28 November 2024

AEW UK REIT PLC

Interim Report and Financial Statements

for the six months ended 30 September 2024

AEW UK REIT PLC ("AEW UK REIT" or the "Company"), which holds a diversified portfolio of 32 commercial investment properties throughout the UK, is pleased to publish its Interim Report and Financial Statements for the six months ended 30 September 2024.

Robin Archibald, Chairman of AEW UK REIT, commented: "Having joined the Board of AEW UK REIT plc in the last year, I have been impressed by the historic and current performance record of the portfolio, in terms of the sustainability of income, and capital profits generated.  This has been achieved against a difficult market background for UK commercial property since the Company's inception over nine years ago.  The last six months have been impressive, with an increase in net asset value of 6.2%, dividends covered by earnings, and the completion of numerous asset management initiatives by the AEW team.  The sustained two pence per quarter dividend (eight pence annualised) continues to be very attractive in comparison to other income products."

Financial Highlights

Property Highlights

^* See KPIs in the full Half Year Report for definition of alternative performance measures.
^** See glossary in the full Half Year Report for definition of alternative performance measures.
⁽¹⁾ The valuation figure is reconciled to the fair value under IFRS in note 11.

Chairman's Statement

Overview

I open my first Chairman's Statement by thanking the former Chairman, Mark Burton, for his effective oversight of the Company since its inception, and to thank him on behalf of all stakeholders.

With the UK and US elections behind us, and the Bank of England implementing two rate cuts, there are plenty of political and economic events to digest, some of which will have a direct, or at least indirect, impact on UK commercial property in the short to medium term. There are always events to respond to, which is why good investment management anticipates and responds to these in an effective way.

The six-month period to September 2024 saw the economic and political pressures that have constrained the UK commercial real estate market begin to subside. The period commenced with April 2024 marking the end of an 11-month run of consecutive valuation declines at the property level. The MSCI/AREF UK PFI All Balanced Open-Ended Funds Quarterly Property Index ("the Index") delivered a modest total return of 2.7% for the period, driven almost entirely by an income return of 2.4%, which has been most evident in the retail warehousing and industrial sectors. This same theme has been amplified in the Company's portfolio, which delivered a strong income return of 4.5%. Despite the relatively muted economic backdrop, the Company's portfolio has delivered good capital growth of 4.4% during the same period, well exceeding the Index's average of 0.4%. Overall, the Company has delivered a total return of 9.1% for the period, significantly outperforming the benchmark.

The Company's underlying property performance has translated into a NAV total return of 10.1% during the period, compared to the peer group average of -1.3%. The Company's relative outperformance is testament to its value-focused strategy of investing in mispriced assets where income can be grown, and value created, through active asset management. This continues to be at the centre of the Company's investment philosophy.

As a result of improved shareholder sentiment towards the UK real estate sector, there has been a positive re-rating in the Company's share price. The Company's shares produced a shareholder total return of 19.4% for the period, strengthened by consistent payment of its two pence quarterly dividend, which was fully covered by EPRA EPS for both quarters. The Company's shares traded at an average discount to NAV of 12.8% during the period, compared to the UK diversified REIT peer group average of 29.6%. We expect that the Company's long-term track record of outperformance and robust strategy should continue to assist its share price recovery, and relative discount to NAV versus its peers, as market attitude continues to improve.

This has been a quiet period of transactional activity for the Company, with no acquisitions being made, and only one disposal completing during the first half of the year, being Oak Park Industrial Estate, Droitwich. This asset was sold for £6.30 million, delivering a circa 33% premium to the 31 March 2024 valuation. The sale price achieved for Droitwich is encouraging for the Company's other industrial holdings, where the average book value of £45 per sq. ft. and an average passing rent of £3.71 per sq. ft. at 30 September 2024 are relatively low. The Company's industrial portfolio, with a reversionary yield of 8.86%, versus an initial yield of 7.56%, is also well placed to benefit from the ongoing trend of rental growth in the sector.

A distinct strength of the Company's active asset management approach is that despite subdued transactional activity, symptomatic of wider commercial property investment market conditions, the Company has been able to produce strong capital and income growth by investing in the existing portfolio, rather than relying on disposals and acquisitions to deliver this.

