Derwent London Regulatory News (DLN)

11 August 2016

Derwent London plc ("Derwent London" / "the Group")

INTERIM RESULTS FOR THE HALF YEAR ENDED 30 JUNE 2016WELL PLACED IN THE MIDDLE MARKET

Summary and outlook

· First six months letting activity was our highest half year ever: 267,700 sq ft generating £16.7m pa

· Whilst the outcome of the EU referendum may lower activity, we have made good letting progress since 30 June: 112,600 sq ft achieving £4.6m pa

· Derwent London's portfolio is well placed with high quality design and middle market rental focus

· Estimated reversion of £151m pa at June 2016 should drive medium term earnings growth

· Future capital expenditure is focused close to Crossrail stations and has some flexibility

· We now estimate that our portfolio's ERV growth will be between 1 to 5% in 2016 and that investment yields may rise marginally in H2

Financial highlights

· EPRA1 net asset value per share increased by 1.8% to 3,598p from 3,535p at 31 December 2015

· Net rental income increased by 8.5% to £72.6m from £66.9m in the six months to June 2015

· EPRA1 adjusted profit before tax was £44.8m, an increase of 14.9% from £39.0m in H1 2015

· EPRA1 adjusted earnings per share were 37.13p, up 9.3% from 33.97p in H1 2015

· Interim dividend per share increased by 10% to 13.86p

· LTV ratio of 19.1% at 30 June 2016, and cash/undrawn facilities of £279m

Activity year to date

· Year to date lettings 5.4% above December 2015 ERV

· Four major developments and refurbishments completing 2016-2017 total 673,000 sq ft and are 58% pre-let with capital expenditure to complete of £84m

· Developments completing in 2019 total 620,000 sq ft with capital expenditure to complete of £338m

Property performance

· Underlying valuation uplift of 1.6% compared to 8.8% in H1 2015 and 7.1% in H2 2015

· Underlying valuation uplift on our four major projects was 3.4%

· Total property return of 3.1% compared to 2.8% for IPD Central London Offices Quarterly Index

· True equivalent yield rose by 6 basis points to 4.58%

· Estimated rental values increased by 4.1% compared to 5.2% in H1 2015 and 6.6% in H2 2015

· On average first half lettings have been 7.4% ahead of December 2015 ERV

· Our portfolio is 98% let on an EPRA basis with an average 'topped-up' central London office rent of only £43 per sq ft

 1Explanations of how the EPRA figures are derived from IFRS are shown in Note 21

Robbie Rayne, Chairman, commented:

"It is early days since the EU referendum but London remains a major global city with significant attractions and potential for the future. Derwent London has a flexible and dynamic business model and a strong balance sheet with low leverage which enables us to respond to changing economic conditions."

John Burns, Chief Executive Officer, commented:

"We have performed well in the first half with record lettings, recurring earnings up strongly and a 10% increase in the interim dividend. This momentum has been maintained into the second half with 112,600 sq ft let since June demonstrating the sustained demand for our high quality, mid-market rental space. Our four major schemes due to be delivered over the next 18 months are now 58% pre-let."

Webcast and conference call

There will be a live webcast together with a conference call for investors and analysts at 09:30 BST today. The audio webcast can be accessed via www.derwentlondon.com.

To participate in the call, please dial the following number: +44 (0)20 3059 8125

A recording of the conference call will also be made available following the conclusion of the call on www.derwentlondon.com.

For further information, please contact:

Overview and outlook

Strong letting progress but slower capital growth in the first half

We have performed strongly in the first half, converting good occupier demand into lettings of 267,700 sq ft which will generate rents of £16.7m pa. Although activity slowed marginally in Q2, the first half produced our highest ever lettings in a six month reporting period. On average these lettings were 7.4% above December 2015 estimated rental values (ERV).

The latest portfolio valuation, timed just seven days after the EU referendum, showed capital growth slowing to 1.6% in the first six months. Growth came from the 4.1% increase in ERV's and progress on our advanced developments. This was offset by a small outward yield shift and widening prospective margins on our early stage projects. The valuers caution that the valuation is based on the limited transactional evidence available since the EU referendum and that it is too early to gauge the vote's full impact.

