SMP.L Regulatory News (SMP)

Date of issue: 5 February 2019

LEI: 213800WMV4WVES8TQH05

ST. MODWEN PROPERTIES PLC

("St. Modwen" or "the Company")

Results for the year ended 30 November 2018

ST. MODWEN DELIVERS SOLID RESULTS WITH FOUNDATIONS LAID FOR FUTURE GROWTH

Mark Allan, Chief Executive of St. Modwen, commented: 

"2018 has been another positive year for us. With £529m of disposals, we made substantial progress on our objective to focus our portfolio on sectors with the best structural growth prospects and reduce our borrowings, whilst we continued to grow housebuilding volumes and industrial and logistics development activity. Despite the ongoing uncertainty in the wider UK economy, structural growth drivers in these two key sectors remain positive, so following the significant repositioning over the past 18 months, we are now well placed to deliver a meaningful improvement in our return on capital and earnings in the coming years."

Financial highlights

· NAV per share up 4.3% to 470.4 pence (2017: 450.9 pence).

· Total accounting return stable at 6.0% (2017: 6.0%) despite significant de-leveraging.

· Adjusted EPRA EPS up 7.5% to 14.3 pence (2017: 13.3 pence) despite major disposals.

· Total dividend for the year up 13.1% to 7.1 pence (2017: 6.28 pence).

· See-through LTV down 7.3ppt to 16.9% (2017: 24.2%).

Operational highlights

Strong progress in repositioning our portfolio towards sectors with the strongest growth prospects and in preparation to deliver further growth from the substantial opportunities in our pipeline.

· Prepared business for future growth:

o Sold £529m of assets, on average in line with book value, bringing total disposals since launch of new strategy 18 months ago to £814m; over 40% of initial portfolio.

o Sold over half of retail portfolio for £177m, less than 1% below book value, plus £48m of small assets; nearly double the £100-150m initially targeted for the year.

o Reduced see-through net borrowings by £151m to £237m, less than half the level it was 18 months ago (May 2017: £580m), reducing see-through LTV to 16.9% (2017: 24.2%).

· Accelerated industrial and logistics development:

o Increased committed pipeline from 1.0m sq ft to 1.5m sq ft since start of 2018, of which 87% will be retained with an ERV of £9.2m (start of 2018: £5.1m), 19% of which is let or under offer.

o Delivered 0.9m sq ft of new space, of which 0.3m sq ft was pre-sold and 0.6m sq ft retained with an associated ERV of £4.5m, 0.4m sq ft of which is let or under offer.

o Secured planning for 2.1m sq ft of new developments, taking total consented future pipeline to 8.1m sq ft with over £50m of ERV, providing clear opportunity to accelerate future development activity.

· Grown residential and housebuilding business:

o Delivered 22% growth in St. Modwen Homes volumes to 848 units sold (2017: 694 units) and increased margins to 14.4% (2017: 13.9%), in line with targets, driving 34.3% growth in operating profit to £31.3m (2017: £23.3m), with up to 25% volume growth and similar improvement in margins expected for 2019.

o Sold 49 acres of residential land to third-party housebuilders for £53m (2017: £56m) with at least a similar volume of sales expected for 2019.

· Leveraged regeneration activities:

o Released £141m of capital out of first phases of development at Longbridge and Swansea and completed latest phases of Swansea student accommodation and academic facilities.

o Prepared next phase of development at Swansea for delivery by 2021 and continue to enhance Longbridge vision ahead of employment-led next phase of development.

· Well-placed to deliver strong growth from existing pipeline and capital base, with meaningful improvement in return on capital expected and potential to broadly double adjusted EPRA EPS in medium term.

A presentation for analysts and investors will be held at 9.30am today at Numis Securities, 10 Paternoster Square, London, EC4M 7LT.

If you would like to attend, please contact Ellie Sweeney at FTI Consulting on +44 (0)20 3727 1622 or stmodwen@fticonsulting.com. A live webcast of the presentation will be available at www.stmodwen.co.uk and presentation slides will also be available to download.

Alternatively, details for the live dial-in facility are as follows:

(1) Reconciliations between all the statutory and non-statutory measures and the explanations as to why the non-statutory measures give valuable further insight into the Group's performance are given in notes 2 and 3 to the Group financial statements.

This announcement contains certain forward-looking statements. Forward-looking statements can be identified by the use of forward-looking terminology, including the terms "believes", "estimates", "anticipates", "expects", "intends", "plans", "goal", "target", "aim", "may", "will", "would", "could" or "should" or, in each case, their negative or other variations or comparable terminology. These forward-looking statements include all matters that are not historical facts. Forward-looking statements by their nature, involve risk and uncertainty because they relate to future events and circumstances. Actual outcomes and results may differ materially from any outcomes or results expressed or implied by such forward-looking statements. Any forward-looking statements made by or on behalf of the Company are made in good faith based on the information available at the time the statement is made; no representation or warranty is given in relation to them, including as to their completeness or accuracy or the basis on which they were prepared. The Company does not undertake to update forward looking statements to reflect any changes in its expectations with regard thereto or any changes in events, conditions or circumstances on which any such statement is based. Nothing in this announcement should be construed as a profit forecast.

CHAIRMAN'S STATEMENT

In 2018, we delivered solid financial results for our shareholders and a measurable increase in momentum in delivering on our focused strategy, built around our core purpose, 'Changing places. Creating better futures.' This purpose captures our regeneration heritage and acts as an important reference point for all our activities. In delivering on our purpose we aim to create value for all our stakeholders, be it delivering high-quality homes for our customers; our investment in creating new, flourishing communities; or the investment in our people.

One of our main goals in the year was to realise certain non-core asset disposals to accelerate investment in the growth areas of St. Modwen Homes and industrial and logistics development. The momentum in this is illustrated by the sale of £529m of assets, including more than half of our retail portfolio, a 22% increase in St. Modwen Homes volumes and an increase in our committed industrial and logistics pipeline from 1.0m to 1.5m sq ft.

