Keppel REIT (K71U.SI) Earnings Call Transcript

Hi, good evening, everyone. Thank you for taking the time to join us this evening for Keppel REIT's First Half 2023 Results Briefing. I'm Tong Yan from the Investor Relations team. So before we begin, let me introduce the management team on the session. So we have Mr. Koh Wee Lih, CEO; Ms. Kang Leng Wei, CFO; Ms. Xuan Lin, Head of Investment; and Mr. Rod Yeo, Head of Asset Management. We will start the briefing with a presentation by the management team followed by the question and answer. For analysts who are joining us on the Webex platform, please be reminded to only unmute your mic during the Q&A. I'll now hand over the time to Mr. Koh Wee Lih.

Thank you, Tong Yan. Good evening, everyone. Thank you for joining us today for Keppel REIT's First Half Results Webcast. Starting with the key highlights on Slide 3. In the first half of 2023, Keppel REIT continued to see healthy operating performance. Portfolio committed occupancy remained high at 94.9%. If excluding Blue and William, which has just achieved practical completion on 3rd April 2023, the portfolio occupancy would have been 97%. The weighted average lease expiry or WALE for the portfolio remained long at 5.7 years with top 10 tenants WALE at 10.3 years. Leasing momentum continued to be stable and we have completed more than 850,000 square feet of leases and recorded a rental reversion of 8.1% in the first half of 2023. Moving on to our capital management. As at 30th June 2023, our aggregate leverage was 39.2%, while first half 2023 all-in interest rate was 2.84% per annum. Borrowings on fixed rate was 76% as at end June. We continue with the unit buyback exercise in second quarter 2023 and including those purchase earlier this year, a total of 19.65 million units were subsequently canceled during the same period. Next, I will hand the time to Leng Wei, who will provide an update on our financial results.

Thank you, Wee Lih. Moving on to Slide 5. Supported by the higher rentals and portfolio occupancy, property income increased 4.7% year-on-year. Property expenses, however, also increased due mainly to higher utility costs and property taxes as well as the inclusion of KR Ginza to following its acquisition in November 2022 and the practical completion of Blue and William in April this year. The associated companies also recorded improvements to net property income due largely to higher occupancy at One Raffles Quay and higher rentals across the rest of the associated companies. Higher borrowing costs incurred by these companies resulted in a decrease in share of results from associates when compared to the same period last year. Share of results from joint ventures increased mainly due to the commencement of new leases at 8 Chifley Square, offset partially by the depreciation of Australian dollar against the Singapore dollar. Borrowing costs increased year-on-year to $31.8 million in tandem with a higher interest rate environment, coupled with the cessation of capitalization of growing cost for Blue and William following its critical completion. Notwithstanding an overall operational improvements of the portfolio, distribution to unitholders was lower year-on-year at $109 million. DPU for the first half of 2023 was $0.029 and unitholders can expect to receive them on 8th of September this year. On to Slide 6. Deposited property dropped slightly, mainly due to a decrease in the value item of the portfolio, primarily from the Australian properties. Borrowings increased following the drawdown of loans to fund the progress payments made for Blue and William. Adjusted net NAV per unit as at 30th of June decreased to $1.31. We adopt a proactive and prudent capital management strategy. As at 30th of June this year, aggregate leverage was 39.2% and all-in interest rate was 2.84% per annum. Borrowings on fixed rates were maintained at around 76% to hedge against the rising rates. We also adopt a natural hedge strategy, we are predicable by matching the currency of the borrowings to debt of the assets. Such foreign currency denominated loans from approximately a quarter of our total portfolio borrowings. Our sustainability focused funding was increased further in the second quarter to 68% as compared to 62% in first quarter 2023. There is also no major refinancing required for the rest of this year. The remaining debt coming due in 2023 will mature in fourth quarter, while those due in 2024 will merger in the second quarter of 2024. I will now hand the time to Rodney and Xuan Lin, who will talk us through our portfolio and market updates.

