As the importance of logistics to businesses, especially to retailers, has increased, so has the size and complexity of the warehouses involved. These are no longer just buildings where bulk orders are broken down for delivery to local outlets. Retailers want to avoid missed sales because shelves are empty or items have sold out and this requires them to have sophisticated stock control and reorder systems that connect outlets, warehouses, suppliers and central accounting. In addition, the warehouses need to deliver directly to customers or pick-up points, in order to fulfil growing numbers of mail and online orders.
All this necessitates the use of huge warehouses, usually over 500,000 square feet, filled with expensive machinery for automated storage, picking and packaging. The cost of this machinery usually far exceeds that of the building itself. What's more, these warehouses, described by Colin Godfrey, chief executive of logistics investment company Tritax (LSE: BBOX), as "big boxes", have to be located next to major roads to minimise the travel time for lorries and vans. They don't win prizes for their architecture, but they are functional, efficient and their tenants depend on them.
Tritax was floated on the stockmarket in late 2013, when it raised £200m to invest in these properties. It has since raised another £1bn and is now proposing to secure a further £200m via a placing to institutional shareholders, open offer to existing holders and offer for subscription to new ones (the offer closes on 9 May through most stockbrokers). This will finance the expansion of an estate that at the end of 2016 comprised 35 assets totalling 18 million sq ft of space.
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New investments are built from scratch, forward-funded and pre-let, which removes the risk of empty buildings. The rental agreements provide for an initial yield averaging 5.7%, regular rent reviews and long leases (the average is over 15 years). Tritax is only responsible for the buildings, not the equipment that goes into them, which makes it very difficult and expensive for the clients to move, even when leases expire.
Rent reviews, based on inflation or market rents, are expected to increase at a compound 3% for the next five years. There are also opportunities to add value from new construction, lease extensions and add-ons, such as solar panels on roofs. This is important, as the yield of the portfolio on current valuations (as opposed to original cost) is only 4.9%, before management costs of just over 1%. Hence the portfolio return is boosted by judicious use of debt. The average cost of borrowings is below 3%, and the average maturity of debt is being increased, standing now at over five years.
The total return last year was 9.6%, of which 3.5% was the gain in net asset value (NAV). An annual net return of 7%-10% looks sustainable for the next five years. At 140p, the shares trade at an 8.5% premium to the NAV of 129p. The offering of new shares at 136p provides an opportunity to buy at a 5.4% premium, and on a prospective dividend yield of 4.7%, likely to grow at over 3% annually. This represents good value, despite the risk involved in rapid expansion. The buildings are all in prime sites, of which there is a limited supply, and are fully let for years to come.
The outlook for the industry is very favourable, says Godfrey, with the changing structure of retail having a profound effect on the logistics market. Demand for new space exceeds supply, helped by barriers to new entrants, and there is no speculative development currently under way for warehouses of over 400,000 sq ft. The shares should continue to deliver steady, high-single-digit returns, including a yield rising comfortably ahead of inflation.
Max has an Economics degree from the University of Cambridge and is a chartered accountant. He worked at Investec Asset Management for 12 years, managing multi-asset funds investing in internally and externally managed funds, including investment trusts. This included a fund of investment trusts which grew to £120m+. Max has managed ten investment trusts (winning many awards) and sat on the boards of three trusts – two directorships are still active.
After 39 years in financial services, including 30 as a professional fund manager, Max took semi-retirement in 2017. Max has been a MoneyWeek columnist since 2016 writing about investment funds and more generally on markets online, plus occasional opinion pieces. He also writes for the Investment Trust Handbook each year and has contributed to The Daily Telegraph and other publications. See here for details of current investments held by Max.
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