Schroder Real Estate Investment Trust Ltd

LSE:SREI

Earnings Call Transcript 2023-Q3

[Operator]

Good afternoon, ladies and gentlemen, and welcome to the Schroder Real Estate Investment Trust Limited Investor Presentation. [Operator Instructions] Before we begin, I would like to submit the following poll. And as usual, if you could give that your kind attention. I'm sure the company would be most grateful.

I'd now like to hand you over to Head of U.K. Real Estate, Nick Montgomery. Good afternoon, sir.

[Nick Montgomery, executive]

Good afternoon, and thank you for the introduction, and thank you very much, everybody, for joining us today. So those that have been with us before will know that Bradley and I are responsible for managing Schroder Real Estate Investment Trust. We've got a slightly shorter presentation than those that we have done recently because obviously, we're focusing here on the quarter to December 2022. Clearly a very interesting quarter for lots of different reasons after the mini budget. But we will hopefully have plenty of time for questions at the end. And in fact, we've already got a few that we can respond to.

So with that, just moving on, again, some of you may well have seen these results. We announced earlier this -- earlier last week, our net asset value as at December 2022 of just over GBP 303 million. As a lot of you will know, the portfolio is independently valued every quarter that drives our announcements. Obviously, we announced our interim to September. So this is an unaudited NAV. But based on that independent valuation drove that net asset value of GBP 303 million or 62p per share. That resulted in a calendar net asset value total return of minus 8.1%. And it really was a year of 2 halves. Healthy levels of growth in NAV, driven by property valuations over the first half but obviously, what happened in the second half, we were kind of expecting a correction, but obviously, the impact of the [indiscernible] budget meant that the Q4 capital value decline across the U.K. market as a whole, the level of that and the speed of that was pretty unprecedented.

Now we gave that guidance in our interim results. We advised that we were expecting to see values fall around 15% over the back end of last year. And actually, that's broadly speaking, what the index did, albeit pleased to say with the activity across the portfolio, our portfolio held up better than that with a capital value movement of just under [ 12 ] and we also benefited from having a consistently higher income return. And Bradley will talk about that a bit more later.

Now what that meant was a Q4 net asset value total return was minus 16.1%. But I guess, encouragingly, and as those that have heard us speak before, ultimately, we own this complete income, on healthy levels of activity across the portfolio, continued strong levels of rental collections meant that we were able to announce a fully covered dividend. So dividend covered by about [ 105% ]. But also more importantly, and more later announce a further 2% increase in the dividend that will be paid early this year.

The other point to note is that we remain in a position where we have a very secure balance sheet. Bradley will talk about the detail of that later on with a net loan to value of about 35%. So at the upper end of our strategic range, but nonetheless, plenty of cover against loan covenants, and we feel comfortable being in that position.

Obviously, the performance at property level continues to be strong, as I noted briefly earlier on. And over the 12-month period, we had probably the widest margin of outperformance, I think we've ever had and more on that shortly. Over 3 years, a total return of 5.2% versus a benchmark of 1.5%. And as I say, performance driven by a very healthy level of active management, but also we've signaled this previous investee company presentations, we will, where we can continue to realize active management upside when realized, where we have smaller assets, where we see the future potential as being more limited. And so that led us to sell a small asset, an office asset down in fleet, realizing a 70% premium over the last reported value, and we have more small sales currently in process. Proceeds we use, obviously, to repay debt in the short term. But obviously, looking forward, lots of projects, we think that we can deliver very attractive returns, investing in our portfolio. And with the market correction, we believe some way through. Looking forward, we think there'll be the opportunity also to make some accretive acquisitions in the not to eastern future.

Income in the middle come, there's lots of stats here, which Bradley will give you a bit more color on. But fundamentally, we have benefited from having a higher income-producing portfolio. That's obviously allowed us to increase the dividend by that further 2%, where we're now 6% above the prefunding level. The only one in our peer group that is in a position where it's paying ahead of that.

The last couple of points here, again, I won't go into great detail, but huge focus on ensuring that we are maximizing the quality of our assets through active management, through capital investments, but we've an increasing emphasis on improving building ESG performance. We genuinely think that, that will enable us to deliver more sustainable income in both centers of the world. And then we'll be increasing emphasis on that as part of our strategy in order to maximize income and total returns for shareholders.

So just moving on, again, for those perhaps haven't heard us speak before, we thought just got a very brief snapshot of the types of assets that we own. Moving from the left-hand side, almost half of our assets are within the multi-let industrial sector, good quality assets. on the edge or in densely populated urban areas. And frankly, we will give you a flavor of those in a bit more detail later on. Obviously, we -- about 1/4 of the portfolio is invested in offices. We've been very careful in selecting offices that have good fundamentals in what we call winning cities, so cities where you've got knowledge-based economies, a clustering of, for example, life science, tech, media in cities such as Manchester parts of London and that input to give 3 examples. And finally, although interestingly, we are seeing a turn generally in the retail market and in fact, more liquidity in shopping center example than we've seen for many years. Our focus has and will continue to be on what we call value and convenience retail. So that's -- as you can see in the top right-hand corner there, our biggest retail asset is a really good quality beta warehouse park in [ Bedford ] where we're going cotenants by little but also assets like heading in Central where we've got catchment dominant local retail, in this case, anchored by Sainsbury's, but where we've also got alternative uses, for example, a Premier and you can see an image on that bottom right-hand corner.

