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Research: Real Estate
Target Healthcare REIT’s Q224 update shows indexed rent reviews driving increased earnings and property values. Tenant profitability continues to strengthen, reflected in a new high level of rent cover and a continuing high level of rent collection. Quarterly DPS, increased by 2% at the start of FY24, is now well covered by adjusted earnings.
Target Healthcare REIT |
Rent cover at a high and fully covered DPS |
Q224 update |
Real estate |
6 February 2024 |
Share price performance
Business description
Next events
Analyst
Target Healthcare REIT is a research client of Edison Investment Research Limited |
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Target Healthcare REIT’s Q224 update shows indexed rent reviews driving increased earnings and property values. Tenant profitability continues to strengthen, reflected in a new high level of rent cover and a continuing high level of rent collection. Quarterly DPS, increased by 2% at the start of FY24, is now well covered by adjusted earnings.
Year end |
Rental |
Adjusted earnings* (£m) |
Adjusted |
NAV**/ |
DPS |
P/NAV |
Yield |
06/22 |
63.9 |
30.2 |
5.0 |
112.3 |
6.76 |
0.73 |
8.2 |
06/23 |
67.7 |
37.2 |
6.0 |
104.5 |
6.18 |
0.78 |
7.5 |
06/24e |
69.0 |
37.2 |
6.0 |
107.9 |
5.71 |
0.76 |
7.0 |
06/25e |
73.8 |
39.3 |
6.3 |
111.5 |
5.84 |
0.74 |
7.1 |
Note: *Adjusted earnings exclude revaluation movements, non-cash income arising from the accounting treatment of lease incentives and guaranteed rent review uplifts and acquisition costs, and include development interest under forward fund agreements. **NAV is net tangible assets (NTA) throughout this report.
Gains in earnings and asset values
Q224 rent collection remained strong at 99% while the data collected for the September quarter showed a further increase in rent cover to a new high level of 1.9x, the result of active asset management and improved trading conditions for tenants, with fee growth and rising occupancy offsetting inflationary cost pressures. Inflation-indexed rent reviews continue to deliver income growth and, with property valuations broadly stable (Q2 EPRA topped-up net initial yield of 6.25% vs 6.22% in Q1), valuation uplifts. The Q224 DPS declared of 1.428p takes the total year to date to 2.856p, covered 1.07x by aggregate adjusted EPRA earnings. EPRA NTA per share increased 1.0% to 106.7p during the quarter and including dividends paid the accounting total return was 2.4%. The H124 accounting total return was 4.8%. We view the Q224 performance positively and will review our forecast with the interim results in March.
Profitably meeting a social need
Target operates in a structurally supported market with a growing elderly population and the need to improve the existing estate driving demand for modern, high-quality residential facilities. 98% of the homes are EPC rated A or B (100% EPC C and above) and compliant with the minimum energy efficiency standards anticipated to apply from 2030. With its unwavering focus on asset quality, these are the homes in which Target invests. Not only are they appealing to residents (two-thirds private pay), but they also support operators in providing better, more efficient and more effective care. When let at sustainable rent levels in well-located areas, with strong supply/demand characteristics, such properties have proven to be attractive to tenants, existing and alternative, which is key to providing sustainable, long-duration, inflation-linked income.
Valuation: Attractive yield with DPS growing again
The 5.71p FY24 DPS target represents an attractive yield of 7% and we expect further growth on a fully covered basis. Meanwhile, the shares trade at a 24% discount to the December EPRA NTA per share.
Additional details on the NAV and trading update
While Target is primarily focused on income returns, capital returns have also contributed materially in H124, accounting for 44% of total return. This reflects both a contribution to retained earnings from the fully covered DPS as well as the stabilisation in property yields, allowing rental growth to feed through to valuations.
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Exhibit 1: Quarterly NAV total return |
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Source: Target Healthcare REIT data, Edison Investment Research |
Dividend return has been consistently positive since listing, contributing more than 90% of the average total return of 5.4% pa. Capital returns have also been positive in each year, with the exception of 2023 when property values across the broad property sector negatively adjusted to higher bond yields. Backed by strong fundamentals, including very long-term indexed rental income, care home properties were nonetheless relatively robust, with Target’s portfolio further benefiting from the quality of its assets.
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Exhibit 2: Consistent long-term return |
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Source: Target Healthcare REIT, Edison Investment Research. Note: *22 January 2013 to 30 June 2014. **Adjusted for IPO costs. |
Tenant profitability continues to strengthen
Based on data gathered from its tenants, underlying resident occupancy in Target’s mature homes has continued to increase. At end-Q224 it was 87%, compared with 86% at end-Q1 and 85% at end-FY23 in June 2023. Occupancy has recovered from the COVID-19 pandemic low of c 74%, but upside potential remains to pre-pandemic levels of c 90%.
