Civitas Social Housing — Initiatives to underpin consistent performance

Civitas Social Housing (LSE: CSH)

Currency in GBP

Last close As at 02/02/2023

GBP0.56

−0.70 (−1.23%)

Market capitalisation

GBP341m

Research: Real Estate

Civitas Social Housing — Initiatives to underpin consistent performance

Civitas Social Housing REIT’s consistently robust financial and operational performance continued through Q422, with an increase in the FY23 DPS target to at least 5.70p. We view positively initiatives that have been launched to promote greater regulatory alignment and address perceived sector lease risk. We will update our forecasts when the full FY22 results are published in June, but reflect the key unaudited Q422 NAV below.

Martyn King

Written by

Martyn King

Director, Financials

Real Estate

Civitas Social Housing REIT

Initiatives to underpin consistent performance

Q422 portfolio update

Real estate

27 May 2022

Price

84p

Market cap

£513m

Gross debt (£m) at 30 September 2021

357.1

Gross LTV at 30 September 2021

34.5%

Shares in issue (excluding shares held in treasury)

610.7m

Free float

98%

Code

CSH

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(3.7)

(3.9)

(27.9)

Rel (local)

(5.3)

(4.1)

(30.7)

52-week high/low

121p

84p

Business description

Civitas Social Housing invests across the UK in care-based community housing and healthcare facilities, particularly specialised supported housing, for the benefit of working age adults with long-term care needs. Its investment objective is to provide an attractive level of income, with the potential for capital growth.

Next events

FY22 results published

30 June 2022

Analyst

Martyn King

+44 (0)20 3077 5745

Civitas Social Housing is a research client of Edison Investment Research Limited

Civitas Social Housing REIT’s consistently robust financial and operational performance continued through Q422, with an increase in the FY23 DPS target to at least 5.70p. We view positively initiatives that have been launched to promote greater regulatory alignment and address perceived sector lease risk. We will update our forecasts when the full FY22 results are published in June, but reflect the key unaudited Q422 NAV below.

Year
end

Net rental income (£m)

EPRA earnings (£m)

EPRA
EPS (p)

NAV per share share* (p)

DPS
(p)

P/NAV
(x)

Yield
(%)

03/20

45.9

28.8

4.6

108.0

5.30

0.78

6.3

03/21

47.8

30.6

4.9

108.4

5.40

0.78

6.4

03/22e

51.6

31.5

5.1

110.3**

5.55

0.76

6.6

03/23e

55.6

35.5

5.8

111.6

5.70**

0.75

6.8

Note: *Throughout this report NAV is defined as EPRA net tangible assets (NTA). **FY22 NAV and FY23 DPS as per Q422 update.

Inflation-indexed returns as expected

Q422 NAV per share increased to 110.3p (Q322: 108.8p) and including DPS paid the Q422 NAV total return was 2.7%, taking the FY22 total to 6.9%. The FY23 DPS target of at least 5.70p reflects a 2.7% increase and we expect further DPS growth from inflation-linked rent uplifts and capital deployment. Monitoring and asset management of the portfolio by the investment adviser (CIM) indicates that high levels of inflation are being recognised by local authorities in their annual settlements with housing associations and that its rents are set at an appropriate level. Several new hires by CIM support this work, further strengthening its capabilities across social housing, healthcare and asset management. The shortage of specialised supported housing (SSH) is forecast to increase, yet compared with the alternatives of residential care or hospitals, it continues to improve the lives of residents in a cost-effective manner.

Proposed lease initiatives

For those individuals receiving SSH, rents are funded by central government and paid, via the commissioning local authorities, directly to the registered providers (APs), which lease the properties from Civitas and manage them. In some cases, APs have struggled to keep pace with the rapid growth of the sector, attracting regulatory scrutiny. We believe this is aimed at delivering sector sustainability through improved governance and operational performance and increased financial strength. Lease amendments proposed by Civitas (and discussed in detail in this report) are the subject of ongoing discussions, and have the potential to enhance regulatory compliance through a further degree of risk sharing between landlord and tenant, with no negative impact on property values.

Valuation: Significant revaluation potential

Dividends are backed by stable income, uncorrelated with the wider economy, with good inflation-linked growth prospects. The FY23 DPS target represents a yield of 6.8% while the shares trade at a more than 20% discount to NAV. If adopted, the new lease initiatives have the potential to drive a re-rating of the shares.