Focus is on positioning and performance after the EU referendum

Understandably our focus is now on the outlook for the UK economy and the London office market. We recognise that, in the short term, political and economic uncertainty is likely to lower demand and that the long term ramifications of this significant vote are unlikely to be known for some time. However, today there is limited office space available and we believe our well-designed middle market rental product is particularly well positioned for a more cautious market. This is coming through in the lettings and enquiries achieved thus far in the second half.

Despite a changing background and the expectation of lower activity, we believe that the business remains well placed. The majority of the office portfolio is let at undemanding rents (averaging £43 per sq ft on a 'topped-up' basis). Average lease lengths are 6.8 years (8.1 years including pre-lets), and our EPRA vacancy rate is very low at 2.0%. Our exposure to London's financial sector is modest at just 2.3% of June rental income. Taking current market conditions into consideration, we have lowered the rental growth expectations on our portfolio in 2016 to 1-5%, and believe that investment yields could rise marginally in response to lower growth, although this move may be mitigated by falling bond yields.

Income growth prospects remain good and we have flexibility on development timing

We identified the prospect of lower capital growth earlier in the year. The focus now is on capturing our significant reversion and growing recurring earnings while continuing to bolster returns through value creation activities across the portfolio.

We have continued to capture reversion in H2 as our letting strategy is going well. On 23 June we had c.113,000 sq ft of space under offer. Since then we have let all of this, securing rents of £4.6m pa. There is further space under active negotiation. This post referendum activity demonstrates that London remains 'open for business'.

Our future capital expenditure divides into three categories:

· The first is our advanced developments and refurbishments due for completion in the next 18 months which have an ERV of £42.7m and where there remains c.£125m of capital expenditure to complete. These include White Collar Factory EC1, The Copyright Building W1, The White Chapel Building E1 and 20 Farringdon Road EC1 which are 58% pre-let.

· The second category is the early stage developments which comprise our major schemes at 80 Charlotte Street W1 and Brunel Building, Paddington W2. Both projects are due to be delivered in 2019. Together these comprise the bulk of our future capital expenditure at £338m, and also a significant part of our reversion representing £41.2m of ERV. There is some flexibility with the timing of the Paddington scheme, which could be slowed down or even deferred if necessary.

· The final category is preparatory work on consented schemes and appraisal studies. These are properties that are predominantly income producing, where there is no intention to commit to schemes for now. This comprises 13% of our portfolio by area.

Strong financial base

All this activity is built on a robust financial base. Following the drawdown of the US Private Placement monies in May 2016 the average longevity of our drawn debt at 30 June 2016 was 7.7 years with an average interest rate of 3.65% pa on a cash basis. At the same date we had cash and undrawn bank facilities of £279m, a low loan-to-value ratio of 19.1% and strong interest cover. We have no significant debt due for repayment until 2019.

The London office market is likely to face a number of challenges in the next few years, but London remains a major global city with significant economic and cultural attractions. It has also shown an ability to adapt to take advantage of events and economic trends. In recent years we have highlighted the flexibility of our regenerated buildings, and this applies to our business model too.

Central London office market

We regard London office occupier demand as the most important measure of the health of our real estate market. The result of the EU referendum and the ensuing uncertainty is expected to lower demand levels. However, London is likely to remain an important and dynamic city with a number of inherent strengths which will continue to appeal to a wide range of international and domestic occupiers. Longer term, these attractions may be supported by new policies that the UK government introduces to mitigate any negative impacts of Brexit.

In the first six months of the year CBRE reported lower central London take-up at 5.5m sq ft. Against this background, central London's office vacancy rate has risen to 3.2% but remains low compared to historical levels. CBRE estimates that prime rents were either unchanged or marginally up in most London markets, with Victoria and Paddington seeing the strongest growth at 10% and 8%, respectively. JLL reported slightly higher active enquiries at 9.8m sq ft. However, we also need to consider longer term or potential demand. JLL has this falling to six million sq ft and, although this is 24% down from Q1, it is still 22% above levels recorded one year ago. It is how this develops over the next few years that will determine the medium term health of the central London office market.

