Palace Capital — Positive update and dividend increase

Palace Capital (LSE: PCA)

Currency in GBP

Last close As at 02/02/2023

GBP2.10

4.00 (1.94%)

Market capitalisation

GBP92m

Research: Real Estate

Palace Capital — Positive update and dividend increase

Palace Capital (PCA) has issued a positive trading update ahead of the expected June publication of results for the year ending 31 March 2022 (FY22). It expects recurring earnings to exceed market expectations, underpinned by leasing and other asset management activity, as well as acquisitions, and will increase the Q422 DPS by 15%.

Martyn King

Written by

Martyn King

Director, Financials

Real Estate

Palace Capital

Positive update and dividend increase

Trading update

Real estate

8 April 2022

Price

279p

Market cap

£128m

Net debt (£m) at 30 September 2021

93.2

Net LTV at 30 September 2021

35.6%

Shares in issue

46.3m

Free float

99%

Code

PCA

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

16.7

7.5

24.6

Rel (local)

7.4

8.8

16.6

52-week high/low

290p

230p

Business description

Palace Capital is a UK property investment company listed on the Main Market of the LSE. It is not sector-specific and looks for opportunities where it can enhance the long-term income and capital value through asset management and strategic capital development in locations outside London.

Next events

FY22 results

Exp. 14 June 2022

Analyst

Martyn King

+44 (0)20 3077 5745

Palace Capital is a research client of Edison Investment Research Limited

Palace Capital (PCA) has issued a positive trading update ahead of the expected June publication of results for the year ending 31 March 2022 (FY22). It expects recurring earnings to exceed market expectations, underpinned by leasing and other asset management activity, as well as acquisitions, and will increase the Q422 DPS by 15%.

Year end

Net rental income (£m)

Adjusted PBT* (£m)

Adjusted EPS* (p)

NAV per share** (p)

DPS
(p)

P/NAV
(x)

Yield
(%)

03/21

14.9

7.5

16.4

350

10.50

0.80

3.8

03/22e

14.1

6.9

15.1

370

13.25

0.75

4.7

03/23e

15.2

7.7

16.7

390

14.00

0.72

5.0

03/24e

17.5

10.0

21.6

404

18.00

0.69

6.5

Note: *Adjusted for revaluation gains, share-based payments and non-recurring items. **EPRA net tangible assets (NTA) per share.

Progress in line with strategy

PCA expects FY22 EPRA earnings and adjusted earnings to be ahead of market expectations and will increase the Q422 DPS to a minimum 3.75p (Q322: 3.25p), taking the FY22 total to at least 13.25p. This DPS increase is reflected in our financial summary but we will review our forecasts with the FY22 results. PCA also provided a strategic update, which we discuss in detail below. With the disposal strategy ahead of target and sales of Hudson Quarter residential units picking up significantly, the additional balance sheet strength supports acquisitions, accretive to income and enhancing the quality and rent growth potential of the portfolio, focused on offices and industrial. Leasing events and acquisitions have already added £1.9m to annualised net rental income, adjusting for disposals, lease expiries and disposals, and rent collection remains strong. As it seeks to maximise shareholder value and close the discount to NAV, the board will also consider a return of capital and progressive dividends are a move in this direction.

Organic upside and capital redeployment

Organic income and capital growth potential within the existing portfolio are strong. The H122 estimated rental value was £3.1m (18%) ahead of contracted rent, primarily recently refurbished/developed office assets. This included c £0.9m for the Hudson Quarter commercial space, immediately available for letting, where occupancy has now reached c 58%. The reversionary gap will have narrowed in H222 but we expect material upside to remain. Capital available for redeployment includes the remaining proceeds from the non-core disposal programme from sales of the Hudson Quarter residential apartments, which also generate trading gains. Our forecasts include c £40m of further acquisitions.

