Now, so firstly, just like to welcome you all to our half-year results presentation, which we are holding at Salisbury House at our new event space for the first time. Yeah, I guess in terms of the order for today, just running through that, I'll start with an overview of the business and activity in the first half of the year. Dave's then gonna take you through the financials in a little bit more detail, and then we'll finish with a view on the outlook for the business in the coming years. Just want to say a little bit more about Salisbury House. I think it's a great example of what we do best at Workspace. I mean, this is a lovely, iconic building built in the early nineteenth century, 1901, in fact. It's a listed building.
It's sitting on one corner of Finsbury Circus. Two hundred twenty thousand sq ft, one of our larger buildings. Now, we acquired this building in 2017, and since then, it's been subject to a rolling refurbishment, really bringing it up to modern standards. This includes actually, when we can get larger space back, actually subdividing that, upgrading it for a whole range of our SME-type customers. It's a great location for them, right next to Moorgate and obviously also the Elizabeth line. We've also been able to unlock lots of the original features in this building, and it's fantastic. Taking up the floor coverings, also taking off the wall coverings, being able to unlock lots of the original features of this building.
The most recent addition to that is also the central reception area that we've now created, giving a real focus to this building, as well as, of course, the event space that we're in today. But I do think it's a fantastic example of how we at Workspace can bring vibrancy and new life to what was a tired building, albeit a character-filled building in the center of London. Just moving on then. So in terms of definitions, one of the things that's frustrating for us sometimes is the generic description of us as an office business. What I've highlighted here on the left-hand side is some typical definitions of what people call office. They are not most exciting descriptions: a room or part of a building where people work, sitting at desks. Place of business where professionals or clerical duties are conducted. Very functional descriptions of office space.
It really doesn't do justice to what our customers make of the space that we provide. We much more prefer the actual description on the right-hand side. It's where people come together to create businesses and nurture them and grow them. It's really a much more aspirational description rather than a very functional description on the left-hand side. Bear in mind also that a lot of our customers, around half of them, actually use their space in very different ways to more traditional office use. Whether it's a lab space, whether it's a video production business, a podcaster, a fashion design business, that whole different range of uses of space which our customers engage with us on.
Equally, actually, with people that actually have traditional, more traditional offices, so desks and computers, you'll see then that the fit-out is very much more creative than you might find in a larger central London corporate. It then reflects their brand, their culture of the businesses that they have. So it's very important, I think, sometimes when people describe us as an office business, to think actually much more broadly about what does that really represent. There's a similar confusion, I'd say, around the use of the word flex and flex models across the sector. I mean, it's great that we've seen this explosion of flex over the recent years, but not all flex is the same.
We've highlighted this before, the flex models that the likes of IWG and previously WeWork, the serviced office model, that's very different to ours. Likewise, the flex models that some of our peers, such as GPE, providing flex space, again, a very different model. Ours is a flex model very much specifically focused around the needs of SMEs. It's something that's evolved as we've worked with those SMEs over the last 35 years. It's that flexible operating model, combined with our extensive property portfolio and our scalable operating platform, that really differentiates us in the market that we operate in, and I'll come back to that later in the presentation. Moving on to the results for the first half of the year. I'm pleased to say we've continued to see good income growth.
Rental income up 9% in the first half of the year, with trading profits up 7%, and on the back of that, we've increased our interim dividend by a further 7% to 9p in the first half of the year. On the flip side, we have seen a reduction in valuations in the first half of the year. This is largely due to the outward movement on yields, very much like the rest of the office sector. Our yields on our like-for-like portfolio are out 45 bps in the first half of the year. Going back to that trading performance, a core focus for our business, we've seen consistently good levels of customer demand. And the top two charts here, inquiries converting to monthly lettings, showed a good, healthy consistency of performance.
Just to remind you, in terms of intensity, that's 180 inquiries every single week. That's 23 lettings every single week during the first half of this year. That level of intensity is hugely important to us because it means that we can actually monitor demand and pricing across the whole of our portfolio and really then adjust it, our pricing and work out where we're seeing stronger demand, and so we can take advantage of opportunities, equally deal with challenges as they arise. Given the strength of demand, you'll see on the bottom left there, that like-for-like occupancy has been stable. Actually, that's important again, because that means that we can then drive pricing and capture reversion across our portfolio.
And as a result of that, you'll see in the bottom right that actually we were able to uplift like-for-like rent per sq ft by 6.6% in the first half of the year. That's a tremendous achievement. And on the back of that, our like-for-like rent roll is also up by a similar amount, 6.3%. Just want to talk about lettings in a little bit more detail. And on the left-hand side, I always like to bring something, different to the presentation. This time I've just broken out our lettings by size on the left-hand side of this chart. And the reason I've done that is just to highlight actually that what we do see at the moment is actually a much stronger demand for smaller space.
