Big Yellow Group PLC
Annual Report and Accounts 2017

Risks and Uncertainties



Principal risks and uncertainties

The Directors have carried out a robust assessment of the principal risks facing the Company, including those that would threaten its business model, future performance, solvency or liquidity.

The section below details the principal risks and uncertainties that are considered to have the most material impact on the Group’s strategy and objectives. These key risks are monitored on an ongoing basis by the Executive Directors, and considered fully by the Board in its annual risk review.


Risk and impact

Self storage
market risk

There is a risk to the business that the self storage market does not grow in line with our projections, and that economic growth in the UK is below expectations, which could result in falling demand and a loss of income.

  


Mitigation

Self storage is a relatively immature market in the UK compared to other self storage markets such as the United States and Australia, and we believe has further opportunity for growth.

The sector have slowed significantly over the past few years.

Our performance during the downturn was relatively resilient, although not immune. We believe that the resilience of our performance is due to a combination of factors including:

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a prime portfolio of freehold properties;
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a focus on London and the South East and other large metropolitan cities, which have proved more resilient during the downturn and where the drivers in the self storage market are at their strongest and the barriers to competition are at their highest;
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the strength of operational and sales management;
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continuing innovation to deliver the highest levels of customer service;
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the UK’s leading self storage brand, with high public awareness and online strength; and
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strong cash flow generation and high operating margins, from a secure capital structure.

We have a large current storage customer base of approximately 52,500 spread across the portfolio of stores and many thousands more who have used Big Yellow over the years. In any month, customers move in and out at the margin resulting in changes in occupancy. This is a seasonal business and typically we see growth over the spring and the summer months, with the seasonally weaker periods being the winter months.

  

Change during
the year and outlook

The UK economy is projected to grow at approximately 1.6% in 2017, and is ahead of the level of output last achieved in 2007 before the global financial crisis. Self storage proved relatively resilient through the crisis, with our revenue and earnings increasing over the last seven years. As the economy has recovered in the past few years, the market risk has fallen in line with increasing occupancy.

There is increased macroeconomic uncertainty associated with the UK’s future exit from the EU, and this has resulted in a broad range of opinions on the UK’s future economic performance.

The Group’s like-for-like occupancy has increased by 2.8 percentage points in the year from 75.3 % to 78.1%.

Property risk

There is a risk that we will be unable to acquire new development sites which meet management’s criteria. This would impact on our ability to grow the overall store platform.

  

Our management has significant experience in the property industry generated over many years and in particular in acquiring property on main roads in high profile locations and obtaining planning consents. We do take planning risk where necessary, although the availability of land, and competition for it makes acquiring new sites challenging.

Our in-house development team and our professional advisers have significant experience in obtaining planning consents for self storage centres.

We manage the construction of our properties very tightly. The building of each site is handled through a design and build contract, with the fit out project managed in-house using an established professional team of external advisers and sub-contractors who have worked with us for many years to our Big Yellow specification. We carried out an external benchmarking of our construction costs and tendering programme in the prior year, which had satisfactory results.

  

The planning process remains difficult and to achieve a planning consent can take anything from eighteen months to three years. Local planning policy is increasingly favouring residential development over other uses, and we don’t expect this to change given the shortage of housing in the UK.

Valuation risk

The valuations of the Group’s investment properties may fall due to external pressures or the impact of performance.

Lack of transactional evidence in the self storage sector leads to more subjective valuations.

  

The valuations are carried out by independent, qualified external valuers who value a significant proportion of the UK self storage industry.

The portfolio is diverse with approximately 52,500 customers currently using our stores for a wide variety of reasons.

There is significant headroom on our loan to value banking covenants.

  

The revaluation surplus on the Group’s open stores investment properties was £44.4 million in the year (an uplift of 4%).
There has been an increase in transactional evidence in the year, with the Group’s acquisition of Lock and Leave, and the acquisition of the Big Box portfolio by Storage Mart.

Treasury risk

The Group may face increased costs from adverse interest rate movements.

