UOB Kay Hian analyst Jonathan Koh has maintained his “buy” call on Digital Core REIT (DC REIT) while increasing his target price by 6 cents from 79 US cents ($1.07) to 85 US cents following the REIT’S increasing geographical diversification of its portfolio through its expansion in Germany and Japan.
“DC REIT has repositioned its portfolio to increase geographical diversification and strengthen servicing of hyperscale tenants,” says the analyst.
The REIT, on April 22, announced the completion of the acquisition of an additional 24.9% interest in Wilhelm-Fay Straße 15 and 24, a fully-fitted freehold data centre in Frankfurt, Germany. The acquisition was made from the REIT’s sponsor, Digital Realty, for EUR117 million ($169.7 million) or US$128.7 million, which is a 6% discount to the data centre’s appraised valuation. The REIT’s aggregate interest in the data centre increased to 49.9% after the acquisition.
On April 1, DC REIT said that it had agreed to acquire another 10% interest in a fully-fitted freehold data centre located in Osaka from Mitsubishi Corporation for US$51.5 million, which was at a 1% discount to the data centre’s appraised valuation. This acquisition will increase the REIT’s aggregate interest to 20%.
In his report, the analyst points out that the moves were positive as contributions from hyperscale service providers increased by 11 percentage points (ppt) y-o-y to 70% of annualised rent post-acquisitions.
“Data centres in Germany and Japan have expanded by 19 ppt y-o-y to 33% of annualised rent (Frankfurt: 25%, Osaka: 8%),” he writes.
See also: OCBC, citing potential recovery, initiates coverage on Nanofilm with tentative 'hold' call
The acquisitions delivered distribution per unit (DPU) accretion of 5.6%, with Frankfurt and Osaka accounting for 3.2% and 2.3% respectively.
The acquisitions were partly funded by the divestments of the REIT’s 90% stake in two Silicon Valley data centres, 2401 Walsh Avenue and 2403 Walsh Avenue, to Brookfield, for their book value at US$160 million. The transaction, which took place in January this year, represented an exit cap rate of 4.4%.
In addition, two anchor tenants at the REIT’s Frankfurt Campus, both cloud service providers, have renewed their leases for five years with positive rental reversion of 2% in 1QFY2024, notes the analyst.
See also: Macquarie revises Singapore earnings growth for FY2024 to 7% from 3%
He adds that this leasing momentum has been maintained following the REIT’s signing of a new lease with an existing tenant at Frankfurt, a global cloud provider, contributing an incremental 0.2 ppt positive net absorption. Several tenants are also in the midst of renewing their leases.
On April 24, DC REIT reported a distributable income of US$10.6 million for the 1QFY2024 ended March 31, 2.4% lower y-o-y, though this still met Koh’s full-year expectations.
On a same-store basis, DC REIT’s cash net property income (NPI) increased by 11% y-o-y in 1QFY2024 due to rental escalation and burn-off of free rent. Portfolio occupancy was “stable”, standing at 95.8% as of March 31. The REIT’s weighted average lease expiry was maintained at 2.8 years, while finance expenses increased 27.2% y-o-y in 1QFY2024.
The analyst also notes that DC REIT repurchased 7.9 million units at an average price of US0.579 in 1QFY2024, which contributed to a DPU accretion of 0.6%.
Following the repositioning of its portfolio, Koh adds that DC REIT’s cost of debt remains moderated as the REIT repaid US$140 million of floating rate loans at 6.4% in March, utilising proceeds from the Silicon Valley data centre divestment.
The REIT’s yen-dominated borrowings have also expanded by 10 ppt to 18% of its total debt due to the REIT securing a four-year yen-dominated term loan at an all-in cost of 1.5% from Mizuho.
Average cost of debt has eased by 0.2 ppt y-o-y and 0.8 ppt q-o-q to 3.9% in 1QFY2024 , while management expects cost of debt to remain stable at 3.9% for 2024 due to 93% of its borrowings being hedged to fixed interest rates.
For more stories about where money flows, click here for Capital Section
The analyst also highlights DC REIT’s resilient growth from North America, where public cloud providers and AI companies are driving strong demand for data centres. Northern Virginia registered the largest increase in net absorption of 407 megawatts (MW) in 2023, with average asking rates increasing by 19% to US$163 per kilowatt (kW) per month across North America.
Overall, the analyst has raised his DPU forecast by 7% for 2025 following the positive impact of the REIT’s acquisitions in Frankfurt, Germany and Osaka, Japan and its lower cost of debt.
As at 12.26pm, units in DC REIT are trading at 0.5 cents lower or 0.89% down at US0.55.
