Unite Group PLC (UTG) Earnings Call Transcript & Summary

Good morning, and welcome to the Unite Group plc Interim Results 2020 Presentation. [Operator Instructions] I would now like to turn the call over to Chief Executive, Richard Smith. Please go ahead.

Thank you very much, and good morning, everybody. Just before I start, sort of, a little bit of housekeeping, as we present the slides, it will be myself, Joe and Nick presenting this morning. We will, if you don't mind, just say the slide number and the slide titled just to make sure that you are all seeing the slide that we're talking to. Just firstly to say, I think this has been a uniquely challenging period for the company, obviously, due to COVID-19, but I really am proud of the response of the business. And I think the response really does demonstrate, I believe, the resilience of our business. So if you could move to Slide 2, please, Leading the sector. The financial performance of the group in the first half has been driven by a combination of 2, really, key factors. Obviously, the successful acquisition of Liberty Living completed at the back end of 2019, offset, of course, by the impact of COVID as we previously updated on. Earnings are up 22%, reflecting the increased scale of the business. On a per-share basis, EPS is down 12% due principally to the summer term rent refunds. LTV is at 33%, and we're retaining our mid-30s target as we build out valuable development pipeline. And NAV is at 833p. Our top priority in the first half of the year has really been to do the right thing for all of our stakeholders. As you all know, we were the first in the sector to forgo summer term rent. That was a decision that really has enhanced our reputation with universities, our reputation with students and our reputation with parents. And throughout the period, all of our buildings have remained open and operational. Indeed, we've had students living with us right through lockdown, and that sort of continuing operational performance is really down to the efforts of the frontline teams, and I'd like to thank them for that. Despite the impact of COVID, and I've mentioned Liberty already, we did make significant progress on the integration of Liberty Living, and we are secure in targeting the GBP 15 million of annual cost synergies from 2021 that we previously guided to. And we do now have further cost savings in view. And while we, obviously, remain in an uncertain period, we do have growing visibility over income for the upcoming academic year starting in September. What we know at the moment is that universities will be opened for business in the autumn. And we also know from our own research that students are really keen to go to university and start the next chapter of their lives. At the moment, we're 84% reserved for the next academic year, with half of these reservations underpinned by signed nomination agreements. Again, as we've guided to previously, we're targeting to secure 90% occupancy by the end of the sales cycle, and we still, obviously, have clearing to come with A-level results due in mid-August. We do expect to reinstate the dividend later in 2020, assuming we deliver occupancy and income in line with our expectations for the next academic year, assuming we continue to see a positive outlook for the '21-'22 academic year. And for clarity, that assumes no material second wave of the virus or national lockdown. If we could move on to Slide 5, please, Sector-leading platform. The strengths of the business really are our high-quality portfolio, our people and platform, and our university relationships. We're a trusted partner to the university sector, and I do believe our decisive response to COVID-19 has helped to further enhance our reputation, which is a real positive for the future. And that reputation and that genuine partnership with universities, I think, was borne out by our ability to collect 97% of the rents payable directly by universities for the summer term. Our operating platform, PRISM, has allowed us to rapidly adjust our sales strategy and also reduce costs. We've adjusted marketing to target more domestic students, including those in the HMO sector, and we're having some luck penetrating that -- progress, sorry, penetrating that market. And we're also targeting international students already in the U.K., who clearly don't have some of the travel challenges that first-time international students may well face. And we have also delivered cost savings, again, as we previously guided over the summer to help partially mitigate the impact of lost summer income. I'm also delighted that we were the first PBSA provider to achieve COVID Secure accreditation by the British Safety Council. That means