Ground Rents Regulatory News (GRIO)

28 June 2019

GROUND RENTS INCOME FUND PLC

("GRIO" or the "Company")

HALF YEAR RESULTS FOR THE SIX MONTHS ENDED 31 MARCH 2019

Ground Rents Income Fund plc (LSE: GRIO), a listed real estate investment trust (REIT) investing in UK ground rents, today announces its unaudited half year results for the six months ended 31 March 2019.

Key Highlights

· Portfolio value of £125.2 million (30 September 2018: £127.5 million)

· Net assets of £109.9 million (30 September 2018: £113.2 million)

· NAV per ordinary share of 113.24 pence (30 September 2018: 116.65 pence)

· Revenue of £2.7 million (H1 2018: £2.6 million)

· Loss before tax of £1.4 million (H1 2018: £5.0 million), including £2.6 million revaluation loss (H1 2018: £6.6 million)

· Basic loss per share of 1.45 pence (H1 2018: 5.18 pence)

· Diluted loss per share of 1.45 pence (H1 2018: 1.45 pence)

· Two interim dividends paid of 0.98 pence per share for period to 31 December 2018 and 0.98 pence per share for the period to 31 March 2019

Malcolm Naish, Chairman of the Board, said:

"We believe the long-term and inflation-hedged revenues generated by the Company's underlying portfolio should support sustainable returns during an anticipated period of greater economic and political uncertainty.

"The Investment Manager and broader industry are continuing to engage constructively with the government to address concerns regarding leasehold practices. While the final outcome of leasehold reform remains uncertain, we remain confident that institutional management of ground rent assets on fair terms offers the best long-term outcome for consumers and other stakeholders."

James Agar, Head of Residential, Schroders, Investment Manager to GRIO, added:

"The valuation reflects weaker market sentiment which can be attributed to lower transactional volumes, the government's recent response to its own consultations and the subsequent review of residential leasehold law by the Law Commission.

"The current government proposals under consultation are not retrospective, but there is a stated desire from policymakers to make leasehold enfranchisement and extensions simpler, fairer and cheaper.

"Any reform of legislation impacting value would need to strike a 'fair balance' and would require sufficient compensation to be paid to landlords.

"The Company and the Investment Manager are committed to being a best-in-class operator in the leasehold sector and this is reflected in our commitment to the Public Pledge for Leaseholders."

The Half Year Report is also being published in hard copy format and an electronic copy of that document will shortly be available to download from the Company's webpage http://www.groundrentsincomefund.com/. Please click on the following link to view the document: 

http://www.rns-pdf.londonstockexchange.com/rns/7321D_1-2019-6-27.pdf

The Company has submitted a pdf of the hard copy format of the Half Year Report to the National Storage Mechanism and it will shortly be available for inspection at www.morningstar.co.uk/uk/NSM.

Contacts:

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I am pleased to present the unaudited interim results of Ground Rents Income Fund plc ('GRIO' or the 'Company') for the six months ended 31 March 2019.

Overview

The residential ground rent sector continues to experience challenging market uncertainty due to ongoing leasehold reform and this, along with low transaction volumes, contributed to a 1.8% decline in the value of the underlying portfolio. This dilution resulted in a 2.9% reduction in the net asset value ('NAV') to £109.9 million or 113.2 pence per share (30 September 2018: £113.2 million or 116.6 pence per share). Dividends totalling 1.96 pence per share, or £1.9 million, during the period resulted in a NAV total return of -1.3%.

The Investment Manager is engaging with the government and other stakeholders in the leaseholder reform process, most recently evidenced by the Company signing the government-backed Public Pledge for Leaseholders. This pledge formalises a commitment which we have already taken action on, as outlined in the Investment Manager's Report. The Company is also working proactively to resolve construction-related challenges, such as at Beetham Tower in Manchester, where legal and other third-party fees and expenses are diluting earnings.

Despite these challenges, the portfolio's underlying cash flows remain attractive in the current environment due to its high proportion of inflation-linked leases and the yield premium above fixed income investments.

Appointment of Schroders

Schroder Real Estate Investment Management Limited ('Schroders') replaced Brooks Macdonald Funds Limited as the Alternative Investment Fund Manager ('AIFM' or the 'Investment Manager') for the Company on 13 May 2019. The Board is pleased the appointment retains the experience of the existing management team, while combining with Schroders' broader real estate expertise to support complex situations such as managing the impact of Carillion's liquidation and related litigation at Beetham Tower in Manchester.