Our financial results included a 4.3% increase in NAV per share, a 7.5% increase in adjusted EPRA EPS and a 6.0% total accounting return. Pleasingly, we also reduced our see-through borrowings to £237m, reducing our see-through LTV to 16.9%. Based on the revised dividend policy we announced last year, we will distribute 50% of our adjusted EPRA EPS as dividend, resulting in a total dividend for the year of 7.1 pence per share; a 13.1% increase on the previous year.

Board changes

As announced this time last year, after eight years I will step down as Chairman at the AGM in March 2019. In September, we announced the appointment of Danuta Gray as Chair Designate, who will take over as Chairman after the upcoming AGM. She brings a wealth of Board and leadership experience to St. Modwen, amongst others from her positions as a non-executive director of Old Mutual plc, Direct Line Insurance Group plc and the Defence Board of the UK Ministry of Defence, her role as Senior Independent Director of Aldermore Group plc and her previous role as Chief Executive of Telefónica O2 Ireland. I am confident the business will benefit greatly from her broad knowledge and experience in the ongoing development and delivery of our strategy.

People and culture

In my eight years as Chair of St. Modwen I have come to regard us as a unique enterprise. Our regeneration credentials are truly proven and not only provide us with a competitive advantage in acquisitions, but also fuel the continued delivery of our purpose. There are many examples of this, but for me the living testament to this is Longbridge, which has gone from a redundant car factory to a vibrant place to live, work, shop and study for thousands of people in 14 years and which still has further exciting development opportunities ahead.

In order to be successful, businesses need a clear purpose and an agile strategy, but to deliver on this they need engaged people, with the right skills and motivation. For people to remain engaged requires a positive, supportive culture and values, which can be felt on any encounter with any member of St. Modwen. I have had very many opportunities to observe this and I want to thank everybody for their valued contribution.

Prospects

In signing off as Chair in March, I believe St. Modwen should be justifiably proud for what has been achieved so far and the business is well placed for the future. The external environment is unsettled but following more than £800m of disposals over the past 18 months our financial leverage is low, whilst our pipeline is focused on two sectors which benefit from structural growth; regional housebuilding and industrial and logistics. The short-cycle nature of our projects provides flexibility, but building on our unique track-record and expertise we are confident we can continue to create value for all our stakeholders. As the prospects for St. Modwen are positive, I am pleased to hand over to my successor when the business is in such great shape and I wish the business every success in continuing to deliver on its purpose: Changing places. Creating better futures. 

CHIEF EXECUTIVE'S REVIEW

Overview

2018 has been a year of excellent progress for St. Modwen. In line with our expectations, it has been a year of focus, portfolio transition and growth. We sold £529m of assets, on average in line with book value, increasing our focus on sectors with the strongest structural growth prospects; we completed on 0.9m sq ft of industrial and logistics developments; we grew St. Modwen Homes volumes by 22%; and we reduced our see-through net borrowings by 39%. The combination of all this has strengthened our asset and capital base and therefore leaves us well placed to deliver a meaningful improvement in earnings and return on capital in the years to come. At the same time, our purpose: 'Changing places. Creating better futures.' is starting to be more closely embedded; for example, in the product quality of St. Modwen Homes and the vision for our major regeneration projects.

Our results for the year were solid, especially against a backdrop of significant asset rotation, de-leveraging and ongoing macro uncertainty. NAV per share increased 4.3% to 470.4 pence (2017: 450.9 pence) which, combined with dividends paid during the year, resulted in a stable total accounting return of 6.0% (2017: 6.0%). EPRA NAV per share increased 2.7% to 484.1 pence (2017: 471.2 pence). Despite a further £151m reduction in see-through net borrowings and a £7.5m loss of net rental income due to our disposals, adjusted EPRA earnings increased 7.8% to £31.7m (2017: £29.4m). As such, adjusted EPRA EPS increased 7.5% to 14.3 pence (2017: 13.3 pence) which, based on a 50% pay-out ratio, results in a 13.1% increase in the total dividend for the year to 7.1 pence per share (2017: 6.28 pence).

(1) Including the Group's share of net borrowings and property held in joint ventures and associates.

Our strategy

We have made considerable progress in delivering on the objectives we established as part of our new strategy set out in June 2017. We sold £814m of assets over the past 18 months, representing more than 40% of our initial portfolio, including 85% of our London residential development land, over half of our retail portfolio and around 75% of the c. £100m small assets we identified in mid-2017. This rate of progress is well ahead of our initial plans and expectations and has allowed us to reduce our see-through net borrowings by more than half to £237m, which has reduced our see-through LTV to 16.9%, providing financial stability and a solid base for investment in the future.

At the same time, we have invested in our people and organisational design, accelerated our development activity and prepared our pipeline for further growth. This successful repositioning means that following a period where our focus was on enablement, we can now look forward to the next phase of our strategy. This phase is very much focused on growth, built on the substantial existing opportunities and expertise in our business, captured in three strategic objectives:

· build a high quality industrial and logistics business;

· grow our residential and housebuilding business; and

· leverage our regeneration reputation

The natural progression of our strategy, reflected in these updated objectives, focuses our business on three clearly-defined activities and sectors, each of which benefits from long-term structural growth characteristics; industrial and logistics, residential and housebuilding, and regeneration. Even though our strong financial position provides capacity to source new opportunities in these areas, the scale and scope of opportunities in our existing portfolio is significant, so we have no need to acquire, and equally, as we continue to recycle capital from existing assets into our pipeline, we have no need to attract additional funding to deliver on these.

Build a high quality industrial and logistics business

Industrial and logistics assets now make up 33% of our portfolio, up from 19% 18 months ago. We expect this to grow further, as we accelerate our development activity and retain most of the high-quality assets we develop. Non-core retail assets now make up only 6% of our portfolio and we only have a further 6% of other non-core commercial assets, including our residual small assets and surplus land. Combined, this amounts to c. £180m of assets which we intend to sell over the next three years. Having sold £390m of non-core commercial assets in 2018, we therefore expect disposals to slow from here.

As previously set out, we intend to reinvest the proceeds of our non-core disposals in our industrial and logistics pipeline. This has the potential to deliver over 15m sq ft of space in the long term, of which almost 10m sq ft already has planning. We estimate the latter could deliver over £60m of ERV in the medium term. With expected associated future capex of c. £635-685m and total development costs including land we already own of c. £740-790m, this reflects a c. 8% yield on cost and c. 9% yield on incremental capex, providing an attractive margin versus current valuation yields and the c. 5-6% net yield on the older, less efficient non-core assets we sell.

We continue to see good momentum in accelerating our development activity. Our committed pipeline currently stands at 1.5m sq ft, up from 1.0m sq ft a year ago, with a total development cost of £137m. We intend to retain 87% of this, with an expected ERV of £9.2m compared to £5.1m in early 2018. We have terms agreed on 19% of this and, subject to continued occupier demand, we expect our committed pipeline to grow to c. 2m sq ft in the next 1-2 years.

Grow our residential and housebuilding business

Our residential investments make up 43% of our portfolio. This is broadly stable compared to the 40% it was 18 months ago, but we have made considerable progress in accelerating the monetisation of value in our land bank. We have sold £286m of residential land since June 2017 and increased St. Modwen Homes volumes from 485 units in 2016 to 848 units in 2018, which has already driven a clear improvement in returns. Our focus remains on accelerating the pace at which we work through our land bank to further grow our return on capital and deliver more of the high-quality homes at an affordable price level that the UK needs.

Our own land bank comprises c. 18,400 plots (2017: c. 19,000) of which c. 85% have planning, excluding land we hold under option which could deliver a further c. 11,800 homes in the long term. This provides us with clear visibility and control of a pipeline to continue to grow St. Modwen Homes volumes by up to 25% per annum over 2019-2021, in line with the 22% growth to 848 units we delivered in 2018 (2017: 694 units). In line with our target, during 2018 our operating margins increased to 14.4% (2017: 13.9%) and we expect a similar step up towards our 16-17% medium-term target in 2019. Customer demand has remained resilient since the year-end, so our order book is currently up 36% in terms of private units compared to the same time last year.

In addition to the homes we delivered via St. Modwen Homes, we also sold 860 plots to third party housebuilders for £53m during 2018 (2017: £56m). We will continue to invest in preparing land for development to monetise the value in our land bank and expect to sell at least a similar amount of land in 2019 as we sold during 2018.

Leverage our regeneration reputation

Regeneration sits at the heart of our purpose; 'Changing places. Creating better futures.', and therefore is an important part of our strategy for the future. Over the past three decades, we have built up a strong track-record and expertise in bringing complicated sites back to life. This not only comes through in large projects such as Swansea Bay Campus, Longbridge and New Covent Garden Market, but also underpins the two other elements of our business, as many of the sites in our residential and industrial and logistics pipeline have been brought forward via our regeneration activities.

We have made positive progress on our existing large regeneration projects. We released £141m of capital from the initial phases of development at Longbridge and Swansea during the year and are progressing the next phases of development, with significant opportunities remaining at both sites. We aim to leverage our regeneration reputation and apply our unique skill-set more broadly going forward but, recognising the long-term nature of these projects, we will pursue this in a capital-efficient way.

Our returns

Our returns have been resilient during the repositioning of our portfolio. While delivering on the disposal of more than 40% of our assets and a £343m reduction in see-through net borrowings, and despite a relatively uncertain market backdrop, over the last two years our NAV per share is up 9.1%, our adjusted EPRA EPS is up 47.4% and we generated a steady total accounting return of 6.0% per annum. With the portfolio repositioning now substantially complete and our pipeline prepared for growth, the next phase of our strategy should see returns improve meaningfully from current levels.

We are, by the very nature of our activities, a total return business. Our ambition is to deliver a sustainable, low double-digit total return over time, with a significant part of this comprising income. The portfolio revaluation element of our returns is to a large extent cyclical, which makes it inherently difficult to forecast, yet we expect our improved portfolio quality and focus on sectors with the best structural growth prospects to underpin longer-term growth. The development element of our returns is driven by our regeneration activities and build-out of our industrial and logistics pipeline. Whilst these returns can vary on a year-by-year basis depending on the level of activity, the depth, breadth and quality of our pipeline is substantial, offering good visibility, and for industrial and logistics in particular, the c. 8% average yield on cost provides a healthy margin versus valuation yields.

This leaves the third key element of our returns: income, as measured by adjusted EPRA earnings. Driven by a combination of 1) reinvesting around £150m of the proceeds of our 2018 non-core disposals in our industrial and logistics pipeline; 2) recycling capital out of our remaining c. £180m non-core assets into this pipeline; 3) further growth in St. Modwen Homes to c. 1,300-1,400 units per annum, a level which could be sustained for the medium to longer term based on our current land bank; and 4) an improvement in St. Modwen Homes margins towards our 16-17% target, we see the potential to broadly double our adjusted EPRA EPS in the medium term from 2018 levels, assuming markets remain stable. This potential growth is broadly evenly split between industrial and logistics and housebuilding, reflecting the balance between these two parts of our business. Whilst we expect our borrowings to increase from the current low point due to the reinvestment in our pipeline, we maintain our target of keeping our LTV excluding residential below 40% over time and intend to keep our overall LTV in the mid 20 percents as part of this.

Based on our stated dividend policy, this potential medium-term growth in adjusted EPRA EPS should result in a meaningful increase in our dividend. This medium-term growth is not expected to be linear, as the large volume of disposals during 2018 will reduce our rental income in 2019 but, assuming no major disruption in current market conditions, we expect the impact on adjusted EPRA EPS to be more than offset by further growth in St. Modwen Homes profits, rental income from new developments and lower interest costs.

