Wednesday 18 September 2019

Green man walking: a red light for Dublin real estate?

The move by property veterans Stephen Vernon and Pat Gunne to sell Green Reit has led to speculation they're calling the top

CBRE estimates that prime Dublin office rents remained unchanged at €700 a sq m and that the average rent is €106 a sq m for industrial property, but the for sale sign at Green Reit and Cairn share sales have caused a stir (stock photo)
CBRE estimates that prime Dublin office rents remained unchanged at €700 a sq m and that the average rent is €106 a sq m for industrial property, but the for sale sign at Green Reit and Cairn share sales have caused a stir (stock photo)

Dan White

Last week Green Reit put itself up for sale while the boss of housebuilder Cairn and several others sold shares. With the economic outlook becoming more uncertain are those in the know calling the top of the market?

On Monday, Green Reit said that, having "undertaken a comprehensive and carefully considered review", it was seeking a buyer for either the whole company or its property portfolio.

In 2013, with the property market on the floor following the 2008 crash, the then Government inserted a clause in that year's Finance Act permitting the establishment of real estate investment trusts. The advantage of Reits over other property companies was that so long as at least 75pc of their profits came from rents and that they paid out 85pc or more of their income as dividends to shareholders, they didn't have to pay either corporation profits or capital gains taxes.

While Irish Reit shareholders have to pay Irish tax on their dividends, overseas shareholders don't. When Reits were first introduced six years ago the idea was that they would, by providing overseas investors with a convenient and tax-efficient vehicle, attract foreign capital into the bombed-out Irish property market.

Following the enactment of 2013 Finance Act, three Reits floated on the Irish Stock Exchange. First out of the traps was Green Reit in July 2013. This was followed by Hibernia Reit in December 2013. The Irish Residential Properties Reit (IRES) became the third Irish Reit to float in April 2014. Between them the three Reits raised €1.56bn in equity and debt to pick up Irish property assets on the cheap. Hibernian alone raised a total of €710m in equity from its July 2013 IPO and a secondary offering in May 2014.

Net asset value per share at Green Reit has increased from €1.09 at the end of June 2014 to €1.83 by the end of December 2018. Over the same period, Green Reit has paid out a further 20.5 cent per share in dividends. For those Green Reit shareholders who bought in at the July 2013 IPO price of €1 a share or even the secondary offering price of €1.12 nine months later, that looks like a fairly healthy return.

Based on those numbers, someone who bought into either the IPO or the secondary offer is looking at an average annual return, including dividends, of more than 16pc.

Look again. While Green Reit has been successful at consistently pushing up both net asset value and dividends per share, this has not been reflected in the share price. Before last week's announcement, the share price had been trading at just €1.54, a 16pc discount to its asset value. And this wasn't something new. Green Reit has been trading at a significant discount to its net asset value for most of the past three.

Even after last week's announcement Green Reit shares were trading at €1.71. Still a near-7pc discount to net asset value.

Green Reit has a somewhat complicated corporate structure. In addition to a board consisting of chairman Gary Kennedy and five other non-executive directors, there is also an investment manager, Green Property Reit Ventures, which manages Green Reit's €1.48bn property on behalf of Green Reit.

Green Property Reit Ventures is chaired by Stephen Vernon and its chief executive is Pat Gunne. Both Vernon and Gunne are also non-executive directors of Green Reit - I told you this was complicated.

Green Reit paid the investment manager €7.8m in fees in the year to June 2018. This fee was paid in Green Reit shares, increasing Green Property REIT Ventures' shareholding in Green Reit by a further 5.1 million shares to 32.5 million shares, 4.65pc of the total. Green Property Reit Ventures is in turn 68pc-owned by Vernon and Gunne.

Stephen Vernon is a storied figure in the Irish property world. Almost uniquely among his contemporaries, the 67-year old emerged from the 2008 property crash not merely with his reputation intact but even further enhanced. In 2002, just before the Celtic Tiger entered its final manic phase, he took Green Property private. Then in 2016 he sold the Blanchardstown Centre to Blackrock for €950m - when one sees what Amazon has been doing to Irish retailing over the past three years that deal is looking better by the day.

