INTU SGS Duration versus IRR

All,

Please find our updated analysis here.

Despite CAPEX assumptions released by SGS management in the recent update to market, the thesis of the investment remains the same - stabilising the rental income to seek an exit in late 2023/24. Although the CAPEX is higher than we had anticipated, changing our assumptions on the intervening years, the FY23/FY24 end points remains the same, and ultimately the driver of valuation on exit.

Positioning:

We maintain our 5% long position in the SGS bonds, and although liquidity in the name is likely to be poor we would expect post restructuring, liquidity to increase. Over 50% of the bonds have acceded to the lock-up agreement. In fact, 100% of the term loan and 82% of the Notes have indicated their agreement with the proposals. This investment is aiming for 20% IRR which is private equity in style. There is unlikely to be any cash coupon in the intervening period, with exit in FY24. We acknowledge we have duration and interest rate risk with this position, but with expectation of return to 75% of FY18 rents in FY24, we expect the discount rate to reduce significantly from current levels.

Proposal:

The restructuring is in two parts: Firstly, the Company is projecting higher capex levels over the FY21 and FY22 period than we had envisaged. If executed properly, this will be an overall positive for the bonds as it will secure property values and keep the centres relevant to current and future retail trends. The CAPEX is funded by a new Super Senior Tranche, totalling £87m (£57m net of repaying the existing super senior facilities). The overall CAPEX spend over the three year period is £112m, which is funded £57m from new money with the balance from new money. Second part of the restructuring is to treat the bonds and the Term Loan pari-passu, formalising the interest rate to 9% PIK and extending all the maturities to Dec-24.
Voting deadline is 7th July and the execution is expected 16th July.

Market Update:

The 3-yr market plan is more pessimistic on rent collections and service charge collections than we had in our plans. But the end point, FY23, we are in line with projections, with the Company expecting a hockey stick profile versus our previous linear approach to FY23/FY24 levels. This, coupled with higher CAPEX levels than previously expected, leaves the Company unable to pay cash interest on the bonds in the 3-yr projections (albeit we still view this as pessimistic).

However, given the majority of the return to investors will be from any exit strategy, the intervening years have limited impact on overall returns. The higher CAPEX levels negates one of our main risks of underinvested centres. Additionally, with management focused on stabilising the rental income and aiming for exit in FY23/24 all spend will have an exit firmly in mind.

Happy to discuss.

Tomás
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E: tmannion@sarria.co.uk
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