Crown Estate's FD, John Lelliott

I’m walking southwards on London’s Regent Street with John Lelliott, director
of finance for the street’s owner, the Crown Estate, on a cold April morning.
The roads are characteristically chaotic; bus drivers toot madly at kamikaze
white van men, who, in turn, rev ­wildly at passing ladies. The pavement is full
of tourists laden with bags of shopping, wrapped up warmly in designer puffa
jackets and ­squinting at maps.

Amid the bustle I ask John how it feels to be part of the team responsible
for this iconic piece of real estate, a stop on the Monopoly board. “Proud,” he
says, surveying the Grade I-listed surroundings. “I’m very proud to be part of
it. Look what we have achieved. I mean, it’s fantastic, isn’t it?” I’m almost
knocked sideways by a passing teenager race-walking his way to a Big Mac.

Anyone with the privilege of travelling to work through this vibrant part of
town will have noticed that Regent Street has been revitalised, making it
Crown’s commercial showpiece, a sort of classier, more confident sister to
somewhat head-banging Oxford Street adjoining it.

Shops were vacated and boarded up, scaffolding was erected and tarpaulin
draped over whole blocks.

This year, most of that has gone. Under Crown’s £500m plan to revive the
area, a throng of sexy retail names have moved in – Apple opened its flagship
store there in 2004 followed in 2007 by Banana Republic, Nokia, Armani Exchange
and H&M – while Burberry, Tommy Hilfiger and Timberland now nestle among
­various boutiques for the tax-free holiday shoppers and fashion-hungry,
twenty-somethings with cash to burn. The shake-up of this once uninspiring
street is indeed impressive, now valued at £2bn by Crown, compared with an
overall portfolio value of some £7bn. It rakes in rental income of around £60m
annually, according to Lelliott and, in 2007, represented 81% of Crown’s urban
estate value – the rest of which is contained in historic business and
residential holdings around places such as Millbank, the City, Regent’s Park and
other national locations. Half of Regent Street’s value is above eye level,
where 1.6 million square feet of office space house new tenants such as banking
outfit Kaupthing Singer & Friedlander.

Over land and sea
Crown’s holdings are wildly diverse, including the likes of Windsor Great Park
in the South and key worker housing in Central London. It owns rural piles
including Glenlivet and Fochabers in north-eastern Scotland, offshore windfarms
in the East Irish Sea and Suffolk, almost all of the seabed around the British
Isles 12 nautical miles out, including renewable energy generation rights on the
continental shelf, and 55% of the foreshore. Mineral and mining rights on that
land are Crown Estate-owned and leased to myriad energy firms piping and
exploring oil or gas on those jurisdictions. Lelliott is logically seeking to
realise the vast opportunity locked into these holdings by examining avenues
such as special purpose vehicles, while balancing those risks with its mandate.

This sea change mirrors the revolution that has happened inside the company
since Lelliott joined 23 years ago as a management account supervisor. Fresh
from a stint with the Revenue and half a decade at HM Customs & Excise, the
FCCA landed at what was then operating, ­physically and psychologically, as a
government branch required by statute to pay all ‘surplus revenues’ – net profit
– to HM Treasury, £200m in 2007. Managing property commonly dating to the Norman
Conquest and lacking commercial ­pressures or competitive ambitions, the
portfolio was valued at £1.7bn in 1975.

This changed following a 2001 company-wide programme to commercialise Crown,
led by the then-newly installed chief executive, Roger Bright. Lelliott has been
a key player in the firm’s professionalisation, graduating from rent collector
to corporate FD in spirit, leading implementation of financial management and
risk management systems and team restructures to accommodate the changes. He has
overhauled the firm’s financial planning strategy and headed up its IT
implementation to deliver the business strategy, suggesting and implementing an
in-house ‘balanced scorecard’ and interim reporting, and, latterly, introducing
the SPV ­concept to Crown.

