Shaftesbury Capital PLC (SHC) Earnings Call Transcript & Summary

Hello everyone, and thanks for joining the Capco Interim Results Call. I’m Heidi, and I’ll be coordinating today’s session. <<operator_script>> At this point I’ll pass things over to your host, Ian Hawksworth, to get us started. Ian, over to you.

Alright, good morning, and thanks for joining us for Capco's interim results presentation. Here's what we'll cover today. I'll begin with some introductory remarks and a broad overview. Situl will then take you through the financial review, and Michelle will bring you up to date on Covent Garden. After that, I'll wrap up with a summary and the outlook, and then we'll take questions from the invited analysts. The year got off to a good start, but COVID-19 has since hit Capco's operations hard and has also weighed heavily on the valuation of Covent Garden. I take real pride in how the company has responded to this crisis. Our people moved early and proactively to tackle the difficulties confronting colleagues, customers, business partners and the Covent Garden community. Having dealt with SARS myself back in 2003, during my time working in Hong Kong, I was able to shape the company's response and act decisively through this extraordinary period. Capco is financially strong, with net debt to assets of 26% and liquidity of over GBP 600 million. That lets us absorb the immediate impact of COVID-19 while also seizing opportunities that fit with our strategy, such as the acquisition of a 26% interest in Shaftesbury plc. Our top priority is backing our retail, hospitality and leisure tenants. We've drawn on our financial resources to design bespoke rental solutions that help tenants through the reopening of the estate and support them as trade rebuilds.

We made this choice deliberately as an investment, aiming to keep Covent Garden’s consumer offering lively and to protect the estate’s value over the long term. Covent Garden remains open and trading. The reaction to the estate presentation and to our marketing initiatives has been encouraging, and I’m thankful for how determined, creative and enthusiastic our tenants have been. Significant difficulties lie ahead as we aim at the Christmas trading period, yet my colleagues and I strongly believe in the West End’s future and in the long-term value of our distinctive investment portfolio. All through the crisis, the health and safety of our people, customers and visitors has come first for us. While lockdown was in place, security around the estate was strengthened, which safeguarded this much loved part of London and kept residents in the area safe. Being a good neighbor matters to us, and we have refocused our community program so that it prioritizes initiatives and charity partners in Covent Garden. Capco has established direct relationships with our customers. Through regular, detailed engagement, we gain an understanding of specific requirements. Thanks to these long-term relationships, we have been able to prioritize and tailor rental assistance case by case. No single approach fits every situation. Each business differs.

Leasing arrangements that are innovative have long been a component of what we provide to tenants, and that will remain the case. As Michelle will explain later on in the presentation, most of the estate is open. Footfall is rising, and visitors are enjoying Covent Garden once more. The pedestrianization and al fresco dining initiatives have been especially well received, and the response to marketing and promotional activities across all of our channels has been positive. We will keep innovating at Covent Garden and continue supporting our customers while evolving the tenant mix. As travel restrictions are lifted, night life comes back and businesses return to work, we expect footfall to come back and sales to grow. Moving to results. Overall total property value fell 16.3% like-for-like to GBP 2.3 billion. NAV dropped 18% to 241p per share. Total return for the period was negative 17.5%. Underlying earnings came in at 0.3p per share. Underlying net rental income was down 22% like-for-like against June 2019. The directors have pushed the dividend decision to 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 still has a robust balance sheet, with net debt to gross assets at 26% and access to more than GBP 600 million in liquidity. Occupational demand held up well early in the year, but from February onward it was significantly disrupted. Even so, 22 new leases and renewals were completed during the period, including 4 new brands since March. At Lillie Square, the valuation fell 5% like-for-like to GBP 138 million. Phase 2 construction finished in June, with 66 units handed over by the 30th of June, producing more than GBP 80 million in cash proceeds. The Covent Garden portfolio's value dropped 17% like-for-like to GBP 2.2 billion, which implies a capital value of GBP 1,800 per square foot. ERV was down 12% like-for-like to GBP 96 million, and the equivalent yield expanded 17 basis points to 3.82%. The initial yield now stands at 2.72%. The valuation has factored in a loss of near-term income amounting to GBP 31 million. Most of the valuation decline was booked in the retail and F&B portfolio, while office and residential were broadly stable. Notwithstanding the near-term difficulties, our Covent Garden investment holds long-term strategic value. Capco has built up the Covent Garden portfolio over the last 14 years.