Development activity in central London has been increasing with 1.7m sq ft of offices completed in the first half. There is currently another 13.0m sq ft under construction of which 45% is pre-let or under offer and all is due for completion by 2019. Adjusting for pre-lets there is currently 7.1m sq ft of speculative office space under construction, equivalent to an additional 3% of the central London office market. Over the same period CBRE estimates that there is another 13.3m sq ft that could be delivered. We expect that much of this potential supply will be delayed or reduced until the outlook for the London office market becomes more certain.

West End supply is lower with 2.5m sq ft under construction due for completion by 2019 of which 36% is pre-let or under offer. This is particularly relevant to our projects at 80 Charlotte Street W1 and Brunel Building W2. The current vacancy in the West End is 2.5%, and the speculative element of new supply under construction represents around 1.7% of the local market. CBRE estimates that there is scope for another 2.7m sq ft to be built in the West End by 2019.

Overall we believe our product and pricing remains attractive in this market. However we would expect rental momentum to slow in the second half and, as a result, we have lowered our rental growth estimate for 2016 from 5-8% to 1-5%.

The investment market, with £6.8 billion of transactions, was steady in the first half, but slackened ahead of the EU referendum and has been subsequently subdued. The diminished growth outlook has been cushioned to a degree by lower gilt yields and interest rates whilst weaker sterling is expected to attract overseas investors.

Overall our average unexpired lease length is 6.8 years, or 8.1 years allowing for pre-lets. The portfolio has a mix of long and short leases including a number of properties where lease terms have been aligned to allow potential development in the next few years. Given the changed outlook and the nature of our portfolio we now believe there is a risk that our property yields could widen marginally this year.

Valuation

The first half of 2016 saw good levels of occupier demand but a moderation of recent years' investment activity ahead of the EU referendum. The outcome of the vote increased market uncertainty and led to a hiatus in many property transactions. The Group's investment portfolio including joint ventures was valued at £5.2bn at 30 June 2016 only one week later. Accordingly, CBRE's valuation cautioned on the lack of up-to-date transactional evidence and stated that it was too early to gauge the impact of the 'leave' decision. It is encouraging that, in subsequent weeks, activity has started to return to the markets, as evidenced by our lettings.

The portfolio's valuation, after incorporating the recent Stamp Duty Land Tax rise, reflected an underlying increase of 1.6% for the six months. The first half surplus was £75.6m before accounting adjustments of £12.0m (see note 11) giving a total reported movement of £63.6m, excluding joint ventures. The main elements were centred on development returns, ERV movements and valuation yields.

First, the four developments where we are on site: White Collar Factory EC1, The Copyright Building W1, 80 Charlotte Street W1 and Brunel Building W2. These were valued at £591.0m and overall showed a 3.4% valuation increase, after adjusting for capital expenditure. White Collar Factory and The Copyright Building are well advanced and their values rose 8.7% to £327.0m, driven by strong pre-letting activity at rents above ERV. The other two developments, 80 Charlotte Street and Brunel Building, are at a much earlier stage and their combined value was down 2.5% to £264.0m as the valuers increased development margins.

Secondly, our strong first half letting activity led to good underlying rental growth of 4.1% across the portfolio. However this is lower than the previous two six month periods: 6.6% in H2 2015 and 5.2% in H1 2015. Finally, valuation yields were generally flat on properties let on longer leases but there was a small outward movement on the shorter let properties. Overall this translated into a marginal 6 basis points outward equivalent yield movement in the first half. On an EPRA basis the true equivalent yield moved out from 4.52% to 4.58%. The initial yield was 3.1% rising to 3.8% on a 'topped-up' basis, after contractual rental uplifts and rent free periods. The reversionary yield was 4.7%.

By location, our central London properties, 98% of the portfolio, increased by 1.6% with the balance, our Scottish holdings, up by 0.1%. Within central London the West End was up 1.8% and the City Borders properties, principally the areas in the Tech Belt, increased 1.2%. Overall the portfolio outperformed the IPD's Central London Offices Quarterly Index for capital growth which rose by 1.1% and the All UK Property Index which increased by 0.1% in the first six months.

