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3. Bull, Bear & Beyond – Regional REIT: executive interview
7 Plays1 year ago
Regional REIT (RGL) is a specialist investor in offices across regional centres of the UK, outside the M25. It is actively managed with a strong focus on income returns. The steep rise in interest rates, combined with uncertainty about the pattern of post-pandemic office use, has seen office values fall significantly. In August, RGL successfully raised more than £100m in new equity, to repay borrowings and invest in the portfolio, to further enhance the occupier appeal and income potential of core assets and to capture a larger share of the value uplift from sales for alternative use. This comes at an interesting time. Interest rates have begun to recede, the pattern of office use is becoming clearer and there is a shortage of good-quality stock with the environmental credentials that occupiers increasingly demand. RGL has made great strides in this respect, with well over half its assets already compliant with the 2030 legal requirement, far ahead of the wider market.
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About ‘Bull, Bear & Beyond’
Bull, Bear & Beyond': features candid conversations with senior executives and from our own team of experts from across industries, exploring strategy, innovation, and the opportunities shaping their markets and 60-second pieces are a compressed summary of content designed to convey our message in a single, easily shareable hit.
About Edison:
Edison is a content-led IR business. We believe quality investment content should inform all investors, not just brokers. Our mission: engage and build bigger, better-informed investor audiences for our clients.
Edison covers 50+ investment trusts, read about them here: https://www.edisongroup.com/equities/investment-companies/
Original interview published on 25/09/2024 and reposted as a podcast
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Transcript
Introduction and CEO's Insight
00:00:08
Speaker
I'm Martin King, property analyst at Edison Investment Research, and I'm joined today by Stephen Ingalls, who is Chief Executive of London and Scottish Property Investment Management, which is the property manager for Regional REIT. Stephen, welcome.
00:00:22
Speaker
Good afternoon, Martin. Stephen, you recently reported first half results for the thirtieth to the 30th of June, but obviously your significant refinancing operation came after that. And I think that's probably what most people will want to hear about that and and what your plans are going forward.
Operational Trends and Market Conditions
00:00:40
Speaker
But perhaps we could talk first about some of the operational trends that you saw in the first half, but also continuing since then.
00:00:48
Speaker
Sure, no, happy to do so, Martin. Yes, as you rightly say, the refinancing is probably what most people are interested in. But nonetheless, we did have an active first six months.
00:00:59
Speaker
ah Most of the of the activity, of course, was reported in the prospectus, and therefore the the vast majority of our investors and the investment world will be aware of that activity.
00:01:12
Speaker
ah But you we we continue to have an improving leasing market. And to that end, whilst slower than we would like, we did undertake 44 new lettings in the beginning of the year and the period the first six months.
00:01:26
Speaker
And those new lettings were encouragingly at 8.6% ahead of existing yeah ERVs. So you know that that does encourage us that we are offering the right space to the market.
00:01:40
Speaker
Of course, we'd like to see that letting activity pick up. And I think we are, you with the stability and interest rates Obviously, we've seen one one cut so far in the second a half, but with stability in interest rates and inflation looking like it's under control, that confidence that comes from that will come through in the leasing market over the course of the next few months.
Return to Office Trends
00:02:03
Speaker
And indeed, you know talking about now rather than the first six months, we are indeed seeing increasing levels of inquiries.
00:02:12
Speaker
So from ah from a leasing occupational point of view, beginning to pick up, and and we saw some evidence of that the first six months. And what have you most recently seen in terms of the back-to-work trend?
00:02:24
Speaker
Yeah, I mean, we we have been one of the sort of founders of of this ah active of tracking, if you like. we've We've undertaken a number of tenant surveys.
00:02:35
Speaker
We think we're a ah good a good bellwether of what's happening on the ground, given 130 buildings and 850 odd tenants. So yeah we we have undertaken a couple of surveys. The last one was March of this year. So we published that in in April. That was over 100 buildings, 26,000 staff members within those buildings. So a reasonable sample size. And what we've seen is an increasing trend, trending back to the office.
00:03:08
Speaker
It's been slow and steady, but as of March, 99% of our tenants were back in, in some form. And of course, the most important part for us is that's great, but how many people are back in and and what trends can we analyse from that? um And what we found was that pre we're we're now back to pre-pandemic occupancy.
00:03:30
Speaker
which is encouraging. Actually, we're slightly ahead as March. The new survey will be out in December of this year. It'll be interesting to see where that is. and And most importantly, in the in the regional markets in which we have our assets, people were back just over, on average, four days a week.
00:03:47
Speaker
ah Obviously, that's an average. Some people back five days, some people back three. But 4.1 was the actual number in terms of average days in the office.
00:03:58
Speaker
And that's very encouraging.