It's made up of 81 properties, mostly freehold, with 548 lettable units spanning 1.2 million square feet of accommodation, set largely in a pedestrianized open-air environment. By way of inventive asset management and investment, Capco has put together a world-class retail and dining lineup and built a global landmark estate, one rich in heritage and culture, located in the heart of London's West End. Given Covent Garden's scale and the concentrated nature of its ownership, replicating it would be incredibly difficult, which makes it a scarce and valuable real estate investment. Our investment strategy centers on value creation opportunities, aiming to produce long-term superior returns from investing in Central London. We have positioned the company to deploy capital across 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 Shaftesbury investment is consistent with Capco's strategy of investing in complementary opportunities on or near the Covent Garden estate. It represents a unique opportunity to deploy capital into an exceptional portfolio at an attractive entry point, with an implied value of approximately GBP 1,200 per square foot.

I’ll now turn things over to Situl, who will walk us through the financial review.

Thanks, Ian, and good morning to you all. I'll walk you through the financial review covering the first half, beginning with the income statement and then continuing to the balance sheet, our debt position, and an overview of cash movement. As you'll note, underlying net rental income came in at GBP 25.3 million, versus GBP 30.9 million in the first half of last year. That reflects rental expenses that were significantly higher during this period of disruption. Underlying administration costs of GBP 12.2 million continue to trend downward and have been an area of consistent focus for our business in recent years. Net finance costs stood at GBP 10.4 million, with net debt rising toward the end of the period in order to fund the Shaftesbury investment. Taken together, these movements produced underlying earnings of GBP 2.5 million, or 0.3p per share. As Ian noted, no interim dividend will be paid, and a decision regarding the dividend for the year will be made in due course. This slide provides a summary of collection statistics for the first half of the year and into Q3. The second and third quarters display a markedly different pattern from what has been seen in recent years, and have left a large portion of the rent roll subject to alternative arrangements, including deferrals, variable rent for a defined period, and other support measures.

During the first half, rental expenses came in much higher, which produced reported NRI of GBP 18.2 billion for that period. To a substantial degree, this reflects weaker collection rates along with the various forms of support we extended to tenants. The GBP 11.5 million of expected credit loss is tied to rents receivables and tenant lease incentives. That figure breaks down into GBP 5.8 million of bad debt expenses — an assessment of recoverability plus full provision for tenants in administration and those we expect to fail — and GBP 5.7 million connected to tenant incentive balances, reflecting impairment of rent freeze, surrender premia and related assets held on balance sheet. Beyond that, lease modification costs of GBP 1.4 million arose during the period. As more of these agreements reach completion, that component will grow in the second half. We remain focused on managing costs effectively across the property level, administration and financing. Admin costs have been lowered once more on an underlying basis. Although some additional costs will arise this year, we will keep consolidating and simplifying the business, aiming for a run rate consistent with the GBP 20 million target. As visibility improves, the organizational structure and the cost base attached to it will stay under close review.

Now turning to the balance sheet. Property assets' total market value fell 16%, reaching GBP 2.3 billion. At Covent Garden, the like-for-like change came in at 17%. That was mainly caused by shifts in the ERV and cap rates, along with the value assumption regarding loss of near-term income. Lillie Square's valuation, once adjusted for disposals and CapEx, dropped 5% to GBP 138 billion. The Shaftesbury stake sits inside other assets, carried on a mark-to-market basis as of the balance sheet date. Net debt has risen to GBP 721 billion, and loan-to-value stands at 32% now. That figure comes before reflecting the extra GBP 88 million invested in Shaftesbury shares and the GBP 120 million of further consideration on Earls Court, the bulk of which should arrive later this year. EPRA net assets stood at GBP 2.1 billion, or 241p per share, and substantially all of the movements trace back to Covent Garden's reduced valuation. Our liquidity position is strong, with access to more than GBP 600 million in cash and undrawn facilities, plus a lower running cost of debt thanks to drawing down on the bank facility. Accounting for the Shaftesbury shares' value, balance sheet leverage — net debt to gross assets — was 26%.