Pat Gunne is no slouch either. He sold his estate agency, Gunne Commercial, to CBRE in 2007, ie just before Armageddon struck.

One could be forgiven for thinking that these guys can see around corners.

All of which means that the sight of a property company managed by such a shrewd pair putting itself up for sale is one that inevitably has market observers asking if they are calling the peak? What do they know that we don't?

Green Reit sources are adamant that the decision to put the company up for sale is not a case of Vernon and Gunne calling the top of the market. The point to the significant and enduring discount to asset value at which the share price has been trading. While most European Reits trade at a discount to asset value, the average is about 16pc, that discount falls to just 6pc when, as is the case with Green Reit, it has no retail property.

A further problem is that insurance companies and pension funds are at a regulatory disadvantage if they invest in property indirectly via Reit rather than directly by buying the property themselves. This is because under the EU's Solvency II regulations they must set aside more capital if they invest through a Reit instead of purchasing property directly.

So what could Green Reit do to narrow the gap between the share price and its asset value? It hired investment bank JP Morgan Cazenove to weigh up the options. These ranged from doing nothing, gearing up its balance sheet - Green Reit has gross borrowings of only €259m and net borrowings of just €214m, share buybacks, expanding into other segments of the Irish property market or overseas, pursuing mergers and acquisitions, or putting itself up for sale.

Did the decision to put itself up for sale signal that a predator had begun to stalk the company and Green Reit decided to get its retaliation in first? Company sources are adamant that this wasn't the case and that there had been no contact with potential bidders and no unsolicited interest.

What's indisputable is that the share price didn't budge before last Monday's announcement, when it instantly leapt by over 7pc. This almost certainly indicates that Green Reit played its cards very close to its chest and/or the absence of a stake-building predator.

Even so, with the Irish property market, particularly in Dublin, soaring to record levels, there will inevitably be those who will question the timing of the Green Reit decision. Research carried out by CBRE, one of Green Reit's advisers, shows that over 107,000 sq m of office space were taken up in Dublin in the first quarter - an all-time record. The best-ever first quarter take-up came after two consecutive years of record Dublin office take-up in 2017 and 2018. The Dublin industrial and logistics property market was also very strong in the first quarter with almost 96,000 sq m changing hands.

CBRE estimates that prime Dublin office rents remained unchanged at €700 a sq m (€65 a sq ft) and yields were 4pc in the first quarter. It reckons the vacancy rate was 5.4pc as against 6pc at the end of 2018.

For prime Dublin industrial property, CBRE estimates that the average rent was €106 a sq m (€9.85 a sq ft) and the average yield 5.1pc, both unchanged, in the first quarter.

However, while all may be well with the Dublin office, industrial and logistics market in which Green Reit operates, the fact that the for sale sign went up over the company just five days after the chief executive of Cairn, Michael Stanley, another director Alan McIntosh and Michael's brother Kevin offloaded shares in the quoted housebuilder, meant that the timing of the announcement was unfortunate to say the least.

Clearly, coming at a time when house price inflation is decelerating rapidly - average Dublin house prices rose by just 1.4pc in the year to February 2019 compared to an annual increase of 10.6pc in the year to February 2018 - the Cairn directors taking almost €23m off the table did not play well with investors.

Founded in 2014 by the Stanley brothers and McIntosh, Cairn raised almost €400m when it listed on the Stock Exchange in June 2015. Later that year it teamed up with US private equity outfit Lone Star to buy Project Clear, portfolio of distressed loans secured on almost 1,700 acres of residential property sites, from Ulster Bank.

Cairn-watchers argue that the share sales are best viewed as a venture capital play and that the Stanleys and, especially, McIntosh are now cashing in on the €18.5m of building land assets which they injected into the company.

Nothing to look at here, please move on folks. That may well be the case but, coming so near to Green Reit's decision to put itself up for sale, and with the housing market at least looking somewhat queasy, investors can't help but being concerned.

Unless one believes very strongly in coincidence, the sight of those in the know taking cash off the table, is rarely good for sentiment or share prices.

Sunday Indo Business

Also in Business