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Is Keppel REIT’s Manager Signalling That The REIT’s Units Are Undervalued?

Keppel REIT (SGX: K71U) invests in commercial properties in Singapore and Australia. In Singapore, it owns Ocean Financial Centre (99.9% interest); Bugis Junction Towers (full interest); and a one-third stake in One Raffles Quay, Marine Bay Link Mall, and Marina Bay Financial Centre Towers 1, 2 and 3. In Australia, it has assets in Sydney, Melbourne, Brisbane and Perth. In all, the REIT’s assets under management stood at S$8.5 billion as of 30 June 2018.

On Monday, Keppel REIT announced its financial results for the second quarter ended 30 June 2018. It reported a 29.6% year-on-year increase in property income to S$51.7 million. Net property income grew 35.5% to S$43.2 million, while distribution to unitholders inched up 1.9% to S$48.3 million.

The headline numbers looked good but what stood out for me is the fact that Keppel REIT is looking to initiate a unit buy‐back programme. In its latest earnings update, the REIT said (emphasis mine):

“The Manager also intends to initiate unit buy‐backs pursuant to the mandate obtained at the annual general meeting in April 2018 as part of its proactive capital management strategy. Subject to market conditions and taking into account the restrictions under the Singapore Code on Take‐overs and Mergers, the Manager currently intends to buy back up to approximately 1.5% of issued units over 6 months.

In considering the buy‐back of units, the Manager will only purchase units when it is accretive to distribution and net asset value per unit, while maintaining the REIT’s financial capability for strategic opportunities. In view of the planned buy‐backs, the Distribution Reinvestment Plan (DRP) will be suspended.”

I see Keppel REIT’s intention to buy back its units as a signal to the market that its units could be undervalued. Furthermore, when Keppel REIT actually starts repurchasing its units, it could be a stronger signal that its units are indeed undervalued, due to the highlighted comment above.

82.5% of Keppel REIT’s income come from Singapore while the remaining 17.5% is from Australia. With the majority of Keppel REIT’s rental income coming from Singapore, changes in the Singapore office property market will affect the REIT. Fortunately, the commercial Grade A real estate market is improving. Keppel REIT commented in its 2018 second quarter earnings update:

“According to CBRE, office occupancy in Singapore’s core CBD remained stable quarter‐on‐quarter (q‐o‐q) at 94.1% in 2Q 2018. Average Grade A rents rose q‐o‐q from $9.70 psf pm in 1Q 2018 to $10.10 psf pm in 2Q 2018. Medium‐term rental outlook remains positive in view of tapering supply pipeline and recovering market fundamentals”

Office rental rates have been improving since bottoming out in the middle of last year. If Keppel REIT is unable to find more yield-accretive office property deals in Singapore, buying back its units makes sense at current valuations.

As of 30 June 2018, Keppel REIT had a book value of S$1.41 per share. At its current unit price of S$1.17, the REIT has a price-to-book ratio of 0.83, and a distribution yield of 4.85%.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Sudhan P doesn’t own shares in any companies mentioned.