Now why is [ ASTRA ] an interesting investment today. We're sort of recapping some of the key messages that we've been giving to you and other shareholders over the course of the last 18 months or so. I think the first thing is we have a good quality and importantly, a diversified, high-yielding portfolio. You'll see numbers in a moment that show the polarization that we've seen in the market where, obviously, the industrial sector, up until middle of last year, generated absolutely unprecedented levels of return. We were expecting that to converge and that is exactly what has happened. And so owning a more diversified high-yielding portfolio, we think is the right place to be and if we can apply asset management, particularly focused on ESG, we believe that's the right way to deliver more sustainable returns over the long term.

We have an attractive dividend yield. So based on the higher dividend that we just announced and today's share price of just under 50p, that reflects a dividend yield of about 6.8% and also discount to net asset value of still somewhere over 20% and really importantly, and I'll come on to some of these messages in a moment, we have a high yield, but we are also fully covered by our earnings unlike others in the peer group.

We have a very strong balance sheet. As I say, we have a price in the market today that we believe is compelling. And finally, again, I touched on this already, we do have a thematic focus on sustainability that we're applying across our entire asset base using the asset management team Bradley and I have access to within our offices down here in London, but also importantly, actually, I've in Manchester, which were closer to our diversified portfolio of structures across the U.K.

If I just move forward -- so just to give a bit more color on the peer group. Some of you will know a number of companies in our peer group. These are all investment trusts. When you look at our MSCI Benchmark, that also includes main market REITs, but what we're focusing on here or the investment trust, which most invested as being close to peer group. And what we're showing here are 3 measures that we believe demonstrate that we do offer a really interesting value at the moment and obviously SREIT shown in orange.

I think the first point to note on the top line is that we have the highest fully covered dividend in the peer group. So you can see that 6.8% on to their share price with coverage last reported at 105%. Now as you move to the left, there's only one to the left, you can see that AW, they do have a high yield. They are currently paying a yield on share price of 8%, but they are substantially uncovered. And so when we're looking at the sustainability of dividends, I think investors can take comfort from the fact that, a, we are already fully covered, but also as Bradley will outline later in the presentation. We've got activity that we're working on, which hopefully will allow us to maintain that level of coverage and hopefully improve it with further dividend growth into the future.

In terms of the share price discount [ 23% ], you can see there, again, there are companies that have wider discounts but at 23% there is slightly wider today. Investors are able to access a really good quality portfolio at a meaningful discount to market. As I said earlier on, it does feel as we've started this year and particularly as some of the inflation numbers arguably somewhat surprisingly are looking more favorable. I think the market is expecting interest rates to stay below perhaps where people feared at the back end of last year. And that ought to support real estate values and lead to a quicker floor than perhaps we were expecting when we last spoke to you at the back end of last year.

The final point is, and this is probably the most significant at the moment. We have the lowest cost of debt in the peer group on a blended [indiscernible] [ 2.8% ] but as you can see within the box here and probably more importantly at the moment, we have the longest duration. So our weighted duration and our debt across the portfolio is 11 years. The biggest part of that debt which is our fixed rate term loan at 2.5% actually has a duration of over 13 years. So it gives us a fantastic bedrock, if you like, from which we can really plan and give investors confidence that we -- it's very likely we'll get loan, of course, by rising interest rates, diluting earnings.

Moving on to the next slide, obviously, key for all of us is a level of dividend. We did pause the dividend during the pandemic. You can see there in Q3 2020. But since then, we have continued to rebuild it. Every quarter, we meet the Board, we look very closely at our cash forecast based on activity in the portfolio. And when we feel that we can make a recommendation to accretive then we will do. We will continue where we can to continue delivering a progressive dividend policy. Ultimately, that's why we own a good quality portfolio, but it does generate a high level of income that we can grow through our active management.

Moving on to the next slide. So this is showing the portfolio performance. So rather than NAV level, this is looking at the performance of the underlying portfolio like-for-like with other owners of U.K. dire real estate. And you can see and I'm not going to talk to all the numbers, but on the bottom right-hand corner, you can see the relative performance versus the MSCI group over 3 months, most recent 3 months period to December, but also 1 in 3 years. You can see that the 1-year outperformance of 6.9%. I think that is actually tending the highest margin outperformance that we ever had. And that's for different reasons, actually, I think, it's partly due to the fact that the correction at the back end of last year was largely driven by yield rerating. And therefore, by definition, low-yielding assets benefited or rather were suffered disproportionately as that risk free rate increased, property yields increased, and therefore, the low-yielding assets, in particular, very low-yielding industrial -- all the most significant capital value clients, and I'll illustrate that in a bit more detail shortly.

But also importantly, and this is illustrated by the bars on the top there, and you can see that over the 1 year, it's also about having that higher income return over the long term. And that's what those orange parts are representing. You can see there with the higher income return versus the benchmark turn on the right-hand side over all time periods.

