Matthew Strotton, Executive Director of Real Asset Management, provides an update on the RAM Essential Services Property Fund (ASX:REP).
Peter Milios: Today we are talking with RAM Essential Services Property Fund, which has a market cap of $373 million. RAM is an Australian real estate investment trust or REIT, and invests in high-quality Australian medical and essential retail real estate assets leased to essential services tenants. The fund’s objective is to provide investors with stable and secure income with the potential for both income and capital growth through exposure to a high-quality defensive portfolio of assets with favorable sector trends.
Today we welcome executive director and head of real estate at RAM, Matthew Strotton.
Matthew, welcome to the network. RAM Essential Services Property Fund is actively managed by Real Asset Management Group, but can you elaborate on this relationship to help us understand who you are?
Matthew Strotton: Yeah, thank you Peter. Real Asset Management is a private company that operates an alternatives business investment business across real estate private equity as well as a range of fixed interest products, but also owns and operates a non-bank home lending group called Brighten. Overall, the company manages assets under management approaching $4.5 plus billion of which real estate in particular, which I know we’ll talk about today, Peter, is about one third to a little more than that.
Peter Milios: Matthew, a hot topic within the REIT sector now is the current devaluations of the properties, particularly the office sector. Now you just mentioned your exposure to retail and medical real estate assets. How does this strategy benefit you?
Matthew Strotton: Yeah, that’s a great question, Peter. As you know, the REIT focus or the funds focus is solely on healthcare and what we call essential services retail. These are retail centers or precincts that are typically supermarket led and on balance carry the type of ancillary retail or tenants that are your daily or weekly visitations. These include supporting retail and services that as we’ve seen both through the pandemic and certainly in the environment we’re now walking into economically have proven resilient. Our tenants have remained healthy. Our tenants continue to endure through ‘checky’ economic times. As we all know, the need for healthcare doesn’t necessarily respond to economic conditions. It is a personal health requirement. It is required in all of our communities. It is required more and more to be localized and not simply based out of large holdings within capital cities. It’s becoming part of our day-to-day needs.
So when I think about some of our peers in the listed real estate sector and other sectors such as commercial office, such as larger scale, discretionary style retail exposures, I draw comfort from the fact that the proven resilience to date of our two sectors in both healthcare and retail have proven through what has been a raft of challenging environments at a household level. And if I look ahead and as some pundits and most are suggesting we are going to go through continued economic duress, again at a household level. I would rather have exposures now in particular sectors.
Office has been subject to disruption for other reasons outside of what might be economic drivers. I think the market has obviously absorbed the impact of those disruptions and naturally the work from home environment and how that is playing out at a corporate level, and obviously in the day-to-day, impact for all of us.
I think you’ll still see that it’s run its course as all of us grappled with what is going to be the new norm, both as a manager within a business as well as participant on a day-to-day basis. I think you’ll see office jump back with its resilience. It’s just perhaps how much time that takes and obviously taking into account all other features of the sector. Which is what is our continued supply and our major metro areas and what is that dampened supply turn into as we reach our new norms, whatever they may be in our working from home environments.
Peter Milios: And in regards to the property fund, can you provide an overview and a brief description of the property portfolio?
Matthew Strotton: Absolutely. The group operates across four broad platforms. However, the chief or certainly the most significant component of the business is running the listed real estate portfolio; the ASX, is called the Essential Services Real Estate Fund. This is a fund that comprises 35 assets solely in Australia, largely on the eastern seaboard. But also in other high growth regional locations in Australia that invests in both healthcare as well as essential services retail assets. That is around certainly a significant part of the portfolio, a little bit more than half of the portfolio, and really is where the lion’s share of the focus is for our team.
We also operate an unlisted diversified property fund to provide solutions for a high net worth as well as our unlisted and institutional clients. We also have a range of discreet or SMA separate accounts in invariably single assets at a time and are working to launch a new opportunistic healthcare product, which we anticipate launching within the next two months or so. That’s the focus for the team of around 28 staff in the real estate team within the group where we rely on middle and back office from other parts of the group. And yeah, things are going really, really well.
Peter Milios: Now there seems to be a reduction in your capital allocation for developments. Could you update us on any advancements regarding divestments or capital recycling efforts?
Matthew Strotton: Yeah, that’s a great question Peter. I don’t want to seem too guarded because I think as everyone knows, we’re about to make our annual results’ announcement on the 28th of August. When I give you my feedback, it’s largely based, if not solely based on our most recent results at the end of the first quarter, but certainly generally applied to our broad strategy. It’s a great question about development. To a degree, it does look like we’ve held back on our development allocations. Whereas really I guess the best description is that we’ve been just somewhat more cautious playing more of a defensive role with respect to development over this last 12 to 15 months. I think as our investors in your team, Peter, would agree, it’s been quite a volatile market and all variables across the investment spectrum get affected when interest rates move, when there’s an uncertain inflationary environment and that most certainly gets applied to development.
So we have not withdrawn any of our plans for development, rather that we’ve deferred and taken the opportunity to revisit our master planning schemes. Which again, in this environment can affect revenue particularly. Our revenue streams or leasing efforts can get affected quite substantially in a high inflationary environment as can our development costing assumptions, which tend to stabilize as we proceed through to what we believe is the near ends of this construction cycle. But most importantly, our assumptions with respect to our underwriting value for these particular schemes.
I would rather our teams devoted more efforts on, for example, working to source new opportunities derived from our existing portfolio or seek new development opportunities within the market that present somewhat more attractive value in a more dynamic environment. Our schemes, we fully intend to move forward on. If I described maybe more of a longer term plan in development, Peter, that would be to add more alternatives, a greater range of flexible development options within the portfolio. And not just in retail, which has been a little bit more of our focus today, but also in the healthcare sector.
Peter Milios: Can you provide an insight into the leasing spreads for your retail assets?
Matthew Strotton: Yeah. As reported earlier in the year, we’ve had quite a strong year across our 301 tenant portfolio. Renewals; we’re approaching between six and 7%, and new deals; we’ve been achieving leasing spreads in high single digits. Now that should not be surprising. It’s a very good result from our perspective with quite a reasonable outperformance compared to CPI, but that’s at symptomatic of our environment. I’m very pleased with our leasing efforts. I think where we’re now starting to draw our attention more on the leasing side is the manner in which we accomplish the review mechanisms for the coming cycle. Can we accomplish a more favorable fixed regime? And if tenants are prepared to do any CPI link reviews, can we appropriately mix that within the portfolio to accomplish a better review outlook for the portfolio?
Peter Milios: Now moving on to your gearing ratio, your gearing is now sitting at around 33%. Where do you intend to go from here?
Matthew Strotton: As you would know, Peter, and our investors would know, our tactical leverage targets for the REP portfolio is between 25 and 40%. We’re sitting at about 33% as you point out. That’s a comfortable range for us. I think looking ahead and taking into account greater impact from the interest rate environment as our hedgings start to unwind marginally over the next couple of years, as has been the case with all of our peers in the sector, I think you might find we become just that little bit more conservative with leverage. I do like at the moment, having dry powder in order to entertain what we expect to be quite an attractive range of potential acquisitions. I think the acquisition environment is becoming far more interesting, certainly towards the end of this year as both my team and through our house view and our peers get comfortable with what is the end to this inflationary cycle.
I think that will represent quite a few attractive acquisition opportunities. So, maintaining a somewhat more of a conservative leverage tone is front of mind. Not withstanding, we want to ensure all of our CapEx requirements within the portfolio continue to be met and that doesn’t get held back.
Peter Milios: Matthew, thanks for your time.
Matthew Strotton: Thanks, Peter.