Valuation: Still to reflect company growth targets

Despite the recent share price rise, a c 5.0% prospective yield (5.4% based on Q422 DPS annualised) and a 23% discount to H122 EPRA NTA per share, is undemanding relative to peers and does not appear to reflect the potential for income and capital growth embedded in the existing portfolio or the opportunities for accretive new investment.

Further details

PCA expects earnings to exceed market expectations

We have not changed our forecasts for FY22 EPRA earnings of £6.4m and adjusted PBT of £6.9m but will do so with the publication of PCA’s FY22 results. We expect PCA to exceed our forecasts. We have adjusted our FY22 aggregate DPS forecast from 12.75p to 13.25p, the minimum that PCA expects to declare. Although PCA has not yet guided on future DPS payments, we anticipate that the 3.75p Q422 DPS will continue at the same rate in FY23. This implies aggregate FY23 DPS of 15.0p compared with our 14.0p forecast.

Update on strategy

PCA has made considerable progress with implementing strategy over the past year. With the balance sheet strengthened and gearing reduced (PCA expects an end-FY22 net loan to value ratio of between 28% and 30%, compared with 42% at end-FY21 as the Hudson Quarter development neared completion), PCA identifies good opportunities for accretive capital redeployment. At the same time, the board is committed to maximising shareholder value and closing the share price discount to NAV in consultation with shareholders, so is considering a wider range of strategic possibilities, including the return of capital.

Disposal programme completed ahead of target

PCA recently announced it had disposed of 14 of the 15 non-core assets identified early in FY21 for an aggregate £31.5m, ahead of its £30m target. The gross proceeds were at a blended average 20% premium to book value and an average 12% ahead of purchase prices plus capital expenditure, delivering an IRR of 11%.

Sales of the 127 residential apartments at Hudson Quarter in York1 completed in April 2021 have reached 80 with a total value of £27.4m, enabling full repayment of the £26.5m development loan facility nine months ahead of schedule. A further nine units are under offer with a value of £3.7m, with 38 apartments remaining.

  Hudson Quarter occupies a two-acre site in York, within the city walls and just a minute’s walk from York railway station, which is 105 minutes (non-stop) by rail from London. The scheme comprises three residential buildings and a commercial building. The 127 flats (c 95,000 sq ft of living space) are being sold and the commercial element, comprising 39,500 sq ft of grade A offices, will be retained for income.

Continued portfolio repositioning

Having grown the portfolio primarily through portfolio acquisition, non-core disposals have been a regular feature, enabling capital deployment to be optimised and supporting operational efficiency. Disposals are typically driven by completion of the business plan for the asset or where the risk-return balance favours disposal, in some cases generating an immediate saving on property operating costs. In FY22, disposals were stepped up, generating proceeds for reinvestment in better quality assets, with stronger rent growth prospects and improved ESG credentials, and further rebalance portfolio exposures. While retaining its total return strategy, PCA is taking advantage of the capital recycling to further focus the portfolio on offices and industrial assets in line with its regional strategy, and to increase the weighting of core income-generating assets. reducing the share of ‘value-add’ and development properties. To a large extent, this shift reflects the completion of the HQ development and management’s expectations for rental growth in the regional office and industrial sectors. PCA’s portfolio will continue to include several identified medium-term asset management opportunities that it plans to phase in over a number of years, potentially providing counter-cyclical opportunities to add value to the portfolio should market-wide rents and capital returns stall. However, it does not anticipate starting any development projects during the next three years.

PCA expects to balance the portfolio with c 50% core assets, to provide a bedrock of sustainable income, with the remainder split between value add/asset management (c 40%) and development (c 10%).

Exhibit 1: Strategy rebalance

Mar-21

Sep-21

Looking forward

Core

28%

30%

50%

Value add/asset management

51%

58%

40%

Development

21%

12%

10%

Total

100%

100%

100%

Source: Palace Capital data

As well as repositioning the portfolio, asset disposals in combination with a rolling capital expenditure programme (£2.3m in H122) will continue to support a needed improvement in the environmental performance of portfolio properties. By 2023 it will not be possible to let properties with an EPC2 rating below E and by 2027 properties will need be C rated or better, increasing further to B or better in 2030. During H122, PCA removed all G-rated properties from the portfolio and reduced E-rated properties from 7.45% at end-FY21 to 2%. More details of the actions to be taken and the potential capex needs will be provided with the FY22 results.

