Sirius Real Estate: Strong financial performance
Sirius Real Estate, the FTSE 250 real estate investment company, has made eight noteworthy announcements since our last report (on 12th April 2022). For us, the key highlight of the announcements is that the company has financially performed exceptionally well in the six months ended 30th September 2022, growing funds from operations (FFO) by 47% over the period. Accordingly, we have updated our forecasts, and estimate that the expected return on investment in Sirius Real Estate over the next 12 months is 57%. In other words, a £100,000 investment in the company is expected to return £157,000 within 12 months' time. We note that the degree of risk associated with an investment in Sirius is relatively low, with the company's shares having an adjusted beta1 that is 1.6% percentage points above the market (1.016 vs. 1). All-in-all, assuming that a suitable return level in the next 12 months is 10% or more, then an investment in the company is considered to be a 'suitable' one.
Summary
Strengthened financial position
Another key highlight for us is that the company has further strengthened its financial position, respectively improving its net current asset, cash, net debt and net asset positions by 22%, 7%, 1.6% and 1.8% on six months earlier. We note that its interest coverage is much better than its peers (8.1x vs. 3.7x), suggesting that the company is in a materially better financial position than its peers to withstand any macroeconomic shocks.
Upgraded forecasts
Following the better-than-expected jump in FFO in the last year and a half, we are now expecting FFO to increase to €97.0 million in the current financial year (we had previously forecasted €90.1 million), growing further to €100.0 million in the following financial year (we had previously forecasted €95.1 million). For us, currently, the biggest risk to the forecasts (and, therefore, to the valuation of the company) relates to macroeconomic factors, in particular unexpected and sudden changes in inflation.
Attractive valuation
Research suggests that in terms of estimating the expected return of an investment over a period of 12 months or less, the approach that is more/most accurate is the relative valuation approach, so that's the approach that we suggest using to determine the estimated value of Sirius Real Estate. For valuing a real estate investment trust (REIT), the P/FFO is considered by many as one of the best relative valuation ratios to use. Based on our twelve-month ahead Sirius FFO forecast (of €99 million), Bloomberg-suggested P/FFO multiple (of 18x), today's GBP/EUR exchange rate (€1.16 per pound) and the current Sirius shares in issue (1,176 million), our model indicates that the valuation of the company will increase over the next 12 months to 130p per share, from 82.50p.
Year end Mar 31 · 2021 · 2022 · 2023 · 2024
Portfolio value, €-bn · 1.36 · 2.08 · 2.12 · 2.15
FFO, €-mln · 60.9 · 74.6 · 97.0 · 100.0
FFO/Shr, €-cents · 5.84 · 6.78 · 8.25 · 8.50
Div/Shr, €-cents · 3.80 · 4.41 · 5.40 · 5.60
Adj. NAV/shr €-cents · 93.8 · 108.5 · 109.5 · 114.5
On 21st November 2022, the company announced its interim results for the period ended 30th September 2022.
During the six-month period, revenue increased by 47.7% to €130.6 million (H1 FY2022: €88.4 million), mainly driven by higher rental and service charges. In Germany, like-for-like annualised rent roll improved by 2.4% to €115.2 million (H1 FY2022: €112.5 million), and in the United Kingdom, by 4.1% to €46.5 million (H1 FY2022: €44.7 million). Profit before tax decreased by 3% to €75.7 million (H1 FY2022: €78.2 million), primarily due to lower revaluation gains and higher costs and expenses.
In the period, net current assets increased by 22% to €67 million (H2 FY2022: €55 million), and net asset value improved by 1.8% to €1,213 million (H2 FY2022: €1,191 million). Cash improved by around €9 million to €162 million (H2 FY2022: €151 million) and debt decreased by €3 million to €993 million (H2 FY2022: €996 million). The value of the company's investment property increased by 0.3% to €2,081.4 million (H2 FY2022: €2,074.9 million).
