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Dissecting opportunity and distress in New Zealand

Senior members of Merricks Capital’s Private Credit and Investment Management teams were in Auckland this week for 35 meetings with borrowers, potential borrowers, capital allocators, real estate agents, banks and alternative capital providers. They gathered a range of insights and a positive outlook.

  • There’s a high level of optimism from borrowers and investors around the change in federal government. While a National-led coalition is the expected result, many people in the business community have commented that this outcome would be very positive for capital allocating.
  • Merricks Capital’s view is that New Zealand (NZ) should see an increase in investment confidence in 2024. The RBNZ’s proactive monetary policies (5.5% cash rate) has curtailed rising inflation (5.6% Sept 2023, down from 7.2% Dec 2022), and the general view from conversations with investors this week in NZ is there’s a potential for 1-2 more rate increases. Other lead macro drivers supporting post-pandemic growth include historic net migration (+110k rolling 12 months), unemployment at a 30-year low (3.4%) and a shortage of essential real estate assets that meet demand (Stats NZ).
  • As of 30 September 2023, our project exposure to NZ is heavily mitigated by the completion status of the assets. Two key Auckland assets (131 Queen St & 51 Albert St) are 75% and 65% complete, respectively, and we’re 99% complete on the existing works for the +$100m industrial land subdivision and town centre build in Mangawhai, north of Auckland. Conversations with borrowers this week also highlighted the challenges of obtaining new development approvals over the past 12-18 months, which should see the completed asset supply remain tight for the next 2-3 years.
  • Commercial and rural real estate prices have plateaued over the past 3 months, after 10-15% corrections over the past 18 months, with transaction volumes still anecdotally 30-50% of pre-COVID levels. This bid/ask spread indicates an opportunity for buyers if vendors are forced to sell, but many vendors are holding off transacting assets at what would be 15-25% discounts to 2021/2022 highs. Rents have been accelerating for residential again, with Auckland recording a 7.2% increase over the past year (StatsNZ). This rate of growth has only been exceeded once in the past 15 years, September 2021, when there was a spike in rents following the COVID-19 rent freeze and changes to the regulations about how often rents could be increased.
  • There’s opportunity arising to lend into farmgate dairy. During the week, the Global Dairy Trade (GDT) Price Index increased for the fourth consecutive auction (4.3% for the week ), which will flow through to NZ dairy farmers. In 2018, we saw similar dairy price cycles create the opportunity to lend against distressed bank assets financed at a 20% discount, which ultimately resulted in a 21% IRR* for investors across $150m of NZ dairy.

The Merricks Capital Partners Fund currently holds 13 out of 59 loans in NZ (36% of the NAV). Based on borrower projects coming to completion, we expect 5% of this exposure to be repaid over the next 3 months and 10% over the next six months.

With a weighted average IRR* across NZ investments of 13.0% and LVR of 61%, we estimate the premium for deploying into like-for-like senior secured loans in NZ rather than Australia is approximately 150-250bps. This highlights the attractiveness of the opportunity where downside asset price risk is mitigated by hard assets with a 35-40% equity buffer.

* The internal rate of return (IRR) is a metric used in financial analysis to estimate the profitability of potential investments