Guiding Centro to a possible success

Before PricewaterhouseCoopers withdrew its threat of litigation last week, Centro's fate hung in the balance, and while a few uncertainties still remain, Centro Retail Australia's debut on the ASX was a significant milestone.

It couldn’t be called auspicious, but it was a debut. Given the series of near death experiences Centro Retail Australia – and its predecessor entities – has had over the past three years and the fact that its fate was still up in the air late last week, that’s actually a remarkable achievement.

Until former auditor PricewaterhouseCoopers finally withdrew its threat of litigation on Friday against the scheme of arrangement that stapled all the old Centro entities together to form the new aggregated structure, the fate of Centro Retail remained up in the air.

The probable reason PwC was prepared to risk the brand damage it would have suffered had it blown up the reconstruction of Centro – its own exposure to the class actions against the Centro entities and their auditor – would have been one of the factors weighing on the Centro Retail securities’ price when it started trading today.

At the $1.75 level at which the securities closed, they were trading well below – more than $800 million below – their net asset value of about $2.35 per security.

The uncertainty around the eventual cost and apportionment of the litigation is only one of a number of influences that will weigh on the Centro price until they are eventually dealt with.

Robert Tsenin did a remarkable job of piloting the complex group and its combustible mix of stakeholders through to the successful aggregation proposal. He has, however, made it very clear that he would prefer to step aside as chief executive sooner rather than later.

Centro is searching for a new chief executive and, indeed, looking for some new board members as well. Until its future governance arrangements and the plans and strategies of the new CEO are known and in place that will be another source of uncertainty.

Then there are the hedge funds. The Centro register is stuffed with a raft of those funds which between them own close to three quarters of its capital base. Most of them probably aren’t going to hang around for the long-term, but until they are off the register and it is ‘’normalised’’ their presence will be seen as an over-hang.

The volatile external environment also doesn’t help. While Centro’s leverage is a fraction of what it once was, at about 43 per cent it is still high by current A-REIT standards.

With a European financial crisis playing out in the background, and a lot of A-REIT refinancings in prospect next year, any substantial leverage in a property vehicle will be perceived negatively.

Perversely, Centro’s debt is high-cost and in the medium term, if it can sell some assets and improve its underlying cash flows, the ability to reduce its leverage and funding costs could be a major source of upside.

Another potential source of value lies in the fact that the Centro portfolio, while it has performed well, has been starved of capital and attention because of the group’s parlous position over the past three years.

Centro has direct property interests of about $4.5 billion, with another $2.5 billion under management. If the new board and management were able to sell some of its non-core properties – the existing management have identified several hundreds of millions of dollars of assets that could be sold – they’d have the capacity to reinvest in developing their centres. Within Centro that is seen as a source of considerable and obvious added value.

It is also possible, of course, given the presence of all the hedge funds on the register that the reconstructed Centro might attract a predator. A number of parties, including Lend Lease, tried to put together bids for Centro’s assets before Tsenin and his board opted for the aggregation concept.

Centro is a less risky and more easily attained target today than it was a week ago, when there were a number of inter-related entities and co-mingled assets and the dealings were not just with a board and management but with hedge funds and banks as well.

Until some of the remaining uncertainties and risks are, if not dispelled then reduced, Centro will probably be valued at a bigger discount to net asset value than other retail property owners. Given time and continued independence, however, the underlying resilience of its portfolio of regional shopping centres – a resilience that has been demonstrated throughout the past three years – ought to produce something more positive for the former security holders in Centro Retail Trust who have clung onto a 16 per cent or so interest in the new entity.


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