On 18 October 2023, Keppel Pacific Oak US REIT (“KORE”) have announced their third quarter business update for 2023. The fundamentals have relatively remained unchanged. Therefore the recent significant increase in share price from my previous article was mainly due to a positive economic outlook, especially with the Federal Reserve currently forecasted to cut interest rates in 2024. The rally is definitely a welcome one, though investors will need to keep an eye out over the next few months when they announce their full year results. Key thing to look out for would be the valuation of investment properties which will be done at year end.
Background
KORE is a distinctive office REIT listed on the main board of the Singapore Exchange Securities Trading Limited (“SGX-ST”) on 9 November 2017.
KORE’s leverages its focus on the fast-growing technology, advertising, media and information (“TAMI”), as well as medical and healthcare sectors across key growth markets in the United States (“US”), and aims to be the first choice US office S-REIT providing sustainable distributions and strong total returns for Unitholders.
KORE invests in a diversified portfolio of income-producing commercial assets and real estate-related assets in key growth markets characterised by positive economic and office fundamentals that generally outpace the US national average and the average of gateway cities. These markets include the Super Sun Belt and 18-Hour Cities, which have and continue to see an accelerated influx of talent as part of The Great American Move.
KORE is managed by Keppel Pacific Oak US REIT Management Pte. Ltd., which is jointly owned by two Sponsors, Keppel Capital and KORE Pacific Advisors (“KPA”).
Key Metrics
Distribution Per Unit (“DPU”)
| Metrics | Current | Previous |
|---|---|---|
| Distribution Per Unit | No Info | -12.6% |
Based on the announcement on 18 October 2023, DPU was not included in the business update for the third quarter of 2023.
However, they have provided that the income available for distribution have decreased by 15.2% for the 9 months ending 30 September 2023 when compared to the same period in the prior year. This metric is Unfavorable.
Occupancy
| Metrics | Current | Previous |
|---|---|---|
| Occupancy | 91.4% | 90.8% |
Occupancy rate as at 30 September 2023 have improved slightly to 91.4%. This is Unfavorable as it is below my expected healthy occupancy rate of 95% and KORE have not been able to fully utilize their assets.
Gearing ratio
| Metrics | Current | Previous |
|---|---|---|
| Gearing Ratio | 39.1% | 38.4% |
Gearing ratio stands at 39.1% as at 30 September 2023. This to me is Neutral, as although there is sufficient buffer from the MAS limit of 50%, the gearing have increased. This may present an issue should there be any valuation write-downs as they close their financial year 31 December 2023 over the next few months. A larger buffer may be needed to prevent any force selling of assets and KORE can also take advantage to raise debt to fund acquisitions if opportunities arose.
Interest coverage
| Metrics | Current | Previous |
|---|---|---|
| Interest Coverage | 3.3x | 3.4x |
The interest coverage stands at 3.3 times as at 30 September 2023. The metric is Unfavorable as the interest coverage is lower than my preference of 5.0 times. This metric is likely to improve however as the Federal Reserve on 13 December 2023 held its key interest rate steady for the third straight time and set the table for multiple cuts to come in 2024 and beyond. The interest rates are therefore maintained at a range between 5.25% and 5.50%, which was increased on 26 July 2023, the highest level in 22 years.
Website: Fed holds rates steady, indicates three cuts coming in 2024
As the interest rate may potentially increase further, KORE may be subjected to significant change in their cost of debt in the near future. In their presentation they have mentioned that 76.0% of their debt is also on fixed rates.
I have thus performed a sensitivity analysis using the information as at 30 September 2023:
| Description | Amount (USD’000) |
|---|---|
| Total Debt | $594,900 |
| Debt Not Hedged (%) | 24.0% |
| Debt at Floating Rate Exposed | $142,776 |
| Distributable Income FY2022 | $60,578 |
Interest rate sensitivity analysis as below:
| Change in Interest Rates | Decrease in Distributable Income (USD’000) | Change as % of FY2022 Distribution |
|---|---|---|
| + 50 bps | -$714 | -1.2% |
| + 100 bps | -$1,428 | -2.4% |
| + 150 bps | -$2,142 | -3.5% |
| + 200 bps | -$2,856 | -4.7% |
| + 250 bps | -$3,569 | -5.9% |
| + 300 bps | -$4,283 | -7.1% |
Do note the above is my estimation which may be different from management’s estimation. Nonetheless, if the interest rates were to increase by the basis points above, KORE may experience a fall in DPU accordingly.
Debt maturity profile
| Metrics | Current | Previous |
|---|---|---|
| Debt Maturity Profile | 2.9 years | 3.1 years |
Weighted average term to maturity of their debt stands at 2.9 years as at 30 September 2023. This is Favorable and it allows them sufficient time to refinance their debts as they fall due.
