LandSec’s three-way Reits split unlikely to set a precedent
Land Securities’ announcement that it will split into three sector-focused specialist companies is unlikely to signal the demise of generalist UK Reits. Other large Reits, such as Hammerson and British Land, have indicated that they will not pursue the specialist route. However, now that their share prices have come under significant pressure, many UK Reits will have to reconsider their structures and strategies, making Land Securities an interesting market test case.
"If UK Reits want to be serious it will be difficult to buck the trend of specialization," says Chris Jolly, managing director of corporate finance at Jones Lang LaSalle in London. "Many see more value in the constituent parts than in the whole, and specialist Reits have performed slightly better than the large diversified ones."
For Land Securities, the decision to move ahead with its demerger marks the continuation of plans it put in motion three years ago before converting to a Reit. In 2004, the company exited industrial property and abandoned the structure dividing it into asset management, development and outsourcing divisions. It then implemented a structure focused on retail, London and property outsourcing that now will make up the three demerged entities.
At the root of the decision to demerge is the idea that three specialist Reits will be easier to value. With their own balance sheets, the companies should be able to better manage their businesses through the real estate cycle and will have more currency for corporate and asset acquisitions.
"The company is now valued as a sum of its parts, which makes it harder to use shares for acquisitions," says Donal McCabe, Land Securities’ head of communications. "After the demerger, investment decisions will have a greater impact on the share price."
Having three demerged companies should put each in the position to attracted inflows from global real estate funds by giving investors more of a choice of where to put their capital. McCabe could not put an exact date on the demerger’s completion but said it could take more than a year.
The issue of whether UK Reits are better off following the specialist route rather than being large diversified entities was being debated even before property companies converted. Now that UK Reits’ share prices have been battered and many are trading at a 30% discount to net asset value, the question of what to do to improve performance has surfaced.
Traditionally Reits are stocks that yield high income and high dividends. So far this has not been the case in the UK, where the property companies converting to Reits have never been high dividend yielders. They work on a total-return model and their levels of gearing and exposure to development reflect their business model of seeking capital growth. The added factor of the launch of UK Reits coinciding with more challenging conditions in the commercial property market, when driving capital growth was going to be more difficult anyway, and has left the fledgling sector vulnerable.
"There is a more fundamental question about whether UK Reits are going to have to revise their basic business models in terms of what kind of property investment vehicles they’re going to be," says Peter Damesick, head of research at CB Richard Ellis in London. "Are they going to be more like Reits in other markets? I think that will have implications for their levels of gearing and it may have implications for their levels of development exposure. It certainly does have implications for the level of dividend income yield they’re capable of throwing off."
For the moment dividend yields are looking better. But that’s only because the market, by driving down the share prices, has de facto increased them. Experts agree that there is no quick fix for UK Reits. The sector is going to need to change.
"The thoughts certainly are there," says Damesick. "The problem may be that the current market environment is not particularly helpful to the undertaking of the necessary restructuring, which will probably take some time."