Vonovia share: not a clearance sale, I remain very optimistic
Vonovia (OTCPK:VONOY) (OTCPK:VNNVF) is Germany’s leading residential real estate company. Vonovia currently owns and manages around 550,000 residential units, mainly in Germany, but with some apartments also in Austria and Sweden.
While rental income from owning residential apartments is its core business, it also has additional segments which include:
1) Real estate development division
2) Recurring sales (transfer of non-essential apartments)
3) Value-added services (eg artisans, media, etc.).
Vonovia is currently trading at less than ~0.5x of net asset value whereas historically it has been trading around its book value. Also note that the forward dividend yield is expected to be around 6%.
Vonovia’s main roster is on Germany’s XETRA. I recommend buying from the German market rather than the much less liquid ADRs.
In my previous article, on Vonovia, I highlighted the obvious opportunity to hold a defensive residential real estate asset at less than 50% net assets and a forward dividend of 6%.
I have also explained, in detail, the reasons for the current massive discount to book. To recap, Vonovia faces a rising cost of capital due to rising interest rates, making its old business model of inorganic debt-financed mergers and acquisitions unsustainable.
Vonovia’s management was caught off guard and ill-prepared for the impact of inflation on all of its businesses. The company clearly had to revise its strategy and adjust its investment framework and portfolio to incorporate the significantly higher cost of capital. On the first quarter earnings call, the management team was clearly not ready with a plan and Mr. Market punished the stocks.
When the second quarter results are published, management has changed its strategy to take into account the impact of inflation and the increase in the cost of capital.
In a nutshell, Vonovia is not engaging in a sale of apartments to raise capital and get out of debt as some had planned. There was also no announcement of a major portfolio sale as others speculated.
The message was that they are in no rush and will only do an accretive deal for shareholders. This somewhat disappointed the market. Worries were further exacerbated by the apparent rapid cooling of the German property market due to rising mortgage rates and falling real income for Germans, even as Vonovia posted a like-for-like valuation growth of 5.2 % in the first semester.
In my opinion, Vonovia has developed a well-thought-out plan to deal with its higher cost of capital and has done so in a way that preserves flexibility (should conditions change), maximizes returns, and is in the best interests of shareholders. long-term.
In other words, it’s not a sellout, but more on that later.
Stocks, however, were flat and remained in the vicinity of their 52-week lows while sadly not participating in the recent equity market rally.
As discussed in my previous article, the higher cost of debt capital forced Vonovia to adjust its capital allocation strategy. This includes the following:
- No new debt or share capital will be raised. This does not include any script dividends in the future at the current valuation.
- The majority of development projects to be retained will be sold and realize cash gains
- Apartments for sale have increased to ~$13 billion and are expected to sell over time
- The investment program (energy efficiency/modernization) will be entirely financed by recurring sales
- Reduce maintenance CAPEX, as it was previously more than generously spent
- She won’t acquire wallets anymore
- It will target a leverage target within 40 years and use proceeds from sales for debt reduction and share buybacks.
- He is progressing in developing tax-efficient joint venture structures with institutional investors to synthetically dispose of large portfolios and generate substantial capital that can be deployed to reduce debt and repurchase stock.
The objective of the strategy is clear. Vonovia should not depend on financing from the capital markets. Financing needs for 2022 are already fully secured. And for 2023 and 2024, there are approximately 7.8 billion euros of debt maturities that can be financed either by asset disposals (including the planned disposal of the nursing portfolio) or by debt. (the current cost of funds is around 2.5% to 3.5%), or a combination of both. The decision will be made closer to the time and depending on market conditions.
However, at a valuation of less than 50% of the portfolio, the most accretive capital allocation option is to buy back shares. Note, however, that share buybacks are limited to 10% of outstanding shares per year under German law.
So what are the likely scenarios in the future?
While the market was disappointed by the lack of a clear timetable for the disposals, the CEO explained his point of view during the second quarter earnings call:
So to be very clear, in the past, in the old world, we never had an acquisition target. And that’s why we don’t put – we don’t make the same mistake now by putting a sales target. That 13 billion plus health care and joint ventures will happen. So it’s not opportunistic. They will be – we will be sold. How fast we sell it will depend a lot on the market environment. So we don’t do any jumble sale here. And then, of course, the consequence of how quickly we will reallocate capital. But we are not making the mistake of giving you via call now a sales objective as we have never had an acquisition objective. And to be very in your interest because a company with a goal is under pressure to deliver, and that’s not good for the price either way.
In other words, the CEO not only communicates with the shareholders, but also with any institutional counterparts. Clearly, the optimal route for asset disposal is through a JV structure. Benefits include large portfolio sales, tax benefits, and most importantly, Vonovia retains a continuous revenue stream for property management.
Above all, Vonovia is in no hurry to conclude agreements (no risk of refinancing). However, I suspect that a trade is likely to be made near book value over the next few months and this will be a powerful catalyst for the stock price to revalue higher.
In my view, Vonovia is in a strong position to close the discount to its net asset value. I think this is a generational opportunity to buy a quality asset at over 50% discount to conservative book value and with a forward dividend yield of around 6%.
I suspect the next catalyst will be the announcement of a joint venture structure and a major sale of a group of portfolios over the next few quarters.
Although not announced, the continued sale of non-core assets should achieve similar economic results, but over a longer period.
I remain very optimistic and add more to my position.