Top-line growth, up 3.9% QoQ, was also impressive, considering that occupancy for KREIT’s properties (excluding its one-third stake in One Raffles Quay, which was fully occupied) deteriorated slightly to 92%, from 93.4% at the end of March. Even though spot rents continued to fall, KREIT’s lease renewals were still accretive because passing rents increased QoQ for all properties and expanded overall to S$7.11 per square foot/month (from S$6.71 per square foot/month for 1Q FY09).
We have raised our target price to S$1.23 from S$1.03, based on our RNG valuation method, after lowering our effective cap-rate assumption to 5.75% from 6.5%. As with all office S-REITs, we use 2008 core-operating distribution as the basis for our valuation since it captures what we believe is a reasonable mid-cycle passing rent (about S$5.64 per square foot/month for its investment properties).
We have revised up our DPU forecasts by 14.5% for FY09, 6.1% for FY10, and 6.2% for FY11 on higher rental renewal assumptions. We have also lowered our operating expense assumptions and assume that the manager can maintain overall occupancy at 92% for the rest of 2009 before the occupancy falls to an estimated 87% for 2010 due to the addition of new office supply.
We maintain our 2 (Outperform) rating for KREIT because we believe it is one of the few S-REITs that offer value. Our target-price is based on 0.55x on our June 2009 NAV. Even though the manager did not revalue the properties, we believe the debt-to-asset ratio of 27.8% is highly defensive. How attractive KREIT remains will depend on the results of the other S-REITs, in our view.
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