Thank you, Leng Wei. Slide 9 shows Keppel REIT's portfolio breakdown by different geographical locations. Singapore remains Keppel REIT's biggest market at 79%, while Australia, Seoul and Tokyo are at 16.8%, 3.3% and 0.9%, respectively. These quality assets are distributed across different markets, which will enhance Keppel REIT's income stability and provide long-term growth opportunities. As at end June 2023, Keppel REIT's portfolio value is around SGD 9.2 billion. Moving on to Slide 10. We committed a total of more than 850,000 square feet of space or over 420,000 square feet of attributable space in the first half of 2023. Tenant retention rate was lower at around 70%, mainly due to a number of replacement tenants secured in second quarter of 2023. New leasing demand expansions were mainly from the technology, media and telecoms, banking, insurance and financial services with some government agencies in there, too. As at end June 2023, Keppel REIT's portfolio committed occupancy remained high at 94.9% or 97.0%, if excluding Blue & William and the portfolio will remain long at 5.7 years. Slide 11. Driven by the stable demand for prime commercial space, committed occupancies at our Ocean Financial Center and One Raffles Quay reached 100% and Marina Bay Financial Center and Keppel Bay Tower achieved occupancies of above 98%. In second Q 2023, 8 Chifley secured a new government tenant who will occupy approximately 100,000 square feet. Blue & William has also secured a second tenant from the banking sector and improved the committed occupancy to 37.7%. The rental guarantee on the unlet space has commenced and will continue for a period of up to 3 years from the practical completion date. Supported by steady leasing demand, portfolio rental reversion for the first half of 2023 was 8.1%. Keppel REIT's lease expiry profile remains well spread across the years. The weighted average signing rents achieved for our Singapore CBD office leases was $12.35 per square foot per month in the first half of 2023, which is higher than $12.05 in the first quarter of 2023 and average core CBD Grade A office rent of $11.80 per square foot per month. Remaining expiries for 2023 is low at 4% by attributable NLA and 3.3% by attributable gross rent. Slide 13 shows our established and diversified tenant base, comprising established blue-chip corporations and government tenants. I will now hand the time over to [indiscernible].

Thank you, Rodney. The next 2 slides provide a summary of our midyear property valuations. On Slide 14, valuation for Singapore portfolio increased 0.5% as compared to the December 2022 valuation. This is mainly from the increase in the valuation of NBFC due to higher passing rents and rental growth expectations. Slide 15 shows our overseas asset valuation. Some of our Australian assets recorded a decrease in valuation due to the softening in carry expectations, notwithstanding a number of our Australian assets remain resilient. In local currency terms, the valuations of Exhibition Street and Victoria Police Center Health firm. While Blue & William saw an uptake in value because the valuation as of June 2023 is based on completed basis while previous valuations were based on percentage completion basis. The valuation for T Tower in Seoul increased by 6.4% in local currency terms. This is again mainly due to higher rents and relatively stable transaction use in the Seoul office market. However, the valuation increase is partially offset by the weakened Korean Won. In Japan, KR Ginza II, Japan valuation -- Japan yen valuation remained stable, but was also affected by a weaker Japanese yen. On an overall basis, our total portfolio valuation decreased by 0.1% in Singapore dollar terms. Moving on to Slide 16. There are -- these are the ESG activities that will carry out in the second quarter and included an Eco-Gardening Day with tenants from One Raffles Quay and Marina Bay Financial Center as well as a Bento-Making Workshop with the beneficiaries of MDAS. Slide 17 shows the various recognitions we have received so far in our sustainability journey. We remain committed towards making sustainability a key part of our business and work towards the ESG targets that we have set. The next 4 slides will provide an overview of the various markets, which Keppel REIT has presence in. In Singapore, average core CBD occupancy increased to 94.8% and average core CBD Grade A office rents registered an increase to $11.80 per square foot per month. In Australia, JLL Research noted that the prime grade office occupancy for core CBD increased in the second quarter while Sydney, North Sydney, Macquarie Park and Melbourne CBD recorded declines in occupancy. In terms of rental performance, Sydney and Melbourne CBD recorded increases while rents for North Sydney, Macquarie Park and Perth CBD recorded marginal declines. So CBD office market remains robust while grade A office occupancy rate decreased slightly from 98.5% to 98.1% in the second quarter. Rental rate increased 2% quarter-on-quarter to more than 126,000 per py pm . Grade A offices in Tokyo Central 5 wards recorded a decrease in occupancy to 95.2%, while Grade B occupancy maintained at 96.1%. Rents for Grade A and Grade B offices observed a decrease of 1.5% and 1.8% respectively, but the rate of deceleration has been slowing. That concludes our presentation and we open the session to questions.

