Arena REIT well positioned for growth

12 February 2021

Arena REIT has today announced a net operating profit for the half-year ended 31 December 2020 of $24.7 million, up 15% on the pcp.

The results were pleasing and reflect the recovery in the sector post the COVID lockdowns.

Commenting in respect of today’s announcement, Arena’s Managing Director Mr Rob de Vos said “I would like to acknowledge the efforts and achievements of our tenant partners and the Arena team over first half FY21 in delivering positive portfolio, investment and community outcomes. In an improved operating environment for our tenant partners, Arena’s portfolio has maintained 100% occupancy and collected 100% of contracted rent to 31 January 2021.”

Arena REIT manages a portfolio of 234 Early Learning Centres and 11 Healthcare Centres worth just over $1.0bn. Characterised by long term leases with predictable earnings, investors confidence in the sector has been strengthened as the hunt for yield continues.

Strong macroeconomic drivers continue to support the Australian ELC sector. Demand for services and record female workforce participation rate have been driving increased long day care participation rates over the medium to long term.

Financial Highlights

  • Net operating profit (distributable income) of $24.7 million, up 15% on the prior corresponding period (pcp)
  • Statutory net profit of $61.1 million, up 45% on pcp
  • Earnings per security (EPS) of 7.26 cents, up 1% on pcp
  • Distributions per security (DPS) of 7.35 cents, up 3% on pcp
  • Total Assets of $1,062.2 million, up 5% on 30 June 2020
  • Net Asset Value (NAV) per security of $2.32, up 5% on 30 June 2020

Portfolio Highlights

  • 100% portfolio occupancy maintained
  • 100% of contracted rent has been receipted for the period 1 July 2020 to 31 January 2021
  • Weighted average lease expiry (WALE) increased to 14.7 years
  • Portfolio valuation uplift of $35.3 million
  • Portfolio weighted average passing yield 6.13%
  • Continued to rollout the installation of renewable energy systems
  • Seven operating early learning centres (ELCs) and five ELC development sites acquired
  • Nine development projects completed
  • Three ELC properties divested at an average premium of 15.3% to book value
  • Development pipeline of 13 ELC projects at a forecast total cost of $74 million
  • Average like-for-like rent review increase of 2.6%
  • Portfolio contributes to increased levels of community access, inclusion and wellbeing

Government support was improved by the introduction of the Childcare Subsidy in July 2018 and strongly reinforced through various COVID-19 related funding commitments10 which is designed to:
1. Support the economic recovery from COVID-19 in the short term; and
2. Improve workforce participation, gender equality, women’s financial security and economic activity over the medium to long term

Key contributors to Arena’s HY21 result were income growth from contracted annual rent reviews, acquisitions and development projects completed in FY20 and HY21.

Earnings for Arena REIT in HY21 equated to EPS of 7.26 cents, up 1% on the pcp. Arena has paid DPS of 7.35 cents for the half-year, an increase of 3% on the pcp and re-affirms full year distribution guidance of 14.81 cents, an increase of 5.7% on FY20.

Statutory net profit for the half-year was $61.1 million. This was an increase of 45% on pcp predominantly due to higher operating profit, property valuation uplift, profits realised on the sale of divested properties and the positive revaluation of interest rate hedges.

Arena’s total assets increased by 5% to $1,062.2 million as a result of acquisitions, development capital expenditure and positive portfolio revaluation. The valuation uplift contributed to a 5% increase in NAV of 10 cents per security to $2.32 at 31 December 2020.

Portfolio occupancy was maintained at 100% and the portfolio’s WALE increased to 14.7 years following the acquisition of seven operating ELC properties with an initial weighted average lease term of 27.3 years and completion of nine ELC development projects with an initial weighted
average lease term of 20.5 years

Seven operating ELC properties were acquired for $40.4 million at an average net initial yield on total cost of 6.1%, with an initial weighted average lease expiry of 27.3 years. Three ELC properties were divested for $7.1 million at an average premium of 15.3% to book value.

Nine ELC development project were completed for $45.8 million at a net initial yield on cost of 6.7% with an initial weighted average lease expiry of 20.5 years, and five new ELC development projects were acquired.

The development pipeline now comprises 13 ELC projects with a forecast total cost of $74 million; $30 million of forecast capital expenditure remains outstanding. The weighted average initial yield on forecast total cost on completion of the development pipeline is 6.6%. Five of the projects are
due for completion in the second half of FY21, with the balance due in FY22

At 31 December 2020, Arena’s property portfolio comprised 234 ELC properties and development sites (86% of portfolio value) and 11 healthcare properties (14% of portfolio value). All 245 properties were revalued during HY21, with 41 properties independently valued and the remaining 204 at
directors’ valuation. A valuation uplift of $35.3 million was recorded, an increase of 3.9% from FY20. The portfolio’s weighted average passing yield firmed 9 basis points to 6.13%.

Annual rent reviews have been completed for 55.4% of portfolio income in HY21, with an average like-for-like rent increase of 2.6% over passing rent achieved. 25 market rent reviews from FY20 (representing approximately 8% of FY20 income) and 11 from HY21 remain unresolved as at 31 December 2020; market rent review outcomes are backdated to the original review date.

Arena reaffirms FY21 DPS guidance of 14.8 cents per security reflecting growth of 5.7% over FY20.

Mr de Vos said “Early learning and healthcare services are integral to economic recovery and improving Australian community outcomes. These important themes underpin Arena’s portfolio value proposition and investment objective of delivering an attractive and predictable distribution to investors with earnings growth prospects over the medium to long term.”

Our Views

Arena REITs is trading at a 30% premium to NTA which is surprising given the majority of their income is from the investment properties. The distribution yield from the REIT is equal to 4.9% based on todays price of $3.02. By comparison, Charter Halls’ Social Infrastructure REIT would deliver a distribution yield of 5.1% on todays price.

We favour Childcare assets at this point in the cycle. Childcare tenants receive on average 75% of their trading revenue from Government via the childcare subsidy scheme (supported by both Labor and Liberal governments) and they typically sign up to long term leases with predictable rental increases.

Chauvel Capital Partners (of which I am associated) have partnered with a developer of Childcare assets to deliver a series of Funds in the space. Fund 1 is forecast to provide a distribution yield of 8% per annum and a total return over 5 years of 11.4% – 14.5% net of fees. The Fund is illiquid so there is a natural premium for illiquidity.

Chauvel Capital Partners deliver these assets on a yield on cost of 6.8% (as compared to CQE at 6.2%). These metrics will outperform CQE as a result of Chauvel’s preferred delivery arrangements and target markets.