Energy Performance Certificate.

Redeployment commenced

The January 2022 £10.25m (before costs) acquisition of an office building in central Maidenhead marked the start of PCA’s capital redeployment plans. It is a good-quality building with an EPC rating of B and was recently refurbished. It is fully let, with the office space leased to Techtronic Industries EMEA, a strong tenant whose parent company is listed on the Hong Kong Stock Exchange. The lease term is 10 years, starting on 1 August 2021, with a break option at the end of the fifth year. Including two small retail units on the ground floor, the total annual rent for the building is c £718k, reflected in the 6.83% net initial yield.

Income progress

An additional £1.9m of annualised net rental income was added in FY22 through lease activity and other asset management initiatives as well as acquisitions. This includes lower non-recoverable property costs and takes into account net income lost through disposals, lease expiries and lease breaks. This suggests an increase in annualised net rental income from £14.9m at end-FY21 to c £16.8m, well ahead of our assumptions (£15.4m by end-FY23). Letting progress included c 18k sq. ft. at Hudson Quarter at £26 per sq. ft., surpassing the record rent of £25 previously set by PCA in York. Portfolio occupancy at end-FY22 was 88.5% on an EPRA basis compared with 86.4% at end-FY21.

Valuation

Based on the minimum 13.25p aggregate DPS that PCA expects to declare for FY22 the yield is 4.7% while the annualised rate of Q4 DPS (15.0p) represents a yield of 5.4%. The discount to NAV has begun to close but remains at 23% (to H122 EPRA NTA per share of 362p).

In Exhibit 2 we show a summary performance and valuation comparison of PCA and a peer group of UK commercial real estate investment companies with a strong regional focus. For comparative purposes, the valuation data are based on last reported EPRA NTA/NAV and trailing 12-month DPS declared. On this basis, PCA trades at a lower P/NTA than the group average and, despite its total return focus, its trailing dividend yield is slightly above the peer average.

PCA’s valuation continues to appear undemanding in view of:

the significant income and capital return potential embedded within the existing portfolio; and

the opportunity to recycle capital accretively and/or maintain a lower gearing level than has historically been the case and/or return capital to shareholders if attractive investment opportunities fail to emerge.

Exhibit 2: Peer group valuation and performance comparison

Price
(p)

Market
cap (£m)

P/NAV*
(x)

Trailing Yield (%)**

Share price performance

1 month

3 months

12 months

From 12M high

Circle Property

235

67

0.86

1.5

5%

10%

10%

-4%

Custodian

103

453

0.90

5.0

0%

-2%

8%

-5%

Picton

100

545

0.88

3.4

7%

-5%

10%

-7%

Real Estate Investors

40

72

0.68

7.7

9%

0%

10%

-7%

Regional REIT

87

450

0.90

7.5

5%

-6%

10%

-9%

Schroder REIT

58

283

0.82

4.9

3%

7%

40%

-1%

UK Commercial Property REIT

91

1184

0.89

2.9

16%

20%

21%

-1%

BMO Commercial Property Trust

116

853

0.86

3.7

6%

10%

49%

-2%

BMO Real Estate Investments

94

226

0.78

4.1

7%

10%

19%

-2%

Average

0.84

4.5

7%

5%

20%

-4%

Palace Capital

279

129

0.77

4.7

16%

8%

21%

-4%

UK property sector index

1,955

11%

0%

15%

-4%

UK equity market index

4,199

9%

-1%

6%

-2%

Source: Company data, Refinitiv. Note: Priced at 7 April 2022 close. *Based on last reported EPRA NAV/NTA per share. **Based on trailing 12-month DPS declared.