Thank you, Xuan Lin. [Operator Instructions] So we have the first question from Rachel.

Congratulations on a very strong leasing rents that you have managed to talk in. Just a few questions from me. I think, firstly, maybe just to give us a sense in terms of the leasing interest for Blue & Williams. I know you have signed the second tenant [indiscernible].

Rachel, we cannot hear you.

Oh, sorry, sorry. Okay. First question, I think for Blue & Williams, could you give us a sense on how the leasing interest like and whether we can expect a higher committed occupancy by second half of the year? And also secondly, maybe just on rental reversions. If you could give us second quarter rental reversions and first half rental reversions.

Yes. So I'll start first, and I think Rodney can add to that. I think the first half is 8.1% overall portfolio itself. So in terms of Blue & William, I'd say, actually, the second lease that we signed had exceeded our expectations. So it's going very well. We have a few leases under the agreement. So hopefully, in due course, we can convert that to leases. Right now, leasing momentum continue to be strong because I think the quality of the building as well as the location. If you have seen some of the pictures that we have flash, I think the Vista is very good. We remain confident on the leasing prospects. Like I say, there is a rental guarantee from the developer land lease itself. So we are right now focusing on trying to get in the right tenants. So for the building that will actually will stay beyond the first turn itself. Rodney?

Yes. I mean, basically leasing momentum or at least viewing momentum at Blue & William has been very good, especially in the last month or so. So we've got a fairly full list of prospects that you are looking at. And I think hopefully, by in the next 2 quarters, we can convert a large amount of these prospects and then the building will be essentially quite well leased.

Yes. So and to add to that, again, even in 8 Chifley, we have achieved some good leasing momentum as well. And again, I think it's building specific. So I think we have invested in our buildings and so they are attracting, I think, the right tenants like say, this, despite quality which we are seeing across our portfolio right now.

Does that mean -- does that from the positive statement that you have been saying in the leasing momentum. Does it show that the Australia office leasing has sort of turned around? And do you see any interesting transactions in the market that you might be interesting.

I think this quarter we've had -- this past quarter, we've had some good leasing momentum. Also note that we have leased up also more 8 Chifley to a government tenant. So the government tenant has taken over some existing space and added to and grow in the building -- wants to grow in the building. So I think, hopefully, for 8 Chifley by the end of the year, we should be also close to 100% leased. Not much space left to kind of talk about 8 Chifley. So I think this past quarter, leasing has been going quite well in our Australian portfolio.

Transaction market, any interesting ones?

Sorry, can you repeat your question again, you got cut off there.

Transaction market, are you seeing with a positive leasing momentum. Are you seeing that there could be potential acquisitions that is interesting for you to acquire? Is it time really.

Yes. We continue to look at opportunities there. Again, like I say, right now, we continue to exercise prudent and caution in the market. There has been some transaction going on in the market right now. But those, again, I would caution, are slightly older building. Some of them require value-add strategy. So not really -- you can't really compare apples to apples to our so-called more core or prime kind of building itself. So we continue to be prudent. Obviously, I think we like to grow the portfolio but at the right time for the right asset. And one strategy that we could potentially adopt is capital recycling or portfolio optimization because we also have a close eye on our leverage itself, yes.

