Civitas Social Housing PLC (LON:CSH) is the topic of conversation when Hardman and Co Analyst Mike Foster caught up with DirectorsTalk for an exclusive interview
Q1: What is Civitas Social Housing REIT?
A1: It’s a real estate investment trust and these trusts effectively pay no tax which is the accepted way that quoted investment vehicles in real estate are structured, for about 10 years now, it makes it what we call ‘tax neutral’.
The REIT is required to distribute at least 90% of its rental profit by way of dividends with the underlying shareholder paying tax on those dividends as applicable, really important is that these REITs are liquid, readily-tradable tax efficient shares. If the owner of the shares sells that doesn’t affect the REIT itself, it doesn’t have to sell anything. There are ongoing trend of investors disinvesting from other types of funds, like open-ended vehicles which have no stock market quote whatsoever, for holding real estate investment.
We estimate well over £20 billion is in these open-ended funds, they’ve had problems which REITs totally sidestep for example, post the EU exit referendum, a number of high profile open ended funds needed to suspend redemptions, REITs are ‘closed-ended’ and are thus far better vehicles into real estate, which is inherently illiquid. Money from open ended funds will continue to look for new vehicles and REITs will be high up the list. Many UK REITs rely on the discretion of the managers as to what types of assets and what strategies are adopted.
In difficult times, investors would rather have certainty as to what the strategy is, and Civitas Social Housing REIT does just that, the name itself states succinctly the specific strategic mission.
Q2: What is the asset class Civitas invests in?
A2: It purchases extensively reconfigured houses providing supported housing for tenants with specific needs such as learning difficulties, namely to vulnerable members of society. These are likely to comprise well over 75% of all Civitas assets but much more likely 90% plus of the total, the rest will be social housing.
Occupants receive governmental housing benefit covering the rent they have to pay to the landlord and their landlord is a typically a Housing Association, or another registered social housing provider. The Housing Association then enters into a contract with Civitas Social Housing REIT so that the tenants can occupy the asset which is owned by Civitas so Civitas buys its assets from Housing Associations, care providers and others, including private investors.
Q3: So, why are institutions selling assets to Civitas and why now?
A3: Housing Associations are seeking funds to expand their asset ownership and the development of new assets, several Housing Associations are developing over 2,000 units per annum, these are real ‘players’. However, the grants they get from the Government have fallen over the past few years and there’s been government legislation which has modestly trimmed the rents they receive. No one out of these factors is dominant but together, they have led to a rise in Housing Associations’ debt and a number are starting to feel they cannot just raise further debt ad infinitum.
The past 3 years has seen a small number of transactions where Housing Association assets are packaged together to sell to long term investors, with the Housing Associations entering into 20–25-year leases. This suits the investors, it suits the tenants who typically are looking for lifetime security of tenure and the Housing Associations can reinvest elsewhere. And by elsewhere, we mean into new stock but also geographical consolidation as there has been a large number of efficiency-raising mergers in recent years, this itself is the result of the constraints we referred to above, the grant, rent cuts and the rising debt.
Q4: But why Civitas?
A4: The assets have already started to be revalued, it’s met all its investment targets and the dividend yield prospective is 4.5% at this current price, that started as 5% at IPO price a year ago, it’s gone up already). That’s somewhat ahead of other low risk REITs and low risk is good, with GDP growth being downgraded, it is good to know this income stream is totally unaffected by GDP. Indeed, to the degree that lowering GDP growth might mean low interest rates and lowered opportunities elsewhere, that is a double incentive for Civitas Social Housing REIT investors.
Q5: You mention a small number’ of sales, how small are we talking?
A5: Civitas to date has invested entirely in this supported housing, its original £250 million IPO was oversubscribed and increased to a £350 million raise in November before last. This was all invested within a year, it had indicated it would at IPO, and so, subsequently a further raise of £302 million recently took place, technically via C shares so the original shares are not diluted by so called ‘cash drag’.
It was the first REIT to invest in this area, though three others now have entered the market, the others in total do not come to the size of Civitas, in supported housing. There are few figures available, but we estimate over £3 billion rent is paid into supported i.e. special configured housing, valuing the segment at in excess of £50 billion. To put it in context, we estimate total social housing stock is valued at in excess of £300 billion so small is a relative term. What we mean by small is that the level of sales into all REITs to date currently equates to around 1% only of all such stock and that’s the stock into this specialist area of the sub-sector within social housing.
Q6: So, are you saying there’s more growth to come?
A6: Purpose-built student housing is another specialist area, around 5% of all standing assets there have been packaged and sold to, or developed by, quoted stocks so 1% to date is the figure for supported social housing.
Q7: Is income 20 years plus, paid by Housing Associations?
A7: It is. Housing Associations have a de minimis default levels, any which have encountered difficulty have seen obligations taken up by larger brethren but Civitas does not rely on this. It undertakes extensive due diligence on assets, tenant-demand, rental levels, Civitas purchases on net initial yields, the Housing Associations full-maintaining at their cost, of around 6%, with income inflating at CPI or higher. The due diligence is all about sustainability at the social and financial level, not really about the risk of rent default.
Q8: What do you mean by sustainability?
A8: The point of Civitas Social Housing, and indeed its reputable REIT peer group, is to be socially useful so that the business model can continue to grow.
The social use is three-fold, first, we’ve outlined how the Housing Associations seek partners to fund their own development aspirations or enhance returns post merger.
Secondly, and arguably more significant on a personal basis, is that expanding this sector means tenants can secure a place at such a house, where each flatlet has its own front door and where each has its own layout customized to the needs of the tenant. They might have physical needs maybe a wet-room or they might have autism where a specifically customized layout is essential for well-being.
Thirdly, and stemming from point two, studies demonstrate how such customized house-based tenancy is more beneficial to the tenant that the still more common situation of larger institutions or non-customized accommodation. The added beneficial feeling tends to reduce the need for so many carers, and given the multi-shifting, a tenant may have a carer-based cost of some 10, 15, 20 times multiple of rent. So, the third sustainable element is that the total cost to the taxpayer is significantly reduced.