? Empiric Student Property will only add to its London portfolio if assets meet specific criteria.
? The integration of a new internal operating system is already seeing results for shareholders.
? The company's development pipeline is progressing smoothly, with two projects set to complete just before the next academic year begins.
Paul Hadaway has been CEO of Empiric Student Property Plc since 2014. An architect by training, he has been a property investor since 1997. S&P Global Market Intelligence caught up with Hadaway amid a busy schedule of investor meetings as the company raises £150 million to buy a portfolio of London assets. What follows is an edited transcript of the conversation.
S&P Global Market Intelligence: Empiric is in advanced negotiations to acquire a five-asset portfolio of operating assets in London, comprising more than 1,000 beds, worth roughly £112 million. The London market is often said to be a tough environment in which to operate student property profitably.
What has changed in the market to encourage Empiric to invest further in the city and what does the company plan to do to the properties to ensure they generate sufficient returns?
Hadaway: We said we'd buy in London when we could find value or something that works for us any other way. We've actually already got three small assets dotted around London, so we've kind of got a feel for the climate of the London market. How it works, what's hot, what's not. And this group of five buildings came along in a one-on-one. It came straight to us, it wasn't on the open market.
It's quite Empiric: They're not particularly big buildings, on average they're about 200 beds each. They're in fantastic postcodes, they're trading, they've been put together by a small team with private equity backing and the fund has redemptions coming to the end of the year. It's a little bit messy, and we like messy, because you can find upside in messy.
Some of it is direct-let student [accommodation] that is trading so you can see the trading history. Some of it is leased student [accommodation] with short leases to go, so there's more reversion potential. We've development potential and then tourism; we've got hostel use where we know we can get students in without getting any planning permission.
We're buying at better than 5%, so it's not coming with those kind of bonkers, eye-watering yields that you've seen in some instances. And it's coming already geared, so cash-on-cash, it's yielding better than 6.5%. It's accretive to the business and the dividend, and sits there with a lot of upside potential. And the great thing about it is we can do it when the time suits us.
Empiric's net operating margin suffered last year as the company absorbed one-off start-up costs associated with establishing its "Hello Student" management and letting platform. How difficult has the integration of the system been, and how will the company and its shareholders be able to tell that it is producing a worthwhile return on investment?
It's been a bit intensive. The returns are two-fold: one, much bigger growth rental-income numbers, and two, the operating benefits of a high-yielding internal managing platform.
We're just getting to the point where the numbers are starting to indicate the benefits. If you look at the margin from June 2015 to June 2016, only three developments came in during the 12 months. In effect, apart from buying assets and taking the rent, not a lot happened, and we ran at 71% [net operating margin].
In the four months of Jan. 1 to the end of April this year, we migrated another 17 assets from the external platform to the internal platform, with all the associated costs of that, yet still ran at 70% net operating margin. So, the implication is that the core margin is improving because we can deliver the same numbers as a year ago but carry a lot of migration costs within that.
Empiric has 762 beds over seven different projects under development, which are scheduled to be ready for the 2017/18 academic year. Given that the construction industry is experiencing rising costs and labor problems due to the impact of the 2016 Brexit referendum, how have the developments been affected, and what is the update on their construction?
Three of those [projects] are finished already, so we've got a fairly comfortable delivery schedule over the summer. A couple of them aren't scheduled to hand over 'til late August, but I think the construction programs are reasonably — as much as they ever are — under control. In terms of costs, the ones that are being delivered this summer are all forward-funded. Our acquisition is based on discount to value. The price paid by Empiric is not cost-based, it's value-based. So, rather than cost plus margin, it's value less discount.