Yes. I have 3 questions. First one is how much more share buyback will you do? And can you do? Secondly is on the B&W lease wise -- Blue and Williams lease, what is the rent that you signed for the 37% versus the rental guarantee implied rent. I mean the land lease is supporting you at a certain level, but I just want to note that the 37% that your size is above or higher than that? And then lastly, what is the -- with the revaluation exercise, does it mean that the next revaluation exercise you probably do it in December '24?

No. Let me take the share buyback and valuation exercise. And I think land lease, Rodney will talk about the leasing question. Valuation exercise, we still have to do a full year valuation end of the year itself, right? So you'll see another one after our year-end result announcement. There will be a full valuation again on property. I think we do believe in the robustness of our property, that's why we do a midyear just to demonstrate where the market values are there. With regard to share buyback, again, I think a sensitive issue, let's say, how much you're going to buy back and stuff like that but what you can get it from our action is we remain committed to our unit price as well as DPU. That's why I think we are prepared to intervene when necessary. Maybe back over to Rodney to talk about the leasing.

Yes. So for the question on Blue & William leasing, right? The 2 leases that we signed for the 37.7% in the building, they both were above our kind of underwriting when we acquired the building.

Is it very much higher? I just want to get a sense, is it like 20% higher? Or is it very close to what the land lease was supporting at?

It's about 8% to 12% higher than what we underwrote.

Just a follow-up on the share buyback question. How should we think about share buyback versus your gearing? Is there a limit where you're going to say that I'm going to also watch on my gearing. And can we use that as your capacity for share buyback.

This is Leng Wei. Of course, using share buyback is just one form of how we intend to use up some of our capital and that's part of capital management. Of course, we will definitely take a real leverage as one of the key consideration because that's using our debt pay room. I think -- I just know what Wee Lih mentioned, we are not because it's also very sensitive issue on how much we are buying and what price we are buying it. So we will not go into details on that quantum. But definitely, we will balance it against all other users taking into account, the distributions or anniversary distribution that we're giving out including a share buyback. So right now, we are still at below 40%, we have very good debt headroom even before reaching this 40% or 42%.

And then just a follow-up on debt -- on the funding side. Could you give us a sense as to what your floating debt are denominated there? And what would the debt refinancing during 2Q and your refinancing costs?

The floating that I think we have a portion on Sing dollar, which is on SORA. Now we have converted to [indiscernible] and Australian dollars is a DBS subdued. So just on floating rate, I think you can see that including margins, we will be at across 4% and [indiscernible] floating will be crossing 5% just on float. We actually did not do any major refinancing activities during this quarter. Just a little portion is really due to one of our IBOR transition, which is to convert one of our Seoul loan into SORA. So there has no major impact or it's not really considered refinancing event that has impacted us in this quarter. In fact, you see that we have hedged up a little bit more. The hedging was also done earlier. We have entered into some forward hedges, but those have taken effect this quarter. So those are actually at better rates than current.

Okay. Sure. And then lastly, just on the Australia leasing market. Could you comment a little bit on the incentive level, especially on the newly signed basis?

The incentive levels actually for the last few quarters have been quite stable in the mid-30s. So not much change from there. What actually we see is rental levels, I think the keep up. So yes, that is a stable, but the rents moving up, especially in Sydney.

Can we have Terence from JPMorgan.

Thanks, Wee Lih and [indiscernible] . Just wanted to ask a little bit on the deep view. I noticed that actually, they seem to have increased on a Q-on-Q basis. Could you maybe share a little bit about why there was an increase on a Q-on-Q.

Sorry, you're comparing to 1Q? Is it.

Yes, between 1Q and 2Q. So 1Q looked like it was probably closer to about 1.34% and then 2Q is about, almost 1.56%.

Actually, those are not the numbers. I think is it because you have us put in a $10 million of anniversary distribution only in the second quarter?

I mean okay. Maybe I'll take that offline. I did strip out, but it seems like it did go up Q-on-Q. But can I still ask were there any one-off distributions or expenses this quarter?

We had some one-off income for the first half of this year, about $1.2 million. Yes, it's actually about the same level as year-on-year, same as first half last year.

