The forthcoming IPO of the UK Residential REIT (LON:URES) is targeting a net total shareholder return of 10% per annum and a yield of 5.5% from a diversified portfolio of residential real estate.
It is hoping to raise £150m from investors and has identified a £145m seed portfolio of 28 buildings that contain 1,214 separate flats. These are already tenanted and will generate income from day one with a net internal yield of 5.8%.
The private rented sector as an asset class has been growing steadily in the UK, especially since the 2008 global financial crisis, with tighter lending restrictions making it harder for many people to buy their own homes. It is thought that there were 4.6m private rented households in the UK last year, a figure that is expected to increase to 5.2m by 2025.
URES will buy existing buildings in the secondary market and then refurbish them before letting them out. This is different to the two existing REITs operating in the sector that are more development-oriented, with Grainger (LON:GRI) centred on the high-end market and PRS REIT (LON:PRSR) building houses rather than apartments.
The UK Residential REIT will focus on the more affordable, mid-market segment of the private rented sector outside of central London. It will mainly target regional cities such as Manchester, Liverpool, Leeds and Bristol.
Rent on the seed portfolio flats is typically between £600 and £850 per month, which on average represents about a fifth of the tenant’s income. This suggests that it should have a relatively defensive and stable tenant base, as borne out by the performance last year.
Many parts of the private rented property market struggled during the pandemic, but the seed portfolio held up really well with 96% rent collection in 2020 and an average 95% occupancy over the past two years. The managers have also identified a £440m pipeline of similar opportunities.
Strong track record
URES will be run by L1 Capital, which was founded in 2007 and now has £2bn in assets under management including £230m in the UK. The team has a strong track record with their first two property funds generating internal rates of return of 15% and 17% respectively in 2020.
The seed portfolio, which they are already managing, will be paid for out of cash and augmented by the issue of up to 50m consideration shares at the initial issue price. They expect the net proceeds of the IPO to be fully invested within twelve months of admission.
It is seems likely that the chronic shortages in the housing market will ensure that there is continued strong demand for rental accommodation in the UK. The new fund should be able to capitalise on this to achieve decent rental growth from its portfolio of affordable properties, which suggests that its target yield of 5.5% and annual return of 10% should be manageable once it is fully invested.