Regional REIT — Update 22 November 2016

Regional REIT (LSE: RGL)

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2.07 (11.39%)

Market capitalisation

GBP94m

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Research: Real Estate

Regional REIT — Update 22 November 2016

Regional REIT

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Real Estate

Regional REIT

Regional property doing well

Trading update

Real estate

22 November 2016

Price

107p

Market cap

£291m

Net debt (£m) at 30 September 2016

202.7

Shares in issue

274.2m

Free float

76%

Code

RGL

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(0.5)

6.3

5.2

Rel (local)

2.9

7.6

(0.9)

52-week high/low

111p

88p

Business description

Regional REIT owns a commercial property portfolio predominantly made up of offices and light industrial units located in regional centres of the UK. It is actively managed and targets a total shareholder return of 10-15% pa with a focus on income.

Next events

Q4 valuation and dividend announcement

23 February 2017

FY16 preliminary results

30 March 2017

Analysts

Julian Roberts

+44 (0)20 3077 5748

Andrew Mitchell

+44 (0)20 3681 2500

Regional REIT is a research client of Edison Investment Research Limited

Regional property markets have performed well in Q3 and market growth expectations favour the provinces over London, with initial concerns following the EU referendum abating slightly. This supports Regional REIT’s (RGL’s) fundamental investment case. RGL invests mainly in office and light industrial assets outside the M25 and pursues an active asset management strategy to improve income and capital value growth, which has increased occupancy and headline rents in Q3. The diverse portfolio supports a 7.2% prospective dividend yield, among the highest of UK REITS, while the shares trade at an undemanding 0.97x EPRA NAV.

Year
end

Net rental
income (£m)

EPRA EPS*
(p)

EPRA NAV/
share (p)

DPS
(p)

P/EPRA NAV
(x)

Yield
(%)

12/15**

4.6

0.9

107.8

1.0

0.99

0.9

12/16e

37.2

7.7

110.6

7.7

0.97

7.2

12/17e

41.4

8.9

113.7

8.9

0.94

8.3

12/18e

43.3

9.5

115.4

9.5

0.93

8.9

Note: *EPRA EPS is adjusted to include exceptional expenses related to listing and includes estimated performance fees. **56-day trading period only.

Executing strategy

Rebalancing the portfolio towards office and industrial property in England and Wales continued in Q3 and the active asset management strategy has also been evident: in 9M16 RGL secured 90 new leases (43 in Q3) and re-geared 33 (with an average increase of 1.2% in headline rent), relating to 7.8% of units in the portfolio, and occupancy rose to 83.4% (30 June: 81.8%). Gross capex investment in the existing portfolio totalled £9.2m, or £6.1m after recoveries and dilapidations. Although a property portfolio near Glasgow was acquired in the quarter, Scotland now represents 27.3% of properties by value, down from 35.4% at IPO, and office and industrial sites have risen to 91.7% from 83.7% of the portfolio.

Market drivers remain strong

The RICS Q316 UK Commercial Property Market Survey indicates a rebound in sentiment after expectations dipped immediately after the EU referendum. Of the UK’s regions, London, where RGL is not active, was noted as the only exception to increases in occupier demand and decreases in availability. The industrial sector in particular is expected to see rental and capital value growth, with little expectation that Brexit will negatively affect most businesses. Structural drivers of regional commercial property markets are also positive, and supported by government infrastructure plans and the devolution of powers to major regional cities. With the regions performing better than London, investment flows may adjust, narrowing the gap between prime and secondary regional yields, which would benefit RGL.

Valuation: Discount

RGL’s fully covered prospective yield of c 7.2% leads the UK REIT sector, while the discount to EPRA NAV of 3% is close to the sector average, having narrowed since our update note of 4 October. This trend may continue if regional commercial property markets outperform London as expected.

November 2016 trading update

The trading update was in line with both management expectations and our estimates and only a slight change has been made to the latter to account for higher than expected capex. A dividend of 1.75p per share will be paid on 22 December in respect of the quarter from 1 July to 30 September 2016, the same as the two previous quarterly dividends. It is the board’s intention that the fourth quarterly dividend will at least ensure compliance with the REIT distribution rule. We summarise the main points from the update below:

Q3 lease renewal progress has been good: 75% (by value) of leases up for renewal in the period have been either re-geared (renegotiated), re-tenanted or the old tenants are currently holding over in the properties while negotiations continue.

