AEW UK REIT plc (AEWU) Earnings Call Transcript & Summary

Good morning, and welcome to the AEW U.K. REIT plc Investor Update. [Operator Instructions] Before we begin, I would like to submit the following poll. And I would now like to hand you over to Portfolio Manager, Laura Elkin.

Good morning, everyone. Thank you very much for joining us. I'm Laura Elkin, I'm the Portfolio Manager for AEW U.K. REIT plc.

Hi, everyone. I'm Henry Butt. I'm Assistant Portfolio Manager and Lead Asset Manager on the portfolio.

So this quarter, we have had to prerecord our quarterly update to you. And so I'm afraid that there won't be a chance for any Q&A today. But if you do have any questions following today's presentation, please get in touch with us either through our Investor Relations department or via the question-and-answer section of the Investor Meet Company website. And we will endeavor to respond to those questions where appropriate. And then we believe that next quarter, we will be joining you as normal live and with the Q&A function fully up and running. So we recently put out our NAV announcement, and we'll come on to talk about some really strong updates that we've had during the company -- for the company during the quarter. We've had some really strong letting activity that we're excited to be able to talk to you about. But just coming back to the overall strategy and talking about that at high level on these first few slides. So the strategy that we run at AEWU is the strategy that we have always run here for the past 11 years. And to describe that strategy in a sentence, we are sector-agnostic value investors. So that really means that we look across the whole of the commercial property market to find value across different market cycles. We look to maximize income. So that is important to us for our delivery of our dividend of 2p per share per quarter, which we have paid out now very consistently since our IPO. Income is very important to us to seek that on our purchases, but we very closely analyze the income stream of the purchases that we make to make sure that, that income is sustainable. And hopefully, that is demonstrated to you in the consistency of the payment of that dividend. And once we own our assets, we very actively manage them to unlock capital upside, again, demonstrated in our strong total return, where we have outperformed the MSCI benchmark over each time period since our IPO. We've got some of our investment criteria just noted here on the right-hand side of the page. And for me, the #1 point that sticks out here is a focus for our buying in strong commercial locations. This is something we look for in everything that we're buying. So I've mentioned the income that we're looking for, but the location is really, really important. It is going to ensure that our properties can perform well over the long term and continue to be let and deliver that income stream. And hopefully, with some of the examples of asset management that we've got to talk about this quarter, we can demonstrate that to you in the healthy level of tenant demand that we've recently seen. We've got noted at the bottom of the page here, some awards that we have won during the course of the past 10 years. And most notably, the Citywire award, which we have won 6 consecutive years which is based upon the calculation of our 3-year net asset value return.

So just picking up on this slide at a glance as at 30th of June 2026, very much a bird's-eye view of the company as at that date. GBP 215.7 million valuation with 34 assets. And worth noting that prior to the quarter end, we exchanged on the disposal of a nightclub in Cardiff, and we have completed that acquisition on the 23rd of July, and we've got a slide coming up on that. So actually, as at this point of this recording, we actually have 33 properties but 34 as at the end of the quarter. I want to draw your attention to the net initial yield and reversionary yield. You can see there's a substantial difference, 7.28% net initial yield in comparison to 8.87% reversionary yield. So that shows the income rental growth potential embedded within the portfolio. I think it's worth saying as well that actually that net initial yield for this quarter has come off a little bit, and that is partly because we have some rent frees, for example, at an industrial asset in St. Helens. We've got a slide on that later on in the presentation. We've had a rent-free period kick in at -- next in Bromley, where -- next were entitled to a rent-free period having completed a refurbishment of their units. And we've also recently completed a lettings -- 2 lettings actually at Runcorn where they are rent-free. So despite that vacancy rate of 6.43% coming down and from about 10% in the March quarter, the net initial yield is a little bit suppressed because there's these kind of rent frees, which tenants are benefiting from, and they should burn off over the next 6 to 12 months, and you'd expect to see that net initial yield creep up with all other things in the portfolio being equal. Cash and debt, we continue to have a GBP 60 million debt facility, which expires in July next year at a fixed rate of 2.96%. You'll see that we've got a fair bit of cash at the moment. Quite a lot of that is attributed to asset management opportunities we see today within the portfolio, and we typically have a GBP 5 million buffer. And as Laura said, we've continued to pay out our 2p per quarter dividend. That's something that we're very proud of doing. And then finally, just touching on these pie charts on the right-hand side, very little change in the sector weighting. We are sector agnostic. But where we find ourselves today, our highest sector weighting is in industrials and in retail, which is split between the high street and retail warehousing with those 2 sectors sort of really diverging in kind of the post-COVID era. And as you can see, properties dotted out throughout the country. Laura made the point earlier on that location is very important, but that's a very specific location rather than us typically trying to buy in certain regions of the U.K. Handing back to Laura to cover a NAV performance slide.