So you'll see that just under 90% of our lettings are under 1,000 sq ft. There's always been a bias towards the lower end, but actually at this time in the economic cycle, we always see stronger demand for smaller space. And as a result of that, what we do try and look at is to try and subdivide space to cater for that demand at the lower, lower end in terms of size. And I'll come back to that a little bit later. On the right-hand side, a breakdown of the demand by sector. And there, there's no new news here, really. It just highlights the diversity of our sort of demand by sector. It's very consistent with what we've seen in previous years and indeed in the breakout, if you look at our overall portfolio.
It just reflects that really the diverse demand from creatives across London, that London is a real global hub for a whole range of industries. I'll just give you a little bit more feel of the sort of customers we're talking about when we talk about these industry sectors. So just giving you here four examples of customers that have taken new space with us in the first half of the year. On the left there is the first one, Muddy Machines. They're a service-based business based around robotics for the agriculture industry. It's a good example of a technology business, not one you'd necessarily think of straight away. They're based at our, our site, Light Box, out by the Chiswick Roundabout. Then we've got TALA. TALA are a, a company that's been with us for a while. They've just moved into China Works in Vauxhall.
They're a sustainable, affordable activewear provider, so very much in the fashion design business sector, which again, we've seen a lot of demand from over recent years. The third one there, Goalhanger , a well-known podcaster. They've moved into space at our Kennington Park Business Centre . And lastly, in the professional services sector, a recruitment company, Instant Impact, who are focusing on talent sort of recruitment for SMEs. So just four good examples of companies that take space with us. And the great thing here is, where else would they go? We're the ideal fit for them in terms of their demand for the sort of space they want. And these are the sorts of companies that actually sometimes people forget about. These are the driving force of the SME vibrancy in London, the real driver of the London economy.
The unsung heroes, I'd say, of the London economy. And in terms of asset management as well, it's been a busy first half of us. We're still progressing well with a number of larger projects. Leroy House in particular, it's a scheme in Islington. It's a refurbishment and an upgrade and extension of our existing building that we had there. That should be reopening in the early, early part of next year, the first half of next year. But we also spent a lot of money on actually what I would call more minor projects, but actually very attractive to us, and we've highlighted this in the last presentation. These typically last three to six months, but actually give us very strong returns relatively quickly as well, which I like.
I've just given you some 6, 6 examples there of what we're doing. Again, you'll notice a lot of that is around what I mentioned earlier, is about subdivision of space, taking back larger space, subdividing it for the sort of demand that we're seeing at the moment at attractive pricing, at smaller units that we can provide. Again, it just highlights also something about our portfolio. We've got buildings, it's very easy to actually change their, their configuration, so very adaptable to changes in demand. So as I say, at the moment, we're taking a lot of the space back and subdividing it because that's where the strength of demand is. Then lastly, just on the right-hand side there, we are progressing with our disposal of non-core assets.
93 million disposed of in the first half of the year, and we already sold another GBP 13 million of the non-core assets in the second half of the year, with more to come. Okay, just like to hand over to Dave now to take you through the finances in a little bit more detail.
Thanks, Graham. Morning, everybody. So as Graham says, it's been a good first half. Net rental income was up 9% to GBP 61 million, reflecting the strong, stable occupancy we've had and strong increases in pricing over the first half of the year. Admin expenses were up just 2% to GBP 11.6 million, with synergy savings following the McKay acquisition, offsetting inflationary increases. Net finance costs increased to GBP 18.3 million, reflecting the rise in interest rates over the past year and the higher average net debt following the acquisition of McKay. So overall, good growth in trading profit after interest, up 7% to GBP 31.1 million.
There was a decrease of GBP 177.4 million in the property valuation, resulting in a loss before tax of GBP 147.9 million. Adjusted earnings per share was up 5% to 16.1p, and in view of the growth in trading profit, we'll be paying a fully covered interim dividend of 9p, up 7% on the prior year. Slide 13 looks at the movement in net rental income in a bit more detail. On an underlying basis, adjusting for acquisitions and disposals, rental income was up 8% to GBP 59.3 million. With occupancy broadly stable, this is fundamentally driven by the increase in average rents, with like-for-like average rent per sq ft up around 10% over the last year. Although the majority of service charge costs are recovered from our customers-...
The high levels of inflation that we've seen in the UK over the last year resulted in a small increase in unrecovered service charge costs and other non-recoverable costs. These were offset by higher sundry income, with underlying net rental income also up by 8%. Total rental income benefited from the progress on recent acquisitions, which contributed GBP 7.3 million in the first half, more than offsetting the impact of disposals, with total net rent clean income up by 9%. Turning to the balance sheet, investment property decreased by GBP 236 million to GBP 2.5 billion. This was partly offset by lower net debt, with total net assets reducing to GBP 1.6 billion. Overall, EPRA NTA was down 10% to GBP 8.32.
