UBS upgrades Segro to ’buy,’ sees 26% upside on undervalued growth

Investing.com -- UBS Global Research in a note dated Tuesday have upgraded Segro (LON:SGRO) to "buy" from "neutral,” recognizing the stock as a unique opportunity to invest in a high-quality growth name at an attractive discount. 

The reassessment comes after a challenging year for the UK logistics real estate giant, during which its stock saw a steep selloff. 

However, UBS argues that the current valuation fails to acknowledge SEGRO’s longer-term growth potential, underpinned by a series of underestimated catalysts.

UBS analysts highlight three fundamental factors that justify the shift in rating. First, while Segro’s current vacancy rates are elevated, a marked slowdown in new supply deliveries signals a turning point. 

In 2024, completions in Segro’s European markets hit their lowest level since UBS began tracking data in 2017. 

Meanwhile, construction starts in the UK fell to a decade low. This downturn in new development suggests that Segro’s vacancy rate is likely to peak between 2025 and 2026, before gradually improving from 2027 onward. At that point, expected growth in estimated rental value is set to increase from 3% to 4%.

Second, sentiment towards logistics real estate in private markets remains robust, a factor UBS believes is being overlooked by public market investors. 

Data from key industry sources indicate that forward-looking yield indicators point to compression in the majority of Segro’s markets. 

If this trend persists, it presents a potential upside risk to both UBS and consensus expectations for Segro’s Net Tangible Assets growth in 2025.

Lastly, the largely overlooked data center opportunity could prove to be a major value driver. UBS analysts believe Segro’s ability to develop fully fitted data centers, rather than sticking solely to a powered shell model, offers the potential for significant earnings accretion. 

While the base case valuation does not yet incorporate this strategy, UBS’ preliminary modeling suggests that a single fully fitted asset in a joint venture structure could deliver an Internal Rate of Return of 61%. 

If Segro scales this model effectively, it could generate an additional £841 million in development profit and increase earnings per share by 5-8% by 2031.

Segro’s sharp decline in market valuation over the past year can be traced back to its Accelerated Bookbuild in February 2024, which raised capital for development and acquisition opportunities that have yet to materialize. 

Compounding the issue, sentiment towards the logistics sector shifted abruptly amid rising gilt yields, leading to a 26% decline in Segro’s share price from its 2024 peak—outpacing the broader market decline.

UBS believes the market has priced in these short-term challenges too aggressively, overlooking the medium-term recovery potential. 

The analysts note that Segro currently trades at a 24% discount to its FY24 EPRA NTA. UBS’s valuation model suggests a t+1 discount to NTA of -10%, supporting a revised price target of 875p (previously 985p), which implies a 26% potential upside.

Segro’s fundamentals are set to strengthen in the coming years. UBS forecasts net rental income to increase from £628 million in 2024 to £906 million by 2029, with EBITDA following a similar upward trend. 

Earnings per share are projected to grow consistently, reaching 43.75p by 2029, while the company’s book value per share is expected to exceed 1,240p during the same period.

Dividend growth also remains compelling, with UBS estimating that Segro’s net dividend per share will increase from 29.25p in 2024 to 37.27p by 2029. 

With a projected dividend yield rising from 3.4% in 2024 to 5.4% in 2029, the stock presents an attractive proposition for income-focused investors.