Integration poised to begin

While PHP owns 100% of Assura, which is now de-listed, it has been a requirement of the Competition and Markets Authority (CMA) that they be operated independently pending the outcome of its review. The CMA has now concluded that the combination of PHP and Assura gives no rise to competition concerns, such that PHP can now turn its full attention to integrating the two businesses and realising the full benefits of the combination. For the company and shareholders, this includes expected run-rate cost synergies of at least £9m. More broadly, the enlarged PHP is now in even stronger position to support the significant investment needs of the NHS.

Financial and strategic benefits

The acquisition of Assura should offer significant financial and strategic benefits. Cost synergies of at least £9m underpin a near-term acceleration in earnings growth, while increased scale and market presence strongly support the long-term outlook. The enlarged PHP is one of the largest REITs in the UK, with a c £6bn portfolio of long-leased, sustainable infrastructure assets principally let to government tenants and leading UK providers, benefiting from increased income security, longevity, diversity of product type, geography and mix of rent review. It operates in a growth sector, underpinned by demographic trends and supported by government policy, which is placing a greater focus on primary care, increasing the demand for modern healthcare facilities.

Valuation: Appealing, with income and capital upside

Depending on post-acquisition divestments, government backing of rental income will remain 80–90%, making the comparison with gilt yields pertinent. Unlike gilts, we expect DPS to grow and at an accelerated rate post-acquisition. Meanwhile, the shares trade at a c 10% discount to NAV. With property yields stabilising, rental growth generated H125 NAV growth and we expect this to continue.

Investment summary

Long-term health and other care needs, and ultimately the demand for healthcare property, are driven by demographic trends in both the UK and Ireland. As populations grow and age, with more complex healthcare needs, governments recognise the imperative of meeting this more effectively and more efficiently. At its heart, the 10-year NHS plan focuses on modern, integrated, local primary healthcare facilities that can better serve patients, with an extended range of medical procedures and preventative services, available locally, reducing pressure on hospitals, and at significantly lower cost. From a starting point where half the existing primary care estate is inadequate, the investment needs are substantial and government recognises the role of private capital. But for the required investment to be economically viable, rents will need to rise significantly. As well as providing accretive development opportunities, this would set a positive tone for rent reviews on existing assets. The combination of PHP and Assura is even better positioned to benefit from this, with the potential to provide access to deeper pools of capital, on enhanced terms, than could be achieved by either company on its own.

Following the highly complementary acquisition of Assura, we identify a number of key reasons why the shares are attractive, including:

• Organic growth potential. The enlarged company will continue to benefit from accelerating rental growth. This has been the key driver of PHP’s earnings performance over the past three years and this continued in H125 (see below).
• Merger cost synergies. PHP expects cost synergies of at least £9m per year, which it expects will be fully achieved on a run rate basis by the end of the first full financial year post-completion. The company’s ability to successfully deliver on large-scale integration was demonstrated by its 2019 acquisition of MedicX. PHP regularly has one of the lowest EPRA cost ratios in the UK REIT sector and management expects this to continue.
• Benefits of increased scale. With a larger market value and increased index weighting we expect an improvement in share trading liquidity. The enlarged company should enjoy improved access to capital markets, enhancing its cost of capital, positioning it strongly for investment.
• PHP has a strong commitment to dividend growth. FY25 marks the 29^th consecutive year of DPS growth since PHP was established. PHP has reiterated its progressive dividend policy and we forecast an acceleration in DPS growth post-acquisition.
• Potential for capital growth. Both PHP and Assura have reported a stabilisation of valuation yields, such that rental growth has begun to feed through to valuation uplifts and NAV growth.
• A highly attractive valuation. The c 8% FY26e dividend yield compares with the yield on the 10-year UK gilt of c 4.4%. Given the unusual strength of PHP’s combined tenant covenant, with 80–90% of rents directly or indirectly government backed, and the strong prospects for dividend growth, we find this very attractive. If the c 10% discount to NAV were to narrow (over 10 years the shares have traded at an average 15% premium), the total shareholder return would be significant.

Continuing organic rental growth and positive indicators

We estimate that the Assura acquisition will increase annualised contracted rents from £157m at end-H125 to c £335m. On a combined basis, the share of open market rent reviews will decline from 68% to c 60%, with indexed, fixed, or other rent reviews accounting for the balance. If Assura’s c £500m private hospital portfolio is sold, as seems likely, the decline in the share of open market reviews will be immaterial.

For PHP, H125 rent reviews generated an average annualised uplift of 3.0%. Most significant was the continuing improvement in open market rent reviews, with the annualised rate of increase achieved on completed reviews accelerating to 2.3% (from 1.9% in FY24 and 2.1% in H124). PHP expects open market rents will continue to increase, with new development activity and asset management, at rental levels that reflect the significant increases in construction costs in recent years, setting a positive tone for reviews on existing operational assets.

Property valuations increasingly reflecting rental growth

For PHP, property valuations have continued to stabilise, with rental growth more than offsetting modest yield widening of just 3bp in H125. After several years of valuation decline, as interest rates increased and the EPRA net initial yield (NIY) widened from 4.65% at end-FY21, this is a positive development. Excluding any impacts from capital expenditure and acquisition costs, this was reflected in a £19.8m net revaluation surplus. The end-H125 NIY was 5.25% and, primarily reflecting the potential upside from outstanding rent reviews, the reversionary yield was 5.6%.

PHP says that it continues to see evidence of an improving investment market for healthcare real estate in both the UK and Ireland and that improved liquidity is likely to enhance asset valuations in the future. It highlights that healthcare property is increasingly viewed as social infrastructure assets, with a growing rental income stream considered secure, long and predictable, appealing to an increasingly broad range of investors, including global infrastructure funds, pension funds and life assurance companies.

Forecast update

Our update forecasts show an acceleration in earnings growth and dividends post-acquisition. For FY25, Assura will contribute for less than five months (from 12 August); with the two businesses running independently for most of this time, we assume none of the cost synergies are achieved until FY26, making a full contribution in FY27, which brings the EPRA cost ratio below 10%. PHP intends to divest parts of the combined portfolio and this is likely to include Assura’s c £500m private hospital portfolio. We assume £650m of asset disposals during FY26, with the rental foregone broadly matching the interest costs savings from repayment of the relatively more expensive acquisition related debt. Asset disposals also contribute to bring the loan to value (LTV) ratio back to within the company’s medium-term 40–50% target range. We also expect property revaluation gains to contribute to NAV growth and LTV reduction, with those gains broadly matching rental growth, leaving the NIY little changed. A combination of NAV growth and dividends paid generates an NAV total return of c 10% per year in FY26 and FY27.

Highly attractive valuation

With a forecast FY26 yield of 8.0% and 15% discount to FY26 NAV, PHP is trading at similar levels to that seen during the global financial crisis of 2007. A movement in P/NAV towards the historical average combined with dividends paid would represent a significant shareholder total return.