Grainger is targeting a reduction of group wide gearing to below £1bn by the end of next year, as the listed residential property company seeks to increase headroom for future acquisitions and eradicate the erosive impact of long-dated mis-matched interest rate swaps on bottom-line profitability.
In the 12 months to the end of September, the impact on Grainger’s pre-tax profit has been to reverse a recurring profit before tax of £34.6m, to a £1.7m loss after swap mark to markets of £31.2m and a one-off £6.9m write-down over the 12 months.
Grainger said in its annual results this morning that the fair value swap movements of £31.2m “comprises a £24.6m adverse movement on the yield curve in the year and £6.6m in relation to the settlement of swap contracts in both the current and prior years”.
The fair value of Grainger’s swap liabilities has increased from £154.3m to £171.9m, over the 12 months to the end of September.
Grainger has begun a review of its current £1.19bn group debt hedging strategy, for which 85% is hedged against future interest rate rises.
Of the 85% of Grainger’s debt which is hedged, the bulk has been managed through interest rate swap contracts, with a minority of fixed interest loans and caps. Grainger is looking to reduce this to within a 60% to 80% range – with an increasing minority of debt moving to unhedged floating rate debt.
“The approach will be to look at the shorter-dated interest rate swap, because I will have less risk of those moving in the wrong direction,” explains finance director Mark Greenwood explained.
“If I break a long-dated swap and crystallise the mark to market and the yield curve moves back up in two years’ time, someone will be able to say if I hadn’t broke that swap you would not had to pay so much money.”
The swap dilemma Greenwood is articulating is one which has been felt by virtually all property companies, funds and even banks in the sale of loan portfolios or when deciding on simple loan enforcement.
Long-dated swaps are considered by many in the industry as having emerged as a silent menace in the post global financial crisis real estate markets.
In the 12 months to the end of September, the UK and German residential property company has reduced total debt by £260m in the last 12 months, and is targeting a further £190m in de-leveraging by the end of next year which will reduce group debt to below £1bn.
The single largest individual contributor to the total £260m debt reduction over the period – which has seen group LTV fall by six percentage points to 55% – came from the sale of a 75% equity stake in a 3,000-strong German residential portfolio – valued at €232m – to a new joint venture fund with Heitman, the global asset manager.
Grainger sold the 75% stake to Heitman on discount which equated to a £6.9m write-down on the German assets, which equates to a 3.75% discount.
Heitman, which for the joint venture partnership sourced its capital from the National Pension Service of Korea, assumed liability for £118m of new senior debt as part of the agreement.
Grainger’s net debt levels had fallen from £1.45bn to £1.19bn over the year to the end of September, and by a total of £376m in the last 18 months to the end of the third quarter.
Robin Broadhurst, chairman of Grainger, said: “The headroom generated [from the de-leveraging] will give us the flexibility to take advantage of attractive opportunities that may arise.”
Broadhurst added that Grainger will increase its exposure to rental property “over a period of time”.
Grainger said it significantly refreshed and diversified its sources of finance during 2011 sourcing £1.2bn in new debt last year for refinancing and acquisition finance.
Grainger’s core £840m group syndicated facility is with Royal Bank of Scotland, Lloyds Banking Group, Barclays, Nationwide, HSBC and Allied Irish – of which £606m matures in July 2016.
The balance of the facilities mature in three stages: with £166.5m maturing in December 2014, another £7.5m maturing in July 2018 and £60m maturing in July 2020.
Grainger’s gross net asset value per share was up 3.2% to 223p, over the 12 months to the end of September.