Average weekly resident fees have continued to outstrip inflation, and data collected from the company’s tenants for the year to June 2023 showed average growth of 13%. Target notes that fees for privately funded residents (two-thirds of the total across its tenants) have exceeded inflation over the past 25 years.
In addition to higher occupancy and strong fee growth, the caps on rent increases have also protected tenants against the pressures of elevated inflation, just as they are designed to do. Similarly, over previous periods of low inflation, the floors on rent increases (typically c 2%) have worked to the company’s advantage.
Rent cover1 for mature homes2 in the quarter that ended in September (full data for the December quarter is yet to be collated) showed a further increase to 1.9x, a new high and well above the 1.6x that Target has historically indicated to be a realistic level for a typical mature home.
Rent cover is a key measure of the underlying profitability of tenants and the sustainability of rents. The ratio tracks operational cash earnings at the home level (before rent), or EBITDARM, with the agreed rent and is presented both on a quarterly ‘spot’ basis and on a rolling 12-month basis. On a 12-month basis, rent cover was 1.6x in June and we estimate it would have reached c 1.7x in September, tracking monthly cover upwards.
A mature home is one that has been in operation for more than three years. Mature homes make up c 90% of the portfolio.
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Exhibit 3: Rent cover on a quarterly basis |
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Source: Target Healthcare REIT |
Exhibit 4: Financial summary
Year to 30 June (£m) |
2021 |
2022 |
2023 |
2024e |
2025e |
INCOME STATEMENT |
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Rental income excluding guaranteed uplift |
41.2 |
48.8 |
56.4 |
58.2 |
62.6 |
IFRS adjustment for guaranteed uplifts |
8.7 |
10.2 |
11.3 |
10.8 |
11.2 |
Other income |
0.1 |
4.8 |
0.1 |
0.0 |
0.0 |
Total revenue |
50.0 |
63.9 |
67.7 |
69.0 |
73.8 |
Gains/(losses) on revaluation |
9.4 |
5.5 |
(53.4) |
9.7 |
7.7 |
Realised gains/(losses) on disposal |
1.3 |
0.0 |
0.0 |
0.0 |
0.0 |
Management fee |
(5.8) |
(7.3) |
(7.4) |
(7.4) |
(7.6) |
Credit loss allowance & bad debts |
(2.7) |
(3.2) |
(0.3) |
(0.6) |
(0.6) |
Other expenses |
(2.6) |
(3.2) |
(3.0) |
(3.2) |
(3.4) |
Operating profit |
49.6 |
55.7 |
3.6 |
67.5 |
69.9 |
Net finance cost |
(5.7) |
(6.6) |
(10.1) |
(11.4) |
(12.5) |
IFRS net result |
43.9 |
49.1 |
(6.6) |
56.1 |
57.4 |
Adjust for: |
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Gains/(losses) on revaluation |
(9.5) |
(5.6) |
54.0 |
(9.7) |
(7.7) |
Other EPRA adjustments |
(0.3) |
(3.9) |
0.1 |
0.8 |
0.8 |
EPRA earnings |
34.0 |
39.7 |
47.6 |
47.2 |
50.5 |
Adjust for fixed/guaranteed rent reviews |
(8.7) |
(10.2) |
(11.3) |
(10.8) |
(11.2) |
Adjust for development interest under forward fund agreements |
0.6 |
0.8 |
1.0 |
0.8 |
0.0 |
Group adjusted earnings |
26.0 |
30.2 |
37.2 |
37.2 |
39.3 |
Average number of shares in issue (m) |
475.4 |
599.1 |
620.2 |
620.2 |
620.2 |
IFRS EPS (p) |
9.23 |
8.20 |
(1.06) |
9.05 |
9.25 |
EPRA EPS (p) |
7.2 |
6.6 |
7.7 |
7.6 |
8.1 |
Adjusted EPS (p) |
5.5 |
5.0 |
6.0 |
6.0 |
6.3 |
Dividend per share (declared) |
6.72 |
6.76 |
6.18 |
5.71 |
5.84 |
Dividend cover (EPRA earnings) |
1.05 |
0.95 |
1.24 |
1.33 |
1.39 |
Dividend cover (Adjusted earnings) |
0.80 |
0.72 |
0.97 |
1.05 |
1.09 |
BALANCE SHEET |
