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A tall tale in Battersea

Created:

28 June 2010

Written by:

Claer Barrett

Plans to fund the regeneration of Battersea Power Station by pursuing a London stock market listing received huge press attention last week. For now, Battersea's four crumbling white towers stand as a monument to banking excess.

In 27 years, the only listing the derelict monument has won is its Grade II* status from English Heritage. Site owner Real Estate Opportunities (REO), the Jersey domiciled vehicle of Irish property tycoons Johnny Ronan and Richard Barrett, is seeking an international funding partner with pockets deep enough to finance the £4.5bn development of 3,700 homes, a giant shopping centre and office space around its redundant hulk (pictured).

Critics argue it is REO's balance sheet that's in need of restoration. Full year results last week were (pardon the pun) shocking. Aside from Battersea, the company's highly leveraged property investment portfolio consists of offices and shops in Ireland. In the 14-month reporting period, Irish property values plunged 51 per cent. The result? REO's debts are now worth £722m more than its assets, causing a net deficit of 216p per share.

Revealing underlying losses of close to £1bn in the period, REO's shares plunged 50 per cent last week, and now languish at 8p. The valuation destruction means that its investment portfolio fell 43 per cent in value, now standing at just over £1bn, and produced £44m of rental income in the period.

REO's unwieldy debts mean that £815m of the group's loans have already been placed into the National Asset Management Agency (Nama), Ireland's £70bn 'bad bank' which is now working with REO to restructure its debts.

REO has submitted a business plan to this effect, which Nama has yet to approve. The detail, contained in last week's results, assumes that Nama will renew existing banking facilities of £815m, defer interest payments, and provide further working capital. The plan's success hinges on planning being granted for Battersea's redevelopment, which REO hopes will entice a funding partner to buy out liabilities on a £226m loan from the Bank of Ireland and Lloyds which it used to part-fund the £400m purchase of Battersea in 2006.

The Lloyds portion is outside of Nama's control, but REO reports that covenant waivers and extensions have been secured on the total debt "subject to completion of legal documentation". REO believes demerging Battersea into a separately listed vehicle is the best way of restructuring the project. Ambitiously, it hopes to achieve this by the end of 2010.

"The timing will be get planning, find and investor, demerge and refinance in that order," says REO director Robert Tincknell. "We've had a lot of interest already. It's a great project, in a great location." The site's proximity to the new US Embassy and location in the Nine Elms regeneration corridor are points in its favour. But the sheer size of the scheme, development timeframe and eye watering construction costs are major challenges.

"We'd like to sell down a 50 per cent interest, be that to one, two or three funding partners," he continues. "Clearly, we are leveraging our international connections in the Far East, and we are confident about the process."

Obviously, there are no guarantees that the London Borough of Wandsworth will approve the planning application. A decision is expected by September 2010. Assuming architect Rafael Vinoly's plans receive the thumbs-up, what can potential funding partners and stock market investors look forward to buying into?

In REO's full year results last week, the Battersea site (without planning) is held at £388m – just £22m less than it was purchased for at the top of the market. This breaks back to around £10m per acre for a derelict 38-acre site which has no hope of producing meaningful income for years. By comparison, Capital & Counties Earls Court exhibition centre is valued at circa £6m per acre – and that's an income-producing asset, sited atop a major transport hub.

Delve into the small print, and it turns out that King Sturge's valuation is subject to "special assumptions". The £388m value of Battersea is predicated upon three unknowns. Firstly, that the Northern Line is extended to the site (which is optimistically costed at £200m). Secondly, that "debt funding is available for a project of this size on commercially acceptable terms." Finally, that agreements with Wandsworth council on amounts of affordable housing and other community facilities are agreed "in accordance with the advice provided by the directors".

Quite a lot of risk to digest, especially when one considers the development costs of the total project have been estimated at £4.5bn. Banks' risk aversion means that raising even half such a figure would require a huge syndicate, possibly comprising over 40 lenders.

Of course, the site will not be developed all at once, and Mr Tincknell defends that development loans won't be sought until early 2012 - by which time the market will have hopefully improved. Still, this analogy gives readers an idea of the towering financial challenge REO faces to get its 8 million square feet vision off the starting blocks.

Innumerable plans for Battersea have failed in the past 27 years. It remains to be seen whether a stock market listing, or a forced sale at the hands of Nama, becomes the next chapter in the power station's chequered history.