18 April 2014
By Maynard Paton
I always like to buy valuable assets at a steep discount. Today I’m delighted to showcase how I spotted one such investment, Mountview Estates (LON: MTVW), back in 2011 — and how it has since delivered very handsome gains.
At the time of my purchase, I calculated the potential value of Mountview’s balance sheet could have been more than twice its then market cap.
The shares have subsequently rallied 70% as the valuation discount narrowed and the underliying business performed well.
Add in conservative leadership and a terrific dividend history, and I’m convinced this sturdy £273m small-cap can continue to provide me with dependable, long-term returns.
At a glance
- Property trading business led by long-time family management
- Boasts illustrious dividend record and modest financial gearing
- Current share price below possible £103 per share net asset value
Mountview is one of those inconspicuous, old-fashioned — but proven — companies that I love to buy for my portfolio.
The firm’s history started in 1937, when two brothers, Frank and Irving Sinclair, started buying residential properties in North London. Their approach was simple: to purchase regulated tenancies (see below) and offload them years later at a significant profit.
The Sinclair family has since kept buying and selling regulated (and similar) tenancies, with the group’s portfolio now consisting of about 4,000 units spread mostly throughout London and the South East.
A brief guide to regulated tenancies
- A regulated tenancy — also known as a protected, statutory or fair-rent tenancy — is an arrangement that allows a ‘sitting’ tenant the right to live in a property at a cut-price rent for life.
- Most regulated tenancies were created before 1989 and the level of rent is decided by the Valuation Office Agency and the Rent Act of 1977.
- Given the lower income regulated tenancies produce, the properties generally sell at a large discount to their normal market value.
- When the regulated tenancy ends, the owner should enjoy an automatic capital gain as the property can then be sold or re-let without restriction.
- Buying and selling regulated tenancies requires patience. Sitting tenants can pass on their rights to their (younger) spouses, and it may be decades before the property is vacated.
During the last ten years, Mountview’s gross margins have indicated its properties are typically sold for 2.6 times their original cost.
Mountview’s recent history shows how lucrative its property trading can be
Perhaps uniquely for a quoted company involved in residential property, Mountview was able to sustain — and then increase — both its net asset value and dividend during the banking crash and recession.
|Year to March 31||2009||2010||2011||2012||2013|
|Net asset value (£000)||187,490||203,057||214,896||227,219||243,972|
|Net asset value per share (p)||4,809||5,208||5,512||5,828||6,273|
|Operating profit (£000)||22,175||30,460||24,802||23,901||30,065|
|Exceptional/other items (£000)||(3,207)||2,142||2,454||3,208||2,602|
|Net interest (£000)||(5,906)||(3,347)||(3,404)||(4,033)||(4,302)|
|Pre-tax profit (£000)||13,062||29,255||23,560||22,805||28,928|
|Earnings per share (p)||241||555||435||448||568|
|Dividend per share (p)||155||165||165||165||175|
In actual fact, net assets have advanced an average 10% a year between 2000 and 2013, while the dividend has increased a thumping 1,422% since 1990 — equivalent to a compound growth rate of 12%. Such progress suggests this is a very reliable business.
Though Mountview has a low stock-market profile, the group’s impressive track record has not been overlooked entirely by investors. The price started 2000 at £24 and reached an £80 peak during 2007. I bought at £41 during 2011 and the price is now £70. The shares have actually traded since 1960.
Mountview provides me with first-class veteran management
Duncan Sinclair, son of co-founder Irving Sinclair, took charge in 1990 and his talent is therefore underscored by that wonderful dividend history.
Mr Sinclair is also responsible for his wider family’s 53%/£144m shareholding, which I feel provides plenty of motivation for future dividend lifts!
Other good signs that Mr Sinclair runs this business with outside investors in mind include his basic wage increasing broadly in line with the dividend and the absence of a company option scheme.
This share is blessed with some very simple accounts
There are just three key entries: regulated tenancies of £328m, investment properties of £26m and net debt of £98m.
True, this business operates with borrowings, but they do not appear excessive given the size of the asset base, annual property sales of £42m and additional rental income of £17m.
Mountview looked distinctly undervalued
on an asset basis when I bought at £41 during 2011
Back then the balance sheet showed net assets of £55 per share, so my £41 buy price thus represented just 75% of Mountview’s book value.
The 25% discount seemed very unfair, especially given the asset base was (and still is) essentially all property and the shares traded at a premium to book for at least ten years until Lehman Brothers went bust.
But there’s more to Mountview’s valuation. The group’s regulated tenancies are all in the books at cost and when you consider the business has been buying property since 1937, I’m convinced the accounting hides substantial value.
In fact, I calculated in 2011 that the asset base might have been worth nearly £90 per share if all the remaining tenancies could be sold for the average 2.6 multiple seen during the prior decade, and all the debt was paid off.
Right now, the current £70 share price trades at a 9% premium to the £64 net asset value per share declared within November’s half-year results.
(For perspective, the shares traded at an 80% premium to book value during the 2007 credit boom and a 60% discount to book value during the 2008 credit crash.)
My latest sums indicate the balance sheet could be worth £103 a share based on those interim accounts.
Again, I’m assuming the regulated properties in the books at £328m can be sold for 2.6 times their original cost. My calculations also assume the proceeds are subject to normal tax, all debts are paid off, and the group’s investment properties sustain their £26m value.
I am aware the London ‘bubble’ could hurt this investment
Today’s buoyant housing market in London certainly poses a risk to this investment. Mountview could be paying top dollar for its current investments (£20m spent in the last half year, £29m spent in the full year before that), and/or see the value of its estate reduce as any ‘bubble’ deflates.
Still, the business has survived various downturns and recessions before without major problems and a nine-month update in February indicated profits before tax had gained 22%. So progress in the short term at least appears sound.
A longer-term danger concerns the availability of regulated tenancies. I’ve read that there are less than 100,000 of such properties in the country and Mountview regularly admits they are “becoming increasingly short in supply“.
The falling number of sitting tenants could mean Mountview’s rate of investment, and therefore asset growth, might one day grind to a halt. The growing scarcity of such properties may also mean they start to command higher prices while providing buyers with less quality. I’ll have to be vigilant to these possibilities.
I reckoned Mountview was a classic buy-and-hold share for patient investors
When I bought during 2011, the distinguished track record, owner-friendly leadership and discounted valuation all pointed towards what looked like a relatively sleep-easy investment that would provide few headaches.
And so far, so good.
Net assets have been lifted from £55 to £64 per share while the dividend has climbed a fraction, too. Of course, I’m very happy the share price has responded, with today’s investors now prepared to pay a 9% premium to book instead of a wide 25% discount.
Granted, the present property market in London may cause me some concern in time. But Mountview is still making good sales and might even be able to pick up bargains in a housing crash.
Long term, I see substantial value being extracted from the balance sheet, leading to higher net assets and further dividend advances — and the shares maintaining their premium above book and my healthy gain extending further.
One interesting aside is that the founding family’s 53% ‘concert party’ altered its agreement about the “terms of conduct” with the company during 2013. The statement mentioned “including the event of an offer being made for the Company“, which particularly caught my attention.
You see, I understand the aforementioned Duncan Sinclair is past standard retirement age and is the last family member in the senior ranks. So I would not be surprised if the wider Sinclair family are contemplating taking advantage of the current housing buoyancy in the South East and want out.
Disclosure: Maynard owns shares in Mountview Estates.