The 33 re-geared leases (40% of the total number up for renewal) have seen an average uplift of 1.2% above the headline rent. In addition, 43 new leases were signed in the quarter, and will generate c £4.5m of rental income pa when fully occupied, including 10-year leases with E.ON and Equitable Life for c £495k and £426k a year respectively. The new E.ON lease demonstrates how active asset management of individual units can add value across a property: the lease relates to 47,000sq ft at Newstead Court for £10.50/sq ft, immediately adjacent to an area twice as large, which was previously let at £9.50/sq ft, giving proven rent reversion of 10.5%.

Occupancy across the portfolio was 83.4% by area at 30 September vs 81.8% at 30 June. The Wing Portfolio is now 85.2% occupied vs 78.2% at acquisition in March 2016 and the Rainbow Portfolio, also acquired in March, has seen occupancy rise to 78.2% from 77.2%.

On 20 September, RGL completed the acquisition of the Wallace Portfolio from the asset manager, London & Scottish Investments, for £5.5m in cash at a net initial yield of 12%. The portfolio comprises six office units at a business park east of Glasgow. The company also disposed of three small non-core properties for £0.34m in the quarter. The group portfolio now consists of 964 units at 126 properties valued at c £505m and with a contracted rent roll of c £44.9m pa.

Valuation

We continue to forecast on the assumption that the portfolio will reach 85% occupancy by the end of 2016, rising to 88% at the end of 2017 and reaching the long-term structural occupancy level of 90% in 2018. The contracted rent roll has increased in line with our modelling assumptions and we maintain our 28.1% ratio of expenses to gross rental income, which we expect to decline over 2017. The only change to our estimates has been to increase our assumed capex for 2016 to £8m from £4m to account for the £6.1m net expenditure in the first nine months. RGL trades below EPRA NAV and has a prospective dividend yield of 7.2%, amongst the highest in the UK REIT sector (Exhibit 1). Including the dividend, RGL aims to provide 10-15% total returns pa to shareholders on the IPO price of 100p. The capital appreciation portion of the return target would be supported by continued strengthening of the regional property market, and the rental increases and new leases secured in Q3 point to a positive outlook.

Exhibit 1: UK REITs by prospective dividend yield

Source: Bloomberg, data as at 22 November 2016

Exhibit 2: Financial summary

Year end 31 December

2015

2016e

2017e

2018e

PROFIT & LOSS

£'000s

IFRS

IFRS

IFRS

IFRS

Gross rental income

5,361

41,509

45,466

47,574

Non-recoverable property costs

(754)

(4,291)

(4,092)

(4,282)

Revenue

 

 

4,608

37,218

41,374

43,292

Administrative expenses

(1,353)

(7,380)

(7,963)

(8,212)

EBITDA

 

 

3,255

29,839

33,411

35,081

Gain on disposal of investment properties

87

(75)

0

0

Change in fair value of investment properties

23,784

3,623

7,504

5,152

Operating profit before financing costs

 

 

27,126

33,387

40,914

40,233

Performance fees

0

(95)

(974)

(828)

Exceptional items

(5,296)

0

0

0

Finance income

177

97

68

25

Finance expense

(997)

(8,757)

(9,161)

(9,161)

Net movement in the fair value of derivative financial investments

115

(2,024)

0

0

Profit Before Tax

 

 

21,124

22,608

30,847

30,268

Tax

0

0

0

0

Profit After Tax (FRS 3)

 

 

21,124

22,608

30,847

30,268

Adjusted for the following:

Performance fees

0

95

974

828

Exceptional items

5,296

0

0

0

Net gain/(loss) on revaluation

(23,784)

(3,623)

(7,504)

(5,152)

Net movement in the fair value of derivative financial investments

(180)

1,904

0

0

Gain on disposal of investment properties

(87)

75

0

0

Profit before Tax (norm)

 

 

2,370

21,059

24,317

25,944

Period end number of shares (m)

274.2

274.2

274.2

274.2

Average Number of Shares Outstanding (m)

274.2

274.2

274.2

274.2

Fully diluted average number of shares outstanding (m)