Our annualised contracted net rent was £140.3m at 30 June 2016 and the portfolio's ERV was £291.1m. This reversion of £150.8m represented a 107% uplift and comprised a number of elements.

First, there were £46.0m of contracted rental uplifts, either from the expiry of rent free periods, minimum uplifts or pre-letting activity. Pre-letting income was £15.2m, up from £4.9m in December, principally from transactions at White Collar Factory and The Copyright Building.

Secondly, there was vacant and project space of £71.3m, of which £50.1m was from on-site developments. Of the balance, only £3.9m was available to occupy and £17.3m is undergoing refurbishment. The majority of the latter was in The White Chapel Building, where we have pre-let £2.7m since the half year.

The third component of the reversion was the £33.5m of potential uplifts from rent reviews and lease renewals to current market rents.

The portfolio's total property return was 3.1% over the half year. The comparable IPD index over the same period was 2.8% for central London offices and 2.5% for All UK Property.

Portfolio management

Our property management and letting teams are our eyes and ears on the ground. In the year to date we have let or pre-let 380,300 sq ft producing £21.3m pa of rents (£20.2m net of ground rents). This is an increase of 61% on our first quarter announcement on 5 May. On average current year lettings have achieved 5.4% above December 2015 ERV. We continue to see good occupier demand for our space, and have achieved increased rental levels in both the West End and Tech Belt. Our EPRA vacancy rate remains very low at 2.0%.

Principal lettings in 2016 year to date

1 Excludes reception area

These numbers incorporate 112,600 sq ft of new lettings in Q3 achieving £4.6m pa in rent. This included 31,900 sq ft of tired space at Monmouth House EC1 which was let at a low rent and gives us flexibility for redevelopment in 2020. This had been agreed prior to the EU referendum.

Good uplifts above ERV came with the lettings at our two major refurbishments, both due for completion in H2. Since we last reported we have secured four lettings at The White Chapel Building E1 at £45-49.50 per sq ft totalling £4.0m pa of rents. At 20 Farringdon Road EC1 we have pre-let 60% of the 88,000 sq ft refurbishment leaving 35,100 sq ft to be let with completion in Q4. In December 2015 these two projects, together with 34,000 sq ft at Network Building W1 (available Q3), had a potential ERV of £15.2m pa and were 11% pre-let, with capital expenditure to completion of £33m. They are now 44% pre-let with remaining capital expenditure of £14m.

In the first six months we completed lease renewals and rent reviews on 100,000 sq ft of space, increasing income by 40.6% to £4.5m pa, and on average achieved rents 10.6% above December 2015 ERV. In addition we regeared seven leases on 72,500 sq ft of space, increasing income by £1.1m pa to £3.8m pa, at levels 15.1% above ERV.

The largest single lease extension in the first half was at 60 Whitfield Street W1 where, in return for providing a capital consideration for refurbishment work to be carried out by the tenant, we extended the lease on this 36,200 sq ft property by 11 years to 2029. In addition the rent increased from £1.6m pa to £2.2m pa with a fixed increase to £2.4m pa in 2021. The tenant was granted a 29 month rent free period which in part covers the period during which the building is being refurbished. In the second half we have settled a rent review and regeared a major lease on 50,300 sq ft at 1 Oliver's Yard EC1. The rent increased from £1.4m pa to £2.3m pa and the lease was extended from 2018 to 2021, with a break on 17% of the space in 2018.

Projects

We have continued to make good progress on the four major projects in hand.

White Collar Factory EC1, with an ERV of £16.7m, is on course for completion later this year and is 56% pre-let. Our attention has been focused on the tower where we have pre-let first to part twelfth leaving the upper three floors and the lower rise properties around the new public realm available.

Our most significant single letting this year was the pre-let of the office element of The Copyright Building, Berners Street W1 to Capita at a rent, net of ground rent, of £6.5m pa. As well as achieving rental levels ahead of December 2015 ERV, we secured a 20-year lease with no breaks. The development cost is fixed with completion due in the second half of 2017. The remaining retail space has a net ERV of £0.9m.

