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Empiric Student’s discount to Unite doesn’t add up

The student landlord was hit hard by the pandemic, but the long-term outlook is good
August 18, 2022

As the summer holidays draw to a close, thousands of university students across the country are getting ready for a new academic year. Some are moving away from home for the first time into university accommodation, some renting a house from a private landlord and an increasing number are moving into buildings developed by the likes of Empiric Student Property (ESP).

IC TIP: Buy
Tip style
Growth
Risk rating
Medium
Timescale
Medium Term
Bull points
  • Demand high and likely to increase
  • Weak PBSA supply
  • Strong trading history
  • Shares at a discount to NAV
Bear points
  • Overreliance on overseas students
  • Below-inflation rental growth

The number of students applying for British universities this year is the highest on record and application numbers have been on an upward trend for over a decade. As a result, the number of students who are currently studying at university is also the highest on record – and the rate of the intake is increasing.

Meanwhile, the UK’s housing market is locked in permanent crisis, meaning there are barely enough homes for those in the workforce let alone for those in full-time education. According to real estate agency Cushman & Wakefield, the ratio of university students to student beds is 2.4:1 and the agency calculates that this “market headroom” has increased 8 per cent over the last five years as growing demand for student beds has lagged new supply. Universities themselves are not providing enough of this accommodation – the ratio of university students to beds provided by universities is 3:1 – leaving this niche corner of the residential rental market ripe for privatisation.

A typical path for university students is to stay in university-provided accommodation in their first year and then go out to find a rental on the private market in their second and third years. Developers of purpose-built student accommodation (PBSA) serve both types of students, sometimes by directly working with universities to provide rooms for first year students and sometimes providing private accommodation, which tends to be attractive to international and second- or third-year UK students. This, broadly speaking, is how the PBSA market works.

As well as working in a low supply and high demand sector, PBSA developers such as Empiric are also buoyed by apparent tenant desire for the professionalisation of the sector. According to data from UCAS and estate agency Knight Frank, 69 per cent of students living in PBSA felt positive about their accommodation provider’s response to Covid, compared with just 25 per cent of students living in the wider private rented sector. While this data point does need to be taken with a handful of salt (having been partly gathered by one of the sector’s biggest dealmakers), it nevertheless highlights the appeal of PBSA to today’s university intake.

Reforms are also coming for the sector which are likely to benefit PBSA players. A government white paper, known as the Renters Reform Bill, is proposing the abolition of fixed-term tenancies in a bid to improve the lot for renters generally in the UK. Some industry experts have voiced their concerns that this will make it harder for buy-to-let landlords to provide student accommodation, but the reality is that it will be an inconvenience for the market more than anything else. 

In Scotland, where the reforms are already in place, the country is suffering from a dearth of student housing, which critics have pinned on the abolition of fixed-term tenancies. Yet, as private landlords leave the student rental sector in Scotland, big name PBSA developers continue to pile in. Evidently, they are having few issues with the new restrictions and are no doubt enjoying operating in a market where demand is now even higher thanks to the lack of private landlords in that market. Empiric already operates in Aberdeen, Edinburgh, Glasgow and Fife, showing it can work just fine within the restrictions that may come for the rest of the UK.

Many of the big PBSA developers and landlords are private firms, such as Mace, CA Ventures and Downing Students, and the private equity backed iQ and Scape Living, which last year together acquired GCP Student Living. But the three listed names involved in PBSA are Empiric, Watkin Jones (WJG) and the biggest UK player of them of all, Unite Students (UTG). Watkin Jones is not a fully-fledged student housing developer, having a lot of built-to-rent development and for-sale residential in its portfolio as well, which means Unite is Empiric’s closest market peer.

There is clear blue water between the two companies. Unite has a market cap of £4.69bn, making it more than eight times Empiric’s size. This greater scale also means bigger pre-tax profits: Unite raked in £334mn in the half year to 30 June, compared with the £70.3mn Empiric made over the same period (after booking £25mn in gross rental profit and £58.6mn in fair value gains).

Yet this gulf comes with an advantage, at least from a potential investor’s perspective. Unite’s solid performance over the last five years means it has attracted a 11 per cent premium to consensus forecasts for EPRA net asset value (NAV) at the end of 2023. While this is far from outrageous, Empiric shares look a bargain by comparison on a 16.6 per cent discount to forward NAV.

Given Empiric’s track record, the mark down feels unwarranted. The company was growing steadily before Covid hit and is back on a strong growth trajectory as students return to university. Occupancy is up to 86 per cent as of 30 June this year from 65 per cent last year and the company expects the figure to exceed 92 per cent for the 2022/23 academic year. The resurgence in occupancy is being driven by the market fundamentals: more and more students want to come to British universities and there are not enough beds for them.

It would take another black swan event like Covid to knock Empiric off course, and it doesn’t appear inflation is likely to strike a hammer blow. Last week, chief executive Duncan Garrood told investors that all energy costs have been hedged until the third quarter of 2024, while two-thirds of the group’s total debt facilities are fixed, thereby protecting the balance sheet from rising interest rates.

Investors are belatedly starting to see the value in this stock. After trading at a discount for years, the stock price jumped in reaction to its recent results, making Empiric the only large UK listed property company to have seen its market value increase by double digits in the year to date.

BEST PERFORMING PROPERY SHARES OF 2022 (AS OF CLOSE ON 12/08)
CompanyGrowth (%)
Empiric Student Property13.3
Balanced Commercial Property Trust9.33
Palace Capital8.71
Secure Income8.47
Unite Group5.81
Foxtons Group5.70
Source: FactSet

Now for the bear points. The first is the group’s dependence – some might say overdependence – on international students. While non-UK students made up just 20 per cent of total applications for the next academic year, the same group make up 50 per cent of Empiric’s forward bookings. What’s more, that figure is looking likely to increase as the landlord still has 8 per cent availability for the 2022/2023 year and says that Indian students tend to book in later. As Covid has shown, there are matters outside Empiric’s control that can hurt demand from overseas students for UK university places. In reaction to this, the company has addressed its overseas imbalance somewhat – decreasing the overseas share of its bookings from two thirds pre-Covid.

For investors, the bigger question is how Empiric handles the effects of rising prices. The company is targeting 5 to 6 per cent rental growth, but in an environment where inflation is currently at 10.1 per cent that might not be good enough to generate real term income growth. Still, while the headwind is unwelcome, the fundamentals of the UK’s PBSA market are such that upward revisions to asset values are more likely than in most corners of the commercial property world. As such, the long-term trend for Empiric combined with its current discount outweighs those concerns.

Company DetailsNameMkt CapPrice52-Wk Hi/Lo
Empiric Student Property  (ESP)£588m97.5p104p / 80.1p
Size/DebtNAV per share*Net Cash / Debt(-)Gearing5yr NAVps CAGR
107p-£353m50%0.3%
ValuationDisc to Fwd NAV (+12mths)Fwd PE (+12mths)Fwd DY (+12mths)FCF yld (+12mths)
17%233.5%4.2%
Forecasts/ MomentumFwd NAV grth 2023Fwd NAV grth 20243-mth Mom3-mth Fwd NAV change%
 -1.8%-2.6%11.0%-0.5%
Year End 31 DecEPRA NAV per share (p)Profit before tax (£mn)EPS (p)DPS (p)
201911026.74.435.00
202010513.82.301.25
202110713.11.652.50
f'cst 202211320.63.462.71
f'cst 202311727.74.593.86
chg (%)+4+34+33+42
Source: FactSet, adjusted PTP and EPS figures
NTM = Next 12 months
STM = Second 12 months (ie one year from now)