Cash flows from operating activities increased by 37.5% to €48.1 million (H1 FY2022: €35.0 million), and mainly due to the disposal of properties, cash flows from investing activities was negligible (H1 FY2022: negative €107.5 million). The company's German and UK portfolios saw a respective increase of €20.3 million and £6.3 million, representing a 1.8% and 2.1% like-for-like valuation growth. With no new loans taken during the period, cash flows from financing activities moved to a negative €36.5 million (H1 FY2022: positive €194 million). The total dividend per share for the period increased by 32.4% to 2.79 cents (H1 FY2022: 2.04 cents).
Funds From Operations (FFO) increased by 47.0% to €48.5 million (H2 FY2022: €33.0 million).
The company has prioritised improving its debt ratios and building up its cash reserves, and, in line with that, during the period, net loan to value (LTV), which reduces the loan balance by free cash (excluding restricted cash balances) in its calculation, decreased by 0.6 percentage points to 41.0% (FY2022: 41.6%) and the interest cover improved to 8.1x, from 7.3x a year earlier. We note that Sirius' interest coverage is much better than its Bloomberg-selected peers (8.1x vs. 3.7x), suggesting that the company is in a materially better financial position than its peers to withstand any macroeconomic shocks. Further information about the peers can be found in the valuation section of this report.
The company added that it's fully committed to continuing to reduce its net LTV to be well within 40% or below in the near term and that it continues to expect to trade in line with consensus and management expectations for the full year.
Half-year results
Income statement
Source: Sirius Real Estate Limited (LSE:SRE, JSE:SRE, OTC:SRRLF).
Balance sheet
Source: Sirius Real Estate Limited (LSE:SRE, JSE:SRE, OTC:SRRLF).
Reaffirmed investment rating
On the 7th November 2022, Sirius Real Estate announced that the rating agency Fitch Ratings has reaffirmed the company's BBB investment grade rating with 'stable outlook' (long-term issuer default rating).
In its rating, Fitch noted that it expects Sirius's income to remain stable, due to an active focus on occupancy and low affordable rents for the company's out-of-town locations. It also highlighted the benefits of the Sirius operating platform and the resilience of its core, high-yielding portfolio. Fitch anticipates that total average portfolio occupancy levels will remain above 80%.
Early refinancing of next major debt expiry
On 6th October 2022, Sirius Real Estate announced that it has completed the early refinancing of the company's next major debt expiry, a €170 million facility with Berlin Hyp AG, approximately one year in advance of the facility's due date.
The refinancing comprises a new 7-year, €170 million facility at a fixed interest rate of 4.26%, which will replace and redeem the existing facility upon its expiry on 31st October 2023.
As of 30th September 2022, the group had a total of €993 million of outstanding debt, €750 million of which is unsecured. The remaining €243 million comprised mortgage-backed debt, of which the most significant tranche is the newly refinanced €170 million Berlin Hyp AG facility referred to above.
The refinancing facility extends the group's total weighted average debt expiry from 3.8 years to 5.0 years. When the new facility commences just over a year from now, the group's weighted average cost of debt will increase from 1.4% to 1.9%.
The company has €1.6 billion of unencumbered assets and in excess of €138 million of free cash available. Within the next 12 months, Sirius has a total of €35 million of debt expiring, which it is confident of either extending terms with the existing lenders, replacing with new lenders or paying down.
Acquisitions and disposals update
On 4th October 2022, Sirius Real Estate announced that it has completed three acquisitions in Germany, for €44.6 million.
The acquisitions were all notarised prior to the end of June and have been mainly funded using capital from three strategic disposals in Germany and the UK (for a combined €33.6 million).
The disposals have been made at a premium to book value.
The three disposals were of assets that the company believes offered limited further growth opportunities, due to location and/or condition.