Exhibit 3: Financial summary

Year end 31 March (£m)

2018

2019

2020

2021

2022e

2023e

2024e

PROFIT & LOSS

Rental & other income

16.7

18.8

21.1

17.3

16.8

17.3

19.4

Movement in credit loss

0.0

0.0

(0.9)

0.0

0.0

0.0

Non-recoverable property costs

(1.8)

(2.3)

(2.4)

(1.5)

(2.6)

(2.1)

(1.9)

Net rental income

14.9

16.4

18.8

14.9

14.1

15.2

17.5

Gross profit from trading properties

4.1

3.2

0.0

Dividend income from listed equity investments

0.0

0.1

0.1

0.1

0.0

0.0

Administrative expenses including share based payments

(4.2)

(4.1)

(4.3)

(4.3)

(4.5)

(4.6)

(4.8)

Operating Profit (before capital items)

10.7

12.4

14.6

10.6

13.8

13.8

12.8

Realised & unrealised gains/(losses) on properties

6.0

(1.0)

(18.0)

(13.1)

3.9

4.4

3.9

Loss on revaluation of listed equity investments

0.0

(0.2)

(0.4)

0.7

(0.1)

0.0

0.0

Operating Profit

16.7

11.1

(3.9)

(1.8)

17.6

18.2

16.7

Net finance expense

(3.4)

(4.7)

(5.2)

(3.8)

(3.4)

(3.3)

(3.2)

Profit Before Tax

13.3

6.4

(9.1)

(5.5)

14.3

15.0

13.5

Taxation

(0.8)

(1.3)

3.6

(0.0)

0.0

0.0

0.0

Profit After Tax (FRS 3)

12.5

5.2

(5.4)

(5.5)

14.3

15.0

13.5

EPRA adjustments:

Realised & unrealised gains/(losses) on properties

(6.0)

1.0

18.0

13.1

(3.9)

(4.4)

(3.9)

Deferred tax charge

(0.3)

0.2

0.0

0.0

0.0

0.0

0.0

Other adjustments

0.3

1.1

(1.8)

(0.3)

(4.0)

(3.2)

0.0

EPRA earnings

6.5

7.6

10.8

7.2

6.4

7.3

9.6

Share-based payments

0.2

0.3

0.1

0.3

0.4

0.4

0.4

Other adjustments

0.7

0.0

(2.9)

0.0

0.2

0.0

0.0

Adjusted earnings

7.4

7.9

8.1

7.5

6.9

7.7

10.0

Tax adjustments

1.1

1.0

(0.0)

(0.0)

0.0

0.0

0.0

Company adjusted PBT

8.5

8.9

8.0

7.5

6.9

7.7

10.0

Average fully diluted number of shares outstanding (m)

35.0

45.9

46.0

46.1

46.2

46.1

46.1

Basic EPS - FRS 3 (p)

35.8

11.3

(11.8)

(12.0)

30.9

32.5

29.2

Fully diluted EPRA EPS (p)

18.7

16.5

23.4

15.7

13.9

15.9

20.7

Fully diluted adjusted EPS (p)

21.2

17.3

17.5

16.4

15.1

16.7

21.6

Dividend per share declared (p)

19.0

19.0

12.0

10.5

13.3

14.0

18.0

Dividend cover by adjusted earnings (x)

1.11

0.91

1.46

1.56

1.18

1.20

1.20

NTA total return

-2.1%

2.8%

-5.8%

-2.0%

9.2%

9.0%

7.7%

BALANCE SHEET

Fixed Assets

254.0

261.1

251.7

239.3

213.8

273.2

282.1

Investment properties

253.9

258.3

248.7

235.9

213.6

273.1

282.0

Other non-current assets

0.1

2.7

3.0

3.5

0.1

0.1

0.1

Current Assets

46.3

55.3

51.8

61.9

68.1

16.6

13.6

Trading properties

0.0

14.4

27.6

42.7

18.5

(.0)

(.0)

