Helma Eigenheimbau — Ready to drive home value

Helma Eigenheimbau was formed in 1980 by Brigitte Hellwich and Karl-Heinz Maerzke; the combination of the first few letters of the surnames provided the name of the company. It floated on the Frankfurt Stock Exchange in September in 2006 at a price of €20.00 with the intentions of creating liquidity in the shares and raising new capital for growth. Since the flotation the number of shares in issue has increased from 2.6m to 4.0m, as new capital has been raised. The company has also used debt facilities to fund its expansion as that provides a superior return for existing shareholders than new equity. The company moved to the new Scale segment of the Frankfurt Stock Exchange on 1 March 2017.

The business operates through four divisions:

Eigenheimbau division. Helma started its operations by building houses for private end users on their sites, across the country. Its emphasis is on quality, using solid construction methods, and design, according to customers’ bespoke requirements. Over 50% of dwellings built in Germany are “self build”, meaning that the home owner builds on a plot they own, with infrastructure already provided on site (roads, utilities, drainage), usually using the services of a company such as Helma. The rate of self build varies across Europe from around 15% in the UK to 80% in Austria.

Wohnungsbau division. In 1984 Helma developed further by creating homes, houses and apartments, on land it owned, for private end-users and institutional investors with long-term time horizons. Effectively it started operating as a developer. This activity continues today with a focus on Berlin, Hamburg, Hanover, Leipzig and Munich. This is now the largest area of the company’s operation in revenue terms, accounting for 53% of the total in 2016. The division develops residential sites and properties using the company’s land, however risk is reduced by many of the dwellings being pre-sold and the working capital burden is lowered by the customer making staged payments.

Hausbau Finanz division. This division provides broking activities in finance and insurance to support the company’s mainstream operations and other customers. While this remains a small part of operation in revenue terms, it is an important element in customer service.

Ferienimmobilien division. A most recent new area of the company’s activities was created in 2011 when it started its holiday property development business. This part of the business develops, plans and sells holiday properties for private use and for institutional investors, operating at present, mainly in the Baltic sea region.

Helma provides an integrated offering for the potential home owner and for investors. The company refers to offering a “one-stop” shop for its customers. Exhibit 1 shows the breakdown of revenue by each of the main operating divisions. The Eigenheimbau operation has increased 32% since 2012 in revenue terms to €92m. However, due to faster growth in other areas it is now just 35% of total revenue. The holiday homes operation is the main success story with revenue up nearly 5x since 2012 and in the Wohnungsbau division revenue is 3.7x higher over the five-year period. Future expansion is expected to be biased towards the parts of the business that build on Helma land and the company aims to be a leader in holiday homes in Germany.

Exhibit 2 below shows the revenue and earning progression for the last five years. The compound growth rates achieved are rapid relative to the housing market. Market conditions have been good and improving in the five year period but Helma’s achievements are ahead of the market growth in terms of revenue and the margins, on average rose throughout the period. Operating margin fell to 8.4% in 2016, from 8.7% in the prior year due in part to the changed mix of work. Company guidance is that operating margins will remain in the 7-10% range in the future.

The main elements of the success of the company arise from a number of key factors:

Helma’s strategy is to continue to expand in Germany with the existing four areas of operations and to have a greater focus on the Wohnungsbau and Ferienimmobilien operations. Differentiation will be provided by the focus on design, the integrated offering including design, build, land acquisition and financing, the use of traditional construction methods and by having an integrated offering for customers that helps them create their home with the least possible hassle and effort.

In terms of its key elements the strategy comprises:

Geography: the main areas will continue to be most of the country though mainly in the key cities in middle and north Germany and around Munich.

Locations: the company focuses primarily on urban sites near transport links in its two main divisions and in the holiday homes operation on seaside locations.

Customers: the target market is people 25-45 years old in middle and upper income groups who wish to establish a family home; lower income groups can access Helma homes with state subsidies.

Materials choice: Helma’s approach is centred around customer choice. The planning regulations in most of Germany make a presumption in favour of the builder.

Build technique: the company uses solid construction methods, in which the building envelope is fabricated from block and render and/or brick and the interiors are partitioned using block and plaster. Competitors can use timber frame and offsite modular techniques that incorporate different types of materials; solid construction accounts for 83% of new residential build.

Innovation: the company is innovative in its approach to creating choices for customers, especially around energy efficiency and sustainability.

Helma employs 290 people. That number has doubled in recent years to accommodate the growth that has been achieved and allow for further expansion, enabling it to fulfil its strategy. The full time staff comprise administration, design and project management experts. The build process is carried out through a network of over 600 subcontractors, who are based locally throughout the regions in which Helma operates. Management tells us that the steady flow of work and the prompt payment it ensures are critical to maintaining loyalty and good workmanship. Many of the companies used are small and are adequate for the mainstream product but some of the larger projects are built by larger general contractors. The strategy of using subcontractors is an important feature.