The three new acquisitions currently generate a combined total of €2.3 million of rental income and €1.6 million of net operating profit annually. In addition, the assets have a combined occupancy of just 54% and offer a range of avenues for Sirius to leverage its value-creation expertise to grow rental income. The acquired assets comprise:
- A €39.8 million (including costs) mixed-use property in Düsseldorf, Germany, situated 2.6 km from the city's international airport. The property comprises mainly office and warehouse/light industrial space and is 55% occupied, offering good value add potential.
- A €3.9 million (including costs) primarily warehouse asset located in a well-developed commercial area in Dreieich, Germany, that is strategically adjacent to an existing property owned by Sirius. We intend to convert the property into a self-storage facility, adding to our existing SmartSpace Self-Storage brand that now exists in 32 locations across Germany.
- A €0.9 million (including costs) small 239 sqm vacant office building in Potsdam. The property is placed strategically at the entrance to one of the Company's existing sites and directly adjacent to the world-famous Babelsberg Film Studios.
The company said that it has identified a number of asset management initiatives within the three newly acquired properties which will allow it to grow rental income and occupancy by leasing into markets where it sees continued strong demand for its products.
Change of chief financial officer
On the 16th August 2022, Sirius Real Estate announced that for personal reasons, Diarmuid Kelly has decided to step down as the company's chief financial Officer.
Alistair Marks, the chief investment officer and former CFO, has stepped in as the interim CFO. The company has begun the search for a new CFO.
Board changes
On 13th June 2022, the company announced two board changes.
Caroline Britton was appointed to succeed James Peggie as the senior independent director. Caroline has been a non-executive Director of Sirius since June 2020 and chairs the Audit Committee and is a member of the Nomination Committee of the Board.
Joanne Kenrick was appointed to succeed Peggie as the chair of the remuneration committee. Joanne has been a non-executive director of Sirius since September 2021 and is a member of the nomination and sustainability and ethics committees of the board.
Peggie will continue as a non-executive director and a member of the audit, nomination and remuneration committees of the board.
Final results
On 13th June 2022, the company announced its full-year results for the year ended 31st March 2022.
During the 12-month period, revenue increased by 27% to €210 million (FY2021: €165 million), and the gain on revaluation of investment properties jumped by 41% to €210 million (FY2021: €165 million); however, mainly due to an impairment charge, higher administrative expenses and interest expenses, the net profit remained more-or-less unchanged at €147 million (FY 2021: €147 million).
In terms of the financial position of the company, the net current assets increased by more than 3x to €55 million (FY 2021: €17 million), and the net asset value (NAV) rose by 28% to €1.19 billion (FY 2021: €0.93 billion).
Cash flows from operating activities increased by 15% to €82 million (FY2021: €71 million), and mainly due to the acquisition of a subsidiary and purchase of investment properties, cash flows used in investing activities increased by almost 6x to €430 million (FY2021: €74 million). Cash flows from financing activities swung to €431 million (FY2021: negative €54 million), driven by the proceeds of loans and the issue of share capital. The total dividend per share for the year increased by 16% to 4.41 cents (FY2021: 3.80%).
Funds From Operations (FFO) increased by 22.5% to €74.6 million (FY2021: €60.9 million).
Proactive Investors Sirius Forecasts
Source: Proactive Investors.
Sale of Bizspace Camberwell
On 16th May 2022, Sirius Real Estate announced the sale of a business park asset for £16 million, representing a 94% premium to the valuation that the asset was initially acquired by the company in November 2021 (i.e. in less than eight months). The proceeds will be used to invest in higher-yielding UK opportunities.
Key features of the asset include:
- Multi-tenanted
- Comprises approx. 34,700 sq. ft. of industrial and office space, and is 91% occupied
- Site price represents a net initial yield (NIY), which is the current annualised rent, net of costs, expressed as a percentage of capital value, after adding notional purchaser's costs, of around 2.0%
Financials
In light of the announcements, we have updated our forecasts. Following the jump in FFO in the last year and a half, we are now expecting FFO to increase to €97.0 million in the current financial year (we had previously forecasted €90.1 million), growing further to €100.0 million in the following financial year (we had previously forecasted €95.1 million). Other key forecasts can be found in the table below and in the appendix section of this report.
