Schroder Real Estate Investment Trust Ltd

LSE:SREI

Earnings Call Analysis

Earnings Call Transcript 2024-Q1

[Operator]

Good morning, and welcome to the Schroder Real Estate Investment Trust Limited Investor Presentation. The team will be providing a short update presentation today, followed by a Q&A relating to the results for the quarter ended 30th of June '23. [Operator Instructions] The company may not be in a position to answer every question received during the meeting itself. And we'll review all questions submitted today and publish responses where appropriate to do so. Before we begin, we'd like to submit the following poll.

I'd now like to hand over to Nick Montgomery, Head of U.K. investment. Good morning.

[Nick Montgomery, executive]

Good morning, and welcome, everybody, and thank you very much for joining us today. So this, as Paul has just mentioned, will be a slightly shorter presentation because we're presenting today on our interim NAV update for the quarter ending 30th of June 2023. So as just mentioned, we will hopefully keep this presentation to 20 to 25 minutes and then leave time for questions. And we will -- I can see we've already received some, which is great.

So I'm Nick Montgomery. So I'm one of the managers working very closely with Bradley, who you'll see in a moment. And so we've got a slightly [ short step ] than normal, but hopefully this gives you a good flavor of the activity over the quarter and our views on the market.

So I guess just to start with, and this is also partly [indiscernible] people who perhaps know us less well than some of you. It's really just to illustrate how the portfolio is currently made up and with it being real estate, we love show pictures. So the 6 images here are our 6 -- amongst our 6 or amongst our 10 biggest assets, I should say. So about GBP 470 million of portfolio value as at the end of June, these 6 assets here represent about 50% of that value. As it happens, the top 15 assets now as we're investing in the portfolio and selling some of our smaller assets, our top 15 assets now represents almost 80% of portfolio value. And one of the [indiscernible] is for those who don't know us quite [indiscernible] it's actually very straightforward. So you get a good feel for the quality of the [ line ] portfolio, and that really is a key driver at the moment given the headwinds that we're facing in the market, but also the opportunities that we can see across the portfolio.

Moving from the left-hand side, almost half of our portfolio now is comprised of multi-let industrial estates. This is our preferred part of the industrial market. We are beginning to see a supply risk coming through to the logistics sector, which obviously is growing very strongly off the back of [ Internet-related ], [indiscernible] but we are beginning to see a slowdown there because of the more development coming through in companies like Amazon taking their space. Conversely, the [indiscernible] industrial estate, you've got a much more granular or potential base, and we're seeing very good levels of what [indiscernible] demand and Bradley give you a really great example [indiscernible] in the presentation.

Our Office [indiscernible] continues to fall. Our office rating now is at around 25%. The majority of that value is in 2 key assets, but we also have other exposure, particularly focused on the big 6 regional office centers like [ these ], and Edinburgh, for example, and obviously, Manchester here. But our 2 big office assets -- they are offices, [ it won respect ], but equally, at the same time, we have model office uses. So we have a university as a tenant in one of our biggest offices up in Bloomsbury in London. And also, as it happens, the university -- multilet assets -- apologies of issue to sound there -- with our large multi-let assets up in Manchester.

The balance of the portfolio largely comprises convenience retail. We've got 2 really good examples here. But in the retail market, it is polarized, and -- but we are seeing continued healthy levels of demand, particularly for convenience, [ completely ] grocery as part of that convenience market. There's a lot of our activity at the moment is focused on [ cap reverses what tires ] into our retail warehouse portfolio.

So again, key messages here, sorry, skip back [ on ]. Key message here, why do we think [indiscernible] -- is actually [indiscernible] interesting investment opportunity today? And first of all, from the top down and again, Bradley -- on some of these themes that we generally have a good quality, diversified, but importantly, weighted towards parts of the market that we think will deliver more attractive returns going forward. [ Divested ] also in terms of 40 assets, as I mentioned, but still with a heavy weighting towards our top 15, but also diversified by tenant base. And Brad will give you a good idea about the quality of that, particularly our larger tenants across the portfolio with almost 320 tenants now, which obviously diversify the income risk and it gives us confidence about future earnings.

And finally, in relation to the portfolio. We have a very high reversion of yield. So the reversion yield is a bit of property jargon, but that reflects the values view of our portfolio rent today where all the space available to let into the market. So effectively today's market rent as a percentage of our underlying portfolio value. And today, that reversible yield is about 8%. I actually can't remember [indiscernible]. And equally, I can't remember having such a big spread compared with the average of the market, which today stands at about 5.8%. That higher income, but also a very robust balance sheet, and again I'll come back to that in a bit more detail, means we have robust earnings.

We announced a further dividend increase for the most -- sorry, we announced a dividend increase over the financial year to March. We held the dividend over the quarter 2, but that dividend is fully covered 103% of earnings. And that dividend yield today on today's share price reflects a yield of about 7.7%. So a very attractive covered dividend yield of approaching 8%.

Balance sheet, Bradley will talk to that in a moment. We've put in place some further hedging. So 91% of our drawn debt is hedged. And we have a very long maturity, and we would argue most attractive debt structure in the [ period group ], but I'll try to illustrate that clearly in a moment. [ Discount of 30% ] It's better to some of the peer group, and we have seen an improvement in that shareholders have begun to see the impact of our efforts coming through its earnings. But we would argue today at that discount given the outlook for the market, notwithstanding the remaining uncertainty in the wider market, we just think actually represents a [ recent ] value.

