CapitaLand Ascendas REIT: Rate Cuts And Data Center Growth Are Positives

seekingalpha10-04

I upgrade CapitaLand Ascendas REIT to a Buy, considering rate cut benefits and the potential growth in data center assets.Lower interest rates will boost dividends and support accretive M&A deals for ...

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I have upgraded ACDSF's rating from a Hold to a Buy, considering the rate cut tailwind and the potential for a growth in data center exposure. In addition, CapitaLand Ascendas REIT's valuations are attractive, as the REIT is trading discounted to its peers. The REIT's first quarter update and Annual General Meeting disclosures were the subject of my prior article, written on April 28, 2024. Investors should be aware that they can trade in CapitaLand Ascendas REIT's shares on the Over-The-Counter market and the Singapore Exchange. The trading liquidity for the REIT's OTC shares is poor. But CapitaLand Ascendas REIT's Singapore-listed shares boasted a mean daily trading value of $30 million for the past three months, according to data sourced from S&P Capital IQ. The REIT's liquid Singapore shares can be bought or sold with US brokers like Interactive Brokers. Decline In Interest Rates Is A Tailwind For CapitaLand Ascendas REIT The Fed lowered \"its benchmark interest rate by 50 basis points\" in the previous month, as indicated in a September 18, 2024, Seeking Alpha News article. Asian media platform CNA published a commentary piece on September 19 highlighting that \"Singapore's interest rates are largely influenced by global rates.\" CNA subsequently issued a news report on September 26 mentioning that the yield on Singapore's \"six-month treasury bill\" had fallen to a \"two-year low\" of 2.97% in late September this year. Singapore REIT CapitaLand Ascendas REIT will be a beneficiary of lower interest rates in many ways. Firstly, ACDSF is expected to distribute a larger amount of dividends, assuming that its distributable income rises as a result of a decline in interest costs. In its September 2024 investor presentation slides, CapitaLand Ascendas REIT noted that its distribution per unit or dividend per share could potentially decrease by -S$0.0017 in the scenario where interest rates go up by +50 basis points based on its calculations. As a reference, the consensus FY 2024 dividend per share forecast for ACDSF is S$0.151 as per S&P Capital IQ data. This implies that the REIT's dividend per share might increase by +1.1% for every 50 basis points decline in interest rates. Secondly, the REIT has valuation re-rating potential, as alternative yield plays become less attractive. As mentioned above, Singapore's six-month treasury bill has decreased to below 3%. As a comparison, Singapore REIT CapitaLand Ascendas REIT currently offers a consensus next twelve months' dividend yield of 5.3% based on data taken from S&P Capital IQ. ACDSF's share price has the potential to rise on yield compression, assuming that the yield on Singapore treasury bills continues to decrease, and the yield spread between treasury bills and REITs is maintained at a similar level. Thirdly, CapitaLand Ascendas REIT's inorganic growth prospects might be boosted by a more favorable interest rate environment. At its 1H 2024 earnings call, ACDSF noted that it is \"looking at some opportunities\" including \"acquisitions\" and highlighted that the gap \"between cap (capitalization) rate and interest rate\" is a key factor determining whether acquisitions are \"accretive.\" As such, CapitaLand Ascendas REIT will have an easier time finding M&A deals where the capitalization rate for the acquired asset is higher than the debt financing cost in an environment of declining rates. Potential Growth In ACDSF's Data Center Exposure Could Be A Catalyst CapitaLand Ascendas REIT trades discounted to its peers on key valuation metrics, but this valuation discount might be narrowed if ACDSF grows its exposure to the data center asset class. CapitaLand Ascendas REIT is currently valued by the market at 1.28 times trailing P/B and boasts a consensus next twelve months' dividend yield of 5.3% as per S&P Capital IQ data. P/B is an appropriation valuation metric for Singapore REITs because their properties are carried at market values (determined by third-party valuers) on their balance sheets as per International Financial Reporting Standards. In comparison, Keppel DC REIT (OTC:KPDCF) (AJBU:SP) and Mapletree Industrial Trust (OTCPK:MAPIF) (ME8U:SP) are now trading at relatively higher trailing P/B ratios of 1.58 times and 1.44 times, respectively. At the same time, Keppel DC REIT and Mapletree Industrial Trust offer comparatively lower dividend yields of 4.3% and 5.1%, respectively. My view is that CapitaLand Ascendas REIT's relatively lower data center exposure has limited its valuation re-rating potential. Data centers accounted for 8% of ACDSF's total assets as of June 30, 2024, with industrial properties, logistics properties, and business park assets accounting for the remaining 92% of the REIT's assets. As a comparison, data centers represented a significant 55% of Mapletree Industrial Trust's assets, and Keppel DC REIT is a pure-play data center REIT. It is reasonable to think that investors have assigned more demanding valuations to Keppel DC REIT and Mapletree Industrial Trust, considering these REIT's larger exposure to data center assets. ACDSF revealed at its 1H 2024 results briefing that it is \"talking to a few prospects for UK (data center) redevelopment,\" and shared that the \"change of use to data center is one of the options\" it is considering for certain properties planned for redevelopment in Singapore. At the REIT's earlier FY 2023 earnings briefing, ACDSF mentioned it is \"decommissioning a data center in the UK\" to be \"redeveloped into a 60 megawatt powered shell data center and targeting hyperscalers.\" This is the ongoing UK data center redevelopment project, which the REIT highlighted at its 2024 interim results briefing. In the preceding section, I touched on how lower interest rates will put CapitaLand Ascendas REIT in a better position to execute on inorganic growth transactions. Therefore, it is possible that ACDSF could consider acquiring data center assets, on top of the redevelopment projects. I think that CapitaLand Ascendas REIT can close the valuation gap with its peers in due course, given that the REIT has the intention and potential to expand or grow its data center portfolio. Key Risk Factors The major risks for ACDSF relate to interest rates and data centers. One key risk factor is that the interest rate environment becomes less favorable going forward, assuming that high inflation prompts central banks to raise rates again. The other key risk factor is that CapitaLand Ascendas REIT increases its data center asset exposure at a much slower pace than what the market hopes for. Bottom Line I have turned positive on CapitaLand Ascendas REIT with my rating upgrade. A favorable interest rate environment and a potential catalyst in the form of data center asset growth are key reasons to be bullish on the REIT.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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