In order to deliver the expansion plan Helma has steadily increased its land holdings. The company purchases land for development in the Wohnungsbau and Ferienimmobilien operations. That provides a strong asset base for the company and the platform for future growth. Land for housing is generally stable in value in Germany so there is limited risk to the company from this element. The increase in inventories from €8m in 2010 to €173m in 2016 is substantially additional land holdings the company has acquired to expand the operations, especially in the Wohnungsbau operation.

Helma operates in markets with a high number of potential competitors. It has a different set of rivals in each of the three main parts of the business.

The Eigenheimbau operation competes with three main operators that offer design and build dwellings, usually two-storey family homes, on the customer’s plot. They are Town and Country Haus, Viebrockhaus and Heinz von Heiden. The main concept for all three is the same, which is to operate in several Lander and offer a number of designs and house types from which customers choose their own package, to be site built, usually by the chosen company’s selected sub-contractors in the region. There are some slight variations in that Town and Country is purely a house design and build operator. In 2016 Town and Country sold 4,188 homes, an 8% rise on the prior year. Order intake rose 13% to 4,188 units. Viebrockhaus operates in the Netherlands as well as Germany and maintains a rental portfolio of its own properties, situated mainly in the north-west of the country. Heinz von Heiden is a subsidiary of Mensching Holdings. It sells not only design and constructs, but also builds elements of the houses (eg roofs, wiring looms) and runs materials logistics from its 80,000 square metre site in Magdeburg. Each of these companies is privately owned.

In the Wohnungsbau segment there are a number of different competitors in each area. Project Immobilien features in three of the five main urban areas in which Helma operates, and Bonava (a Swedish company, listed on the Nasdaq Stockholm stock exchange) and cds Wohnbau feature in two of them. Development of land dwellings tends to be focused around the main cities and has a bias towards apartments, in which the custom build model would not work. Competitors include:

Most of Helma’s competitors are privately owned companies that have a number of construction sector related interests ranging from holiday homes to large-scale construction work. They tend to have a strong base in their region with only a few operating nationally. The level of local knowledge is high and needed in order to access land and planning permissions on the best terms possible.

Competition between the developers is based on the location of the dwelling, but also around building design, materials used (accessories as well as construction envelope, solid versus timber or steel frame) and running/energy costs. There is a high level of choice of bespoke items available from most developers, which allows a substantial element of personalisation, a key competitive factor.

In the holiday homes operation, the Ferienimmobilien division, there is limited competition, with Planet Haus, Lindner and Bonava providing some rivalry. Planet Haus is a specialist holiday home maker that operates in the Baltic area in both Denmark and north Germany. Bonava is based in Sweden and builds a wide range of properties in Germany as well as the Nordic countries, with over 11,000 built last year.

The recent results for 2016, released on 9 March 2017, were in line with company guidance. They were preceded by indications on 23 February that planning delays, due to high levels of activity, had adversely affected guidance for 2017 and 2018. The company more recently indicated 2019 revenue and earnings growth will be similar to that of 2017 and 2018. We regard the new guidance as providing an extra layer of caution and certainly not a change in the direction of the business.

The group order intake position at the end of 2016 was strong, as shown in Exhibit 3. The slightly slower order growth reflects an unusually large order in 2015, worth €25m, that triggered a faster than average increase and a tough comparator for last year, as the company wanted to moderate growth to make sure it was handled effectively. The issue for Helma shareholders is that, after growth of 40% in 2015, 6% last year looks behind the pace. Our sense is that the 6% rise in intake (9% IFRS), along with other factors, is consistent with guidance that revenue and earnings can grow at 10% in each of the next three years and with what competitors are achieving.

The highest level of new order intake was in the holiday home segment, where it nearly doubled from €20m to €37m, and in the Wohnungsbau Division intake rose by 9% to €151m. Clearly therefore order intake reduced in the Eigenheimbau segment, down 11% to €99m. From a financial reporting perspective, as illustrated, €346m of orders have yet to be fully completed, of which €150m has been reported in the 2016 revenue under the percentage of completion method.

The market data on housing points to a strong market in recent years and the likelihood of positive trends continuing for both structural and cyclical reasons. Exhibit 4 below shows the steady rise in residential construction since the recession inspired downturn in 2006-10. This is in part a response to the population being at an all-time high of 82.8 million people living in Germany at the end of 2016, an increase of 300,000 on the prior year (Savills, March 2017) and a rise of 2.6 million on the 2011 level.