And the final point to note. More on this, I think when we next present off the back of our interim results later in the year, we are continuing to evolve our strategy with an increased focus on sustainability. And this is all about a conviction that there is now an increase in green premium that occupiers prepared to pay and we think we can use our specialist expertise to drive value, exploit this pricing and deliver more sustainable income growth over the long term.

Now I'm not going to go through all these numbers, but we've shown here the movements of the NAV over the course of June. As you know, the portfolio is independently valued every quarter. We changed our value in line with best practice guidance from the [ IRS ] at the year-end. So this is the second valuation that CBRE has carried out across the portfolio. The headlines of that were that partly because of the active management across portfolio, our values were basically flat on a like-for-like basis, minus 1.1%, which compared to the benchmark of minus 1.1%. So continued relative outperformance against benchmark, together with a higher income return, I can illustrate that in a bit more detail shortly.

We continue to invest [ capital expenditure portfolio ]. Key projects like Stanley Green, which I'll come on to you later on, but also with [ a reach ] pipeline of future projects building through the portfolio. I mentioned earlier on that we paid a dividend of 0.836p per share and that is the dividend that reflects a 7.7% year-to-date share price and the numbers here that are clear to see. Now all of that, in summary, represented a NAV increase of 0.2%, now total return for the quarter of about 1.5%. And we think that will compare favorably with others across the peer group.

Moving on to the income statement, again, briefly because there are a lot of numbers here, but we've shown what we think is a clear illustration of successful implementation of our strategy, focus on the asset management. And really, the headline number here is that increase in EPRA earnings, the 27% quarter-on-quarter increase. And if you just look at the table, I'll draw out a few key points. I think the first point to note is positively recurring income increased by 5% and over the quarter. We saw a reduction in property operating expenses. That was different reasons. That number does move around a little bit because, of course, we are carrying out positive leasing activity, then that clearly does have an impact in [ terms ] of fees. At the same time, obviously, in terms of boosting income. So I would expect that probably to trend back up particularly over the rest of the year given the pipeline of activity that we've got.

We did see, obviously, the finance costs increase over the quarter, and that's because of a part of our debt, which is currently on hedge that, again, Bradley will talk about in the moment. But very, very positively. And again, I think in line with guidance that we gave you when we last presented, fully [ cover ] dividends with an attractive yield of 7.7%.

Just to illustrate the dividend profile in a little bit more detail. I think we remain the only company in our sort of recognized peer group. And again, I'll walk you through that in a bit more detail shortly, where we are paying a dividend that is above the pre-pandemic level, the only company that is in that position. We're very clear. Our Board are very clear. When we meet on a quarterly basis, if we can see that there is visibility for us to continue increasing the dividend where it's sustainable, we will pass over to shareholders. We are shareholders. We know people own this principally for income. That is our objective to have a progressive policy over the long term.

Obviously, the capital value side is important as well. And so what we're showing here are the latest performance numbers, so this shows you the performance of that underlying portfolio. So this is not NAV level, this is an underlying property level. And this allows us an important [indiscernible] of shareholders to compare the performance of our underlying portfolio against our institutional and REIT peers. And you can see, I won't go through all of these numbers, but you can see on the right-hand side, the relative performance over the different periods. And very positively, we have our performance literally [ over all time ] periods now, and we would attribute that to both the [indiscernible] of return really [indiscernible] by the active management, but also the diversified strategy allowing us [ to attack and change ] through the sectors. We've been increasing our [ industrial rating ], particularly to multi-let. We've been [indiscernible] Those occasions alongside the active management have driven that return.

I guess the point to note here is that the total return on our performance of 6.2% over 12 months is obviously positive, but they clearly are negative numbers. I think more probably what's more interesting and I think a good indication of where future performance will come from is if you look over 12 months, income return over the 12 months to the end of June [ was 6.1% ] compared with the benchmark [ 4.3% ] and that's cash rent collected. And again, having the head start on income, we think will really support our returns as we go through the rest of the year and obviously in next.

Now this next slide, obviously, includes the details on risk considerations, but it also includes information on the share price performance, NAV returns as well alongside the MSCI data that I just provided you. Clearly, the last one is due with the correction in the market, those are negative returns. But on a rolling 3-year basis, though, we are running somewhat ahead of our peer group. As you -- some of you will know because we made the point previously, if you look at the 12 months to [ June 2020 ] you can see that the negative impact there and that was largely because of the refinancing that we did in relation to our long-term debt, which has been -- with hindsight, really significantly positive things that have done but there was that one-off hit, which we provide information on here, which dilutes our NAV return when you look at it over a longer period of 3 years.

But really importantly, the [ bed into that refinancing ] and Bradley will talk a bit more about that in a moment is now coming through [indiscernible] in terms of our visibility of earnings and have the best and most -- I guess, the strongest [ benchmark, balance ] sheet in the group.

So just to bring that to life a little bit more. This is what most people, I think, and the analysts write about us would consider to be our most directly comparable companies in our peer group. And we wanted to [ draw around ] 3 reasons why we think our company is very well positioned. But if I just start from the top, I think the first point to note I mentioned the yield [indiscernible] that is obviously amongst the highest in the peer group. But I think what's really important is if you look at the number in the comps, our dividend at 7.7% is more than covered. The companies that are currently paying a dividend yield slightly ahead of us, you can see there are not covered. And we would argue that with our reversionary yield with the activity of the [ hopper ] so to speak, across the asset management projects that we've got more opportunity to drive that forward with our peers.

