South East offices are on the rebound. Having slumped an astonishing 46 per cent on average between the summers of 2007 and 2013, offices in places such as Bracknell and Brighton posted capital growth of 2.5 per cent in the third quarter, according to IPD - better than the City and second only to the West End. Despite the encouraging signs, McKay Securities (MCKS) still offers investors a chance to buy into this recovery story at a wide discount.
- Recovering South East office market
- Discount to adjusted book value
- 4.5 per cent dividend yield
- Dividends temporarily uncovered
- Expensive debt and swaps
McKay is a small real-estate investment trust, with 35 properties worth £224m funded by £101m of net debt and about £122m of shareholder funds. The properties - mostly offices, but also some industrial estates and the odd shop - are mainly in Surrey and Berkshire, as well as in London. They were marked up 3.9 per cent on average over the six months to 30 September - an astonishing turnaround after years of stagnation.
The gains were caused by a resurgence of risk appetite towards regional stock among institutional investors. Risk appetite is fickle, yet a tight rental market suggests that rental growth - a more sustainable driver of property returns - will follow. After a six-year development freeze, good quality office space in the South East is increasingly hard to come by; the market vacancy rate is now as low as 7.2 per cent. Rising business confidence is, meanwhile, driving tenant demand. The volume of lettings this year is likely to be the highest since 2007 and nearly double last year's level.
McKay is poised to ride this rising tide. At 10.9 per cent, its portfolio vacancy rate as at 30 September was high, but should now fall as tenants regain the confidence to move or expand. There's already evidence of this: the company recently announced a series of new lettings, most significantly at an office park in Maidenhead that will boost occupancy from 30 per cent to 78 per cent and boosted the value of the asset by 21.4 per cent in the first half.
MCKAY SECURITIES (MCKS) | ||||
|---|---|---|---|---|
| ORD PRICE: | 188p | MARKET VALUE: | £86.3m | |
| TOUCH: | 188-188.3p | 12-MONTHHIGH: | 200p | LOW: 130p |
| FWD DIVIDEND YIELD: | 4.5% | TRADING PROP: | nil | |
| DISCOUNT TO FWD NAV: | 24% | |||
| INVESTMENT PROP: | £224m | NET DEBT: | 109% | |
| Year to 31 Mar | Net asset value* (p) | Pre-tax profit* (£m) | Earnings per share* (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2011 | 223 | 5.10 | 12.1 | 8.3 |
| 2012 | 229 | 5.00 | 11.0 | 8.4 |
| 2013 | 238 | 5.42 | 11.5 | 8.5 |
| 2014* | 243 | 3.50 | 7.5 | 8.5 |
| 2015* | 248 | 4.10 | 8.6 | 8.5 |
| % change | 4% | -24% | -25% | 0% |
Normal market size: 2,000 Matched bargain trading Beta: 0.3 *Oriel Securities estimates, underlying NAV, PTP and EPS figures | ||||
Such projects will give a much-needed boost to the company's rental income, which has taken a hit this year following the sale of a large office in Glasgow for £16.8m. Broker Oriel Securities expects rental earnings per share to be 7.5p this year, down from 11.5p and leaving the 8.5p dividend uncovered. Yet cover should be restored next year as McKay fills voids and redeploys the proceeds of the Glasgow sale. The company made small acquisitions in Farnborough and Redhill over the summer, but needs more.
McKay has a decent track record with property management, but the same cannot be said of its debt book. When interest rates were rising before the financial crisis, McKay took out hedges that turned into a vast liability - currently £27.5m on the books - when rates, in fact, fell. The company's basic book value, which takes this into account, is 201p. Its adjusted book value, which does not, on the basis that McKay will never have to pay the sum, is 237p.