Proactive Investors Sirius forecasts
Source: Proactive Investors.
Risks
As with any investment, investing in Sirius carries a level of risk. Overall, based on the company's market beta (i.e. 1.016), the degree of risk associated with an investment in Sirius is relatively 'low'. Here, to estimate the adjusted beta, we used the iShares MSCI World ETF to represent the market portfolio; and in terms of the time period and frequency of observations, we used five years of monthly data (i.e. 60 observations in total), which is supported by a study and is the most common choice.
For us, currently, the biggest risk to the valuation of the company relates to macroeconomic factors, in particular unexpected and sudden changes in inflation and interest rates movements, ultimately resulting in a reduction in the affordability and, therefore, demand of the company's assets/properties. With that said, the company has a diverse tenant base, with its top 50 tenants generating 45% of annual income in Germany, and 26% of annual income generated by the top 100 tenants in the UK. Sirius also has no material dependencies on specific industries and a track record of buying and building high-returning investment opportunities.
Valuation
Research suggests that in terms of estimating the expected return of an investment over a period of 12 months or less, the approach that is more/most accurate is the relative valuation approach, so that's the approach that we suggest using to determine the estimated value of the company.
Accordingly, we estimate that the expected return on an investment in Sirius Real Estate Limited over the next 12 months is 57%. In other words, a £100,000 investment in the company is expected to return £157,000 within 12 months from now. The assumptions used to estimate the return figure can be found in the table below.
Assuming that a suitable return level in the 12 months is 10% and Sirius Real Estate Limited achieves its expected return level (of 57%), then an investment in the company is considered to be a 'suitable' one.
Assumptions
Source: Proactive Investors.
Sirius Peers
The peers have been determined by Bloomberg's algorithm, and fall into the 'multi asset class own & develop' classification and 'real estate owners & developers' industry.
Source: Proactive Investors
Source: Proactive Investors.
Sensitivity analysis
The two main inputs that result in the greatest change in the expected return of the Sirius Real Estate Limited investment are:
- The P/FFO multiple (the default multiple is 18x); and
- The twelve months ahead FFO forecast (the default forecast is €98.78 million).
The impact of a 10% change in those main inputs to the expected return of the Sirius Real Estate Limited investment is shown in the table below.
Sensitive analysis
Source: Proactive Investors.
Appendix
Profit and loss
Source: Source: Bloomberg and Sirius Real Estate Limited.
Balance sheet
Source: Bloomberg and Sirius Real Estate Limited.
Cash flow statement
Source: Bloomberg and Sirius Real Estate Limited.
References and notes
- Research shows that an investment has two main types of risks: 1) non-systematic and 2) systematic. Systematic risk is the risk related to the overall market, and non-systematic risk is the risk that's specific to an individual investment. Evidence shows that taking on non-systematic risk is inefficient, and it's, therefore, best to eliminate it; and in most cases, elimination is fairly easy to do [by holding a diversified portfolio of investments (i.e. around 15 investments)]. Accordingly, when assessing the riskiness of an investment, it’s best to look at the systematic risk only (i.e. ignore the non-systematic risk). A key measure of systematic risk is beta, and the main way to determine the riskiness of an investment is to compare the beta of the investment with the beta of the market, which is 1. For example, Sirius' adjusted beta (5 years, monthly data) is 1.016, and is, accordingly, 1.6% above the market beta (of 1); assuming that a 'low' level of riskiness is 10% or less above the market beta, then the riskiness of investing in the company is considered to be relatively 'low' (1.6%<10%). The beta value in a future period has been found to be on average closer to the mean value of 1.0, the beta of an average-systematic-risk security, than to the value of the raw beta. Because valuation is forward-looking, it is logical to adjust the raw beta so it more accurately predicts a future beta.