|Shares Out. (in M):||33||P/E||0.0x||0.0x|
|Market Cap (in $M):||64||P/FCF||0.0x||0.0x|
|Net Debt (in $M):||28||EBIT||0||0|
Here is an opportunity to buy 7 properties in Europe for 60c on the dollar. There is a dream catalyst. The board has appointed Shroders to “maximize returns to shareholders through the orderly disposal of the properties”.
Scroders had originally intended to have all the properties sold by December 2013, but, this has taken a little longer than targeted. It now appears that the disposals will be completed by June 2014. This means your 60c turns into $1 in a little over seven months.
European Reit (ERET LN) is currently trading in London for GBP1.20 versus an NAV of GBP1.94.
Stock Price GBP1.20
Property Sector m2 Major Tenants
Value above €50 million
Germany, Frankfurt Industrial 85,204 Schenker, LSG Lufthansa, Fedex
Value €25-50 million
Germany, Kaiserslautern Retail 11,334 Peek&Cloppenberg, Hennes&Mauritz
Value under €25 million
France, Nice Office 36,720 IBM
Spain, Madrid Industrial 19,616 Panrico
Spain, Cordoba Industrial 14,119 Panrico
Spain, Murcia Industrial 9,234 Panrico
How to Destroy Value the Old Fashioned Way
ERET have been a little naughty. Back in 2007 the valuations were proudly given for each property, now we just have ranges above and below EUR50mil.
I have had to estimate current values for the remaining properties and compared them to the 2007 values in the following table.
Property Dec2007 June2013 %Change
Germany, Frankfurt EUR125mil EUR 55mil -56%
Germany, Kaiserslautern EUR 32mil EUR 29mil - 8%
France, Nice EUR 39mil EUR 25mil -64%
Spain, Madrid EUR 16mil EUR 8mil -50%
Spain, Cordoba EUR 8mil EUR 3mil -50%
Spain, Murcia EUR 6mil EUR 3mil -50% *burnt down, put in insurance claim
Total(EUR) EUR251mil EUR 132mil -53%
GBPEUR 1.40 1.18
Total(GBP) GBP 179mil GBP 112mil -37%
These are not typing errors. Commercial property has been properly smashed in Europe. This tremendous destruction in value prompted the board to pull the plug on the company in September 2012 and appointed Shroders to “effect an orderly disposal programme and return surplus capital to shareholders”.
ERET do not disclose rental income from each property. Where possible, I have used available disclosures to gain further comfort wrt my valuation estimates.
ERET report every six month. The last earnings report was for the 6 months ended June 2013. Since then ERET have sold two properties, both in October.
Below is my NAV calculation using a simplified June 2013 balance sheet and a pro-forma balance sheet which adjusts for both disposals.
June 2013 Disposals Proforma BS
-------------- ------------- ---------------------
Properties GBP192mil GBP80mil GBP112mil
Debt GBP108mil GBP80mil GBP 28mil
Swaps GBP 17mil GBP 17mil
Other GBP 8mil GBP 8mil
Equity GBP 65mil GBP 65mil
At today’s share price of GBP1.20 the market cap is GBP39.8mil, a 39% discount to the current NAV of GBP65mil.
The obvious risk is that the remaining seven properties are worth less than GBP112mil.
While I do not want to trivialise this risk to date the values seem to be holding up as evidenced by the following
I should also mention that part of this bet is a bet on the jockey, Shroders, to perform. Schroders have a good track record and it has been profitable to back them in the past (eg SREI LN) I don’t want to get too deep into this now, but, Schroder’s get a bonus if the return more than GBP1.60 to shareholders.
Margin of Safety
Given an NAV of GBP65mil and a market cap of GBP40mil investors benefit from a margin of safety described below.
If the properties can only be sold for GBP85mil (a 23% discount to GBP112mil) then ERET’s NAV falls to GBP1.18 and investors break even.
Simple math shows that this margin of safety grows as more properties are sold and debt is repaid. For example, if a further GBP40mil of disposals are made and the proceeds are used to pay down debt, then, the value of the remaining properties will have to fall from GBP72mil to GBP47mil (35%) before shareholders buying at GBP1.20 will suffer a loss.
This rise in the margin of safety as disposals are made at fair value are clearly reflected in movements in the stock price which rose strongly in July 2013 following the sale of Saint Etiene property and October 2013 following the announcements of property sales.
Operating Profit adds to Margin of Safety
It should also be noted that ERET generated EUR3mil from operations in the six months ended June 2013. The dividend has been suspended so these profits continue to boost the NAV. I think ERET will conservatively add another EUR2.5mil to NAV for the six months ended December 2013.
After December 2013, the amount added to NAV will depend on the timing of property disposals, debt repayments and access to lower interest rate. While these amounts are not that material every little bit helps to add to the margin of safety.
As stated above the original intention was to sell all the properties by December 2013. This was a serious deadline as all of ERET’s debt needed to be repaid to Loyds TSB by January 4, 2014.
The January, 2014 repayment date became a concern to shareholders as the disposals were taking longer than expected. Fortunately on October 30, 2013 ERET announced that they had extended the repayment date to June 30, 2014.
The renegotiation of the debt also included the following
Investors should be aware that the termination of the currency swap introduces a new risk as the equity is now subject to currency risk. If the EUR is strong the NAV in GBP will increase and vice versa. The GBP has been gaining slowly against the EUR so this could hurt the NAV if this trend continues. Obviously this risk can be hedged out or the exposure can be used as a natural hedge in an invetsment portfolio.
This is a very simple idea. Sell seven properties and turn 60c into $1 in a little over seven months.
I expect the stock price to continue to rise in a step-like manner as further disposals are announced. I am speculating that one or two announcements can be made by the end of this year which will send me well on the way to turning my GBP1.20 investment into at least GBP1.60 and hopefully GBP220 by June2014.