all aspects of our operations, how we will interact with students, how students will live in our accommodation, how our staff will operate those buildings has been signed off, as I said, as COVID Secure by the British Safety Council. And that achievement really supports our safer and -- safe and secure brand promise to customers, something we know that was vital to them before COVID, but in times such as these is even more important. And to build on that, we're also introducing this year for students, who live with us from September, a home charter. And the home charter will set out very clearly the commitments we will make to students who live with us, but as importantly, what we expect of students that are living with us and how they will live and how they will behave in their homes. We did continue to see significant growth opportunities in the sector, and we are again delighted by the strong support for our recent placing. As you know, the proceeds of the placing initially used to fund 3 schemes with total development cost of GBP 250 million. One of those schemes, a 300-bed accommodation block in Edinburgh, is now exchanged, and we're also targeting further opportunities beyond these schemes from a university partnership and development pipeline. If you could turn to Slide 6, please. We are gaining more visibility over student demand and, therefore, income for the next academic year. Universities will be open, and 97% of students have indicated they will be providing face-to-face teaching for students, something that is really important for students. And universities have worked hard to provide clarity to the students around what's happening, what the campus experience is like. And we know, again, from our own research that students and parents have very high confidence in a university's ability to provide a safe environment. That confidence in universities, I think, was reflected in the UCAS data, UCAS data showing acceptances up 1% compared to '19 and '20. And we saw a record share of 18-year-olds applying to university. And that record growth in 18-year-olds applying was also backed up by strong growth from non-EU students, reflecting the attractive new post-study visas, which enable students to stay in the U.K. for 2 years after completing the studies. And we have also seen a reduction in students choosing to defer this year and, therefore, going to -- planning to go to university. However, there clearly does remain a risk of cancellations, particularly from international students. In response, universities have been very proactive in helping and reassuring international students. And across the sector, we're seeing examples that include universities chartering flights to bring groups of international students across to the U.K. and also providing support for students if they need to quarantine on arrival into the U.K. And the government has also shown support for the sector for a range of financial support measures in recent months. These include bringing forward GBP 2.7 billion in tuition fee and research funding and also covering up to 80% of the lost income from international students through a combination of grants and loans to ensure that universities don't suffer a short-term cash flow shock. And we're also encouraged that the government remains committed to the growth in international student numbers. The government have a target to grow international student numbers by 1/3 over the course of the next 10 years. And this has been supported and has been supported by the appointment of an international recruitment champion who reports directly to the minister. If you could change to Slide 7, please. Looking further ahead, we remain confident in the continued structural demand for higher education. We are anticipating a strong student demand picture from 2021, '22 academic year and beyond, driven by a range of factors, including a significant recovery in international student numbers, a return to growth in demographics in terms of the number of 18-year olds. We're still in a period of decline despite having record levels of participation. And I do expect participation to continue to rise as well with an increasing view from young people that it's almost a societal right to go to university. However, we do expect to continue to see differentiation in the performance of universities, and we will continue to see the flight to quality that we've talked about. Based on recent government announcements and comments on the sector, it does appear that future policy will favor the research-intensive universities alongside the quality teaching-led universities. Many of those universities are our partners, and so these announcements really does play well to our strength