annington annual rep 2019-web - Page 10



Strategic report | The business
The business
MQE PORTFOLIO
Underleases
The MQE is the core asset of the Group.
The primary business consists of renting
Retained Units to the MoD, conducting
periodic rent reviews and, as needed,
selling or renting Units, which are
released by the MoD from the Retained
Estate. The entire MQE is located in
England and Wales. The major part of
the Retained Estate consists of Units
located in East Anglia, Greater London,
the South East and the South West on
sites that form part of, or are near to,
military bases. While the MQE includes
a broad selection of property types, the
majority are two- and three-bedroom
terraced or semi-detached properties.
Immediately following the grant of
each Headlease, APL granted back to
the MoD a corresponding underlease
(“Underlease”) for a term of 200 years
(or less in the few cases where the MoD
has a superior lease of the applicable
Site of less than 200 years). Rent is
payable by the MoD in the amount
specified in each Underlease.
As of 31 March 2019, the carrying
value of the MQE Retained Estate was
£7,216.0 million (2018: £6,761.7 million).
Following the completion of the most
recent Rent Review, annualised passing
rent in respect of the MQE was
£179.7 million (2018: £180.9 million).
As of 31 March 2019, the fair value of
the MQE Surplus Estate is £32.8 million
(2018: £8.5 million).
Headleases and Underleases
Headleases
On 5 November 1996, the MoD granted
a headlease (“Headlease”) to Annington
Property Limited (“APL”), a subsidiary
of the Group, for each of the Sites
within the Retained Estate for a term of
999 years (where the MoD owned the
freehold of the relevant Site) or, where
the MoD’s interest in the Site was itself
leasehold, for a term just shorter than
the remaining term of the MoD’s lease.
No rent is payable by APL under
the Headleases and it has an option
to purchase the MoD’s freehold (or
leasehold) reversion in the applicable
Site for a nominal sum when the
Underlease (as defined below) in respect
of that Site is terminated in whole or
in part.
Rental payments
The Retained Units are rented to the
MoD at a 58% discount to open market
rent. In 1998, when it was reviewing the
1996 Acquisition, the National Audit
Office detailed the component parts of
this 58% rent discount as follows:
APL also receives additional rent
payments from the MoD on a quarterly
basis to the extent necessary to make up
the difference between such Guaranteed
Payment and the total amount of rent
due on all properties, as calculated by
reference to the number of Units rented
by the MoD at the applicable time.
The MoD is solely responsible for paying
all rates, taxes and other outgoings and
for the condition, management and
maintenance of the Retained Units that
it leases from APL. At lease termination,
the MoD is obliged to return the
premises in good tenantable repair and
decorative order. To the extent that the
premises are not in this state of repair,
the MoD must pay damages, in lieu, for
dilapidations.
Benefit to Annington of the
Guaranteed Payments
10%
Rent reviews
Bulk nature of lettings
20%
Continuing maintenance obligations
28%
Total
58%
At the time of the 1996 Acquisition, the
original Retained Estate was split into
four broadly homogenous tranches, each
encompassing approximately 25% of
the Retained Estate, for the purposes
of rent reviews (“Rent Reviews”). Rent
Reviews are conducted on a five-year
rolling basis, with a single tranche being
reviewed over each of four of the five
years, with no review being carried out
in the fifth year. Given the impracticality
of reviewing all Retained Units within
a particular tranche, certain Units,
known as “Beacon Units”, located on
each Site have been specified in the
related underleases as being broadly
representative of all of the Units on that
particular Site. On the applicable review
date, the rent payable on the Beacon
Unit is reviewed against the open market
rent as of that date, and any resulting
percentage change to the Beacon Unit
rent is then applied to the Site as a
whole. This avoids the administrative
costs and delays in respect of the MQE,
which would otherwise arise out of
evaluating all Retained Units located
on a particular Site. Rents can increase
and decrease as a result of this review
process, subject to a floor, meaning
rents cannot fall below the initial rent
level that was set at the time of the 1996
Acquisition.
The MoD is obliged to make rental
payments to the Group on all Retained
Units, regardless of occupancy, meaning
there is no rental void risk while the
properties are leased to the MoD. Under
the terms of the 1996 Acquisition, the
MoD agreed to make certain guaranteed
payments (the “Guaranteed Payments”)
to the Group until September 2021,
which are payable on a quarterly basis
in accordance with an agreed payment
schedule that reduces over time. The
Guaranteed Payments are payable
irrespective of the number of Units
remaining within the Retained Estate.