Consistent investment returns continuing

Civitas has consistently delivered positive total returns3F1 on both an annual and quarterly basis since its initial public offering (IPO) in November 2016. Dividends have been the main component of returns, and these have increased each year. Despite the pandemic, operational and financial resilience has been maintained, rents have continued to be received in line with expectations, quarterly dividend payments have been uninterrupted, and there has been no discernible impact on portfolio valuations. This strong performance reflects the vital role of portfolio properties in the provision of an essential service; secured by long-term lease and care arrangements; providing good visibility of income with little direct correlation to the wider property market or economy; and capable of delivering stable inflation-indexed dividend growth.

  Change in IFRS NAV per share during the period with dividends paid added back (but not assuming reinvestment of dividends).

Exhibit 1: Consistently positive NAV total return

FY18

FY19

FY20

FY21

FY22

From IPO to end-FY22

Opening NAV per share (p)

98.0

105.5

107.1

108.0

108.3

98.0

Closing NAV per share (p)

105.5

107.1

107.9

108.3

110.3

110.3

Dividends paid (p)

3.0

5.0

5.3

5.4

5.5

24.2

NAV total return

7.9%

6.2%

5.7%

5.4%

6.9%

37.2%

Annualised total return

6.1%

Source: Civitas Social Housing data, Edison Investment Research

From IPO in November 2016 to 31 March 2022 (end-FY22), Civitas has generated an aggregate NAV total return of 37.2% or an annual average of 6.1%. Dividends paid represent two-thirds of the total return in the period.

Exhibit 2: Dividend history

FY18

FY19

FY20

FY21

FY22

DPS paid (p)

3.00

5.00

5.30

5.38

5.51

DPS declared (p)

4.25

5.08

5.30

5.40

5.55

Dividend cover (EPRA earnings/dividend declared)

87%

91%

87%

92%

92%

Source: Civitas Social Housing REIT data

Civitas seeks to set dividends that broadly track inflation over time and although the 2.7% increase in targeted DPS for FY232 is below the current elevated level of inflation, we note that for much of the last financial year (FY22) price increases had remained relatively subdued. The average increase in DPS since March 2019 (when CSH completed payment of the first full dividend of 5.0p per share3) to end March 2022 was 3.3% compared with an average 2.6% increase in CPI over the same period.

  5.70p is the minimum DPS targeted by Civitas and it may be higher.

  At listing in November 2016, CSH targeted a 5% yield or aggregate 5.0p DPS once sufficiently invested.

Exhibit 3: Year-on-year increase in CPI including owner occupiers’ housing costs (CPIH)

Source: ONA

We expect the continued rise in CPI-inflation to support future dividend paying capacity, as will the deployment of available capital into accretive acquisitions. Across the CSH portfolio, 27% of contracted rents are indexed annually, on the anniversary of the inception of the lease, at CPI+14 and 73% at CPI. Additionally, 31% of rents are capped and collared at 0–4%.

  The change in the Consumer Price Index (CPI) plus 1%.

Although dividends have not been fully covered in the period to end-FY21 (the last reported data), as the portfolio has been built and capital deployed our current forecasts show this being achieved on a full year basis in FY23 (FY22e: 92%). We will review our forecasts with publication of the FY22 results in June. It is also worth noting that had the company elected to pay lower dividends, in line with historical EPRA earnings, the total returns generated over the period (Exhibit 1) would be unchanged, with faster NAV growth offsetting lower dividends.

Funding levels reflect cost inflation

All funding for accommodation that meets the strict requirements for SSH6F5 comes from the welfare budget of the central government and is distributed via the local authorities that commission the services. Civitas estimates that c 85% of the funding relates to providing care and c 15% to rents (including service charges).6 Within the SSH sector, housing associations, charities and specialist care providers typically agree annual settlements with the commissioning local authorities, with an adjustment for inflation, which reached 7.8% in April (CPIH), and the company expects this will continue to be the case. The investment adviser closely monitors the level of settlements that are being achieved. The indications that it has received from lessees are that, after making appropriate submissions to the relevant local authority, settlements have continued to reflect higher levels of inflation and the requirement that these reflect value for money at central government level.