Schroders' appointment is for an initial period of three years following which the termination notice period will be one year. Schroders is paid a simplified, transparent, tiered fee of 1.0% per annum of NAV up to £200 million, payable quarterly in arrears. The fee will be 0.9% per annum of NAV above £200 million up to £400 million and 0.8% per annum of NAV above £400 million. For the initial twelve-month period, the fee will be 0.9% of NAV with the potential to increase this up to 1.0% of NAV subject to delivering income-enhancing initiatives. The Board believes the revised fee structure is in line with comparable real estate funds and aligns Schroders' remuneration to long-term shareholder value.

As part of the mandate transfer, the Company announced a review of the strategy to determine the best course to maximise sustainable shareholder total returns, including a review of the dividend policy.

The Company will report the findings of the review to the market in due course.

Corporate governance

As previously announced, Simon Wombwell intends to resign as a Director following the appointment of Schroders. The exact timing will be determined by the appointment of a new independent director for which a search has commenced but will be no later than 30 September 2019. The Directors will continue to take appropriate measures to ensure that the Company appropriately complies with the UK Code on Corporate Governance taking into account, among other things, the size of the Company and the nature of its business.

Debt

The Company has bank debt funding provided by Santander UK plc ('Santander') of £19.5 million at a composite fixed interest rate of 3.37% maturing in November 2021. The loan-to-value of the assets charged to Santander of 29.5% compares with the Group's consolidated net loan-to-value ratio at 31 March 2019 of 11.1% (30 September 2018: 10.7%). The terms and cost of debt will be reviewed as part of the ongoing Company review.

Outlook

We believe the long-term and inflation-hedged revenues generated by the Company's underlying portfolio should support sustainable returns during an anticipated period of greater economic and political uncertainty.

Since the year-end results, the Investment Manager and broader industry have continued to engage constructively with the government to address concerns regarding leasehold practices. While the final outcome of leasehold reform remains uncertain, we remain confident that institutional management of ground rent assets on fair terms offers the best long-term outcome for consumers and other stakeholders.

The Company's Unaudited Net Asset Value ('NAV') as at 31 March 2019 was £109.9 million or 113.2 pence per share ('pps') compared with £113.2 million or 116.7 pps as at 30 September 2018. This reflected a decrease of 3.5 pps or 2.9%, with the underlying movement in NAV set out in the table below:

The independent portfolio valuation as at 31 March 2019 of £125.2 million represented a decrease in value of £2.3 million or -1.8% compared to the 30 September 2018 valuation. The like-for-like decrease, after adjusting for a small acquisition, was £2.6 million or -2.0%.

The valuation reflects weaker market sentiment which can be attributed to lower transactional volumes, the government's recent response to its own consultations and the subsequent review of residential leasehold law by the Law Commission.

During the period the Company paid two dividends totalling £1.9 million or 1.96 pps, reflecting dividend cover of 63% (H1 2018: 83%). Dividend cover excluding costs incurred in connection with the litigation at Beetham Tower in Manchester was 94% (H1 2018: 88%).

Market overview

Residential ground rent transactional volumes remain low and this is thought to be at least in part due to continuing uncertainty relating to leasehold reform. The current government proposals under consultation are not retrospective, but there is a stated desire from policymakers to make leasehold enfranchisement and extensions simpler, fairer and cheaper.

In the Company's view, any reform of legislation impacting value would need to strike a fair balance and would require sufficient compensation to be paid to landlords, to be compliant with Article 1 of the First Protocol to the European Convention on Human Rights, as previously asserted in its submission to the government's consultation on this topic.

In contrast, commercial ground rents have become increasingly popular over the past 12-24 months, experiencing strong demand from institutional investors seeking long-dated, inflation-proof income streams. In this environment, the average net initial yield for commercial ground rents was 2.6% in 2018, 20 basis points lower than in 20171.

The annual retail prices index ('RPI') slowed to 3.0% in April 2019 from a peak of 4.1% at the end of 2017. Most of the deceleration has been due to the fading impact of sterling's depreciation in 2016, which followed the UK's vote to leave the EU. 