Investing in the existing portfolio has meant that the first half of the financial year has been characterised by a number of significant lettings, most notably at the Company's retail warehousing assets, with the sector recording quarterly valuation increases of 5.34% and 8.87% in June and September, respectively. Prominent examples include lettings to The Salvation Army at Central Six Retail Park, Coventry; Tenpin at The Railway Centre, Dewsbury; and Farmfoods at Barnstaple Retail Park. These three lettings have increased the portfolio's annual contracted rent by £643,470 per annum, while also mitigating potential void property costs. These lettings contributed to the Company's excellent earnings growth during the period (2.17 pence for the September quarter, versus 1.88 pence for the March quarter), and have also been responsible for fuelling capital growth.

In accordance with the Company's strategy of delivering total return through active asset management, capital cash reserves of circa £11.2m at period-end have largely been allocated to further near-term asset management initiatives. These are expected to drive further capital and income growth in several of the portfolio's assets. Most of the cash reserves are being held in a high-interest rate deposit account to minimise the impact of cash drag.

Financial Results

* see note 9 of the Financial Statements for the corresponding calculations. See the Investment Manager's Report for further explanation of performance in the period.

Awards

I am delighted that the Company's market leading performance and practices have been recognised in three awards received during the period. The Company has once again been awarded by EPRA, the European Public Real Estate Association, a gold medal for its high standard of financial reporting, and for the first time, a gold medal for standards of sustainability reporting, improving on the previously awarded silver medal. The Company also won the 'Listed Funds' category in the 2023 MSCI UK Property Investment Awards, an award given to the listed fund displaying the highest annualised three-year total property return for the three years to 31 December 2023.

These awards recognise the skill, hard work and dedication that is put into running the Company, particularly by the Company's Investment Manager, AEW.

Outlook

The Board and Investment Manager are confident that the Company is well positioned to benefit from the recent improvement in sentiment towards the UK real estate sector. We are pleased to have delivered two successive quarters of fully covered dividends during the period, evidencing the effectiveness of the Company's active asset management approach in delivering strong rental income growth, while also managing costs.

We expect that the portfolio will continue to be resilient, despite a prolonged period of macroeconomic uncertainty. We continue to have conviction in the Company's investment strategy, especially in its ability to identify and execute cross-sector counter-cyclical moves, and translate them into sustainable shareholder value.

Earnings performance remains a focus for the coming quarters. Ongoing asset management initiatives at Union Street, Bristol, and Sarus Court, Runcorn, are expected to provide further support to income streams in the future. Value and earnings enhancement derived from capital recycling of lower yielding asset sales, or properties where asset management initiatives have concluded, into higher yielding assets, continues to be an opportunity for the Company, and will hopefully be supported by improving market conditions.

In the near term, the Board and Investment Manager will adopt a cautious approach towards managing the Company, while markets digest the recent UK and US elections, as well as the Autumn Budget. With two interest rate cuts actioned by the Bank of England this year, the outlook for commercial property values is broadly more positive than it was a year ago, and we will ensure that the Company is optimally positioned to capitalise on this for the benefit of its shareholders.

Robin Archibald

Chairman

27 November 2024

Investment Manager's Report

Property Market Outlook

Despite uncertainty continuing in the wider economy, values in UK commercial property remained largely stable during the six months to 30 September 2024, with some yield tightening across all the retail sub-sectors, as well as industrials. There continues to be pricing discovery for offices, with most investors ruling the sector out of favour. There has been a noticeable increase in activity and improvement in investor sentiment post the general election. With the Bank of England making its first cuts to interest rates in August and November, and with the US election now behind us, investment volumes, and subsequently valuations, are expected to increase in H2 2024. There remains strong continued investor focus on rental growth and assets which satisfy ESG requirements. Positive rental growth across all market sectors should enhance UK property total returns going into 2025.

Industrial

Investor confidence is returning and there is a renewed ability to successfully target and place capital in the sector. H1 2024 investment volumes totalled £4.3 billion and although below H1 2023, this represents a 32% improvement on H2 2023 and is higher than the 10-year pre-pandemic H1 average. This momentum is expected to continue into 2025, with investors buoyed by the stability of the occupational market and the rental growth story, which despite being more moderate than that enjoyed in recent years, is still forecast to be circa 3% per annum for 2025 (IPF Consensus Retail Growth Forecast, May 2024). We believe that the Company's industrial portfolio, with a low average passing rent of £3.71 per sq. ft. and a reversionary yield of 8.86% (initial yield of 7.56%), will be well placed to benefit. The Company completed its only sale during the period from the sector, being Oak Park Industrial Estate in Droitwich, for a 33% premium to the March 2024 valuation.