Slide fifteen shows the change in the value of investment property over the last six months, with an increase from CapEx of GBP 34 million, outweighed by disposals of GBP 92 million, and an underlying revaluation decrease of GBP 178 million. This next slide sets out the key drivers of the revaluation movement. There's lots of detail here, but on the left-hand side, you can see the valuation at thirtieth September by property category, and on the right-hand side, you can see the valuation movements since March. In the first row is the like-for-like portfolio, which accounts for around three quarters of the overall value. There was a 5.6% decrease in the like-for-like valuation, driven by a 45 basis point outward yield movement, with equivalent yield now at 6.7%.
That's now 100 basis points yield movement over the last 18 months, and at 6.7% in absolute terms, our equivalent yield remains not only higher than much of the market, but also around 250 basis points higher than five-year swap rates and our average cost of debt. Despite the strong increase we've seen in rents over the last 6 months, equivalent yield is still around 150 basis points higher than initial yield, with significant opportunity for further reversion. Following the strong post-COVID recovery in pricing we saw last year, ERV growth has returned to more historically normal levels. On average, ERVs were up around 1% in the first half.
However, we saw stronger growth in ERVs for smaller spaces, which account for the majority of our lettings, with an increase of around 2% in the six months for units under 1,000 sq ft, and pricing broadly flat for larger spaces. Valuation movements for non-like-for-like categories were also largely driven by market yields, albeit with more pronounced yield movement in the Southeast offices, reflecting the broader market outside London, and with redevelopments also impacted by lower residential values and higher expected build costs. The significant yield expansion we've seen over the last 18 months has been driven by macroeconomic events, and while the potential for volatility remains, inflation is coming down, and there appears to be increasing confidence that interest rates have peaked, with markets now pricing in rate cuts next year.
Much of the impact of yield movements on our valuation over that time has been offset by ERV growth. Whilst, as I say, this has now returned to more historic levels, the opportunity to mitigate further yield movements remains, and as yields stabilize, the opportunity to drive valuation growth. On this slide, we show how NTA per share might change for a range of movements in both yield and ERV on the like-for-like portfolio. With equivalent yield already relatively high at 6.7%, further yield movements have relatively less impact. As an example, a further 25 basis point yield movement would be largely offset by 2.5% increase in ERV, with NTA in that case falling by around 1% to GBP 8.21. Moving on to cash flow and net debt.
Overall net debt decreased to GBP 867 million at the end of September, with cash from operations largely funding dividend payments of GBP 32 million, and the GBP 92 million of proceeds from disposals more than offsetting capital expenditure of GBP 36 million. When considering capital allocation, we remain focused on a strong balance sheet and a disciplined approach to gearing. We continue to recycle capital from selective disposals into our rolling pipeline of refurbishments and redevelopment projects. With CapEx weighted towards smaller, quicker, high-returning asset management projects, such as unit subdivisions. In the medium term, we also expect to see increasingly attractive opportunities to recycle capital into property acquisitions. The majority of the group's net debt comprises long-term fixed rate facilities totaling GBP 665 million, with shorter term liquidity provided by committed bank facilities.
Together with GBP 4 million of cash, this gave us a total of GBP 133 million of cash and available facilities at the end of September. Disposals made in the period meant that despite a fall in property valuation, LTV remains comfortable, increasing marginally to 34%. Average interest cost was also broadly stable at 4.1%, with interest cover well ahead of our 2x covenant at 3.5x. Net debt to EBITDA continued to improve towards our 7.5x target, reducing from 9.3 to 8.5x. Following the recent extension of the maturity of our bank facilities to 2026, on a pro forma basis, we have an average drawn debt maturity of 4.1 years, with no maturities until August 2025.
Looking forward, we have good earnings momentum and expect further progress in the second half of the year. Rental income will be underpinned by the 6.3% growth in like-for-like rent roll that we saw during the first six months, as well as further uplift from reversionary pricing on new deals. The recent high levels of inflation appear to be moderating, which will reduce pressure on costs, the majority of which are recovered from our customers. The disposals we've completed in the first half of the year have reduced our debt, which, combined with stabilization of interest rates, should result in lower interest costs in the second half. Capital expenditure in the second half will be around GBP 30 million, which we expect to be more than offset by second half disposals.
So in summary, we have a robust balance sheet, good momentum, and we're well set for a full year good full year performance. And I'll now hand back to Graham to talk through the longer term opportunity.
Okay, well, thanks, Dave. And as I said, I would like to just run through now what I see as the growth opportunity for Workspace in the coming years in a little bit more detail. So firstly, in terms of the market, based on the left-hand side is sort of latest estimates of the size of the London market in terms of the number of businesses, just over 1 million in total. Within that, though, our target market is a smaller, more focused element, which is SMEs, largely in the service and creative sectors, that employ people. And latest estimates suggest that market is around 134,000 businesses across London. We've got 4,000 customers, so we've got around a 3% market share of this addressable market in London. So there's still plenty to go for, for us.