Notwithstanding that, you can see at discount, we would argue is compelling given our visibility on what's happening in the portfolio, but also because where we see the outlook for the U.K. market, and you can see that compares with some wider discounts in the sector, but there are some different reasons for those. So for example, moving to the far left-hand side, balance commercial property. One of the key reasons for that discount is because all of that debt comes up for refinancing [indiscernible] the next year. So investors are rightly beginning to be more discerning, looking at refinancing risk given the outlook for just rates particularly every course of the next 12 to 24 months.

I guess related to that, we're showing here the cost of debt, but also the duration, so how long is your debt locked in for as an average because different companies have slightly [indiscernible] structures. So we try to come up with an average duration for each of companies based on [ their most recent ] disclosure. And you can see the amongst the lowest cost of debt in the period, we've gone really significantly by some distance and longest duration. So I gave the example there of some of the companies that are left in particular, [ commercial ] property where as I say, the discount is reflective of the fact that all of that debt, which is currently [ 3.2 ] comes up reversing next year.

So moving on, I'm going to talk briefly about market because, again, it's not that long since we've last presented. But the big issue for all [indiscernible] assessing pricing across all markets is the outlook for inflation. And as you all know, CPI has been the highest 40 years, but we are now beginning to see that full part. Now whilst clearly, that is positive, the worry has been core inflation, so excluding the more volatile energy, food prices has been more persistently [ stubble ]. And that is a risk, and we've clearly seen that reflected in market expectations. [ Interest rates ] and [indiscernible]. But there is an expectation here, but we will see that gradually trend downwards. So although inflation remains a risk, there is an expectation that we are moving towards the top of the interest rate cycle.

But nonetheless, we do expect interest rates to continue to drift up before they start coming down again and you'll see huge volatility in the [indiscernible] market and also in the swap market reflected in cap prices, for example, as volatile as we can remember. And of course, real estate as a hybrid asset, so it has qualities and equity in terms of growth, but obviously, has a qualities that are working to a bond. So that part of the valuation is susceptible to what's happening with interest rates. And what we've shown in the left hand side of this chart is in the blue line, of course, being 10-year bonds. And then also what that implies in terms of debt costs, a typical borrower today on an average office building, for example, we'll be paying a total interest rate of 7% plus, so above where average yields are for the sector.

So for that reason, our expectation is this is more than reflective, we think, in the share price discount that we will see a further leg downwards in property values and prices. Our view at the moment is that average values from [indiscernible] might fall another 5, possibly 10%, but averages, as always, will be misleading. We expect next phase for correction to be more focused on secondary assets, particularly secondary offices, particularly secondary out-of-term offices, where they are [ all most adversely ] affected by changing working patterns, but also [indiscernible] risk largely because of increased cost of delivering space to tenants that have a high sustainability standards. So we are [ expecting ] the further move in the market to be more differentiated between the sectors.

And we are expecting the industrial sector, in particular, multi-estates to actually deliver relatively attractive return from here [ driven ] by rental growth, and I'll illustrate those points in a little more detail in a moment. The chart on the right, I guess, just gives a bit more illustration of that long-term relationship between the 10-year [ gilt ] rates and property yields. And so that's shown by the green line you can see here is the all property initial yield. And you can see there the 10-year bond yield. And a long run, you can see illustrated by the bars, over the last 10 to 15 years, the spread [ between 2 ] has been about 200 basis points.

If you look back over a longer period, so if you go back [ pre-GFC to ] a more normal real estate market of the late [indiscernible] before we have the impact of [ QE sort ] of artificially pushing [ bill rates down ], the longer-term relationship is more like 150 basis points. And that's why, again, we think going forward and particularly as we move into next year, as interest rates come down in [indiscernible] consensus proper yields will start to look relatively good value or fairly priced versus our historic average.

And the last point [indiscernible] We [ haven't got too ] much information in this deck because we'll try to keep this short. But unlike our cycles, we don't have the supply risk coming through. There [indiscernible] a huge amount of development in the market as we have [ resolved ] coming into and then after the financial crash of the GFC in the [ '07, 2009 period ]. So that's what this means in terms of capital value. You can see here on the left-hand side, the correction that we have seen with average values down now about [ 20%, ] represented by the dotted line. But with the industrial sector having fallen more mainly because of the lower yields being more adversely impacted by that rerating that we've seen across all asset classes, as I say, going forward, we think that average line will continue to trend down a bit, but with the industrial sector because of rental growth holding up better now compared with those other sectors.

Again, I've touched on this, but in contrast with previous cycles, this is a fairly significant correction that we've seen to put it in context. Average values still end up falling between sort of 25% and 30%. That compares to 44% during the GFC, so this is a significant correction. But it is worth noting that this is partly about the supply side point I've mentioned. Rents are still rising. Now a bit of EVs are nominal. The numbers that look very different if they're real, but rents in normal terms are still rising.

And I guess just to illustrate that point further. The data here shows the trajectory of rental growth from the point of the market [ the dear ] effectively. So we're looking at months after the market bottoming out following correction. On the left-hand side, you can see the downturns or the recovery, I should say, following the downturns of [ 1989, '07, 2022 ]. And you can see there the red line for the most recent period with average rental growth for all sectors, broadly speaking, tracking what happened post 2007. Now when we can present to you in 6 months' time, I would expect to see that red line moving ahead of that equivalent period post GFC because, as I say, [indiscernible] the same degree of speculative developments, particularly in the office sector that we saw in [ the run-up ] to the GFC.

