.6 million (S$30.8 million) for the first nine months of FY2023, compared to the HK$23 million net profit of the year before.

 

On Jan 26, chief executive of the manager Loh Hwee Long said that the Reit is taking a " collaborative but firm" approach, which is preferable to litigation, to resolve the rental arrears issue. He also noted that the Reit retains the rights to terminate the master leases, and its sponsor Keppel has the resources to take over the operations if appropriate.

 

Last December, the Reit issued a letter of demand to the tenant to recover 48.3 million yuan in arrears to date, as well as a request for a top-up of security deposits of 32.2 million yuan.

 

The team at DBS Group Research has kept its &ldquo buy&rdquo call and target price of $2.20 on Keppel DC REIT after the REIT announced, on April 16, that it has agreed to divest its Sydney data centre for A$174 million ($152.1 million).

 

The REIT manager entered into a sale and purchase agreement (SPA) on April 15 to divest its 100% freehold interest in Intellicentre Campus to Macquarie Data Centres Macquarie Park Property SubTST Pty Ltd, a wholly-owned subsidiary of Australian-listed Macquarie Technology Group Ltd. Macquarie Technology Group is the ultimate parent company of Macquarie Data Centres Pty Limited, which is the property&rsquo s existing tenant. The group also owns facilities which house data for some of the world&rsquo s biggest hyperscalers, clouds and 42% of the Australian Federal Government.

 

Intellicentre Campus is located within the Macquarie Park in the north of Sydney and is 12km from the Central Business District. Macquarie Park is a research and business park in Sydney with a high concentration of companies in the communications and information technology sectors.

 

The agreed value represents a 35.4% premium to the property&rsquo s valuation of A$128.5 million as at the REIT&rsquo s FY2023 ended Dec 31, 2023. The amount is also 148.6% higher than the data centre&rsquo s purchase price of around A$70.0 million. The divestment represents an exit cap rate of approximately 3.6%.

 

After the sale, the REIT says it will re-invest A$90 million of the proceeds into an Australia Data Centre note (AU DC note) issued by Macquarie Data Centres Group Pty Ltd and guaranteed by Macquarie Technology Group. The REIT will retain its exposure to the Australian data centre market and receive a regular income stream starting from about A$6.3 million per year through the AU DC note. The income stream comes with a consumer price index (CPI)-linked annual escalation mechanism for 8.5 years.

 

According to the REIT, the income from the note will mirror the rental the REIT would receive from Intellicentre Campus if the asset was held for another 8.5 years.

 

In line with the sale, the REIT manager will repay its existing loans of about A$43.2 million relating to the original investment of the campus. The remaining net sale proceeds of about A$22.3 million, subject to closing adjustments, will be used for repaying debt, funding acquisitions, capital expenditures and, or working capital.

 

The transactions are expected to be accretive to Keppel DC REIT&rsquo s distribution per unit (DPU) by 0.7%. If the transactions had been completed on Jan 1, 2023, the REIT&rsquo s pro forma DPU would have been 9.446 cents, up from its reported 9.383 cents. They are expected to be completed by 4Q2024.

 

&ldquo As a whole, these transactions are DPU-accretive and present a unique opportunity for Keppel DC REIT to crystallise value from its investment in Intellicentre Campus at a highly attractive premium, while continuing to earn recurring income that mirrors the rents that we have been receiving from the asset,&rdquo says Loh Hwee Long, CEO of the manager.

 

&ldquo They also attest to the manager&rsquo s proactive portfolio management strategy and commitment to optimise unitholders&rsquo returns, while improving the resilience of Keppel DC REIT&rsquo s earnings. Post-transactions, Keppel DC REIT remains well-positioned to pursue further growth opportunities, supported by a strong balance sheet,&rdquo he adds.

 

In its April 16 update, the DBS team notes that the deal is &ldquo quite attractive&rdquo as it shows the REIT&rsquo s ability to unlock value within its portfolio by divesting its assets at healthy premiums and low exit cap rates.

 

&ldquo The investment into the AU DC note serves to offset the loss of income from the divested asset, providing a smoother income stream over the next 8.5 years,&rdquo the team adds.

 

Furthermore, the move will reduce the REIT&rsquo s gearing by 36.6%.