Given the heightened levels of uncertainty at present, it is of course important that we take sensible steps to protect our returns outlook in the near term. In addition to the repositioning of our portfolio towards structural growth sectors and the sharp reduction in borrowings since 2017, over the past few months we have also taken a number of proactive steps to insulate the business as much as possible from near-term disruption, particularly related to Brexit. For example, we are investing £10m in forward ordering all construction materials we import directly for six months of production in St. Modwen Homes and all our 2019 industrial and logistics projects; we have front-weighted our sales targets for the year in St. Modwen Homes, resulting in a 36% increase in our private order book versus the same point last year; and we are maintaining a tight control over discretionary spend. We intend to maintain this vigilance until such time as the economic outlook is more settled.

Our people and culture

The excellent progress on delivering our strategy during 2018 would not have been possible without the strong performance and dedication of our people. The new organisational design we introduced in 2017 has provided a clear alignment between individual roles and our strategic objectives, which, combined with a culture of more empowerment and accountability, is already driving positive results. This was reflected in our recent employee engagement survey, which showed high engagement and a marked improvement in the understanding of our strategy. Our people are key in delivering on the substantial opportunities we have in our business, so we will continue to invest in our workforce, not only in recruiting selective new roles, but also in personal development and training to support all levels of our business.

Looking forward

Following the successful repositioning over the last 18 months, for St. Modwen 2019 is set to be a year of improved focus, growth and ongoing delivery against our three strategic objectives.

The wider political and economic environment is uncertain and this is unlikely to change in the near term. The UK's planned exit from the European Union is likely to have an impact on international trade and the uncertainty around the longer-term effects of this could affect consumer and business confidence, although evidence of this in our current trading activity so far is limited. As mentioned, we have reduced our exposure to potential short-term trade disruption by forward ordering the materials we import directly for most of our 2019 pipeline, and having more than halved our net borrowings and reduced our exposure to challenging sectors such as retail and London residential land by c. £400m over the last 18 months, we are well placed to weather this uncertainty.

Meanwhile, our pipeline is focused on two sectors which continue to benefit from structural growth characteristics. Government policy remains supportive to continue to grow housebuilding in the UK and our focus on the regions, where affordability is much better than in and around London, leaves us in a good position, whilst industrial and logistics continues to benefit from structural changes in the way we work and shop. Combined with our strong balance sheet, this gives us confidence to continue to accelerate our development activity, although the short-cycle nature of our projects provides us with flexibility to adjust our pipeline should there be any unexpected changes in customer demand.

With clear visibility on the potential to drive a meaningful improvement in earnings and return on capital over time based on our existing pipeline of opportunities and capital base, without having to acquire, attract new capital or rely on a market upturn, we look forward to the next phase of our strategy with confidence. At this time, I would also like to thank our outgoing Chairman, Bill Shannon, on behalf of everyone at St. Modwen for his invaluable contribution to the company over the past eight years. His leadership, support and counsel have been instrumental in building St. Modwen into the focused, strong business it is today and he will leave the business in excellent shape when he retires at the upcoming AGM. 

PORTFOLIO AND OPERATIONAL REVIEW

Portfolio overview

Investments & disposals

Our portfolio has seen a major transformation during 2018. We sold £529m of assets, on average in line with book value, which more than offset the £191m we invested in acquisitions and developments (excluding housebuilding activities). Since we launched our new strategy in June 2017, we have now sold £814m of assets, representing more than 40% of our initial portfolio.

Our largest disposal during the year was the sale of our 45-year leasehold interest in the existing 2,005-bed student accommodation at Swansea Bay Campus for £139m in February, followed by the forward-sale of our 207-unit PRS development in Uxbridge for £75m in March. In May, we agreed the sale of Longbridge Shopping Park for £54m and Wembley Central shopping centre for £36m via two separate transactions. Just before the year end, we sold Edmonton Green shopping centre for £72m which, combined with the sale of three smaller retail assets, brought our total retail disposals for the year to £177m - on average less than 1% below the November 2017 book value of these assets.

In August, we sold a portfolio of 34 small assets for £47m (our share), so combined with the sale of two separate small assets, total proceeds from the sale of retail and small assets were £225m - almost double the £100-150m target we initially set for the year. We have now sold c. 75% of the c. £100m small assets we identified for sale in June 2017. We also sold £26m other non-core commercial assets and land, on average 11% above book value, and £53m of residential land, slightly above book value.

As we saw much better returns from investing our capital in our own pipeline than buying assets in the current investment market, we made no acquisitions during 2018 other than the drawdown of £51m of land for near-term development starts under existing development agreements, principally at Gatwick, Uxbridge and Chippenham.

(1) Based on the Group's share of amounts relating to joint ventures.

(2) EPRA net initial yield on income-producing assets excluding land.

(3) Excluding land transfers to St. Modwen Homes and completed home sales.

Looking forward, we will continue to optimise our portfolio to further improve our return prospects but following the large volume of sales over the past 18 months, the pace of disposals is set to slow from here. We have only £88m of non-core retail assets left plus a further £93m of residual small assets, surplus commercial land and non-industrial and logistics assets we deem non-core. We intend to complete ongoing works at a few of these properties but plan to sell all these assets over the next three years.

Whilst we are open to new opportunities, we will remain very selective when it comes to acquisitions given the substantial opportunities in our existing pipeline. We continue to plan to grow the share of income-producing investment assets as part of our portfolio to c. 60-65% over time (2018: 43%) by retaining the majority of our industrial and logistics developments and reducing our exposure to land.

