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Shopping Centre Landlords Are Breaching Banking Covenants And Being Forced To Sell

Coopers Square in Burton upon Trent

The crisis in the retail sector is causing landlords to breach debt covenants and forcing them to sell assets as a result.

Last week South Africa-listed investor New Frontier Properties announced that a sharp drop in the value of its U.K. retail portfolio meant it had breached banking covenants. As a result, it is selling an Irish logistics asset to pay down debt. The breach was first reported by Property Week.

In 2015 New Frontier, led by former Local Shopping REIT Chief Executive Mike Riley, bought three shopping centres for £284M: Coopers Square in Burton upon Trent, The Cleveland Centre in Middlesborough and Houndshill Shopping Centre in Blackpool.

By 2017 they had fallen in value to £266M. In its annual report last week the company revealed that value had dropped to £187M, a fall of almost 30%. The drop was uniform across the three centres, implying its valuers had written its assets down by a blanket 30%.

The value fall came in spite of the fact that New Frontier said its vacancy rate had gone down, from 9.7% to 6.6%. The weighted average lease term is 10 years.

“This significant reduction in the value of the company’s shopping centre portfolio of £78.61M can be attributed to several factors including recent Company Voluntary Arrangements, company receiverships and tough trading conditions across the U.K. retail sector,” New Frontier said.

“This combined with rising interest rates, the fall in the value of sterling, rising costs and concerns over Brexit has resulted in a weakened investor market, particularly outside London and the South East. Consequently, investment yields have moved out which has exacerbated the valuation fall.”

As a result of the fall, New Frontier said it had breached debt covenants on loans provided by two banks.

“Whilst the group has the support of its funders, its loan terms are effectively repayable on demand,” it said.

Its banking situation shows how quickly even relatively conservatively geared investors can hit trouble in a falling market. Its annual report shows that as of last year, it had loans of £159M against assets valued at £266M, or a loan to value ratio of 60%.

This year the figures are around £140M of debt against assets valued at £187M, or a 74% LTV. As a result of the breach, one of its lenders has increased its interest rate margin from 2.35% to 3%, and all free cash flow after operating expenses is being trapped by the banks and used to repay debt.

New Frontier said that in order to reduce debt it was selling a logistics asset it bought in Dublin in 2017, valued at £8M.

Earlier this year, the Nicholsons shopping centre in Maidenhead went into receivership. It was owned by hedge fund Cheyne Capital, which bought it for £37M from Irish Life in March 2015, a 6.15% yield, using a £26M loan from Hermes Investment Management. Irish Life bought it for £85M in 2007.

There is a glut of shopping centres owned by private equity and other leveraged investors that need to be sold or refinanced and are at risk of insolvency — about 200, according to asset manager APAM, with a nominal face value of more than £7B.