What's much more striking and why we think having 50% allocation to industrial will put us in a good place is comparing how the industrial sector has recovered in terms of rental growth compared with those past periods. And so you can see that period from 2007 where industrial rents were pretty much flat for 12 months after that market bottom [indiscernible] . You can see in contrast, normal rental growth in the industrial sector way ahead of those -- that past most recent correction and [indiscernible] properties in average. So that reason, again, we think the [indiscernible] assets that we own in the industrial sector put us in a relatively good position.

I think finally, just to I guess wrap up on the market. You can see on the left-hand side our forecasts, and we are expecting a correction. As I say, over the next few months with the market then recovering towards the back end of next year when the market will generally has better visibility on where rates are going to top out other than say when we are hopefully through what we see as being a assessment period over the end of this year and into next. Across the main sectors, again, it's why we've got conviction about how we're positioned. You can see on the right side, we are expecting the sectors to be more converged than they have been, the polarization we've seen over the last 5 years, we think will converge. But we are expecting most of industrials, retail warehouse and particularly the value of the [indiscernible] asset market and within the office sector, more polarized within the office sector, but we do [indiscernible] the big 6 locations like Bloomsbury in London to deliver relative outperformance. So we may have more questions on the market.

But with that wrap up, I will hand over to Bradley.

[Bradley Biggins, executive]

Thanks, Nick. So whilst we will probably be watching inflation and interest rates, we've still been continuing our day job of delivering activity in the portfolio and there's been some really interesting activity through the quarter. But first, in terms of strategy, it hasn't changed for the quarter. We've been investing in our industrial portfolio, which is mainly multi industrial estates. And Nick has articulated why we favor that sector.

As Nick said, we've got the strongest balance sheet in the peer group. Our net loan to value is 35.7%. And in order to ensure we're going to keep that strong, we're looking at some smaller sales of assets where we completed the business plan we think that the sector is sort of more and more challenged than multi-industrials, for example. And finally, we are looking to evolve our strategy to focus on sustainability where we see a real green premium emerging and where we think we can add value and differentiate based on the huge resource we have in that area.

So moving on. Here we show some important stats on the portfolio. On the left-hand side, we have a table on some key [indiscernible] metrics. At the portfolio level, the top 2 rows represent the granular nature of the portfolio. So you can [ see we've got 40 ] properties and 1,300 tenants. And we think that makes the portfolio more resilient, particularly in this sort of recessionary environment where there's a cost of living crisis and consumers and businesses have less to spend. We think risk is lower in our granular portfolio and we've also highlighted 2 further [indiscernible] speak to the higher-yielding nature of our portfolio.

As Nick says, our reversion yield is 8%, which is high [ watering ] high and that compares to our current net initial yield of 5.7%, and that difference is around GBP 8 million. So the difference between our current passing rent and our estimated rental value is about GBP 8 million which is half of our current dividend, which is around GBP 16 million. So it just shows the size of the opportunity we have to go after within the portfolio to grow our rent.

And on the right-hand side, we set out the structure of the portfolio in terms of sector allocations. As we said, around 50% allocation to industrial, and that's almost entirely multi-industrial estates. And then you will also see we're very overweight in retail warehouses, another area where we see sort of stronger occupational demand and more resilient values.

With regard to our offices, we expect these into 3 sort of sections for you. So we've got offices in London. We've got offices in the big 6 cities and we've got offices elsewhere. So our London offices, which includes Greater London, so all [ 36 or so bars, ] these are left to 2 universities. University of [indiscernible] and [indiscernible] University, they're both growing, and we're delighted to have them as tenants. And in the big 6, our offices are [ in city center ] locations such as Edinburgh, Leeds and Manchester, where despite the kind of structural challenges that offices are currently facing with more working from home post pandemic, these areas have strong fundamentals and there will always be demand for these sort of higher quality, well-located offices.

Moving on. So here in this slide, we set out our 15 largest assets by valuation. This is really just to provide some granularity to you on the portfolio. You'll see the majority of our larger assets are industrial or letting universities. And we've got a large retail warehouse at [ St. John's Retail Park ] in Bedford. And on the right-hand side, we've shown a couple of photos. So on the top, you can see Stanley Green Trading Estate, which we'll speak to a bit shortly. And this has been a key project for the fund over the last 18 months or so. And then underneath that, you can see a photo of [ 19 Holy Maine, ] which is an element of [ Status Industrial Estate ], which is our largest asset by value. And you can see that this is under construction. And when it's finished, it will look like [indiscernible] above. So you'll see PV on the roof. It will be shiny. We've used recycled materials. There'll be EV charging. We're targeting [indiscernible] and [indiscernible] . So this kind of speaks to that sustainability theme where we think if you can deliver the most sustainable space, you'll be able to demand higher rents and the valuation will [ be as a keener ] yield. So justifies the actual CapEx spend.

On this slide, on the left-hand side, we list our 15 largest tenants as at the 30th of June. Some positive points to note. There's only 2 tenants that represent more than 2.5% of the portfolio rent, and they are Siemens Mobility, who are a subsidiary of Siemens, a global conglomerate, and the University of [ Law ], I mentioned before, they occupy our London office space. They use it for teaching for [ letters ], that sort of thing. And they are a growing business. And in fact, they're taking more space at us in Manchester, which is fantastic.