Retail

Values in the retail sector, in particular out-of-town retail and food stores, fared well during the period, highlighting the continued divergence in performance between the high-street and shopping centres. The Company's retail warehousing sector recorded quarterly valuation uplifts in June and September of 5.34% and 8.87% respectively, principally driven by asset management gains. Despite the narrative suggesting an easing of consumer pressure and improving confidence, with inflation returning to more 'normalised' levels, increasing spending power did not translate into retail sales, which were disappointing. Improving occupational dynamics and growing confidence in fair and reflective pricing is driving investor sentiment, with this trend expected to continue into 2025. This bodes well for the Company, with 40% of the portfolio allocated to the retail sector. The period saw significant lettings at the Company's retail warehousing parks in Coventry, Dewsbury and Barnstaple, and high-street asset in Bristol, amounting to a combined total annual rent of £738,470. Two of these four lettings were to leisure operators (Tenpin and Roxy Lanes), illustrating the benefits of a more flexible planning system in facilitating a wider variety of uses in town and city centres.

Offices

Across the national office market, transaction volumes totalled £337 million in Q2 2024. This was 5% below volumes in Q1 2024, 53% below Q2 2023, and for the second quarter running, represents the lowest quarterly volume recorded since 2009. Some entrepreneurial buyers are calling the bottom of the market, while most of the investor market continues to rule the sector out of favour. Occupational uncertainty remains across the sector, as businesses continue to transition to new working patterns. Tenants have also become more discerning, with occupiers now wishing to benefit from strong sustainability credentials as well as surrounding amenities and top-quality space. With the focus on a relatively narrow section of the market, competition has pushed prime rental values across many regional markets. Bristol, where the Company holds one office asset in Queen's Square, has seen year-on-year rental growth of 27%. This is encouraging, with the Company due to commence a refurbishment project of the reception and part of the offices in H2. Serviced office providers have been active in H1 2024, accounting for 10% of total take-up. Greater demand for short-term serviced space is chiefly being generated by occupiers deferring decisions while considering a longer-term occupational strategy..

Alternatives

Across the alternative sectors, visibility of performance in trading updates is key to investor demand. With hospitality and leisure spend stronger than retail according to Barclaycard data, it is unsurprising that we are seeing expansion within the sector. During the period, the Company completed two new leisure lettings at Dewsbury, where Tenpin took a 25-year lease, and Union Street, Bristol, where Roxy Lanes expanded its existing space into the first floor. The billing of three years of Hollywood Bowl's turnover rent, amounting to £276,120, at London East Leisure Park, Dagenham, is also testament to the current popularity of bowling and the corresponding attractiveness of bowling operators as tenants, with bowling being a market leader for experiential leisure spend in the post-Covid era. We find the leisure sector attractive on a selective basis, particularly for assets that offer a superior income return and occupy larger land holdings, or sites in urban areas that can often be underpinned by alternative use values, most likely residential.

Financial Results

The Company's NAV as at 30 September 2024 was £172.76 million or 109.05 pps (31 March 2024: £162.75 million or 102.73 pps). This represents an increase of 6.32 pps or 6.15% over the six-month period, with the underlying movement in NAV set out in the table below:

EPRA EPS for the period was 4.43 pence, which based on dividends paid of 4.00 pps, reflects a dividend cover of 110.75%. The increase in dividend cover compared to the prior six-month period has arisen due to the recognition of indemnity income (note 3), as well as the completion of numerous earnings-accretive asset management transactions, which have resulted in income generation and void cost mitigation.

The Company's near-term focus continues to be progressing its pipeline of asset management initiatives which are expected to drive further capital and income growth in several of the portfolio's assets.

Financing

As at 30 September 2024, the Company has a £60.00 million loan facility with AgFe, in place until May 2027, the details of which are presented below:

Property Portfolio

In the year to 30 September 2024, the Company outperformed the benchmark in total return terms across all property sectors, demonstrating the benefits of an actively managed portfolio. This was driven by capital growth outperformance in all sectors and income return outperformance in all sectors aside from offices.

The following tables illustrate the composition of the portfolio in relation to its properties, tenants and income streams: