Shaftesbury Capital PLC (SHC) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Capco Interim Results Call. My name is Heidi, and I'll be coordinating the call today. [Operator Instructions] I will now hand over to your host, Ian Hawksworth, to begin. Ian, please go ahead.

Okay. Good morning. Welcome to Capco's interim results presentation. This is the agenda for today. I'll start with an introduction and overview. Situl will present the financial review, and Michelle will update on Covent Garden. I'll then finish with a summary and outlook, followed by questions from invited analysts. After a positive start to the year, COVID-19 has had a major impact on the operations of Capco and the valuation of Covent Garden. I'm very proud of the company's response to the crisis. Our people acted early and proactively to meet the challenges faced by colleagues, customers, business partners and the Covent Garden community. My own experience with SARS in 2003, whilst working in Hong Kong, helped me frame the company's response and take decisive action through this extraordinary period. Capco is financially strong, with net debt to assets of 26% and liquidity of over GBP 600 million. We're able to withstand the immediate impact of COVID-19, whilst taking advantages of opportunities commensurate with strategy, such as the acquisition of a 26% interest in Shaftesbury plc. Our priority is to support our retail, hospitality and leisure tenants. We have used our financial resources to create bespoke rental solutions to assist tenants through the reopening of the estate and to support them as trade rebuilds. This is a conscious investment decision designed to maintain the vibrant consumer offer of Covent Garden and support the long-term value of the estate. Covent Garden is open and trading. I'm encouraged by the response to the estate presentation and marketing initiatives and grateful for the determination, creativity and the enthusiasm of our tenants. There are significant challenges ahead as we target the Christmas trading period, but I and my colleagues passionately believe in the future of the West End and the long-term value of our unique portfolio of investment. Throughout the crisis, we have prioritized the health and safety of our people, customers and visitors. During lockdown, security across the estate was enhanced, ensuring the protection of this much loved part of London and the safety of residents in the area. Being a good neighbor is important to us, and we've refocused our community program to prioritize initiatives and charity partners in Covent Garden. Capco has built direct relationships with our customers. We have regular and detailed engagement to help us understand specific requirements. These long-term relationships have enabled us to prioritize and tailor rental assistance on a case-by-case basis. There is no one-size-fits-all solution. Every business is different. Innovative leasing structures have always formed part of our offer to tenants and will continue to do so. As Michelle will describe later in the presentation, the majority of the estate is open. Footfall is increasing and visitors are enjoying Covent Garden again. The pedestrianization and al fresco dining initiatives have been particularly well received and the response to marketing and promotional activities across all our channels has been positive. We will continue to innovate at Covent Garden and to support our customers whilst evolving the tenant mix. As travel restrictions are lifted, night life returns and businesses get back to work, we expect footfall to return and for sales to grow. Turning to results. Overall total property value decreased 16.3% like-for-like to GBP 2.3 billion. NAV declined 18% to 241p per share. Total return for the period was negative 17.5%. Underlying earnings were 0.3p per share. Underlying net rental income decreased 22% like-for-like against June 2019. The directors have deferred the dividend decision until the end of the year when there will be greater visibility on income. In March, the Board canceled the GBP 100 million share buyback program, under which GBP 12 million have been returned to shareholders. Capco continues to maintain a strong balance sheet with net debt to gross assets of 26% and access to over GBP 600 million of liquidity. Occupational demand was solid at the beginning of the year but was significantly interrupted from February onwards. Nevertheless, 22 new leases and renewals completed in the period, including 4 new brands since March. At Lillie Square, the valuation reduced 5% like-for-like to GBP 138 million. Construction of Phase 2 completed in June with 66 units handed over by the 30th of June, generating over GBP 80 million of cash proceeds. The Covent Garden portfolio decreased in value by 17% like-for-like to GBP 2.2 billion, implying a capital value of GBP 1,800 per square foot. ERV declined 12% like-for-like to GBP 96 million, and there was a 17 basis point expansion in the equivalent yield 3.82%. The initial yield is now 2.72%. The value has assumed a loss of near-term income of GBP 31 million. The majority of the valuation decline was recorded in the retail and F&B portfolio, whilst office and residential remained broadly stable. Despite the near-term challenges, there is long-term strategic value in our Covent Garden investment. Capco has assembled the Covent Garden portfolio over the last 14 years. It comprises 81 predominantly freehold properties, 548 lettable units across 1.2 million square feet of accommodation in a largely pedestrianized open air environment. Through creative asset management and investment, Capco has curated a world-class retail and dining lineup and established a global landmark estate, rich in heritage and culture in the heart of London's West End. Covent Garden's scale and concentrated ownership would be incredibly difficult to replicate, making it a scarce and valuable real estate investment. Our investment strategy focuses on value creation opportunities to generate long-term superior returns from investing in Central London. We have positioned the company to deploy capital in a number of areas, including investments in owned assets, development and repositioning opportunities and new acquisitions on or near the Covent Garden estate. During the period, Capco agreed to acquire a 26.3% shareholding in Shaftesbury plc across 2 tranches for total consideration of GBP 436 million, at a price of 540p per Shaftesbury share. The second tranche will complete shortly following the recent receipt of shareholder approval. The investment in Shaftesbury is consistent with Capco's strategy to invest in complementary opportunities on or near the Covent Garden estate. It represents a unique opportunity to deploy capital in an exceptional portfolio at an attractive entry point with an implied value of approximately GBP 1,200 per square foot. I'll now hand over to Situl for the financial review.