There are a number of potential factors that will influence inflation, including commodity prices, trade wars, Brexit and currency fluctuations. The Company remains well hedged to inflation with approximately 70% of the portfolio ground rent reviews being index-linked. It is also worth noting that inflation-linked gilt yields fell from -1.7% to -2.2% over the period2, increasing the yield premium offered by the Company's underlying portfolio.

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1 Source: Knight Frank

2 Source: Domestic bond Gilt 0.125r 22mar2029 (ISIN: GB00B3Y1JG82)

Portfolio overview

As at 31 March 2019 the portfolio comprised approximately 19,000 ground rent units across approximately 400 assets valued at £125.2 million. The portfolio produces a ground rent income of £4.79 million per annum, reflecting an average Years Purchase ('YP') of 26.1 or a gross income yield of 3.8%. The median annual ground rent charge is £110 for houses and £250 for apartments (excluding student assets). During the period the Company acquired one asset in Manchester for £270,000.

The portfolio's weighted average lease term as at 31 March 2019 was 345 years, with 93% of the ground rent income subject to indexed or fixed increases. This is broken down in the table below and, for illustrative purposes only, if the RPI were to be 3.0% per annum over the next 10 years, the like-for-like portfolio ground rent income would increase by approximately 2.6% per annum.

During the six months to 31 March 2019 1.8% of ground rents were subject to review which realised an average uplift of 12%. This increased portfolio-level ground rents by 0.2%.

The rent review profile is shown in the table below with 42.4% of the ground rent income due for review over the next five years:

The portfolio comprises residential apartments, houses and commercial units with median ground rents as summarised below:

The top 10 assets represent 29.1% of the total portfolio valuation as at 31 March 2019:

The geographic spread of the portfolio as at 31 March 2019 is shown in the chart below:

Leasehold reform

The Investment Manager continues to engage with the Ministry of Housing, Communities and Local Government (MHCLG), the Law Commission and other policymakers regarding potential reform of the leasehold sector. Reform activity has been ongoing since the government's consultation was announced in 2017. The government and the Law Commission have, at various times, emphasised that any potential legislative reform will be subject to both economic impact assessments and a requirement that 'fair' or 'sufficient' compensation be paid to landlords.

Schroders and the Company welcomed the government's aims to reform and simplify many aspects of leasehold legislation as we recognise the need for a system that delivers a more equitable, transparent and better service for homeowners. Institutional landlords have the expertise, resource and experience needed to provide the required risk, governance and health and safety oversight.

The Company and the Investment Manager are committed to being a best-in-class operator in the leasehold sector and this is reflected in our commitment to the Public Pledge for Leaseholders, outlined below.

The MHCLG Public Pledge for Leaseholders was published in March 2019 and signed by a large cross section of freeholders, housebuilders and developers, including the Company. Both the Board and the Investment Manager believe the pledge is an important step towards positive and transparent change in the leasehold sector and reflects the desire of the wider professional investor community to bring about meaningful, sensible and well-thought-out reform. The pledge is published in full on the MHCLG website:

www.gov.uk/government/publications/leaseholder-pledge/public-pledge-for-leaseholders.

The announcement committed the Company to initiatives that the management team, who have since transitioned to Schroders, was already implementing, including the eradication of onerous leases.

Onerous leases

Under the government's definition 'onerous leases' contain ground rents that double more frequently than every 20 years. The Company has proactively addressed this in its Asset Management Plan, announced in 2017, which offers in-scope leaseholders with a doubling rent review mechanism of any review cycle a simple deed of variation to amend that review to the lesser of doubling or RPI on the same cycle.

The Asset Management Plan involves 2,855 residential units with doubling review patterns from 10 to 50 years across 42 properties:

Leaseholders at 434 of the apartments across the in-scope properties have expressed an interest in a lease variation. Of these, 91 have formally completed the process, with the necessary documents having been registered at HM Land Registry.

As part of the abovementioned Public Pledge for Leaseholders, information regarding the doubling ground rent offer has been made publicly available on the Company's website.

Property management

Health and safety compliance is a key focus, and we assess our own and suppliers' performance against best practice and legislation. We also work closely with our insurance broker, Lockton, to maintain effective oversight of health and safety. Finally, a comprehensive health and safety management system was implemented in 2017 to actively monitor and audit required actions together with obligations under the relevant legislation.

