Hey savvy investors! If you’ve been watching The Dividend Uncle channel for a while, you’ll know that I’ve never actually owned Keppel DC REIT on its own. This is despite my bold statement a few months ago that Keppel DC REIT’s $1.4 billion acquisition of 2 Singapore data centres was a life-changing event for the REIT.
But that’s not the whole story. I do invest in the Syfe REIT+ portfolio, which I buy whenever I have extra cash but can’t decide which specific REIT to invest in. If you’re wondering why I invest in Syfe REIT+ but not in any of the REIT ETFs, check out my previous post, with link here. Now, here’s the interesting part. Keppel DC REIT is consistently one of the biggest holdings in Syfe REIT+, and the last time I checked, it made up about 12% of the portfolio. So technically, I do own it.
But here’s the thing: I’ve never felt fully comfortable owning Keppel DC REIT as an individual stock, despite data centers being one of the hottest asset classes right now, and I’m positive on the sector as a whole. I’ve always had substantial concerns on Keppel DC REIT. You might ask me whether I have changed my mind after reviewing their latest results, where the REIT posted the highest DPU growth among the Singapore REITs, with the lowest gearing ratio?
Well, today, we’re going to dive deep into why I haven’t been fully convinced about Keppel DC REIT in the past, we’ll look at the game-changing acquisitions, how they have transformed the REIT’s financials, and then discuss two major risks that analysts rarely talk about.
So, whether you’re currently holding Keppel DC REIT or have been staying on the sidelines like me, stay with the post until the end, because I’ll share my personal take on including Keppel DC REIT into my portfolio.
But first, let me remind you that this post is for informational purposes only and not financial advice. Always consult a licensed financial adviser to ensure your decisions align with your goals. And I hold the REITs discussed in my portfolio, but remember, what works for me might not work for you.
Alright, let’s get started!
The Good: Mouth-watering Reasons to Plunge In
First, the good things, to get your appetite going. But no matter how impressed you are, please watch till the end for both sides of the story.
1. The “Life-Changing” Move: $1.4 Billion Acquisition
Let’s start with the game-changing move: Keppel DC REIT’s $1.4 billion equity fund raising for the acquisition of Keppel DC Singapore 7 and Singapore 8, or SGP7 and SGP8, at around mid-November 2024. Now, here’s why this was such an amazing move.
Last year, most REITs were struggling to perform amidst declining share prices. Most REITs were not confident enough to undertake major acquisitions due to the poor market sentiment. Investors were skeptical of placing more money with REITs due to high interest rates and weaker DPU growth.
In such an environment, large-scale acquisitions were rare, with most REITs choosing to hold back and conserve capital rather than take bold expansionary steps. The market simply wasn’t rewarding aggressive growth moves, unless the asset class was compelling enough to justify it.
Who else but the runaway top blue-chip REIT, CapitaLand Integrated Commercial Trust, fired the first salvo and acquired ION Orchard. Most other REITs refused to move, but not Keppel DC REIT. The REIT played this game differently. It’s management knew that even though REITs in general were under pressure, data centers as an asset class were still in high demand, with “artificial intelligence” or AI in the minds of every investor. Institutions and retail investors alike still wanted exposure to this sector, so despite overall bearish sentiment towards REITs, they managed to execute a successful fundraising exercise at a massive scale of $1 billion at favorable pricing.
But the brilliance of this move isn’t just about raising funds, it’s about where those funds went. The acquisition of the two data centres increased Keppel DC REIT’s exposure to Singapore to 65.3%, which is a major plus for investors here. Singapore is one of the most restricted data center markets in the world, with the government imposing strict controls on new supply. Demand, on the other hand, is exploding. With the growth of AI, cloud computing, and hyperscalers like Google and Amazon, high-quality data centers in Singapore are becoming more valuable than ever. By securing these assets, Keppel DC REIT has strengthened its portfolio in a market where supply constraints are expected to persist, based on current regulations and demand trends.
