Europe’s real estate revolution
It is an age-old question: which is more important – beer or rent? The news that one of the UK’s pub groups is actively examining the merits of conversion to a Reit throws the potential of these vehicles wide open. But the concept faces significant hurdles in that it would require the UK government to accept that beer income is equivalent to rental income. Reit legislation dictates that 75% of taxable income must be derived from rental income.
In its interim results at the end of May, Enterprise Inns revealed that it was considering the move, but accepted that, though there were “significant barriers”, it was “worth further investigation”. The company is understood to have mandated Merrill Lynch to investigate the potential of conversion, but the US bank declined to comment.
Pub companies have significant real estate holdings – something that they have long been expected to exploit. The industry quickly embraced whole business securitization in the 1990s but has proved more reluctant to adopt the wholesale separation of real estate and operational business. Indeed, Karim Naffah, finance director at one of the UK’s largest managed pub chains, Mitchells & Butler, has stated that (in an environment absent of Reits) the sale of pub freeholds via sale/leasebacks is not something that he would consider: “Given the fact that pubs are generally valued as a multiple of sales and profits, capturing the asset appreciation from our successful trading for shareholders is a key part of our strategy.” Naffah says that the company might therefore consider Reits in future.
If a pub company was to convert to a Reit the logical move would be for the business to be split into two companies, with the real estate assets going into one, which then converts.
Such a move would only really be feasible for tenanted estates (such as Enterprise) as the beer/rent split on managed estates would be too weighted towards beer.
Enterprise Inns itself has £3.46 billion net debt, which includes fixed rate securitized bonds via the Unique Pub Company programme. These could certainly be refinanced more cheaply but this would involve breaking their Spens clauses. British Land has, however, done just this with its Werretown Supermarkets refinancings, so it would certainly be no surprise if Unique decided to do the same.
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