Thank you, Ian, and good morning, everyone. I'll take you through the financial review for the first half, starting with the income statement and then moving on to the balance sheet, debt position and a summary of cash movement. As you can see, underlying net rental income was GBP 25.3 million compared with GBP 30.9 million for the first half of last year. This is reflective of significantly higher rental expenses incurred during this period of disruption. Underlying administration costs of GBP 12.2 million show a continued downward trend and have been a consistent area of focus for our business over recent years. Net finance costs were GBP 10.4 million, with the level of net debt increasing towards the end of the period to fund the Shaftesbury investment. These movements, taken together, resulted in underlying earnings of GBP 2.5 million or 0.3p per share. As Ian mentioned, there will be no interim dividend payment and the decision on the dividend for the year will be taken in due course. This slide sets out a summary of the collection statistics for the first half of the year and into Q3. The second and third quarters show a markedly different pattern to that seen in recent years and have resulted in a large part of the rent roll being subject to alternative arrangements, including deferrals, variable rent for a defined period and other support measures. Rental expenses have been significantly higher in H1, resulting in reported NRI for the period of GBP 18.2 billion. These are, in large part, a function of lower collection rates and the different types of support provided to tenants. The GBP 11.5 million of expected credit loss relates to rents receivables and tenant lease incentives. These comprise GBP 5.8 million of bad debt expenses, reflecting an assessment of recoverability and full provision for tenants in administration and expected failures and GBP 5.7 million in relation to tenant incentive balances, reflecting the impairment of rent freeze, surrender premia and related assets held on balance sheet. In addition, there have been lease modification costs of GBP 1.4 million during the period. As more of these agreements are completed, this component will increase in the second half. There is a continuing focus on effective cost management across the property level, administration and financing. Admin costs have again been reduced on an underlying basis. Whilst there will be some additional costs this year, we will continue to consolidate and simplify the business with a view to achieving a run rate in line with the GBP 20 million target. As the outlook becomes clearer, we will keep the organizational structure and associated cost base under close review. Moving on to the balance sheet. The total market value of property assets declined by 16% to GBP 2.3 billion. The like-for-like movement at Covent Garden was 17%. This was driven primarily by movements in the ERV and cap rates, together with the value assumption on loss of near-term income. The valuation of Lillie Square, adjusting for disposals and CapEx, was reduced by 5% to GBP 138 billion. The Shaftesbury stake is held within other assets on a mark-to-market basis at the balance sheet date. Net debt has increased to GBP 721 billion, with loan-to-value now 32%. This is before taking account of the additional GBP 88 million investment in Shaftesbury shares and also the GBP 120 million of further consideration on Earls Court, most of which is expected to be received later this year. EPRA net assets were GBP 2.1 billion or 241p per share, with substantially all of the movements being attributable to the reduced valuation of Covent Garden. We have a strong liquidity position with access to over GBP 600 million of cash and undrawn facilities and a reduced running cost of debt as a result of drawing down on the bank facility. Taking into account the value of the Shaftesbury shares, balance sheet leverage as represented by net debt to gross assets was 26%. The loan-to-value position provides significant headroom against the Covent Garden debt covenant. In view of the impact of reduced NRI on interest cover, covenants waivers have been agreed in relation to this measure to the banks and noteholders for 2020. This chart summarizes the main areas of cash movement over the first half, in particular, net proceeds from disposals of GBP 130 million, comprising the accelerated consideration from Earls Court and residential completions at Lillie Square. Financing and investment cash flows relate primarily to the GBP 348 million investment in Shaftesbury shares and related drawdown of bank facilities. Share buybacks and the cash element of last year's final dividend totaled GBP 16 million, and there was a net cash outflow from operating and other items of GBP 32 million. Cash was GBP 320 million with a further GBP 296 million available under committed undrawn facilities. There has been, and there will continue to be, disruption income in the near term. However, we have the financial resources to be able to address this and to position the estate for a recovery and for future growth. Our actions on the share buyback, interim dividend and interest covenants are aligned with this approach. Cost efficiency will continue to be an important theme, and we have made further progress towards initial targets of underlying costs of GBP 20 million. The company maintains considerable financial flexibility with access to significant liquidity and LTV headroom, together with a disciplined approach to capital management. With that, I will now hand over to Michelle.

