BUY (unchanged) Target: Euro 17.50 (unchanged) 01 Oct 07 Price (Euro) 11.26 52 weeks range 13.90 / 7.90 Key Data Security ID-No. A0JDU9 Reuters IFMG.DE Bloomberg IFM GY Accounting standard IFRS Market cap (mn) 95.7 Number of shares ('000) 8,500 Free Float 80% Free Float Market Cap (mn) 76.6 3Y-estimated profit growth 259% Valuation multiples 2006 2007e 2008e 2009e Market Cap / revenues 14.3 4.4 2.2 2.1 PE-ratio 218.0 13.6 5.0 4.7 Price-EBIT-ratio 38.6 6.0 2.5 2.4 Dividend yield 0.0% 0.9% 7.1% 4.3% Price to book-ratio 1.08 1.01 0.90 0.83 Key data per share (Euro) 2006 2007e 2008e 2009e Earnings per share (EPS) 0.05 0.83 2.27 2.39 Dividend per share 0.00 0.10 0.80 0.48 Equity per share 10.38 11.11 12.58 13.59 NAV per share 10.32 13.67 16.06 18.29 Price / NAV 1.09 0.82 0.70 0.62 Financials ('000) 2006 2007e 2008e 2009e Operating Revenues 6,712 21,980 44,365 46,602 Operating profit (EBIT) 2,479 16,044 38,362 40,439 Pre-tax profit (EBT) 938 10,181 27,736 29,199 Net profit 439 7,038 19,326 20,350 RoE pre-tax (%) 1.1% 10.8% 25.9% 25.3% RoE after tax (%) 0.5% 7.5% 18.1% 17.6% Shareholders Equity 88,220 94,408 106,934 115,488 Main Shareholders Management ~ 20% (incl. Supervisory Board) Financial calendar FY 2007 figures March 2008 Analyst E-Mail Internet Office Tower, Darmstadt 6% Eschborn-South 13% Berlin-property 0% Gutenberg-Park, Mainz 8% Stefan Scharff Feedback@src-research.de www.src-research.de Regional Distribution of Portfolio Value Kureck, Wiesbaden 16% Romeo & Julia, Frankfurt 20% Carre, Heidelberg 17% Westendfirst, Frankfurt 25% Promising 1H figures and a promising new project target price is still 17.50 Mid of September German (IFM) has published its 1H 2007 report. Net profit came in at Euro 1.968m compared to Euro 0.443m at the end of 2006. Pre-tax profit was at Euro 2.943m. This corresponds to 29% of our full year projection. In 2006 IFM reached a full year pre-tax profit of Euro 0.938m. Rental revenues came in at Euro 3.767m in comparison to Euro 4.277m in the entire year 2006. We expect rental revenues of Euro 9.0m in 2007 up from our previous projection of Euro 7.8m. On the back of these results we lift our 2007 profit projection from 0.61 to 0.83 Euros per share. IFM also confirmed its guidance on NAV. The company guided a NAV of Euro 14.08 per share. Based on a 1H 2007 book value of the portfolio (balance sheet) of Euro 149m and liquid assets of Euro 37m this NAV implies hidden reserves of 23% of the portfolio. Given the fact, that IFM generates hidden reserves during the revitalization- and restructuring processes the NAV of 14 Euros per share appears to be realistic. Due to the business model of IFM, value creation in the portfolio is higher than at other Real Estate companies per definition. IFM also provided more information on the July acquired Kureck area. The property is located on a first class site in central Wiesbaden. Wiesbaden is a town close to Frankfurt, but is also the capital of the Federal state of Hesse. The office complex will continued to be tenanted by R&V-Versicherung - a major, not listed insurance company of the German cooperative banks sector. The contract ends 2010. After that, the 27,500 sqm office complex is to be expanded by 7,500 sqm, is to be renovated and revitalized to create high quality office space. We figure in a purchase price of Euro 35m and an annual rent of Euro 2.44m. This corresponds to a monthly rent of 7.4 Euros per square meter. Comparing the average market rent level of Euro 15 per square meter in Wiesbaden to this figure, future value and rent increases are to be tremendous. But until 2010 we calculate only minor value increases with Kureck, later a CAGR of 11% p.a. in terms of value increases. We valuate the company using an EVA-model for real estate companies. The model as well as NAV and PE-multiples indicate a clear undervaluation of the IFM shares. Our price target is still Euro 17.50 per share.
