Interactive Investor

Stockwatch: is it too late to box clever with this popular share?

29th March 2022 11:30

Edmond Jackson from interactive investor

This quasi-annuity real estate stock has fallen but remains on a premium to net assets. Our companies analyst discusses where it is likely to head from here.

Tritax Big Box (LSE:BBOX) has been a reliable source of a 5%-plus dividend yield since I drew attention to it as a ‘buy’ in December 2013 – and has delivered around 250% capital growth to boot. Even after flotation, it traded at its 100p issue price when few investors twigged the long-term potential of warehousing to serve the digital economy. Yet two directors and three executives in the investment team had bought £455,000 worth of equity in the market.

Steady rise in market value increased from March 2020

The stock reached 160p in mid-2019, hence the 5p-plus dividends (see table) – moderating the yield to just over 3% for fresh buyers. Consensus for 2022 is for a 7p-plus payout, maintaining this yield.

In March 2020, Covid lockdown dealt the stock a brief blow, knocking it back to an all-time low of 94p; but since then, acceleration of the digital economy has helped Big Boxs net asset value to nearly double, so I doubt another major drop is likely.

Another bite of the cherry might be offered, however, if markets fester amid war and stagflation.

The chart rise since March 2020 has been much steeper, increasing to 248p by end-December 2021, which capitalised Big Box at over £4.6 billion.

The price eased this year to 226p, even before Putins tanks rolled, despite a 27 January update citing record activity in the development portfolio, with 3.7 million square feet of completions in 2021 and 2.3 million square feet of sites either in construction or under offer.

You might say it flags a tired bull market when stocks no longer respond to positive news, and that ‘a top is in' if prices are falling, although in a long-term context the fall looks more like a retreat to trend-line.

Around fair value according to underlying net assets

A current price of around 240p is a 3% premium to the net asset value (NAV) of 233p (along European Public Real Estate Association (EPRA) principles). In the very long run, once UK warehouse capacity has expanded, I would not be surprised to see Big Box equity trading at a discount to underlying NAV; such is the life-cycle of property investment and development stocks over decades.

A circa 3% prospective yield is nothing special, although it’s highly dependable given upwards-only rent reviews.

A £200 million-plus land bank relative to £5.2 million worth of investment properties (counterbalanced by £1.2 billion in long-term debt) offers development scope – assisted by a £300 million equity capital raise at 204p last September. This was deemed a sufficient level of funding to accelerate our near-term development programme in areas of high demand, with good labour and infrastructure”.

Further mileage is apparent for this property concept

Last year, the market take-up of such warehouses was 64% higher than its annual average since 2010. A limited supply response means a record low 1.6% market vacancy versus 4.1% in 2020, with strong rental growth.

Big Boxs 2021 results proclaimed total accounting returns of 31%, as management capitalised on this long-term structural change in the market.

This demand, combined with continued constrained supply, is contributing to strong rental growth and rising capital values, reinforcing our ability to deliver further attractive total returns to shareholders over the coming years.”

So despite the stock trading around NAV, the odds look set for both the portfolio and underlying valuations to expand further, with the market partially pricing this in.

Revaluation gains have boosted 2021 results

Record profits also result from the government’s ultra-loose monetary policy since March 2020, boosting asset values.

Big Boxs operating profit before fair value and other adjustments rose by 21% to £178 million,driven by development completions, portfolio rental growth and higher development management income”. Adjusted earnings per share (EPS) on this basis rose 15% to 8.2p, and a total dividend up 5% to 6.7p implies 1.2x earnings cover.

Inclusive of £841 million changes in fair value of investment properties” (note 14) and other slight adjustments, however, operating profit soared to over £1 billion for reported EPS of 55p.

My guess is that it might be two to three years before the stock market begins to question whether there is still room for expansion. That to me is the crunch point for property stocks: becoming seen as ex-growth and therefore derating to an NAV discount.

