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Bond of the Week: 3 July 2014
Bond of the Week : 3 July 2014
After a long wait (the idea was first muted two years ago) the charity platform on the ORB has launched its first issue. The idea is to give charities that need funding for the purchase of assets (i.e. housing) access to the bond market. It is not for activist charities to acquire funds for immediate expenditure in anticipation of future donations. From an investors point of view the bonds will essentially be like any other ORB bond only the issue sizes will be much smaller. From an issuers point of view the platform allows much smaller issuance without a costly regulatory burden of producing stand-alone prospectuses each time. At this point it should be said that this is a commercial not a chugging transaction and it should be judged on commercial terms (even if there may be a feeling of goodwill towards a particular charity that might push you over the edge into making a purchase).
The charity issuing is Golden Lane Housing (GLH), owned by Mencap. I have to say the euphemistic puffery that seems to come with the adjective golden always makes me want to emit an inward giggle. Manchester Building Society sold its ridiculous Spanish Mortgages through Golden Age Distribution and then there is that most splendid of splendidly named political parties that you mustn’t vote for; Golden Dawn. I could go on but I was told by a friend that I was starting to be unsuitable. However, I am being unfair as Golden Lane Housing provides a valuable service. This is what they do.
Established in 1998 the charity provides housing for those with learning difficulties, enabling them to live on their own, which in the ordinary course of events might not have been possible. This not only enhances the life of those who have a chance to move away from home but may also relieve parents, perhaps aging, of the burden of day in day out caring without possibility of ultimate relief until they make their final bow. Those who have children (who supposedly are able to fend for themselves) entering adulthood and who show every sign of staying put in the family nest may understand the vital public good of such a service.
A surprisingly large number of people in the UK, apparently around 1.5 million, have some form of learning disability. Of those, 350,000 people are defined as suffering from a severe or profound learning disability. Golden Lane caters for all ranges of severity. There is of course no precise definition of who has a learning difficulty and who does not. As I caste my eye round the dealing room it occurs to me we may have some here; the vacant stare, the same tired old line plied to clients day after day, and animal spirits only lifted by the thought of lunch. And some seem to have no home to go to; perhaps I should make a call.
How does the charity operate? GLH buys and then rents out houses and flats at the market rate to those in need and the rental bill is paid for by councils via housing benefit. The alternative to “living in the community” or with parents is institutions and that is a significantly more costly solution for local authorities. Housing benefit is paid direct to GLH on behalf of their tenants. This will continue to be so, for obvious reasons, even after government benefit reforms, aimed at increasing individual responsibility by intermediating most tenants in the payment flow from government to landlord, have gone through.
The charity does not build or buy a set number of houses and then find people to fill them as a housing association might. Instead it is approached by a council with a particular demand and then goes out to find accommodation. Most housing provides between one and five beds (sometimes with an additional bedroom for a live in carer). This approach means their housing stock is very diverse in type and location. It should be pointed out that Golden Lane only acts as a landlord, all the additional support tenants may require being provided by other providers such as Mencap.
Here are the terms of the bond:
Issuer: Retail Charity Bonds PLC (the platform)
Before asking a few questions, here are a some more facts and figures. GLH has a property portfolio of 700 owned and managed properties. Total investment since foundation in 1998 is £83 million (capital has been provided along the way in the form of government grants which are now harder to come by). Current valuation of the property portfolio is £87 million and net assets are £37 million. Gearing as of March this year is 48%. GLH intends to incrementally grow their activities (only 16% of people with learning disabilities live in supported housing in the community). The charity operates profitably (£2.8mil in 2014) and has interest cover of 2.8X. They operate at close to full capacity (only 5% void).
How secure is their rental stream? Given it comes directly from the government it should be better quality than that of a housing association. Also GLH operates under a system called “Exempt rents” which means they can set their own levels free from Local Housing Authority (LHA) caps. 87% of tenants pay under Exempt Rents. Usually rents increase by RPI+0.5%. In reliability of income stream GLH is a superior risk to a housing association.
How secure is the capital stock of housing? Given GLH has invested £83 million in housing since 1998 and it is now worth only £87 million I would not use them as managers of my property portfolio if I had one (I calculate the average house costs 2.5x more today than it did in 1998!). Of course not all houses were bought in 1998 – they started then with a grant of less than a £1million. They also told me that they have to spend money converting premises (which implies a cost for eventually un-converting them when premises are sold) and they will not have been buying in property hot spots. Nevertheless their property investment performance (and it is probably not a top concern of theirs – until of course it goes wrong) has been far from scintillating.
I would also add that many housing associations sit on portfolios that are undervalued and if they were to be valued with vacant passion, would be severely undervalued (A2 Dominion for instance). This is not the case with GLH. They have the ability like any other private landlord to obtain vacant possession when the short term tenancy agreement falls due. In theory this is good but it does mean the properties are being valued at the open market price and therefore GLH is not sitting on undervalued assets.
How secure is GLH’s occupancy? Typically the tenants stay for 10 to 15 years or more, which with certainty of payment and RPI linked rents is a positive. However, it should be noted that as the charity operates with the policy that the property should fit the tenant and not the other way round, when a tenant moves out they do sometimes feel obliged to sell the house/ flat as it is suited to one person with a particular learning difficulty but not another. [For instance GLH sometimes tries to find housing where activity can be observed from the window. On that point I remember my aged grandmother telling me the worst thing you can do to an old person is stick them in a beautiful residential house in the country with nothing to look at except the rhododendrons. It was far better that they should observe, even if from an inferior home, bustling life along a busy road.]
Could their property portfolio become unwieldy? This is a question I put to the MD Alistair Graham. If a whole collection of idiosyncratic property is bought for different tenants for different reasons in different parts of the country, at some point would it become difficult to manage efficiently. I was told that as the portfolio was only growing slowly that was not an issue. They have 42 members of staff around the country looking after GLH. I leave this question open. It is not I think an imminent problem.
Finally and very importantly, what about liquidity? Many funds will not buy this issue because of liquidity concerns as the maximum issue size of £11 million is very modest. I, however, am not particularly concerned (assuming you don’t load the boat) as I have frequently seen very little correlation between issue size and liquidity. The main thing is that both Canaccord and Winterfloods have committed to making markets. Others may also take it up.
You might find the above chart interesting. The nearest comparable issuers are A2 Dominion and Places for People but I have added a couple of slightly higher yielding and probably riskier property bonds: PHP (GP surgeries) and Unite (student digs). They are plotted against a gilt curve.
Conclusion: I shall finish as I started. You should view this offering in a commercial not a charitable light. However, it is conversely true that you should not veto a purchase just because it is a charity offering. A broker friend and I, comparing notes, have observed that a telephone conversation that opens with the words charity bond frequently produces a slight awkwardness in the air. Feet are shuffled, there is shifting of position in the chair and a sudden need to take the kettle off the stove. In a way I do not blame the clients. There they are, hoping for an easy and genial conversation with their broker; maybe the offer of a spot of lunch, and instead they find themselves being touched for a contribution. But, give the bond a chance. From a commercial angle I think the bond is quite good, if not spectacular and I would expect a modest premium. Any doubt about the underlying performance of the assets (houses) should be outweighed by the solidity and longevity of their income stream. As a small issue there is also always the chance of it been squeezed up quite high in the months to come because of a stock shortage. I have put in only modest orders for myself and clients but that is as much to do with the amount of cash available and a general ennui about the markets.
Oliver Butt is a Partner in City and Continental LLP, a leading independent broker in fixed income. The author and or the LLP may hold a position in or trade in any of the securities mentioned above.
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