Vonovia (OTCPK:VNNVF) is Europe’s largest private real estate company. It holds ~415k residential apartments in urban-growth cities in mostly in Germany as well as Austria and Sweden. Vonovia was included in the European blue-chip index EURO STOXX 50 in September 2020 and is the only real estate company to be included in Europe’s leading index.
(all slides are extracted from Vonovia Investor Relations 3Q’2020 earnings report)
I believe it is a great portfolio addition to a U.S.-based income-orientated investor who is looking for income diversification, inflation-hedge, non-U.S. currency exposure but still preferring to sleep well at night for many years to come.
I first came across Vonovia when I was looking to purchase an investment property in Berlin, Germany. I balked at the logistical “nightmare” of buying and managing a property remotely and I almost gave up. Luckily, I came across this ticker and decided to invest in it in lieu. I have held this stock for a number of years now and continue to add on price dislocations. It typically pays out dividends amounting to ~70 percent of FFO which typically yields 3%. The dividend has been growing at a 15 percent CAGR clip since it IPOed in 2013.
Vonovia is a dividend growth compounder that is as safe as a house. It operates in chronically under-supplied markets with regulated rentals. Therefore, the market rate of rents is substantially higher than the regulated prices which provide a significant downside cushion. The chart below clearly demonstrates the lower-volatility in the German residential market versus the U.S. market.
The COVID19 pandemic has had a negligible impact on its operations and thus the stock is up strongly year-to-date.
Multiple engines of growth
Vonovia has multiple engines of growth aside from the “boring” business of being a German landlord. These engines of growth include the development of units (for hold as well as sell), property & portfolio management business as well as recurring sales of apartments to retail buyers.
The bread and butter business of rental and value-added services comprises ~90 percent of EBITDA. This is a very stable and growing cash flow. The organic rental growth is in the range of ~3-4 percent in recent years:
The drivers of growth have been market rent annual adjustments, returns on CAPEX spent on modernization of apartments and completion of new-construction to hold units.
Capex on modernization typically has a ~9-10 percent IRR which is monetized through rental increases allowed outside of regulated rental increases.
The recurring sales of 2.5k annually at ~30 percent mark-up clearly highlight that the assets’ values on the balance sheet are measured rather conservatively. In other words, the book value is somewhat understated.
The track record
Since its IPO in 2013, the businesses delivered a CAGR of ~15% across all the important metrics for income investors:
The recent “slow-down” in growth is due to the digestion of an inorganic acquisition in Sweden and associated capital issuance.
The share price has tracked the adjusted NAV quite closely:
The latest reported Adjusted NAV is 55.41 Euros. However, management guided that at the full year it expects the Adjusted NAV to be in the region of 60 Euros and grow thereafter (valuation is only carried out at half and year-end). So currently, the shares are trading at approximately the Adjusted NAV level.
Overall, the share price is up ~300 percent since the IPO.
Inorganic acquisitions are part and parcel of the strategy.
Management has set a robust framework for acquisition including strategic fit and only paying the right price. This limits acquisitions to urban growth regions and accretive to both EBIDTA as well as NAV. Finally, it must be neutral to its investment-grade rating. Management is well-aware of the substantial potential value destruction that is caused by ill-advised acquisition and treads cautiously. Its track record to date has been excellent.
Real estate investments are well-known to provide an effective inflation hedge.
In Vonovia’s circumstances, it is even better when you consider its capital structure.
It has a low cost of debt ~1.4 percent whereas 99 percent of its debt is fixed. In other words, if interest rates go up then one would expect its income and assets to rise sharply whereas its debt cost to remain low for several years.
Notably, the recent bond issuances demonstrate that Vonovia now benefits from a lower cost of debt (e.g. 0.625% for 6 years bond). This will likely manifest in a lower average cost of debt over time, as debt matures and gets refinanced at current lower rates.
Heads you win, tails you win for Vonovia.
Vonovia is a boring, low-volatility and predictable dividend growth compounder. And that’s the way I like it. It operates in very attractive and structurally under-supplied markets. The dividend is a modest but attractive 3 percent and expected to continue its growth trajectory.
For U.S.-based investors, Vonovia is a great diversifier and stabilizer for a portfolio on several fronts.
The key question is of course is when to buy?
I usually add where the stock trades at below 10 percent of Adjusted NAV. Given that I believe that book value is on a growing trajectory, I see the margin of safety as sufficiently wide. I also believe that the reported book is somewhat understated, as evidenced by 30+ mark-ups on inventory sold.
For me, Vonovia is a keeper for the long-term.
If you are interested in European REITs, you may want to consider this tier 1 European REIT trading at 0.22x tangible book with a covered dividend of 20+ percent.
One more thing
I essentially write for Seeking Alpha to stress-test my investment thesis. I would be very grateful if you participate in the “comments” discussion and provide your views (whether contrarian or otherwise).
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Disclosure: I am/we are long VNNVF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.