Portfolio valuation

Adjusted for investments and disposals, our portfolio value increased 3.6% during the year and is now valued at £1.4bn. Our industrial and logistics portfolio makes up 33% of this, up from 19% in May 2017. Our residential investments comprise 43% of our portfolio, whilst regeneration projects make up 12%. Non-core retail and other commercial assets now comprise only 12% of our portfolio; split evenly between the two and down from as much as 34% only 18 months ago.

Our industrial and logistics portfolio increased in value by 9.2% during the year, driven by gains on developments, some 30bps yield compression and 2.3% ERV growth. In line with our expectations, retail values softened during 2018, with our residual non-core retail down 10.5% in value, although our regeneration assets with current retail use were up 3.3%, driven by our Trentham Gardens leisure/retail investments which continue to perform well. As expected, residential land values were broadly stable, up 1.2%.

(1) On completed investment assets only, excluding current developments and land.

Going into 2019, occupier and investment demand for industrial and logistics remains strong. This has resulted in an increase in speculative development in the wider market, but this is largely driven by a small number of large units over 400,000 sq ft. Beyond this, speculative supply remains manageable in the context of the overall market and as take-up remains strong, supply and demand remain balanced. Following the marked yield compression in recent years, we believe future capital value growth is chiefly reliant on rental value growth.

Although demand for residential land remains robust, we expect upside in values to remain limited, as house price inflation is broadly offset by build cost inflation and the majority of our land bank already has planning consent. The sale of over half our retail portfolio at less than 1% below book value in 2018 shows there is demand for retail assets which are priced realistically, but the reduction in transaction volumes in the wider UK retail market shows this is not the case for all assets. We therefore expect retail values will continue to soften in 2019, but, at only 6% of our assets, our exposure to non-core retail is limited.

Operational performance

The annualised passing rent on our portfolio, which excludes contracted rent subject to rent-frees, stood at £39.4m at the end of November 2018, compared to £62.9m at the end of 2017, driven by disposals. Like-for-like rental income fell by 1.2% over the period, but this was solely driven by a £1m one-off at Trentham Gardens in the prior year, excluding which like-for-like rental income increased by 1.9%, with growth in industrial and logistics of 9.1%. Industrial and logistics now makes up 46% of our overall passing rent, up from 21% a year ago, and this share is expected to grow from here.

Overall vacancy is 18.9%, but around a quarter of our vacant space is deliberately held back for future developments and a further c. 40% relates to recent industrial and logistics developments. Most of this completed shortly before the year-end and we expect this space to be substantially let during 2019. We have seen good momentum in improving the occupancy of our existing assets, with a 5ppt increase in occupancy on a like-for-like basis and we signed 3.3m sq ft of new leases and lease renewals during the year, generating £13.4m of annualised rental income (£10.0m our share). On average, re-lettings and renewals were 25% above previous passing rent and in line with ERV. The average remaining lease term to first break of our portfolio decreased from 5.3 years to 4.1 years, largely as the disposal of Longbridge Shopping Park reduced the average by 0.8 years.

(1) Excluding £0.9m of annualised turnover rent at Trentham Gardens.

(2) 1.9% adjusted for £1m one-off in retail regeneration in prior year.

Industrial and logistics

Development completions

We invested £76m in industrial and logistics capex during 2018. We completed 0.9m sq ft of space (2017: 0.9m sq ft), of which 0.3m sq ft was pre-sold. We will retain the remaining 0.6m sq ft, which, with an ERV of £4.5m and total development cost of £54m, is set to deliver an 8.3% yield on cost once fully let. This includes a 113,000 sq ft unit in Burton-on-Trent which was pre-let to global automotive manufacturing firm Grupo Antolin, the second phase of 119,000 sq ft across three units at Burton Gateway, the latest 116,000 sq ft across 14 units at Avonmouth and 125,000 sq ft across three units at Gloucester.

Most of our projects completed shortly before the year end, but we have secured 38% of the £4.5m retained ERV, with a further 17% under offer, compared to 54% and 11% respectively this time last year. The assets we retained from our 2017 pipeline are now 94% let and we are seeing good interest in the remaining space in our 2018 pipeline, so we are confident this will be substantially let during 2019. In total, we have agreed terms on £5.6m of development lettings since the start of 2018, representing 0.8m sq ft, including 153,000 sq ft at Tamworth to a global automotive supplier, the latest 119,000 sq ft at Burton Gateway, 80,000 sq ft at Gloucester to Amazon and Samworth Brothers and 35,000 sq ft at Avonmouth to pharma logistics firm Movianto.

Current developments

Our committed pipeline currently stands at 1.5m sq ft, up from 1.0m sq ft at the start of 2018, with total development cost of £137m compared to £101m in early 2018. We plan to retain 87% of this with an estimated ERV of £9.2m (early 2018: £5.1m), representing an expected yield on cost of 7.8%. This includes four units at Tamworth totalling 408,000 sq ft, a further 319,000 sq ft across six units at Avonmouth (ranging from 25,000 sq ft to 150,000 sq ft), a 104,000 sq ft unit at Burton Gateway, the first 106,000 sq ft building at Chippenham and the first 100,000 sq ft unit at Gatwick. In total, we have terms agreed to pre-let or sell 19% of our committed pipeline and we are seeing good interest in the remaining space.

Future pipeline

Our total pipeline stands at over 15m sq ft, of which c. 60% has planning. Over 10m sq ft of this is located at our key strategic sites, which are our largest sites in the best locations. These could be delivered over the next 5-8 years, partly subject to planning. In addition, we have a number of smaller sites which could deliver over 5m sq ft of potential space. Albeit smaller, these are in good locations and generally have planning, so they can support the near-term replacement of income following our retail and other non-core disposals.

During the year we secured planning consent for 1.0m sq ft of space at Chippenham, adjacent to junction 17 of the M4, 0.9m sq ft at Quedgeley, next to junction 12 of the M5 and we cleared planning conditions and finalised consents for 0.2m sq ft at Gatwick, adjacent to junction 10 of the M23. In addition to our committed pipeline, this means we have a further 8.1m sq ft consented space in our future pipeline.