SWOT Analysis Strenghts Revitalising and restructuring office prop. is a niche in the German market: IFMs average project size of Euro 28m (2007e) is a niche, as this category is too small for big competitors like IVG and too big for not listed smaller players The geographical investment focus of is the Rhine- Main-Neckar area and Frankfurt. This region is economically attractive and has promising market prospects Management namely CEO, Georg Glatzel has an outstanding experience in revitalising office projects and a strong historical track record in this business The new CFO Marcus Schmitz has a strong experience in terms of capital markets demands and financial management Favourable portfolio diversification due to different status of projects: Cash Cow Projects like Carre and WestendFirst, medium stage projects like Gutenberg-park and Eschborn, early stage objects like Zimmerstrasse and Romeo & Julia, new Kureck area is promising in our view. It takes (roughly 30% to 40%) less time to renovate than to build a new office property. Thus IFM is able to adjust quicker to markets needs than competitors who new construct objects. In addition revitalisation is less costly than demolition and new construction (roughly 20% to 30%) WestendFirst is fully let. This underlines the strength in terms of marketing capacities IFM owns Equity-ratio is comfortable and enables strong expansion of the portfolio to up to Euro 500 mn, the company target for 2008 Weaknesses Highly volatile earnings components like IFRS 40 valuations of properties held as investments Large parts of the earnings stream are in the future due to the long term character of the business. Cash earnings are negative (1H 2007) The number of projects of the portfolio is still small (eight projects). Failure or schedule delays in one project could hurt earnings Dependency of the company to CEO Mr. Glatzel s experience Opportunities Office space and rents are cheap in Germany compared to international locations. More and more investors should gain awareness of that. This could increase demand in the medium run : The share price is undervalued. EVA-model as well as NAV and PE-multiples indicate a clear undervaluation 1H 2007 figures were promising, NAV guidance (14 Euro per share) favourable Risks Risen interest rate und subprime crisis in the USA disturb investors sentiment towards real estate shares globally. We would like to illustrate, that IFM has no subprime risk at all and has an only limited interest rate risk If economic cycle turned down globally and in Germany, this would hurt future earnings prospects of as vacancies of renovated buildings could occur in this szenario Ambitious expansion plans could mislead IFM to a snapshot-buy of a property 2 2 SRC Equity Research
IFM buiding up a portfolio of properties by increasing value by revitalization and purchases of additional projects Actualised Company picture IFM is an investor and project developer of German commercial real estate focusing on office and retail utilization. The business activity of IFM is to buy old, often vacant office buildings and to restructure, to redevelop and to manage the properties. This kind of revitalization generates value. IFM develops new usage concepts, renovates and modernizes the buildings to create modern office space. The company generally targets to lift the rents, to organize the marketing and to find new tenants. A property-disposal is also a possible option. IFM`s business activity is a niche in the German office real estate market. Geographically IFM focuses on the Rhine-Main-Neckar region especially on Frankfurt. This is a very simplified schematic diagram of the process, how IFM usually tends to invest. Investment Process and value chain of IFM Real Estate Identification of objects, selection Revitalisation, renovation Purchase of (old) properties Long term letting Asset disposal Source: Company data, SRC Research Strong value increases by renovation and revitalisation Growth of portfolio on track aim to built a Euro 500m portfolio IFM is not only an