The next chart is showing the discrete yearly performance using all the different measures. So you can see there the negative 8.1% of total return I mentioned second line down in that first column of numbers, obviously driven very much by the performance over the final quarter I guess for those again who don't know us quite so well, we're continuing to highlight the orange dotted box there where during that 12-month period to December '19, we completed that major refinancing did incur those significant rate costs, which diluted the NAV, but also at the same time, locked in the very long-term loan, I just mentioned, Bradley walk you through in a bit more detail shortly.

I think what we will say, having I didn't comment over many years now is we now have a clean 3-year net total return track record. When investors and shareholders who didn't know us quite well, were screening the company up until last quarter, we were always having the negative impact of those break costs. So now we don't have that in our 3 number, but we are, of course, benefiting from the lower cost of debt going forward.

Now on the market, I've touched on this already. This is a chart that we use to illustrate at least historically, just how polarize the market was. And you can see the dark blue bars there, you can see are the monthly movements in average U.K. capital value. So this is a whole market rather than just our portfolio in isolation. And you can see with those orange bars, even side of that, we're showing you the spread between the best performing segment of the property market by sector. And obviously, at the other end, the worst performing segment of the property market.

And you can see that really since the referendum and driven by those incredibly strong tailwinds, the industrial sector clearly delivered very, very strong levels of performance that drove yields down to levels that we did believe we're getting to the unsustainable levels. We weren't buying the very low yield on logistics assets. We actually be able to sell some of our industrial assets to crystallize our performance. And what we are seeing now is obviously a correction where, as I have said, some of those building assets have actually borne the brunt of that capital value decline, high-yielding sectors like parts of the retail market, have actually, over more recent months, begin to deliver the highest returns across the market, which has been a very, very different picture, obviously, over recent years.

Somewhere sitting in the middle is the office sector. Although just reading this morning, in fact, the stats for people returning to work are particularly between Cheese at Thursday, obviously are getting back to levels not that far off pre-pandemic levels, at least in some cities and towns. But of course, alongside that sort of structural issue that investors are trying to get their heads around the office are also suffering from the highest levels of obsolescence risk, partly relating to obviously building specification but largely relating to buildings ESG performance. And the cost of refurbishing offices as a proportion of value is somewhat higher than the other sectors, which is why we're seeing investors. I guess, step back from that sector until it reprices to a level where the cost of doing that is fully in the price.

And we think we've got the skills and our team virtually to assess our price, but more important, we actually deliver on that active management.

I guess what has driven that repricing? I've already touched on this, but you can see the chart on the left hand Aside, the bars you can see there represent the spread or the yield gap between the average property initial yield and the 10-year bond yield. So you can see the blue line there, the bond yield, clearly post mini budget, we saw that spike very sharply Interestingly, that 10-year bond yield is now trending back down towards the low 3s. And as I mentioned earlier on, if consensus -- and I think we do feel that consensus perhaps is a bit too optimistic given that how persistent core inflation looks, if the forecasts are right, and we do see CPI trend down nearer to 2% or 3%, 12 months out, obviously, particularly with the energy price, not having such an impact. Then I think it's plausible that those 10-year gilt yields will remain at or around 3%. And I think with that, we're coming to a view that perhaps we have had the worst of the capital value declines in the market.

So I think our view is probably over Q1 and into Q2, average values may fall between another 5% or 10%. But again, average will be very misleading. We are already seeing evidence in the industrial sector to really showing where the floor is. And we do believe our assets are good quality in our sector.

So again, we're not expecting to see a 5% to 10% came in our portfolio in the same way that we haven't suffered as much up to December, but it does feel like we're beginning to get visibility on the floor in the market.

And again, we may -- very happy to take questions on that later.

Last slide on the market, again, Bradley will give you a bit more information on our portfolio in a moment. But I think there's been a huge focus on the industrial sector because it has been such a sort of an in-demand sector and obviously, lots of specialists have been listed to invest. And I think the key message coming from this slide is whilst it has seen the most significant falls in capital value, it is finding a for partly because we're beginning to see yields stabilize. But actually, more importantly, on fundamentals, particularly in the multi-industrial markets, the supply and demand characteristics remain very attractive.

What you can see, if we probably just start on the bottom right side of this chart, you can see the buildings start within multi-let industrial market, which is what we own but then comparing it with the supply of distribution warehouses and anyone that spends any time driving up in our motorways across the U.K. will know that all the industrials is being built comprises generally big or mid-boxes -- the at least up till now, clearly been dominated by the likes of Amazon and other retailers or third-party logistics operators who are effectively serving the huge growth in online retail in particular.

Now that structural trend is absolutely with us to stay, albeit at the rate we think of growth. Obviously, we'll slow having had the acceleration during the pandemic, and we are to see a recovery in physical retail. But as in all cycles, the market tends to develop a bit too much. And so I think our concern about the logistics market is there is a fairly significant supply pipeline going through at a time when that demand we think will begin to slow. Consequently, if you look at the chart on the top right-hand side, you can see that actually e-commerce demand has already gone slow, but other parts of the market, manufacturing, 3PLs, trade counter uses, for example, 1/2 have, slowed less.