Following a detailed review of the portfolio, one asset has been identified as having aluminium composite material (ACM) cladding and requires remedial works. This site has a formally-constituted Residents Management Company (RMC) within the lease structure which holds the insuring, repairing and maintenance obligations. Works have begun to remediate the site after a proposal was agreed with the developer, main contractor and local authority. Completion of the project is expected to occur in 2021.

There are three other sites requiring works to the façade and/or insulation, but which do not involve ACM cladding. We are actively engaged at each of these sites with the key stakeholders with the aim of achieving a positive outcome.

The ongoing remedial work at these four assets is the responsibility of their respective RMC's and should not therefore negatively impact the Company's NAV.

Beetham Tower, Manchester

On 1 February 2019 the Company announced the High Court judgment in connection with the case between the Company's wholly-owned subsidiary, North West Ground Rents Limited ('NWGR'), and Blue Manchester Limited ('BML'), a leaseholder operating a hotel at Beetham Tower in Manchester (the 'Building'), the principal freehold property asset owned by NWGR.

The principal basis of BML's claim related to the failure of the structural sealant on a number of shadow box units, forming part of the façade of the Building, and the question of whether remedial work carried out by Carillion Construction Limited prior to its liquidation had kept the building in good and substantial repair.

The court found in favour of BML in determining that the Building was in disrepair and granted an order for specific performance that permanent remedial works be designed and implemented within 18 months of the judgment date. The court also determined that BML was entitled to related damages that are still to be quantified.

Due to the legal action and uncertainty of its outcome in September 2018, the value of the Building was reduced to £100,000 in the accounts of NWGR. NWGR continues to pursue Carillion's insurers and sub-contractors under collateral warranties. NWGR has no external third-party debt and is ring-fenced from the wider group.

During the period, NWGR incurred costs of approximately £1.1 million in relation to the judgment and will incur further sums as part of seeking to comply with the judgment timetable. NWGR is reliant on the financial support of the Company as its parent to finance further legal action and any decision on future funding requests will have appropriate regard to shareholders interests together with the interest of other stakeholders.

Responsible and positive impact investment

Corporate social responsibility is key to our long-term future business success. A successful sustainable investment programme should deliver enhanced returns to investors, improved business performance for leaseholders and deliver tangible positive impacts to local communities, the environment and wider society.

Following the appointment of Schroders as the Company's Investment Manager, the Company will seek to incorporate 'positive impact' investing within the strategy and activities of the Company.

Finance

The Company has bank debt funding provided by Santander of £19.5 million at a composite fixed interest rate of 3.37% maturing in November 2021. The loan-to-value of the assets charged to Santander of 29.5% compares with the Group's consolidated net loan-to-value ratio of 11.1%. The table below shows the Santander loan position at the end of the period.

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3 Loan balance divided by Santander secured portfolio bank valuation as at 18 March 2019.4 For the quarter preceding the Interest Payment Date (‘IPD’), ((rental income received – void rates, void service charge and void insurance)/interest paid).5 For the four quarters following the IPD, ((rental income to be received – void rates, void service charge and void insurance)/interest paid).

Outlook

Despite headwinds relating to regulatory reform, we believe the underlying portfolio offers well-secured, long term, inflation-linked income that should remain attractive to investors in a low interest rate environment.

The change of manager provides an opportunity to undertake a review of the strategy and portfolio with the Board to determine the best course to maximise sustainable shareholder total returns. The results of this review will be announced in due course.

James Agar

Schroder Real Estate Investment Management Limited

26 June 2019

There is no other comprehensive income for the period.

The accompanying notes from pages 17 to 23 form an integral part of the unaudited interim consolidated financial statements.

The accompanying notes from pages 17 to 23 form an integral part of the unaudited interim consolidated financial statements.

The unaudited financial statements on pages 12 to 23 were approved and authorised for issue by the Board of Directors and signed on its behalf by:

The accompanying notes from pages 17 to 23 form an integral part of the unaudited interim consolidated financial statements.

The accompanying notes from pages 17 to 23 form an integral part of the unaudited interim consolidated financial statements.

1. General information

Ground Rents Income Fund plc ('the Company') is the parent company of a group of companies which operate a property investment and rental business. The Company's primary activities are set out in its last annual report and financial statements for the financial year to 30 September 2018. A copy of the statutory annual report and financial statements has been delivered to the Registrar of Companies.

