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Analysts lower TPs on Keppel DC REIT; CGS-CIMB downgrades to ‘hold’

Felicia Tan
Felicia Tan • 5 min read
Analysts lower TPs on Keppel DC REIT; CGS-CIMB downgrades to ‘hold’
Keppel DC REIT's Guangdong DCs 1 & 2. Photo: Keppel DC REIT
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Analysts have issued downgrades on Keppel DC REIT due to its issues with its Guangdong data centre tenant.

CGS-CIMB Research analysts Natalie Ong and Lock Mun Yee have downgraded their call on Keppel DC REIT to “hold” from “add” previously as they see the “high likelihood” of the REIT’s tenant, Guangdong Bluesea Data Development defaulting on rent.

In their report dated Jan 27, the analysts note that the REIT’s positive reversions were wiped out by margin compression and provisions for doubtful receivables accrued by Guangdong Bluesea.

“[The REIT’s] FY2023 [ended Dec 31, 2023] distribution per unit (DPU) of 9.383 cents (- 8.1% y-o-y) missed [expecatations], at 91.7% of our FY2023, largely due to higher finance cost ($17.5 million/+56% y-o-y) and the Bluesea provision, which accounted for 0.649 cents, or 6.3% of our FY2023 DPU,” the analysts write.

Ong and Lock are also expecting to see the worst for Guangdong data centres (DCs) 1, 2 and 3. The REIT’s management had shared that the tenant made a payment of just RM0.5 million ($94,940.85) compared to its letter of demand (LOD) for RMB48.3 million.

As such, they think that the tenant would not be able to fulfill its rent obligations and Keppel DC REIT would eventually need to replace the tenant.

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“We have assumed no rent contribution from Bluesea for FY2024 and for Keppel DC REIT to take over Guangdong DCs 1 and 2 from FY2025 onwards and gradually lease out the asset,” write Ong and Lock.

“Meanwhile, the management said that it is reserving its right to terminate the purchase of Guangdong DC 3 (as a fully fitted asset), which has exceeded the long stop date of Oct 31, 2023, and would consider divestment of Guangdong DC 3 (as a shell and core asset) as a potential option,” they add.

To this end, while the valuation for the REIT’s China assets was not impaired in FY2023, it could see the risk of devaluation if the master lease at Guangdong DCs 1 and 2 are terminated, in their view.

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In addition to their downgrade, the analysts have slashed their target price estimate to $1.88 from $2.53 as they lower their DPU estimates for the FY2024, FY2025 and FY2026 by 22.6%, 18.0% and 17.5% respectively.

The team at OCBC Investment Research has kept its “hold” call but with a lower fair value estimate – or target price – of $1.81 from $2.02 previously.

While the team likes the REIT for its strong proxy to the growing demand for data centres and its relatively lower refinancing risks compared to its peers, it remains concerned over the credit profile of its master lessee at its Guangdong DCs.

“[The] following rental arrears have created uncertainties over Keppel DC REIT’s distributions outlook,” says the team in its Jan 26 report.

Keppel DC REIT’s 2HFY2023 and FY2023 results also fell short of the OIR team’s expectations due to the rental arrears.

On operational metrics, the team believes that the outlook is uncertain despite “robust” headline metrics.

With “scant” details on working with the master lessee on a recovery roadmap and amid the current challenging macro and industry conditions in China, the team believes the prospects remain “dim” and thus expect more provisions ahead.

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However, all is not lost. The team points out that there were positive developments on its litigation with one of its tenants DXC Technology Services Singapore Pte Ltd (DXC), with the Singapore High Court issuing a judgment in favour of Keppel DC REIT in January. The dispute is scheduled for trial in February 2024, which is largely to determine the actual quantum to be paid to Keppel DC REIT by DXC.

Unlike his peers, Citi Research analyst Brandon Lee has kept his “buy” call unchanged, as he likes the REIT's valuations.

That said, he has cut his target price and DPU estimates as well, seeing that the REIT needs earnings mitigators in China.

“We believe it may be challenging for Keppel DC REIT to fill up China’s income gap (11% - 14% of DPU) in the near term, but three drivers (DXC settlement, acquisitions and SG occupancy improvement) could mitigate the fall,” Lee writes in his Jan 28 report.

The analyst has cut his FY2024 DPU estimates by 3.0% to 8.90 cents and his FY2025 DPU estimates by 7.9% to 9.31 cents on expectations of lower occupancies.

Alongside a higher discount rate, Lee’s target price is lowered to $2.07 from $2.18 previously.

DBS Group Research analysts Dale Lai and Derek Tan are the most bullish of the lot with an unchanged "buy" call. While their target price is lowered to $2.20 from $2.45, it is still the highest among the target prices estimated by their peers.

While Keppel DC REIT's FY2023 DPU missed their projections by 6% due to the rental default at the Guangdong DCs, Lai and Tan remain positive on the REIT's outlook. Among the factors is the REIT's priority towards a "collaborative but firm" approach in its discussions with the Guangdong tenant rather than opting for litigation.

Keppel DC REIT, which has a portfolio of quality data centres in Asia Pacific (APAC) and Europe, will continue to benefit from the structural tailwinds of the sector, note the analysts. 

Accretive acquisitions made over the past year will drive earnings while the REIT's asset enhancement initiatives (AEIs) will generate organic growth.

"For FY2023, the full-year contribution from acquisitions will support earnings growth, and the protracted completion of Guangdong DC 3 will lead to a higher income contribution from the asset," write Lai and Tan.

Furthermore, the resumption of accretive acquisitions - which slowed down notably over the past year due to stubbornly low capitalisation rates and rising financing costs - will be the main catalyst.

"With interest rate hikes seeming to have slowed and potentially stabilising, Keppel DC REIT could resume accretive acquisitions in the near future," say the analysts.

As at 11.27am, units in Keppel DC REIT are trading 5 cents lower or 2.84% down at $1.71.

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