Thank you, Situl, and good morning, everyone. At Covent Garden, we have curated one of the strongest retail and dining lineups in the world, and our heritage setting in the heart of the West End positions it competitively as a global brand. We saw a solid start to activity at the beginning of the year. However, this has been interrupted with COVID-19 having a significant impact on the portfolio. Over the period, 22 leasing transactions, representing GBP 2.7 million of income was secured. Occupancy of the estate has remained broadly stable at 96%. However, there is a risk of increased vacancy in the near term. Whilst the full extent of the global pandemic couldn't have been predicted, upon lockdown, we took swift action to ensure proactive engagement with our customers. From then on, our reopening strategy had a clear objective, give our customers the confidence to reopen and encourage visitors to return, protecting this fantastic base and ensuring its prosperity over time. Overall, estate ERVs reduced by 12%, largely driven by the retail and F&B portfolio. Of the total valuation declines, retail accounted for approximately GBP 270 million and F&B, GBP 140 million. This slide shows the movement in retail rental zones across the estate. James Street and Long Acre recorded the largest reduction in rent, where the valuer has taken into account relatively larger store sizes and absolute rent relief streams resulting in a reduction in Zone As to GBP 1,200 and GBP 480 per square foot, respectively. As lockdown commenced, we took decisive actions, moving away from quarterly rental payments in advance through arrangements, which included rental deferrals, particularly for small independent operators. Following this and reflecting the continued disruptive cash flow environment, we considered rental support for those tenants that required it most in respect of Q3 and Q4. This resulted in over 250 direct rental negotiations with our customers. Understanding tenants' businesses have always been part of our leasing strategy. And as part of these discussions, tenants were required to provide detailed business information, which were analyzed on a case-by-case basis. Bespoke solutions, which linked rental obligations to turn over for the second half of the year, have been agreed for such tenants. These have, in almost all circumstances, been in exchange for lease enhancements either through extension, removal of tenant [ waste ] provision, such as [ rates ] and insertion of landlord's flexibility. As Ian has stated, the value has made a provision for those of GBP 31 million. Our objective is to maintain a strong customer lineup, ensuring a world-class estate for the longer term. And while conditions are challenging today, these actions will support our business to benefit from the recovery. Notwithstanding the challenging occupational market, commercial activity across the estate have seen 4 new brand signings, new openings and various tenants proceeding with their fit outs during the period. In addition, since the period end, a further 3 units are under offer. During lockdown, Vashi has signed on James Street for its London flagship. The market buildings have continued to demonstrate its appeal. Neuhaus have agreed terms for their first London store, while Bubblewrap have also signed and Strathberry continued with their fit out. In addition, the team behind Buns & Buns have introduced their new concept, opening NaNas, an al fresco bar, overlooking the Piazza. Ganni has opened its flagship on Floral Street and will be joined by American Vintage later this year. Peloton's flagship fit out and Bucherer's expansion continue. Our disciplined investment activity has resumed following COVID disruption. We are on-site at 3 Henrietta Street, which has been transformed into an F&B townhouse and is now under offer. Following the acquisition of 5-6 Henrietta Street late last year, we are on-site refurbishing the office space. In addition, we have gained vacant possession of the lower part of 36-39 Maiden Lane, an acquisition also made late last year and are progressing with our asset management plan. Total capital commitments across the Covent Garden estate are modest at approximately GBP 3.5 million. We remain disciplined around acquisitions and continue to track target investments in the Covent Garden area. Our strong balance sheet means we are well positioned to act should these opportunities arise. One of Covent Garden's key differentiators is its largely pedestrianized nature and we are pleased with enhancements to this key trade. In partnership with Westminster, pedestrianization of various streets surrounding the Piazza has been accelerated for a trial period. As many of you know, we have been in consultation with Westminster on this initiative in respect of target streets for a number of years. Our first success was back in 2016 when King Street was pedestrianized and our customers recorded significant growth in footfall and sales. This initiative has allowed for greater freedom of movement and has been critical, allowing us to implement additional outdoor seating areas for our restaurants, providing over 500 incremental outdoor covers across 20 al fresco dining spots. In summary, from tenant support, public realms, estate management and strategic marketing, we are positioning the estate in the strongest possible manner to ensure we build back towards previous levels and take advantage of new opportunities. Our strategic marketing plan places emphasis on the consumer and directly promote the estate through digital reach, consumer engagement and an overall creative approach. We are also continuing our plans to pursue a global digital program, targeting key markets, including Asia, which will be a value now and in the future. We are tracking footfall and sales closely week by week. It is about 8 weeks since full lockdown and only 4 to 6 weeks of seeing the estate broadly open. Every day gets a bit better. Whilst it is still too early to predict trends in full, we are encouraged by some of the indicators we are observing so far. For those of you who haven't had the opportunity to come down to the estate, these images were taken over the past few weeks. Market conditions will remain tough over the short term. However, we remain confident that our plans, as outlined, will ensure Covent Garden's resilience and appeals as a global destination and position it to prosper over time. I will now hand you back to Ian. Thank you.