And so where you have multi-let industrial estates that can satisfy that more diverse occupier market. We think actually that will lead to higher levels of demand, lower void, but also high levels of rental growth. And that's really the message on the late side is that we -- going forward, we are expecting lower levels of growth from distribution warehousing versus lower dense -- sorry, yes, the multiple industrial estate more lowly rented industrial estates, which we tend to own. And again, we'll give you a bit more color on that shortly.

So with that, I will pause to [ rest ] and hand over to Bradley.

[Bradley Biggins, executive]

Okay. Thanks, Nick. It's a pleasure to be talking to you here about SREIT today. The slide in front of you sets out the pillars of our strategy, which Nick has outlined quite nicely already. So we'll move on to the next slide, where on the left-hand side is a table of some important data points on the portfolio. And we've highlighted some raise there.

Firstly, we've highlighted the number of assets and number of tenants we have. And this speaks to the diverse and granular nature of the portfolio, which we think makes it more resilient, particularly in a more challenging economic environment. And then the second set of roads, you've highlighted there speak to the higher-yielding nature of the portfolio, which, as Nick says, has kind of contributed to the outperformance -- strong outperformance last year. So we have a higher yield were therefore less impacted by parallel yield movements.

Then on the right-hand side, we show our sector breakdown of the portfolio compared to the benchmark. And we've hit our [ overweight ] positions in industrial and retail warehouse. So for industrial, particularly multi industrial, we see favorable supply-demand dynamics, and we expect that to continue and in fact, the last 7 lease regears and rent reviews we have performed in the quarter, there were rents 33% of the previous value and we expect our convenience-led retail warehouses to be resilient as they were visiting COVID.

So moving on to the next slide. So we've got good quality assets with good fundamentals in higher-growth locations and to provide you with transparency of the portfolio, on the left-hand side, we list our 15 largest assets by value. As you can see, this represents almost 80% of the portfolio value. And on the right-hand side, what we've shown are 3 sort of mini case studies to give you a flavor of the sort of nonindustrial assets that we own and also some of the asset management that we've already undertaken and have underway.

So at the top yet, at the top, we've got [ Hedman Central ], which is in Leeds, 120,000 square feet of space. This is prominently located in a dense populated area, very popular with students and young professionals, In the photo, you can see the Premier Inn hotel. When we acquired the asset, this was actually an office block. But we converted it to a hotel. We secured a 25-year lease and that's linked to RPI as well to CPI, actually. And we recently increased our rent by 13% to around GBP 480,000. So that happened in December as a result of a 5-year rereview linked to inflation.

So there's 20 years left on that lease, and it continues to be inflation linked. And it's an example of us kind of building these long-term leases, this long-term income linked to inflation without having to pay the premium for it. We spot the opportunity and undertake the work to develop that.

There's a similar situation also ahead of me with the gym. So there was a former office block. We converted it into a very large modern gym. It's really, really nice. It's one of the best training gyms that the chain owns -- and that's a 20-year lease, where the rents are uplifted by 10% every 5 years. So fixed uplifts there. So again, long income with fixed uplifts.

In the center, you can see a CGI of our office in Uxbridge. So it doesn't quite look like that yet, but we've got ambitions to make it look like that. So this office is actually occupied by university called [indiscernible] University, and they train nurses at the site. So -- they're actually one of the fastest-growing universities in terms of student attendance and you can probably understand why given the train nurses. And we recently agreed to remove a break from the lease, which is fantastic because it keeps us with them at the site until November 2028. And it also locked in a 13% increase in their rent. So the rent increasing to GBP 1.3 million effective January 2024 and all else being equal, to become our second largest tenant.

So the story doesn't end there with the university because we're looking to execute a longer term where you gear with them, so maybe 20-, 25-year lease potentially linked to inflation or fixed uplift. And in return for that long lease, we work with the university on improving the sustainability performance of the building because they too have their own ESG goals and bill environment is a key component of that. So we're in discussions with them at the moment, and we hope to agree a deal in the future.

The last asset you can see there is on John's Retail part. As Nick said, this is our largest retail exposure. It's the [ Catch me dominant ] scheme in the area. It's pretty let at sustainable rents and is anchored by a little you can see in the photo there. So really good footfall coming through. During the year, we -- well, during last year, we completed a pre-let with Starbucks. So this is 15 years. Again, our CPI-linked and so Starbucks going to build a new drive brew on the estate for us. We're going to pay for that, but it's cap. So the cost risk is on them and we expect this to drive further footfall to the scheme. We did recently get planning for this just this month or last month. And -- so we're all good to go on this one. So we expect to kind of update you in the future with hopefully some images of the completed site.

But again, this is an example of us generating this long-term income with good tenants that are often linked to inflation or fixed uplifts.

So moving on. Nick outlined the volatility in the industrial market over the last 6 to 9 months. And we thought it would be helpful if we provided us some detail on our industrial portfolio. So there's a lot of data on this slide. There are some very nice aerial photos of our largest mostly industrial estates as well. For us, we will draw out the value of our portfolio. So the average value per square foot for our portfolio is GBP 88, which is great value, frankly. It costs around GBP 110 per square foot to build the high-quality modular industrial estates such as the development we're doing at Stanley Green. And this is one of the reasons why portfolio outperformed last year is because it already represents great value.

