Taliesin Property Fund Limited -  Half Yearly Report

TALIESIN PROPERTY FUND LIMITED

Unaudited half yearly report for the 6 months to 30 June 2016

Key financial and operational highlights

·      Adjusted Net Asset Value (NAV)* per share increased by 11.8% to end the first half of 2016 at €35.15 (31 December 2015 €31.44). On an EPRA basis**, the NAV per share was €34.73 as at 30 June 2016 (31 December 2015 €31.10)

·      Property portfolio now valued at €289.2 million, an increase of 9.5% after adjusting for property sales in the first half of 2016

·      Per square metre (psqm) valuation of €2,440 (31 December 2015 €2,240)

·      Recently completed loan refinancing further reduces interest costs

·      Proposed further capital return to shareholders of €2 per share (171p per share)

*   The Adjusted NAV takes the IFRS NAV and excludes gross deferred tax liabilities

** The EPRA NAV takes the IFRS NAV and excludes the cumulative mark-to-market movements in Taliesin's interest rate swap contracts and excludes net deferred tax liabilities

This announcement contains inside information.

For further information, please contact:

Taliesin Property Fund Limited

Mark Smith, Director                                                                     01534 700 000

Stockdale Securities Limited

Alastair Moreton/ Rose Ramsden                                                 020 7601 6118

Chairman's Statement

I am delighted to again be able to report on a strong half-year for Taliesin. The Group's Adjusted NAV per share increased by 11.8% in the first half of 2016 to €35.15 (31 December 2015 €31.44). The value of the Taliesin property portfolio as at 30 June 2016, following a valuation carried out by Jones Lang LaSalle (JLL), now stands at €289.2 million, an increase in the period of 9.5% after adjusting for property sales.

The value per square metre of the portfolio now stands at €2,440, an increase of 8.9% from 31 December 2015 (€2,240 psqm). Taliesin invested a further €2.1 million in selective property refurbishment projects during the period and has committed a similar amount for the rest of the year.

The ongoing investment programme continues to drive rental growth. Despite a smaller portfolio as a result of privatisation sales and static vacancy rates, overall rental revenue is growing strongly and in situ rents are growing in the region of 4-5% per annum.

Further commentary on the Berlin residential market is provided in the Investment Advisers' report but, in summary, the trends that have supported the market in recent years remain robust. The Berlin economy continues to prosper supported by healthy demographics as more people move to the city, adding to the problem of a scarcity of supply in the residential rental market. Strong growth in home ownership driven by record low borrowing costs is driving single apartment prices higher and further reducing the stock of residential property available for rent.

The increase in the value of Taliesin's portfolio demonstrates how well placed the Group is to take full advantage of these trends. In particular, the new valuation reflects the potential for further privatisations and better captures the premium prices achievable through apartment sales. Looking at valuations generally, the market is beginning to differentiate pricing much more depending on location, quality of building and potential (for privatisation, redevelopment etc.). This is a big step away from when Taliesin first started acquiring property, as there was very little in the way of price differentiation based on location and potential. As the market continues to mature, I would expect this trend to become stronger and for Taliesin to be an obvious beneficiary given the quality and location of its properties and their potential.

The ongoing collapse in interest rates and the slew of bonds offering negative yields in Germany has clearly been positive for the value of a predictable (and growing) yield portfolio such as ours. As discussed later in this report, we do not see this changing anytime soon. Of immediate benefit to Taliesin and its shareholders is the Group's ability to refinance maturing senior loans at much lower interest rates and higher principal amounts allowing for a further capital distribution of €2 per share (171p per share) by way of an issue and redemption of B shares, paid up out of the Company's stated capital account. The distribution will amount to €9,680,374 in aggregate and the Sterling equivalent of 171p per share will be paid on 26 August 2016 to those shareholders on the register at the close of business of 19 August 2016. The shares will be marked 'ex' on 18 August 2016.

Investment Advisers' Report

The Berlin residential market continues to benefit from the positive trends mentioned in the Chairman's commentary. The economy remains strong and is outperforming the rest of Germany. For example, in the first quarter of 2016, employment rose by 2.7% (49,700 jobs), more than double the rate in Germany as a whole. Employment in Berlin has been growing faster than in any other state since 2009. Businesses continue to move to the city and the technology sector shows early signs of being a game-changer for Berlin. Championed by Chancellor Merkel, tech activity has ballooned in the city, establishing Berlin as the start-up capital of mainland Europe. The move by various large American/Israeli co-working space operators into the Mitte district recently highlights just how dynamic and space hungry this sector has become, having been virtually non-existent a few years ago. Combined with a strong requirement for space from any number of stand-alone tech companies, this has led to significant increases in commercial rents in central areas. To the extent that Taliesin has commercial space in these areas, this is clearly positive. However, the real benefit for the Group is in the shape of more demand for rental and ownership properties in central areas, particularly in Friedrichshain where a number of media and tech businesses are located and a large part of the Taliesin portfolio is located.