Right. Okay. And in terms of the aggregate leverage, really, you mentioned that we are currently comfortable, but you are also looking at capital recycling. Could you share a little bit more on what assets that you could look to recycle then? What is the level that you are likely to try and keep gearing yet?

Yes. Again, like I said, Keppel has been consistent in our portfolio optimization strategy, which part of it is capital recycling. Again, like I said, definitely, we are not looking to raise fresh equity at the current discount rate. So potentially, if we were to go into a new acquisition, one way we could do that is through capital recycling. But right now, again, nothing has been firmed up on which asset to recycle but I think management and the team is constantly looking at this just to manage the overall portfolio, like say, I think I also shared with the team, I think with analysts during first Q, a lot of emphasis is put this year on asset management as well as capital management. So that will continue to be our focus going forward.

Right. So currently, I mean, at the current level of gearing. Yes, still comfortable. I mean even with the further capital commitments in terms of the anniversary distribution.

We are definitely comfortable that I think you must look at our debt maturity profile is well spread out and things like that. But having said that, of course, we are constantly thinking ahead. And definitely, I think we will plan to like say, if in the event that leverage has to go up too high, we will definitely do something to pair it down accordingly.

Okay. And could you touch -- my final question. Could you touch a bit on the Ginza, how is leasing interest coming along?

Yes. Actually, leasing is coming on very well, I would say. And we hope to be able to share some good news with the investors and analysts in the very, very near future and let's put this way. I think definitely, there has been a focus for our Japan office, our Japan team there as well as management here. But rest assured that, that is being taken care of. And once we sign any significant leases, we will make the necessary announcement and share the good news with everybody. But we are definitely very confident of the asset that we have bought and how it's panning out.

Donald, you have to go next.

A couple of questions. Referring back to your incentives earlier, could you share the incentives for the lease-up by asset on Blue & William, Pinnacle and Chifley. How has it differed and how has it trended?

It's not something that we normally share. It's kind of a confidential tenant information. I don't think it's appropriate to share it with the market.

Sure. But is there a trend between building a CBD incentives and North Sydney and a little bit more decentralized incentives?

I think it's generally, okay, so a clinical office part, we've been doing spec suites and that process has gone very well. We've leased up all except one of our spec suites at the Pinnacle Office Park. And we're looking actually to do another round of spec suites for an upcoming vacancy in the building. It seems to work quite well. When you top up the space, we get higher rents depending on the length of the lease, that determines your incentive level, right? So if you look at it on a 5-year basis, it's actually a very comparable incentive level to the CBD leases.

Those are for what the 100 square meter?

No. Generally, 200 square meters to 400 square meters. So a clinic office part, the last couple of years, what we've seen is a trend towards kind of smaller leases. So tackle that trend and whole floors or half floors, and it worked well for us. Again, higher rents, a decent incentive level, if you look at it on a 5-year basis.

Your leasing CapEx is comparable to the incentive level that you're getting across your Australian portfolio, roughly?

Yes, more or less.

And you're going to do more spec suites for Pinnacle?

Yes, we are.

Okay. On the transaction -- sorry, do you want to say something?

No, no. I mean it's not only at Pinnacle because we see certain buildings in Australian portfolio, we can take half floors and do a 2-stack suites or thereabouts. It's something that we consider because I think in general, the lease sizes have gone down over the last couple of years. But we are starting to see a little bit more interest from kind of 500 to 1,000 square meter kind of prospective tenants. That market seems to be coming back a little bit. So we're kind of waiting and seeing but I think the spec suite less than a full floor kind of a spec suite program has been successful and I think we will continue to be successful.

Yes. But because a lot of your competitors are also doing that. So within -- are you seeing a big saturation of spec suites.

Actually, the market is obviously wider and deeper for smaller tenants. So there is a -- the pie is larger, so to speak.

Understand. On the transaction market, you were talking about potential recycling but for Australia, what is the big aspect now? Do you see that narrowing?

They are spread.