And just to give some context to that GBP 88, our most expensive industrial estate on a capital value per square foot basis is Stacy bushes, which you can see in the top left-hand corner. And that's worth around GBP 150 per square foot it's close to London. And last year in the height of the sort of industrial craze units were trading hands at GBP 400, GBP 500 per square foot. So it just shows that to value portfolio that we expect to be resilient going forward. So moving on. So on this slide, again, to provide you with some transparency on the portfolio. We show our 15 largest tenants by annual rent as at the 31st of December. In our view, this is a list of well-known quality household names. And we'd point out that there's only 3 tenants that represent more than 3% of the rent. And we're really comfortable with these tenants. So we've got the University of Law, our largest tenant. They are a provider -- or the largest provider of legal education in the U.K. and they're growing as a business. And actually, they're taking up more space with us in Manchester, [indiscernible], which is really positive from our opinion.

Siemens clearly a very strongly performing business. part of the global conglomerate, very profitable. And then we spoke about [indiscernible] University already, so they're our third largest tenant at the moment. Then as we look down the list, we have no concerns whatsoever, we point out the long leases that we have with Premier Inn a little. So we think we've got a really resilient portfolio, and we expect our rent collection to remain strong. It's been 98%, 99% for the last few quarters.

Moving on to next slide. So our void marginally decreased during the quarter to 8.6%. This remains in the middle of our long-term range of 5% to 13%. And we've highlighted in the table that we do have some of the space under offer, some of it is already let off that column, and we also have refurbishment underway at some other units that we expect to better rents once complete.

On to the next slide. So with returns between the sectors converging, it couldn't last Industrial was going to outperform strongly every month and retail is going to be the worst performer every month. So we've expected this convergence to come for quite some time. And as Nick pointed out on the slide, industrial has been -- is completely reversed with industrial being the worst performer over Q4 last year. But if returns across the sectors converge and the allocation sectors, a simple allocation isn't going to be sufficient, we see our performance to be asset-led going forward. So what we've shown here is a summary of some of the initiatives we have underway in our portfolio.

So first -- in the first column, what we have is a new unit we're constructing [ Stacy bushes ], so this is called [ Holly Lane ]. So at the moment, we have a small unit in place there, just under 5,000 square feet. We're going to build an 18,000 square foot sort of state-of-the-art really strong performer [indiscernible] unit, and there's a CGI there. This will increase the rents up to almost 250,000 we were previously getting the 100,000 in the unit, but actually that was because we had a short-term lease with a tenant who we knew was going to vacate, we're want to do the refurb.

So once that's complete, we estimate a value of GBP 4.2 million and it will cost us around GBP 2.7 million to build that. On the second column, we've got Stanley Green Trading state, which we spoke about a lot over the last year. This is almost complete. We expect it to complete this month actually. We think that will be worth around GBP 20 million, which is a conservative estimate. We've got a valuation at the moment of GBP 13 million. So as at 31st of December. So we expect a material uplift once complete. Equating to rent of GBP 1.3 million, and we're making good progress in securing interest in units there. Then in the third column, we've got the Starbucks, which I mentioned before. So Starbucks being developed at St. John's Retail Park and also treat Again, we expect a value of around GBP 4.2 million of these 2 sites, and it's going to cost us around GBP 1.7 million to build them.

So again, generating that valuation uplift through active asset management. Then on to the final column. So this is -- so while the other 3 initiatives I just described are in progress, this fall one is one that's very much more in the pipeline, and it's something we're trying to develop. But just to give some background on Lange Park. So we acquired this asset in December 2020. We paid GBP 19.25 million. It's a 28-acre site in the [indiscernible] Town Center, right net to the train station. And when we acquired this asset, there was kind of 2 phases of the business plan. The first phase was to secure the income uplift that we saw from tenants that were already at the site. So we executed a rent review with Siemens and increased their rent by 26%, and we executed a lease renewal with [ XS ], which is a subsidiary of [ Littlefuse ] and increase their as well as securing a 10-year lease with no breaks that has an RPI-linked rent review in it. So again, generating a long-term income.

So now we crystallize that rental growth. The next phase is to make use of some of the kind of excess space we have at the site. So this is to increase massing and increase the rents from the site overall. We've had really encouraging talks to the council to build a further 130,000 square feet on land that currently has no value attributed to it. And if we assume GBP 110 per square foot, which is what we did with Stanley Green. This will cost around GBP 140 million, and it were conservative we generate rent of GBP 1 million and result in an end value of GBP 18 million.

But actually, what we've outlined in the column is a larger scheme that involves tenants already at the site. So what we would do is develop not 130,000 square feet but 230,000 square feet. And assuming GBP 110 square foot again, that costs around GBP 25 million. And then if we add on the existing side value, you get to around GBP 60 million cost. But we think, again, conservatively, this could be worth in excess of GBP 70 million, as well as generating really high-performing accommodation. So this again draws on our sustainability expertise and performance.