The tech sector is not alone in attracting newcomers to Berlin. As discussed extensively in previous updates, the city continues to attract significant numbers of new inhabitants working in the media, arts, government and education sectors amongst others.  Residential building, although picking up, is still lagging population growth. According to the Berlin Statistics Office, Berlin's population rose by 50,000 (1.4%) in 2015, ending the year at 3,520,000, the highest level since the Berlin Wall came down.  Meanwhile, in 2015, the housing stock rose by 10,877 units (0.6%) to 1,902,675 units. Not surprisingly, the resulting squeeze has led to a substantial increase in living costs in recent years.  However, residential accommodation remains very affordable. At current valuations, a typical newly refurbished, centrally located, 75 square metre (800 square foot) apartment is held on our balance sheet at €183,000. This is likely to sell for around €300,000 as a private apartment and rent for around €900-1000 per month. Leaving aside the issue of availability, this pricing would still seem to continue to offer exceptional value.

In addition to a strong local economy and positive demographic trends, it is also worth reflecting on the broader outlook. The macroeconomic backdrop remains subdued in the Eurozone, suggesting little chance of any tightening of monetary policy near term.  Growth was running at 1.6% per annum at mid-year, with annual inflation keeping low at 0.2% and some countries, such as Italy and Spain, still experiencing deflation. Germany recently became the first Eurozone country to issue bonds with a negative yield, although yields in the secondary market for German sovereign debt have been negative for some time. Although estimates of the macroeconomic impact of Brexit vary wildly, not least because the ultimate form of Britain's economic relationship with the EU remains unclear, there is little doubt that Brexit and its attendant uncertainties will dampen the outlook for the EU. In previous crises, the EU has responded by accelerating and deepening the process of EU integration. Moves are currently afoot to harmonise social security systems and insolvency law.  However, Brexit has emboldened several countries, notably former Warsaw Pact nations, to call for greater decentralisation, partly because they feel they have borne the brunt of Germany's basically unilateral implementation of an open door policy on immigration. With anti-EU sentiment growing throughout the Eurozone, any significant concessions made to the UK in the process of Brexit talks could encourage potentially irresistible demands for EU referenda in several countries. As Brexit negotiations are taking place ahead of and during the French presidential elections in April/May 2017 and German national elections in September 2017, the political barometer in the Eurozone is bound to rise. This will surely take its toll on investment spending and ensure that the ECB will keep rates lower for longer and semi-institutionalise QE. This bodes well for the outlook for real estate prices in Berlin and Taliesin's ability to continue to refinance maturing senior loans on preferential terms.

In our full year 2015 report, we flagged a re-financing of two senior loans maturing in 2016. The two maturing facilities totalled €17 million with an interest rate of 4.5% and we had indicated at the time of the full year report that we hoped to refinance with a new principal amount of €30 million and an interest rate of less than 1.5%. Given the improvement seen this year in the financing market, the actual amount of new principal loan is slightly higher at €30.5 million and the interest rate slightly lower at less than 1.25%. This refinancing was concluded and drawn-down at the end of July, i.e. post the balance sheet date for the interim results. As of the balance sheet date, the loan-to-value on the Taliesin portfolio declined again to 41%. The recently concluded refinancing will increase this ratio to around 46%. The cover ratio on the Group's ZDP shares also improved to 2.34x as at 30 June 2016 as a result of the portfolio revaluation. It is particularly pleasing for the Company to be able to fund a further capital distribution to shareholders as a result of this most recent refinancing. Looking at the future maturity schedule of senior loans, Taliesin has a significant number of loans maturing over the next two years. If current benign conditions persist, then this should allow the Group to continue to return money to shareholders and further reduce interest costs. Proceeds from further privatisation sales should also help facilitate future distributions.

Looking at the interim financial statements and following on from a change first made at year end 2015, Taliesin now shows an additional balance sheet line 'Assets classified as held for sale' representing those properties that are in the immediate process of privatisation. At year-end 2015 this line consisted entirely of unsold units in Warschauer Strasse, Taliesin's first foray into the privatisation market. A further property, Kavalierstrasse in Pankow, has been reclassified as 'held for sale' at the interim stage reflecting the Group's decision to push ahead with apartment sales in the property. This property is very different to Warschauer Strasse in that a full refurbishment programme was carried out some time ago meaning that very little additional investment is required ahead of apartment sales. Three apartments in this building have been agreed for sale with average sales prices of close to €3,900 psqm. These three apartments were all offered for sale as vacant units and further units in the property are being marketed in a similar fashion. Vacant apartments continue to fetch a premium over tenanted units when sold to private ownership. Taliesin's first privatisation project in Warschauer Strasse is now virtually complete with just one commercial unit left to sell. As we have highlighted in the past, virtually all of the Group's property portfolio has permissions in place to privatise or does not require them. Given the prices achieved through single apartment sales, we would hope to see the overall valuation applied to the portfolio continue to capture a greater privatisation premium.