When you look at where we stand on loan-to-value, there's considerable room before we'd hit the Covent Garden debt covenant. Given how lower NRI has affected interest cover, we've reached agreement with the banks and noteholders on waivers for that measure covering 2020. This chart lays out the key cash movements for the first half — notably GBP 130 million in net disposal proceeds, made up of accelerated consideration from Earls Court plus residential completions at Lillie Square. The financing and investment cash flows mostly reflect the GBP 348 million put into Shaftesbury shares and the associated drawdown on bank facilities. Share buybacks together with the cash portion of last year's final dividend came to GBP 16 million, while operating and other items produced a net cash outflow of GBP 32 million. We held GBP 320 million in cash, with another GBP 296 million accessible through committed undrawn facilities. Income disruption has occurred in the near term and will persist for a while. Even so, our financial resources let us tackle this, get the estate ready for recovery and set it up for growth ahead. Everything we've done on the share buyback, the interim dividend and the interest covenants fits with that strategy.

Cost efficiency is going to stay a key focus, and we've moved further toward our initial goals for underlying costs of GBP 20 million. The company keeps substantial financial flexibility, with access to significant liquidity and LTV headroom, plus a disciplined approach to capital management. With that, I'll hand things over to Michelle now.

Thank you, Situl, and good morning to all of you. Here at Covent Garden, we've put together one of the world's strongest lineups for retail and dining, and our heritage location in the heart of the West End gives it a competitive position as a global brand. Activity got off to a solid start at the beginning of the year. That said, it has been interrupted, with COVID-19 dealing a significant blow to the portfolio. During the period, we secured 22 leasing transactions, representing GBP 2.7 million of income. Occupancy across the estate has stayed broadly stable at 96%. There is, however, a risk that vacancy will rise in the near term. While nobody could have foreseen the full scale of the global pandemic, we acted swiftly once lockdown came to make sure we engaged proactively with our customers. From that point, our reopening strategy had a clear objective: give our customers the confidence to reopen and encourage visitors to come back, protecting this fantastic base and ensuring its prosperity over time. Overall, estate ERVs fell 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 how retail rental zones moved across the estate.

At James Street and Long Acre, we saw the biggest rent decrease — there the valuer factored in somewhat bigger store sizes plus absolute rent relief streams, which brought Zone As down to GBP 1,200 and GBP 480 per square foot, respectively. Once lockdown began, we acted decisively, stepping away from paying rent quarterly in advance via arrangements that included deferrals, especially for small independent operators. After that, and given the ongoing disruption to cash flow, we looked at rental support for the tenants needing it most for Q3 and Q4. That led to more than 250 direct rental negotiations with our customers. Knowing tenants' businesses has always formed part of our leasing strategy. As part of those discussions, tenants had to supply detailed business information, which we analyzed case by case. For such tenants, bespoke solutions tying rental obligations to turnover for the second half of the year have been agreed. In almost all circumstances, these came in exchange for lease enhancements, whether through an extension, removal of tenant waste provision such as rates, or insertion of landlord's flexibility. As Ian said, the value has made a provision for those of GBP 31 million.

Keeping a robust tenant roster is what we're after, so that the estate stays world-class over the long haul. Yes, things are tough right now, but these steps will put the business in position to gain once the rebound comes. Even with the occupational market under pressure, commercial activity around the estate produced 4 new brand signings, new openings, and a range of tenants moving ahead with their fit outs over the period. On top of that, since the period closed, 3 more units have gone under offer. Vashi signed on James Street during lockdown for its London flagship. The market buildings keep proving their draw. Neuhaus has agreed terms for its first London store, Bubblewrap has signed as well, and Strathberry carried on with its fit out. Meanwhile, the team behind Buns & Buns launched a new concept, opening NaNas, an al fresco bar that looks out over the Piazza. Ganni has opened its flagship on Floral Street, with American Vintage set to join later this year. Peloton's flagship fit out and Bucherer's expansion are both still moving forward. Our investment activity, kept disciplined, has picked up again after the COVID disruption. We are on-site at 3 Henrietta Street, now reworked into an F&B townhouse and currently under offer. After acquiring 5-6 Henrietta Street late last year, we are on-site refurbishing the office space.

