Brexit-in­duced pes­simism makes Der­went’s real es­tate trust shares a bar­gain

The Daily Telegraph - Business - - Business -

THE con­tin­u­ing de­bates over whether Brexit will be good, bad or neu­tral for the Bri­tish econ­omy and whether the Bank of England was right to start to raise in­ter­est rates are hang­ing over many do­mes­ti­cally fac­ing stocks. Among those in the dog­house are real es­tate in­vest­ment trusts (Reits), es­pe­cially those with ex­po­sure to the cap­i­tal. Der­went Lon­don is just such a stock – yet this could prove to be an op­por­tu­nity, as pes­simism can throw up the chance to buy good com­pa­nies cheaply. This col­umn first tipped the shares at just be­low £24 and the wor­ries have not stopped them from pro­duc­ing a pleas­ing cap­i­tal gain, with the 38.5p fi­nal div­i­dend and May’s 52p spe­cial thrown in for good mea­sure. There could also be more to come, judg­ing by the com­pany’s solid third-quar­ter trad­ing up­date last week.

Der­went Lon­don an­nounced that it had let or pre-let 674,800 square feet in the first nine months of the year. Va­cancy rates have de­clined to just 1.4pc, let­tings val­ues have risen and the £496m in as­set sales were struck at prices 10pc above the val­ues recorded in the com­pany’s bal­ance sheet in De­cem­ber. None of this sounds even vaguely like the dooms­day sce­nario im­plied by the shares’ lowly val­u­a­tion. The share price of £26.25 com­pares with June’s net as­set value of £35.82, or a dis­count of some 25pc.

This is not to say the doom-mon­gers are cer­tain to be wrong. Questor’s crys­tal ball is no bet­ter than theirs, and the scep­tics are clearly wor­ried that Der­went’s new projects leave it ex­posed, as a fur­ther 620,000 square feet of build­ings is un­der con­struc­tion. Yet 45pc of th­ese are al­ready pre-let and 94pc of the as­sets de­vel­oped this year al­ready have con­firmed ten­ants. Even if the bears are right and a Brex­itin­duced hit to the econ­omy prompts an ex­o­dus of busi­nesses, or the Bank of England over­does it, or both, that 25pc dis­count to net as­set value al­ready fac­tors in the prospect of sub­stan­tial de­clines in oc­cu­pancy lev­els, rents and there­fore prop­erty val­ues.

If the doubters are wrong, the share price could just mo­tor, helped by a pos­si­ble nar­row­ing of the dis­count and po­ten­tial in­creases in as­set val­ues. The yield is a small wel­come bonus and the com­pany’s lowly loan-to-value ra­tio means its bal­ance sheet should be able DLN hold

Mar­ket value: £3bn

Turnover (Dec 2017 es­ti­mate): £158m

Pre-tax prof­its (Dec 2017 es­ti­mate): £104m Yield: 2.2pc Most re­cent year’s div­i­dend: 52.36p

Net debt (Jun 2017): £565m

Re­turn on cap­i­tal (Dec 2016): 1.8pc

Cash con­ver­sion ra­tio (Dec 2016): –153.2pc

p/e ra­tio (Dec 2017 est): 30.3 to with­stand any nor­mal prop­er­ty­cy­cle down­turn with­out un­due con­cern. Well, this is tricky. Our the­sis that M&S’s first-half re­sults would sur­pass a very lowly set of ex­pec­ta­tions was borne out on their re­lease last week. Un­for­tu­nately the shares just sniffed and moved slightly lower as the mar­ket pre­ferred to fo­cus on near-term is­sues such as mar­gin pres­sure in the food busi­ness and the lack of growth in cloth­ing and home, never mind the long-term threat posed by lower-cost, more fast-fash­ion-fac­ing on­line ri­vals.

This puts Questor in a quandary, es­pe­cially as the plans out­lined by the chief ex­ec­u­tive, Steve Rowe, and the chair­man, Archie Nor­man, make good sense – and the lat­ter’s blunt words sug­gest M&S now has a man­age­ment team that is em­brac­ing, rather than deny­ing, the chal­lenges it faces.

The shift to slow­ing the ex­pan­sion of food stores is pru­dent; the pop­u­la­tion can eat only so much, no mat­ter how good the qual­ity of the prod­uct. Tack­ling ex­cess floor space in cloth­ing and home is also a wel­come ac­cep­tance of the truth, es­pe­cially when added to a drive to im­prove on­line ser­vices and grow vol­umes here: im­proved stock turn means lower mark­down, lower mark­down means bet­ter mar­gins and bet­ter mar­gins mean bet­ter prof­its.

The rub is that all of this is go­ing to take some time and some in­vest­ment, so any­one who wants im­me­di­ate mo­men­tum should look in a dif­fer­ent aisle for their next stock pick. But pa­tient value seek­ers can stick with M&S for now, es­pe­cially as the 5.8pc yield means they are be­ing paid to wait to see what im­prove­ments Rowe and Nor­man can achieve.

When an­a­lysts de­scribe a com­pany that still makes more than £500m a year as bro­ken, con­trar­i­ans will nat­u­rally be­come in­ter­ested, even if the op­er­at­ing en­vi­ron­ment is un­de­ni­ably dif­fi­cult.

hold MKS 314.1p

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