2. Transformation of Keppel DC REIT’s Performance
Now, let’s talk about how this move transformed Keppel DC REIT’s financial health, because this acquisition wasn’t just about adding assets, it fundamentally changed the REIT’s financial position.
The most striking change is the gearing ratio, which now sits at just 31.5%. That’s close to the lowest among S-REITs. Before the equity fund raising, gearing was at 39.7%, which was getting dangerously close to levels which investors are uncomfortable with. But with the excess funds raised, Keppel DC REIT repaid $265.4 million in debt, bringing gearing down significantly. This gives the REIT a huge advantage, lower leverage means greater financial flexibility, which is critical in an environment where interest rates are still high.
With this lower gearing, interest expenses have also fallen, which in turn boosted its results and DPU. Right now, the REIT’s average cost of debt is just 3.1%, which is already on the lower end among S-REITs. And even with some debt coming due, management has guided that they expect the interest cost to remain around 3%. That’s a very manageable level, and it means the REIT isn’t at risk of a sudden surge in financing costs like some others in the market.
But here’s the best part. The acquisition of SGP7 and SGP8 is expected to boost DPU by another 8% to 11%. And wait a minute, why did I say “expected”? That’s because the latest impressive results didn’t even take into account these acquisitions yet!
3. Highest DPU Growth in Town
For the second half of 2024, Keppel DC REIT’s DPU surged 13.2% year-on-year to 4.902 cents. This is the highest DPU jump among the S-REITs I’ve seen so far – so, top in class! This represents a dividend yield of about 4.3%, which is not the highest, but reflects the potential growth of the REIT. That’s right, the 13.2% increase in DPU we’re already seeing? That’s without factoring in the full impact of SGP7 and SGP8. When the acquisitions are fully reflected in future results, there’s even more growth ahead.
What’s driving this growth? A big part of it comes from strong rental reversions, which hit a staggering 39%. Imagine getting a pay raise of 39%! Sweet thoughts. This is continuing a trend of high rental escalations across its portfolio, which has stayed above 40% for many quarters. This means that lease renewals are being signed at significantly higher rates, which reflects the quality and demand of the assets, and directly boosts rental income.
Occupancy remains rock solid as well, with a portfolio-wide occupancy rate of 97.2%. In particular, its Singapore assets, which now make up 65.3% of total valuations, have near-full occupancy. This reinforces the fact that data centers in Singapore continue to be a highly sought-after asset class, given the limited supply and strong demand from hyperscalers and enterprise clients.
All these factors point to a REIT that is fundamentally strong, with growing revenue streams, high occupancy, and prudent financial management. But does that mean it’s an automatic buy? Well, not quite, because there are some significant risks that investors need to keep in mind.
But before we move on, do me a favor and give this uncle a ‘like’ and subscribe to the channel, even if it’s just to pat me on the back for working tirelessly in the MRT after work, just to be able to bring you this content! Alright, let’s move on.
The Major Risks: Why I’m Not Fully Convinced
Unfortunately, there is another side of the story. Allow me to elaborate.
1. Gearing Risk: Not As Low As It Looks
First, let’s talk about gearing. At 31.5%, Keppel DC REIT’s gearing looks like one of the best among S-REITs. But here’s the catch, this isn’t the whole story.
Remember how extending the land lease for SGP7 and SGP8 will cost $350 million? If Keppel DC REIT decides to exercise its option to extend the land leases by 10 years, from a short lease of 15.5 years currently, they will likely fund it via debt. And if that happens, gearing could shoot back up to 39%, almost right back to where it started.
And of course, the interest expenses will rise again, offsetting a large part of the DPU accretion we just saw in the latest financial announcement. So, while the REIT enjoys low gearing today, this isn’t a permanent advantage. If they want to secure their best assets for the long term, gearing will inevitably go up, which means higher risks for investors.