asset holder and asset manager but even more an active developer in the context of a revitalizer and renovator of the properties. Thus even in stagnant markets the group can create value (IFRS 40 valuation gains) by increasing property value higher than investment costs. Having finished renovations or revitalizations and having successfully let the office space, the value of the properties is highly increased (clearly above real estate market inflation). Increasing values of finished projects are accounted for valuation gains in the P&L-account according to IFRS 40. has transformed a lot: Starting as almost a cash company it has invested in a number of projects within a very short timeframe. It now owns eight promising projects (not counting in the property Feldbergstrasse, see below) and plans to further expand rapidly. Having built up a portfolio of Euro 149m (balance sheet) in 2007 the group aims to have a portfolio of Euro 500m in the year 2008. intends to archieve this portfolio by applying a three pillar strategy: 3 3 SRC Equity Research
Three pillar strategy Portfolio value of Euro 500 mn in 2008 I. Landmark standing portfolio Core investments II. Special opportunities Value-added investments III. Asset management & Joint ventures Coinvestments Source: Company data, SRC Research Enough equity to finance growth Kureck project added to our model Being aware of the ambitious growth targets of IFM and the three pillar strategy we do not fully figure in the portfolio target. We first want to gain a visibility of the projects, before calculating in the values. We plan our estimates and valuation more on the back of the existing projects. Nevertheless regarding the equity position of the group the portfolio target is within reach: With an actual (1H 2007) equity of Euro 92m the target would imply an equity ratio of 18.4% of the projects. Based on our equity estimate of Euro 107m in 2008 the group could reach an equity ratio of 21% by reducing its cash position. Thus the portfolio target of Euro 500m is reachable even without a capital increase. We assume that, banks should accept an equity ratio of around 20% approving the business model and they should continue providing financings. For each special purpose entity of the group we created an own P&L in our model. The table below describes the actual Portfolio and our property value assumption of IFM amended by the Kureck project, which we had planned as a virtual project in our last report of July. 4 4 SRC Equity Research
Project forecasts Projects of IFM (Euro mn) 2006 2007e 2008e 2009e 2010e Carre, Heidelberg 30 32 34 35 36 Westendfirst, Frankfurt 52 55 60 66 67 Romeo & Julia, Frankfurt 29 44 60 75 76 Gutenberg-Park, Mainz 15 19 23 27 30 Berlin-property 0,4 0,4 40 40 40 Eschborn-South 0 25 31 39 50 Office Tower, Darmstadt 0 14 16 17 20 Kureck, Wiesbaden 0 35 35 35 36 Project II (2007) 0 0 25 25 40 Sum 126 224 324 359 395 Source: Company data, SRC Research It just has to be noted that some of the projects above are under redevelopment like Romeo & Julia, Gutenberg-Park and Eschborn South. Thus the value increases reflect the future and present development of the properties. To note is as well, that there is another minor project in Frankfurt ( Feldbergstrasse ). We are subsuming this under the Romeo & Julia project, acknowledging that Feldbergstrasse is an own entity on a legal basis. Eight projects and one virtual forecasted We have planned the projections of the existing special purpose entities. In addition to that we have figured in one virtual projects (Project II 2007) to be filled up with real business volume within the next months. We are acknowledging the fact, that IFM s expansion plans (to possess a portfolio of 500 million Euro by 2008) are even more aggressive than our forecasts. Nevertheless we first want to gain a visibility of these future projects before calculating in the assets. Our forecast of the portfolio is outlined by the following graph: 5 5 SRC Equity Research