and our alignment to high- and mid-ranked universities. And we also do now expect the government to finally provide a commentary on Augar, and that's likely to be alongside or shortly after the spending review, so sort of quarter 3 or perhaps slightly into quarter 4. So this overall demand picture, as we look past the next academic year into the future, I think, is very positive. And is supportive of future rental growth for the business. If we could move to Slide 8. Just picking up sort of current trading and sales performance. The sales performance is increasingly encouraging despite, obviously, it being disrupted by COVID. Reservations are currently at 84% that is behind last year, but is as we would expect given the disruption. And we're targeting 90% occupancy by the end of the sales cycle, as I've said, that would translate to a 20% year-over-year decline in income, and that decline in income includes contingency for price reductions and also the increased use of incentives. However, our existing bookings to date are showing price increases versus last year. Booked students are increasingly positive and engaging with us, and we're spending a lot of time talking to students, both here in the U.K. and internationally. In the course of the past few weeks, we've sent out our welcome communication, and something like 20,000 students are now actively engaging with each other on our app, beginning to get to know each other before they arrive at their new home come September. And as part of our COVID response, we're also thinking hard about the check-in experience and how we manage that. And we're now offering bookable check-in slots. And again, in the last 2 weeks, 6,500 students have booked their check-in slots. We expect nomination agreements by the end of the sales cycle to represent circa sort of 50% of our beds. Currently, 40% are contracted so that remaining 10% of currently unsigned nominations we expect to be confirmed post the A-level results, again, as I said, in mid-August. For our direct-let sales, we're seeing healthy demand from U.K. students. And we are making progress in targeting students already in-house in multiple occupancy. And by the end of the sales cycle, we expect U.K. customers to account for 60% of our direct-let sales, which is up from 40% or just under 40% actually in a typical year. And we've also seen growth in mature students coming to live with us again and starting to see some penetration into the U.K. postgraduate market and not a market we have previously targeted. We're also seeing encouraging demand from international students -- international bookings from second and third year. So students who are already in the U.K. and, therefore, where we have greater confidence, make up nearly 50% of our international bookings. And for first year students, we're in regular contact with those students undertaking what we call sort of waterproofing, checking in with those students; confirming their intentions to still come to the U.K.; confirming whether they have completed their English language tests and English language centers in China are all open; confirming whether they have their visa; and again, all 14 visa offices in China are now open; and then confirming their travel plans. And as I say, they are increasingly confident around their plans of coming to the U.K. However, obviously, in the current environment, there remains a clear risk of cancellations. And the guidance that I referenced does allow for some churn in existing bookings as international students either cancel or are no-shows as we come to the start of the academic year. If we could turn to Slide 9 and just briefly on the integration of Liberty, as I've said, we've made significant progress. The integration will be complete by the start of September. All Liberty Living properties that moved across the PRISM, meaning, sales, service and management activities are taking place through our platform. And again, as I said, we're confident in the planned cost synergies. That's GBP 5 million to GBP 6 million of synergies this year, confident in delivering the targeted GBP 15 million of synergies from 2021. But as we've talked about before, we're also seeing further opportunities beyond this, and we're now targeting an additional GBP 2 million of cost synergies over time through procurement and energy efficiencies. And in addition, we've seen a significant number of operational learnings as we expected to see from the integration, which will enhance the combined business, including how we manage our nominations, the operations of our sales center and marketing activities that will lead to lower cost of sales. So I'm going to now hand over to Joe to take us through the finance section.