2. Short Land Lease Problem: How Long-Term Can We Hold This REIT?
One of the biggest concerns I have is that most of Keppel DC REIT’s assets have short remaining land leases. This isn’t something that gets talked about much, but when I dug into the numbers, it stood out like a red flag.
For the Singapore assets, which make up 65.3% of Keppel DC REIT’s total valuation, the remaining land leases range from 15.5 years to 30.8 years. Let’s assume an average of 25 years just for illustration. That means every year, these assets are effectively depreciating by around 4%.
Now, here’s where the problem starts. Keppel DC REIT’s current dividend yield is about 4.3%, which means if you factor in the depreciation effect, the adjusted return isn’t looking that attractive at all. But of course, this does not take into account the overseas assets, which other than China assets, have land leases that are largely freehold, but they make up only about 30% of the REIT. This raises a fundamental question: how long-term can this REIT really be as an investment?
If I’m thinking about holding this for retirement, I need to be confident that the core assets won’t disappear in 25 years. Sure, the REIT can extend land leases, but that doesn’t come cheap. Take SGP7 and SGP8 as an example. Extending their land lease by just 10 years cost a whopping $350 million. Where is this money going to come from? Most likely from unitholders.
I know some investors are not concerned about the risk of short land leases. Their thinking is that organic growth and new acquisitions will continue to offset this risk. Or perhaps these investors intend to sell before the land leases become too short.
But as a long term investor, I have to ask myself: what happens when these leases run out? While we can definitely sell the REIT at any time, so the time horizon of holding Keppel DC REIT might be much shorter than the land leases, what will happen if the market doesn’t price in this risk until it’s too late? If the market reassesses the risks of dwindling land leases and costly extensions, there is a possibility that market sentiment may shift, potentially impacting valuations. By then, exiting might not be as easy or profitable as some expect.
3. The Persistent Risk: Tenant Concentration
Now, let’s talk about one risk that many investors would have known by now — tenant concentration risk. While Keppel DC REIT’s portfolio performance is incredibly strong, this is a problem that seems to bug data centre REITs in general, because it is not uncommon for the whole data centre to be leased to one single tenant, especially a hyperscaler.
Some of you might remember this. Keppel DC REIT’s Guangdong asset has a single tenant. And unfortunately, that tenant defaulted, now owing $30 million in rent. As a result, the REIT had to set aside loss allowances, which lowered the 2H 2024 DPU by 0.254 cents. While the impact is already reflected in the results, it’s a reminder that Keppel DC REIT still has exposure to some higher-risk markets like China.
Looking at its tenant profile, we can see that the risk is rather high. It’s top tenant accounts for an eye-popping 39.2%, following by 8.9% and 6.7%. While these hyperscalers could be strong financially, as they could include companies like Amazon, this a risk that continues to haunt Keppel DC REIT.
The Dividend Uncle’s Take
So, after reviewing all of this, where do I stand on Keppel DC REIT?
On one hand, the REIT is clearly executing well — DPU growth is strong, rental reversions are high, and the gearing is currently low. The latest acquisitions were well-timed, and the data center industry itself continues to benefit from long-term demand growth.
But on the other hand, the low gearing attraction is likely to be temporary, which will revert to higher levels along with higher interest expenses eventually. In addition, the short land leases make it difficult to view this as a true long-term REIT investment, at least for me. If I’m looking for something to hold for retirement, I don’t want to be worried about key assets running out of land tenure in 20 to 30 years. And if the REIT has to keep raising money from unitholders or borrowing heavily just to maintain these assets, that adds long-term financial strain.
Alright, that’s all folks. I’ve gone through my investment thesis of why, for now, I remain on the fence about Keppel DC REIT. It’s a strong performer, but it comes with structural risks that I can’t ignore. What about you? Are you buying, holding, or staying out? Let me know in the comments.
And if you found this post insightful, give it a like and subscribe for more deep-dive REIT analysis. Until next time, happy investing!
The Dividend Uncle 
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