On 1 August, Palace Capital plc converted from an operating company into an investment trust that will pay out at least 90% of its income as dividends.
Ten years ago, Neil Sinclair and Chairman Stanley Davis bought and renamed Leo Insurance Services, a £108,000-market cap firm on London’s junior stock market, AIM, with plans to build a property company. Since then Palace Capital has raised over £130m from shareholders to fund acquisitions and developed a commercial portfolio now valued at getting on for £300m. Significant investors in the company include Axa Investment Managers and J O Hambro.
Having moved from AIM to the London Stock Exchange’s main market last year, the REIT conversion is the next step in Neil Sinclair’s plan to get to a market cap of £500m. Sinclair says the team had been weighing up the shift for two or three years, speaking regularly with advisers at Deloitte, before he was convinced that the timing was right and that the tax and profit advantages provided by REIT status would be worthwhile.
“Never mind Eurosceptics, I was a REIT sceptic,” he says. “Firstly, we thought we were too small. We wouldn’t have enough money. Secondly, because we bought companies that had losses in them, our tax bill was low. In consequence there was no real benefit to us in being tied to a REIT regime.”
You have to get bigger’, that’s what our shareholders are telling us. We’re working our socks off trying to do that.”
– Neil Sinclair
Now that the company is growing and focusing on bringing in new investors, it is the right time. Palace Capital’s analysts have welcomed the move, seeing the conversion as a positive step for the company by aligning itself with peers and supporting its determination to deliver strong total returns.
Kunal Walia of Arden Partners stated that he saw Palace Capital’s “proven track record” giving its shares the scope to trade closer to net asset value. At the time of his note, he said, they traded at a “significantly unjustified” 34% discount.
At Hardman & Co, Mike Foster believes the conversion is of “great significance” for shareholders, signalling a rise in earnings.
Non-executive director of Palace Capital, Mickola Wilson, anticipates the move bringing Palace Capital new sources of investment which it is expected will improve liquidity in the company’s shares.
“Some [investors] actually don’t invest outside of the REIT regime,” says Wilson, “It’s a familiar structure for them and so potentially there’s a broader investor base [for Palace Capital as a REIT] than there is at the moment.”
Palace Capital has often enlarged its portfolio by buying companies rather than individual assets. Its largest deal took place in 2017 when it paid £53.3m to buy RT Warren, a company with a portfolio of commercial and residential properties valued at the time at almost £72m.
Almost half of Palace Capital’s portfolio now comprises regional city centre offices, outside of London and its relatively low returns. “We buy, we refurbish, we develop,” Sinclair says. “And we increase [the properties’] values.”
After almost 10 years in business, the team at Palace Capital is ambitious for the next decade. “I see opportunity in doing more development, selectively, in good areas,” Sinclair says. “I see opportunity for us, in the right time to buy more companies.”
In the near term, there are challenges. The company made just one acquisition in its most recent financial year, spending £14m on One Derby Square, a retail and office property in Liverpool.
“What is most difficult at the moment is trying to find value, trying to find something where we can get a decent return,” Sinclair says. “We’re having to stretch far and wide and knock on more doors… At the moment we’re finding that a lot of properties are being withdrawn from the market, not actually being sold.”
Wilson adds: “We’ve got an overhang of expectation… There was a dislocation between owners and their expectations on valuation and what works from an investment or development point of view. That’s still there, that adjustment has still got to come. I think in the next year to 18 months there will be some painful adjustments.”
Mickola Wilson thinks that this could be Palace Capitals opportunity to shine as a REIT. She is encouraging the company to “get braver and be prepared to take a little more risk”, for example by demolishing a property and redeveloping rather than opting for a refurbishment. With that kind of approach, she adds, the company could take advantage of the “opportunities for the brave”.
“You have to work property harder,” Wilson says. “Even a company the size of Palace can’t pretend that they’re always going to be able to buy something cheap in a misinformed market; that isn’t a strategy. The strategy has to be: we’ll find things with upside opportunity. Every few years you see that stage in the cycle where the people who make money out of property are those who work very hard and can see those opportunities… That’s what Palace is.”