On top of that, we've secured vacant possession of the lower portion of 36-39 Maiden Lane — that acquisition likewise closed late last year — and we're moving ahead with our asset management plan. Capital commitments throughout the Covent Garden estate come to a modest total of roughly GBP 3.5 million. We stay disciplined when it comes to acquisitions and keep monitoring target investments in the Covent Garden area. Thanks to our strong balance sheet, we're well placed to move should those opportunities come up. A key differentiator for Covent Garden is that it is largely pedestrianized, and we're pleased with improvements to this important trade. Working alongside Westminster, pedestrianization of several streets around the Piazza has been sped up for a trial period. As many of you know, we've spent a number of years in consultation with Westminster on this initiative regarding target streets. Our first success came back in 2016, when King Street was pedestrianized and our customers recorded significant growth in footfall and sales. This initiative has permitted greater freedom of movement and has been critical, enabling us to add outdoor seating areas for our restaurants, delivering over 500 incremental outdoor covers across 20 al fresco dining spots. To sum up, from tenant support, public realms, estate management and strategic marketing, we are positioning the estate as strongly as possible to ensure we build back towards previous levels and take advantage of new opportunities.

The consumer sits at the center of our strategic marketing plan, and we're promoting the estate directly by way of digital reach, consumer engagement, and a broader creative approach. We're also carrying on with our intention to run a worldwide digital program aimed at key markets—Asia among them—which is going to hold value both now and down the road. Week in and week out, we keep a close watch on footfall and sales. Full lockdown ended roughly 8 weeks ago, and we've had only 4 to 6 weeks in which the estate has been largely open. Each day shows a little improvement. It's still too soon to forecast trends with complete confidence, but the indicators we've seen so far give us encouragement. For any of you who haven't yet had a chance to visit the estate, these images were captured during the last few weeks. Over the near term, market conditions are going to stay difficult. Even so, we're confident that the plans we've laid out will secure Covent Garden's resilience and its appeal as a destination of global standing, and will put it in position to thrive as time goes on. I'll now turn things back over to Ian. Thank you.

Thanks, Michelle. The first 6 months of this year have been truly remarkable, and we anticipate that trading conditions for our customers will stay challenging. Our financial strength and seasoned leadership team have let us act proactively throughout the estate to safeguard long-term value and seize opportunities in the market. Thanks to these decisive steps, the estate is positioned to gain from a recovery and to thrive as time goes on. Day by day, Covent Garden keeps getting better. We'll keep innovating across the estate and rebuild trade as restrictions ease and the West End returns to business. Our near-term focus is on ensuring our customers — who have traded excellently in recent years — reopened successfully, and on providing the setting that gives the best chance to steadily rebuild toward those levels. We keep pursuing efficiencies throughout the business and stay disciplined in how we allocate capital. We confront numerous challenges and an unpredictable economic climate as the world contends with COVID-19 and the U.K. adapts to Brexit, yet our confidence remains firm in the West End's long-term prospects and in the worth of our distinctive investment. That wraps up the formal presentation, and we'll now take questions from invited analysts.

If you'd like to ask a question, just signal the operator.

We'll start with Allison Sun of Green Street Advisers, who has our first question.

I have 2 questions. First, what percentage of tenants exactly actually qualify for the sales linked fund? And second, regarding the 50% of second quarter rent collection that you haven't collected yet but have reached an alternative agreement on, when do you expect to eventually collect those? Do you have a specific timeline right now for that outstanding rent?

Appreciate the question. Yeah. Perhaps I'll take the second part first, since I believe what you're asking about there is deferrals and, really, the payback period. Every one of those transactions was put together on a bespoke basis. So in all those discussions we've had — the ones Michelle mentioned regarding negotiations with tenants — we took into account the specific circumstances of the store as well as the financial condition of the tenant involved. So typically, that would run across a 12-month period beginning at the close of this year. That said, it's a median case, and there will be plenty of variation around it.

Michelle speaking — I'll handle the first question. As we mentioned, we actually carried out a process aimed at determining which parties were most in need of assistance. Our conclusion was that, for H2, stepping back was the better path, since it would let tenants — especially those operating in the F&B sector — plan their businesses for the rest of the year. We therefore chose to shift the bulk of F&B tenants onto turnover-based terms, and those terms differ considerably according to each concept type and the analysis we performed. Retail was far more nuanced; a single uniform approach genuinely did not fit there, so we examined it closely on an individual, case-by-case basis.