  

Our financing policy is to fund our current needs through a mix of debt, equity and cash flow to allow us to selectively build out the remaining development pipeline and achieve our strategic growth objectives, which we believe improve returns for shareholders. We have made it clear that we believe optimal leverage for a business such as ours should be LTV in the range 20% to 30% and this informs our management of treasury risk.

We aim to ensure that there are sufficient medium-term facilities in place to finance our committed development programme, secured against the freehold portfolio, with debt serviced by our strong operational cash flows.

We have a fixed rate loan in place from Aviva Commercial Finance Limited, with 10 years remaining. In the prior year, the Group drew down on a seven year £70 million loan from M&G Investments, which is 50% fixed and 50% floating. For our bank debt, we borrow at floating rates of interest and use swaps to hedge our interest rate exposure. Our policy is to have at least 45% of our total borrowings fixed, with the balance floating. At 31 March 2017 51% of the Group’s total borrowings were fixed or subject to interest rate derivatives. The Group reviews its current and forecast projections of cash flow, borrowing and interest cover as part of its monthly management accounts. In addition, an analysis of the impact of significant transactions is carried out regularly, as well as a sensitivity analysis assuming movements in interest rates and store occupancy on gearing and interest cover. This sensitivity testing underpins the viability statement below.

The Group regularly monitors its counterparty risk. The Group monitors compliance with its banking covenants closely. During the year it complied with all its covenants, and is forecast to do so for the foreseeable future.

  

Interest rates are forecast to remain low for the foreseeable future, although following the reduction in the sterling exchange rates following the Brexit referendum, UK inflation is forecast to increase in 2017.

Debt providers currently remain supportive to companies with a strong capital structure. That said, a weaker macro-economic performance by the UK economy could adversely affect liquidity and pricing.

The Group’s interest cover ratio for the year to 31 March 2017 was 6.2 times, comfortably ahead of our internal target of 5 times.

Tax and
regulatory risk

The Group is exposed to changes in the tax regime affecting the cost of corporation tax, VAT and Stamp Duty Land Tax (“SDLT”), for example the imposition of VAT on self storage from 1 October 2012.

The UK’s future exit from the EU creates uncertainty over the future UK tax and regulatory environment.

The Group is exposed to potential tax penalties or loss of its REIT status by failing to comply with the REIT legislation.

  

We regularly monitor proposed and actual changes in legislation with the help of our professional advisers, through direct liaison with HMRC, and through trade bodies to understand and, if possible, mitigate or benefit from their impact.

HMRC have designated the Group as having a low-risk tax status, and we hold regular meetings with them. We carry out detailed planning ahead of any future regulatory
and tax changes using our expert advisors.

The Group has internal monitoring procedures in place to ensure that the appropriate REIT rules and legislation are complied with. To date all REIT regulations have been complied with, including projected tests.

  

In addition to the regulatory and tax uncertainty linked to the UK’s future exit from the EU, the Group has experienced an increase in cost of £0.9 million for the year ending March 2018 following the Government’s review of business rates.

Human
resources risk

Our people are key to our success and as such we are exposed to a risk of high staff turnover, and a risk of the loss of key personnel.

With unemployment falling, and a risk of higher staff turnover, difficulty in finding the right employees increases.

  

We have developed a professional, lively and enjoyable working environment and believe our success stems from attracting and retaining the right people. We encourage all our staff to build on their skills through appropriate training and regular performance reviews. We believe in an accessible and open culture and everyone at all levels is encouraged to review and challenge accepted norms, so as to contribute to the performance of the Group.

We were ranked 80th in the Sunday Times Best 100 Companies to Work For survey in February 2016.

  

During the year, an employee consultancy conducted an engagement survey of our employees. The survey results showed very high levels of employee engagement (90%), which was an increase from 86% from our previous survey in 2014.

Security risk

The Group is exposed to the risk of the damage or loss of store due to vandalism, fire, or natural incidents such as flooding. This may also cause reputational damage.

  

The safety and security of our customers, their belongings, and stores remains a key priority. To achieve this we invest in state of the art access control systems, individual room alarms, digital CCTV systems, intruder and fire alarm systems and the remote monitoring of all our stores outside of our trading hours. We are the only major operator in the UK self storage industry that has every room in every store individually alarmed.

