Real Estate Investor Magazine South Africa November 2016 | Page 40

STRATEGY

Hope over Experience
Are SA Property companies diworsifying offshore?
BY WIM PRINSLOO

D

iworsification: The process of putting
additional assets into a portfolio that
diworsifies, rather than diversifies, future

returns.
The South African listed property sector has been
a huge winner over the last decade, returning 17.65%
per year compared with the 11.98% for the JSE All
Share Index . However, South Africa’s slow economic
growth and high borrowing costs have made it
extremely difficult for local property companies
(Propcos) to sustain the rapid growth of the previous
decade. It was therefore only a matter of time before
these Propcos looked offshore in an attempt to
enhance their growth potential.
This begs the question - will these offshore
acquisitions create real value or have local management
teams fallen into the trap of diworsification?

Offshore acquisitions enhance earnings,
initially

Due to the low borrowing costs of around 3% in
Central and Eastern Europe (CEE), local management
teams have predominantly focussed on acquisitions in
that region. The cost of funding in CEE is far lower
than the rental yields on property acquisitions and
the transaction immediately enhances the earnings
of the acquirer. A good example is the acquisition by
Redefine of Echo Prime Properties in Poland. The
initial rental yield on the assets are roughly 6% and
was funded with a cost of debt of around 3%.
The problem is that these offshore transactions
may turn out to be financial transactions as opposed
to property transactions, with the focus more on
the initial increase in earnings (due to favourable
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NOVEMBER 2016 SA Real Estate Investor

acquisition spreads and the assumed depreciation of
the rand) as opposed to the longer-term impact on
overall portfolio quality and growth potential.

Value created through tangible synergies

A sound justification for an offshore acquisition
cites strong market fundamentals and/or significant
redevelopment opportunities. The presence of these
tangible synergies will add to the rental growth and
asset value of the acquirer’s total portfolio over many
years to come, not only the first year.
According to local property fund managers
Sesfikile Capital, the Redefine-Echo Prime deal
“was not only about initial earnings accretion. The
secured pipeline of refurbishments and acquisitions
can generate growth beyond the first year”. While
Redefine has likely created real value with this
transaction, Sesfikile aptly states that there are still
those “running away from the rand into another set
of problems.”
One only needs to look across the Atlantic to the
US for evidence of how unsuccessful US Propcos have
been on the merger and acquisition front. Since 1992,
acquiring companies have typically delivered total
returns that lag those of their peers and provide scant
evidence of real value creation .
The jury is still out on offshore expansion. Local
investors will do well to judge each offshore acquisition
on its own merit, with a focus on identifying its
tangible synergies beyond the first year.

RESOURCES
True North Capital Management
www.reimag.co.za