Major projects pipeline

Demolition is underway at 80 Charlotte Street W1 and, during the period, we improved the planning consent. The revised scheme allows for 2.9 m floor to ceiling heights on the whole space, more efficient floor plates and significantly de-risks the construction process. We estimate the future capital expenditure on the scheme at £225m, with an ERV of £26.4m. Completion is expected in 2019.

Demolition work has finished at Brunel Building W2 and we expect to complete the ground works and basement box in H2 2017. We have various options, and so we will be monitoring occupier demand closely in the next few months to see whether to continue at the current pace, slow down or reduce development expenditure. A decision does not have to be made until later in 2016.

During the period we also received planning permission for 125,000 sq ft of offices and retail at Monmouth House EC1 opposite the White Collar Factory, and 280,000 sq ft of commercial and residential space at Balmoral Grove N7. At Monmouth House we have recently let the majority of this space with a break in three years. At Balmoral Grove a conditional sale contract has already been exchanged with a residential developer and this is expected to complete in the second half.

Investment activity

In the first half we made a single acquisition improving our holding at The White Chapel Building by acquiring the long lease on one of the lower ground floors. Since then there have been few buying opportunities for our preferred type of buildings. We await to see whether this will change in the second half and we remain alert to any attractive opportunities.

Principal acquisition 2016

1 Lower ground floor. Main building purchased in December 2015.

Financial review

As with most other UK property companies and REITs, we present many of our financial measures in accordance with the guidance criteria issued by the European Public Real Estate Association ('EPRA'). These measures, which provide consistency across the sector, are all derived from the IFRS figures in note 21 to this interim report.

EPRA net asset value per share increased to 3,598p from 3,535p in the six months to 30 June 2016. This 1.8% increase was much lower than in recent half years, the positive effect of rental value growth and development profits offset by a small amount of yield expansion, the 1% increase in Stamp Duty Land Tax (SDLT) applicable to most of our portfolio and the immediate reaction to the unexpected EU referendum result. Nevertheless, it still equates to an 11.5% increase over the year to 30 June 2016.

EPRA adjusted profit before tax for the half year to 30 June 2016 grew by a more substantial 14.9% to £44.8m from £39.0m for the equivalent period in 2015 and EPRA earnings per share increased by 9.3% to 37.13p per share compared to 33.97p in H1 2015. Gross property and other income increased to £101.4m from £91.1m in H1 2015 and net rental income was up to £72.6m from £66.9m in H1 2015 and £71.8m in H2 2015. Administrative expenses were £0.5m higher than in H1 2015 at £15.3m but the current period took account of a bonus under-provision last year of £0.9m. Our EPRA cost ratio, including direct vacancy costs, has decreased to 23.4% compared to 25.2% in H1 2015. Total finance costs have also declined to £13.9m; much of this movement was due to the amount of capitalised interest in relation to The White Chapel Building which was acquired as a vacant property in December 2015. Of the total interest capitalised in H1 2016 of £6.3m, £2.9m relates to this property alone.

Though most of our new lettings relate to developments and refurbishments and are therefore excluded from the calculation, like-for-like net rental income grew by 4.2% compared to H1 2015 and 2.7% compared to H2 2015. Note also that the net cash from operating activities fell to £29.5m in H1 2016 from £34.5m in the first half of last year due mainly to an enabling payment of £5.3m including SDLT to Capita's existing landlord. This payment, which is shown in the cash flow statement within 'property expenses', was an incentive to enable Capita to remain in their current office accommodation until The Copyright Building is ready for their occupation. Together with a further £1.3m which remains to be paid, this amount has been included in the balance sheet within 'other receivables' (note 14) and will be spread in the income statement over the 20-year term of the Capita lease.

The Group's property portfolio valuation date fell only a few days after the EU referendum and the valuation figures themselves are therefore subject to more uncertainty than normal. The revaluation surplus in the period to 30 June 2016 was £64.5m, plus a further £0.5m for the owner-occupied property at Savile Row, and allowing £12.0m for lease incentives. This uplift compares with a revaluation surplus of £361.0m in H1 2015 illustrating the change in market conditions since that time. The June 2016 valuation has taken the total portfolio fair value to £5.2bn including our share of joint ventures.