Financial Strategy and Debt Management
00:03:59
Speaker
Thank you If we move on to the refinancing, but before we go any further, could you just remind us how much you raised, what you're doing with the money, and but perhaps also for those who are less familiar with it, what the share consolidation means?
00:04:13
Speaker
yeah so So we raised £110 million pounds ah and for three main purposes. One was to repay our resale bond, which required to be repaid in August 2021.
00:04:27
Speaker
And that's now been undertaken. And the remainder split between reduction of our senior debt facilities and CapEx. But let me just elaborate on that very slightly. So as as part of the devaluation in capital values caused by inflation and and higher interest rates, our LTV had crept up to a level that we felt was not a sustainable level in the investment trust world.
00:04:57
Speaker
And therefore, 58 points percent, which is where it was at a half year, That was high in our world, not high in property leverage terms, but high nonetheless in the investment trust world. So we obviously were repaying the bond of 50 million, which increased our indebtedness, <unk> sorry, decreased our indebtedness. And indeed, we then looked at the senior debt facilities, which were ranging between 48 and 55% LTV headroom there, but we against covenants of sixty percent so yeah there was hadroom there but we
00:05:30
Speaker
had thought that that headroom could be improved upon and therefore 26 million of the proceeds of the raise are being used to reduce the individual debt facilities to below 50%.
00:05:46
Speaker
And of course, what that does overall is is improve the indebted position of the and of the company as a whole. And that will be around 41% LTV ah post ah the the post the exercise that we're doing just now. I'll i'll come on to the CapEx in a second about me, Martin, but let's just deal with what you know or what we're seeing in terms of the the market and the the banking sector as a whole. And and we are a obviously some way of refinancing all our debt facilities. The first is August 2026.
00:06:26
Speaker
But by reducing the individual bank facilities down to below 50% and further reducing them as we continue to sell non-core assets,
00:06:37
Speaker
we put ourselves in a much stronger position to refinance those debt facilities come August 26. And that's really the purpose for the repayment of debt at this time.
Capital Expenditure and Strategic Shifts
00:06:49
Speaker
Stephen, you talk about increased capex. I mean, obviously, since listing, regional read has always been focused on generating income and maximising dividends.
00:06:59
Speaker
Does this greater focus on investment in the portfolio, whether that be to enhance core assets or prepare them for sale? Does that signal any change in strategy? Is it ah a bit of a shift towards more of a total return approach?
00:07:13
Speaker
Yeah, I mean, the the the cat is there' a very good question. mar yeah Yes, I think we we indicated in the prospectus that what we would like to do is capture more of the enhanced the value from some of the assets. So the company had been absolutely focused on income.
00:07:30
Speaker
and holding void assets that may have an improved value for alternative use had a drag on that income. So we tended to sell those assets with some form of clawback in the event that there was enhanced value generated by the new owner.
00:07:49
Speaker
What I wanted to do was try and capture some of that enhanced value. And therefore, the CapEx monies that we've raised are twofold. One, to continue with our refurbishment program.
00:08:01
Speaker
And of course, REITs traditionally have to pay out ah the vast majority of all income. Therefore, as values begin to decline, CapEx becomes more difficult. So we were capital constrained and that to a degree held back our leasing program.
00:08:18
Speaker
and So the majority of the CapEx raised will be to continue to upgrade and improve our existing portfolio. However, a portion of that will be utilized for fees.
00:08:30
Speaker
And those fees are planning fees and fees for architects, consultants, et cetera, in obtaining planning consents for alternative uses. where the alternative use is far and away ahead of the existing use value.
00:08:46
Speaker
And we've identified 20 initial assets where that is likely to be the case. and And that will be staggered, obviously, as lease come to an end. But it will mean that we will retain some properties longer than we would normally have done. Where we would have sold earlier, we'll retain...
00:09:04
Speaker
obtain planning consent and sell thereafter at a new enhanced value. But with all that, Stephen, regional risk investors should still look towards the company being a good income stock.
00:09:18
Speaker
Absolutely. we We remain an income stock. and let's let's not Let's not go two ways about it. We remain an income stock, but now an income stock with capital value improvement through that planning game that I was just discussing. So the total return it might be made up slightly very slightly differently. It might be partially through income, through through the the PID and the distribution of dividends, and maybe partly from capital gain.
00:09:48
Speaker
So the makeup of returns may be slightly different, but we absolutely remain an income stock.
Shareholder Influence and Expertise
00:09:54
Speaker
Stephen, the fundraising went very well and you had a good take up from existing shareholders.
00:09:59
Speaker
But of course, the underwriter has become your now your main shareholder, Bridgemere. What might they bring to strategy going forward? Yes, we were very encouraged by the take-up from existing shareholders. It was very important to me and the board that we allowed shareholders to take up their entire allowance and in the raise, and they were able to do that given the nature of the underwrite.