Thanks, Michelle. It has been an extraordinary first 6 months of the year and we expect operating conditions for our customers to remain difficult. Our financial position and experienced management has enabled us to take a proactive approach across the estate to protect long-term value and take advantage of market opportunities. Our decisive actions position the estate to benefit from a recovery and to prosper over time. Covent Garden is improving day by day. We will continue to innovate on the estate and rebuild trade as restrictions are lifted and the West End gets back to business. Our immediate priority is focused on making sure our customers, who have enjoyed excellent trade over the past few years, reopened successfully and have provided the setting, which offers the best opportunity to gradually build back towards these levels. We continue to seek efficiencies across the business and remain disciplined in the allocation of our capital. We face many challenges and an unpredictable economic environment as the world deals with COVID-19 and the U.K. adjusts to Brexit, but we remain confident in the long-term prospects of the West End and the value of our unique investment. That concludes the formal presentation and we will now take questions from invited analysts. Please let the operator know if you wish to ask a question.

[Operator Instructions] Our first question comes from Allison Sun from Green Street Advisers.

2 questions from my side. First is what percentage of tenants exactly are actually qualified for the sales linked fund? And second question is for the 50% of the second quarter rent collection that you have not collected yet but reached an alternative agreement, at what time did you expect to collect them eventually? Do you have a specific time line for those outstanding rent right now?

Thanks for your question. Yes. Maybe I'll start with the second one, where I think your question is about deferrals and actually the payback period. The -- each of those transactions has been constructed on a bespoke basis. So all of those discussions we've had that Michelle referred to in terms of negotiations with tenants have had regard to the particular circumstances of the store and the financial condition of this relevant tenant. So typically, that would be over a 12-month period starting from the end of this year. But that's a median case and there will be lots of variations around that.