This consented future pipeline could deliver c. £51m of ERV which, with future capex of £550-600m and total development cost including land we already own of £620-670m, is expected to deliver a c. 9% yield on incremental capex and c. 8% yield on cost. Delivery of this pipeline is therefore expected to generate significant growth in rental income compared to the c. 7% gross yield on non-core assets we sell, especially as operating costs are much lower than the c. 30% on our older, less-efficient retail and small assets. Moreover, given the substantial margin versus current valuation yields, this pipeline is expected to deliver meaningful development upside. We will maintain a disciplined approach to accelerating our development activity but, subject to occupier demand, we intend to further grow our committed pipeline to c. 2m sq ft in the next 1-2 years.

(1) Based on ERV for projects to be retained and total development cost for projects to be sold.

(2) The total development cost, book value and future capex exclude Uxbridge PRS which was forward-sold during the year.

Residential and housebuilding

Development completions

The market for new-build housing in the UK regions remained resilient and we continued to see good demand for the high-quality homes built by our housebuilding business, St. Modwen Homes. Reflecting this, we sold 848 units during the year, representing an increase of 22% versus last year (2017: 694 units), in line with our target to grow volumes by up to 25% p.a. in the period to 2021.

Our private average sales price increased 8.9% to £282,000 (2017: £259,000), with like-for-like prices up 3.1% and the remainder driven by changes in the mix of units and sites. St. Modwen Homes is now sales active on 20 sites, up from 15 at the end of 2017. In terms of quality and safety, we achieved a 4* rating from HBF but our net promoter score increased from 53 to 63 over the year and we retained our RoSPA Gold safety accreditation. St. Modwen Homes operating margin increased to 14.4% (2017: 13.9%), in line with our target to improve our margin by c. 0.5ppt.

As a result of its strong growth, St. Modwen Homes operating profit increased 34.3% to £31.3m (2017: £23.3m). This more than offset the planned reduction in profits from the Persimmon JV to £2.6m (2017: £8.1m), which continues to wind down its activities, having sold 95 units during the year (2017: 227). All in all, overall housebuilding profit therefore increased 8.0% to £33.9m (2017: £31.4m).

Current developments

Since the end of 2018, demand for our high-quality St. Modwen Homes product has remained robust. Reflecting this and our efforts to front-weight sales targets, our private order book is currently up 36% compared to the same time last year. Assuming market conditions remain stable, we expect to grow the number of sales active sites to 28 during 2019 and we continue to target growth in volumes of up to 25% this year.

As the land we transfer to St. Modwen Homes is held at market value, upside from house price inflation and planning gains is captured via revaluation gains elsewhere in the Group, which continues to reduce our margin by an estimated c. 2-3ppt relative to housebuilders who hold their land at historic cost. We maintain our target to improve margins to c. 16-17% in the medium term by optimising site coverage, scale efficiencies and a range of other initiatives and we target a further c. 0.5ppt step-up in margin in 2019. As we grow, we remain firmly focused on delivering a high-quality product for our customers and we target a 5* HBF rating for 2019. We expect activity in the Persimmon JV to wind down in the next two years, but this now makes up less than 10% of our overall housebuilding profits, so we expect the impact of this to be more than offset by further growth in St. Modwen Homes profits.

In addition to our housebuilding activities, we expect to complete and hand over our 207-unit PRS scheme in Uxbridge in Spring this year which we forward-sold for £75m in early 2018.

Future pipeline

At the end of 2018, our owned land bank comprised c. 18,400 plots (2017: c. 19,000), of which c. 85% have planning. The majority of this is located in the Midlands and the South West, including our two largest sites in South Wales which combined make up c. 7,000 plots. In addition, the land we control via development agreements could potentially cater for a further c. 11,800 new homes in the long term, around 40% of which is still subject to planning.

This substantial pipeline provides us with clear visibility to sustain the delivery of c. 1,300-1,400 units per annum. by St. Modwen Homes in the medium to longer term, with potential to grow beyond that, in line with our target to grow St. Modwen Homes volumes by up to 25% per annum in the period to 2021. To further accelerate the monetisation of the value in our land bank, we also continue to sell land to third-party housebuilders. During 2018, we sold 860 plots across 49 acres of land for £53m (2017: £56m), including the final phase at Mill Hill, north London and we expect to sell at least a similar amount in 2019.

Regeneration

Development progress

We made good progress on our three existing major regeneration schemes during the year. At Swansea Bay Campus, we released £87m of capital from the sale of the first phase of student accommodation, net of the transfer of a £52m finance lease creditor, and we completed the latest 40,000 sq ft academic facility, which was forward-sold to global education provider Navitas. At Longbridge, we released £54m of capital via the sale of the Shopping Park and we sold 8.5 acres of land to a third-party housebuilder for the delivery of 215 new homes. At New Covent Garden Market, via our 50:50 joint venture with VINCI, we continued to progress the relocation of the existing market facilities following the sale of the first 10 acres of land in 2017.

Current developments

The release of capital from the first phases of development at Swansea and Longbridge has been important to unlock the next phases of development. At Swansea, we completed the latest 411 student beds in early 2019 which, like the first phase, we expect to sell in due course. At Longbridge, we agreed terms on a 15-year fixed pre-let for a 21,100 sq ft office building, which will complete the Devon Way office cluster and at NCGM, the ongoing process of relocating the market facilities is on track.

Future pipeline

Our three existing major regeneration projects have significant future development potential. We continue to work on enhancing the vision for our 468-acre Longbridge site, which is c. 50% developed. The next phase of development could deliver c. 0.7m sq ft employment space, but we want to make sure this fits our placemaking ambitions and that we create a lasting legacy at this important scheme. At Swansea Bay Campus, we continue to prepare plans for the next 85,000 sq ft of academic facilities and 600 student beds for delivery by 2021, with a further c. 250,000 sq ft and 1,000 beds development potential remaining beyond that. At NCGM, completion of the market relocation will release a further 10 acres of residential development land to the joint venture in the long term.

