For instance, Alpha Real Trust (ARTL:100p), a little known company that makes its money by investing in high-yielding property and asset-backed debt and equity investments in western Europe with the aim of delivering strong risk-adjusted cash flows, came onto my radar earlier this year. It was unloved when I initiated coverage at 80p ('High-yield property play', 10 Feb 2016), and when I reiterated that stance at 78p in advance of a trading update ('Profiting from sterling's plunge', 11 Jul 2016) which subsequently revealed Alpha’s net asset value had increased from 137.9p to 141.7p a share in the first quarter to end June 2016. However, the uplift only reflected positive exchange rate movements and EPS of 2p a share in the three-month period, so was conservative given the company has also been benefiting from numerous other tailwinds which would benefit property revaluations. Indeed, I noted in my next update that I felt the risk to further valuation uplifts was significantly underpriced when I rated the shares a buy at 88p, highlighting a target price of 105p ('Alpha seeks alpha', 23 Aug 2016).
And so it has proved to be the case as the company has just reported a record net asset value of 151.9p at the end of September 2016, up from 137.9p at the end of March 2016. A key driver behind this stellar performance was Alpha’s wholly owned H20 shopping centre in Madrid. The shopping complex comprises 118 retail units with a gross letting space of 51,825 sq metres, a multiplex cinema, a supermarket let to leading Spanish operator Mercadona, and restaurants. Record footfall and a raft of tenancy renewals have driven up the value of H20 by almost 6 per cent to €112.6m in the six months to end September 2016. Sterling’s devaluation has had a material positive impact too, so much so that H20 is now worth £97.2m at current exchange rates, or 15.5 per cent higher than at the end of March 2016. Alpha has €73.5m of bank debt secured on the shopping centre, so its equity is currently worth £39.1m, up from £30.9m at the end of March, a sum that accounts for 56p a share of the company’s net asset value of £105m, or 151.9p a share.
Based on 69.3m shares in issue, the valuation uplift from H20 accounted for 11.8p of the 14p a share rise in Alpha’s net asset value per share in the first half. There is scope for further gains here as the benefits from investment in the complex, occupier upgrades and expansions of stores, increases in lease extensions, and rising footfall on the back of Spain’s improving economy, should all help drive occupancy rates and rental income higher and with it the value of Alpha’s investment.
High-yielding debt investments
Other investments of interest include Alpha’s 19 per cent shareholding in a small listed property company, Industrial Multi Property Trust (IMPT:232p). This holding was worth £2.4m at the end of March 2016, £3.1m at the end of September 2016 and has increased to £3.7m post the half year end, adding a further 1p a share to Alpha’s net asset value of 151.9p. Alpha also provides IMPT with a subordinated five-year loan of £10m that expires in December 2018 and on which it earns an annual coupon of 15 per cent, so the equity and debt investments in IMPT account for around 13 per cent of Alpha’s proforma net asset value. IMPT's portfolio was valued at £85m at the end of September 2016, so after factoring in Alpha's subordinated loan of £10.3m (including accrued income), and other debt, IMPT has a loan-to-value ratio of 73 per cent.
IMPT's portfolio comprises a portfolio of 52 multi-let properties offering 499 leasable units with a total floor area of 1.7m square feet, all of which are located in the UK with 86 per cent invested in light industrial property and the rest in offices. The properties offer attractively priced accommodation for local occupiers which is why occupancy rates have risen to 91.6 per cent by the end of last month, up from 89.9 per cent at the end of June. However, IMPT's shares continue to be rated on a deep discount to net asset value of 296p, a reflection of the company’s high cost of debt and tenants favouring shorter term flexible leases.
Bearing this in mind, in last Friday’s announcement, the board of IMPT noted that if a refinancing of its portfolio is not possible it will review “alternative ways to improve shareholder value including a sale of the portfolio”. Either way Alpha is well placed to benefit from a further narrowing of IMPT’s share price discount to net asset value either as a result of a debt refinancing to remove the distress risk embedded in IMPT’s share price; potential for bid interest following an unsolicited approach last summer; or in the event of an outright sale of its portfolio. Furthermore, there is an incentive for IMPT to refinance as it will escape the break fees that would otherwise be applicable on Alpha's facility.
Other high yielding investments in Alpha’s portfolio include a mezzanine loan of £7.2m to Active UK Real Estate, a company listed on the Channel Islands stock exchange (www.cisx.com). Alpha earns a 9 per cent annual coupon on the loan which it has just extended for a further two years. Active UK Real Estate's portfolio was valued at £49m in the summer, so after factoring in bank finance and Alpha's loan, the company's loan-to-value ratio is 54.4 per cent. Alpha also invested £3.2m for a 20.5 per cent equity stake in the company to increase its exposure to the high yielding UK commercial real estate sector. This has a carrying value of £3.5m in Alpha’s accounts, so has performed relatively well, a reflection of Active UK Real Estate's top quartile performance against the IPD benchmark in the past year. In aggregate, the equity interest in Active UK Real Estate and the mezzanine loan account for 10.1 per cent of Alpha's portfolio.