Risks and Uncertainties

As we noted in the full year review, the strengths of the Taliesin business have been discussed extensively. The Group does, however, remain vigilant to threats to the business, particularly due to the geographic concentration of the Taliesin portfolio.

We would reiterate those risks outlined in the full year report. The political environment remains fairly hostile to landlords in light of sizeable rent increases in recent years and an electorate made up predominantly of renters. Additional regulations/restrictions on property owners remain an ever present threat.

An additional area of uncertainty is the general difficulty in finding contractors, architects etc. to carry out projects given how tight the market has become. This also extends to uncertainties around gaining permissions from the authorities to carry out works. Often the infrastructure is not up to the task.

The economic risks have been covered in detail earlier in the report and we believe that the virtuous circle of lower interest rates and higher asset prices can persist in Germany. There can be no guarantee however that this can't change and a reversal in German interest rates could have a strongly negative impact on real estate prices.

Summary

The original premise of Taliesin was to acquire good quality, centrally located Berlin properties at a substantial discount to replacement cost. The vast bulk of the portfolio was acquired for prices around €1,000 psqm. Gross yield were also in the region of 7%. The Group had a strong conviction that medium term demographics were supportive of the residential market and that the economic outlook was far better than the consensus suggested. We felt that vacancy rates could decline quite quickly in the face of high net migration to Berlin and regarded the prospect of new supply hitting the market at prevailing price levels as close to zero. The properties that were acquired were also ones that we thought would be attractive to apartment buyers in the future as the assumption of higher future home ownership seemed logical.

The initial strategy was to invest heavily in the portfolio to improve the quality of our stock and allow us to command higher rents. Taliesin never committed to regular dividends due to the high cash requirements of improving the property portfolio and the outsize returns on those investments. It was always the aim of the Group to return capital to shareholders via proceeds of refinancing or asset sales and we are delighted to have reached this point.

The success of the initial strategy could be seen through substantial rental growth and, in turn, higher valuations for the portfolio. More recently, the economic and demographic trends which we hoped would occur have become strongly entrenched. The market has become substantially de-risked compared to when the Group started and new buyers have turned up in the market as a result with very different price expectations.

What we did not foresee when we first entered the market was the confluence of factors that has led to the current ultra-low interest rate environment. This has clearly been an additional support to the market in Berlin and Taliesin's ability to refinance loans and, in turn, return capital to shareholders.

The current valuation of the Group's portfolio of €2,440 psqm is a long way from the original purchase price, but a huge amount has changed in the Berlin market. As outlined in this report, these prices still represent good value. Absent a dramatic change in the global environment, we feel confident that the following themes will continue: Firstly, given the ongoing privatisation sales and the heavy maturity schedule of loans over the next two years, the Group can continue to return capital to shareholders. Secondly, given how entrenched the positive demographic and economic trends are, rents will continue to increase and lastly, that low interest rates will continue to drive single apartment prices higher and increase the attractiveness of a portfolio such as ours to any number of potential acquirers.

Directors' statement of responsibilities

The Directors are responsible for preparing the half-yearly financial statements in accordance with applicable law and regulations. The Directors confirm that to the best of their knowledge:

-     the condensed set of financial statements contained within the half-yearly financial report have been prepared in accordance with IAS 34 Interim Financial Reporting as adopted by the European Union;
 

-     the half-yearly financial report provides a fair review of the information required by:

(a)  DTR 4.2.7R of the Disclosure and Transparency Rules, being an indication of important events that have occurred during the first six months of the financial year and their impact on the condensed half-yearly financial statements; and a description of the principal risks and uncertainties for the remaining six months of the year ending 31 December 2016; and

(b)  DTR 4.2.8R of the Disclosure and Transparency Rules, being related party transactions that have taken place in the first six months of the current financial year and that have materially affected the financial position or performance of the entity during that period; and any changes in the related party transactions described in the last annual report that could materially affect the financial position or performance of the entity.

Signed on behalf of the Board of Directors.

_____________________________                                           
Director                                                                                 
Nigel Le Quesne
 

11 August 2016

The financial statements were approved by the Board of Directors on 11 August 2016 and signed on its behalf by:

_____________________________                                           
Director

Nigel Le Quesne