It's Michelle here. I'll just take the first one. So as we said, we went through a process really to identify who needed support most. And we took a view that standing back for H2, it was best to enable tenants, particularly those in the F&B sector to be able to business plan for the remainder of the year. So we made a decision to convert the majority of the F&B tenants into turnover arrangements, which are quite varied depending on the type of concept and the analysis that we did. The retail was a lot more nuanced, and that was -- it wasn't really a one-size-fits-all approach for that, and we took that very much in a detailed case-by-case approach.

Our next question comes from Max Nimmo from Kempen & Co.

Just -- yes, I guess, following up on the turnover base rent. I can tell you, I think, it's not one size fits all here at all. Now that you have this kind of retail sales data and footfall, is that going to be something that you will be able to share with us going forward? And secondly, question just around Shaftesbury. I know it's a delicate topic. But presumably, you're not in a position right now to lever up from here and you're probably not in a position to raise equity either. Is that fair to say?

The company is very well financed, Max, as I'm sure you have picked up from the presentation. And you're quite right, the focus on the estate is really to make sure that our tenants are up and trading. I think we've worked very hard. There's been a huge amount of customer interaction over the summer, multiple conversations trying to analyze what's best for the individual customer. As we have information that is useful, we'd hate to be able to share it with you, but it's very early days. The estate has been open for 6 weeks. It's getting better every day. The good weather has helped, and the al fresco dining has helped significantly and the pedestrianization. So we are beginning to get some interesting information, and -- from that. We're encouraged, but there's a long way to go, given the fact that offices aren't fully operating at the moment in the West End. There's no real night life at the moment and international tourism is relatively limited. And we're actually very pleased with the daily activity on the estate at the moment.

Okay. That's great. And just on -- are you able to mention any of your thinking around Shaftesbury and where you go from here on that?

We're delighted to be invested in a great company and it's commensurate with our strategy. A lot of the assets are in exactly the same customer catchment areas as ourselves. I think what you'll find is that all of the long-term investors in Central London, the great estates are working together with Westminster Council to try and ensure that the offer in Central London is first rate, and that's really the focus of all of us. So we look forward to cooperation with our neighbors in the coming months and weeks.

Okay. Great. Sorry, just one last one, if I can, just double check. The deferred consideration from Earls Court, that is included in the 32% LTV. Is that right?

Max, the LTV and the net debt to gross asset numbers are both as at the 30th of June. So they are before the additional GBP 88 million of payment for the second tranche of the Shaftesbury shares, and they are also before the additional consideration to be received on Earls Court, most of which is at the end of this year.

Our next question comes from Sander Bunck from Barclays.

Just one for me, please, and kind of moving on to the slightly longer term. What is your thinking -- or how are your discussions at the moment going with tenants on how rent should evolve to on a slightly more longer-term basis? I.e., once we're through this pandemic? And what is your expectation? And not just on rental terms, because I can understand that you don't want to comment on that at this stage, but more of how would it be built up? How would you look at the mix effect? Would it be more turnover based? And then in relation to that, how -- what are your valuers saying about that?

What we're seeing with the existing customer base is that they're focused on getting the businesses up and running. So they're really looking at short-term operating issues. And one thing that struck all of us here is just how creative and determined our customers are. They want to get back to business. They want to give the best opportunity for the consumer to enjoy their offer in the estate in general. So we've been delighted really that the majority of them are now open. I think everybody's sort of focused now on the rest of the year and the important trading period between now and Christmas, particularly from October onwards, when hopefully, some of the existing restrictions may be lifted. And I think until you can see what the sort of the trading pattern is once these restrictions are lifted, it's difficult to say what the implications might be for the longer term. And we're confident that over time, Covent Garden is one of the best locations in the world, and it should generate some of the highest volumes of sales. We've always worked with different leasing structures over the last 10 to 14 years. Actually, if you go back further than that, Capital & Counties actually introduced turnover leases to the United Kingdom in the 1970s. So we're very familiar with the various different iterations of lease format, and we'll embrace that. For us, it's all about driving customers into the estate, giving them a wonderful experience and getting our fair share of revenue direct from the actual operations on the estate, but also more broadly, trying to get a recognition of the value of those shops to the broader offer of the retailer. And that's why over the last sort of 5 years, we've been focused on multichannel retailers that are innovative, creative and well financed.