So moving on to the next slide. We set our balance sheet. So what you can see on the left-hand side is we have 2 facilities. We've got a term -- a term name of Canada Life of GBP 129 million and RCF with RBS with a total facility size of GBP [indiscernible] million. So the term loan is fully drawn. This has got a fixed interest rate of 2.5% and an average maturity of more than 13 years. And the RCF is partially drawn, so GBP 46.3 million is drawn. The majority of that is currently capped. So GBP 30.5 million is subject to an interest rate cap that has a strike rate combined with the margin means the highest interest we will pay on that slice of a year is 3.15%. And then there's a small slice of the RCF that is subject to [indiscernible] as it floats.

So overall, that results in an average interest cost of 2.8% and an average maturity of 11 years, which is the best in the peer group by quite a margin in our opinion and gives us a competitive advantage, it protects our earnings and enables us to hopefully maintain that dividend and perhaps even grow if we can deliver some of the asset management that we have underway. Overall, the loan-to-value is around 35% as at 31st of December.

Moving on to the last slide for me, which sets out our sustainability progression over a long period of time. So our research and the evidence of the portfolio demonstrates that there is a material rental and value premium of building to green certifications. We expect this premium to grow as extreme weather events become more common as additional regulation with respect to the lease of the buildings with poor energy performance becomes effective and as potential forms of carbon taxation or introduce.

So this, in our opinion, supports the direction of travel where we want to make sustainability the defining attribute of our strategy. And the focus for us stays on decarbonization, which has to be driven by energy demand and efficiency first. So that is using resources responsibly. So therefore, a deep understanding of individual asset performance and potential performance is important. And we're currently undertaking a comprehensive review of the portfolio. We are measuring a whole host of sustainability sort of attributes of the portfolio in the quality of building fabric, energy systems, water consumption, waste management, biodiversity, et cetera.

So what that analysis will enable us to do is form a baseline sort of measurement of each asset that we can then understand what we need to do to improve that baseline score over time. And it will also enable us to report to stakeholders, how we're progressing against our targets. So that's something we're going to expand at our annual results, and we're excited about. But fundamentally, we think this will enable us to deliver more sustainable income going forward. So it's sustainable from the perspective of ESG and sustainable from the perspective of maintaining that dividend.

So moving on and handing back to Nick for a summary.

[Nick Montgomery, executive]

Great. Thanks, Bradley. Very clear. So just to wrap up briefly because we will go to questions, we continue to believe we're well placed. Clearly, we have seen a correction in the market, and we do think there is still scope for further capital value declines. But the outlook today, I think, is certainly better than it was for 2023 than we perhaps thought at the back end last year. I guess most importantly, based on the activity across the portfolio and obviously, based on our very secure balance sheet and genuinely it is sort of sector-leading in terms of interest cost and duration. And we've got a really great foundation, which when combined with the active management should allow us to continue delivering that progressive dividend policy.

So with that, I'll leave it there because I can see that we've got some questions. So I'll hand back briefly before [indiscernible]

[Operator]

[Operator Instructions] But just while the team take a few moments to review those that were submitted already. I would like to remind you that a recording of this presentation along with the slides and the published Q&A can be accessed via your invested dashboard.

Bradley, Nick, we did receive a number of pre-submitted questions ahead of today's event. And as you can see there in the Q&A tab, we've also received a number of out your presentation this afternoon as well. So firstly, thank you to all of those on the call for taking the time to submit their questions. And Nick, Bradley, if I could just hand back to you to respond to those where it's appropriate to do so, and then I'll pick up from you at the end?

[Nick Montgomery, executive]

Fantastic. Thank you very much. So we'll go through it will be a bit of a tag team effort. I guess just on the first question, and this relates to the ETC building energy efficiency ratings. And as some of you will know, the government are introducing more stringent regulations. And the question here relates to essentially how our portfolio measures up with reference to those regulations, and in particular, our exposure to the weakest ratings, which are ratings F&G.?

So there is a little bit more detail here, but Bradley will answer the question, and it's something that we will definitely be coming back to you with our results.

[Bradley Biggins, executive]

Yes. So in terms of F&G ratings, we only have 2 units that have an F&G, so and they represent of the ERV around GBP 300,000, which is less than 1% of the book value ERV.

In terms of CapEx risk in relation to those 2 units, we've actually undertaken CapEx on one of the units already. So when we get the EPC remeasured this quarter, we expect a better rating. And then the other one, the CapEx risk is minimal.

And the question goes on to ask about how our kind of company is affected by ratings that are lower, so not AB, for example? And how can they see that in the P&L?

Actually, what should happen is our value should take account of any CapEx required to bring assets up to the kind of required standards in their valuations. So theoretically, where you should see the impact of low energy ratings is in a lower value of the portfolio. And then when we do so, the value of kind of assumed, we undertake a certain value CapEx. And then when we undertake that CapEx, you'll see it as -- in our NAV reconciliation, we show a CapEx line, so you can see how much we spend on CapEx. And as Nick says, with regard to the EPCs, will disclose kind of full information in our annual report will be released around June time.

[Nick Montgomery, executive]

Thanks, Bradley. So the next question asks was a request really that when disposing of assets, can we detail the latest book value and initial acquisition cost plus CapEx?