He’s no chief beancounter and it’s clear, talking with him and reading his
jam-packed CV, that he is nothing if not a fan, and an instigator, of change.
“My vision for finance is to be strategic and to be part of the business. It’s
in my nature to see opportunities, suggest them and take them – to be a real
part of change,” he laughs.

That is just as well since change is the ­watchword this year, and there are
few chuckles to be had in the UK property market at the moment. Prime office
rents in the City, according to Property Week citing commercial property
advisory CBRE, dropped from £65/sq ft in the first quarter of 2008 to £60/sq ft,
but held firm at £120/sq ft in the West End, where Crown’s urban portfolio is
concentrated. Lelliott admits that the market adjustment will show through
Crown’s next valuation – which after a 10% jump last September fell back after
the sub-prime crisis started spreading through the financial markets – but
remains hopeful that the firm’s balance sheet will be as strong as it was
pre-crunch when it reports its 2008 annual accounts in July.

Creating growth
It certainly won’t have to worry about dodgy debts. The firm is barred by the
1956 Crown Act that created it from borrowing, or accessing the capital markets
– routes to growth capital most of its contemporaries take for granted. Lelliott
has to think creatively about how to make enough cash to meet his investor’s
requirements and the company’s commitment to grow the business.

This has led to a radical move into property fund partnerships that are able
to access debt markets and give Crown exposure to leverage options for the first
time. A feasibility study on special purpose vehicles, which would include a
real estate investment trust (REIT), due to wrap up first quarter 2009, has
excited the ­commercial property press as it ­indicates a sea change for Crown
and a potential opening up of its valuable portfolio for inward investment.

But Lelliott is circumspect about the opportunities. “We have lots of
opportunities with our portfolio to create value – our high-value residential
portfolio has been one of the best revenue generators over the past decade. The
market has moved on and so have we, and we’ve got to look at ways to access
funds that previously we couldn’t access. But we won’t be taking any decisions
when the study is delivered.” Its 50-50 joint partnership on three retail parks
outside London with British Land retail vehicle, Hercules Unit Trust, in which
Crown sank nearly £45m in cash last April, marked a watershed move for the
company into property investment country.

“In the time I have been here, we have moved from being a business with a
public sector mentality to being a business with a commercial mentality. The
change in that attitude, the way we then operate and the personnel has really
been significant,” says Lelliott. “We straddle both the public and private
sectors, so having a foot in both camps means I have to really know what is
happening on both sides, and satisfy both.”

In doing this, Lelliott and Crown’s commercial property team have led a
handful of market-engaging property swaps. This February, Crown swapped three
150-year leaseholds across ­commercial properties in the exclusive W1 ­postcode,
as well as one freehold and amended terms on seven more leaseholds, with REIT
Great Capital Partnership, a REIT, for the freehold on 21 Sackville Street at
the southern end of Regent Street and leasehold interests at 99-101 and 203
Regent Street. Cash-free, the deal consolidates Crown’s existing ­freehold on
the area and answers many commercial questions: it leverages Crown’s ­portfolio,
thereby maximising profitability, keeps business liquid and gives Crown some
sort of market play despite its debt ban by allowing it to use non-core assets
as curren cy for acquiring more desirable properties. The swap was ­valued at
£350m. The £100m ‘Pollen Swap’ last December saw Crown exchange non-core assets
on Savile Row with developers The Pollen Estate for blocks on the Burlington
Street and Burlington Mews patches of Regent Street – where Crown’s headquarters
are – for a mixed-use development that further reinforces its urban estate
plans. These deals account for about 70% of Crown’s major market transactions
and Lelliott says that, in the current climate, there could be more.

Protected status
It is hard to compare Crown to anyone in the property market. Its holdings are
smaller than most of the biggest players in the UK property world, but no one
else has the security of owning so much prestigious real estate in the most
lucrative parts of the country.

