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 Sunday, July 20, 2008 |
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South Africans breathed a sigh of relief on Thursday 12 June 2008 when Reserve Bank Governor Tito Mboweni raised the REPO rate by only 50 basis points, effectively pushing prime to 15.50%.
Courtwell Consulting’s director, Jonathan Smith, commented that this would, however, continue to reduce distributable earnings across the property sector as interest charges by lenders in the sector affect the entire spectrum of players.
Smith refers to three of the important financial risks faced by property investors: the weighted cost of capital, comprising debt and equity costs; operating costs which are increased when interest charges force suppliers to pass their increased funding charges onto property-owners and liquidity risk which is amplified when inflationary pressures unite with interest-rate hikes to impact upon cash flow.
If one examines the cash flow structure of a property portfolio it is evident that something has to suffer when funding charges and operating costs increase: Because funding costs have increased (as a result of the tenth interest rate increase in the current series) but taxation has remained relatively constant and property-owners should avoid reducing operating expenditure to the detriment of asset value, it is the investor who bears the brunt of the lower distributable dividend. This is, in essence, why the property index has dropped so dramatically since the beginning of the year: investors are factoring the double whammy of increased operating costs and funding, into a property’s ability to sustain dividend distribution at what have been exceptional levels in the past ten years.
“It is not the time to panic - the 1998- and 2003- slumps (prompted by similar, although not as acute macro conditions) provided property investors with many opportunities to exploit acquisition strategies and financial structuring models which not only maintained fund value but, in some cases enhanced value.”
Interest rate hikes cause the property-owner’s capital costs to increase (unless a fixed rate has been timeously negotiated), but by a lower factor than the full impact of the interest rate hike, as a result of the equity which is already injected into the investment.
For these reasons, concludes Smith, property investors should be maintaining their faith in South Africa’s property sector which is one of the best managed in the world. Our fund and property managers remain amongst the best trained and are focused on the action-steps which count towards sound value extraction.
ENDS
For more information contact Jonathan Smith on 083 263 5497 or (011) 327 6428.
Issued by Rosemary Roberts of TxRx Communications (082 776 9555) on behalf of Courtwell Consultiong – June 2008
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