Here’s an idea. There is little to obviously attract an investor in the depressed retail sector and its supermarket constituents, operating as they are at the thick end of the downturn in sentiment among consumers. At the same time, despite the pressures on trading, there is little prospect of the average householder abandoning the practice of doing the weekly shop, more often than not at the nearest megastore operated by one of the big four grocers. We all need to eat.
So why not see these companies less as retailers and more as tenants occupying valuable properties, and ones that are reliable payers of rent over the long term to boot? That is the approach taken by Supermarket Income Reit, a listed real estate investment trust that buys commercial properties which make it the landlord of companies including J Sainsbury, Tesco, Wm Morrison and, at some point most likely, Asda.
Supermarket Income Reit was founded by two former Goldman Sachs bankers, who had been active in the period when supermarkets were offloading their freeholds and leasing their stores back to release capital. It raised £100 million from its listing on the stock exchange main market in July 2017 for 100p a share. It invests by buying the freehold ownership of properties that are occupied by supermarket tenants — overwhelmingly these will be in the supersized out-of-town locations and involving retailers that deliver goods and operate a click-and-collect service. Why? Because they are established, full-service supermarkets that are likely to remain in their chosen location over the long term.
As it stands, the trust is modest, owning just nine supermarkets, which it tends to buy for roughly £50 million or so apiece; its most recent addition a Sainsbury’s in Cheltenham for which it paid £60.4 million. However, the vehicle has aspirations to take its portfolio to about £1 billion, including debts, and any owner of the shares can expect to be asked in the not too distant future to dip into their pockets to fund capital raisings.
Helping the trust, at the moment it has plenty of willing sellers, pension funds in particular, that are keen to reduce their exposure to the retail sector. Shareholders, in turn, have the added incentive that its structure means that, in exchange for tax benefits, it pays 90 per cent of its rental income as dividends each year.
In many ways, owning this trust is like investing in bonds: the leases have long maturities, averaging about 18 years, the cashflow from rental payments is stable and the rental yield, of about 5.2 per cent, is attractive; the return is about average for the commercial property sector but higher than an investor would receive from a typical fixed income security issued by a supermarket.
There is some potential grit in this investment. In order to start motoring with its returns, the trust should be bigger. It is able to pursue secondary share sales to fund acquisitions — its most recent issue was doubled from £50 million to £100 million because of demand — as it is trading at a premium of about 9.8 per cent to the net value of its assets. Were that to change, the process would almost certainly become much trickier with less support from shareholders and, if it wanted to continue to grow, it would have to increase its borrowings.
To some, the exposure to supermarkets, albeit at the more stable end of the market, might be a deterrent, especially when the rental yield is not much more attractive than elsewhere in commercial property, although upward-only rent reviews provide comfort.
The shares, flat at 106½p yesterday, haven’t offered much in the way of capital growth but a dividend yield of 5.4 per cent is a highly tempting proposition. Hold for income.
Advice Hold
Why Relatively low-risk model from a growing vehicle that offers an attractive yield
TI Fluid Systems
The backdrop to the listing of TI Fluid Systems just over two years ago was tough, and life has become tougher since then.
The maker of fuel tanks and fluid-carrying systems for the car industry, backed by private equity investors at Bain Capital, had to pull its planned listing because of the uncertainty caused by Brexit. The subsequent decline in the world’s carmaking industry after it successfully got its flotation away at the second time of asking in late October 2017 has pushed its shares below their new issue price of 255p apiece. It’s either an opportunity or a warning.
TI Fluid Systems was founded in the US as Harry Bundy and Company in 1922, receiving its first contract from Ford Motor Company that same year. Having changed its name in 1988 after it was bought by the British engineer TI Group, it was acquired in 2015 by Bain Capital, which retains a majority holding.
The group supplies all of the big carmakers, from Daimler and Hyundai to Volkswagen. A constituent of the FTSE 250 with a market value of nearly £1.2 billion, in its most recent financial year it made a profit of €140 million on revenues of just under €3.5 billion. There can be little doubt that TI Fluid Systems is a high-quality engineer; nor that it’s taking the right steps to adapt to the changing car market, in particular the rise of hybrid and electric vehicles. In revenue terms it has been outperforming production levels in the wider auto manufacturing market, though that outperformance has been slowing in the latter part of this year.
At the same time, the sector is troubled. Worldwide, car production fell last year for the first time in a decade, and car sales are expected to drop again, by 4 per cent this year, according to Fitch, the ratings agency. Although it is unlikely that we will lose our addiction to four-wheeled travel, the long-term nature of demand and the pace of take-up of electric vehicles, in a slowing global economy, remains at least uncertain.
The City’s ambivalence about TI Fluid Systems’ shares, up 2p or 0.9 per cent at 228½p yesterday, seems understandable. The shares change hands for just 6.5 times Citi’s forecast earnings and yield nearly 3.5 per cent but should probably be avoided.
Advice Avoid
Why Uncertainty of car market overshadows cheap rating