The Company is a closed-ended real estate investment trust ('REIT') incorporated in England and Wales and is listed on the International Stock Exchange ('TISE') and the SETSqx platform of the London Stock Exchange.

2. Accounting policies

Basis of preparation

These unaudited consolidated results are for the six months ended 31 March 2019. They have not been prepared in accordance with IAS 34 Interim Financial Reporting. They do not include all of the information required for full annual financial statements and should be read in conjunction with the consolidated financial statements of the Company for the year ended 30 September 2018.

The information in this announcement does not comprise statutory financial statements within the meaning of section 434 of the Companies Act 2006. The Company's financial statements for the financial year ended 30 September 2018 have been reported on by the auditors and delivered to the Registrar of Companies. The report of the auditors was unqualified and did not draw attention to any matters by way of emphasis. They also did not contain a statement under section 498(2) or (3) of the Companies Act 2006.

The Company continues to adopt the going concern basis in preparing its consolidated interim financial statements. This financial information for the half-year ended 31 March 2019 has neither been audited nor reviewed. The financial information was approved by the Board on 26 June 2019.

Standards, interpretations and amendments to published standards that are effective for the first time

The following standards, amendments and interpretations endorsed by the EU were effective for the first time for the Company's 31 March 2019 period end and had no material impact on the financial statements:

- IFRS 2 (amended) - Share Based Payments

- IFRS 4 (amended) - Insurance Contracts

- IFRS 9 - Financial Instruments

- IFRS 15 - Revenue from contracts with customers

- IAS 40 (amended) - Investment Property

- IFRIC 22 - Foreign Currency Transactions and Advance Consideration; Annual Improvements to IFRSs (2014 - 2016 cycle)

Standards, interpretations and amendments to published standards that have been issued but are not yet effective

The following standards, amendments and interpretations were in issue at the date of approval of these financial statements but were not yet effective for the current accounting period and have not been adopted early. Based on the Company's current circumstances, the Directors do not anticipate that their adoption in future periods will have a material impact on the financial statements of the Company:

IFRS 16 - Leases (effective 1 January 2019) specifies how an IFRS reporter will recognise, measure, present and disclose leases. The standard provides a single lessee accounting model, requiring lessees to recognise assets and liabilities for all leases unless the lease term is 12 months or less of the underlying asset has a low value. Lessors continue to classify leases as operating or finance, with IFRS 16's approach to lessor accounting substantially unchanged from its predecessor, IAS 17.

3. Segmental information

The Company is mainly concerned with the collection of ground rent. The Company receives ancillary income to which it is entitled as a result of its position as property freeholder or head leaseholder.

All income of the Company is derived from activities carried out within the United Kingdom. The Company is not reliant on any one property or group of connected properties for the generation of its revenues.The Board is the chief operating decision maker and runs the business as one segment.

4. Finance costs

Loan set-up costs of £248,626 have been capitalised and deducted from the total loan amount outstanding. These costs are being amortised over 32 months to November 2021.

5. Investment Properties - Ground rents

The Company's investment in ground rents was revalued at 31 March 2019 by Savills Advisory Services Limited ('Savills'). The valuer has confirmed to the Directors that the fair value as set out in the valuation report has been primarily derived using comparable recent market transactions on an arm's length basis.

The valuer within Savills is a RICS Registered Valuer. The valuation of ground rents takes into account external factors such as interest rates and the availability of other fixed rate investments in the market.

6. Financial liabilities measured at amortised cost

The current loan facility is with Santander UK plc and has a termination date of 15 November 2021. The rate of interest payable on the loan is set in advance at 1.097% for the first tranche of £15m and 0.986% for the second tranche of £4.5m. Both of these rates are to subject to an additional 2.3% margin, giving the £19.5m loan a composite rate of 3.371%.

As at 31 March 2019, the loan facility was secured over assets held in group companies, namely Admiral Ground Rents Limited, Clapham One Ground Rents Limited, GRIF040 Limited, GRIF041 Limited, GRIF044 Limited, GRIF048 Limited, Masshouse Block HI Limited, Masshouse Residential Block HI Limited, North West Ground Rents Limited, OPW Ground Rents Limited, The Manchester Ground Rent Company Limited and Wiltshire Ground Rents Limited.

