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Morningstar | Soft Underlying 1H19 for BWP Trust; No Change to FVE

Narrow-moat-rated BWP Trust reported 4% growth in NPAT excluding revaluation gains to AUD 58.8 million in first-half fiscal 2019. The result was flattered by an accounting change and lower interest rates, which helped offset the departure of Bunnings from properties in the prior year. Without the accounting change, adjusted NPAT would have been flat. Distributions increased 1.7% to AUD 8.93 cents per unit and guidance is for second-half distributions to continue growing at the same pace, potentially supported by profits from the sale of assets. Our forecasts are largely unchanged and we maintain our AUD 3.30 per unit fair value estimate. At current market prices around AUD 3.60, we consider the stock marginally overvalued.

Like-for-like rental growth was broadly in line with expectations at 2.5% for the year to December 2018, underpinned by fixed and CPI-linked rental increases over most of the portfolio. Market rent reviews disappointed. Two properties’ belated fiscal 2018 rent reviews were resolved in the December half--Artarmon and Fyshwick. BWP agreed to no change in rents in Artarmon for three years, while Fyshwick sees no rise for one year, a poor outcome. At least Bunnings agreed to extend the Fyshwick lease by two years to December 2024. Seven market rent reviews from fiscal 2018 and first-half 2019 are still being negotiated. We expect moderately better outcomes.

Occupancy remains high at 99.1% but a relatively short-weighted average lease expiry of 4.3 years suggests ongoing vacancy risk. Despite this risk, BWP’s property values increased by AUD 23 million after redeveloping a couple of properties recently vacated by Bunnings and as cap rates continue to fall. Note, a capitalisation rate is essentially the earnings yield and a lower yield means the property is more expensive, all else being equal. Bunnings-occupied properties have typically been selling on cap rates around 5.5% since late 2015, compared with BWP’s 6.4% weighted average cap rate.

This suggests there’s still upside to BWP’s property values, as you’d expect given the unit price currently trades at a 27% premium to net tangible asset backing of AUD 2.89 per share.

BWP’s balance sheet remains in good shape, with debt/assets of 18.4%, down from 19.8% a year ago thanks mainly to asset sales. This is conservative compared with AREIT peers, positioning it well to deal with headwinds from Bunnings departures and potential economic hiccups. If property values fall, it would also be well-positioned to make acquisitions. The trust shouldn’t have too much difficulty extending its short average debt maturity of 1.7 years by issuing longer-dated bonds. It’s cost of debt is now just 4.3%, down from 4.65% in the previous corresponding period. Considering the recent fall in global bond yields as central banks became more dovish, it wouldn’t surprise to see BWP’s average cost of debt fall below 4%.