The other tenants as you look down the list, we see household names, strong names. We're really happy with the exposure here. A point to note, [indiscernible] University are currently on half rent because we [indiscernible] them. So we agreed a new lease ahead of the expiry of their existing lease. We regeared them in October. And this was because there's clearly the structural sort of trends that are adversely impacted offices. So what we wanted to do was lock the university into our office building for a longer period of time. So we lock them in now until 2028. And we increased their end by 13% in return for some rent free, which is currently on half rent. So when the half rents [indiscernible] , but they'll be paying us about GBP 1.3 million per annum, and that will be our second largest tenant.

On this [ live ] [indiscernible] , so where we have vacant space in the portfolio. It's 11.5%, which is slightly higher than it has been over the last prior quarters. And the reason for that is the Stanley Green asset I mentioned, so the new development that recently completed. And whilst we've let around 40% or have less or under of 40%, still going to take some time just to fully lease that asset because being a [ multiple ] industry stay often you let to smaller businesses and they like to see the space and walk around and understand what it'd be like for them occupying. But if we adjust for that, then the void is 9.2%, which is [ bang ] in the middle of [ about 5% to 13% ] range over 10 years.

And then what you can see in the table on the right-hand side is an analysis where we've shown you what we have let or [ under offer ]. And that 11.5%, 2%, is that under offer. So we're already trending down to 9.5% even before we adjust for Stanley Green.

We thought it would be interesting to show you an example of how we work, how to add value to assets, particularly we have a particular focus on sustainability as well. And Stanley Green, as I said, this is where we've spent the most money over the last 18 months. We spent more than GBP 8 million. We developed 80,000 square feet of warehouse and trade units on an existing site. But just to put some context on this, we bought this asset in December 2020 and it had [ a free empty sort ] of site next to it. There was planning for around 40,000 square feet of new accommodation. We immediately increased our planning to 80,000 square feet and we also decided to make it leading from a stability perspective. That development completed in the quarter. As I said, around 40% is [indiscernible] or in legals. And when it's [indiscernible] , we'll bring in GBP 1.3 million of rent.

Now bear in mind, we paid around GBP 17 million for this asset. We spent GBP 7 million. It's now valued at GBP 39 million. So really, really accretive to the fund. And you can see in the bottom table, the performance stats. So over 1 year, we've returned 17% compared to the all industrial benchmark of minus 22%. So it shows what we can do with our strategy focused on sustainability.

Now that was a backward-looking project. One that's essentially complete. We've got a couple of kind of live projects that we'd like to speak to [indiscernible] live project and one that we're trying to make live. So on the left-hand side, we have -- you can see in the photo image of St. John's Retail Park in Bedford, which is our largest retail exposure. It's a really sort of vibrant retail warehouse. It's the predominant suite scheme in the area. And we have anchor tenant there being little. So what we're doing here is -- and also it's a second retail park in [ Water Street and Bletchley is ] we've agreed with Starbucks that they'll build [ 2 pots. ] So 1 at each site on the car park that will cost around GBP 1.8 million for both. We're paying for that, but Starbucks are building it because they have plenty of experience doing that. And if the cost goes above GBP 1.8 million, then that will be for their accounts, so we're protected on the cost front. And when complete, the rent for both schemes will be around GBP 250,000, so a really high return on our investment. So that is now on site at Bedford.

[indiscernible], we're going to be on site shortly. We've got the [ GBP 41.8 ] million net spend, and we think the value will end at GBP 4.2 million and is currently GBP 1.8 million. So that's an uptick of GBP 2.4 million. So accretive CapEx there. And again, there's a focus on sustainability. Starbucks are required to meet certain standards in EPC and [indiscernible] and also have EV charging their customers.

On the right-hand side, we have another scheme we're trying to develop. But again, maybe just briefly step back on this asset. So this was another asset we acquired in December 2020. We paid GBP 19 million for this asset and it's now generating GBP 2.2 million per annum of rent. So that's a yield of around 11%, a yield on cost of around 11%. And we were able to achieve that by identifying during [ DD that ] they were kind of under-rented units there, mainly with the largest tenant Siemens. So we increased their rent through a rent review by around 30%. And also we have a second tenant called [indiscernible] or [ Littlefuse who ] manufacture semiconductors. So we increased their rent also by around 30% as part of a 10-year regear. So they're there for 10 years straight we have inflation in rent reviews.

So that was the first stage of the business partner [ Chippenham ], was to increase our income and really increase that yield on cost. But in addition, the Chippenham, the site [ Lange Park ] is right in the center of the towns right by the train station, there's lots of residential around it. And Siemens employ hundreds of people there. The site is 28 acres, and there's plenty of unused space. So what we're trying to do is work with Siemens to develop a new headquarters for them for their Mobility business. And you can see a CGI in the top right-hand corner of what that might look like. We're in negotiations at the moment. The power would be to use the empty land on the 28-acre side to develop the new HQ whilst they still occupied the existing units, which you can see the units in the photo. So be really efficient sort of scheme for them. And then once that new accommodation is developed, we would then refurb the existing. So in terms of cost to build, we think that will cost around GBP 69 million, including the value of the land that the units will go on. And at the end, we conservatively estimate that would be valued at around GBP 75 million. So again, another accretive scheme.

On Slide 24, we spoke about rental growth and we wanted to provide some color on where that will come from. So the first bar -- the first blue bar on the left-hand side shows our current rent. So that's GBP 28.5 million. It's worth passing at the moment. And then the final bar on the right-hand side shows our ERV, which as Nick described, is what the valuers think we could rent our portfolio units at today's rent. And then we're showing some steps on how we can get there. So first off, in the next 24 months, we've got fixed uplifts worth GBP 2.3 million. And a huge amount of that GBP 2.3 million related to just 2 leases. One being LittleFuse and the other being [ Putnam ] share [ new university ]. So around GBP 600,000 from the University and around GBP 400,000 from Littlefuse. So that's GBP 1 million coming through on just those 2 leases in the next few months.