  Qualifying SSH rents are set on a bespoke basis and are exempt from the social rent rules that normally apply to housing benefit awards. Although Civitas’s high acuity residential care does not meet the strict definition of SSH, the contract terms are effectively the same.

  Source: Civitas 2019 investor day to be found at www.webcasting.buchanan.uk.com/broadcast/5cd13a5d2ab7787998e60164/5cee4c2dd97a41c10900064d

Exhibit 4: The structure of SSH funding

Source: Civitas Social Housing

Appropriate rent levels, matching care needs

For SSH, rents are set on a bespoke basis, primarily determined by the extent of adaptation that is required for the homes to meet the care needs of residents, as well as location. Civitas has increasingly targeted properties that are focused on delivering higher acuity care, which it believes enhance the fiscal saving to government compared with the alternatives of institutional or hospital care. This is reflected in residents within its homes receiving an average of 43 hours per week of delivered care, a metric that has continued to increase. To ensure these are set at an appropriate level, they are tested against the investment adviser’s extensive database and by external consultants and agreed with the housing association and other lessees. Housing associations and other leaseholders in turn seek sign-off from the relevant housing benefit officers within each local authority in which they operate. The objective is to confirm both the specific rent level and exempt rent status for the delivery of each SSH property.

In addition to SSH, the Civitas portfolio includes a small number of properties that provide accommodation for services, such as for the homeless or individuals with refugee status, usually in support of established and long-term government programmes. Reflecting a lower need for property adaption to deliver care, rent levels are correspondingly lower.

Proposed lease amendment

In recent months Civitas has engaged with relevant counterparties and undertaken detailed negotiations with several housing association partners, regarding ways to assist the latter in better meeting the requirements of the Regulator of Social Housing (RSH), particularly in respect of the Financial Standard.7 The sector is supported by strong demand for SSH, well in excess of existing homes, and generates significant cost savings while improving resident outcomes, but in common with the broader social housing sector the RSH requires from housing associations long-term financial plans that demonstrate the robustness and flexibility to adapt to unforeseen circumstances.

  Housing associations are graded by the RSH under its Viability and Governance Standards, or similar for smaller hosing associations with less than 1,000 units. In line with the sector, and reflecting its position as a leading private sector investors in the supported housing sector, working with some of the fastest-growing providers, nine of seventeen Civitas lessees are the deemed non-compliant by the RSH and are subject of regulatory judgements or notices. Civitas, through its investment adviser has provided support to these in addressing the specific concerns of the RSH.

The consensus that has emerged from these discussions and negotiations anticipates the development of a new draft lease clause. The main objectives are to enable housing associations to:

achieve greater alignment between income receipts and lease liabilities;

set achievable capital solvency requirements against lease obligations; and

and demonstrate a further degree of risk sharing.

The final form of the proposed new clause is yet to be finalised but if it is adopted, in addition to providing support for housing associations to achieve regulatory compliance Civitas expects to benefit with enhanced information transfer and step-in rights (additional to existing transfer and assignments rights). It is intended the clause will be incorporated initially into a limited number of existing leases on a retrospective basis, starting with properties that are unencumbered, before being rolled out more widely.

The company’s external valuers have provided formal written confirmation that the proposed new lease clause will have no negative impact on property valuation. Civitas believes that enhanced regulatory alignment may benefit valuations.

Specifically, the proposed draft allows for a temporary ‘pass through’ of rents on a property-by-property basis under limited circumstances when the housing association is not in receipt of full payment. Any pass-through of rents would remain the responsibility of the housing association and Civitas would not be liable for the obligations of other parties such as the contractual obligations of care providers to cover void costs. Furthermore, it will apply only after an initial period during and then only if paying the rent in full would cause the housing association to fail to meet the standards set by the RSH. Where subsequently recovered by the housing association, the pass-through rental income may be reimbursed. Meanwhile, Civitas operates with a liquidity buffer of c £30m, which provides temporary resources well ahead of what we would expect to be required and should have no impact on capital deployment. An example provided by Civitas of instances that may require a temporary pass-through of rents include simple delays in formally executing on the setting of ‘agreed’ rents in respect of properties newly commissioned by local authorities.

