Palace Capital (Palace) has released a positive portfolio and trading update detailing disposals made in FY17, significant ongoing projects at ten properties and the possible acquisition of a fully let office building for c £20m, which would more than replace rents at properties sold in the year. These developments demonstrate Palace’s ability to add shareholder value through active management and to recycle capital efficiently. We have revised our estimates and note that management expects the March 2017 NAV to beat market expectations.
Thirteen disposals were made in the year to 31 March 2017 for a total consideration of £12.6m, which is a £3.4m (37%) gain on the book value of the properties (£9.2m), equivalent to c 13p per share before tax. These disposals have helped reduce net LTV to 39% of the September 2016 portfolio valuation. LTV may be lower still vs the March 2017 NAV, which Palace has stated is likely to beat market expectations. The portfolio update also detailed ten property management projects, most significantly one at Hudson House in York where a new planning application has been submitted to replace the existing building with 127 apartments, 34,000sqft of offices and 5,000sqft of commercial space. Full details of all the projects are available here, and while we have increased our FY17 forecasts we expect these initiatives may still have contributed to a portfolio valuation in excess of our new EPRA NAV estimate of 431p per share (previously 430p).
Although the disposals have reduced the contracted rent roll to £12.8m pa at 31 March 2017 (£10.9m net of head rent and void costs), Palace has also agreed terms for the corporate acquisition of a fully let office building for c £20m. It is reported that if completed, this would more than replace income lost through disposals. We have assumed the acquisition is made with 5% purchaser’s costs, at a 7.5% net initial yield and 50% LTV with debt costs in line with existing debt: our FY18 EPRA EPS forecasts have risen to 22.2p and to 27.5p in FY19.
With the potential acquisition likely to mean that rental income levels are sustained and the probability of a NAV uplift beating market expectations, there is significant potential for the shares to appreciate. Regional peers tend to trade at premiums to reported EPRA NAV averaging c 4% and the completion of the acquisition and/or the FY17 results could be catalysts for Palace’s c 18% discount to narrow.