Second, we've got Stanley Green. As I mentioned, that completed during the quarter and the rent that we expect to get from the unit on to let will be GBP 1.3 million. Third, you've got Starbucks ERV has come through. So Starbucks are currently on site [indiscernible] and we're going to start [indiscernible] you see. And as I said, when complete, that's GBP 250,000 [indiscernible] rent. And that's shown in the chart here. And then the final 2 bars show where our ERV is currently ahead of the rent that we're currently getting in the units. So as rent reviews come around and as leases expire, we would expect to kind of achieve our ERV and then finally, there's vacant space at the moment, which we're working very hard to let. So that describes where the GBP 8 million will come from.

On our balance sheet. So we set out here. We try to set up clearly the structure of our debt. We've got 2 facilities, a term loan in [ Canada Life ] of GBP 129.6 million. That's fully drawn. It's had a fixed interest cost on average of 2.5% and the average maturity is 12.8 years. So really strong facility there. And as at 30 of June has a valuation that's not reflected in the NAV of around GBP 20 million. Then we have our revolving credit facility with [ RBS ]. So the facility size is GBP 75 million. We currently have GBP 46 million draw. Of that GBP 46 million drawn, GBP 30.5 million is hedged. So there's a cap of 4.25% and GBP 15.5 million is unhedged. So that is subject to the [indiscernible] . Now the result of that debt is an average interest cost on drawn debt of 3.4% and an average maturity of 10.5 years, which is a really strong position to be in.

Finally, sustainability is central to our strategy. We think there's really compelling structural trends supporting enhanced returns if we follow this strategy. This slide just sets out some of the work we've been doing over a number of years to get into the position where we are today. That allows us to execute this strategy. And I hope that as we've been speaking through the deck, it really comes through that this is a focus on everything that we do to the portfolio.

With that, I'll pause and hand back to Nick for some closing comments before we move on to questions.

[Nick Montgomery, executive]

Great. Thanks, Bradley. I also gather from [ Paul ] [indiscernible] partway through, so that must be a, [ welcome relief ] to you. So I'm back on from what I understand [indiscernible] Apologies for that. Look, just to wrap up, again, this is an interim update. I think the headlines are that we're pleased with the progress that we're making across the portfolio, delivering the continued growth in net income shown by the EPRA earnings statistic.

I think going forward, whilst there is clearly continued uncertainty in relation to the outlook, particularly driven by inflation and interest rates, and I'm sure I'll ask some questions on that. We are very encouraged by having, firstly, significant lettings under offer, but also really quite exciting portfolio of future activity that we hope will deliver further growth in earnings going into the future.

I guess the final couple of points to note is we are differentiated by the strength of our balance sheet. On any measure, if you look at our balance sheet, duration, interest rate, hedging, we're in a very good position. And finally, I think we have a really clear strategy for [indiscernible] company with increased emphasis on sustainability, real conviction that, that will drive high levels of net income growth using the specialist expertise that Bradley and I have alongside our teams based both here in London but also Manchester.

So thank you for your time. And with that, I'll hand back [indiscernible] Paul.

[Operator]

Thank you very much indeed for your presentation both, Nick and Bradley. [Operator Instructions] But just while the team take a few moments to review those questions submitted today, I'd like to remind you that recording the presentation along with a copy of the slides and the Q&A can be accessed by your Investor dashboard. Nick, just to say you are back on screen now. So thank you for that. As you can see, we've had a number of questions that have come through during the presentation. We had several pre-submitted as well. If I may just ask to hand over to you, just to click on that Q&A tab and just go through those and read them out where appropriate and I'll pick up from you at the end.

[Nick Montgomery, executive]

Yes. Look, fantastic. Thanks, Paul. And again, it's great actually looking. We have some great questions. So thank you, [indiscernible]. So we'll go through them, and we'll do a tag team on these as we go through. So first of all, question, what is the sustainability of distributions going forward? Key question, clearly, [ we all know this for income ]. I hope what we've given you today is, obviously, clarity in relation to the most recent period, where our dividends were 103% covered by earnings.

Again, we are the only company now [indiscernible] as I say, to be paying a dividend level that's above prepandemic level. Going forward, we believe they are sustainable. I think it's the most important point to note. And that's partly because of the visibility we have or the activity across the portfolio, but also really critically because of the visibility we have on our future interest payments. So in that respect, we're comfortable that they should be sustainable. Clearly, there's always risk. We [indiscernible] a tenant. But I think, again, hopefully, what's come across is the granularity in the portfolio means that income exposure mitigated by both the quality of but also the number of occupiers that we have across the portfolio. So hopefully that answers that question.

The next question is where and when do we think interest rates will peak and at what level? I think we gave the answer of that. We would probably be interest rate traders and [indiscernible] . But look, I think I'll [indiscernible] you and then hand over to Bradley [indiscernible] this one. I mean, look, we can see what the markets are implying. And it has been increasing but also quite volatile. And our expectation is that rates might peak at around 6%. But I think probably more significantly, we consensus expects that obviously will trend down as we go into [ 2024 to ] 2025. So that's, I think, consensus.