Assets held for sale

21.7

11.8

0.0

0.0

0.0

0.0

0.0

Cash

19.0

22.9

14.9

9.4

39.8

6.8

3.9

Other current assets

5.6

6.2

9.3

9.8

9.8

9.8

9.8

Current Liabilities

(11.5)

(16.0)

(16.1)

(34.9)

(42.0)

(42.2)

(43.2)

Creditors

(8.8)

(10.0)

(14.1)

(12.9)

(11.1)

(11.3)

(12.3)

Short term borrowings

(2.7)

(6.0)

(1.8)

(21.9)

(30.8)

(30.8)

(30.8)

Long Term Liabilities

(105.5)

(120.0)

(121.1)

(108.5)

(72.8)

(71.3)

(69.8)

Long term borrowings

(97.2)

(112.0)

(117.5)

(105.4)

(70.0)

(68.5)

(67.0)

Deferred tax & other long term liabilities

(8.3)

(8.0)

(3.5)

(3.1)

(2.7)

(2.7)

(2.7)

Net Assets

183.3

180.3

166.3

157.8

167.1

176.3

182.8

EPRA net assets

0.0

0.0

167.9

161.3

171.3

180.5

187.0

Basic NAV/share (p)

400

393

361

343

361

381

395

Diluted EPRA NAV/share (p)

0

0

364

350

370

390

404

CASH FLOW

Operating Cash Flow

9.9

11.9

15.7

11.3

37.3

33.0

14.2

Net Interest

(2.7)

(3.4)

(3.7)

(3.6)

(3.2)

(3.1)

(3.0)

Tax

(0.4)

(1.6)

(2.2)

(1.2)

(0.0)

0.0

0.0

Net cash from investing activities

(67.7)

(11.5)

(10.1)

(14.8)

26.6

(53.0)

(5.0)

Ordinary dividends paid

(6.7)

(8.7)

(8.7)

(3.5)

(5.4)

(6.2)

(7.4)

Debt drawn/(repaid)

8.2

18.0

1.4

7.6

(26.9)

(1.7)

(1.7)

Proceeds from shares issued (net)

67.7

(0.0)

0.0

0.0

0.0

0.0

0.0

Other cash flow from financing activities

(1.1)

(0.1)

(1.0)

(0.3)

(0.0)

0.0

0.0

Net Cash Flow

7.0

4.4

(8.5)

(4.5)

28.4

(31.0)

(2.9)

Opening cash

10.9

18.0

22.4

13.9

9.4

37.8

6.8

Closing cash

18.0

22.4

13.9

9.4

37.8

6.8

3.9

Restricted cash

1.0

0.5

1.0

0.0

2.0

0.0

0.0

Closing balance sheet cash

19.0

22.9

14.9

9.4

39.8

6.8

3.9

Closing balance sheet debt

(99.8)

(118.0)

(119.4)

(127.3)

(100.9)

(99.4)

(97.9)

Unamortised debt costs

(1.6)

(1.3)

(1.4)

(1.0)

(0.6)

(0.4)

(0.2)

Closing net (debt)/cash

(82.4)

(96.5)

(105.8)

(118.9)

(61.6)

(92.9)

(94.2)

Net LTV (exc restricted cash & adjusted for unamortised debt costs)

29.8%

33.7%

38.1%

42.0%

26.0%

33.4%

32.8%

Source: Palace Capital, Edison Investment Research

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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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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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Context Therapeutics’ FY21 results echoed previously highlighted progress on its novel women’s oncology franchise. With all four clinical programs expected to have initial read-outs in 2022, the next few months could be instrumental in shaping the outlook for the company. The share price, which has remained range bound in recent months, could potentially see an uplift on positive data readouts. Importantly, the cash position remains robust with the year-end cash balance of $50m sufficient to extend the runway into 2024. In the nearer term, we expect the upcoming presentations at the AACR (April 2022) to likely catalyze a momentum shift, contingent on the quality of the data. Pending upcoming read-outs, our valuation remains largely unchanged at $134.1m or $8.40/share.

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