Liberty Two Degrees | Optional dilution

Liberty Two Degrees (L2D) paid its first full-year distribution during FY'17 of 59.22c per unit. DPU fell c.9% short of the pre-listing forecast due to a greater than expected exposure to the Liberty Property Portfolio (LPP) which carried a yield of 6.8% at mid-year. During the year, the portfolio vacancy rate rose by 180 bps to 6.4%, due to the partially successful re-letting of sizeable Stuttafords vacancies at Eastgate and Sandton City. We estimate that L2D's retail tenant rent-to-sales ratios rose during FY'17 due to contractual escalations running ahead of trading density growth. L2D currently has no long-term debt on its balance sheet, which limits DPU growth potential relative to peers due to a lack of financial leverage. The disconnect between listed and direct property yields suggests that L2D management may find accretive opportunities in the listed sector, where most domestic counters trade at a discount to L2D's funding costs. In this report, we update our earnings forecasts and analyse the potential dividend and balance sheet impact of direct or listed property acquisitions.