Notes from Keppel DC REIT AGM on 16 April - Steady Hands On The Wheel

Future Growth Catalysts:

• The development of the new Intellicentre 3 East data centre (IC3 East DC) in Sydney, Australia is expected to be DPU-accretive. Upon completion by 2020, Macquarie Telecom will sign a new 20-year triple-net master lease with Keppel DC REIT (KDC) for both Intellicentre 2 and Intellicentre 3 East. The lease includes built-in annual rental escalations with renewal options. This expansion aims to meet the needs of hyper-scale cloud providers, enterprise and government customers. After witnessing the successful execution of the mainCubes DC in Germany, I am confident that IC3 East would be similarly rewarding for unitholders in 2020.

IC3 DC East Sydney is a Tier III data centre built on the vacant land next to the existing IC2 DC

• Growth strategy remains the same. KDC has enough debt headroom to pursue inorganic growth through acquisitions. The focus will be on Asia-Pacific region. The management had looked at the US DC market, but the cap rates are lower and the taxes are higher. So, the US market is not as attractive.
• Besides Australia and Europe, Singapore remains a key market for KDC. The rapid growth of cloud services and digital enterprises are driving demand for hyper-scale DC capacity. Singapore is a strategic DC hub in the region due to its list of considerable advantages compared to other neighbouring cities:

1. Economic & political stability
2. Stable energy supply from the power grid.
3. Sufficient internet bandwidth
4. No natural disasters
5. Rich connectivity to Asia, the US and Europe
6. Ease of setting up business

Risk Management:

• KDC performs natural hedging of foreign currencies to ensure stable distribution to unitholders. They hedge the distributable income 2 years in advance.More than 80% of debts is on fixed rates, which will offer some protection against future Fed rate hikes.
• One unitholder asked if KDC would consider building its own DC instead of acquiring them. The CEO replied that although it is cheaper to build instead of acquire , it would alter the fundamental risk profile of KDC from a REIT to a developer. There would be higher operational & development risks involved, especially at the initial stage. There are lots of testing to be done and other technical regulations to be met before a new DC can run smoothly. There is no need to take on these risks as a REIT because KDC already has a sponsor in Keppel T&T who is a reputable DC developer. It would be safer to wait for Keppel T&T or Alpha DC Fund to develop the DC and stabilise it before injecting the asset into KDC.

Competition:

• Hyper-scale cloud providers form the largest tenant base of KDC's portfolio, they house their 'mission-critical' operations in the DC. Their top concern is the physical on-site security. Their risk appetite in this aspect is zero. So, the property manager's track record in providing top-quality security/safeguards is critical when it comes to attracting and retaining big-name tenants.Due to the solid operational track record of KDC's sponsor, Keppel T&T, the tenant retention rate is in the high 90%. The CEO also mentioned that some new DC players struggle to lease out their new DC even after a year due to a lack of track record.
• Setting up the infrastructure of a DC is extremely costly and time-consuming. It takes a lot of capex and time to ramp up the operations. Similarly, it is a huge hassle to 'power down' operations in one DC and make a complete shift to another DC. Too much hassle and wastage. Unlike your home desktop PC, the DC cannot be 'turned off' with a flick of a switch. Besides, these hyper-scale cloud providers require their services to run 24/7. They cannot tolerate any downtime. As a result, the DC business is 'highly sticky'. As long as the on-site physical security is up to standards, tenants would not consider moving out, ever.
• One unitholder asked a pretty common question. Since DC is such a good business, why don't these hyper-scale cloud firms save on rental costs by building their own DC? The CEO replied that contrary to popular belief, rental costs actually take up only a small portion of operating a DC. More importantly, these cloud service firms (your Amazons, Microsofts, Googles, Facebooks and such) want to grow really fast. Some of them aim to deploy up to 15 DC in a month around the world! Nobody can build so fast. Therefore, they still need to lease from DC landlords like KDC.

In conclusion, the CEO and the chairman gave me the impression that they have a good grasp of the DC business. I am happy to stay vested. Looking forward to the completion of IC3 DC East in Sydney! :)