Portfolio projection for IFM Euro million 400 350 300 250 200 150 100 50 0 CAGR +33% + 35 14 25 40 25 36 25 35 20 35 17 16 39 50 31 40 40 40 27 30 23 19 75 76 15 60 44 29 52 55 60 66 67 30 32 34 35 36 2006 2007e 2008e 2009e 2010e Project II (2007) Kureck, Wiesbaden Office Tower, Darmstadt Eschborn-South Berlin-property Gutenberg-Park, Mainz Romeo & Julia, Frankfurt Westendfirst, Frankfurt Carre, Heidelberg Source: Company data, SRC Research Finished projects: Value increases IFRS 40 to P&L, not finished IFRS 16 Value increases by revitalizations Zinsschranke a manageable issue due to the allowance treshold of Euro 1m no change of tax estimate due to Zinsschranke As long as projects are under development they are measured using the cost model according to IFRS 16. Upon completion of their production they are reclassified as properties held for investments. In that case value increases are credited to the income statement according to IFRS 40. This will lead to some volatility in the P&L statement going forward. During the development period interest rates paid are added to the P&L position - other own work capitalized. Construction costs are to be activated. Most of the value increases of the portfolio we are calculating are due to the successful revitalization processes, we are expecting and the company targets to archieve. The long term experience and track record of CEO Glatzel and his team should support that. The actual international discussion on the German interest rate barrier as a part of the corporate tax reform (in German: Zinsschranke ) is an issue for IFM but a manageble one: The interest rate barrier makes it more difficult for corporates to deduct interest expenses from taxable net income. IFM has the advantage of its special purpose entities, where it can use the tax allowance treshold of Euro1 mn for each special purpose entity. Based on 1H 2007 figures the actual net interest expense is 27% of EBITDA. The legal treshold of deduction of net interest expenses is 30% of EBITDA. Based on our calculations IFM will stay below the treshold in 2008 and 2009 on a group basis. With regard to further expansion IFM has to manage interest expenses by opening new special purpose entities for new projects in order to use the 1 million tax allowance. We do 6 6 SRC Equity Research
not change our tax (rate) forcast on the back of the interest rate barrier issue. The discussion on the German interest rate barrier is more an issure for securizations of portfolios of banks than for the business of IFM. More visibility on market recovery in Frankfurt The overall German commercial real estate market has been suffering from stagnation and recession for the last years. Now according to various experts the market in the Frankfurt and Rhine-Main region seems to start gaining in terms of price levels again. The vacancy rates are about to recover in Frankfurt and Germany in general. In 1H 2007 vacancies were down to 14.7%. Prime rents in Frankfurt are actually at Euro 36 per square meter, up 9% against year end 2006. The Valuation and estimates Fine tuning and new project into estimates In our estimates we have slightly adjusted Office Tower-project in Darmstadt and have amended the new Kureck-project. Fine tuning of cost positions after 1H 2007 results led us to new earnings estimates. The subprime-crises did not change our positive view on IFM. Having no direct exposure the question is whether indirect effects could hurt IFM? Sub prime more a sentimental issue than a fundamental one Sentiment: All Real Estate stocks in general are under review of the portfolio managers, but it is not rational to punish those stocks not being involved into the crisis. Apart from a global recession scenario (which would hurt any kind of stocks) the impacts of sub prime to companies not being invested into US mortgage market are very limited. A sustainable liquidity crisis of banks could complicate refinancing of IFM. Yes! But is there a sustainable liquidity crisis? We suppose not. The high equity-ratio (2007e) of 40% (compared to total assets) provides IFM with a strategic advantage against smaller or more leveraged players. Rising rates: Are an issue we have highlighted in our last research report. EURIBOR being now at 4.79% after 4.18% at the beginning of July 2007 the situation has even worsened. SWAPS and fixed rate financing will ease the impact of more expensive financing. Nevertheless future projects are going to become more costly regarding refinancing. IFM is better positioned here than other competitors generating a higher margin out of the revitalizing projects than pure asset holders. 7 7 SRC Equity Research