Price to Book Ratio
| Metrics | Current | Previous |
|---|---|---|
| Price to Book Ratio | 0.46 | 0.27 |
Based on the announcement on 18 October 2023, Net Asset Value (“NAV”) was not included in the business update for the third quarter of 2023.
The Price to Book (“P/B”) ratio currently stands at 0.46. This is computed using the closing share price of USD0.375 on 27 December 2023 and the net asset value per share of USD0.810 as at 30 June 2023.
The metric is Favorable as we are paying below book value for its assets. This provides sufficient buffer should there be a significant write-down of valuation for its assets. However, there is a reason for it to be traded at this P/B ratio and is covered under the “Key things to note” section.
Dividend yield
| Year | Yield | Total |
|---|---|---|
| 2023 | 14.08% | USD 0.053 |
| 2022 | 14.83% | USD 0.056 |
| 2021 | 18.48% | USD 0.069 |
| 2020 | 13.43% | USD 0.050 |
| 2019 | 13.20% | USD 0.050 |
With a closing share price of USD0.375 as at 27 December 2023 and dividend of USD0.053 per share for 2023, this translates to a dividend yield of 14.08%. For my benchmark, a general reasonable range would be around an average of 6.0% to 7.0% in the current environment. KORE’s dividend yield is way above my benchmark.
Website: Reasonable Dividend Yield 2023Q4
The current macro-environment suggest that the US office REITs are still facing significant downward pressure in the short-term which is covered under the “Key things to note” section. As part of the risk to reward ratio assessment, I evaluated a scenario where the valuations and annualized dividend yield were to be halved to 7.04%. As the halved dividend yield is still above my benchmark, the dividend yield metric is Favorable.
Do note that the estimation of halving of dividend yield is for illustration and the dividend payout is likely to continue on a downtrend.
Other metrics
Tenant profile
KORE has an enlarged portfolio covering multiple trade sectors. The high quality and diverse tenant base provides resilience to the KORE portfolio across challenging events. The top-10 tenants accounted for only 24.8% of KORE’s portfolio with no single tenant accounting for more than 3.5% during the period, providing income diversity to the portfolio. Furthermore the WALE of the top 10 tenants is 4.8 years, which provides a strong income visibility as the US rides out the uncertainty.
Key things to note
Risk of property valuation write-down
There has not been many significant news of US office space over the last few months. However, earlier in the quarter, the outlook was still negative and previously the US office space have been on a downturn the last few months with occupancy decreasing.
Previous reports indicate that United States office buildings are unlikely to regain their peak pre-pandemic values until at least 2040 as demand for desk space weakens, according to a forecast by Capital Economics. Values are expected to plunge 35.0% from the peak by the end of 2025 and take an additional 15 years or more to recover as hybrid and remote work reshape real estate.
Website: US office owners get dire warning: Rebound unlikely before 2040
While we may not necessarily see a Global Financial Crisis (“GFC”) level kind of crash, in general there are estimates that property prices could experience a significant crash, before seeing an uneven recovery after that.
Website: Severe crash coming for US office properties, investors say
Should the property valuation decrease by 30%, this will bring their total investment properties value as at 30 June 2023 from USD1,443 million to USD1,010 million and total assets to USD1,083 million. Assuming the borrowings remain unchanged at USD594 million as at 30 September 2023, this will have implications as the gearing ratio of KORE will increase to approximately 58.8% from the 39.1% as at 30 September 2023. This will breach the MAS limit and KORE will be forced to raise funding via equity or sale of properties to lower their gearing. Both options may not be desirable given that the share price is trading at a significant discount of its book value or KORE may have to realized losses if they are unable to dispose of their assets at book value.
This is coupled with the fact that this is a foreign investment REIT that is listed on SGX, where these kinds of REIT profile are less appealing to Singapore investors.
Summary
| Metrics | Financials | Rating |
|---|---|---|
| Distribution Per Unit | No Info | Unfavorable |
| Occupancy | 91.4% | Unfavorable |
| Gearing Ratio | 39.1% | Neutral |
| Interest Coverage | 3.3x | Unfavorable |
| Debt Maturity Profile | 2.9 years | Favorable |
| Price to Book Ratio | 0.46 | Favorable |
| Overall | | Neutral |
Overall, the metrics indicate that it is neutral to invest in KORE. However, with interest rates expected to decrease, the fundamentals of KORE may improve moving forward. The share price currently trading at a discount of their book value be a good opportunity for investors who have the appropriate risk appetite for the longer term.
KORE remains the REIT that have the highest risk to reward ratio that I am holding and covering in my blog with its direct and concentrated exposure to the US office space.
Disclaimer: Not financial advice. All data and information provided on this site is for informational purposes only.
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Website: Keppel Pacific Oak US REIT (SGX: CMOU): 2023 Half Year Result
