Aroundtown: Massive Leverage Leads To A Dividend Suspension (OTCMKTS:AANNF)

Introduction

Aroundtown (OTCPK:AANNF) suspended its 2023 dividend with the following press release:

Luxembourg, 26 March 2024 – The board of directors (the “Board”) of Aroundtown SA (the “Company” or “Aroundtown”) has decided today not to recommend a dividend payment for 2023 at the Company’s annual general meeting intended for 26 June 2024. The Board continues to see market uncertainties which limit visibility regarding future developments and their full impact on transaction markets and property valuations and as a result on the Company’s leverage as well as cost of financing. Under these uncertainties, it is the Board’s opinion that the Company should remain conservative in regard to capital preservation and to continue to focus on strengthening liquidity and deleveraging.

The suspension was somewhat expected, given that Grand City Properties (OTCPK:GRNNF) in which Aroundtown holds a 63% controlling stake did so earlier in the month (see my article here). However, unlike Grand City, Aroundtown offers no margin of safety relative to peers, which makes me neutral on the shares.

Company Overview

You can access all company results here. Aroundtown is a diversified real estate company, with Office its largest single exposure – 36.4% of total investment property, followed by Residential at 31.3%, and Hotels at 18.6%, with the remaining assets allocated to Retail & Logistics:

From a geographical perspective, the company primarily operates in Germany and the Netherlands, with Berlin its largest single exposure, at 21% of investment assets:

Operational Overview

The key performance indicator for Aroundtown is Funds From Operations I (FFO I), defined as:

FFO I = Adjusted EBITDA – Finance expenses – Current tax expenses – minorities – interest on perpetual notes:

The company also reports FFO II, which takes into account disposal results.

Aroundtown delivered FFO I of €0.30/share in 2023, down 8.5% Y/Y, impacted primarily by higher interest expense. The company achieved solid like-for-like rental growth of 3.2% in 2023, with the highest growth in residential (3.4%), followed by office (3.3%) and hotels (2.5%). Occupancy declined by 0.3% in 2023 to end the year at 92.1% of the portfolio. Occupancy was lowest in the Office portfolio (87.2%) which arguably is a key point of attention for investors.

2024 Outlook

Looking ahead, Aroundtown expects a further drop of 11% in FFO I to about €0.27/share in 2024, driven by higher interest expenses:

Debt Position

Aroundtown ended 2023 with an EPRA loan-to-value ratio of 60.8% (2022: 55.4%), among the highest I have seen among European REITs. The EPRA LTV is more conservative than IFRS LTV as it takes into account the real proportional share of debt and assets of subsidiaries. On an absolute level, EPRA net debt was €14.7 billion at the end of 2023, down €557 million during the year. Still net debt remains excessive relative to the company’s €1.7 billion market capitalization. The average cost of debt was 2.2% at the end of 2023, with an average maturity of 4.4 years. During 2023, the company was able to raise financing at a spread of 1.4% over Euribor for +7-year maturities.

On a positive note, all maturities until the middle of 2026 are covered by the significant liquidity position of the company, at around €3.8 billion.

Net asset value and revaluation

2023 was marked by significant property value write-offs, which coupled with growing rents pushed EPRA net initial yields, or EPRA NIYs, up 0.5% Y/Y to 4% at the end of 2023:

This resulted in an EPRA net tangible assets, or EPRA NTA, of €7.40/share at the end of 2023, respectively EPRA net disposal value, or EPRA NDV, of €6.9/share at year-end. Taking into account the €1.1 billion benefit EPRA NDV has for below-par debt, we can adjust EPRA NDV down to €5.90/share:

Market cap rate calculation

Using the abovementioned EPRA NAV measures, EPRA LTV, and current market price per share, I calculate the below market-implied cap rates for Aroundtown:

Click to enlarge

Source: Author calculations

As you can see, depending on the NAV measure used, the market-implied cap rate is between 5.57% and 5.75%.

Comparison with Covivio

I think Covivio (OTCPK:GSEFF) is an excellent peer for Aroundtown, given that both companies primarily have exposure to offices, residential, and hotels, even if there are certain differences in the markets the companies operate in.

Click to enlarge

Source: Author calculations

As you can tell from the table above, despite similar market cap rates, Aroundtown achieved slower like-for-like rental growth in 2023 and suffers from a larger vacancy in its portfolio. Notwithstanding that Covivio’s 2023 like-for-like growth rate was largely due to exceptional performance in Hotels which is unlikely to repeat in 2024, I see Covivio as the better pick at the moment.

The high leverage of Aroundtown forced it to suspend the dividend, while Covivio plans to return to a cash dividend in respect of 2024 earnings.

Risks

Aroundtown has exceptionally high debt, with net debt accounting for 90% of enterprise value. This coupled with mixed operational performance (solid like-for-like rent growth but weak occupancy) puts the company in a precarious position. If I had to pick a European REIT that had to do a capital raise, it would definitely be Aroundtown. As such, given the dividend suspension and extremely leveraged capital structure, I think we will see very high volatility in the share price.

Conclusion

Aroundtown suspended its dividend in a bid to reduce its massive debt pile. The company offers a high single digit return thanks to its attractive market cap rate and solid like-for-like rental growth. The bull case for Aroundtown is for the ECB to quickly cut interest rates, limiting the negative effect debt refinancing has on the company’s FFO I.

The bear case for Aroundtown is an operational slowdown coupled with slower ECB rate cuts. In that case, a capital increase cannot be ruled out.

Given the weaker performance relative to peers such as Covivio, elevated leverage, and uncertain prospects, I am neutral on Aroundtown and see the shares tracking the sector performance going forward.

Thank you for reading.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.