The paradox of large real estate companies: they continue to make money while declaring million-dollar losses

2023-07-31 07:42:08

In the real estate sector the paradox that it is possible to have a company that he earns money and distributes it among his shareholders via dividend, even if his business results are millions in losses. This is what has happened during the first half of 2023: companies maintain or increase their income, but the adjustment in the value of real estate assets weighs down the income statement to losses of several hundred million euros.

This is what has happened to the two large real estate companies inl Ibex-35, Colonial and Merlin Properties. The first, specialized in the leasing of office buildings in Paris, Madrid and Barcelona, ​​has increased its income by 8% and, even, its recurring profit by 13%, but has adjusted the value of its portfolio by 3%. This is equivalent to a devaluation of 525 million, which has resulted in losses in the period of 347 million.

In the case of Merlin, its turnover has increased by 7.4%, but the valuation of its assets has fallen by 2%, which has culminated in losses in the first six months of 47.5 million. In his case, the falls in the value of real estate have been concentrated in his office buildings and shopping centers, where they fell by 2.5% and 2.9%, respectively.

Why does the value of assets fall?

The change in monetary policy undertaken by the European Central Bank, with significant increases in interest rates, is correlated with the yield of each country’s sovereign bonds, which in the market is considered the risk-free return. This means that any investmentdepending on your risk, must provide a return above the coupon of these public debt issuances.

When the bonds rented around 0%, any real estate asset was a good investment because it guaranteed a return of 3% or 4%, even more. However, with the Spanish 10-year bond at 3.5%, investors are demanding a higher return on real estate. The only way to obtain higher returns is by paying less on the investment (or raising rents), that is, with price falls. This path to the rise of the yields (yields) is the process that the main real estate companies are undergoing today, something that has not ended and will last, at least, for the remainder of the year. Colonial’s management team acknowledged, during a meeting with the media, that the 3% reduction they suffered during the first six months of the year could be repeated during the second half of the year.

The stock market already discounts this scenario and for this reason the main socimis and promoters in the country are trading with important discounts from the value of your assets, above 40% or 50%. However, analysts do not expect such falls in real estate. The value of Merlin’s assets (minus debt) is 15.36 euros per share and is listed at 8.4 euros, while Colonial’s is 11.12 euros and its stock market value is 5.8 euros. Ismael Clemente himself, CEO of Merlin, assured at the last Shareholders’ Meeting of his company that, on occasions, “the market sometimes overreacts and we are in one of the historical cycles where this occurs”, appealing to its shareholders that “it is important to remain calm because the company at the operational level is in an optimal situation”.

The operations of the companies remain intact

On a day-to-day basis, in business operations, the numbers are good and both companies they are being able to transfer inflation to their tenants, which is the only way to stop assets from being devalued, in addition to investing in their maintenance or rehabilitation, although it is intrinsic. The rental contracts of these real estate companies are indexed to the CPI and, with the inflationary period that the economy has been experiencing since the end of 2021, rents rise hand in hand.

According to the semi-annual results, Colonial has raised its rents by 8% in its assets and Merlin Properties by 7.7%. The The occupation of the buildings has not suffered either, but rather they have grown, and it stands at 97% and 95%, respectively. The numbers of these companies are directly related to the progress of the economy and, as long as the employment figures remain positive, their occupations will remain high.