For the second year running I am pleased to report record profits before tax of £524.0m (£508.7m in 2006). This is our fourth consecutive year of double-digit returns at 14.4% (15.5% in 2006), which compares favourably with our weighted average cost of capital of 7.7% (7.2% in 2006).
Revenue profit, our measure of underlying performance, was a record £73.4m (loss of £107.9m in 2006). Excluding provisions for Liverpool One, revenue profit increased 82.1% to £112.9m (£62.0m in 2006). The provision in respect of Liverpool One was £48.8m in total (£39.5m in the income statement and £9.3m taken through reserves), arising from valuation movements reflecting rising capitalisation rates.
Revenue profit, before performance fees, has improved in each Operating Company except for Grosvenor Australia and Grosvenor Asia Pacific, where the decrease in revenue profit has been more than countered by increased disposal profits and revaluations.
Lower rates of corporate income tax around the world have led to a £33.4m one-off reduction of our deferred tax expense, lowering our effective tax rate for the year by 7.7%, to 22.1% (34.1% in 2006).
Assets under management have increased 17% to £12.9bn due to revaluations of £0.7bn, acquisitions of £1.2bn and sales of £0.4bn, with the balance being due to additions to the development programme and currency movements. The principal property transactions of 2007 are described in the Operating Company reports which follow.
In 2007 Grosvenor’s markets performed well. In part this is due to our international diversification strategy, with recent declines in US and UK commercial property values countered by continuing appreciation in our Australian, Canadian and Asian markets and the London West End residential market.
We saw rental growth throughout the year in all of our markets. Yields continued their downward trend for the first half of the year, but following the summer credit turmoil, this trend reversed in the UK and USA, and flattened out in Canada and Continental Europe. Australia and Asia Pacific have not been affected in the same way, with yields continuing to fall through to the end of the year.
The 2007 credit crunch has affected property lending in two ways. First, the art of pricing risk, for so long undervalued, is now at the fore. This benefits us – we can now look forward to materially lower margins, compared to more highly geared competitors, on debt used to fund new projects and investments. Second, the impact of banks’ balance sheet tightening will affect even low-risk projects. Our relationship banking approach, coupled with the maintenance of significant spare financial capacity, leaves us well placed to deal with tightened lending criteria, even if the current market conditions continue for some time.
Grosvenor’s wholly owned unrestricted cash and undrawn committed facilities amounted to £606.6m at 31December 2007. Over the next 12 months, £165.2m of wholly owned facilities mature. Grosvenor Group gearing covenants are robust: the extent to which property values in general can fall before our covenant limits are breached is well in excess of our internal minimum. We are consequently well placed to take advantage of opportunities as they arise.
Property derivatives, for so long in gestation, have quickly achieved adolescence, with the expectation that, in the UK, the volume of derivative trades will soon exceed institutional volumes in the physical market. Innovative early market participants are reaping the significant rewards available in a developing new market. We are at the dawn of the separation of real estate returns between general market returns (beta) and asset specific returns above or below that provided by the market generally (alpha). This process will touch all players. Those who embrace it can expect early rewards; those who shy away from it not only miss out on the benefits of this new market, but also expose themselves to potential erosion of their competitive position in their core market.
We seek to make the highest absolute returns above our Weighted Average Cost of Capital over the long term at an acceptable level of risk. Grosvenor Fund Management, property-related services and skilled asset selection are areas where we can gain ‘alpha’. We seek ‘beta’ through being focused upon, and generally fully invested in, real estate. Our approach to portfolio allocation includes an element of riding the markets which we consider will deliver better risk adjusted returns (‘beta selection’) as well as managing the overall balance of equity invested in each region towards our long-term optimal portfolio.‘Alpha’,‘beta’ or ‘absolute’, we need to understand each component of performance. To do this we need to be at the forefront of developments in the property derivatives market, to play a part in shaping it to meet the needs of end users like ourselves.
We have continued our property derivative test trade programme. We work with a range of banks and brokers on specific deals and to develop market standards, and with academia to assist the education of property industry leaders of the future. Our trades include ‘market firsts’ in Australia, Japan and Italy, as well as deals in the UK and USA. Property derivatives are now in our toolbox and we expect to deploy them this year in support of our wider business objectives.
In 2007, we split our equity capital allocation to Australia Asia Pacific into its component parts (shown on page 69). These separate long-term ranges allow us to emphasise our desire to increase our capital in the Asia Pacific region over the long term, reflecting the importance of the region to the worldwide economy. Grosvenor’s economic interest in property in each region and country at 31 December 2007 is shown on the left.
Improving the understanding of financial risk and its management is part of a continuous process of overall business improvement. To this end, we are developing our own approach to identifying and quantifying financial risks. The approach reflects the need for decisions to be made with an understanding of the full range of potential outcomes, coupled with a positive determination of the risks we are competent and prepared to take.
Group Finance Director
13 March 2008
"This is our fourth consecutive year of double-digit returns at 14.4%"
© Grosvenor 2008