As the UK continues to grapple with high inflation and interest rates, investing in property is not for the faint-hearted. One of the strongest options, however, appears to be student accommodation.
The fundamentals supporting growth in the sector are striking. University applications continue to rise – both from domestic students and more rapidly from overseas students (outside the EU). At the same time there is a huge shortfall in accommodation to house these students, which is even more pronounced in the top university cities.
It is predicted that the UK could have a shortfall of 450,000 student beds by 2025, exacerbated by a potential contraction in the HMO (housing in multiple occupancy) market due to higher interest rates.
This could drive more students towards the purpose-built student accommodation (PBSA) sector. There are two listed property companies focused on providing student digs. The FTSE 100 constituent Unite Group, which owns a mammoth portfolio of 4,800 properties, and the smaller Empiric Student Property, which has a market cap of around £510m.
The latter’s shares are trading on a discount of 26.8% to its last reported NAV. When you look at the dynamics at play, this seems absurd.
Supply and demand
There are 2.9 million students studying in the UK. For the last academic year (2022/23), undergraduate applications from UK domestic students grew 1.3%, while applications from non-EU students grew 13.5% (mainly driven by Chinese and Indian students). UCAS predicts overall undergraduate applications will increase by nearly 30% over the next five years. The number of post-graduate students climbed to 820,000, an increase of 10.4% from 2021/22, the highest annual increase experienced in the past five years.
In 2022 there were just over 712,000 PBSA beds nationally and around 144,000 PBSA beds in the pipeline.
Revenue occupancy across Empiric’s portfolio for the upcoming academic year (2023/24) stood at 86% at the end of May, which the company says is continuing to track significantly ahead of prior year (which was itself a record year). It expects an occupancy of upwards of 97% come September.
A favourable supply-demand dynamic always results in rental growth, and that has come to pass for Empiric. Last year it recorded 5.2% rental growth, and it expects this to exceed 7% this year.
The cluster effect
Empiric’s investment strategy has evolved in recent years to be focused on owning property in clusters established university cities (such as Bath, Birmingham, Bristol, Cardiff, Edinburgh, Exeter, Glasgow, Leicester, Liverpool, Manchester and York), all located within walking distance of each other and university campuses. This allows it to drive efficiency gains.
A perfect example of its clustering strategy in action is in Bristol, where over the last year it has doubled the number of beds in the city to 404 across four sites. Operating margin has improved across the cluster to 76% from 69% and it is now targeting 80%-plus.
Clustering also gives the company opportunities to provide better amenity for students. For example, the group plans to build a large, state-of-the-art gym (something that is a huge attraction for students nowadays) in one of its Bristol sites, which can be accessed by all occupants of the company’s buildings in that city. This means that the smaller gyms at the other sites can be converted into extra rooms to rent.
Locating the core amenities on one or more sites means that it is easier for Empiric to build scale. It can look at a wider pool of potential investment acquisitions, and not be restricted to sites with ample amenity space.
The company believes that to really make the cluster strategy work, it needs between 800 and 1,000 beds in each cluster. It has some work to do to get to this level in the cities it operates. A lot of upside is still to come.
Disposal programme
As part of its clustering approach (and refurbishments across its portfolio) the company embarked on a disposal programme in 2021 after identifying assets that were not in line or could not easily or affordably be brought into line with its new strategy.
Since March 2021, the company has sold £91.9m of non-core property, including two for £18.1m (slightly above book value) which are expected to complete imminently. It also has a number of other non-core assets sales are at various stages of negotiation, including under offer.
Restoring its dividend
Empiric’s dividend was suspended during the COVID pandemic but was resumed at a reduced level the end of 2021 with a one-off payment of 2.5p per share. Last year it upped this to 2.75p (across four quarterly distributions – still around half of the pre-pandemic level) and is targeting a further increase this year to a minimum of 3.25p. This it expects to be fully covered by earnings.
Platform for growth
Empiric’s properties are managed through its Hello Student brand, which it says offers a more boutique, personalised experience focused on customer service. It is aimed at affluent students (50% of which are international).
It has recently launched a post-graduate product in Edinburgh called “Post-Grad by Hello Student”, which was designed for the specific requirements of the more mature students. This means amenity-lite accommodation with fully self-contained apartments, which are typically 20% larger on average than its undergraduate apartments.
They also command a rental premium of 20% over its undergraduate offer in the city. Post-graduates make up nearly 25% of all UK university students, providing the company with the opportunity to expand this offering across the cities in which it operates.