The remaining Guaranteed Payments are
shown in the following table:
Calculation
date: 25
December
2019
Amount of Guaranteed
Payment for each quarter
in the relevant year ending
on the calculation date
£11,325,000
2020
£10,625,000
2021
£9,950,000
10 | Annington Limited Annual Report & Accounts 2019
With the 2018/19 financial year being
a fallow year in the MQE rent review
cycle, there has been no significant
change in the average rent per unit
during the financial year. Preparations
for the December 2019 rent review have
commenced and are progressing well,
although direct negotiations with the
MoD have not yet commenced. Over
the four Rent Review cycles that have
been completed, substantially all Sites
have resulted in rent increases, with only
a small minority of Sites experiencing
either no change or a decrease in rent.
significantly lower cost for both parties.
It will also give Annington and the MoD
certainty in relation to the future rents
payable for the MQE sooner.
The results of the previously completed
Rent Reviews are summarised in the
table below:
As at 25
December
Increase
Number of
Rent
in rent
Retained receivable receivable
Units
(£’000) per Unit
(%)
1996
55,054
110,985
-
2002
44,987
134,427
48.2%
2007
41,393
152,040
22.9%
2012
39,952
162,603
10.9%
2017
38,969
180,857
14.0%
Site reviews
Under the original terms of the
agreement, in addition to the Rent
Review cycle described above, each
Site would be reviewed over a five year
period commencing in December 2021
(“Site Review”). Similar to the Rent
Review process, the Site Review would
be performed in four separate tranches,
with approximately 25% of Sites being
reviewed in each of the respective
review years. The Site Review would
subsequently be repeated on the 15th
anniversary of the initial Site Review, with
the five-yearly Rent Reviews continuing
between each Site Review.
On 7 March 2019, an agreement was
reached with the MoD to carry out an
expedited process to complete the
2021-2024 Site Review rounds. This
accelerated process is designed to
produce an equivalent result to the Site
Review, but in a shorter period and at a
In terms of the new process, the 488
sites in the MQE have been divided
into 27 baskets of sites that share
similar characteristics and a new rental
adjustment, in place of the predetermined discount of 58% to full
market value rent, will be agreed for
each of the baskets. Each basket’s new
rental adjustment will apply to all of the
sites within that basket. It is envisaged
that new rental adjustments covering
the entire estate will be produced
within a 24 month process. The MoD
will continue to pay rent at the current
rate until the dates on which new rents
are payable under the terms of the
Underleases, which fall between 2021
and 2024. If there is no agreement on
the new rental adjustment for some or all
of the baskets, they will be determined
by a panel of three arbitrators with
significant experience in rent reviews.
Property releases
As the MoD’s requirements for Service
Family Accommodation change, it
may choose to give up its rights to
occupy Sites (or certain parts thereof) by
terminating the related lease, subject to
certain criteria. Upon termination of a
lease, APL receives vacant possession of
the applicable Units released from the
Retained Estate (“Released Units”) and is
free to use or dispose of them as it sees
fit. Subject to certain parameters, the
number, location and timing of property
releases are at the sole discretion of
the MoD and the Group has no control
over this process. In the 7 March 2019
agreement with the MoD (“Arbitration
Agreement”), the MoD has committed
to release 500 units per year, measured
on a two year rolling average, and this
is incentivised by a waiver on the first
£7,000 of dilapidations costs for 500
units per year.
As part of the 1996 Acquisition, the
MoD agreed to adhere to a minimum
property release schedule, whereby the
MoD guaranteed to release a cumulative
total of 13,213 properties (in addition
to the 2,374 properties in the Surplus
Estate) by the end of 2021. The MoD
has already satisfied this obligation and
is no longer subject to any contractual
requirements to release any Units from
the Retained Estate.
Pursuant to a utilities agreement
entered into between the MoD and
APL, the MoD agreed to supply certain
utilities, such as the supply of potable
water, electricity and the disposal of
domestic sewage, to Released Units
that are currently supplied with those
utilities under the MoD’s control (a
“Base Dependency”) until at least 75%
of the properties located on a given
Site have been released. After this
threshold has been reached, the MoD
could elect to continue the supply for a
term of 60 years or elect not to continue
after a three year notice period. In
the event that the MoD releases more
than 75% of the properties located on
a given Site with a Base Dependency
(“Base Dependent Site”) and elects to
terminate the supply after three years
the Group will incur costs, which could
be significant, to provide alternative
utility supply arrangements. The utilities
agreement has a term of 25 years,
expiring on 4 November 2021, after
which the MoD will not be obliged to
provide the Base Dependent service
when it releases any property on a Base
Dependent Site.
As of 31 March 2019, the MoD had
released a total of 16,334 (2018: 16,091)
Units together with an additional 181
Related Assets since November 1996.
Release levels for the last 5 years have
been:
Year ended
31 March
Number of released units
2015
171
2016
248
2017
43
2018
2
2019
243
Annington Limited Annual Report & Accounts 2019 | 11

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