In terms of the spread of those target SMEs across London, and you'll have seen this chart before, it's a very broad spread in terms of locations across London. Only a quarter of the SMEs, in terms of our target population, are in those more central areas of London. And that's really one of the questions that people have raised with us sometimes is, you know, "Why is the competitor market for you so fragmented?" Well, if you want to be a large player in this market, you need to have a wide spread of properties across London, and that's a challenge for a lot of competitors. So when we look at the challenges and opportunities, we are very excited. We do think we have a really significant competitive advantage. And if I just ran through the reasons why we believe that to be the case.
First of all, we do have a broad spread of properties across London, which we own. 5 million sq ft of space across 76 locations across London. Crucially as well, we've got the buildings that we own work very well for a multi-let configuration. Not all buildings work well for our model. We also have a high level of brand recognition. Alongside that, are seen as a trusted landlord, particularly relevant when we talk about the challenges that some other competitors, like WeWork, have had. We've also got a flexible offer, as I've highlighted previously, that very much aligns with the needs of our SME population. And I guess another crucial point is we've got a scalable operating platform that delivers us efficiencies that you can't achieve when you only own one or two buildings in competing against us.
And lastly, we've got teams, both in our centers and both in our center operations, that have got years of experience and knowledge and expertise around managing the needs of our SME population. So really, for us, what we see is a significant competitive advantage to take advantage of what we see as a very large, fragmented market opportunity. So what would that look like in terms of future income growth? Well, first of all, and Dave mentioned earlier, the rent reversion. We have a significant level of rent reversion across our portfolio, around GBP 32 million of potential upside to rents. And if I just run through these in turn, the first on the left-hand side, within our core like-for-like portfolio and our southeast offices, we've got around GBP 80 million of rent reversion.
Rent reversion is, for us, bringing all of our occupancies and our business centers and buildings up to 90% occupancy and bringing everyone up to current pricing levels. And if we can achieve that in our core like-for-like and southeast offices portfolio, and most of it is actually within the like-for-like portfolio, we can, as I say, garner around GBP 80 million of upside on rental income. And given that actually most of our leases are relatively short term, typically a two year lease, we can capture that rent reversion, moving people up to current pricing relatively quickly, either on renewal or actually when they change their space requirements. Equally, of course, we can capture that when new customers come into our portfolio. So potentially, we can capture that reversion within the next two to three years.
On the right-hand side, in terms of project activity, firstly, in terms of projects completed, there are 8 projects that we've now completed, we're now letting them out. Target being to move them all up to 90% occupancy. We're well on the way there. We're at 75% occupancy overall at the moment. If we can move those all up to 90% occupancy, there's GBP 3 million of additional rent to become from actually that, achieving that 90% occupancy level at current ERVs. And then lastly, in terms of projects underway, these are projects currently underway, a range of projects, all finishing in the next one to two years. Once they're completed, we then, of course, have got the task of letting them out.
But if we can achieve what we've done with really pretty much all of our other refurbished and redevelopment projects, if we get them back to 90% occupancy, there's a further GBP 11 million of rent, rental income to come from those as well. So in total, from those three categories, there's GBP 32 million of uplift in rental income to come, a lot of it over the next one to two years, and obviously spreading out to two to three years on some of the projects underway. Alongside that, we can also drive income from actually increasing on pricing, as measured by ERVs. What I'm showing on this chart here is actually the ERVs, the average ERVs across our like-for-like portfolio. There's 42 properties in our like-for-like portfolio, and I've shown here the range of average ERVs across those buildings.
You'll see there's no surprise, there's quite a large variation depending on location. So at one end, you've got, for example, Fuel Tank at Deptford. Average ERV there, GBP 22 a sq ft. No surprise to see at the other end, some of the more centrally located buildings. So The Frames at Shoreditch, the average rent there, average ERV is GBP 77 a sq ft. So we've got this very broad range of price points across London. Equally, within any one building, we've got a variation in pricing as well. So Leathermarket, London Bridge, average rent around GBP 48 a sq ft. Some units in that building are priced at as low as GBP 15 a sq ft. Other units are GBP 80 a sq ft. We've got a broad variation, because bear in mind, every unit has different characteristics with the building.
So whether you're in the basement or the top floor, a very different price point. And it is this diversity in pricing, both across the portfolio and also within each of our buildings, that gives us a really fantastic opportunity to tap in to different demand at different pricing levels for different types of customer. Equally, for existing customers, they can move up or down in terms of pricing as their circumstances change. In addition, overall rents over the last 18 months have grown significantly. ERVs have grown by 15% over the last 18 months across this portfolio. And we're indeed, we're back at most of our centers now, across this like-for-like portfolio, at or slightly ahead of pre-COVID levels.
A lot of that growth over the last 15 months, 18 months, has been really recapturing again, the pre-COVID pricing levels, the lower pricing levels that we actually had to price at during COVID. So having now reached back to pre-COVID levels of pricing, I would expect a much more normalized rate of growth in ERVs as we go forward. And typically, if you go back over time, the pricing growth per annum in ERVs will be up to around 5% per annum. So the other element of, of growth for us, and been very successful in terms of delivering very good returns over, over a long period now, is our project pipeline. And this is really just to highlight here, the forward-looking projects that we've still got in the pipeline.
