The main reason to buy shares in offices landlord Great Portland Estates is its focus on London's West End. Property depends on finance, and currently the West End has better access to bank debt and the equity of investment funds than anywhere else in Europe. Which means that, in a climate of tight finance, Great Portland is one of the few real-estate investment trusts likely to generate meaningful growth over the next half decade.
- Focus on resilient West End
- Development profits
- Valuation discount to West-End rivals
- Modest dividends
- Weak outlook for property market
Value investors may wince at Great Portland's meagre yield. But the company doesn't just collect rent, it also has a strong track record as a developer, with four office blocks under construction and a further 18 projects in the pipeline. That means capital gains should form a substantial part of investment returns.
Moreover, there's value in the current share price, after a disappointing year for shareholders. The company's stock-market value has risen just 3 per cent over the past 12 months, compared with 18 per cent for its net asset value (NAV). So the shares now trade on a 5 per cent discount to NAV, according to brokerage Jefferies, whereas shares in the other two listed West End landlords, Derwent London and Shaftesbury, trade on premiums of 6 and 12 per cent respectively.
Great Portland's relative underperformance may reflect its exposure to markets outside the West End - it has a few properties in the City and Southwark. But these only make up a fifth of its portfolio. And investors' worries about City rents look overcooked: the banks may be making staff redundant, but it doesn't appear to be affecting City employment in aggregate. The number of jobs in financial and business services rose by 88,000 during the final quarter of 2011, according to official figures - the fifth consecutive quarter of growth. Capital Economics, a consultancy specialising in bearish views, admits its "recent concerns that Central London office rental values could start to fall towards the end of this year may not be warranted".
GREAT PORTLAND ESTATES (GPOR) | ||||
|---|---|---|---|---|
| ORD PRICE: | 368p | MARKET VALUE: | £1.15bn | |
| TOUCH: | 367-368p | 12M HIGH / LOW | 450p | 305p |
| DIVIDEND YIELD: | 2.3% | DEVELOPMENT PROP: | nil | |
| DISCOUNT TO NAV: | 5% | |||
| INVESTMENT PROP: | £1.68bn | NET DEBT: | 54% | |
| Year to 31 Mar | Net asset value (p) | Pre-tax profit (£m) | Earnings per share (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2008 | 433 | -3 | -1.6 | 8.9 |
| 2009 | 234 | -436 | -180.0 | 9.0 |
| 2010 | 280 | 157 | 55.5 | 8.0 |
| 2011 | 356 | 261 | 83.8 | 8.2 |
| 2012* | 389 | 122 | 39.2 | 8.4 |
| % change | +9 | -53 | -53 | +2 |
NMS: 7,000 Matched bargain trading BETA: 0.9 *Investec Securities estimates | ||||
Great Portland's latest trading update also supports a more optimistic view of the London office market than the bears would have. The company signed 35 new leases in the final quarter of 2011, nine tenths of them at rates 3.4 per cent above surveyors' estimates of rental values last March (the balance were below market rates because they included break clauses giving Great Portland the option to redevelop). That reduced the portfolio's vacancy rate to just 2.5 per cent.
The vacancy rate in the West End as a whole is similarly minimal, while demand for office space is very broad. That suggests market rents will continue to rise this year, probably at about 5 per cent. Even if they don't, Great Portland's rent roll will naturally rise as leases expire because, on average, its tenants pay about 10 per cent less than current market rates. In the industry jargon, its income is strongly "reversionary".
Great Portland's exposure to development risk is another worry that has affected its share price. Building offices is risky because they take two or three years to complete, by which time the ever-volatile rental market may have turned. That's one reason the company's shares are hit when talk of a "double dip" recession revives.
Yet in reality the risk isn't that great, because Great Portland's development programme is buttressed by so-called "pre-lets" - agreements to lease space in advance. These covered over three fifths of the space under construction in December, and management has repeatedly stressed it will not start building without a pre-let. That applies notably to 100 Bishopsgate, a conspicuous tower that has been worrying the City. Instead, the developments - with an estimated profit on cost of 48 per cent - should be a source of growth.
