Heading into the busy half of reporting season, a lesser-known company we were looking forward to hearing from was property development and real estate funds management small-cap, Folkestone Limited (FLK). With a net-cash balance sheet, FLK is well positioned to grow its real estate funds management business and to make selective on-balance sheet investments. FLK focuses on quality residential and non-residential property, with a strategic focus on higher growth social infrastructure areas of early childhood education and seniors living.
In our view, at share prices around $1.00, investors can acquire exposure to a quality property and development portfolio, while getting the growing and strongly performing funds management business effectively for free. We recently added FLK to Clime portfolios.
FLK’s balance sheet assets are spread across funds, cash, property developments, and 13% stake (investments) in Folkestone Education Investment Trust (ASX:FET), which is the core fund in FLK’s fund’s management business. FET is Australia’s largest listed real estate investment trust focusing invests in early learning properties. In the 12 months to 30 June 2016 FET’s unit price increased by 27% to $2.67 and the associated mark to market gains ($16.9m) assisted in delivering a strong result (comprehensive income) for FY16.
FLK balance sheet assets and funds under management as at 31 December 2015
Figure 1. FLK balance sheet assets and funds under management as at 31 December 2015
Source. FLK
Funds under management (FUM) has grown strongly in recent years and now exceeds $1bn, up from $917m and $813m as at 30 June 2015 and 2014 respectively. Social infrastructure such as early learning centres typically include longer leases (10 years or more) and offer higher yields than office or retail, though yields have trended lower over the last five years reflecting the growing investor interest.
Early learning centre sale yields (2010 - 2015)
Figure 2. Early learning centre sale yields (2010 – 2015)
Source. FLK
More recently, in July FLK’s funds management business announced the acquisition of Watermark Castle Cove, an award winning retirement living community of Sydney’s lower north shore, which is the first asset for its new seniors living platform and the Folkestone Seniors Living Fund No.1. With over 65’s forecast to grow at 3.4% p.a. over the next five years, well above overall population growth, the seniors platform provides a new arm of long term FUM growth.
FLK has also grown its development pipeline from $347 to $751 over the last 18 months via five new projects across residential, commercial and community property developments. We expect a much greater proportion of projects to contribute to profit beyond FY16.
Overall, FLK has a solid and improving profitability profile, though profit and operating cash flow is lumpy due to the nature of the development portion of business. The business has a highly capable management team led by industry veteran Greg Paramor. Management have a significant 11% stake.
Shares are trading at $1, which is 17.4% below our FY17 valuation of $1.21.
FLK future value
Figure 3. FLK future value
Source. StocksInValue