Decent buildings and good health are two of man's most fundamental needs. That's the principle behind the investment case for shares in Primary Health Properties (PHP), a property company focused on the ever-defensive healthcare sector. As the risk of recession looms, PHP's combination of stable income and steady growth looks compelling.
- Big dividend yield
- Steady growth prospects
- Defensive market
- Shares have underperformed
- Rising debt costs
- Limited funding for property development
Its business model is simple. It owns 150 properties, mainly doctors' surgeries, from which it earns a rent. It then pays almost all of that rent out to shareholders – as it is obliged to within its tax-efficient real-estate investment trust status.
The main risk landlords face is that their tenants stop paying the rent, either because their lease has expired or because their business has gone bust. Yet PHP is almost immune to these worries. Its portfolio is fully let and looks likely to remain so.
That's because 90 per cent of its rent comes either directly or indirectly from the NHS, which, for all the government's tinkering, will not go bankrupt. Moreover, doctors' surgeries rarely move, because they face steady demand and don't operate in a competitive market. Surgeries are only built in response to a central NHS dictat, so there is no problem of oversupply.
The absence of the vacancy problems that often plague property companies also keeps growth steady. PHP's rents have consistently increased by 3-4 per cent a year over the past three-and-a-half years, even as office and retail rents have plunged. That, in turn, has driven steady dividend increases.
Of course, rent increases may be harder to sustain now that NHS finances are tighter. Indeed, fears of further pressures on healthcare spending may explain the underperformance of PHP's shares this year.
PRIMARY HEALTH PROPERTIES (PHP) | ||||
|---|---|---|---|---|
| ORD PRICE: | 315p | MARKET VALUE: | £215m | |
| TOUCH: | 310-315p | 12M HIGH / LOW | 350p | 273p |
| DIVIDEND YIELD: | 5.8% | TRADING STOCK: | NIL | |
| PREMIUM TO NAV: | 9% | |||
| INVEST PROPERTIES: | £490m | NET DEBT: | 142% | |
| Year to 31 Dec | Net asset value (p) | Pre-tax profit (£m) | Earnings per share (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2007† | 369 | -3.7 | 59.4 | 21.75 |
| 2008 | 227 | -23.7 | -62.0 | 16.50 |
| 2009 | 247 | 10.8 | 26.6 | 17.00 |
| 2010 | 262 | 27.2 | 41.3 | 17.50 |
| 2011* | 287 | 21.4 | 32.1 | 18.00 |
| % change | +10 | -21 | -22 | +3 |
NMS: 800 Matched bargain trading Beta: 0.4 † 18-month period Edison Investment Research estimates | ||||
But rents are set by district commissioners in negotiation with landlords, and there is an appeals process if the landlord feels hard done by. Rent increases are therefore the product of a bargaining process, with the district commissioners pointing to the weak property market while the landlord points to the rising costs of building new properties.
The result is a compromise: rent increases may be lower than in the past, but probably not much lower. PHP's first-half results offered no evidence of change. The average increase for the 34 triennial rent reviews signed during the period was 10.6 per cent, which works out at 3.4 per cent a year, higher than the year before.
However, the government's reforms are affecting PHP's development pipeline, which depends on the NHS ordering more surgeries. "Few people want to take decisions in the current environment," says managing director Harry Hyman. He expects the red light to switch to green when reforms are enacted, probably next spring. But the primary care sector won't gain shiny new buildings at the same rate as under Labour.
Debt is another issue. PHP is currently renegotiating its package of loans. Although lenders are unlikely to turn away such a creditworthy borrower, they may charge more for their services -eroding the company's profit growth.