Civitas says that implementing the new lease clause will codify much of the general asset management work it already undertakes and its approach to sector collaboration. Each year a small number of buildings require ‘future proofing’. Typically, local authorities and/or care providers identify certain adaptions that are required to enable a change of use. Ensuring longevity of occupation and the maintenance of resident satisfaction. As a responsible landlord, Civitas undertakes the necessary investment and the support this provides to housing association revenues is not recognised formally.

Exhibit 5: Financial summary includes last published estimates; FY22 EPRA NTA/NAV and FY23 DPS differ from the Q422 data published by CSH and presented on page 1

2018

2019

2020

2021

2022e

2023e

2024e

Period ending 31 March (£m)

INCOME STATEMENT

Revenue

18.6

35.7

45.9

47.8

51.6

55.6

57.0

Directors' remuneration

(0.2)

(0.2)

(0.2)

(0.2)

(0.2)

(0.2)

(0.2)

Investment advisory fees

(5.8)

(6.5)

(6.2)

(6.1)

(6.2)

(6.2)

(6.3)

General & administrative expenses

(2.9)

(3.0)

(3.5)

(3.2)

(3.4)

(3.4)

(3.5)

Total expenses

(8.9)

(9.6)

(9.9)

(9.5)

(9.8)

(9.8)

(10.1)

EPRA cost ratio

47.8%

27.0%

21.5%

20.3%

18.9%

17.7%

17.7%

Operating profit/(loss) before revaluation of properties

9.7

26.1

36.0

38.3

41.8

45.7

46.9

Change in fair value of investment properties

30.6

3.7

9.4

5.5

5.4

14.3

14.7

Operating profit (before amort. and excepts.)

40.3

29.7

45.4

43.9

47.3

60.0

61.7

Net finance expense

(0.6)

(3.5)

(7.2)

(7.7)

(10.3)

(10.2)

(10.2)

Change in fair value of interest rate derivatives

0.000

0.000

(0.5)

(0.1)

0.7

0.0

0.0

C share amortisation

(2.8)

(6.4)

0.0

0.0

0.0

0.0

0.0

Profit Before Tax (norm)

36.9

19.9

37.7

36.1

37.6

49.8

51.5

Tax

0.0

0.0

0.0

0.0

0.0

0.0

0.0

Net profit

36.9

19.9

37.7

36.1

37.6

49.8

51.5

Adjusted for:

Change in fair value of investment properties

(30.6)

(3.7)

(9.4)

(5.5)

(5.4)

(14.3)

(14.7)

Fair value change in interest rate derivatives

0.0

0.0

0.5

0.1

(0.7)

0.0

0.0

C share amortisation

2.8

6.4

0.0

0.0

0.0

0.0

0.0

EPRA earnings

9.1

22.6

28.8

30.6

31.5

35.5

36.7

Average Number of Shares Outstanding (m)

350.0

425.4

622.1

621.7

620.1

612.4

612.4

Average diluted shares (m)

633.1

622.5

622.1

621.7

620.1

612.4

612.4

Basic IFRS EPS (p)

10.6

4.7

6.1

5.8

6.1

8.1

8.4

EPS - normalised fully diluted (p)

1.4

3.6

4.6

4.9

5.1

5.8

6.0

DPS declared (p)

4.25

5.08

5.30

5.40

5.55

5.68

5.80

DPS paid (p)

3.00

5.00

5.30

5.38

5.51

5.65

5.77

Dividend cover (x)

0.87

0.91

0.87

0.92

0.92

1.03

1.04

BALANCE SHEET

Investment properties

516.2

820.1

868.0

893.7

956.1

974.9

994.1

Other non-current assets

0.0

6.8

10.8

21.9

22.9

23.8

24.7

Total non-current assets

516.2

826.9

878.7

915.6

979.0

998.7

1,018.9

Cash & equivalents

249.6

54.3

58.4

107.1

40.1

37.2

34.8

Other current assets

3.3

5.7

10.8

12.8

11.4

12.0

12.3

Total current assets

252.9

60.1

69.2

119.9

51.5

49.2

47.1

Bank loan & borrowings

0.0

0.0

(59.7)

(59.9)

0.0

0.0

0.0

Other current liabilities

(308.9)

(15.3)

(7.7)

(9.3)

(9.8)

(10.3)

(10.6)

Total current liabilities

(308.9)

(15.3)

(67.5)

(69.3)

(9.8)

(10.3)

(10.6)

Bank loan & borrowings

(90.8)

