APZ: Meeting the need for affordable housing

The political discord has echoed a constant refrain over the last few years. ‘There is a housing affordability crisis!’ The proportion of rentals with rent less than $400 per week is currently less than 6% nationally with the worst cities being Sydney and Canberra. Aspen (ASX:APZ) has latched onto this theme and is doing its best to address it whilst also generating strong profits for shareholders.

Aspen develops, owns and operates affordable housing and temporary accommodation. Its target market is the circa 40% of Australian households with annual incomes less than $90,000, providing accommodation across residential communities, retirement villages and holiday parks.

Their portfolio consists of over 5,100 approved dwellings and land sites with an overall valuation above $550 million. The portfolio is well diversified with properties spread across Australia. Western Australia is their largest market, followed by NSW. 90% of the portfolio is in the highest growth states of WA, NSW, SA and Qld. They also have a mix of metropolitan and regional areas.

Aspen derives revenue from two primary sources: rentals and development. The revenue breakdown is as follows:

• Rental Income  - 62%
• Lifestyle home and land sales  - 32%
• Food and beverage and other ancillary sales  - 6%

They derive a net operating margin of 50% on rental income. The average rent received in FY24 was $317 per week. This is estimated to rise to $390 per week in FY25, still below that $400 threshold. The rental portfolio has very high occupancy rates and very low delinquency rates with a significant portion of renters receiving government rent assistance.

The development side of the business involves selling lifestyle homes as well as residential land lots. The average price for homes in FY24 was $418,000 and for land was $200,000. This segment of the business generates operating margins of 30%. They have a strong development pipeline with ten active development projects consisting of a total of over 1,100 approved sites.

They sell properties where rental yields reach low levels, thus freeing up capital to recycle into higher yielding properties and keeping with their mission of providing affordable accommodation. For example they are currently selling $18 million of town houses on the Gold Coast at yields under 3%.

They try to maintain a split of about 80:20 between operating income and development income so as to manage their risk profile. Their inventory of development property, including spare land, represents less than 7% of their total assets.

Turning to the financials, my interest in this stock was sparked when it showed up in one of my screens called “Quality Growth - Fix the Odds Modified”. This is based on a research paper called “Fix the Odds: Beating the market with data-driven strategies” which is available in the Stockopedia Academy. The specific criteria are:

Eagle eyed readers will have noticed that the operating margin five year average of 86% is well above the margins of 50% and 30% for the rental and development segments respectively. This is because the statutory measure of operating income includes the revaluation of assets, primarily the property portfolio. In FY24 there was a net revaluation of $45.3 million which is on top of the revenue of $91.7 million.

Overall, results for FY24 were very strong. Rental revenue increased 23%, driven by 15% price increase along with volume increase. Development revenue jumped 46%. Underlying EPS grew 15%, but reported EPS declined 16%. The difference was primarily due to a higher tax expense as prior year tax losses finished being recouped in FY23.

The first quarter FY25 results saw continued strong growth with rental income increasing 10% and development income increasing 76%. Underlying EPS was up 20%, which was somewhat diluted due to the issue of equity to fund the purchase of a stake in Eureka (more on that later).

Aspen is ranked as a Super Stock with all three factor rankings quite high leading to an overall StockRank of 95.

One element detracting somewhat from the Quality score is the Bankruptcy Risk. It is in the Cautious zone due to negative working capital and retained earnings. Retained earnings have been negative for at least the last 10 years but the balance is gradually reducing.

A curious development over the last year has been the attempted takeover of Eureka group (ASX:EGH). Eureka has a similar business model to Aspen. Aspen acquired a 13.7% stake in EGH in December 2022. In January 2024 they launched a takeover offer for the whole business. The consideration for the offer was entirely APZ scrip. The offer was rejected by Eureka’s board as the initial offer was at a discount to the prevailing share price. They increased their offer twice, but it was still at a discount of 11% to the share price. The offer was deemed neither fair nor reasonable by the independent expert.

The takeover offer was not successful however they did acquire a further 22% of the business taking their stake to 36%. Their stated aim was to get representation on the board and also try to bring in a new CEO, however in late October, they announced they were selling half their stake. They realised a substantial profit on the sale demonstrating that they can seize the opportunity to utilise their capital efficiently when it arises. They now own a stake of 18.3% in Eureka worth about $45 million and it remains to be seen what their intentions are for it.

The outlook for the business is positive. At their full year results release they issued guidance for a 10% uplift in underlying EPS and an 18% increase in dividends. This was reaffirmed with the release of the first quarter results. There are three market analysts providing coverage for the shares and they rate it as a Strong Buy.

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