Having more visibility after 1H 2007 results now we have increased our estimates. Our new EPS is 0.83 for 2007e up from 0.61. 1H 2007 2007e 2008e 2009e Net profit 2.407 7.038 19.326 20.350 adjusted net profit 2.407 7.038 19.326 20.350 Cash earnings -398-1.079-3.172 1.978 Cash earnings negative but not the right measurement Cash earnings are negative in 1H 2007 and even in 2008. As Cash earnings leave out IFRS 40 gains and other relevant earnings composites they are not the right figure to measure earnings strength of a revitalizing company. The (adjusted) net profit is the relevant figure. EVA-Valuation On valuation we think, that an EVA-model is the best suitable method. EVA-model for IFM Real Estate (`000 Euro) 2007e 2008e 2009e 2010e 2011e 2012e 2013e 2014e 2015e 2016e NOPAT 7,038 19,326 20,350 32,817 18,520 18,816 20,764 21,920 23,425 23,949 Equity 94,408 106,934 123,214 149,468 152,457 155,506 158,616 161,789 165,024 168,325 Hidden Values 24,684 35,640 39,490 43,450 45,188 46,996 48,875 50,830 52,864 54,978 Financial liabilities (net) 128,453 211,523 228,342 235,287 239,993 244,793 249,689 254,683 259,776 264,972 Pension sceme provisions 0 0 0 0 0 0 0 0 0 0 invested capital 247,545 354,097 391,046 428,205 437,638 447,295 457,180 467,302 477,664 488,275 Capital Charge 11,979 17,135 18,923 20,722 21,178 21,645 22,124 22,614 23,115 23,628 ROIC 2.8% 5.5% 5.2% 7.7% 4.2% 4.2% 4.5% 4.7% 4.9% 4.9% WACC 4.8% 4.8% 4.8% 4.8% 4.8% 4.8% 4.8% 4.8% 4.8% 4.8% ROIC - WACC -2.0% 0.6% 0.4% 2.8% -0.6% -0.6% -0.3% -0.1% 0.1% 0.1% EVA -4,942 2,191 1,427 12,096-2,658-2,829-1,360-694 310 321 Present Value multiple 0.96 0.91 0.87 0.83 0.79 0.75 0.72 0.69 0.66 0.62 EVA (present value) -4,724 1,998 1,241 10,035-2,104-2,136-979 -476 203 201 Present value of EVAs 3,259 Terminal Value 8,572 Market Value Added 11,830 Net Asset Value 2008e 136,474 Fair Value IFM 148,304 Aktual Market Cap 95,710 Fair value per share 17.45 Share price potential 55% Source: Company data, SRC Research 8 8 SRC Equity Research
EVA-model most suitable, 17.45 Euro fair value In our EVA-model we are calculating a fair value of 17.45 per share. Our model has been modified to meet the specific business specifics of real estate companies. EVAs of the different years are fluctuating because of the IFRS 40 investment gains of different projects. In this context 2008 benefits considerably from investment gains of Romeo & Julia and Eschborn. In our model we are characterizing investment gains as recurrent operating items, as it is the main object of IFM to generate investment gains. We apply the fiction of a disposal to the valuation gains. What about extrinsic valuation? IVG, Alstria and Polis are the closest comparables to. The other companies below are useful to validate the peer group: Peer group and IFM: PE-Multiple and Price to NAV Price to Peer Group Price P/E 2007e P/E 2008e NAV (2008e) IVG 26.1 18.7 17.0 1.0 Alstria Office 12.7 16.3 15.0 0.8 Polis Immobilien 11.0 14.1 12.9 0.8 Deutsche Euroshop 25.9 7.5 7.5 0.5 Patrizia Immobilien 10.7 9.0 9.0 2.3 DIC Asset AG 24.9 19.1 13.8 0.8 GAGFAH 13.8 15.6 11.1 1.0 Average 14.3 12.3 1.0 11.26 13.6 5.0 0.7 Fair price based on fair NAV-multiple of: 1.0 15.58 Fair price based on fair PE-multiple of: 12.3 16.18 Source: Company data, SRC Research, Reuters, Share prices based on closing of Sept. 28, 2007 PE of IFM still cheaper than Peer Group As share prices of the peer group have definitely come down, the relative valuation has worsened a little bit, but is still very attractive. Fair prices derived from the multiples could sort of validate our EVA-model above. Both in terms of the NAV-multiple and in terms of PE-Ratio IFM is undervalued in comparison to the peer group. 17.50 per share is still our fair value and our price target We view a price level of Euro 17.50 per share to be the best choice with regard to a valuation of IFM. We are confirming our price target at this level. 9 9 SRC Equity Research