Thank you, Richard, and good morning, everyone. So if we could move to Slide 11, outlining the detail on the financial performance. As Richard mentioned, the first half has been significantly impacted by COVID and our decision to refund rents for semester 3 as well as the Liberty Living acquisition. Earnings were up 22% to GBP 74.8 million and an EPS at 20.5p, down 12% as a result of the additional shares linked to that Liberty acquisition. NAV is down 2%, driven by property values down by 2.5%, delivering a total accounting return of negative 2.3% and an EPS yield of 2.4%, with LTV reduced from 37% to 33% as a result of the share pricing and the small change in valuations. So moving on to Slide 12, again, setting out in more detail the earnings performance being dominated by the acquisition and the loss of income related to COVID. Liberty contributed GBP 63.3 million of additional revenue, and that offset GBP 26.9 million of lost income as a result of cancellations due to COVID. There will be a further impact of around GBP 14 million in the second half due to COVID and that relates to 51-week tenancies, where we would normally be collecting income over the course of July and August and the loss of summer income on our short-stay business. That loss of income in the first half has resulted in the NOI margin and the EBIT margin falling to 75.9% and 71.7%, respectively. And we will be working hard to hit our target of 74% EBIT margin as an exit rate for 2021, and we'll continue to work hard to ensure that the cost base of the business reflects the long-term outlook for the business. Overheads and interests are both up, and that's really driven by the Liberty Living acquisition, and we've implemented cost-saving measures already to protect the overall earnings position for this year. We can move to Slide 13. We have the earnings bridge there, which sets out this in more detail and shows those big movements driven by COVID and Liberty. We are seeing those early signs of wins on both costs and overhead savings. This is through lower variable costs related to utilities and broadband, the decision that we've taken to in-source our summer turnaround costs and utilize our staff to do work that otherwise we'd use third parties to do, and lower people costs across the business, both in recruitment freezes and salary reductions for senior members of our teams. On Page 14, we then set out the earnings and cash flow guidance, and we are restating our guidance provided in our trading update a few weeks ago to deliver 22p to 25p of earnings in 2020. And this reflects the bigger impact in the second half from COVID, as I mentioned, from those 51-week tenancies, the loss of summer income and also the impact of the 2021 academic year. Our guidance reflects the 10% to 20% reduction in rental income that Richard mentioned and does allow for contingency in pricing if we do see the churn in bookings over the summer from international bookings. It also reflects cost savings of GBP 12 million to GBP 15 million on a see-through basis, and the guidance does assume that we don't see a return to the more stringent lockdown and that universities open in line with our plans. We are planning to update the market after the start of the academic year, given sort of slightly unusual circumstances this year, and that will allow us to give you a better picture on occupancy earnings and rental growth and we also give further guidance and an announcement on the dividend for 2020 in line with the picture that Richard painted earlier. Moving to Page 15 on the NAV bridge. NAV tells a similar story really to the earnings of the business with the loss of income from COVID flowing into the valuations, and that's leading to the bulk of the valuations and NAV movement, with valuations down by 2.5%, with yields broadly flat. Nick will come on to talk more about the market and transactional evidence in a moment. We've also made a provision equating to 3p per share on the NAV basis for the cost of replacing HPL cladding across 19 buildings in our portfolio in response to the new guidance from the government that was issued earlier this year and as we set out in our prelims back in February. Turning to Page 16 on cash and debt facilities. Clearly, there's been a lot of focus on cash, liquidity and covenants over the last few months. Initially, this was on downside protection in the event of a sustained deterioration in trading. So we've built up GBP 541 million of unrestricted cash and we have a further GBP 100 million of credit approved facilities into our RCF and also CCF facility from the government with GBP 50 million available if required, although we have no plans to draw this at this stage. With only GBP 30 million of CapEx left on our 2020 deliveries and a cash burn rate of GBP 11 million to GBP 13 million, you can see that we have significant levels of headroom to protect on potential downside. Following the placing, LTV has decreased 33%, and we are focusing on keeping our LTV in the mid-30s, and we'll continue to recycle capital through our disposal program this year and beyond. We have used part of the proceeds to pay down GBP 207 million of secured facilities, and that will incur break cost equating to 6p per share in the second half of the year and will also then reduce our interest cost going forward by GBP 7 million per year, reducing our average cost of debt down below 3%. It also shifts our balance sheet debt to a fully unsecured basis, giving us greater flexibility, and we'll continue to access and move forward using that unsecured market and lock into longer-term debt over the next 6 to 12 months. And the rating agencies have continued to support us with their investment-grade ratings despite the uncertainty that remains in the marketplace. Our ICR covenants also have a good level of headroom. Occupancy would need to fall to 55% on our tightest covenant. And given the reservations and nominations underpinned, this would need to see a significant deterioration to challenge any of these covenants. And encouragingly, the banks have continued to remain very supportive over the last 4 months. We've increased facilities on both the balance sheet and new staff, and we've continued to move forward aligning terms on the former Liberty Living debt alongside the existing Unite terms. Turning then to Page 17. Our JVs and funds continue to perform in line with our business. Management fees are up slightly as a result of the acquisition of the Cardiff assets by USAF. And in LSAV, we continued to engage with GIC around the extension of the joint venture. They're still very supportive of the sector with the JV's strong performance over the last 15 years. We are modeling a number of options with them at the moment, and we would expect to secure something well in advance of maturity in September '22. On that basis, I'll hand over to Nick to take you through the property review.