Are there any inquiries for your assets? I mean that will always be inquiries, right? But has the pricing has it if I compared to say 12 months ago, are people more willing to do deals at a tighter number? How is the trend like?

Well, I think if you take the cue from the recent transactions, right, like 44 markets and stuff like it. But again, like those is order vintage and stuff like that. Yes, more and more value-add kind of strategy and some of the transactions, campaigns that were put out, I think they didn't get a satisfactory kind of bid. So I think the vendor continue to hold on to those asset itself. Again, I think the Prime Office continued to perform well, like what is shown in our portfolio and say we are not actually looking to those buildings will be very, very, I think, confident of our valuation, like what you have seen this time. I think some of the higher quality ones continue to maintain the valuation that they have. Obviously, the non-CBD one may ever greater increase in cap rate, but still I think leasing our assets as we track now.

Okay. So recycling is something that you guys are always looking at but at this point, the market is not producing. I think it's safe to say still at this point.

I think, like I say, we're also not a desperate seller. I think we will prepare to do a deal when the price is right itself. But definitely, we are not looking to sell any asset at a distressed price. I think we are, let's say, good leasing momentum seeing at our property itself continue to lease well. So we are currently enjoying those income.

My last question on Singapore. Any shadow space that you're looking at this point? And can you remind me, just now you said, do you say rental reversion was 8.1%. Was this just for the whole portfolio or...

Portfolio for first half.

Just for Singapore?

For first half, it will be around -- also close to 8%.

Fairly stable.

It's fairly stable up. We currently don't have any shadow space within our portfolio. So like I said, we have achieved 100% for ORQ right now as well as OFC. So we will continue to monitor this space. I mean definitely, there are shadow space around, but sometimes may not be an exact feed, right? It may just be a tail end of lease itself and depending on the fit out, you like it or not. So it's not easy. But of course, this is the space that we closely monitor just in case that it will impact our portfolio. But so far, we're not seeing that impacting our portfolio in any significant way.

Michael for UBS.

I've got a couple of questions. If I were to look at your adjusted ICR in Q2 of -- in the first half of this year, it's 3.0x. In Q1, I think it was 3.2x. What is it specifically for the second quarter?

Michael, I think we don't calculate on a Q-on-Q basis, also because, I mean, for MAS, this particular definition requires it to be on a rolling basis. So it is more meaningful to look at it on a year-on-year -- on the point at the point.

So my reason being, if I look at it, it's been coming off. So what confidence can I get that? It's not going to move down to what, say, the 2.5x level by year-end?

I would say that I mean, this coming year, we expect the interest rate to really come off, to stabilize. I mean, of course, we are expecting more news on hike, but we believe that the rates -- forward rates have largely been priced in. So we are still -- we still have quite a good buffer from the 2.5x that is stipulated by MAS, and that really only applies if we intend to exit a 45% of good leverage. So it's not going to mean like a breach of covenants or anything for us, definitely. In fact, this is really just an MAS requirement for us to keep our own gearing or aggregate leverage intact. So we still have quite a good way to go. I mean we're at 3.0x even in this very challenging environment for us.

Okay. My next question is on the tenant at 8 Chifley. You said you got a new government tenant. Can you give us a sense of the rents that they are paying? Is it higher or lower versus the space that's been vacated by the previous tenant?

Yes. It's about a 10% positive reversion on that one.

Okay. And how quickly can you fill up the remaining space?

We've got heads of agreement for another 2 floors. So I think we expect that 2-floor stack of village to be under contract in the next 30 days, which leaves us only half a floor to lease. So that half floor, yes, we might do a couple of spec suites on the half floor, it's about 500-plus square meters, and then we'll be both. So I think, hopefully, by the third quarter, results, we will be close to 100%, if not at 100%.

Okay. That's great. And my final question is on earlier, you mentioned there was $1.2 million of one-off income. What's that for?

Those are for various reasons, I mean, there could be some settlement from some of the tenants, not huge individually.

Okay. I assume that's what Singapore.

Largely for Singapore.

Jonathan from KBN.