274.2

274.2

274.2

274.2

EPS - fully diluted (p)

 

 

7.7

8.2

11.2

11.0

EPS - normalised (p)

 

 

0.9

7.7

8.9

9.5

Dividend per share (p)

 

 

1.0

7.7

8.9

9.5

Dividend cover

N/A

100%

100%

100%

BALANCE SHEET

Fixed Assets

 

 

407,492

516,918

532,421

545,573

Investment properties

403,703

514,132

529,635

542,788

Goodwill

2,786

2,786

2,786

2,786

Non-current receivables

1,004

0

0

0

Current Assets

 

 

35,803

27,284

22,351

15,497

Trade and other receivables

11,848

13,816

13,195

14,527

Cash and equivalents

23,954

13,468

9,157

970

Current Liabilities

 

 

(21,485)

(28,622)

(30,693)

(32,362)

Trade and other payables

(12,576)

(15,354)

(16,917)

(18,169)

Deferred income

(5,906)

(9,588)

(10,097)

(10,514)

Taxation

(2,387)

(1,239)

(1,239)

(1,239)

Bank and loan borrowings - current

(200)

0

0

0

Derivative financial instruments

(416)

(2,440)

(2,440)

(2,440)

Long Term Liabilities

 

 

(126,469)

(214,771)

(214,771)

(214,771)

Borrowings

(126,469)

(214,771)

(214,771)

(214,771)

Net Assets

 

 

295,341

300,809

309,308

313,937

Derivative interest rate swaps

416

2,440

2,440

2,440

EPRA net assets

 

 

295,757

303,249

311,748

316,377

IFRS NAV per share (p)

107.7

109.7

112.8

114.5

EPRA NAV per share (p)

107.8

110.6

113.7

115.4

LTV

25.4%

39.2%

38.8%

39.4%

CASH FLOW

Operating Cash Flow

 

 

(2,232)

28,800

35,130

34,589

Net Interest & other financing charges

(411)

(9,244)

(9,093)

(9,136)

Tax

0

0

0

0

Purchase of investment properties

(4,191)

(139,251)

0

0

Sale of investment properties

5,348

40,369

0

0

Capex

(8,000)

(8,000)

(8,000)

Acquisition of subsidiaries, net of cash acquired

26,659

0

0

0

Net proceeds from issue of shares

0

0

0

0

Equity dividends paid

0

(12,340)

(22,349)

(25,639)

Other (including debt assumed on acquisition)

0

1,077

0

0

Net Cash Flow

25,172

(98,588)

(4,312)

(8,187)

Opening net (debt)/cash

 

 

(127,886)

(102,714)

(201,303)

(205,614)

Closing net (debt)/cash

 

 

(102,714)

(201,303)

(205,614)

(213,801)

Source: Company accounts, Edison Investment Research

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by Regional REIT and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
Edison has a restrictive policy relating to personal dealing. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report. Edison or its affiliates may perform services or solicit business from any of the companies mentioned in this report. The value of securities mentioned in this report can fall as well as rise and are subject to large and sudden swings. In addition it may be difficult or not possible to buy, sell or obtain accurate information about the value of securities mentioned in this report. Past performance is not necessarily a guide to future performance. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (ie without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision. To the maximum extent permitted by law, Edison, its affiliates and contractors, and their respective directors, officers and employees will not be liable for any loss or damage arising as a result of reliance being placed on any of the information contained in this report and do not guarantee the returns on investments in the products discussed in this publication. FTSE International Limited (“FTSE”) © FTSE 2016. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by Regional REIT and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
Edison has a restrictive policy relating to personal dealing. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report. Edison or its affiliates may perform services or solicit business from any of the companies mentioned in this report. The value of securities mentioned in this report can fall as well as rise and are subject to large and sudden swings. In addition it may be difficult or not possible to buy, sell or obtain accurate information about the value of securities mentioned in this report. Past performance is not necessarily a guide to future performance. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (ie without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision. To the maximum extent permitted by law, Edison, its affiliates and contractors, and their respective directors, officers and employees will not be liable for any loss or damage arising as a result of reliance being placed on any of the information contained in this report and do not guarantee the returns on investments in the products discussed in this publication. FTSE International Limited (“FTSE”) © FTSE 2016. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

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