Thanks, Joe. Good morning, everyone. If we could move on to Slide 19, valuation is well supported. As you've been hearing, the sector fundamentals also remained robust for PBSA, and valuers have adopted a pragmatic approach to assessing the impact of the last few months on our portfolio. At our last announcement, the news of the Blackstone acquisition of iQ has just broken, which represents the new pricing benchmark for PBSA. However, clearly, COVID has impacted both asset-level performance and investor sentiment, meaning, we find ourselves in a different marketplace today. Prior to the pandemic, we highlighted that investors have been displaying a [ flair for ] quality. We expect this trend to continue whilst liquidity is low and until markets recover. But notwithstanding this, there have been some encouraging signs within the market. There's been -- around 7 transactions have taken place since March, totaling GBP 270 million, all broadly supportive of portfolio yield. Valuers have, therefore, made income deductions to valuations rather than capitalizing the reduced income, and we've seen some modest yield compression in our strongest markets, offset by expansion in some of our weaker assets. Overall, this led to a portfolio valuation down just over 2.5% year-to-date. Whilst the valuations for our half year have included a material uncertainty clause, the RICS has issued guidance to valuers as of July to remove these provisions. And so assuming that market conditions do not worsen, we do not expect these to be in our next set of valuations. In terms of disposals, we continue to target GBP 100 million to GBP 150 million of disposals this year. Our portfolio is still in the market. We've seen a wide range of interests. But just given the market conditions we are in, we are expecting higher near-term execution risk. Moving on to Slide 20 and turning to development. I'm pleased to announce that despite the lockdown, we will be delivering White Rose View in Leeds on time and budget. The scheme benefits from a 30-year nomination agreement with University of Leeds, so delighted to get that project over the line. Our other 2 projects, which are Artisan Heights in Manchester and First Way in Wembley have been impacted by the lockdown and won't complete until quarter 4 of this year. We're not anticipating any cost overruns as a result of the delay to each of the developments, and each of the properties will be available to let to students from January onwards. In terms of our 2021 pipeline, which constitutes Middlesex Street and BRI in Bristol, as we've announced, we have paused both of those developments, and they will now be delivered in 2022. We expect to recommence works on those projects in January. However, we may bring the date forward should the conditions be suitable to do so. In terms of other good news, we [indiscernible] BRI earlier on in the year, and we're well on with our applications in Nottingham and Temple Quarter in Bristol. And as Richard mentioned, we've recently exchanged a new site up in Edinburgh, which we've also submitted planning for as well. As part of the Liberty transaction, we did secure another development site in Vauxhall-Wyvil Road, and again, we are well on with preapplication discussions with the local authorities there, too. More generally, from a planning perspective, I think we are seeing local authorities working with developers over the last few months. We have seen some flexibility in discussions with them. We have managed to negotiate delays to fill payments for a project. We've also been receiving good engagement from preapplication discussions for our new sites and new pipeline. Moving on to Slide 21, significant investment opportunities. Our total secured pipeline sits just under 5,500 beds, all of which will be delivered by 2024, with an average yield on cost of 6.6%. We're seeing really an encouraging number of new opportunities coming through. As I just mentioned, we've just exchanged on Abbey Lane in Edinburgh, a 300-bed development in a really high-quality market. But we also have a number of other high-quality sites under offer, including a prime scheme in Central London with others to follow as well. The forward fund market should also provide further opportunity for us with fewer active buyers and a tougher funding environment. We are anticipating reductions in development costs moving forward despite the full impact of COVID not necessarily making its way into the land market just yet. We are still seeing price reductions of around 5% to 10%. We're also expecting to see reductions in our forecast construction costs as demand softens. And as a result of this, we're expecting to see an increase in hurdle rate whilst the market remains disruptive. And I also want to touch briefly on sustainability. We have been using the time over the last few months to further develop our specification and our understanding of the carbon impact from our developments. And moving forward, our new schemes will be implementing measures to mitigate both the impact of construction and also to help reduce the ongoing emissions for our buildings once they are operational. Finally, with regards to university partnerships, I think the pressure on university finances are going to intensify over the next few months, and this should lead to a greater number of partnership opportunities for us and will also encourage universities to start making decisions quicker than they have in the past. Therefore, we are in a good position to leverage our sector-leading brand and reputation, secure new opportunities, and we're looking at a wider range of transaction structures, which will create win-win opportunities for both the group and our university partners. So to summarize, the market conditions will create plenty of opportunity for further growth in PBSA, and we are well positioned in terms of expertise, brand and capital structure to capitalize on the opportunity. And with that, I'll pass you over to Richard, who will wrap up.

