Shares in Palace Capital (PCA:370p), a property investment company focused on commercial property outside London, are within pennies of the 380p minimum target price I outlined when I initiated coverage on the shares at 335p (‘A royal investment’, 17 Oct 2016).
Half year results released late last month fully support the re-rating. Rental income on the £184.8m portfolio edged up to £13.7m while the average cost of debt on £82m of borrowings secured on these assets improved by 20 basis points to 2.9 per cent, so helping to deliver a 20 per cent hike in underlying EPS to 10.8p excluding valuation gains on the portfolio. Net asset value per share rose slightly to 419p, implying the shares are being rated on an 12 per cent discount. That’s still not a punchy valuation for a company that has delivered net asset value per share growth in excess of 90 per cent over the past three years, and is building a shrewd reputation for buying off-market and adding value to assets through active property asset management and refurbishments.
The point being that a number of the company’s sites have potential to deliver valuation uplifts including Hudson House, a 103,000 sq ft office building directly opposite York Railway Station. The directors believe the site is currently worth just shy of £15m and has potential for further upside when redeveloped. The company has obtained planning consent to convert the property into 82 residential units as well as create 37,000 sq. ft. of grade ‘A’ office, and has also obtained an alternative planning consent to convert the building into 139 residential units.
Other developments of interest include the 200,000 sq ft Sol Central development in Northampton which was acquired for £20.7m on a net initial yield of 8.86 per cent in May 2015. The site includes a 10-screen cinema, casino, 151-room hotel, gym and 375-space car park, but had not been trading at its optimum level for a number of years, and significantly the scheme lacked restaurants. The directors of Palace Capital are addressing this issue to enhance the leisure offering, measures that should enhance the value of the asset too. They also see valuation upside in a 75,000 sq ft multi-let 1970s office building in Manchester that was acquired in August for £10.6m. When current rent-free periods end the property will produce a net income of £775,000, and this will increase further once 13,500 sq ft of vacant space is refurbished and let out to generate a 13 per cent-plus return on equity.
In the meantime shareholders have been rewarded with a 28 per cent hike in the interim payout to 9p a share to give a rolling 12-monthly dividend of 18p a share and an historic yield of 4.8 per cent. Given the company’s modest balance sheet gearing, and potential to offload assets to realise investment gains racked up over the past few years, there is potential for further dividend hikes especially as analysts at Arden Partners expect EPS of 21.3p in the 12 months to end March 2017 to rise to 22.7p the year after.
So, if you followed my earlier advice, I would run profits.