00:10:27
Speaker
But yes, Bridgmere are now our largest investor, shareholder. Bridgmere is the family office of Steve Morgan. Steve Morgan, best known as a philanthropist and having made his fortune through Red Row Homes, a national house builder,
00:10:44
Speaker
And I think the the answer to the question of what they might bring is twofold. One, they're a very large family office and therefore are a very good stakeholder for us.
00:10:57
Speaker
Secondly, Steve Morgan was historically involved with the funds prior to listing back in 2015. So he was one of the larger investors in Fund 1 and Fund 2, which we combined to create the REITs. And therefore, there's a legacy of knowledge there of some of the assets and indeed of the management team. So I think that, again, is a very positive aspect.
00:11:20
Speaker
and And thirdly, he has deep knowledge of regional property markets, very much focused on residential historically, but he's done a little bit of commercial. But on that residential element, and I was talking earlier about alternative use,
00:11:37
Speaker
Most of our assets are suitable for alternative use and most of them are for beds or sheds. So, you know, either industrial development or beds of some description, residential, either to rent or to buy, student accommodation or hotels.
00:11:55
Speaker
And Steve Morgan has great knowledge in those markets and we're hopeful and anticipate that he will be a positive influence and consultant in terms of obtaining maximum value from some of those alternative uses. So I'm really looking forward to having welcome you as a shareholder.
00:12:14
Speaker
And I think we'll work very well together going forward.
Sustainability and Growth Strategy
00:12:17
Speaker
Stephen, in terms of enhancing the portfolio and and the core assets that will remain with you, you've made a huge amount of progress in in in in improving EPC ratings across the portfolio. How does that com position you in the marketplace and how much more have you got to do Yeah, that that is the crucial question. Very much focused on obtaining EPC ratings. across our portfolio. Already, we're 60% plus there ah compared to the marketplace, which on average in the regional markets is 30% A and B. And that's vital because, as you know, we're required to reach EPCB by 2030 as a statutory requirement.
00:12:59
Speaker
But more importantly, it's what tenants are now demanding. Now, if you look at that from a purely logical point of view, if only 30% of the market provides the space that tenants require, and we're talking of occupancy of 75% to 80% across all major markets in the regions, then clearly that creates a position of undersupply of that quality of stock.
00:13:25
Speaker
and over demand of tenants. And and that that positions us very well and is an absolute focus of the business. That's where the main rental growth will come from. I think we've evidenced that the last couple of years, last year achieving 13.5% of yeah ERV and this year already 8.5% ahead of on those spaces that we have ready available to lease.
00:13:49
Speaker
So that's going to be a vital driver of the market over the course of the next couple of years.
Market Position and Future Plans
00:13:54
Speaker
So if I bring that all together, Stephen, you're doing a lot of work to enhance the portfolio and improve the income prospects and for that, but also extract value in those properties that we should perhaps non-core.
00:14:07
Speaker
It also looks that you know as if the market itself, the occupier market, might be a little bit more friendly to you and also the investment market. ah I'm conscious that around the sector there's there's a huge amount of consolidation going on.
00:14:21
Speaker
Does all of this make you more or less vulnerable in that in that situation? and And does it affect what you're doing? Yeah, I think I agree wholeheartedly with your comments. i mean, in in summary, yes, we we think we put ourselves in a good position for growth, both in terms of income and capital value going forward, assuming, of course, that we we continue down to the route of steady and improving interest rates.
00:14:48
Speaker
ah In terms of the M&A activity, yes, there's been a lot of it, as you've seen, in Martin, over the course of the last few months. I think maybe the exceptional part of of regional read is we are the standout office landlord in regional markets. And so there's there's no comparable to us.
00:15:06
Speaker
ah Yes, we could potentially combine with a much larger office ah provider in in the Southeast or or London. But I think we are slightly unique in the offering that we have.
00:15:19
Speaker
We think there's lots of scope in our market to continue to grow and still be a relatively small proportion of the overall market. And therefore, I think the opportunity for regional REIT to go to loan continues um and will continue in the short to medium term.
00:15:36
Speaker
But we have to grow. And we can grow, obviously, by capital values improving. That's a a fair helping win from the market. But we can also grow by adding value through, as you say, our change of use strategies and by improving income.
00:15:51
Speaker
and therefore improving capital values that way. But I think, you know, from a consolidation point of view, are we more or less attractive? I think we must look pretty attractive just now to some and parties.
00:16:06
Speaker
There's no natural existing listed vehicle, though, for regional rates. So therefore, I think we will continue to paddle our own canoe, so to speak. Stephen, thank you very much.
00:16:18
Speaker
Thank you, Martin. Take care.