(HLCL) Helical Bar

Has everyone left the ship! News of interesting new project - 10 acre former Dairy Crest site in Wood lane to be developed jointly by Helical and Aviva.

Property speculation is idle yet cheap

Created: 3 May 2011 Written by: Stephen Wilmot

The Walbrook building is about as top-end as commercial property gets. Nestled between Cannon Street station and the Bank of England, it contains 410,000 sq ft of cutting-edge City office space in a structure designed by Foster & Partners, the architects behind the Gherkin. But it has been completely vacant for over a year.

The Walbrook is a looming reminder of the risks of property development. Even in a rare segment of the real-estate market that is supposedly booming - City office rents are expected to grow by 8.4 per cent this year due to a shortage of space - finding the right tenant is tough. And an empty building generates no income to cover the cost of the debt taken on to build it. Minerva, the listed company behind the Walbrook, is trading on a 35 per cent discount to its net asset value (NAV).

Yet if Minerva announces good rental deal, that discount could tighten very suddenly based on the prospect of selling the property at a handsome profit and paying down the debt pile accumulated during its development. So rewards could be high for investors prepared to take the risk of buying its shares at today's level.

Risky business

Five companies listed on the London Stock Exchange offer concentrated exposure to the high-risk, high-return business of property development.

Besides Minerva, these are Development Securities, St Modwen Properties, Helical Bar and Quintain. While income-hungry investors have chased up the share prices of the larger real-estate investment trusts (Reits) to parity with their book value and even beyond over the past nine months, the developers - with the exception of the highly regarded Helical Bar - still trade on stubbornly wide discounts (see graph).

This throws up an opportunity. After all, development is one way property companies can unambiguously 'add value' in a dull market environment. Strong rental growth may be on the cards in the London office market, but the outlook elsewhere is grim. Reits with development exposure, such as Capital & Counties, trade at a premium to peers because they are less reliant on market returns for NAV growth.

The specialists have their own problems, though. Reits' key attraction is as a source of relatively safe income - dividends backed by blue-chip rents. But developers pay meagre dividends and boast little recurring income from rent or asset management fees. Development Securities, Minerva and Quintain do not even cover their administration and debt costs if you ignore development profits.

That means shareholder equity stands to be continually eroded unless they develop profitably, which is tough when banks are being tight-fisted. "Bank lending is getting worse not better," says Rebecca Worthington, finance director at Quintain.

Mission impossible

Developers are trying to adapt by buying more income-generating assets - Development Securities recently announced the purchase of an office block in Woking, for example, and Quintain has been bulking up its fund management arm. That is welcome, but it does not help them in their primary metier - development.

A further problem is that the developers have, on average, less exposure to 'prime' London markets than their FTSE 350 peers - Minerva's Walbrook is the exception rather than the rule. Having been effectively priced out of the London prime market in the boom years, the small-cap developers diversified into second-tier or regional assets. These have not rebounded like London in the so-called recovery, which it could be more accurate to describe as a flight to quality.

For developers, the problem with the weak rental markets for secondary properties is that projects cannot easily be de-risked by pre-letting or pre-selling space. That has made them reluctant to embark on major speculative schemes, particularly without partners, even as construction costs have plummeted.

Developmen

It's closed the week with a flourish. Up 5% on heavy volume. Most encouraging. What's the story?

HLCL was ranked at 352 as of the 21/09.
If this were to lose its place in the FTSE250,
Tracker funds may be forced sellers.

This ranking was before today's sharp fall.