VNNVF - Vonovia: Major Disposal Announced

2023-04-26 17:58:40 ET

Summary

• I've covered Vonovia before and I was clear about the fact that any news regarding a disposal at or near book value will be a major bullish catalyst.
• This morning management announced a EUR1.0 Billion sale to Apollo.
• I discuss the details of the transaction and the implications going forward.

Dear readers/followers,

I've written two articles on Vonovia ( VNNVF ) to date highlighting the opportunity and explaining why the company represents a core holding in my portfolio. Most recently, I wrote an article on March 20 (after Vonovia cut its dividend) issuing a STRONG BUY rating at EUR18.80 per share. I was really bullish on the company back then due to a severe discount to NAV. At the same time I tried to retain a balanced view, which is why I specifically mentioned the single biggest concern for this year - the need for a disposal of a significant part of Vonovia's portfolio to generate liquidity to repay near term debt. I also said that any news on a successful disposal at or near book value will act as a substantial bullish catalyst and will likely catapult the stock price higher.

Well, it happened. Management announced this morning that they sold a minority stake in their “Südewo” portfolio to Apollo for EUR1.0 Billion. The transaction is expected to close by May 31, 2023. Apollo will act as a "silent" partner and Vonovia will continue to control, operate, and consolidate the properties in-house. The Südewo portfolio comprises about 21,000 residential units (about 3.8% of what Vonovia owns) across the German state of Baden-Württemberg. It's worth noting that this is the "good" part of Germany. Apollo purchased a 30% ownership interest in the portfolio at a EUR 3.3 Billion valuation (on a debt free and cash free basis) with a higher-than pro-rata share of the dividend distribution. What's important is that this valuation was just 5% below the book value reported at the end of 2022. This confirms the fact that book value held on the books is reasonable and not over inflated which is important for us as investors and even more important for Vonovia, because it will make their refinancing discussions with banks much easier and will not put pressure on their covenants.

The deal comes with a long-term call option to essentially buy back the minority stake. If Vonovia was to exercise the option the purchase price would be calculated so that Apollo walks away with an IRR of 7-8% (including dividends received). Beyond the liquidity boost, this is in my opinion the best part of the deal, because it allows Vonovia to retain 100% of the upside of any outperformance of the portfolio. This is huge, because my base case is that when rates stabilize and the economic situation calms down, the German property market will likely continue its upward trajectory driven by a lack of supply and with the option Vonovia will be part of it.

The deal is actually really good for Vonovia for a number of reasons:

1. It gives a clear sign that their book value is not inflated
2. It gives them EUR1.0 Billion in liquidity which can be used to pay-down near term debt. This represents half of the targeted EUR2.0 Billion free cash flow from asset disposals to which the company committed for 2023 so there is some work left to do, but the signal is clear.
3. Apollo is a major asset manager with over $500 Billion of assets under management. If they're willing to purchase such a stake, they must have confidence in management and the underlying business. The fact that Vonovia was advised on the transaction by J.P.Morgan also speaks volumes in my opinion. It simply shows that they know what they're doing.
4. The call option let's Vonovia keep the upside while providing the liquidity it desperately needs. The 7-8% "cost" of exercising the option is also pretty reasonable.
5. With this transaction this year’s refinancing requirements are fully covered.

The CEO made the following comments:

“We are pleased to have these word-class, long-term insurance and institutional partners for our Südewo portfolio. The transaction demonstrates the attractiveness of German residential rental income in general and our portfolio in particular. It is also a significant step in reaching our full-year disposal targets.”

Looking at their free cash and taking into account the EUR1.0 Billion injection from Apollo and the recent 50% dividend cut which saved the company about EUR630 Million in free cash flow, even if no further disposals happen this year, Vonovia will have about EUR3.0 Billion in free cash which is more than enough to repay all of the EUR2.2 Billion in unsecured debt that matures this year. After repayment LTV is expected to drop by 1pp to 44.1%. Regarding the maturity of EUR1.2 Billion of secured debt, management expects to refinance. And again a disposal near book value will help significantly here.

This announcement is big news and so far price action hasn't really reflected this as it increased by only about 5% since the announcement this morning (from EUR18.60 to EUR 19.60 per share). I think there's an opportunity here to add to your position if you haven't already and I reiterate my " STRONG BUY " rating here. With this announcement, the down-side risk has decreased substantially while the upside is completely intact. Of course this doesn't mean that the investment is risk-free. If rates remain as high as they are, Vonovia will likely need to sell more properties to generate more liquidity next year, but it is definitely a pretty big step in the right direction and one we have been waiting for for almost a year.

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