IFM P&L and key data 2006 2007e 2008e 2009e IFRS 31/12 (`000 Euro) CAGR '06 - '09e Revenues (rental) 4,277 9,019 12,257 18,181 62.0% Other own work capitalized 769 1,599 1,908 221 Other operating income 45 2,400 1,200 1,200 Valuation of Prop. held as invest. 1,621 8,961 29,000 27,000 155.4% Operating revenues 6,712 21,980 44,365 46,602 90.8% Cost of materials -872-1,300-1,286-1,362 16.0% Personnel expenses -1,127-1,736-1,816-1,900 19.0% Depreciation and amortization -62-300 -300-300 Other operating expenses -2,172-2,600-2,600-2,600 Other interest and similar income 670 450 450 450 Interest expenses -2,430-7,313-11,376-11,990 70.2% Valuation of derivatives 219 1,000 300 300 Pre-tax profit (EBT) 938 10,181 27,736 29,199 214.6% Income taxes -406-3,054-8,321-8,760 Net profit 532 7,127 19,415 20,439 Minority interests -89-89 -89-89 Loss carried forward -4 0 0 0 Net profit 439 7,038 19,326 20,350 259.2% Number of shares ('000) 8,500 8,500 8,500 8,500 Earnings per share (EPS) 0.05 0.83 2.27 2.39 259.2% Dividends per share 0.00 0.10 0.80 0.48 Book value per share 10.4 11.1 12.6 13.6 Shareholders Equity 88,220 94,408 106,934 115,488 9.4% Net Asset Value 87,699 116,190 136,474 155,457 RoE pretax 1% 11% 26% 25% RoE after tax 0% 7% 18% 18% Value of portfolio 126,018 246,843 356,400 394,900 46.3% 10 10 SRC Equity Research
SRC Research - The Specialist for Financial and Real Estate Stocks - Scharff Research und Consulting GmbH Rheinstrasse 25 D-64283 Darmstadt Germany Fon: +49 (0)6151 / 35 33 612 Mail: Feedback@src-research.de Internet: www.src-research.de former former Rating chronicle Date Rating share price target 13 July 2007 Buy 13.00 17.50 23 March 2007 Buy 10.96 15.50 12 Feb. 2007 Buy 10.48 15.00 Please note: The IFM share price mentioned in this report is from closing of September 28, 2007. IFM mandated SRC Research for mentoring the IFM share. Disclaimer 2007: This equity research report is published by: SRC-Scharff Research und Consulting GmbH, Rheinstr. 25, D-64283 Darmstadt, Germany. All rights reserved. Although we feel sure that all information in this SRC report stem from carefully selected sources with a high credibility, we cannot give any guarantee for accuracy, trueness and completeness. All opinions quoted in this report give the current judgement of the author that not necessarily is the same opinion as SRC-Scharff Research und Consulting GmbH or another staff member. All in this report made opinions and judgements might be changed without a pre-announcement. Within the scope of German regulative framework author and SRC-Scharff Research und Consulting GmbH do not assume any liability for using this document or its content. This report is just for information purposes and not a request or an invitation or a recommendation to buy or sell any stock that is mentioned here. Private clients should search for personal advice at their bank or investment house and should keep in mind that prices and dividends of equities might rise and fall and that nobody can give a guarantee of the future development of equities. The author of this report and the SRC Scharff Research und Consulting GmbH commit themselfes on a unsolicited basis to have no long- or shortpositions in equities or derivatives related to equities mentioned in this report. Reproduction, distribution and publishing of this report and its content as a whole or in parts is only allowed with an approval of SRC management board in written form. With acceptance of this document you agree with all regulations mentioned here and all general terms and conditions you will find at anytime at our website www.src-research.de. 11 11 SRC Equity Research