Palace Capital has reported interim results for the six months that ended 30 September (H120). Supported by the company’s focus on regional office and industrial property and low retail exposure, total property level return was a positive 1.5% and ahead of the MSCI Quarterly Benchmark return of 0.8%, marking three successive years of outperformance. Good progress is reported on the flagship Hudson Quarter development in York which management says is well ahead of the business plan. Of the 127 apartments within the residential portion of the scheme, more than 20% are already pre-sold or under offer and construction is on track for completion in January 2021.
20% are already pre-sold or under offer and construction is on track for completion in January 2021. Reported earnings in the period include a significant lease surrender (previously announced, bringing forward c £2.9m of income) and positive recurring and deferred tax effects (a £3.7m credit from the reversal of deferred tax provisions) arising from REIT conversion on 1 August as well as property revaluation effects. EPRA earnings (including the one-off surrender premium) increased to £6.7m (H119: £3.5m) or 14.5p. The company’s preferred measure of adjusted earnings (excluding the surrender premium) was £3.9m (H119: £4.3m) or 8.5p per share, covering DPS (maintained at 9.5p) by 90%. Both measures exclude the deferred tax credit. Reduced adjusted earnings compared with last year primarily reflects the deferral of lettings to enable refurbishments at a number of properties as Palace invests to improve the quality of its assets, to meet the continuing regional demand for good quality, well located property, and increase their future income and capital value potential.
During H120 the company stepped up its investment and as a result occupancy reduced to 84% in H120 compared with 88% in March with annualized contracted passing rental income at £16.3m at the end of the period (March 2019: £17.7m). The impact of this asset management activity masks the leasing progress in the period with 12 lease renewals and 5 rent reviews completed at an average 25% uplift to the previous passing rent, 3% above estimated rental value (ERV), and adding £0.4m to annual rental income. Additionally, 9 new leases provided an additional £0.5m of annual income. With net loan to value (LTV) maintained at 34% and development finance in place to fund the remaining development work at Hudson Quarter, Palace continues to seek accretive acquisitions but was unable to identify suitable assets in the period that met its strict acquisition criteria.
Given the lag to completion and letting, ongoing investment in the current standing portfolio (c £3.5m in H120) is yet to be reflected in valuation. This, along with the valuation impact of lease surrender on the short leasehold asset affected were the main factors behind the £6.5m loss on revaluation of investment properties in the period. EPRA NAV per share reduced to 391p (March: 407p).
The gap between contractual passing rental income of £16.3m and the portfolio ERV of £21.2m provides an indication of the significant opportunity that Palace has to increase income and dividend cover. This can mainly be achieved through the letting of void space which would also have positive implications for capital values. We also expect an NAV uplift of more than 20p as well as a significant income uplift from letting of the commercial space as the Hudson Quarter development completes in 2021.
Author: Martyn King