Thanks, Henry. And so here, we are showing you our NAV total return performance since our IPO and versus our AIC peer group. AEWU delivering a close to 9.5% 10-year annualized NAV total return. So significantly stronger than the rest of that peer group. And you will see AEWU's performance start to pull away in 2019. And that's really after 4 years of running this strategy. And the 2 main reasons for that is that at the time, AEWU had about a 50% weighting to industrials. And that market started to see a lot of growth at that time around the inception of the pandemic. At this time also, though, we started to see a lot of our business plans within AEWU reaching maturity, and we started to make our first strategic disposals. And those of you who know us well know that we like to buy short to mid-length income so that we can have those very real conversations with our tenants in order to move rents on and to see our business plans through to fruition. So again, it's no surprise to me that around that time, we started to see our performance diverge because of how active our strategy is in both property level as in buying and selling and knowing when to buy and sell, but also at tenant level, of course, in our occupation. So the following slide shows our property level total return versus the MSCI benchmark over various time frames. And for me, it's really the consistency of our outperformance over the last 10 years. And over, I think, all but one of these time frames, AEWU's property level total return is more than double that of the wider MSCI benchmark. Now Henry will talk to you on the next slide and really point out the reasons why -- how we can attribute that outperformance to various decisions we've made at portfolio level and parts of our strategy.