They stretch out much further timeline to some of the other near-term opportunities we've got, but a really exciting opportunity for us to actually garner good returns from the repositioning of around 1 million sq ft of new and upgraded space across our portfolio. Now, the timelines in terms of delivery of these projects will depend upon getting planning for some of them, getting vacant possession, as well as intentionally phasing our projects to make sure that we can overall maintain a strong level of income growth across the portfolio. Indeed, actually, this is not a land bank. These are actually good income-earning assets they stand today. In fact, across this portfolio of pipeline, it's around GBP 21 million of existing rent roll. So we've got a real opportunity to grow it, but equally, it's a good income-earning set of assets already.
So when you put that all together, then you'll have seen this waterfall chart before. We've got a very significant opportunity to grow income strongly over the coming years. Initially, on the left-hand side, highlighting the rent reversion, GBP 32 million of upside from driving the rent reversion across our portfolio. That's a like-for-like portfolio, that's the completed projects and the projects underway. That's around 23% uplift on the rent we've got today of GBP 142 million. So a significant opportunity to grow income over the coming years. Let's say, most of this should be delivered over the next two to three years. So you can see a very strong underpinning of income growth in the coming two to three years. On top of that, of course, we also got pricing, opportunity to push pricing forward.
We've got the delivery from our project pipeline over time, and of course, then also the opportunity to actually garner returns from future acquisitions. So overall, I think we've got a very good story around being able to drive strong income growth, profit growth, and of course, on the back of that, dividend growth, and the majority of that is under our own control. So in summary, we're a highly operational business with a distinctive offer focused around the SME community in a fragmented market where we think we've got really exciting opportunity... Our success, just to highlight again, remind you, is really much down to the skills and expertise of the team that we have across Workspace. And I'd just like to say, thanks to our team for all their efforts in the first half of this year. It's been a fantastic effort.
As David has highlighted, we've had a good first half of the year, and we're well set to deliver strong trading performance for the full year. Now, in terms of valuations, we are, you know, we have seen a reduction in valuations. We may see further yield movement, but I would like to think that some of it, if not all, can be offset by our active asset management and any further growth in ERVs. Then looking beyond the current year, I do think we've really got a very exciting opportunity to continue to grow income, drive it, dividend growth, equally, in time, also take opportunity in this fragmented market with our significant competitive advantage, take advantage of acquisition opportunities as well. I think we're well set, both near term and longer term, for significant growth in this business.
On that note, I'd like to thank you all for your time this morning, and now open up for any questions you may have. Just to say, can we first of all take questions from the floor here, before we then open up the calls to the conference call and webcast? Please state your name and company you represent when you ask a question.
Hi, Bjorn Zietsman , Liberum Capital. Just a quick question: You mentioned that you may be willing to take advantage of acquisition opportunities. Just looking at your LTV levels, would you be considering reducing those LTV levels or increasing them, and are you comfortable with the current, current leverage? Thank you.
Yeah, I mean, I think, as Dave mentioned, you know, we are very conscious of maintaining tight discipline over sort of, if you like, gearing. I think, obviously, we've got further disposals we're planning for the second half of this year, and which should help actually hold the gearing constant. Equally, I think, you're right. I mean, we are conscious of maintaining a sensible LTV, so we certainly wouldn't want to overstress the balance sheet. But equally, if there are good opportunities out there, good income-earning asset opportunities, we will look at those. But I think you're right. We would want to maintain a sensible level of LTV.
Hi, Max Shearwood at Numis. Maybe just a quick one to follow that.
Yep.
Is sensible level, is that 35-ish below? Is that where we're kind of roughly-
I think where we are today and ideally getting down to around 30% through the cycle, yes.
Okay, great. The other question I had was just on... You talked about ERV growth getting back-
Yeah
... to kind of more historic, normalized levels. I do know that, you know, that's 1% in the first half. It's quite a long way behind that sort of 5%-
Yeah
... level. I appreciate, you know, in the last year, there was quite a bit of a catch-up effect. You were up sort of 13% on that front.
That's right.
But it just, you know, it stands out in a time when many of your, quote-unquote, "peers," I don't want to use that word, but are accelerating on the rental growth front, and, you know, you're obviously quite a bit lower at 1% there. So how should we think of that? Is that just a one-off effect because of, you know, what we've had before and the catch-up we've had, or is there something else there?
No, I mean, I think, you know, you've got to be conscious of the price rises that our customers have seen over the last two years. I mean, we highlighted, you know, on renewals in the first half of the year, typically, on average, our customers seen a 20% increase in their rents. So, you know, we are aiming to try and maintain the retain our customers alongside actually push pricing forward. I think we've seen, as you say, a very strong growth over the last 18 months. We've seen a slower rate of growth in the first half of the year. I think we'll be cautiously pushing forward pricing in the second half of the year where we see opportunity. But I think this year, we will be probably a slower rate of ERV growth than historically we've seen.
