Lone Star’s offer for Quintain Estates and Development, valuing the listed London property investor and developer at £904m, capitalises on equity markets’ fears of near-term interest rate rises and the long-term volatility of the London residential market.
The offer comprises £700m to Quintain directors and shareholders and the inheritance of £204m debt. Wells Fargo will finance the acquisition with a £425m term facility, which will fully repay certain inherited debt likely inlcuding the £115m corporate bond due in 2020.
The £904m value on Quintain Estates reflects a 8.3% premium to its £834.6m booked valuation at the end of March 2013. This morning’s 131 pence per share offer is a 22.4% premium to yesterday’s closing price and 7.4% premium to Quintain’s 122p EPRA NAV, as at 31 March.
But this apparent premium quickly evaporates when the unrealised profits from existing and projected sales are factored in.
Over the four years to the end of 2018, Quintain’s pipeline is to develop around 1,200 residential properties around Wembley.
This will be scaled up to an annual development rate of 500 homes per year by 2019, as part of Quintain’s current target to deliver 5,000 homes in London’s generation-long undersupplied residential market.
The first two phases, Emerald Gardens and Alto which are both in a 50:50 joint venture with Keystone Developers, comprise around 837 homes. Around 60% of these homes are earmarked for private sale, with the balance retained as privately rented.
Sales to date have been strong.
Already, 90% of the 284 private homes in Emerald Gardens and 70% of 211 private homes in Alto have exchanged or are reserved, reflecting £42.6m in unrecognised profits which are not factored into the current NAV and arguably not priced in by equity markets in Quintain’s share price.
In fact, Quintain has not traded above 110p per share at any point in the last 18 months, prior to today’s news.
Lone Star’s willingness to pay a premium over equity markets for a residential developer illustrates a mismatch between the net present value of Quintain’s portfolio and the value equity markets will accommodate.
Equity investors are pricing in their interest rate expectations and the long-term cyclical nature of the London property market.
But this deal shows how private capital – in this yield-scarce environment – is willing to price risk differently, which begs the question as to whether any other listed property companies could be the subject of similar opportunistic strikes?
But for Quinatin, and its shareholders, this is a liquidity event which crystallises realised profits today, while leaving considerable upside for Lone Star.
Across the current 1,200-strong pipeline, 70% are planned for sale. Assuming an average sale price of £400k, this would equate to a £33.5m gross pre-tax profit from private home sales in Wembley, based on a 20% margin and assuming the Keystone JV remains in fact.
If Keystone is not re-invited into future schemes, and development pace can scale up to 500 per year, as Quintain has previously outlined, Lone Star’s room for upside expands further.
Then of course there is the retained private rented business. On Quintain’s current trajectory, 361 Wembley homes will be retained for investment.
Could Lone Star see this retained stock as the seed asset in a UK portfolio with the private equity firm now set to assemble scale over the coming years with an eventual IPO exit?
By 3pm today, the Lone Star’s proposed offer had lifted the share price 23.3% to above the offer price of 132.25p, which begs another question: will any rival offers now emerge?