Keppel Pacific Oak US REIT (KORE), the best of the three US office S-REITs in terms of portfolio metrics and capital management, in a business update on April 18, announced a 0.2% y-o-y rise in revenue to US$37.1 million, and a 2.7% y-o-y decline in net property income (NPI) to US$21.2 million in 1QFY2023, for the three months to March 31. However, its income available for distribution fell by 21.2% y-o-y to US$13.1 million. This is because the manager has chosen to take its management fees all in cash.
While paying management fees in cash shows less alignment with unitholders, KORE is trading at a significant discount to its Dec 31, 2022 NAV of 78 US cents. Hence issuing units for management fees is dilutive. Furthermore, sentiment around the US office S-REITs is negative, and the manager has expenses. Hence divesting units for cash may not make sense for the manager, and unitholders have to accept lower distributable income.
On the capital management front, KORE has US$580.2 million of external loans of which 100% is unsecured with no direct exposure to any US regional bank. Aggregate leverage stood at 38.7% (38.2% as at end-Dec 2022) as at March 31 while trailing 12 month ICR was 3.6x (4x as at 4Q2022). Rises in aggregate leverage and further falls in ICR are to be expected as KORE’s interest expense is likely to continue to rise. In 2022, the interest rate hike cycle accelerated from May onwards. Although 77.9% of KORE's debt is on fixed rates, every +50bps in Libor/Sofr translates to -0.065 US cents in DPU p.a.
Committed portfolio occupancy of 91.9% in the first quarter is slightly lower than than the 92.6% occupancy in 4QFY2022.
KORE’s manager has emphasised its focus on tech and healthcare sectors in the fast growing sunbelt as a key differentiator. Nonetheless, sentiment towards US office S-REITs may continue to be negative, and it is unlikely that KORE is able to trade at lower yields or at higher P/NAV ratios in the near term. As a consequence, DPU growth is likely to be challenging, especially as aggregate leverage is set to rise even without acquisitions.