Thanks, Laura. So yes, this slide very much covering the life cycle of the strategy. And you can see where the performance has been coming from the blue bar, which runs right through the middle here, very much the meat in the sandwich, and that is the income that the property has been throwing off. And with the red bars being capital performance. And the performance of the strategy has very much been attributed to a number of things. First, obviously, income. We are very much not a strategy, which is trying to board the right train at the right time and hoping for yield compression. We will obviously look to add value through asset management and through cycles. But income is very much the bedrock of what we do. And as you can see, that blue bar runs consistently right through this chart. It dips off a little bit around 2022 when we were actually looking to achieve maximum values in 2 assets, one in Glasgow and one in Oxford, where we had to take on a higher percentage of vacancy. But as you can see, it's pretty consistent around the 8% mark, not surprising given kind of where our share price is trading and where our dividend is at 8p per annum. And two other main themes here really is diversification. We have the ability because we're sector agnostic to roll with the punches and pick and choose where we feel that there is value opportunities and countercyclical buying. So we were buying secondary industrials kind of in 2017, 2018. We were selling out of longer offices pre-COVID when you could argue that actually the office sector was probably at its most mature with obviously the more recent disruption that's had kind of with the return to the office in the post-COVID era. Kind of following COVID, we were selling industrials where we've done quite a lot of asset management, selling out at kind of low 6% net initial yields and then reinvesting that into retail, which obviously had very much gone sort of through a storm with kind of COVID, high street closing and the growth of e-commerce. And so we felt there was really good value there. And actually, more recently, we've seen very much a renaissance kind of on the high street and in particular, high street retail, two sectors which are -- they've got a bit of wind in their sails at the moment. So we're seeing some performance there. And I think kind of the final theme on this chart is kind of really knowing when to cash in your chips. We have business plans at the point that we acquire assets. We like to hit the ground running. We really like to get under the bonnet of our assets and add value. But having done that and grown income, if we see opportunities which excite us in our pipeline, we will look typically to dispose of assets in the kind of 6%, 7% net initial yields and reinvest that into high-yielding assets with asset management opportunities. And this chart here just tracks all our sales throughout the life cycle of the company, a 41% average sales purchase price premium. Oxford sticks out like a sore thumb in the middle there. We sold that at around 250% premium to its acquisition price. That was an alternative use play where we took on a higher extent of vacancy. But more recently, on the right-hand side of this graph, we have been selling out of industrials kind of in the low 6s. We sold a industrial asset with vacant possession in Deeside rather than actually take on a rather capital-intensive refurbishment project and then crystallize value there. We actually sort of leapfrogged that asset management initiative and actually sold to an owner-occupier for a price similar to what the investment value would have been had we done a letting. And obviously, there's the Coventry Central Six asset. We grew the net operating income about 50% there. That was lots of asset management, bringing in a wider variety of tenants I think it would probably be wrong with me not to touch on the red bars. I think it's fair to say in the case of kind of Portsmouth and Blackpool, they were both retail assets, high street retail assets. And despite what I've just said about there being renaissance on the high street, I think that is true. But it really has to be sort of the best-in-class properties. The high street has shortened in recent years. And these assets, which we bought a while ago, had -- were in slightly more peripheral retail areas in Blackpool, for example, the Houndshill, which is the shopping center there was trying to take a lot of our -- pinch a lot of our tenants and take them into the shopping center. So in those instances, the case of actually filling those assets, trying to maximize income and then actually deciding to, well, throw in the towel, not necessarily, but decide to sell them at the right point of time and move on for opportunities elsewhere.

Henry, I'm just touching here on this slide on the current market opportunity, which we think is very strong, and we see a lot of very attractive buying opportunity in our pipeline, which we continuously track using our investment team. So I'm showing you here CBRE's value index as a proxy for capital values across the commercial property market. And we can see that they have been quite suppressed since late 2022. That is, of course, because of what we've seen in interest rates. But it is also true that over that time frame, we have seen significantly lower volumes than we would normally see coming through the commercial property market. So far fewer properties reaching the market and far fewer buyers for them. Now that makes it quite an interesting time for a value investor because we tend to see that at times in the market of low volumes, we see less pricing transparency and more propensity for mispricing in the market. And as a value investor, that is, of course, what we are looking for. So what we're showing you here is what we think is the strongest buying opportunity that we've seen since our IPO. And we're tracking currently about GBP 200 million worth of buying opportunities cross sector with a weighting in single-let industrials, in high street retail, in leisure and very much representative of what we have bought in the portfolio to date, yielding 8.5% plus and with some prospects for rental growth as well. So a very strong buying opportunity that we are exploring routes with our Board to try and access at the moment. So Henry touched on one of the previous slides about making sales and knowing when to sell. And we pride ourselves on sort of knowing when to buy and when to sell in different assets in different sectors, quite often countercyclically within AEWU strategy. And often, we would, of course, like that to be maximizing our receipts. But here, unfortunately, this is not quite such a success story. And we have made a sale that completed just post the quarter end that we have recently announced, in order to move on from losses related to this asset. So this nightclub in Cardiff was acquired. Apologies, the purchase date up there is showing incorrectly. We bought this in late 2021 for GBP 3.6 million, and we have sold it for GBP 1.5 million, but at a significant premium to the asset's current valuation. The asset was bought really aiming to benefit from a kind of post-COVID recovery in this sector, which due to kind of social change and the cost of living crisis that we've seen in this country over the past few years isn't something that materialized. So yes, I guess being sort of fairly upfront about that. Of course, we're disappointed about the performance of this asset, but we consider it to be more important to make a sale that's profitable to current book value and move on when we see very attractive buying opportunities in our pipeline that I just set out.