 

That said, the team remains sceptical, as it questions the REIT&rsquo s manager&rsquo s intentions on transitioning to a fixed-income investor from an equity and, or property investor.

 

Other questions include the Macquarie Group&rsquo s motivation behind the high premium and attractive coupon on the notes, as well as untapped potential that&rsquo s not yet been explored within the property.

KEPPEL DC REIT MANAGEMENT PTE. LTD.

 

On April 2, Hong Kong-listed Neo Telemedia announced that trading in its shares will be suspended. On March 20, in an announcement to the Hong Kong Exchange, Neo Telemedia had said there could be a delay in the publication of its annual results announcement for the 12 months to end-December 2023.

 

&ldquo As at the date of this announcement, the Company is still in the process of collecting and collating the necessary information and documents from its subsidiaries as required by the auditor of the Company, HLB Hodgson Impey Cheng to complete the auditing process, and hence additional time is required for the Company to prepare the 2023 Annual Result,&rdquo Neo Telemedia said in a Hong Kong Exchange filing.

 

Since then, Neo Telemedia has announced that it is not able to publish its results by end-March as required by the Hong Kong listing rules.

 

This matters because Neo Telemedia is the master lessee of Keppel DC REIT&rsquo s AJBU 0.59%   (KDC REIT) three Guangdong Data Centres (Guangdong DC1, Guangdong DC2, Guangdong DC3). According to KDC REIT&rsquo s annual report, China is the largest geography by net lettable area (NLA) at 21.6%, followed by Germany with 20.8% and Singapore with 19.2%. 

 

In FY2023, the Guangdong DCs &ldquo attributable rental&rdquo should have been $24.8 million, but the master lessee Neo Telemedia did not pay rent for five and five and a half months in 2HFY2023. KDC REIT&rsquo s full-year revenue rose 1.4% y-o-y to $281.2 million.

 

As at end-December, the carrying values for Guangdong DC1, DC2 and DC3 were $131.1 million for DC1 and DC2, and $12.1 million for DC3. Together, they accounted for 7.5% KDC REIT&rsquo s portfolio valuation of $3,655.9 million.

 

&ldquo The valuations of the Guangdong DCs 1-3 were based on in-place lease agreements given the ongoing discussions with the tenant, performed by an independent valuer. In the event where an update valuation is required, the Manager will obtain independent valuations for these assets from the independent valuer and provide the necessary updates,&rdquo KDC REIT&rsquo s manager says.

 

In December 2023, the Manager issued a letter of demand for default on rent and coupon payments in relation to Guangdong DC 1, 2 and 3. The Manager is working with the tenant on a recovery roadmap, and will continue to address the situation actively so as to protect the interests of the REIT.

 

The Manager has retained its rights to terminate the master leases, and Keppel has resources to take over the operations, if appropriate. Keppel DC REIT has also reserved its rights under the framework agreement in conjunction with the acquisition of Guangdong DC 3 in June 2022.

 

KDC REIT&rsquo s unit price is down some 10% since the start of the year, and its FY2023 DPU translates into a historic yield of 5.45%. FY2024&rsquo s yield is likely to be impacted by the absence of contributions from the Guangdong DCs.

 

Net asset value (NAV) may be slightly impacted by a revaluation loss from the Guangdong DC but this could be offset by gains elsewhere. Moreover, KDC REIT could acquire a property in a jurisdiction where there is a positive carry.

 

During its results briefing in January, Loh Hwee Long, CEO of KDC REIT&rsquo s manager, said the REIT had $170 million in debt headroom for acquisition opportunities. &ldquo We continue to relook and review our portfolio to optimise returns. We are open to divestments if we see value that we can unlock and redeploy towards more accretive new acquisitions,&rdquo he had said.

 

Separately, on Feb 13, KDC REIT&rsquo s manager announced that its tenant in Singapore, DXC Technology Services Singapore, in which it is in dispute over DXC&rsquo s partial default of payment in connection with the provision of colocation services at 25 Serangoon North Avenue 5, had settled.

 

Keppel DC Singapore 1 (which owns 25 Serangoon North Avenuue 5) and DXC have reached a commercial and amicable resolution to the dispute. Payment of the agreed settlement amount of $13.3 million will be made by DXC to KDC by April 2024, as full and final settlement of the dispute.