Federation strengthens its centre

Federation Centres’ Challenger deal fortifies its balance sheet and moves its strategy forward in a way that could open the door to a portfolio expansion.

The remaking of Federation Centres and its shift towards a very different business model is continuing at a frenetic pace.

Federation, the former Centro Properties group, today announced an agreement to sell 50 per cent interests in six of its assets to Challenger for $602 million, with FDC remaining manager of the centres and retaining responsibility for their redevelopment.

The Challenger deal is the latest in a strong of similar “alliances” that FDC chief executive Steven Sewell has struck since being appointed early last year after FDC emerged from the wreckage of the extraordinarily complicated Centro Group, one of the largest, most protracted and most difficult reconstructions ever undertaken in this market.

Under Sewell FDC has now raised more than $1.6 billion by selling interests in its centres to investors like the Perron family in Western Australia, industry fund property specialist ISPT and Challenger.

The strategy is driven partly by necessity but also has a strategic and financial logic of its own.

FDC needed to raise capital without tapping its investors to reduce debt but more particularly to give it the capital to reinvest in a portfolio that had been starved of capital for the five years or so that Centro was in the hands of its bankers. There is considerable redevelopment potential within the portfolio.

Sewell also wanted to further simplify his structure. FDC inherited a $2.5 billion pool of assets that had been syndicated to investors and Sewell has made it clear he wants to reduce the size of that portfolio to negligible levels by either taking them onto his balance sheet or selling them.

He’d already shrunk the syndication business by about $1 billion before today. Four of the six assets involved in the Challenger deal are partly owned by FDC-managed syndicates. The target is to reduce the syndicated asset portfolio to a couple of hundred millions dollars.

The co-ownership strategy, however, isn’t driven just by a need for cash, although it will have helped reduce FDC’s gearing from about 35 per cent 18 months ago to about 22 per cent after the latest deal is completed, allowing FDC to reduce the size of its undrawn debt facilities and protecting its investment grade credit rating.

The strategy is similar to that being pursued aggressively by the Lowy family at Westfield as a way of both reducing risk and leveraging returns on capital.

While the sell-downs do reduce FDC’s exposures to the underlying assets it retains the management rights for the properties it is joint venturing, which generates an income stream, as well as development fees as the centres are redeveloped.

That leverages the return on the reduced about of capital employed while also providing the cash to fund FDC’s share of the redevelopment costs, which in turn enhances the value of the portfolio.

It also means that FDC can offer something to two classes of property investors – the investment funds and high net worth investors who want direct interests in retail property and the retail investors and smaller institutions who traditionally have gained their exposures to the income-generating securities through listed real estate investment trusts.

For the moment FDC is very focused on what it has within its existing portfolio and the redevelopment opportunities in front of it but, as the Lowys are demonstrating, the business model FDC is pursuing could be used in future to help finance an expansion of the portfolio by continuing to recycle capital through similar alliances with direct property investors.

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