Capital expenditure for the half year increased to £100.8m, including capitalised interest of £6.3m, compared with a total of £61.2m in H1 2015. We anticipate incurring another £123m of capital expenditure in the second half of this year and about £193m in 2017. With cash and undrawn facilities of £279m at June 2016, a pipeline being de-risked by pre-completion lettings and c.£100m of property sales expected both in the second half of 2016 and again in 2017, this is a level of expenditure that we feel is comfortably affordable. The Group may consider a modest increase in borrowings in the future to help fund the development programme.

The Group's IFRS profit before tax was £98.5m for the six months to 30 June 2016, compared with £405.0m in H1 2015. This takes fair value movements into account and, as well as the property revaluations, includes a £12.8m negative mark-to-market impact from our interest rate swaps during the first half of 2016. This is a direct result of the falls in gilt and swap rates that have occurred in the six month period.

Financing and net debt

Net debt at 30 June 2016 increased by £96.9m to £1,008.6m from £911.7m at 31 December 2015. Excluding capital expenditure, we remained net sellers of properties though the figures were low. Only £12.0m was spent on property acquired in the period (The White Chapel Building lower ground floor) with a combined £17.7m proceeds raised from sales of trading and investment properties, mainly the apartments at The Corner House W1. As a result of capex, net asset gearing has increased a little to 24.8% at 30 June 2016 from 22.8% in December 2015 and 24.1% at 30 June 2015. As at June 2016, our loan-to-value ratio remained low at 19.1% and interest cover has improved again to 371% for the half year compared with 343% for H1 2015 and 362% for the whole of 2015.

The main financing activity in the first half of 2016 was the £105m drawn in May from a US private placement with three new institutional relationships, who we are pleased to welcome to the Group. Full details were provided with our 2015 year end results. We have also extended the maturity of our £75m unsecured revolving facility provided by Wells Fargo; this now runs to July 2021.

We have extended, at no cost, the maturity of a £70m interest rate swap from April 2019 to April 2023 thereby reducing the rate payable from 2.00% to 1.74% saving interest charges of £0.2m pa until April 2019. The £70m forward start swap has also been deferred to September 2016 at a cost of £1.2m.

As a result of these changes, we have extended our average debt maturities while managing to reduce slightly the overall interest rate that we pay on our debt. The position at 30 June 2016 is shown in the following table: 

Dividend

Continuing strong recurring earnings growth per share has enabled us to increase the interim dividend by 10.0% to 13.86p per share. It will be paid as a PID on 21 October 2016 to shareholders on the register as at 16 September 2016. In light of the current share price, we have decided not to offer the scrip alternative this time but our position will be reviewed in relation to the final dividend when there is greater clarity.

Statement of Directors' responsibilities

The Directors' confirm that, to the best of their knowledge, these condensed consolidated interim financial statements have been prepared in accordance with IAS 34 'Interim Financial Reporting', as adopted by the European Union and that the interim management report includes a fair review of the information required by Disclosure and Transparency Rules (DTR) 4.2.7 and 4.2.8, namely:

· An indication of important events that have occurred during the first six months of the financial year and their impact on the condensed set of financial statements, and a description of the principal risks and uncertainties for the remaining six months of the financial year; and

· Material related-party transactions in the first six months of the financial year and any material changes in the related-party transactions described in the last Annual Report.

The Directors are listed in the Derwent London plc Annual Report of 31 December 2015 and a list of the current Directors is maintained on the Derwent London plc website: www.derwentlondon.com. The maintenance and integrity of the Derwent London website is the responsibility of the Directors.

Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

On behalf of the Board

John D. Burns Damian M.A. Wisniewski

Chief Executive Officer Finance Director

11 August 2016

GROUP CONDENSED INCOME STATEMENT (UNAUDITED)

GROUP CONDENSED STATEMENT OF COMPREHENSIVE INCOME (UNAUDITED)

GROUP CONDENSED BALANCE SHEET (UNAUDITED)

GROUP CONDENSED STATEMENT OF CHANGES IN EQUITY (UNAUDITED)

GROUP CONDENSED CASH FLOW STATEMENT (UNAUDITED)