But equally, I think, you know, long term, I still see opportunity to continue to push pricing forward. Alongside that, of course, though, we've got significant amount of reversion to bring actually customers up to current pricing levels. And a lot of those obviously have signed deals over the last two years, and there is gonna be quite a significant jump in pricing for a number of them. So I think we are conscious in this more challenging economic environment not to push pricing too fast. If I was critical of sometimes in the past, we've actually just kept pushing pricing and actually at the expense of occupancy. You know, our core focus will be to make sure we can keep those in check so that we can maintain good occupancy levels, push pricing forward where it makes sense.
Actually, at the moment, I think the biggest opportunity for us is to continue to capture the reversion across our portfolio.
Great. Thank you.
Callum, Callum Marley from Colliers. Congratulations on another six months. Just looking at the recent economic data that has come out over the past month or so, it appears from a surface level that the U.K. economy is beginning to slow. Could you just comment on the health of the different small, medium businesses in London and any specific challenges they might be facing? And then, as a follow-up, what is your outlook for these businesses going into 2024? Are they still looking at upsizing, or are you looking at downsizing, maybe some occupiers to keep them in the portfolio?
Yeah, I mean, it's hard to generalize 'cause as we've highlighted, we've got such a broad spread of business across different sectors. But I think, you know, what we're still seeing is on average, there's far more companies in our portfolio expanding than contracting, which is always a good sign for us. I mean, I think in more challenging times, we've seen it reverse, and then you go back over the GFC and certainly through COVID. So we're not seeing any dramatic signs of a downturn in the vibrancy of that customer base. Equally, there will be challenge, some sectors more challenged than others in this current economic environment. So my outlook for next year would be, at the moment, is, given what we're seeing on the ground, is, you know, a steady performance, not stellar.
I think, you know, there are lots of challenges for any company in any sector at the moment. But certainly nothing that would suggest a significant downward trajectory from where we are today.
... Hi, Adam Shapton from Green Street. Not to sort of flog the ERV topic too much, but just maybe digging into what you've disclosed. So zero ERV growth in larger units-
Yep.
-2% of smaller units. So this is a two-part question. First is, can you split that smaller unit ERV growth into genuine organic growth and units where you, for example, installed air conditioning or done other kind of light refurb? So is there— If you hadn't done any of that CapEx-
Yeah
Would there have been ERV growth there? And then more broadly, on this large versus small-
Mm.
Unit point, you know, to be on slide 10, all of your projects include unit subdivision. Is this, is this a sort of structural point about your customer base needs less space per business than it used to, but is willing to pay higher rents? Or is it that your portfolio just wasn't quite the right shape for what the industry required?
No, I-
What's the story there?
I think, on the first point, without disappointing you, I don't think I can give you the answer of the split between those that... In existing space. I mean, we generally upgrade space as we get it back before actually a new customer comes in. That's part of our new normal unit prep. But I would say, you know, as much of that demand is from internal customers renewing or taking new space within the portfolio. And the attraction for us of smaller spaces, generally, it gets a higher premium. So it'll be typically about GBP 5 higher average ERV for smaller space than larger space. So actually, the move towards smaller units is something we like, because actually we can get a higher price point, albeit the gross to net is slightly adverse.
In terms of the demand characteristics, we've always see this. In this state of the cycle, it's not so much about customers downsizing, because as I said, actually more customers at the moment expanding than contracting. It's just that demand generally is there's lots more business creation at the smaller end of the market in this current environment. Larger customers tend not to be the ones that were growing, taking more space at this stage in the cycle. So we do always see, and if I go back over the last two cycles that I've seen, you know, we always see stronger demand at this stage in the economy for smaller space, from much smaller businesses growing and coming into our space.
I can guarantee you that as the economy recovers, we'll be actually then removing those subdivisions and creating larger space, which is again, what we saw in 2013, 2014. So it's very much a sort of reflection of the where we are in the economic cycle.
Thank you.
Any more questions?
Morning, it's James Carswell from Peel Hunt. The statement talks a little bit about some of the service charges rising given inflation, and I appreciate you pass that, most of that on to your, your customers. But I'm just saying, does that slightly inhibit the rental growth you can achieve in the short term? Because obviously, the all-in cost is already-
Absolutely right
-rising.
Dave?
Yeah, I mean, obviously, we do pass it on, so there is an impact on net rent. But, you know, what we've seen over the first half and building on what we've seen previously, the growth we can achieve generally outweighs that. So yes, there is some small impact. And I think it's, you know, obviously, it's helpful that inflation is now coming down, and certainly the pressure that we've seen, you know, over the previous twelve months is, you know, going to be hopefully much less over the next twelve months. So I think it's a reducing issue rather than anything else.
