- Net debt slashed 75 per cent since March 2022
- Shares trade on 35 per cent discount to spot NAV of 333p
- Dividend yield of 6.9 per cent
Palace Capital (PCA:217.5p), a high-yielding regional commercial property Reit, is making eye-catching progress with its asset disposal and debt reduction programme.
In the12 months to 31 March 2023, Palace sold eight properties for £15.6mn, or eight per cent ahead of their March 2022 book valuations. The proceeds reduced net debt from £73.6mn to £58.8mn on the £192mn portfolio. Since the year-end, Palace has exchanged contracts for the sale of six industrial properties for £34mn – 3 per cent above the March 2023 book value – on a net initial yield (NIY) of 6.2 per cent and an Aldi supermarket for £5.6mn on a NIY of 5.5 per cent, an exit price 7.3 per cent ahead of the March 2023 valuation.
At its Hudson Quarter residential development in York, Palace completed the sale of 23 units in the 2022/23 financial year, realising £10.1mn, and has since sold four more units for £1.7mn, leaving only 19 apartments to sell. Including the post year-end asset sales, group net debt has been slashed to £18mn. This implies a loan-to-value ratio of 12 per cent on a highly reversionary portfolio that is valued at £152.5mn, and one with stable occupancy rates of 88 per cent.
Palace has a weighted average debt maturity of two years with the earliest facility not due to expire until March 2024. The board is therefore in a strong position to time further asset disposals and capitalise on the recent stabilisation in the commercial property market after the portfolio was hit by a 12.6 per cent like-for-like valuation decline in the six months to 31 March 2023. This was driven by weakness in the leisure market, which impacted both yields and estimated rental values (ERVs) on the group’s two leisure assets, as well as a general softening of yields in the regional office market.
As a result, analysts at Shore Capital expect net tangible asset value to decline from 354p to 333p in the six-month period to 31 March 2023, implying the shares are priced 35 per cent below book value. They also offer a 6.9 per cent dividend yield based on the quarterly pay-out of 3.75p per share.
Deep share price discount to NAV
The deep share price discount partly reflects the fact that Palace will have to commit significant capital expenditure to upgrade its assets to meet the Minimum Energy Efficiency Standards (MEES). That’s because 96 per cent of the portfolio has an EPC band rating A to D, but it is required to have a minimum C rating by April 2027 and B rating by April 2030.
That said, the portfolio has strong reversionary value as highlighted by 14 new lettings, 15 lease renewals and 16 rent reviews that generated £1.1mn of additional contracted rent in the 2022/23 financial year, or 11 per cent ahead of March 2022 ERV. Moreover, recent disposals have been made above carrying valuations, suggesting the ongoing asset disposal programme could surprise to the upside.
So, having last rated the shares a hold, at 205p, for their income and potential for capital upside when the market stabilises (‘Priced for a severe property downturn that’s unlikely to happen’, 24 November 2022), I now feel that the markedly improved debt position and more favourable market conditions for the asset disposal programme support a buy recommendation ahead of annual results on Thursday, 15 June 2023. Buy.
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