Savills believes that the house building supply side has so far been slow to respond to the population increase. While new build activity has risen recently, Savills states that there were just 250,000 completions last year. Since 2011 the number of households has risen by 1.5m, while housing completions stand at just 1.1m in the same time period. There is no sense in which there was a surplus of property in 2011, other than on a local basis in some areas, so the growth in the shortfall is real.

The trends in demand and supply in recent years have had the logical economic effect on prices. According to a report in the Financial Times (source: bulwiengesa), residential house prices are now over 60% higher than they were in 1990.

The mid- and longer-term trends remain positive and are reinforced by positive cyclical trends related to economic recovery in Europe. Savills has indicated its view that the political stability of Germany and sustained low interest rates are likely to see German residential property as a safe haven investment (Savills report on the German residential market, March 2017).

In conclusion the outlook for the next five years seems to be positive in terms of demand driven by migration, low interest rates, a desire to own a home and high employment.

The board structure is a normal one for German businesses. German corporation law, the Aktiengesetz, requires all public companies (Aktiengesellschaften) to have two boards: a management board called a Vorstand and a supervisory board called an Aufsichtsrat.

The supervisory board comprises four members and all are scheduled to retire by rotation in 2018. It is chaired by Otto Holzkamp, who is an engineer by background and has been in the role since 2004. He is supported by Sven Aßmann, a lawyer from Hamburg, who is deputy chairman and was appointed to the board in 2014. The other members are Dr Peter Plathe, a judge, appointed in 2009, and Paul Heinrich Morzynski, a tax adviser, appointed in 2016.

The management board is chaired by Karl-Heinz Maerzke, a banker, who founded the company. He is also managing director of the main subsidiaries and has the necessary authorisations to represent the companies alone. His current period of office is due to end in March 2020. He is supported by CFO Gerrit Janssen (CFA), who joined the company in 2009, having been a consultant to the business; his current period of office runs until June 2019. Gerrit acts as managing director of the key operating divisions of the business. The third member is Max Bode, who like Gerrit has an MBA; he joined the board in July 2015 and his current period in office ends in June 2020. Max is responsible for marketing, sales, service, customer management, contract management and administration.

The parent company remains the original operation, Helma Eigenheimbau AG. It has profit and loss transfer agreements with each division and as such the group operates as one fiscal unit for tax purposes. The parent company has an 89.9% stake in the Wohnungsbau operation, as shown below, with the remaining 10.1% shareholding spread between Karl-Heinz Maerzke, Harald Beinlich, the Hausbau Finanz operation and an unnamed third party. Helma Eigenheimbau AG owns 100% of the Hausbau Finanz operation, which owns 4.01% of the Wohnungsbau business. Finally the Ferienimmobilien business is 95.1% owned by the parent company, with Per Barlag Arnholm, the managing director of the business, owning the remaining 4.9%. Exhibit 5 shows the organisation structure.

Governance is provided by the supervisory board, which regularly discusses matters of control and development with the management board. The boards meet jointly on occasions, for example to plan the AGM. The supervisory board met on seven occasions in 2016 and was provided with up to date management data on finance and business affairs at each meeting. The Helma annual report contains details about what was discussed and agreed at the supervisory board meetings. There are some related party transactions including Karl-Heinz Maerzke buying properties from the company and engaging in land sales to the business. These are at a low level and always carried out at an established market rate. They are not unusual and often interpreted as a positive, indicating that the owners are willing to invest their own funds in the company’s products.

The free float at end December 2016 was 60.4% of the total 4m shares in issue. The management board retains a large holding of near 40% of which nearly all of the shares are owned by the founder, Karl-Heinz Maerzke. Of the free float shares, 11.9% are held by the top 10 holders and the shareholding is highly dispersed. The largest Institutional holders are Allianz with 3.9%, IP Concept with 2.2%, Taaleritehtaan with 1.1% and Deutsche Bank with 1.0%.

Revenue growth of around 24% in each of the last three years created a high level of expectation about the future. The company has signalled it will grow in the next three years but at a slower pace than before. In most segments of German industry, 10% pa growth would be seen as very positive. In some ways the company is a victim of its earlier success.

The amount of revenue arising from long-term contracts rose to €62.5m, from €35.4m in the prior year, 23.6% of the total in 2016 versus 16.8%. The difference was due to the changing mix of operations with fast growth in the Wohnungsbau operations. The company uses the percentage of completion (POC) method to account for sales of longer-term projects such as apartment blocks. Earnings are declared on a project by project basis in proportion to revenue, unless there are known reasons for differences. In many cases the company receives a proportion of the final agreed price on a staged basis, so the cash has been received.