We have implemented customer security procedures in line with advice from the Police and continue to work with the regulatory authorities on issues of security, reviewing our operational procedures regularly. The importance of security and the need for vigilance is communicated to all store staff and reinforced through training and routine operational procedures.

  

We have continued to run courses for all our staff to enhance the awareness and effectiveness of our procedures in relation to security.

We regularly review and implement improvements to our security processes and procedures.

Cyber risk

High profile cyber-attacks and data breaches are a regular staple in today’s news. The results of any breach may result in reputational damage, or customer compensation, causing a loss of market share and income.

  

The Group receives specialist advice and consultancy in respect of cyber security and we have dedicated in-house monitoring and regular review of our security systems, we also limit the retention of customer data to the minimum requirement.

Policies and procedures are under regular review and benchmarked against industry best practice by our consultants. These also include defend, detect and response policies.

We have also instigated a new working group for compliance with the new EU General Data Protection Regulation (“GDPR”) which comes into effect on 25 May 2018.

  

We don’t consider the risk to have increased any faster for the Group than anyone else; however we consider that the threats in the entire digital landscape do continue to increase.

During the year we have continued to invest in digital security. Some of the changes include more frequent penetration testing of internet facing systems, adding components such as anti-ransomware as well as the maintenance replacement of components such as firewalls to the latest technology and specification.

Internal audit

The Group does not have a formal internal audit function because the Board has concluded that the internal controls systems are sufficient for the Group at this time. However, the Group employs a Store Compliance Manager responsible for reviewing store operational and financial controls. He reports to the Chief Financial Officer, and also meets with the Audit Committee at least once a year. This role is supported by an Assistant Store Compliance Manager, enabling additional work and support to be carried out across the Group’s store portfolio. The Store Compliance team visit each operational store at least once a year to carry out a detailed store audit. These audits are unannounced and the Store Compliance team carry out detailed tests on financial management, administrative standards, and operational standards within the stores. Part of the store staff’s bonus is based on the scores they achieve in these audits. The results of each audit are reviewed by the Chief Financial Officer, the Financial Controller and the Head of Store Operations.

GOING CONCERN

A review of the Group’s business activities, together with the factors likely to affect its future development, performance and position are set out in the Strategic Report. The financial position of the Group, its cash flows, liquidity position and borrowing facilities are shown in the balance sheet, cash flow statement and accompanying notes in the financial statements. Further information concerning the Group’s objectives, policies and processes for managing its capital; its financial risk management objectives; details of its financial instruments and hedging activities; and its exposures to credit risk and liquidity risk can be found in this Report and in the notes to the financial statements.

After reviewing Group and Company cash balances, borrowing facilities, forecast valuation movements and projected cash flows, the Directors believe that the Group and Company have adequate resources to continue operations for the foreseeable future. In reaching this conclusion the Directors have had regard to the Group’s operating plan and budget for the year ending 31 March 2018 and projections contained in the longer-term business plan which covers the period to March 2021. The Directors have carefully considered the Group’s trading performance and cash flows as a result of the uncertain global economic environment and the other principal risks to the Group’s performance and are satisfied with the Group’s positioning. For this reason, they continue to adopt the going concern basis in preparing the financial statements.

VIABILITY STATEMENT

The Directors have assessed the Group’s viability over a four year period to March 2021. This period is selected based on the Group’s long term strategic plan to give greater certainty over the forecasting assumptions used.

In making their assessment, the Directors took account of the Group’s current financial position, including committed capital expenditure. The Directors also assessed the potential financial impact of the various risks and uncertainties set out in the report above on the Group’s cash flows, REIT compliance and financial covenants and the likely effectiveness of the mitigating options detailed. The Directors have assumed that funding for the business in the form of equity, bank and insurance debt will be available in all plausible market conditions.

Based on this assessment the Directors have a reasonable expectation that the Company and the Group will be able to continue operating and meeting all their liabilities as they fall due to March 2021.

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