- Interim adjusted pre-tax profit falls a third to £2.3mn
- NAV dips from 294p to 293p
- Portfolio valued on net initial yield (NIY) of 8.1 per cent
- Loan to value ratio slashed to 6.5 per cent
Palace Capital (PCA:232p), a high-yielding regional commercial property Reit, continues to make impressive progress with its asset disposal and debt reduction programme.
In the six months to 30 September 2023, the group sold 12 investment properties for £66.9mn, or seven per cent ahead of the 31 March 2023 book value, and has subsequently completed disposals of a further three properties for £6.4mn, a six per cent premium to book value. In addition, Palace sold six apartments at its Hudson Quarter residential development in York, and two other units are currently under offer for £1.2mn. That leaves only 16 of the 125 units in the development remaining to sell.
Proceeds from the disposals slashed net borrowings from £58.8mn to £11.3mn in the first half and funded £15.2mn of net asset value (NAV) enhancing share buy-backs, which added 8p per share to NAV. Profits from the disposals added a further 8p a share to NAV, too, hence why NAV per share only dipped slightly despite a 4.4 per cent like-for-like reduction in the remaining property valuation. The fall in underlying pre-tax profit reflects the smaller portfolio size.
Factoring in the post period-end disposals, current net debt of £7.7mn equates to 6.5 per cent of the portfolio valuation. Importantly, the debt reduction means £34mn of property, or around 30 per cent of the portfolio, has been released from bank charges, thus providing greater flexibility in the timing of future property sales. Earlier this month, Palace repaid and cancelled a £20mn NatWest bank facility, thus saving the one per cent annual fee on the facility, too.
Portfolio delivering rental growth
The portfolio is in good health, generating £1.1mn of additional net rental income in the first half, driven by new lettings and rent reviews which on average were three per cent above March 2023 estimated rental values (ERV).
Notable new lettings include a 15-year lease on 27,000 sq ft of office space at the group’s Broad Street Plaza development in Halifax. The tenant, a NHS Foundation Trust, is paying a 41 per cent premium to ERV and accounts for 16 per cent of the net income from the property, a key reason why it increased in value in the period. Major lettings at the group’s St James' Gate office building in Newcastle have increased occupancy rates there from 65 to 88 per cent, in line with the group average. Rent collection rates across the whole portfolio have remained consistently high at 99 per cent.
Sensibly, the board are reducing overheads to reflect the group’s smaller scale. Headcount reductions and savings on central costs have shaved a further £0.5mn off administration costs, taking the total saving to £0.9mn in the year to date. Moreover, given the focus on maximising cash returns to shareholders, the reduction in portfolio size and cancellation of debt facilities, Palace no longer needs the expertise of finance director Matthew Simpson. His salary will be another cash saving.
Capital returns
The next trading update will be in the first quarter of 2024 when shareholders can expect an update on further property disposals and details of a capital return, which will include a tender offer. Bearing this in mind, office and leisure assets account for 84 per cent of the investment portfolio and are being valued on NIYs of 7.4 per cent and 11 per cent, respectively. As recent disposals highlight, prices paid by investors in the real world are well above the conservative accounting valuations, thus providing scope for NAV upside.
True, the shares have succumbed to profit taking since hitting a high of 265p in mid-August this year. However, the holding has still delivered an 23 per cent total return (TR) since I initiated coverage (Alpha Research: ‘A Reit royal value play’, 11 March 2021), a resilient performance given the hefty deratings of small and micro-caps. For instance, the FTSE Aim All-Share Total Return index has shed 38 per cent of its value in the same period.
The undemanding 21 per cent share price discount to NAV, attractive 6.5 per cent dividend yield, and a likely tender offer at NAV all point to capital upside. The recent softening of UK government bond yields is another positive for the sector. Buy.
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