Operating earnings (EBIT) rose by 21% to €22m in 2016. The slightly reduced level of operating margin (8.4% in 2016 versus 8.7% in 2015) was due to the changing mix of activity, which caused materials cost to sales to rise to 78.5% from 76.6%. Some of the increase was offset by personnel expenses, falling to 7.5% versus 8.3% (although, due to growth, they rose in absolute terms by €2.2m to €19.8m).

The main item that investors will note is that net debt increased from €11m in 2010 to €124m in 2016, which is a rise from 2.7x historical EBITDA to 5.2x. The ratio is high compared with house builders in other countries, but the land value is highly stable, which means funding growth with bank debt risk is very low. The company is operating within its covenants and has substantial headroom.

Operating cash flow, before working capital change, was €17.1m in 2016, compared with €13.7m in the prior year. However, revenue growth contributed to a substantial rise in working capital, such that net cash flow from operating activities was €-20.8m. The slowdown in the rate of growth will reduce the burden on working capital in future years.

Valuing Helma is difficult for two reasons. Firstly, there are no quoted comparators operating in Germany. UK, US and Nordic companies are the closest we might get and we discuss those below. Secondly, the value in the business is in part the earnings from operations and in part the value of the land holdings; in effect it is both an operating company and a property/land company.

Regarding the former, the lack of direct comparators in Germany pushes us towards international comparisons. These show P/E ratios of around 12x prospective earnings in the US for companies such as Toll Brothers and 10x for UK companies, a gap that is traditional in the sectors

The company has offered clear guidance of the growth it expects to achieve in revenue terms, as indicated in Exhibit 7. It has indicated that EBIT margins of 7-10% are the likely future range, with the expectation it will be nearer the top as it seeks to improve profitability.

The lack of domestic comparators to Helma has guided us towards international ones. This is not a strict comparison and should be seen a guide. The data is shown in Exhibit 8. There are differences between the companies shown below, but the essential nature of creating dwellings is similar in that land is bought, developed and then resold with a dwelling on it. National differences in market valuation ratios and acceptable debt levels vary, which needs to be taken into account. We have shown the dividend yield comparison but the average is distorted by very high rates of yield in the UK (compared with market levels) and low rates in the US.

The data suggests that Helma’s valuation is broadly in line with the international peer group in P/E terms and higher based on EV/EBITDA. Helma’s efficient use of debt provides the higher valuation. We believe the chosen comparators, while much larger than Helma, are representative of the sector. The small UK comparator in this exhibit, Inland, has a lower P/E and EV/EBITDA than Helma, but that can be ascribed to national levels of valuation and the bias of the company’s activities to London and the South East, an area currently experiencing slowing markets.

The company’s performance is dependent on a number of factors to deliver the current expectations.

We have explored already the favourable market conditions in which Helma is operating. These are expected to persist in the medium term as the population grows and the housing shortage continues. But, as in several other countries, immigrants provide a large part the rise in population and, disproportionately, the labour and skills to create buildings. The political pressure to reduce the level of immigration is rising and that may have an impact, especially in a country with an existing population that is ageing. On a five- to 10-year horizon this factor will not have a material impact, save possibly through labour shortages and perhaps wage rates.

Brexit could be a very favourable development for German housing, especially around Frankfurt and Berlin, areas that have experienced strong market conditions already in recent years.

In terms of interest rates and employment levels, we see little change ahead that might affect performance. Public statements regarding interest rates from the ECB suggest no change is likely so that the economic recovery is sustained. That also implies that the will to maintain employment levels shall continue.

The inefficiency with which planning is achieved has been referenced by the company as a factor slowing its progress. There is no current plan of which we are aware to relieve this possible bottleneck. While we expect the latest guidance is valid, further delays cannot be ruled out completely.

In terms of the shareholdings, some 40% of the shares are held by Karl-Heinz Maerzke and the trend has been for him to reduce his stake. This by no means constitutes an overhang at present but might be a consideration for some investors.

The net debt position as explained earlier does not constitute a financial risk, given the stable nature of land pricing in Germany. An equity fund-raising is possible but by no means necessary.

Finally, the regulatory picture has been focused around rent controls, especially with an election looming in autumn. There is surplus capital and a shortage of existing rental properties, which, along with fewer rent restrictions on new build, is creating a favourable climate (according to Savills, March 2017). The longer-term outcome is that the attractions of owning an investment property are reducing and there is some concern around that issue. The difficulties of raising funding to become an owner occupier have not been eased though there is political talk of measures to encourage “buy to live in it”. On balance, the regulatory climate is relatively benign and government support is increasing.