Beyond these three projects, we have started preliminary discussions on a potential large-scale mixed-use redevelopment opportunity at Wythenshawe, between Manchester city centre and Manchester Airport, where we own an existing 1960s retail centre, and we have started to explore further opportunities at Trentham Gardens. There is no decision imminent on either scheme but even though the predominant use of both assets is currently retail, we intend to retain them for the time being to explore their wider development potential and, in the meantime, both assets continue to produce a good income return. 

FINANCIAL REVIEW

Overview

Our financial performance for the year was solid. Despite the significant portfolio rotation, NAV per share increased 4.3% to 470.4 pence (2017: 450.9 pence) and EPRA NAV per share increased 2.7% to 484.1 pence (2017: 471.2 pence). Adjusted EPRA earnings increased 7.8% to £31.7m (2017: £29.4m), despite our substantial de-leveraging via disposals, which reduced see-through net borrowings by £151.3m and see-through loan-to-value by 7.3ppt to 16.9% (2017: 24.2%), as the associated reduction in rental income was more than offset by a fall in interest costs. As a result, adjusted EPRA EPS grew 7.5% to 14.3 pence (2017: 13.3 pence) and including the dividends paid during the year, our total accounting return was stable at 6.0% (2017: 6.0%).

Our dividend policy is aligned to cash profitability and we intend to pay a dividend equivalent to c. 50% of adjusted EPRA EPS per year, with the aim of providing a sustainable, progressive dividend for our shareholders. Reflecting this, we will pay a final dividend of 4.0 pence per share, to be paid on 4 April 2019 to shareholders on the register as at 8 March 2019. This brings the total dividend for 2018 to 7.1 pence per share, marking an increase of 13.1% compared to last year (2017: 6.28 pence).

Presentation of financial information

Due to the number of significant joint venture arrangements, the statutory financial statement disclosures do not always provide a straightforward way of understanding our business. Reconciliations between all the statutory and non-statutory measures and the explanations as to why the non-statutory measures give valuable further insight into the Group's performance are given in notes 2 and 3 to the Group financial statements. The Group has four material joint ventures, three of which are in partnership with VINCI and one in partnership with Salhia. The VINCI joint ventures comprise the NCGM operation and joint ventures at Uxbridge and Mill Hill (the latter through The Inglis Consortium), both of which are engaged in the remediation and subsequent sale of land. The Salhia joint venture, Key Property Investments (KPI), owns a portfolio of principally income producing industrial assets acquired between 1998 and 2002.

We use adjusted EPRA earnings and adjusted EPRA EPS as key performance measures, which exclude non-cash valuation gains and losses. As our residential developments are built to sell, residential profits are cash-based and therefore included in this metric, but as our commercial developments are predominantly built to hold, commercial development profits are largely non-cash. As such, these are excluded from adjusted EPRA earnings, other than development fee income. As trading profit is no longer used as a key performance measure in our new strategy, we will no longer report this from 2019 onwards.

(1) This table is presented on a proportionally consolidated basis, including the Group's share of profits and losses of joint ventures and associates in the income statement categories to which they relate, rather than on a statutory basis as one line representing the share of net losses of those joint ventures and associates.

Net rental and other income

As expected, disposals reduced our net rental income during 2018 by £7.5m. This was partly offset by £2.1m income from retained developments, but overall the Group's share of net rental and other income decreased to £49.0m (2017: £55.8m). The full-year impact of last year's disposals and the time-lag between these and developing and leasing our industrial and logistics pipeline means we expect net rental income to reduce further in 2019 before growing over subsequent years.

Administrative expenses

Due to our investment in preparing our business for future growth, administrative expenses for the year increased as expected to £32.5m from an underlying level of £30.5m for 2017, adjusted for a £1.5m one-off gain that year. During 2018 we capitalised £1.1m of costs directly related to commercial development activities, which improves the consistency of adjusted EPRA earnings, as property development gains are excluded from this measure. We expect overhead costs for 2019 to be broadly in line with 2018 and our portfolio repositioning to improve efficiency in the medium term.

Interest and other finance costs

Net interest costs for the year fell to £14.6m (2017: £24.1m) on a see-through basis, principally due to a reduction in debt due to our disposals, a lower average cost of borrowing following the refinancing of our bank facilities in December 2017 and the capitalisation of £2.3m interest costs on commercial developments. We expect net interest cost to reduce further in 2019, principally due to the early redemption of our retail bond in November 2018 which reduces our interest expense by c. £3m.

Net other finance costs were £12.7m (2017: £7.7m). This includes a £3.5m charge for discount unwinds, principally on our share of the long-term commitment to deliver the NCGM project, and a £1.8m charge for the amortisation of arrangement fees in relation to our loan facilities. The combined effect of this was less than the c. £7m of costs in the last two years, but we expect this to revert to this level in 2019 and recur at relatively similar levels. Other finance costs also included an aggregate £7.3m one-off expense related to the refinancing of our bank facilities and the early redemption of our retail bond. The final element of our other finance costs relates to the mark-to-market valuation of our convertible bond and derivatives, which is driven by the movement in our share price and swap rates and resulted in a £0.1m expense in the year.

Investment property revaluation and disposal gains/losses

All our investment properties are independently valued every six months by our external valuers, Cushman & Wakefield and Jones Lang LaSalle (the latter for NCGM only), who base their valuations upon open market transactions between a willing buyer and a willing seller at the balance sheet date. In accordance with accounting standards, valuation movements are reflected as gains or losses in the income statement. We also independently assess our work in progress for any impairment issues.

