Stockwatch: A quality income play to start 2018

Can Tritax Big Box REIT (BBOX), an investor in warehouses largely serving the UK digital economy, maintain its trend of steady capital growth backed by a relatively secure income?

Tritax yield’s 4.5% prospectively and its mid-cap shares are capitalised at £2 billion. I’ve drawn attention variously since flotation three years ago when the directors were buying stock at around 100p, suggesting a ‘buy the dips’ approach. However, the chart has shown quite linear growth despite a brief drop after the EU referendum.

Director buying continues, with a non-executive director making a maiden purchase of 100,000 shares at 143.9p last month. Despite paying out most of cash flow as dividends, however, the share price consolidated in a 138p to 151p trading range last year. It had been stronger in 2015 and 2016 when the story was gaining more attention and per share growth was easier given the company’s smaller size.

So, is Tritax worth backing for all-round growth prospects, or is nowadays more a “bond proxy”, i.e. a place to park cash for relatively secure income with limited downside risk?

Management contends ‘Big Box’ logistics offer further growth

The first half of 2017 showed a 50% advance in pre-tax profit to £80.5 million, making the full-year forecast for £86.2 million (see table) look conservative. Amid heightened investment demand, three “big boxes” were bought for £142.5 million, plus three pre-let developments with a total value of £155 million completing. That takes the portfolio to 38 assets and 19.6 million square feet of logistics space.

Management says it is well positioned and capitalised to make further acquisitions: “The logistics market continues to dynamically influence the UK economy. We believe the development of the Big Box logistics market remains in its infancy, with operational efficiencies and e-commerce likely to drive occupational demand for some time to come.”

Nearly £90 million was spent acquiring three, state-of-art logistics facilities last November, and another for £44.3 million at end-December. Such distribution centres for merchandise or food serve the need for same or next-day delivery, which is largely a benchmark for online retail. It also enables a much wider range of products to be sold than via high street stores.

So, despite wage/inflation pressures and a limit to consumer credit appetite, this sea-change underway in British retail supports the risk/reward profile. Even some extent of consumer spending slowdown ought not to undermine it.

Quality yield means loyal institutional shareholders

The 6.4p total dividend forecast in the table is the company’s declared target for which it is “on course”. Looking to 2018, 4.5% is not as high a yield as out-of-favour utility and transport stocks currently, but is more secure.

Last June, Tritax’s contracted annual rent roll had increased to £108.7 million from £99.7 million at end-2016. Long lease commitments – circa 15 years – and potential to maintain strong rental growth, makes the board optimistic about growing fully-covered dividends. There is also a policy of upward-only rent reviews, although it’s hard to be sure exactly how durable it is should UK consumer spending turn down.

Portfolio growth is being achieved with about 26% balance sheet gearing and diversified debt sources; a fair approach to capitalise on this era of low interest rates without high risk.

Earnings cover for the dividend is about 1.1 times going forward, and I suggest the chief risk for long-term growth is UK acquisition opportunities becoming sparse at some point. That would beg the question whether Tritax’s formula could extend on the continent where it would likely be affected by Brexit terms of trade.

The largest shareholder is Aviva (AV.) with 7.4% and, while insurance/pensions groups do invest directly in commercial property, the Tritax team has specialist skills for the Big Box segment.

Moreover, it keeps offering institutions a chance to top up their holdings with occasional share issues at a small discount. Most likely they are content with the set-up and secure dividends which explain the stock’s low volatility.

Circa 8% premium to underlying net asset value?

As defined by European Public Real Estate (EPRA) methods, net asset value (NAV) per share worked out at 133.3p last June 2017, up 3.3% from 129p in December 2016. The portfolio valuation rose by 10.9% to £2.1 billion in the first half year, but 257.4 million shares issued last May at 136p (raising £350 million for development) meant dilution of just over 23% thus checking per share growth rates.

At 149p in the market (off a 151p high) the stock trades at a near 16% premium, though if a similar growth rate in underlying NAV was achieved in the second half of 2017 then an 8% premium is implied. This compares with 13% when I last drew attention in March at 146p, so perception of NAV may have tempered buyers.

Shares in property investment companies tend to trade at a discount to NAV, but, where there is a proven specialist concept, then a premium is possible: Helical (HLCL) sustained one until the Brexit vote, its shares now at a 29.5% discount, possibly because of anticipated cooling in the London office market.

Thus, Tritax’s premium can come across as exemplifying stretched asset values after years of monetary stimulus, but, looked at in yield terms, a 5% discount to NAV may imply 130.8p per share at end-2017, thus a yield close to 5%. That’s generous pricing for a low-risk dividend. The “search for yield” in a low interest rate environment, therefore, emphasises dividend above asset valuation.

Tritax Big Box REIT – financial summary           year ended 31 Dec 2014 2015 2016 2017 2018             Turnover (£ million) 16.4 45.2 76.9     IFRS3 pre-tax profit (£m) 35.9 134 91.9     Normalised pre-tax profit (£m) 35.9 27.2 44.4 86.2 104 Operating margin (%) 243 77.2 79.0     IFRS3 earnings/share (p) 12.9 21.5 10.5     Normalised earnings/share (p) 12.9 4.4 5.1 6.8 7.6 Price/earnings multiple (x)     29.4 21.9 19.6 Cash flow/share (p) 6.7 3.4 6.9     Dividends per share (p) 2.9 3.8 7.7 6.4 6.7 Yield (%)     5.1 4.3 4.5 Covered by earnings (x) 4.4 6.3 1.9     Net tangible assets per share (p) 107 124 128 135 143 EPRA NAV per share (p) 108 125 129                 Source: Company REFS          

Rescheduling of debt and trading statement due

Commercial property investment can be quite a debt juggling act: last month the company’s secured debt was refinanced via an issue of £500 million 11-year notes under a £1.5 billion euro medium-term note programme.

There’s also a new £350 million facility which nearly doubles average debt maturity to 8.4 years at a fixed annual cost of 2.4%. It therefore appears Tritax has secured its medium to long-term financial needs while interest rates are low.

The next item of news for Tritax is likely to be a pre-close update (last year on 19 January) worth targeting to confirm NAV growth in 2018. That’s a snapshot view though. The crux of why I draw your attention again is recent news affirming acquisitions continuing and a non-executive director buying £143,900 of stock.

Growth remains the agenda, prioritising dividends. At a time when plenty of other income stocks face risks with the business cycle, Tritax is relatively secure. Accumulate.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.