Over some 40 years I have watched various property development fashions attract an NAV premium while they last; but once the market expects things to slow then you also see a derating, to ensure the stock provides yield enough to retain buying interest.

Tritax Big Box REIT - financial summary 
Year ended 31 Dec

  2014 2015 2016 2017 2018 2019 2020 2021
Net rental income (£million) 18.6 43.8 74.6 108 133 144 162 185
Operating profit (£m) 46.7 143 110 265 277 181 492 1,013
Net profit (£m) 41.8 134 91.9 248 253 141 449 973
EPS reported (p) 14.7 21.0 10.4 19.4 17.4 8.4 26.3 55.0
EPS normalised (p) 14.7 21.0 10.4 19.7 17.5 8.2 26.3 55.1
Operating cashflow/share (p) 8.0 4.2 7.9 6.8 6.5 5.5 8.1 11.1
Capital expenditure/share (p) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0
Free cash flow/share (p) 8.0 4.2 7.9 6.8 6.5 5.5 8.1 11.1
Dividends/share (p) 4.2 6.0 6.2 6.4 6.7 6.9 6.4 6.7
Covered by earnings (x) 3.5 3.5 1.7 3.1 2.6 1.2 4.1 8.2
Return on total capital (%)     5.7 10.0 9.0 4.9 11.5 18.5
Return on equity (%)       14.8 12.1 5.9 16.4 27.8
Cash (£m) 98.6 59.2 165.0 71.9 47.4 21.2 57.6 71.1
Net debt (£m) 102 318 368 637 773 1,127 1,286 1,274
Net asset value/share (p) 104 121 126 140 151 150 170 218
EPRA net asset value/share (p) 108 125 129 142 153 152 176 223

Source: historic company REFS & company accounts

Helical and McKay Securities show how premiums erode

With office developer and investor Helical (LSE:HLCL), I recall it was better to take a generalist view than to heed property sector specialists who argued Helical had been a ‘buy’ some 20 years ago – as a play on diversifying.

I took a more basic view that the halo would drop and Helical would mature into a more typical property stock – i.e. at a discount to net assets. At 400p currently, the stock trades at a 27% discount to the end-September EPRA tangible net asset value of 551p per share.

Where such a discount becomes stubborn it can eventually lead to a takeover: witness a current agreed offer of 297p per share for McKay Securities (LSE:MCKS) by Workspace Group (LSE:WKP), versus a prior stock price of 218p, although the offer price is still a discount to the March 2021 EPRA NAV of 322[p. A possible rival offer from Slate Asset Management has, however, been announced today.

This is why  I am cautious about investing in property stocks at a premium to NAV, unless the underlying growth trend is firm.

Mind, it is hardly as if McKays concept is tired: this REIT develops, manages and refurbishes office, industrial and logistics property in the relatively prosperous South East and London. 

I feel there is some similarity between the way office space was in vogue from the 1980s to early 2000s, and logistics space currently. As developments proceed with vigour, capacity needs will eventually be met and the market will mature.

Big Box equity would then be exposed to a derating.

Annuity-like credentials protect against inflation

The asset portfolio aims to balance the certainty of fixed and inflation-linked leases with ability to capture growth from open market and hybrid reviews.”

So 54% of Big Boxs rent roll links to retail and consumer price inflation, 29% to the open market, 10% is fixed and 8% hybrid. 20% of leases are renewed annually and 80% on a five-yearly basis.

Quite how that would fare in a worse-case scenario of stagflation leading to recession is unclear; but rent increases here – serving the digital economy – may be more durable than, say, telecoms providers pushing through annual price increases at retail price inflation plus a few per cent. That could run into the sheer inability of consumers to pay and therefore cutting back on the services they buy.

I am probably cautious, having watched the life cycles of enough property stocks over the decades to know that judging the timing of change in the rating relative to NAV is often key.

I therefore currently rate Big Box a hold but should the wider market fall in the months ahead – taking this stock down to nearer 200p – then it would again represent a medium-term ‘buy’.

Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.

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