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Investment properties |
631.2 |
857.7 |
800.2 |
852.0 |
867.4 |
Other non-current assets |
54.8 |
65.9 |
83.3 |
93.3 |
103.7 |
Non-current assets |
686.0 |
923.6 |
883.4 |
945.3 |
971.1 |
Cash and equivalents |
21.1 |
34.5 |
15.4 |
12.8 |
14.9 |
Other current assets |
11.3 |
5.5 |
9.5 |
5.3 |
5.6 |
Current assets |
32.4 |
40.0 |
24.8 |
18.0 |
20.6 |
Bank loan |
(127.9) |
(231.4) |
(227.1) |
(260.7) |
(266.3) |
Other non-current liabilities |
(6.8) |
(7.1) |
(8.1) |
(8.1) |
(8.1) |
Non-current liabilities |
(134.7) |
(238.5) |
(235.1) |
(268.8) |
(274.4) |
Trade and other payables |
(18.5) |
(26.4) |
(18.3) |
(18.9) |
(20.3) |
Current Liabilities |
(18.5) |
(26.4) |
(18.3) |
(18.9) |
(20.3) |
Net assets |
565.2 |
698.8 |
654.8 |
675.7 |
697.0 |
Adjust for derivative financial liability |
(0.3) |
(2.3) |
(6.9) |
(6.1) |
(5.3) |
EPRA net assets |
564.9 |
696.5 |
647.9 |
669.6 |
691.7 |
Period end shares (m) |
511.5 |
620.2 |
620.2 |
620.2 |
620.2 |
IFRS NAV per share (p) |
110.5 |
112.7 |
105.6 |
108.9 |
112.4 |
EPRA NTA per share (p) |
110.4 |
112.3 |
104.5 |
108.0 |
111.5 |
EPRA NTA total return |
8.4% |
7.8% |
-1.2% |
8.8% |
8.7% |
CASH FLOW |
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Cash flow from operations |
29.2 |
35.6 |
40.8 |
51.9 |
52.0 |
Premium paid for interest rate cap |
(2.6) |
0.0 |
0.0 |
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Net interest paid |
(4.2) |
(5.2) |
(8.6) |
(10.0) |
(11.1) |
Tax paid |
(0.0) |
(0.0) |
0.0 |
0.0 |
0.0 |
Net cash flow from operating activities |
25.0 |
30.4 |
29.7 |
41.8 |
40.9 |
Purchase of investment properties |
(51.4) |
(207.0) |
(29.3) |
(42.2) |
(7.7) |
Disposal of investment properties |
7.8 |
4.4 |
25.8 |
0.0 |
0.0 |
Net cash flow from investing activities |
(43.6) |
(202.6) |
(3.6) |
(42.2) |
(7.7) |
Issue of ordinary share capital (net of expenses) |
58.3 |
122.5 |
0.0 |
0.0 |
0.0 |
(Repayment)/drawdown of loans |
(22.0) |
104.8 |
(4.8) |
33.0 |
5.0 |
Dividends paid |
(31.5) |
(39.8) |
(40.3) |
(35.3) |
(36.0) |
Other |
(1.5) |
(1.8) |
(0.2) |
0.0 |
0.0 |
Net cash flow from financing activities |
3.3 |
185.6 |
(45.2) |
(2.3) |
(31.0) |
Net change in cash and equivalents |
(15.3) |
13.4 |
(19.1) |
(2.6) |
2.2 |
Opening cash and equivalents |
36.4 |
21.1 |
34.5 |
15.4 |
12.8 |
Closing cash and equivalents |
21.1 |
34.5 |
15.4 |
12.8 |
14.9 |
Balance sheet debt |
(127.9) |
(231.4) |
(227.1) |
(260.7) |
(266.3) |
Unamortised loan arrangement costs |
(2.1) |
(3.4) |
(2.9) |
(2.3) |
(1.7) |
Drawn debt |
(130.0) |
(234.8) |
(230.0) |
(263.0) |
(268.0) |
Net cash/(debt) |
(108.9) |
(200.3) |
(214.6) |
(250.2) |
(253.1) |
Gross LTV |
19.2% |
25.8% |
26.5% |
28.2% |
28.0% |
Net LTV |
16.1% |
22.0% |
24.7% |
26.9% |
26.4% |
Source: Target Healthcare REIT historical data, Edison Investment Research forecasts
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Research: TMT
Filtronic’s recent investment and focus on high-performance radio frequency (RF) design and manufacturing is starting to pay off, with recent new customer wins, development contracts and volume production orders boosting the order backlog. H124 results do not reflect this recent success: revenue was essentially flat and investment in sales and engineering reduced EBITDA. However, the strong backlog gives management confidence that revenue and profit will exceed consensus estimates for FY24 and FY25 and we have upgraded our EPS forecasts by 234% in FY24 and 96% in FY25.