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Custodian Property Income REIT plc: Fourth quarter trading update shows strong leasing momentum driving income and supporting fully covered dividend as well as value stabilisation
Custodian Property Income REIT plc (CREI)
10 May 2023
Custodian Property Income REIT plc
(“Custodian Property Income REIT” or “the Company”)
Fourth quarter trading update shows strong leasing momentum driving income and supporting fully covered dividend as well as value stabilisation
Custodian Property Income REIT (LSE: CREI), which seeks to deliver a strong income return by investing in a diversified portfolio of smaller regional properties across the UK, today provides a trading update for the fourth quarter ended 31 March 2023 (“Q4” or the “Quarter”) and the year ended 31 March 2023 (“FY23”).
Strong leasing activity continues to support rental growth and underpin fully covered dividends
Valuation movements
Sales continued at above book value while £5.8m was invested in the development and refurbishment of existing assets
Gearing remains low and in line with target, with significant borrowing headroom
“Much of the optimism in real estate is due to the prospect of rental growth which is the key component of anticipated total returns. In an inflationary environment, real returns from real assets can be achieved when rents are growing. The Company’s portfolio has an EPRA net initial yield[6] of 5.8% and an equivalent yield[7] of 7.3%, demonstrating the reversionary potential of the Company’s properties, which we continue to capture.
“Our asset management of the portfolio and the types of assets we own are focused on where occupational demand is strongest, allowing us to lease vacant space across all sectors and deliver rental growth. This has supported EPRA earnings per share and underpins the Company’s long term track record of paying a fully covered dividend.
“Custodian Property Income REIT’s balance sheet resilience, with low gearing and a longer-term fixed rate debt profile, has left the Company well insulated from the negative impact of interest rate rises. Rental growth feeding into the portfolio will create headroom for eventual refinancing.
“As energy performance certificate (“EPC”) requirements of the Minimum Energy Efficiency Standards (“MEES”) tighten we expect to maintain a compliant portfolio of properties. With energy efficiency a core tenet of the Company’s asset management strategy and with tenant requirements aligning with our energy efficiency goals we see the advance of MEES as an opportunity to secure greater tenant engagement and higher rents.
“We remain confident that our ongoing intensive asset management of the portfolio, which still offers a number of wide-ranging opportunities to add value, will maintain cash flow and support consistent returns. Coupled with the strength of the Company’s balance sheet, this will continue to support our high income return strategy.”
Net asset value
The Company’s unaudited NAV at 31 March 2023 was £437.6m, or approximately 99.3p per share, a marginal decrease of 0.5p (-0.5%) since 31 December 2022:
The NAV attributable to the ordinary shares of the Company is calculated under International Financial Reporting Standards and incorporates the independent portfolio valuation at 31 March 2023 and net income for the Quarter. The movement in NAV reflects the payment of an interim dividend of 1.375p per share during the Quarter, but does not include any provision for the approved dividend of 1.375p per share for the Quarter to be paid on 31 May 2023.
Investment Manager’s commentary
UK property market
In the 12 months to 31 March 2023 the UK commercial property market saw valuations decline by 17% with the bulk of the rerating in the quarter to December 2023. The Company’s portfolio experienced a more muted fall of only 11.8% like-for-like and we believe this lower volatility is primarily due to Custodian Property Income REIT’s smaller regional property strategy and focus on income returns. Firstly, the Company’s valuations did not ‘overheat’ during mid-2022 to the same extent as, say, prime logistics. Secondly, the diversified strategy provided a softer landing as sub-sectors such as high street retail, drive through restaurants and car showrooms saw much less pricing volatility than logistics. With valuations appearing to have stabilised it is possible to see the rapid correction due to the new interest rate environment as strongly positive for the market, maintaining liquidity and providing future acquisition opportunities.
The table below shows the reversionary potential of the portfolio by sector once asset management initiatives are complete, by comparing EPRA net initial yields to the equivalent yield, which factors in expected rental growth and the letting of vacant units. Across the whole portfolio, valuers’ estimated rental values are 16% ahead of passing rent and while part of the reversionary potential is due to vacancy, the balance is this latent rental growth which will be unlocked at rent review and lease renewal.
Retail warehousing has been a key sector for acquisitions for some time and it demonstrated extraordinary resilience through the pandemic, particularly in our favoured sub-sectors of food, homewares, DIY and the discounters. Vacancy rates are very low and future rental growth appears affordable for occupiers.
In the office sector, a much clearer picture is emerging of how tenants will use and occupy offices in the new world of hybrid working. Occupiers are demanding much higher levels of amenity both from their offices and from their office locations. This favours modern, flexible office space in city centre locations with strong transport links and high environmental credentials. Where this space can be provided there appears to be meaningful rental growth, but conversely office space that cannot meet these criteria risks becoming obsolete and will need to be re-purposed. In our portfolio we have seen strong rental growth in Oxford and central Manchester where we are currently refurbishing offices to meet the new market demand.
Rental growth remains strong in the industrial and logistics sector which accounts for 40% of the Company’s rent roll and 48% of the portfolio by value. Lack of supply, limited development of smaller and mid-box industrial units and construction cost inflation have all combined to heighten occupational demand and produce low vacancy rates, driving rental growth for new-build regional industrial units and well specified, refurbished space.
Asset management
The Investment Manager has remained focused on active asset management during the Quarter, completing leasing initiatives, with a weighted average unexpired term to first break or expiry (“WAULT”) of 9.5 years, increasing the portfolio total to 5.0 years:
During the Quarter rent reviews were settled with:
The positive impact of letting vacant space has increased EPRA occupancy to 90.3% (31 December 2022: 89.9%). Of the Company’s remaining vacant space 57% is subject to refurbishment or redevelopment and 27% is under offer to let.
The weighted average EPC score of the portfolio has improved during the last 12 months from 61 (C) at 31 March 2022 to 58 (C) at the Quarter end.
Fully covered dividend
The Company paid an interim dividend of 1.375p per share on 28 February 2023 relating to the quarter ended 31 December 2022. The Board has approved another interim dividend per share of 1.375p for the Quarter, fully covered by EPRA earnings, payable on 31 May 2023. The Board is targeting aggregate dividends per share[13] of at least 5.5p for the year ending 31 March 2024. The Board’s objective is to grow the dividend on a sustainable basis, at a rate which is fully covered by net rental income and does not inhibit the flexibility of the Company’s investment strategy.
Additional details on disposals
During the Quarter the Company sold a high street retail unit in Bury St Edmunds at auction for £0.54m, £0.14m (35%) ahead of valuation. The lease term had been recently increased by five years but with annual rent decreasing from £53k to £40k, and rents were not anticipated to recover in the short-medium term.
Borrowings
At 31 March 2023 the Company had £173.5m of debt drawn at an aggregate weighted average cost of 3.8% with no expiries until September 2024. This debt comprised:
The Company’s borrowing facilities are:
Variable rate borrowing
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