Okay. So is -- in that case, is your base case effectively that once this whole COVID situation is behind us, and that may take a while, but once we're through that, that basically the lease structures will potentially not be dramatically different compared to what they were before because you say you already adjust quite a lot of them?

Well the adjustment really is to the end of the year, and we'll take a view at the end of the year based on the trading conditions over the next 4 or 5 months. We will do what is necessary to make sure our estate is competitive and successful, and we're driving as much as we can in terms of sales through the stores. That will give us the best opportunity to generate rental growth over the coming years. One thing I learned from 2003 in Hong Kong is that predictions of massive change are rarely correct. So we're taking every day as it comes at the moment, just supporting our customers, doing the best we can to create a great opportunity for the consumer to enjoy themselves in Covent Garden.

Our next question comes from James Carswell from Peel Hunt.

Two questions, if I may. I mean -- and apologies if I missed it, because I got cut off at one point. But are you able just to talk a little bit about the current footfall in the estate and roughly speaking what level that is at compared to normal for this time of year? And then secondly, obviously, kind of linked to the first one, just in terms of the trading, the units that are currently open, particularly the food and beverage, I'm just wondering what kind of levels of turnover those guys require to kind of run profitably. And I guess at the moment, you -- given the footfall, are they running profitably at the moment would be interesting to know. And then maybe the second question just on acquisitions and aside from the Shaftesbury stake, I mean, given you guys are fairly well capitalized, are there other landlords out there that are maybe struggling financially, and this could be an opportunity to pick up? I don't mean significant acquisitions, but kind of the odd units here or there from individuals that can't kind of cope financially at the moment. Is that fair to say?

Yes, there's 2 or 3 questions there. Let's deal with the last one first, but we're not seeing a great deal of distress in our market at the moment that would suggest that pricing is below where it previously was. We would expect that the opportunities that we've been following over the last 2 or 3 years, some of those will come to market, and we're well positioned to benefit from those. But certainly, if you look at the share purchase that we made, the implied value of that at GBP 1,200 a square foot is significantly below where the physical market is at the moment. As far as our tenancy base is concerned, it's too early to really give any concrete numbers. The anecdotal evidence is that people are encouraged by what they're seeing. And I hope that, that will continue. In time, hopefully, we'll be able to share with you some more information about that. Our focus at the moment is doing what is right, doing our best to keep that lineup of excellent tenants and promote the estate as effectively and efficiently as possible and encourage people to come back. Early footfall indications are good. I'm not sure -- I'm not really sure it's relevant to compare that with where things were previously. But given the fact that the offices -- the office community is not back in the West End at the moment, the night life is not there, and the international tourism isn't back, we're pretty encouraged by what we're seeing across the estate in terms of the level of footfall. We've also -- I think you'll recall from the last presentation, we mentioned that we've actually moved the footfall counters around to reflect the change in the nature of the estate, so that we can capture entrants into the estate more fully. Over time, we'll have to share some of that information with you. But at the moment, it would be too early to really give that.

We have no further questions. [Operator Instructions] We have a question from Robbie Duncan from Numis.

Just one question for me. I noticed just under 28% of votes cast, your general meeting earlier this week were against your acquisition of the second tranche of Shaftesbury. Could you just comment on your thoughts around that? And I mean, that's not a small percentage of people opposed to the acquisition. So could you just give some thoughts around that, please?

I mean, we've not got a lot to add really, Robbie, to what was in the announcement. I mean, the feedback that we received from our shareholders is that they overwhelmingly support the strategic direction that we're taking and they're very supportive of our actions. The U.K. register is overwhelmingly in favor. A number of other shareholders have followed some of the voting recommendations, we think, which were based upon commentary around the prevailing share price of the -- of Shaftesbury at the time that the circular was issued, which was at that point, below the acquisition price. But obviously, things have changed since that day.

We have no further questions, so I'll hand it back to you, Ian.

Okay. Well look, thanks very much for your attention. I know you've had a busy couple of weeks. We look forward to seeing you on the estate. If you've got any further questions, we're all available today. But please come down and visit us at Covent Garden. It's vibrant. It's open. We'd love to see you down there. But for now, thanks very much.

Ladies and gentlemen, this concludes today's call. Thank you for joining. You may now disconnect your lines.