That's also why we obviously flagged that long-term relationship between property yields and interest rates. And in particular, flagging how we have a head start on that, it's as far as our portfolio is much higher yielding. So we would argue that arguably, we're less acceptable to the impact the [indiscernible] could have on values. But also, again, while we illustrate that every cycle is different, although rates clearly are repacking values. On the rental side, we think we are in a better position compared with previous corrections largely because we don't have [ a oversupply ] risk that we have, for example, coming out of the GFC.

So I don't know, Bradley, if you want to add to that?

[Bradley Biggins, executive]

Yes. I mean I [ brought it ] 6%. Our economist last forecast, 6.5%, but that was before some more favorable data came through. And I think as more time passes, more people have to remortgage is well known now that there are few more mortgages that have been subject to rate rises than in past cycles. And also, I think we're starting to see the impacts of higher interest rates sort of indirectly on rented accommodation. So people who are renting suffering higher rents -- so I agree, I think maybe around 6% if I had to call it today.

[Nick Montgomery, executive]

Yes, I think that's right. And likewise, the next question asks what impact do we think rates will have on our profits. I guess hopefully, again, we've made the point clearly that whilst property [indiscernible] is clearly [ resolute ] by rates for the reasons we've given, but also in fact, we have a higher-yielding portfolio insulates us more than peers. I guess the other point in relation to rates that Bradley, you may want to talk to again just to draw the point around the hedging that we have in place .

[Bradley Biggins, executive]

Yes. So I mean, the best hedge we have is the fixed rate debt being the term loan, which accounts for around 75% of our drawn debt. So that's fixed at 2.5%. Whereas if you were paying a floating RCF at the moment, you're probably paying close to 7% with the margin on top of that [ Sonya ] so that just shows how attractive that long-term loan is. And you know the duration of that is around 13 years. So really, that's the best hedge we have.

And in terms of the RCF, we have interest rate cap at 4.25%. And [indiscernible] now is ahead of that. I mean it's around 5% somewhere. So we are getting payoff from that cap. But overall, 91% of our debt is either fixed or capped. So that really protects our earnings going forward by keeping our finance costs limited or keeping the increase in finance costs limited.

[Nick Montgomery, executive]

Yes. [ I'm ] very clear. The next question again a slight segue relating to this as to our opportunities to buy and sell or recycle. At the moment, the available capacity that we have is allocated to [ asset merger ] and actually at the moment, given the uncertainty, I think we see more value investing into our portfolio that we do necessarily [ going in ] or buying assets given the limited capacity that we have. I think we are looking to do more sales. We provided in the year results presentation details of the assets that we [ sold ] during the financial year and in fact, also since the financial year-end, selling office in roughly, for example, to our tenants.

Going forward, we do see an opportunity for further sales. We are working on sales for early September. We have a couple of [indiscernible] situations where we think there might be particularly reasons why we may have people who want to buy, but they would be around the edges, fair to say, I don't really see any significant sales. I think our priority at the moment is to crystallize value, particularly from asset management and some of our smaller assets. And it's more likely that rather than immediately recycling any proceeds to be used to repay [ the portion of ] the debt, we would expect that to be accretive comparing the yield that we're giving up selling versus a yield that we're currently paying effectively on that last year.

With the flexibility then, and that's the beauty for revolving credit facility, where we have more visibility on where the market will stabilize is to use those proceeds again even to go buy new assets or to invest further into some of the key asset management projects and Bradley, I think, clearly articulated.

It's a question about what opportunity exists for office convergence of the [ uses ] and should this be part of the strategy. See, [ Blackstone ] still buying industrial portfolios, and what implications does this have for our portfolio. Good question. So I guess we are already -- if you like, exploit the opportunities to convert office use. As Bradley said, again, clearly, there are 2 of our big offices in fact, our let to universities. And at City Tower Manchester, we've had a couple of floors recently to universities, that's a huge [ education in ] the U.K. is one of [indiscernible] exports. And so we see that as a huge opportunity, particularly in the stronger regional centers where we are invested.

I wouldn't rule out selling offices for other uses. In the past, we've taken advantage of committed development rights where a level of [ authorities ] will give the ability to expedite change of use from office to residential. And I think we may do more of that. So hopefully, that gives the question of reassurance that, that is part of the strategy.

In terms of the question about private equity buying industrial portfolios, I think that's really good for us. I think what we are seeing is more demand for bigger multi-lets, sustainably regionally industrial assets. And that's because those investors like us can see that there is a chronic number supply that there is, therefore, likely to be rental growth coming through. That's in contrast to less appetite for the logistics sector where, as I said earlier, there are still tailwinds in [indiscernible] market, but there is equally more supply risk compared with [indiscernible] . So look, if we see portfolios trade and that proves and move a [ valuation ] that's [indiscernible]. We're very [indiscernible] about that.

A question about valuation. How is property valued? Is it [ valid ] on the yield multiple? Or do we [ use a BCF? ] So first of all, as to our formal valuation [indiscernible] calculating the NAV, obviously, the full year [indiscernible] March interim September, but also the interim NAV announcement such as what we've just been discussing, the whole [ value ] is valued by CBRE as the independent value were in line with [ Rick's ] guidance. Alongside the guidance from [ Orix ] [indiscernible] on valuer rotation, which we've adopted best practice and hence the move from [indiscernible] CBRE, [ ICS ] are also consulting on a greater use of [ DTF ], just have cash flow within regulated valuations.

It is something we do as a team. So when Bradley and I are analyzing capital expenditure projects across our portfolio, we're working -- we're using [ DCF ], [indiscernible] forecast in total rates of return on the various projects that we are looking at. On our portfolio valuations and the valuations that we're using for the [ NAV ], the key driver for all that is [ comparable is ] available in the market. So is double the yield multiple basis having reference to that [ compares and ] the values will then use DCF as more of a check, particularly where there is less evidence in the market of resolving shopping centers, which obviously we don't [ owe ].

