Fortress annual results show logistics a stellar performer

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SIMON BROWN: I’m chatting with Steven Brown, the CEO at Fortress. Results out for the year ending June. Total revenue up 9.9%. Loan to value, LTV, down at 35.9% versus 38.7% in the previous period. Distributable income up 5.3% to almost R1.8 billion.

Steven, [there is] a bunch I want to touch on, but let’s start with that distributable income. You’re unable to distribute it, so what do you do with that fairly chunky large pile of cash you’re sitting on?

STEVEN BROWN: I guess it’s painful for shareholders where the board doesn’t have the authorisation to distribute it. Put your company hat on, and in this environment with the high interest rates and expensive capital it’s quite nice from a company perspective to have it. So what we do with it is we really repay debt or sit on liquid assets. What we did during the period was we took up the scrip dividend in our shareholding in Nepi [Rockcastle]. That was an over R800 million investment that’s now worth about R925 million.

So that’s what we’re doing. We are kind of looking after that cash quite conservatively, either repaying debt or sitting on liquid assets. But it’s helping the balance sheet. You mentioned the LTV metric, and that certainly is one of the primary drivers of that moving down.

SIMON BROWN: What would be you and your board’s target for LTV?

STEVEN BROWN: Look, we’ve said 35% to 40% is comfortable. We’ve got a kind of unique balance sheet in the listed real estate space in that we’ve just over R17 billion of Nepi shares, which is a Top 40 company. It trades probably R200 million a day. So it gives us a very liquid asset on our balance sheet, which – not that we’d ever do this because we love it – if we sold it all we would repay almost all of our debt. So it gives us a lot of comfort from a risk perspective that if there ever was some sort of issue with our LTV or any reason to enhance liquidity, we’ve got a very liquid asset.

So I think that’s why we comfortable that 35% to 40%, even 40%-plus wouldn’t be a cause for concern.

SIMON BROWN: I take the point on that. You don’t want to sell it, but it does give you that optionality, I suppose.

Logistics is really strong. Vacancies for the group at 3.7% – the lowest since listing in 2009. And logistics down at 0.5%. Average weighted lease expiry 4.7 years. Logistics really has proved to be an absolute stellar performer.

STEVEN BROWN: It really has been. When we embarked on this journey in earnest in 2017/2018, we had a million square metres to develop. We looked at it and it was a daunting task. We weren’t sure how long it would take us. We were hoping five years, but I think we were all looking at it, saying ‘maybe more like 10 years plus’. We’ve chewed through 75% of that in five years, which has been unbelievable. The market has been our friend. A lot of tailwinds in that market.

Strangely enough, when you’re a well-capitalised developer like us, I think we can sort of outcompete a lot of the more capital-constrained guys in this kind of market. So we are getting a lot of the pre-let deals. Everybody’s phoning us first, and the vacancies are really low in that whole logistics sector. So it’s actually fantastic. We’ve got a little bit for the first time, and long may continue – some pricing power on the rentals. So that’s a big plus and that’s coming through.

If you look at the like-for-like NOI [net operating income] growth on that logistics portfolio, it’s 8.3% for the year, up on 2022. That’s real growth. And it’s real cash.

SIMON BROWN: You say in the results you’re preferring pre-let, such as that Pick n Pay distribution centre you did out at Eastport. I don’t want to say that’s zero risk, but it’s significantly lower risk [than] the speculative ‘build it and hope that they will come’.

STEVEN BROWN: It definitely is. We are confident in our ability to read the market and what it wants, so we’ll always do a bit of spec. But I think we had to do the spec, especially if you look at big logistics parks like Eastport and Clairwood. You have to build some boxes on spec. It’s human nature – people don’t believe that you’re building it until they can kind of see it, feel it, visit it, and then you start to get tenants. But now that those parks are almost fully developed, we’ll keep a few of those remaining sites for nice pre-let deals, which are definitely lower risk.

SIMON BROWN: Your retail – you mentioned tenant turnover was up 7%. How are vacancies and perhaps, more importantly, new lease terms looking in that space?

STEVEN BROWN: The retail has performed reasonably well, given all the headwinds that it faces. The 7% turnover growth is good and our vacancies are down at 1.5% by rental, and even lower if you exclude some of the office components in our retail centres like Thrupps and Pineslopes. I think the performance was good, but if you look at that like-for-like NOI growth of 1.4%, that’s been hampered by additional diesel costs for generators, unfortunately. Where we have solar, funnily enough, and no backup power like a battery or a generator, we lose revenue because the solar disconnects when there’s load shedding. So it’s quite a sad situation that you’ve got panels on the roof producing power, but when it is grid-tied you can’t use it. So difficult.

But fortunately in our portfolio we’ve got mostly grocers and kind of value fashion, and I think even [when] under economic stress, as we are seeing from the consumer, people shop down. So I think it’s quite a defensive portfolio by its nature.

SIMON BROWN: Rising rates is a global phenomenon. Not so much in South Africa, but in developed markets a decade of low rates. In South Africa on the other side we’ve got the highest rates in a decade. How’s the hedging? Is this something that is causing concern or is it something that you’re able to manage?

STEVEN BROWN: It’s not great. Our interest cost has definitely gone up. We tend to hedge our book with interest-rate caps so that when interest rates come down we benefit significantly. But unfortunately until you hit that cap strike, you’re kind of wearing that high interest cost. That happened during the year, but now most of our interest-rate protection has kicked in so we are not too concerned about that. I think the knock-on effect is [that] we saw portfolio values flat on last year because discount rates, capitalisation rates, have gone up but are less pronounced in SA, Simon.

What Europe’s going through, where as you correctly point out they had like negative rates for a decade and now suddenly rates are 3.5%, 4% – that’s dramatic. I think they are grappling with this problem. It’s far harder for them than it is for us where we are used to relatively high interest rates here.

SIMON BROWN: I’ve got a view that the general equity market in the developed markets hasn’t yet taken cognisance of valuations with new rates.

But we’ll park that there. Steven Brown, CEO at Fortress, I appreciate as always the time.

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