Dexus/DXS

The DXS result is out.

The below FFO (funds from operations) highlights that, despite the high profile headlines in the Office sector, DXS’s FFO continues to grow. Industrial makes up a reasonable chunk of the business…

…and the funds management segment has expanded to a meaningful size (recall they acquired parts of the AMP property and infrastructure funds management arm).

Occupancy in Office is notably weaker, as expected, with Industrial effectively full. Again, given the carnage in Office (as a result of “work from home”) we see 94.5% as a good result. There is a very real “flight to quality” dynamic, where B-grade properties are seeing negative absorption, and tenants are choosing to upgrade. If you want staff to come in (particularly as part of the “return to office” mandate) you’ve got to make it nice/pleasant/worthwhile-to-do-so.

Like-for-like rental growth was ~4%, and whilst incentives remain high (~30%) they were fractionally lower this half than in the previous half.

Given bond yields are much higher, cap rates have widened. You can think of rent growth pushing up property values, and higher discount rates lowering property values, and the net impact of rents up but rates up by lots has meant on-net downward revisions to both industrial and office assets.

As such the cap rates have widened (net operating incomes divided by property values).

Melbourne remains the most challenged, by occupancy, which makes sense; this is where the pandemic lockdowns were longest/hardest, and hence the greatest “structural break” to previous market trends.

Population growth (meaning empty offices are more likely to fill up) and the need for more space (industrial and health assets that grow with population needs, like more distribution and fulfillment centers, or medical/hospital/pathology assets that grow with health needs) should continue to support the business.

Gearing is at the lower end of the guided range, which we think is appropriate at the current time. Woe betides the over-geared REIT, in the current environment, we think.

DXS also had an interesting snippet highlighting that some 10% of the office buildings are responsible for 66% of the vacancies. That is a very interesting skew. If just a handful of those buildings convert to “something else” (literally anything else) it would go a long way to rebalancing the market.

We’ve seen in the US a material uplift in office-to-apartment conversions, and that’s despite the well-held view that such conversions are “hard to do”. They’ve been hard to do from an engineering standpoint, and from a legal standpoint, and yet, life finds a way (incentivised humans succeed over time).

So, despite results that are, perhaps, on the face of it, not that exciting, with DXS trading at a 20% discount to NTA, we continue to see good value in a stock that has a reasonable chance of recovering, over time (for office) and growing organically (industrial, funds management arm, which holds infrastructure assets as well).

And, if interest rates ultimately prove lower than today’s currently north of 4% level, we think they could do particularly well.

Brokers seemed to like it. Upgrades to price targets on the back of the result are usually well-regarded.

I also liked this reminder from management. “Hey we are cheap, and a funds management arm to boot!”.

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