And we've referenced actually to the most recent sale, we get a beach house. So because we sold the 17% premium to the September valuation. This actually is an asset that's been in the portfolio since IPO in '04. And so we don't actually have readily available the book cost, but we will get that and respond accordingly. What we do any disposal of any size. So for example, the office we sold in Nottingham early last year, we do give a realized IRR or total return at asset level over the whole period and compare that to the benchmark. And indicated that asset, it was very strong, but we will provide that information even for some of the smaller assets.

The next question talks to the recent announcement we made.

So it notes that our portfolio, as I noted earlier, fell by 11.8% over the quarter. which was less than the monthly property index of 15.6%. Interestingly, as you'll have noted in the presentation, our benchmark, we still outperformed by a slightly smaller margin because you do sometimes get differences in the way that these benchmarks be calculated, and we want to focus on very much is the one that in our presentation because that's a bigger sample that allows for all transactions and capital expenditure.

Nonetheless, we did outperform, and the question is asking the reason in particular why there was such significant outperformance of the industrial assets? So negative $13 million versus negative 21 million the benchmark.

The simple answer is that we have a higher yield industrial portfolio. And therefore, we didn't suffer as much as those very low-yielding assets, for example, logistics in London, where they have been more adversely impacted by that increase in the risk-free rate.

Now I actually spent the next phase of correction that I've touched on will be more driven by fundamentals. So more secondary assets, assets where there are tenant delinquencies will probably be more adversely impacted. But again, hopefully, what's come across is, although we do have some shorter leases, the active management and the asset improvement should mean that we continue delivering that relative outperformance.

I'll ask Bradley to answer the next question because it kind of relates to a comment we've already made about how do we manage to be in such a good position as it relates to debt cost and maturities?

[Bradley Biggins, executive]

Yes. So -- the answer is the company undertook a debt refinancing in October 2019 at a time when it looked like interest rates couldn't really get any lower. And in the long term, could potentially only move one way was the view taken. So the company entered into a new term loan with kind of life at a low interest rate of 2.5%. It did pay a cost in order to do that. And as Nick mentioned in his presentation, he showed the impact on NAV during 2019. So whilst it is that incurring the one-off cost in order to get that attractive debt -- it does detract from past performance I think the more important point to understand is what happens to future performance, and that is you have a lower finance cost, whereas many of our peers would be incurring much higher finance costs. So -- and that's in our view, a competitive advantage because it enables us to maintain the dividend to keep it fully covered and to hopefully increase the dividend as we deliver the asset management activities, some of which have outlined in the presentation.

So someone has asked if the scope to accrue additional income by installed in the PV on industrial sites? And also, they note that this may help tenants benefit from less volatile energy pricing.

So we do actually have a project underway for this. We've run a competitive tender to select 2 partners to work with. We have hundreds of assets in the portfolio. And we're in the process now of collating our asset data. So feasibility studies can be undertaken. And that based on those feasibility studies, that will enable us to have the data at hand to understand which assets can take PVs where they'll make the best financial return and importantly, where we'll make the best sort of carbon savings as well. So there's a kind of financial element and a carbon element. So that's underway, and we expect to hopefully get some PVs on rules over the next sort of 12 to 24 months.

[Nick Montgomery, executive]

Thank you, Bradley. So the next few questions are interesting as well. So the next question is based on how the market unfolds, do you now see a higher risk of reading covenants?

I think shortages no, because although obviously, we have seen values fall. And we are at the upper end of our own internal guidance. So we've been clear, I think, in explaining that our long-term net LTV internal target is 25% to 35%. But our covenants that we have with our 2 lenders cannibalize and RBS are at significantly higher levels than that. So our view -- very clear view is that we will not be reaching those covenants and when we come to report our finals on the back of the March valuations, we will, as we always do, provide sensitivity information showing how much coverage we've got against those covenants.

So no, I guess what I would say is, obviously, if we aren't taking small sales, then the beauty of our revolving credit facilities that we can use those proceeds to repay that on a temporary basis before then as the market recovers and particularly as we move these capital expenditure projects forward, we can redraw that at no cost. So we structured our balance sheet so that we are very well placed, we believe.

Now the next question talks to there are 2 assets where only part of the asset is owned by the trust. I believe other part is owned by Schroder entities. Are these also closed ended? If they are not, what are the redemption allowances for investors therefore, what is the agreement?

So correct, we have 2 assets, one being the office we own in Bloomsbury Store Street, where we own a 50% interest alongside Schroder Capital, the U.K. real estate fund. And we then own a [ 0.25 ] interest in an asset in [ Maniacal City Tower ] where, again, it's alongside the same fund I mentioned together with a pan-European fund that are run by Schroders.

So I guess first point, [indiscernible] we bought those assets because we bought this part interest because it was too big for us to buy on our own, and we thought that we delivered good levels of performance. They are very simple joint venture structures, where any one of the investors can ultimately force the sale of the underlying asset.

Now that's important because ultimately, every investor wants liquidity. But equally importantly, we are completely aligned on strategy. So those assets are part of my team, my wider team. The strategies for those funds are very similar. And so it's extremely unlikely that one fund will need to sell over another.

On the question of redemptions, neither of the [indiscernible] investors are open-ended funds that are daily priced and held by retail investors, which is where historically, you've seen much high levels of volatility in terms of fund flows.