Thank you very much, Nick. And if we could move to Slide 23, please. While, clearly, we have a job of work to do to manage the short-term and the uncertainty that we talked through, I think we can look ahead with confidence and that confidence is really supported by the structural demand for U.K. higher education. We have greater -- we'll have greater visibility following the start of the 2021 academic year as to what the future holds. And as we've already said, on the basis of the starting academic year in line with our assumptions, it is our intention to reinstate dividend. We do expect strong demand from '21-'22 onwards and a return effectively to the full campus experience for students and from '21-'22, therefore, based on this demand that is supportive of return to rental growth in our portfolio. And as Nick has highlighted, we see significant growth opportunities. We see opportunities to deploy the recent placing proceeds and grow beyond that our development pipeline and also our university partnerships, but also encouraging signs that we can attract more of the 855,000 students, who live in-house and multiple occupancy in the U.K., back into our estate. So with that, thank you very much, and we'll hand over for questions.

[Operator Instructions] We will take our first question from Kieran Lee with Berenberg.

Just a quick one on pricing. So historically, you've been reluctant to grow sort of pricing at more than sort of 3%, 3.5%. If we see a big fall in pricing in the coming year, looking to the outer forecast years, is that something you're still looking to maintain? Or do you see the opportunity to sort of recover a lot of that pricing straightaway?

Yes. I mean, historically, we sort of have a self-imposed cap that we wouldn't increase pricing in any particular market by more than 5%. That really was a decision that we took and a policy that we implement to ensure that we're not seen by the university primarily to be benefiting from any particular market conditions. And obviously, I think, '21-'22 academic year is going to be different if it happens as we see with a big bounce-back in international students that grow -- that continue demographic rebound as well. And so in that strong demand picture, we will look to drive the best possible rental growth outcome. We won't, obviously, change the position on our nominations, which are largely contracted at or around inflation. But in that direct-let market, where there is that demand, I think we would look to price, if we can, towards the top end of the range.

It appears there are no further questions over the phone at this time.

We have 2 questions from the webcast. The first is from Robbie Duncan at Numis. You have several debt maturities in 2022. Can you comment on whether you have commenced discussions with lenders? And if yes, what is the broader tone? Is there potential for a reduction in the cost of debt through 2022?

Yes. So the debt renewal activity that we've undertaken is more likely to be with -- in the bond markets or in the private placement markets to ensure that we're extending debt maturities. So we haven't started discussion directly with those debt providers. We, obviously, do track the pricing of our listed bonds. And over the last couple of months, we have seen spreads widen, albeit the underlying [indiscernible] rates have moved in. So the total pricing on those bonds is around 2.5% to 3% level for 5- to 8-year facilities. So it would be in line with our existing cost of finance rather than seeing any meaningful reduction if we were to access those forms of capital based on the current pricing.

We have one further question on the webcast from Peter Papadakos at Green Street Advisors. Is it realistic to assume NOI margin moves back to 75% as early as the '21-'22 academic year? Related to this, what percentage of cost synergies would be above the NOI line? And where will the balance be mostly sourced from?

Yes. As I mentioned, we are working hard to meet our current target of hitting a 74% EBIT margin as an exit run rate in 2021. There are cost saving activities and initiatives in place to allow us to drive towards that number. So we do believe that the margin is -- will remain an important target for us. It does slightly depend on that level of occupancy and rental growth recovery in the '21 academic year, as I say, but it remains an important target and focus for us. With regards to the split of integration costs and synergy savings, about 25% of those savings will come at the operating cost line from city-driven cost savings and around 3/4 will come from central overhead costs.

We have a further question on the webcast. Do you have any intention of initiating more asset sales?