No security or guarantee exists in relation to the facility over any other group assets or assets within the parent company.

The loan facility includes loan-to-value of and interest cover covenants that are measured at a group level and the group has complied with all measures throughout the period. The group was in full compliance with all loan covenants at 31 March 2019.

7. Losses per share

Basic losses per share

Losses used to calculate losses per share in the financial statements were:

Diluted losses per share

Diluted losses per share is the basic losses per share, adjusted for the effect of contingently issuable warrants in issue in the period, weighted for the relevant periods.

8. Net asset value per ordinary share

The NAV represents the net asset value per share of the Company. The diluted NAV per ordinary share is calculated after assuming the exercise of all outstanding warrants.

9. Share capital

Resolutions were passed at an annual general meeting on 24 July 2012 to authorise the directors to allot shares up to an aggregate nominal amount of £65,000,000.

Warrants were issued for £nil consideration on the basis of one warrant for every five subscription shares in August 2012. Warrant-holders have the right to subscribe £1 per share for the number of ordinary shares to which they are entitled on 31 August each year following admission up to and including 31 August 2022. 294,297 warrants were exercised and issued in September 2018. At 31 March 2019 there were 4,423,976 warrants in issue.

10. Dividends

It is the policy of the Company to pay quarterly dividends to ordinary shareholders.

Since the period ended 31 March 2019, the Company has announced an interim PID dividend of 0.980p per share (£950,663).

11. Gross cash flows

12. Related party transactions

Transactions between the Company and its subsidiaries which are related parties, have been eliminated on consolidation. The captions in the primary statements of the Company include the amounts attributable to subsidiaries. All amounts due to or from subsidiary companies are interest free and repayable on demand.

Simon Wombwell is also a director of Brooks Macdonald Funds Limited which provided services to Ground Rents Income Fund plc during the financial period.

Brooks Macdonald Funds Limited provided investment management and administration services to the Company during the period as the Alternative Investment Fund Manager ('AIFM'), the fees for which were 0.55% per annum of the market capitalisation of the Company. In addition, Brooks Macdonald Funds Limited was entitled to an agency fee of 2% of the purchase price of any property acquired by the Company, where no other agency fee was payable. Where a third party agency fee was less than 2% of the purchase price, Brooks Macdonald Funds Limited was entitled to an agency fee of 50% of the difference between 2% of the purchase price and the third party agency fee.

Transactions between Brooks Macdonald Funds Limited and Ground Rents Income Fund plc during the financial period were as follows:

Amounts owing of £41,969 were due to Brooks Macdonald Funds Limited in respect of invoices issued in the period 1 October 2018 - 31 March 2019 at 31 March 2019.

As noted above, Schroder Real Estate Investment Management replaced Brooks Macdonald Funds Limited as AIFM on 13 May 2019.

13. Other financial commitments and contingencies

The Company has two ground rent acquisitions under contract where it has paid deposits of £83,000 which should complete on during the next twelve months.

In January 2019 a High Court judgment was handed down against North West Ground Rents Limited ('NWGR'), a wholly owned subsidiary of the Company. The damages associated with this judgment have yet to be determined in a separate hearing, for which a date has not yet been set.

NWGR continues to evaluate what the next actions and consequences of the judgment may be. NWGR is reliant on the financial support of the Company to finance further legal action and to comply with the judgment. The Company continues to review its own obligations in regard to NWGR and NWGR's obligations under the judgment.

14. Events after the date of the accounts

Schroder Real Estate Investment Management Limited ('Schroders') were appointed as the new Company Alternative Investment Fund Manager ('AIFM'), replacing Brooks Macdonald Funds Limited on 13 May 2019. For the initial twelve-month period, the fee will be 0.9% of NAV with the potential to increase this up to 1.0% of NAV subject to delivering income-enhancing initiatives.

Upon completing the purchase of a property which has been introduced by Schroders, and for which no third-party introductory fees are payable, Schroders will be entitled to receive an acquisition fee of 1.0% of the acquisition price.

All additional payments and commissions that were previously received by Brooks Macdonald Funds Limited in connection with managing the portfolio and providing services to occupier and long leaseholders will be received by Ground Rents Income Fund plc.

Five Guernsey registered group entities completed voluntary strike off in April 2019, following completion of a project to onshore Guernsey assets.