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Benefiting from a German-specific resi model

  • 21 Nov 16

Business Vonovia manages GAV of €26bn (including Conwert) in residential assets. Most of the group’s assets are multi-family residences that are distributed across Germany, with properties located in around 770 cities and municipalities. The group’s real estate portfolio covers 21,228,023m² with an average size of 62m². The apartments, which are rented out at €5.89/m² per month on average, include two or three rooms, a kitchen, and a bathroom. Vonovia’s vacancy rate stands at 2.8%. The group focuses on a total return strategy with targeted acquisitions and disposals. 2015 was a strong year of acquisitions for the group, with the integration of the portfolios of GAGFAH, Franconia, and SÜDEWO, increasing the number of apartments by more than 75%. The group also experienced a major acquisition failure with Deutsche Wohnen which preferred to focus on its own acquisition of LEG, a transaction that also failed. With the current consolidation of the German residential market, we expect Vonovia to give DW another try. Wait and see. Recommendation We initiate coverage of Vonovia with an Add recommendation and 19% upside, supported by the continuing strength in the German residential market and our expectations of additional rental growth. As a reminder, over the past few years, Vonovia has been a case of upward guidance revisions, on the back of acquisitions, operational performance, and refinancing efficiencies. 2016 is no different. Market dynamics, triggers, and threats Domestic economic drivers are still expected to fuel the German residential market. On the one hand, GDP expectations have decreased to 1.7% in FY17, on Brexit uncertainties, but are expected to pick up to 2.1% in FY18. On the other, demand for residential assets is expected to continue, supported by German immigration, while current German prices standing substantially below the West European average leave room for further growth. That said, the German residential market remains a much regulated one so that any major shift will take a toll on operations. Although the current regulations that set a cap on rents in major cities have had little impact on the market (see Worth Knowing), stricter measures might be an issue. The coming elections should be watched, especially since measures tend to favour tenants. The prospect of increasing interest rates also presents a threat for the sector both in terms of property valued and operations. That said, Vonovia is already well funded, with a LTV at 47% so that increasing yields will not have an immediate impact on the bottom line. On valuations, the current NIY at 4.5% stands in line with our universe of non-German Office and Retail, only the former is expected to experience excess demand and increasing prices, so that on average Vonovia will be better off.