Mm. Thanks.
Obviously, we benefit by virtue of that, we did hedge our energy costs, so that helped mitigate some of the impact on our customers. But you're right. I mean, I think sometimes people forget, you know, it's an all-in cost that people see. So it's both the service charge cost and, of course, for those that do pay rates, although about 50% of our customers don't, the rateable costs as well are all part of what our customers see as a total cost of occupation. Okay.
Hello, Denise Newton from Stifel. Just to follow up on those service charges. Obviously, you've done very well hedging your energy costs up front, but those hedges will roll off. What will be the impact of that?
Well, I guess since we hedged, prices have gone up very significantly, then come down again, quite significantly. So if you look at where market pricing is now, it is slightly ahead of where we've hedged. So there would be some uplift. Having said that, we are, at the moment, in the process of hedging even longer term, actually. So I would hope that we won't see a significant impact. As we said, you know, the majority of that cost is passed on to customers, but I'm hoping that we, partly because the market's moved, recovered a bit, but also because the hedging that we're putting in place, it should be modest impact going forward, I think.
I think it's worth highlighting that sometimes people forget, because we procure energy for all our, for the majority of our customers, we have much more leverage in terms of buying energy than your typical landlord. So actually, as a scale player in the market, we can actually get better deals, and certainly on the longer-term basis as well. Any other questions from the floor? Okay, any questions remotely?
The first question comes from the line of Paul May with Barclays. Please go ahead.
Hi, team. Thanks for taking my questions. Just a couple from me. On the first one, just wondered, what are the yields expected on developments, refurbishments, as in the yield on cost, and does this make sense against marginal financing costs, which I think you said was around 7%?
Mm-hmm.
The second one, more broadly on the business, what are you planning to do to address the higher cost base, cost ratio, low EBIT margin that you generate? You mentioned equivalent yields are above in-place weighted average cost of debt, but are below marginal. And when adjusted for your EBIT margin, your EBIT yield, even at ERV, is materially below marginal financing cost. So firstly, what are you going to do to address that? And then secondly, does a 30% LTV at 7% cost make sense when your EBIT margin is materially below that? EBIT yield, sorry, is materially below that. Thank you.
Okay, I'll kick off on the reversion, and then you can answer the question on-
Okay, you might have to repeat a few of them, but we'll give it a go.
Of course. I guess in terms of our refurb and redevelopment pipeline, yeah, we're pretty rigorous on looking at the returns that we want before we'll start on any project. As I said, these are not land bank opportunities, these are good income-earning assets, so there's not a burning hole in our sort of pocket by not progressing them. You know, our target typically would be at least 8% ungeared IRR over five years from any project we want to progress with. And that is gonna be the maximum as we go forward, and if we can't achieve those returns, we'll continue to run them as is until we're comfortable with both the returns and any risks around contractors, suppliers, et cetera, and timelines for delivery. And I'm very happy with the projects we've got underway.
I think they're all good, very good projects, will give us good returns. So both Leroy House and also the other two, Chocolate Factory and the Biscuit Factory in Bermondsey, all good projects that we're very excited about. Equally, I'd say, in terms of the new projects, as you say, I mean, you know, we are gonna be very challenging around the returns, and we will hold off until we think those make sense. Generally, though, I have to say, all of them are looking very attractive in terms of opportunity. But none actually are being really commenced in the next six months.
So we've still got a bit of time, given the sort of fluctuations in the sort of cost of materials, timelines for delivery of schemes, to actually take a very cautious view at the moment around starting any program until we're very confident about the returns. Which is why, in the meantime, we're still focusing on a lot of the smaller projects where we've much better control over cost, given the shorter timescales, as well as the very good returns we're getting from them. Dave, in terms of gearing and, and-
Yes, I mean-
Marginal cost
... As you say, so equivalent yield at the moment, 6.7%. Marginal cost of debt, about 7%. So, pretty similar. You know, as I said, I think the expectations now are for rents, sorry, for interest rates to stabilize, and then people are pricing because of the, you know, the five-year swap's about 4.2% versus SONIA at 5.2% at the moment. So I would expect that marginal cost of borrowing to be coming down below the equivalent yield. In terms of, you know, cost ratio and what we would expect, you know, we've obviously been growing EBITDA over the last two, three years, recovering from COVID.
As Graham has said, we've got significant opportunity for reversion, just that alone, bringing up rents by about GBP 30 million, which will obviously flow through to EBITDA margins. So I think I would expect us to be improving those EBITDA margins over the next two years, you know, quite significantly. As I said, it cost inflation coming down as well. So both those things, I guess we've been, you know, the whole sector's been in a perfect storm over the last couple of years, but I think the trajectory for that is improved moving forward.
I think obviously the marginal cost of debt. I mean, we are bringing down the drawings on our marginal facilities by virtue of the disposals that we've made and continue to make. You know, we're very focused on bringing down that marginal cost of debt.