Alpha has made some interesting high yielding debt investments post the half-year end including a £1.7m mezzanine loan secured on a hotel located in central Newcastle. The loan has a three-year term and earns an annualised return in excess of 15 per cent. The hotel opened in 2009, is operated under a franchise agreement from Intercontinental Hotels as a Staybridge Suites, has a strong corporate customer base and contracts with large international brands with operations in the vicinity. After accounting for Alpha’s mezzanine loan, the hotel’s loan-to-value ratio is around 75 per cent.
Diversified portfolio of investments
Alpha has some potentially lucrative overseas property developments too. Earlier this month, the company entered into a binding agreement to purchase a property in Frankfurt, subject to securing planning consent for a data centre with a minimum gross external area of 23,000 square metres and a specified minimum electrical power supply with a dual feed for the proposed development. If the power and planning conditions are not secured next year, Alpha can terminate the agreement. The estimated planning and pre-development costs of €2.6m (£2.2m) will be funded by Alpha, a sum equating to around 2 per cent of its net asset value. The investment opportunity here is to sell the site with enhanced planning and a pre-let to a data centre operator, or to enter the development process and build and hold the leased development for income. Development finance will be sought to part-fund the development cost and site, minimising further equity investment needed by Alpha to complete the project.
This is a good example of how Alpha’s board have been astutely recycling cash in order to invest in value accretive projects and ones capable of generating strong and growing cashflows. Private rented residential development projects in Leeds and Birmingham, accounting for 6.6 per cent of the portfolio, are other examples of potentially lucrative investments.
But even without factoring in investment gains, Alpha’s underlying EPS rose by 30 per cent to 3.9p in the six months to end September 2016, a performance that has enabled the board to maintain its quarterly dividend per share of 0.6p while at the same time use its surplus cash to invest in new projects as I have outlined. The payout looks rock solid as the annual income earned from a £20.4m portfolio of freehold defensive ground rents which yield 4 per cent and account for 29.5p a share of Alpha’s net asset value of 151.9p, covers half the cost of the company’s dividend to shareholders.
The bottom line is that even though Alpha’s shares have risen 25 per cent since I initiated coverage in February, they still trade more than a third below net asset value despite the company’s strong investment performance. A discount of that magnitude is wholly unwarranted in my view given the investment risk remains firmly skewed to the upside. In the circumstances, I feel that Alpha’s shrewd investment advisors are still worth backing and continue to rate the shares a buy at 100p. My new target price is 120p, still a hefty 20 per cent below the last reported net asset value. Buy.
LXB valuation downgrade
Shares in LXB Retail Properties (LXB:38p), a Jersey resident closed-end real estate investment company focused on edge-of-town and out-of-town retail assets, which is being wound down, took a 20 per cent tumble post full-year results yesterday. The company announced that net asset value per share had effectively fallen by 8.5p a share to 56.7p in the six months to end September 2016 after accounting for the payment of a 38p a share dividend in June. The board had previously stated that they expected future capital returns to shareholders to exceed the 64.2p a share end March 2016 net asset value by a "comfortable margin", so this was quite a reversal and one that explains the sharp share price reaction.
A more difficult market backdrop for commercial property sales post the EU Referendum, delays to some project completions which has impacted rent commencements and handover dates, and uncertainty over the likely level of realisations for the company’s remaining assets, have all construed to lead to a £6.8m valuation downgrade on LXB’s remaining properties, in addition to a £1m net impairment charge in respect of the cancellation of certain contractual arrangements. It’s not all bad news as the investment managers highlighted a number of small property disposals which are due to complete in the coming months and should return the balance sheet to a net cash position, having returned a further 18p a share in dividends post the period end.
However, there is no glossing over the fact that investors are now unlikely to pay a premium to net asset value – 38.7p a share after accounting for the recent 18p a share payout – given that the majority of future realisations are largely dependent on a successful sale of the Stafford Riverside development sometime next year, and the granting of planning consent on phases two and three of the Rushden Lakes development and subject to an agreement with The Crown Estates. Investors are likely to be far more cautious now in light of the valuation downgrades. And this is an issue for me.
That’s because I initiated coverage at 85p ('Bag a retail property bargain', 6 Oct 2015), so after adjusting for a total cash return of 56p a share this year this still gives an entry point of 29p, still well below the current share price of 38p even after yesterday's markdown. However, I also advised buying at the equivalent of 41.5p net of dividends ('Hot property, 7 Jan 2016), at 44p ('Exploiting a valuation anomaly', 11 May 2016), at 38p (‘Deep value small-caps’, 12 Jul 2016), and at 46p (‘Hot property sales’, 31 Aug 2016), so some holders will now be under water after the share price was marked down by 10p to 38p yesterday.
Moreover, I last recommended running profits at 50p ('Bumper capital returns, 28 Sep 2016) on the basis that “they are still worth holding on to given the potential for the share price discount to net asset value to narrow even further”. Clearly, after the valuation downgrades, that bull point has been nullified and it’s time to sell.
Finally, I plan updates on a raft of companies on my watchlist that have reported results and pre-close trading statements in the past few days including currency manager Record (REC), asset manager and stock broker Walker Crips (WCW), property company Palace Capital (PCA), asset management group Miton (MGR), student accommodation group Watkin Jones Group (WJG), car dealer Cambria Automobiles (CAMB), and engineering support services group Renew Holdings (RNWH). My next column will appear on my home page at 12pm on Monday, 28 November.