They are open ended, but they are institutional open-ended funds where, again, the redemptions over the long term have been low. Just to put it in context, the bigger of those 2 funds as the total asset base of about GBP 3.3 billion. So never of those assets are material in looking at it from a context of a hole.

So next, there's about 2 or 3 questions remaining in the time. So next one, I'll hand over to Bradley because he spoke to this briefly in the presentation.

[Bradley Biggins, executive]

Yes. So the question is, what's the plan with regard to RCF for the expiry of the cap?

So the CapEx fires in July this year. The plan -- the plan has basically been to monitor this because what we've seen is that the cost of caps has been as high as they've ever been and also the swap rate has been extremely high as a result of the elevated sort of interest rate curve following the mini budget, for example.

And what we've seen since kind of middle and back end of last year, is the curve has come down, the swap rate has come down. So we're going to monitor that and we may enter into a swap or buy a cap. And we'll also wait and see as to what happens with regards to some portfolio sales. So if we pay down the RCF sufficiently, that would dictate the sort of hedging we would enter into. So we're very much monitoring it. We're forecasting forward what it looks like, and we'll take the decision nearer the time.

[Nick Montgomery, executive]

Thanks, Bradley. I'm just conscious of time, I think if I just skip through -- there's a question in relation to rent collection stats, which as I've noted, we're back up in many ahead of prefund limit levels. And the question is relating to the 1% unpaid.

In most cases, that 1%, if you like, go through a cycle. So there'll be some sub arrears, one quarter, we'll collect them and then it's a different tenant that might be a rear as the following quarter. But it's such a small amount of money in the hole skin things. I'll probably just leave it there. We do have a persistent offenders, if you like, that are material that are contributing to that 1%.

The next question talks about gearing being conservative and are we seeing attractive deals. Look, I think -- I mean this is partly linked to one of the later questions about the size of the company. I think at the moment, our available capital effectively is allocated to what we see as being very accretive active management. And the benefits of it are that, of course, we're improving existing assets, it's within our control and we don't have the frictional costs associated with buying the asset in the form of stamp duty related fees, which for real estate take about 6%.

Would we like to have more capacity to be investing today?

Yes, because there are some interesting deals out there, Fewer than the GFC period because there aren't many for sellers because there's far less leverage in the system compared with past cycles. But I think fundamentally, a lot of what we're doing here in terms of trying to improve performance, [indiscernible] share price discounts ultimately is about giving the company opportunities to grow because most of our shareholders that we speak with would likely to be bigger clearly, there will be a fixed cost element or spread across a bigger asset base. But also we've historically made most money out of that bigger assets, and therefore, being bigger to allow us to do that. So Yes, we like to have more money to do it. Do I think we're missing a huge opportunities. Well, actually, when I compare the returns in the market versus what we can do in terms of our own portfolio. I think actually, I think we will deliver a similar return. Having said all of that.

Now we may just go to one final question which is just talking to the average earnings by a lease term of 5.1 years. And it's worth noting that is to the earliest break. So in many cases, tenants don't break and therefore, we actually enjoy longer lease terms than we're giving us sort of a worst case. The question is would you like it to be higher? Or is this in the area we'll be comfortable with?

The short answer is we're comfortable with it. But I would say that a lot of our asset management is focused on, as Bradley has noted, is actually about buying short-let assets and improving them and increasing the lease loans. So examples like [indiscernible] University, the lease extension that you mentioned that we did in [indiscernible], We're -- what we tend not to do is buy more secure long-dated assets because fundamentally, they're much expensive. So what we like to do is buy the grade B assets, use our asset management skills and improve and obviously a key part of that being increasingly length. So I'd expect us to continue focusing on maintaining in about 5 years, but more by creating those assets with longer leases rather than going out and buying them.

So given time, and thank you, first of all, thank you very much for those questions. We will follow up on the one that we haven't covered, and I will hand back for the wrap-up.

[Operator]

Nick, [indiscernible] Bradley as well. Thank you very much indeed for being so generous of your time then addressing all of those questions that came in from investors this afternoon. And of course, if there are any further questions that do come through, we'll make these available to you immediately after the presentation has ended for you to review then add any additional responses, of course, where it's appropriate to do so.

Nick, perhaps before just redirecting those on the call to provide you their feedback I know is particularly important to yourself and the company. If I could please just ask you for a few closing comments. Just to wrap up with, that would be great.

[Nick Montgomery, executive]

Thank you. Again, I'd just thank everybody on the line for showing interest and hopefully, this is proving interesting. We genuinely think we're in a really interesting place in terms of the activity in the portfolio, our capital structure looking forward to a recovery in the market and our ability to continue delivering that progressive dividend. So again, given time, I'll leave it there, but Bradley and I are obviously more than happy to have any follow-ups either through this platform [indiscernible] or separately.

[Operator]

That's great. And Bradley as well, thank you once again for updating investors this afternoon. Could I please ask investors not to close this session as you'll now be automatically redirected for the opportunity to provide your feedback in order that the management team can better understand your views and expectations. It's going to take a few moments to complete, but I'm sure it'll be greatly valued by the company.

On behalf of the management team of Schroder Real Estate Investment Trust Limited. We would like to thank you for attending today's presentation. That now concludes today's session. So good afternoon to you all.