Think so. Can I follow up on that? Can you still hear me?
We might...
The next question comes from the line of Ventsi Iliev with Kempen. Please go ahead.
Good morning, everyone. Thank you for taking my questions. So you show the slide with the distribution of like-for-like properties in terms of the ERV level. Naturally, some properties are below the average and naturally some are above, but my question is: Is there potential to bring the level for the properties below closer to the average, or is it more a function of the location of those properties?
I think the answer to that is yes. I mean, some of those are gonna be subject to the refurb and redevelopment plans we've got in place. A good example would be actually in the Chocolate Factory in Wood Green. It's an area that, you know, we do see potential for quite a significant uplift in rents over time. The challenge we've got with moving the rents up is you've got to make sure that there's a demand of the customers at the higher price point, and that's really the attractions we have across London. The gentrification of London is actually timing the uplift in the quality of the space with actually being able to actually capture the pricing at that higher level. So the answer is yes.
I mean, equally, notwithstanding the lower pricing, actually, the growth rates we can achieve at some of those centers from their current rents, without actually major refurbishment or redevelopment, actually are quite significant. So what I like is, actually, we do have demand at different pricing levels, all giving us good growth. But yes, in time, I would like to bring up some of those lower, sort of priced units to the higher level. And in fact, we've highlighted in the past. A good example would be in Hackney, in Mare Street. It was an old industrial unit, which actually we've now repositioned as a sort of high-end business center, and we've pretty much doubled, or actually more than doubled, trebled the rents there by virtue of actually repositioning that building...
It has to be done hand in hand with actually the gentrification, the change in the nature of demand from SMEs in that location.
Okay, very clear. Thank you.
Okay. We have a follow-up from Paul May with Barclays. Please go ahead.
Oh, you're back. Sorry.
Sorry about that. I didn't realize you could still hear me. Just following up on the second question around, I suppose, the EBIT yield versus the, the marginal financing cost. Because I think even with a recovery in EBITDA, up to ERVs, you still end up with a quite materially lower EBIT margin or EBIT yield, sorry, versus your financing cost. So just trying to understand why leverage is something that you think is appropriate, given it would be effectively loss-making from an income perspective.
I think, Paul, as you said, I think the focus is on driving down leverage. So, you know, we've made the GBP 92 million disposed in the first half, GBP 13 million so far in the second half. So we're continuing to make those disposals to bring down leverage. And as Graham says, as we pay off the marginal debt, so, you know, three-quarters of the debt is a longer-term fixed rate, and those are the lower rates. So the average rate on the fixed rate debt is about 2.9%. So as we make those disposals, bring down that leverage and pay off the marginal debt, it obviously brings down our overall interest cost quite significantly.
Just following up on that, that you mentioned earlier, I think, on wanting to look for opportunities, wanting to make acquisitions, looking at developments. Obviously, that would increase your financing and require a marginal financing cost to do so, I assume. So I just wonder how you, how you're sort of squaring everything and, and reconciling all the various things you're aiming to do. Does it ultimately mean that growth will be funded through equity, or do you, do you still plan to fund that through debt? Thank you.
I mean, I think over time, I don't think anything at the moment, but, you know, we look at both the debt and the equity markets to fund our growth. We think there's great opportunity there. I don't think there's any need for us to actually do anything significant in terms of being able to deliver growth over the coming years, based on what's under our control. Equally, we will look to recycle assets that we own, maybe into other opportunities over time. But, I think, you know, we're conscious as you highlight, that actually, we've got to maintain a prudent balance sheet, and it's got to make economic sense. So I think, you know, we are very measured in our approach, but equally, you know, a lot of the opportunity will be internal opportunity as well.
You know, we are investing north of GBP 60 million a year at the moment in our CapEx because we know we can get very good returns from that investment.
Thank you.
Okay.
There's one question from the web, from Allison Sun at Bank of America, about disposals. So asking what type of assets we're expecting to dispose of in the future?
Yeah. Well, I mean, I guess, initially, we've got the stub end of the non-core assets. There's around GBP 35 million of those, which hopefully will complete in the second half of the year. They're a combination of industrial estates and some residential schemes. Over and above that, we've got our normal recycling. We've always got a tail of properties within our portfolio, where, you know, we look on a rolling basis at the returns we may get from those, and actually, if we think we can recycle those funds into more attractive opportunities, we will do that. So that would be a combination of any number of the assets we've got. So it could be some of the light industrial assets we own. It could be equally some of the office assets we own.
So we will look across our portfolio, but when you've got a GBP 2.5 billion portfolio, there's always opportunity. You know, we've got a lot of properties, we've got a lot of angles around our portfolio. So I would say that, you know, we are looking at the moment, as I say, to dispose of non-core, but there'll always be other opportunities to make disposals. Any other Clare? Okay. Right. Okay, on that note, I'd like to thank you all for your time today and wish you a good day.
This presentation has now ended.