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Waterfront weighs on Growthpoint

Mar 10 2011 12:08
Joan Muller

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Last Updated: 01/01/0001 at 12:00. Prices are delayed by 15 minutes. Source: McGregor BFA

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GROWTHPOINT is one of the few real estate counters managing to find new tenants for its empty office, industrial and shopping centre spaces in what remains a lacklustre commercial property market.

A drop in vacancies in the Top 40 company’s massive 426-building portfolio from 6.4% to 5.5% – coupled with lower arrears and rental growth on renewals – has helped Growthpoint Properties [JSE:GRT] to grow income payouts by a better-than-expected 8.1% for the six months to December 2010.

That’s well ahead of the 5.8% growth achieved by Growthpoint for the year to June 2010.
The key question now is how Growthpoint’s future prospects will be affected by the acquisition of Cape Town’s V&A Waterfront.

There are concerns it has perhaps overpaid for its 50% share of the landmark tourist attraction, which will dampen growth in income payouts, particularly over the short term.
Last month Growthpoint announced it had bought the Waterfront jointly with SA’s Public Investment Corporation (PIC) for R9.717bn.

Detailed information about the Waterfront deal released at Growthpoint’s February 23 results presentation showed the acquisition will deliver an average yield of 7.25% in year one following its transfer in April.

The yield is determined by dividing the buying price by the annual rent earned from the Waterfront’s income-producing properties.
Yield is an important indicator of whether an income-generating property is fairly valued, much the same as the earnings multiple used to compare prices of general equities.
Growthpoint CEO Norbert Sasse says according to its due diligence report it had bought the Waterfront at a 6% to 7% premium to the market but says that’s justified, considering the scarcity value and quality of the asset.
The Waterfront’s previous owners – Dubai World and its British partner London & Regional – bought the mixed-use precinct from Transnet in 2006 for $1bn (around R7bn) at a yield of 4.6%, according to figures released by Growthpoint.

Clearly, Growthpoint and the PIC are getting more bang for their buck because the Dubai World consortium effectively paid a higher price for the income stream it was getting at the time.

However, there’s no doubt the Waterfront deal will see Growthpoint shareholders forfeit a few cents per share in the income paid out in the first year following the acquisition, says Macquarie First South Securities property analyst Leon Allison.

“That’s simply because the 7.25% yield Growthpoint will earn on the Waterfront’s income-producing properties will be less than it will cost Growthpoint to fund its R4.9bn share of the purchase price.”

Allison says the extent of the dilution will depend on the final outcome of the funding mix adopted by Growthpoint between conventional bank debt, corporate bonds and the issue of new equity.

But assuming an average 8% funding rate, Allison estimates distribution growth is likely to be 1.5% to 2% (percentage points) lower over the first year.

In other words, if Growthpoint were on track to deliver 8% distribution growth over the next 12 months – excluding the Waterfront deal – growth should slow to between 6% and 6.5% once the latter is brought into the equation.

In rand and cents terms, that would roughly equate to Growthpoint’s expected distribution per share dropping from around 141.5c to 139c in the 12 months to June 2012 (based on growth of 8%/year for both its 2011 and 2012 financial years).
However, Allison notes the income stream generated by the Waterfront should grow at a faster rate than the rest of Growthpoint’s portfolio from the second year onwards – which over time will compensate shareholders for the short-term loss in income.
Evan Robins, head of listed property at Old Mutual Investment Group, says it doesn’t have a problem with a deal that dilutes next year’s distribution payouts if there’s value to be had over the longer term.

“You can buy junk at a low price (high yield) and destroy value. Even though the latter will initially boost your distribution payouts it can hurt over the longer run if, for example, the tenant fails and the building is unlettable.”

Robins says, based on recent detail released by Growthpoint, the Waterfront deal appears better than it initially expected.

“This is an acquisition of a quality asset that will be particularly worthwhile if value can be extracted from the development bulk over the next few years.”
The precinct offers more than 220 000sq m of undeveloped bulk, with only 63% of the precinct currently developed.

The developed portion includes nine hotels, around 89 000sq m of both retail and office space and 122 000sq m of industrial space (mostly fish processing and freezing operations) and moorings leased to yacht owners and charter boat operators.
But ultimately, says Robins, the importance of the Waterfront for a fund as large as Growthpoint shouldn’t be overestimated, as the property will comprise less than 12% of total assets (R43.5bn).
For investors who want to share in the future spoils of the Waterfront the question is whether Growthpoint is a good buy at current levels.

Macquarie’s Allison says with its share price coming off almost 10% from its early January peak of 1 870c the stock is back in value territory.

Last week, Growthpoint was trading at a forward yield of 8.4% (including the expected dilution from its Waterfront acquisition), which is attractive considering some of its peers', such as Hyprop Investments and Resilient Income Property Fund’s, more demanding yields of 7.4% and 7.8% respectively.
Allison expects a total return of 12% for Growthpoint over the next 12 months, against an average 10% for the sector as a whole.  

* This article was first published in Finweek.

* To read more Finweek articles, click here.

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