Land Securities racks up a second straight increase in rental income

Despite fears over the health of commercial real estate, either due to changing in working habits post-covid, the effects of online shopping upon bricks and mortar retailers, torpid economic growth and rising interest rates, Land Securities can point to a second consecutive increase in annual rental income.

Rising rates may explain the drop in net asset value (NAV) per share to 936p, but the shares already trade at a huge discount to that, so there is nothing to frighten anyone there and the dividend of 38.6p per share equates to a yield of 6%, which may catch the eye of income seekers.

Bears of real estate stocks will latch on to the 12% drop in book value per share, British Land’s £3.7 billion net debt pile and the third straight increase in the average interest rate paid by the company on its debt, to 2.7% from 1.8% in the year that ended in March 2020.

But the shares already trade at a one-third discount to the stated net asset value (NAV) per share figure. That potentially prices in a lot of bad news already as it implies property values and rental income are set to fall and even the NAV of 936p slightly exceeded the consensus analysts’ forecast of 920p.

Source: Company accounts. Fiscal year to March

Shareholders will therefore be pleased to see rental income increase and the vacancy rate decline, on a like-for-like basis. Management will not be doing a victory lap yet, as rental income is still below where it was in the year that ended just as Covid struck, but chief executive Mark Allan is quick to point out strong demand for quality property, where rental activity and occupancy rates are high.

Source: Company accounts. Fiscal year to March

Land Securities is actively working to maximise value from this trend as it looks to reshape its portfolio. The REIT’s total portfolio had a book value of £10.2 billion as of March and the end of its fiscal year. This is split across Central London office and retail (61%), retail centres and outlets (18%), mixed-use urban neighbourhoods (8%) and a rump of what the firm terms ‘sub-scale’ assets (13%), comprising retail parks, hotel and leisure assets, which it is looking to liquidate.

Mr Allan and the board intend to achieve this through the sale of the sub-scale assets, disposal of other properties and acquisition and development of others, although planned investment in the pipeline is down to just £110 million. Last year, Land Securities sold 21 Moorfields in the City and laid out plans for Finchley Road, London, Mayfield in Piccadilly, Manchester and Media City in Salford, where Land Securities purchased a 75% stake in fiscal 2022.

One other benefit of this activity is the sale of Moorfields and other assets has generated cash. Land Securities is well on its way to reaching the goal of £4 billion in divestments that it laid down in 2020. This has helped to reduce debt to £3.3 billion and keep the loan-to-value ratio modest at 32%.

Source: Company accounts. Fiscal year to March

Land Securities does have over £700 million in debt that is due to mature in the next two to three years, but it has ample headroom for cash at hand and undrawn banking facilities to cover those repayments, so the company has no refinancing needs until 2026. That should also help to reassure at a time when financial markets are fretting about the impact of higher interest rates and indebted property firms.

A strengthened balance sheet and improved rental income are also helping to underpin the all-important dividend. Land Securities has increased its annual payment to 38.6p a share from 37p and although analysts do not expect a hike for fiscal 2024 it will be interesting to see if the implied dividend of 6% proves tempting to portfolio builders at a time when the Bank of England base rate is 4.5% (and inflation is more than double that).

Source: Company accounts. Fiscal year to March

Further advances in the base rate could be bad for sentiment.

They could drive up the yield on UK government bonds, or gilts, as in some ways REITs are priced off gilts. Investors demand a higher yield from property, or real estate stocks, relative to gilts to compensate themselves for the additional risks involved (such as the liquidity of the underlying asset, tenant defaults and management error). The higher interest rates go, the higher gilt yields go, and the higher REIT dividend yields have to go to compensate, and the higher the yield, the lower share price, all other things being equal.

However, brave, patient contrarians may feel that this is where the opportunity lies.

Whether the Bank of England is finished with raising rates or not, it feels like the peak may not be far away. The two-year UK gilt yield has an uncanny habit of moving six to nine months before the Monetary Policy Committee and at the time of writing the yield on two-year government paper is 3.8%, some seventy basis points (0.70%) below the Bank of England base rate.

If the interest rate cycle is about to turn and pivot to easing from tightening, then REITs could return to investors’ radar.

These articles are for information purposes only and are not a personal recommendation or advice.