KREIT – DBS

Results in line

K-reit’s strong performance was expected, boosted by organic growth and ORQ contributions. However, looking ahead, the acceleration in office rental decline would continue to moderate DPU growth outlook. Despite inexpensive valuations of 11.9% FY09 yield, 0.3x P/bk NAV and implied yields of 9.8%, maintain Hold call with TP of $0.80 on the lack of short-term catalyst.

Results within expectations
K-reit reported a 30% rise in Q4 revenue to $14.3m while distributable income rose 152% to $17.4m (DPU: 2.67cts), thanks to contributions from ORQ, positive rental reversions and lower operating expenses. For the full year, the group chalked a 166.7% improvement in distribution income to $58.2m. The group revalued its properties, with a marginal surplus of $7m vs Dec 07 level. Value of Prudential Tower and ORQ saw a small decline of 1-1.5% while KTGE and Bugis Tower experienced a 0-3% hike in value.

Weak office sector outlook
Outlook for the office leasing market remains uncertain. Office rentals have dipped in 4Q08 and are expected to decline further this year. Amongst its buildings, Prudential Tower continued to see its occupancy decline to 92.3% from 96.4% qoq. K-reit has 27% and 26% of its NLA due to renewal/review in FY09 and FY10 respectively, largely from KTGE Towers. While reversions are still positive, the acceleration in rental rate decline would erode DPU growth outlook. Our FY09 projection has factored in a 15% rental dip, accompanied by a 10% drop in vacancy level.

Valuations inexpensive, no short-term catalyst
Current valuations appear to have factored in much of the expected office weakness with implied cap rates of 9.8% vs actual passing yield of 4.1%. However, short-term catalysts are not visible. The stock is trading at FY09 and FY10 DPU yield of 11.9% and 11.7% respectively. While K-reit does not have refinancing concerns and have a relatively long average lease expiry of 5.6years, its low stock liquidity could hamper investor interest.