(205.2)

(209.4)

(292.2)

(352.4)

(354.0)

(355.6)

Other non-current liabilities

0.0

0.0

(0.5)

(0.5)

0.0

0.0

0.0

Total non-current liabilities

(90.8)

(205.2)

(209.9)

(292.7)

(352.4)

(354.0)

(355.6)

Net assets

369.4

666.5

670.6

673.5

668.4

683.6

699.8

Adjust for:

C shares

298.8

0.0

0.0

0.0

0.0

0.0

0.0

Fair value of interest rate derivatives

0.0

0.0

0.5

0.5

(0.1)

(0.1)

(0.1)

Diluted EPRA NTA

668.1

666.5

671.0

674.0

668.2

683.5

699.6

Period-end basic number of shares (m)

350.0

622.5

621.6

621.9

612.4

612.4

612.4

Period end diluted number of shares (m)

633.1

622.5

621.6

621.9

612.4

612.4

612.4

Basic IFRS NAV per share (p)

105.5

107.1

107.9

108.3

109.1

111.6

114.3

Diluted EPRA NTA per share (p)

105.5

107.1

107.9

108.4

109.1

111.6

114.2

CASH FLOW

Operating Cash Flow

8.1

23.3

32.9

26.1

40.9

44.7

46.0

Cash flow from investing activity

(483.9)

(302.6)

(61.9)

(6.2)

(57.2)

(4.5)

(4.5)

Net proceeds from equity issuance

343.0

(0.1)

0.0

0.0

0.0

0.0

0.0

Net proceeds from C share issuance

296.0

0.0

0.0

0.0

0.0

0.0

0.0

Loan interest paid

(0.4)

(3.0)

(5.8)

(6.0)

(8.5)

(8.6)

(8.6)

Bank borrowings drawn/(repaid)

92.5

116.0

64.1

84.6

0.0

0.0

0.0

Share repurchase/reissue

0.0

0.0

(0.7)

0.0

(7.9)

0.0

0.0

Dividends paid

(10.1)

(27.6)

(32.9)

(33.3)

(34.2)

(34.6)

(35.3)

Other cash flow from financing activity

(2.2)

(5.3)

(7.9)

(8.8)

(17.9)

(8.6)

(8.6)

Cash flow from financing activity

719.2

83.0

23.3

42.4

(52.0)

(43.2)

(43.9)

Change in cash

243.3

(196.2)

(5.7)

62.4

(68.2)

(2.9)

(2.4)

Opening cash

0.0

243.3

47.1

41.4

103.8

35.6

32.7

Closing cash (excluding restricted cash)

243.3

47.1

41.4

103.8

35.6

32.7

30.3

Restricted cash

6.3

7.2

16.9

3.3

4.5

4.5

4.5

Cash as per balance sheet

249.6

54.3

58.4

107.1

40.1

37.2

34.8

Debt as per balance sheet

(90.8)

(205.2)

(269.2)

(352.1)

(352.4)

(354.0)

(355.6)

Unamortised loan arrangement costs

(1.6)

(3.3)

(3.3)

(4.9)

(4.7)

(3.0)

(1.4)

Total debt

(92.5)

(208.4)

(272.5)

(357.1)

(357.1)

(357.1)

(357.1)

Closing net debt/(cash)

150.9

(161.3)

(231.1)

(253.2)

(321.5)

(324.4)

(326.8)

Gross LTV (gross debt/gross assets)

12.0%

23.5%

28.7%

34.5%

34.6%

34.1%

33.5%

Source: Civitas Social Housing, Edison Investment Research

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United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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1Spatial — First contract win in the US’s fourth largest state

1Spatial’s US expansion continued unabated with its latest announcement of its first contract win with the State of New York. The contract for an undisclosed modest amount is with the New York State Office of Internal Technical Services, where 1Spatial’s 1Integrate solution will be used to automate data collection and verification from numerous governmental entities within state-wide address and roads databases. The US market is a key growth engine for 1Spatial and the New York win shows its strategic US expansion plan continues to bear fruit. This contract follows other recent wins and extensions in the US market, including with the California Department of Transportation, and the states of Montana, Georgia, Minnesota and Arizona, and with Google. We are encouraged by its continued progress and maintain our forecast of significant growth in the United States; we have not adjusted our estimates.

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