During 2018, our portfolio saw a revaluation gain of £11.4m and a £4.7m credit from changes to the NCGM build programme. In 2017, the portfolio recorded a revaluation gain of £34.6m, but this was partly offset by a £24.6m charge related to an increase in the liability to establish a market at Nine Elms. We recorded a £7.1m loss on property disposals for the year (2017: £7.4m gain), but this was partly offset by a £3.4m gain on asset disposals included in commercial development gains. As a result of this and an increase in development activity, gains on commercial developments increased to £37.0m (2017: £19.4m). 

Taxation and profit

Our total tax charge (including joint venture tax) for the full year was £12.0m (2017: £6.9m) resulting in a net profit after tax of £60.5m (2017: £60.1m).

As a property group, tax and its treatment is often an integral part of transactions. The outcome of tax treatments is recognised by the Group to the extent that the outcome is reasonably certain. Overall, the Group effective tax rate for the full year of 16.6% (2017: 10.3%) increased, principally due to the freezing of indexation allowance from 31 December 2017. As signalled previously, the effective tax rate is expected to remain at broadly similar levels, slightly below the standard rate of tax of 19%.

Balance sheet and net asset value

The net asset value attributable to shareholders of the Group increased to £1,044.4m (2017: £1,000.3m) or 470.4 pence per share, which represents a 4.3% increase over the year (2017: 450.9 pence). Combined with the dividend of 7.36 pence per share (2017: 6.08 pence per share) paid during the year, this reflects a total accounting return of 6.0% (2017: 6.0%). EPRA NAV per share increased by 2.7% to 484.1 pence (2017: 471.2 pence), partly reflecting the crystallisation of £5.1m interest rate swap liabilities upon refinancing our bank facilities, which reduced EPRA NAV by 1.9 pence per share.

(1) This table is presented on a proportionally consolidated basis, including the Group's share of assets and liabilities of joint ventures and associates in the balance sheet categories to which they relate, rather than on a statutory basis as one line representing the share of net assets of those joint ventures and associates.

Net borrowings

We saw a substantial reduction in our see-through net borrowings during 2018. Driven by our disposal activity, we generated cash before new investment, tax and dividends during the year of £655.8m (2017: £542.7m), well in excess of new investment, and a £14.1m increase in inventories to £376.0m (2017: £361.9m).

As a result, see-through gross borrowings fell £141.8m during 2018 to £321.5m (2017: £463.3m). See-through net borrowings reduced by £151.3m to £236.9m (2017: £388.2m). This excludes £37.5m (representing our 50% share) held in a development account for the delivery of the NCGM project which continues to be held in a one-year deposit account and therefore does not qualify as cash in our net borrowings calculation. In addition to reducing our borrowings, the sale of the Swansea student accommodation also reduced our finance lease liabilities by £51.8m to £3.9m.

Consequently, our see-through LTV fell 7.3ppt to 16.9% (2017: 24.2%), or 14.2% including the £37.5m held on one-year deposit. Excluding residential investments, our see-through LTV decreased to 29.3% (2017: 37.2%), or 24.7% including the £37.5m held on one-year deposit, which remains below our 40% target. Since we announced our new strategy in June 2017, see-through net borrowings are down by more than half, whilst our see-through LTV is down from 33.1% to 16.9%. We expect see-through net borrowings to increase in 2019 as we reinvest part of the proceeds from our disposals during 2018 into our pipeline, but to remain below 2017 year-end levels.

(1) Proportionally consolidated, including the Group's share of joint ventures and associates.

(2) See-through loan-to-values are reconciled in note 2j to the Group financial statements.

Financing

We refinanced nearly all our debt during the year. In December 2017, we refinanced £488m of secured bilateral debt facilities expiring in 2019/2021 with a new £475m unsecured club facility with an initial maturity of five years and two one-year extension options. We recently agreed the first one-year extension of this facility. In November, we announced we had signed a £75m facility from the Homes England Home Building Fund, with an initial maturity of seven years and an option to extend this to ten years. We also redeemed our £80m retail bond which was scheduled to mature in November 2019, which means other than the refinancing of our small KPI JV facility, which is almost complete, the only debt maturing before December 2023 is our £100m convertible bond. With £236.9m see-through net borrowings compared to £680m facilities we have ample financial headroom, so with the shares currently trading below the conversion price, we intend to repay this bond upon its maturity in March 2019.

As a result of our financing activities, our average debt maturity increased to 4.5 years at the end of 2018 (2017: 2.7 years). Pro-forma for the refinancing of the KPI facility, drawdown of the Homes England facility and the planned convertible bond repayment, our average debt maturity would be 5.2 years.

(1) November 2018 pro-forma for drawdown of £75m Homes England facility, refinancing of the KPI facility, repayment of £100m convertible bond maturing in March 2019 and associated hedging transactions.

(2) The weighted average interest rate is calculated using current interest rates, commitment fees and hedging profile applied to the see-through gross borrowings at 30 November 2018, thereby assuming constant net borrowing levels for 2018.

Hedging and cost of debt

Our weighted average interest rate reduced to 3.8% (2017: 4.5%) due to the refinancing of our bank facilities and the repayment of our retail bond which carried a 6.25% coupon. The interest cost of the Homes England facility is similar to our bank facilities, so pro-forma for the drawdown of this loan, the refinancing of the KPI facility, the convertible bond repayment and associated hedging transactions, our weighted average interest rate would be 3.7%.

We aim to have predictable costs attached to our borrowings, so our policy is to hedge a significant portion of our interest rate risk. The proportion of borrowings which are fixed or hedged is 66.9% (2017: 87.5%), or 65.8% on a pro-forma basis, and we continue to manage our interest rate risk via a combination of caps and hedges.

Corporate funding covenants

Covenant compliance continues at all levels and across all metrics and we continue to operate with considerable headroom against all measures. Our portfolio could withstand an almost 40% fall in values before our tightest covenant would be breached.

Mark Allan Rob Hudson

Chief Executive Chief Financial Officer

4 February 2019