Right. So as [ a similar ] valuation question about why low-yielding assets sold off relatively more than high-yielding [indiscernible] as well, that's simply the multiplier effect. So for example, some [indiscernible] in industrial stakes, not any [indiscernible] us. I [ hasten ] to add at the peak of the market last year the value yields during the [ 3s ] because the market was expecting to see high levels of rental growth and therefore, buyers were willing to accept a much lower additional return, expecting to have that come through rent reviews or lettings.

But of course, if you see a general rising interest rates, then the multiplier effect when you're at such low yield is much more significant than it is if you're only on asset yielding 6%. So it really is as simple as that.

Again, I'm just conscious of time. Some of these, we can follow up on after the meeting. [indiscernible] that we haven't covered. So there's a question about void rates. So I think again, I think this is important. So Bradley, I'll pass this over to you.

[Bradley Biggins, executive]

Yes. So it says the [indiscernible] rate is 11.5%. And they think that seems high. And they're asking if we -- if the company, i.e., we as the manager has enough resource to actively promote the space. And the answer is yes, we -- taking a step back to traders as investment manager and real estate in the U.K., we manage around [ GBP 15 billion ], roughly GBP 15 billion. So we have an enormous team and the way we manage our teams, we have sector specialism. So we have industrial team. We have a retail team, hotels team, office team. And each of those teams have really great contacts in the market.

And given how much we manage, we have really good visibility on what's going on in the market. So with that large team of around 130-odd people, we do have resources to be marketing the space. And we do have the contacts with the agents that are required to kind of getting tough of [ the right occupiers where ] we don't have the direct relationships, we do have that, too. So yes, there's plenty of reasons going into [indiscernible] and it's not lost on us. We don't have to sort of spend money to get that rental income in, so we are pushing hard.

And in terms of the 11.5%, there is a bit higher, but I explained is a large part due to Stanley Green, where the new development came online during the quarter and just take a few months to be fully let because we want to make sure we get the best tenants on really strong terms. And the rents we have got so far at Stanley Green have been really good, more 20% ahead of the existing estate, which is just next door and with really strong terms. So we don't want to rush it. So yes, I think there is an opportunity we have [ avoided ], and we are pushing it hard .

[Nick Montgomery, executive]

Thanks, Bradley. That's really clear. Just the final question, and we will separately address the others after the meeting is related to the [ same development ]. Now the obvious question is how we're going to fund it because we haven't got the money, assuming we get to a point where we're able to contract on that. It is early days. And as Bradley said, we're running off a yield of 11% on cost, sort of the asset is [indiscernible]. We didn't underwrite doing a deal with any of the tenants there to deliver new space, but so this is upside.

We've done it before where we have been able to line up prelet agreements, subject to planning and then sell. I mean, do so crystallize the majority of the value that comes through that activity. What we are not going to do is put us in a position where any of our activity moves our net loan to value anywhere above ideally that long-term strategic range on a sustained basis. So our long-term strategic net low to value range, and this is guidance agreed for the Board is 25% to 35%. We're very slightly above the upper range at the moment. So [indiscernible] activity we're focused on how's that in mind.

So I say, it's early days. If we make progress over the course of the next few months, if there's an opportunity to sell another asset and recycle into something like a deal, we'll see where there's a higher return to generate, then we'll look at that. But we acknowledge the money is not there at the moment. And therefore, we need to look at alternative ways to extract value, all of which we've done before.

I guess the last point to note is it does illustrate that if we were twice the size, we would have no hesitation to doing that transaction. So all of the activity we've spoken about today is clearly driving it, maximizing shareholder return, but also ideally addressing the discounts so that we do at some point in the [indiscernible] in future creates opportunities to grow.

So given time, we really appreciate all those questions and apologies to people who feel they're not [indiscernible] but we will follow up with responses.

[Operator]

That's fantastic. Thanks for addressing all those questions, and thank you to all the investors for submitting them. As Nick said, we will get those reviewed and we published those questions where appropriate to do so on the platform. Nick, just perhaps a final few comments just before redirecting investors to provide their feedback, which now is particularly important to you in the [indiscernible]

[Nick Montgomery, executive]

Thank you. Again, Paul, I guess, first and foremost, thank you very much for everybody for your interest and [indiscernible] shares for your support. Again, we really enjoy engagement on this platform, the interaction we get through questions. And interestingly, we are seeing a change in our [ register ] with more platform investors, which I think also will be helpful to potentially for our rating going forward.

We genuinely think we're in a really good place, notwithstanding the market headwinds. We're delivering everything that we said we're going to do and hopefully, what's come across is alongside a very strong balance sheet that we have is we do have great visibility on future activity, particularly with that increased emphasis on sustainability. So we will continue updating with activity. We hopefully we'll be releasing [ notes ] on activity before we [ hold ] our results, our regional results, which will be at some point in late October and November.

So with that, Paul, I'll hand over to you to close.

[Operator]

That's fantastic. Nick, Bradley, thanks indeed for updating investors today. Can I please ask investors not to close the session should be automatically redirected to provide your feedback in order the team can better understand your views and expectations. It'll only take a few moments to complete and I know is greatly valued by the company.

On behalf of the management team Schroder Real Estate Investment Trust, we'd like to thank you for attending today's presentation, and good morning to you all.