UK Mortgages Limited (UKML) has announced proposals to change its articles, investment policy and share buyback policy, with the aim of improving the returns generated by the Portfolio and the Company’s cash position, without at the same time increasing the credit risk of the underlying securitisations.
Background to the proposals
UKML says that the investment landscape has changed significantly since its launch and, despite strong credit performance from the Company’s Portfolio, asset yields have reduced as has the longer term return outlook. In addition, the margin between 5 year and 2 year rates has compressed from around 1 per cent. to approximately 25 bps. Meanwhile, AAA RMBS spreads have remained largely the same, whilst AA-BBB spreads have compressed.
The net result is a lower return horizon for the Company whilst more levered investors, many of which the Company competes with for investment opportunities, benefit from a cheaper cost of funding. These factors taken together have adversely affected the level of returns generated by the Portfolio and the ability of the Company to deploy capital. The Portfolio Manager believes that the Proposals will lead to improvements in total returns to Shareholders.
What is being proposed?
Increased leverage multiple
The chairman’s statement says that the Portfolio Manager is seeking to increase the leverage multiple on Shareholders’ funds where leverage is used to gain exposure to Mortgage Portfolios. The Manager believes that the proposed changes will increase the company’s income and reduce the funding costs in relation to capital deployed. The key stated advantage is that UKML will, as a result, have more capital available which can be invested in other (or larger) transactions.
Increased borrowing limit
The Portfolio Manager also wishes to increase the limit on borrowings that UKML may incur for short-term liquidity purposes. It says that this will enable UKML to finance the purchase of larger mortgage pools whilst funding loan originations.
Better cash management
The Portfolio Manager wishes to clarify UKML’s cash management policy to explicitly give it the ability to invest uninvested cash into AAA rated UK RMBS. The announcement says that this should allow the Manager to more effectively manage cash and improve returns as AAA rated UK RMBS ordinarily provide a real return over cash equivalent instruments, as they typically have stable pricing and deep liquidity.
Reduce the annual dividend to 4.5p to allow the Nav to rebuild
UKML has mostly been paying dividends from capital since its launch, which consequently decreases the NAV of the Company on an ongoing basis. The falling NAV and any capital raised by issuing Ordinary Shares at the current NAV, increases the yield required to be generated from each investment to enable it to meet the dividend. In order to rebuild the Company’s NAV, improve the Company’s cash flow and rebuild capital to generate returns in excess of the required dividend, the Board, in consultation with the Portfolio Manager, has decided to reduce the annual dividend to 4.5p.
Continuation vote delayed to 2024, unless the dividend falls below 4.5p
As the refinancing of the Company’s facilities are scheduled to take place over the course of the next three years (with the earliest scheduled for May 2020), UKML says that it is expected that any change to the leverage policy will have minimal effect in the near-medium term. As a consequence, the Directors have decided to put forward for Shareholder approval a proposal to change the Articles, such that Shareholders’ will have the opportunity to vote on an Ordinary Resolution on the continuation of the Company in the event that the total dividend per Ordinary Share in respect of any financial year of the Company is less than 4.5p (decreased from 6p). Because of the change to the investment policy and dividend, the Continuation Resolution due to take place at the fifth AGM is amended such that this will not be required until 2024. It is also proposed that the Articles will also be amended to reflect the proposed amendment to the borrowing powers of the Company.
Subject to available cash, Buybacks where discount is greater than 5%
Subject to the Board determining that the Company has sufficient surplus cash resources available, the Company intends to buy back Ordinary Shares whilst the Company is trading at a discount in excess of 5 per cent. to Net Asset Value per Ordinary Share.