Since the introduction of REITs in the UK, many major UK property
owner-managers have converted to REIT status for tasty tax ­benefits – for
example, retail-centric Hammerson with a portfolio value in 2007 of £7.3bn and
holdings in Europe as well as the UK. Land Securities, with a portfolio value of
£14.8bn, ­converted last year. London’s Grosvenor, the £11bn property fund
controlled by descendants of the Grosvenor family and headed up by the Duke of
Westminster – and harking back, perhaps not coincidentally for Crown, to William
the Conqueror – has not converted and is “broadly comparable” in asset terms to
Crown, Lelliott says, though it operates internationally. It is unlikely that
Crown can ­follow suit and grow to rival these companies in size and revenue,
given its debt restraints. But the diversity and quality of its assets may at
least see it hold on to the value Lelliott has built in recent years through an
economic downturn, which is already impacting the commercial property market,
driving rents down and giving tenants the upper hand on terms, which Crown has
sweetened by renegotiating lease premiums in return for longer leases, in
particular for residential property in its Regent’s Park Grade II listed houses.

“Our most pressing issues now are managing our total return and increasing
revenue return to the Treasury, and at the moment even the capital increase from
our rural portfolio is very good,” Lelliott reports. “We benchmark ourselves
against those types of firms because that’s where we want to be. But we’re
really unique: I often say, you name it, we’ve got it, and that’s true of our
portfolio. We outperformed the Investment Property Databank index by some 10%
last year and our value increases in the commercial ­property business was quite
significant – Regent Street did fantastically well – but because of our
diversity we have protection.”

Borrowing barrier
Prohibitive in good times when similar firms were borrowing too quickly to
expand their portfolios and make good on the property boom, Crown’s no-borrowing
statute has emerged as a fortuitous method of protection from the toxicity of
the credit crunch and impending recession.

Being a non-debt player in a falling market looking for safety gives Crown an
effective ‘AAA’ rating no one can quibble with at present. Dealflow hasn’t been
hindered by the current economic environment: in the second week of April alone,
Crown announced the sale of a 125-year lease of its Café Royal patch at the
Piccadilly end of Regent Street to Israeli developer Alrov Group for an as-yet
undisclosed sum, which it will develop along plans put down by Crown, and the
purchase of Rhu Marina in Scotland’s Firth of Clyde in a £4m deal that will
increase lease income to the portfolio in a site earmarked for tourism
development.

“At the moment the market is good for a cash buyer,” Lelliott says. “We are
lucky that we have quality assets and quality covenants, putting us in a better
position than the rest of the market.

We’re looking to make more property disposals so we can keep acquiring
property, keep liquidity going, find new revenue streams and create capital.
Other companies can gain access capital through gearing, retained earnings,
investor vehicles. But for us, capital is capital and revenue is revenue – and
never the twain shall meet.” With your taste for change, never say never, John.

PORTFOLIO – The Crown Estate
Urban Estate London, Regent Street
Various properties (some of ancient possession) on Pall Mall, Millbank, Park
Lane, Trafalgar Square, Whitehall
Nationally Various properties on Edinburgh’s Princes and
George Streets, Palace of Richmond, Carlisle Castle
Property values 2006-07 £5.3bn
Turnover 2006-07 £195.7m (74.6% of group)

Marine Estate
55% of UK foreshore, beds of tidal rivers and estuaries; almost the entire
seabed out to the 12-nautical mile UK territorial limit. Exploration and
utilisation rights to continental shelf natural resource, excluding oil, coal
and gas
Property values 2006-07 £337m
Turnover 2006-07 £38.3m (14.6% of group)

Rural Estate
300,000 acres of land across the UK including Scotland’s Glenlivet and Fochabers
estates, mineral leases, Mines Royal, forestry, farming and residential
properties
Property values 2006-07 £714m
Turnover 2006-07 £22.3m (8.5% of group)

Windsor Estate
Windsor Great Park and Windsor Estate (15,600 acres), Ascot Racecourse,
Richmond’s Old Deer Park, residential properties in Eltham and Richmond

Property values 2006-07 £170m
Turnover 2006-07 £5.5m (2.1% of group)

source: Crown Estate, 2006 & 2007 Annual Reports