Lendlease Annual Report 2021

Portfolio Management Framework The Portfolio Management Framework is designed to maximise long term securityholder value via a diversified risk adjusted portfolio, leveraging the integrated model and the financial strength to execute the strategy, including an investment grade credit rating. The framework was revised in August 2020 as part of the Group’s strategy update. While the target EBITDA segment earnings mix was maintained, it is now based on operating profit. This implies an approximate ten percentage point higher target contribution from Investments relative to that of recent years. The target capital allocation to Investments moving to the upper end of the range over time is expected to support a larger contribution from Investments over the medium term. The target capital allocation to each of the international regions was raised by five percentage points. The revised return targets are derived from hurdle rates that have not been adjusted. The changes relate to the adoption of the operating profit metric, combined with the target reweighting to the Investments segment. This has led to a revised Investments ROIC target of 6-9 per cent and a revised Group ROE target of 8-11 per cent. The distribution payout policy is 40-60 per cent of Core Operating profit. Returns for the Core business were challenged, reflecting difficult operating conditions: Development returns were below the target range; the Construction margin was in the upper half of the target range; and Investments was below the target range. The balance sheet remains in a strong position with gearing below the target range and total liquidity of $4.9 billion. Group outlook The enforced lockdowns and isolation from the COVID pandemic have had significant ramifications for real estate markets across the gateway cities in which the Group operates. While we are confident these cities will rebound strongly over the medium term, FY22 is expected to be a challenging year, particularly for our Development segment. Core operating return targets for the Development segment and the overall Group are expected to be below target ranges for FY22. The wide ranging business review that commenced in FY20, is yet to complete, although preliminary findings have been reached. The strategy and strategic priorities have been confirmed. The Group Core Operating ROE target of 8-11 per cent is anticipated to be met by FY24. Statutory profit in H1 FY22 is expected to include a restructuring charge estimate of $130 to $170 million and an impairment of $230 to $290 million in the Development segment based on outcomes arising from the business review. The Group’s end to end capability across real estate and a proven track record is reflected in the $114 billion development pipeline, which includes a portfolio of 23 major urbanisation projects across ten gateway cities. The size and diversity of the pipeline is expected to support the acceleration of production to more than $8 billion per annum by FY24, approximately twelve months later than previous expectations due to ongoing COVID impacts. The Group expects to create more than $50 billion of investment grade product from the development pipeline. This provides a significant opportunity to more than double the current $40 billion of funds under management and expand the Group’s $29 billion of assets under management. The further strengthening of the balance sheet following recent strategic divestments provides the capacity for the Group to pursue new investment opportunities alongside investment partners. Portfolio Management Framework Target 1 FY20 FY21 Total Group Metrics Core Operating ROE 8-11% 3.1% 5.4% Distribution payout ratio 2 40-60% n/a 49% Gearing 10-20% 5.7% 5.0% Core Business EBITDA Mix Development 40-50% 45% 51% Construction 10-20% 14% 19% Investments 35-45% 41% 30% Core Business Segment Returns Development ROIC3 10-13% 4 4.7% 7.2% Construction EBITDAmargin 2-3% 1.3% 2.7% Investments ROIC3 6-9% 4 5.8% 5.9% Segment Invested Capital Mix Development 40-60% 56% 55% Investments 40-60% 44% 45% Regional Invested Capital Mix Australia 40-60% 42% 39% Asia 10-25% 17% 19% Europe 10-25% 22% 23% Americas 10-25% 19% 19% 1. Targets represent PMF refresh following strategy update in August 2020. 2. Distribution payout ratio for FY21 has been calculated on Core Operating Earnings. 3. Return on Invested Capital (ROIC) is calculated using the annual Profit after Tax divided by the arithmetic average of beginning, half and year end invested capital. 4. Through-cycle target based on rolling three to five year timeline. 5. Total estimated project revenue of all development work secured (representing 100 per cent of project value). 113.0 113.6 FY20 FY21 $114b Development Pipeline5 13.9 14.9 FY20 FY21 $15b Core Business Construction Backlog 36.0 39.6 FY20 FY21 $40b Funds Under Management 29.3 28.5 FY20 FY21 $29b Assets Under Management COVID impacts across the Group Group performance continued The Group has incorporated the impacts of the pandemic into its review process in the 30 June 2021 financial statements where applicable. This process has highlighted the below impacts: Development segment Impacts The Development segment has experienced various COVID related impacts on both historical and projected future year performance. The various impacts are expected to persist into FY22, affecting both activity and the profitability of the Development segment. • Delays in converting opportunities across the Group’s urbanisation pipeline: – Tenant demand and investment partner appetite in the office sector – Weaker demand for new apartment product, especially from the investor segment of the market, impacting new project launches • Settlement delays have occurred in the apartments for sale product that has completed, with some purchasers requiring more time to settle • Extended lockdowns across the gateway cities in which the Group operates • Identified projects that were substantially impacted, but unable to be quantified as solely related to COVID, included: – A $60 million provision recorded against the first two residential for rent buildings at Elephant Park, London where rental demand was severely impacted. The overall project remains profitable – c.$40 million in negative pricing differential between Tower One and Tower Two at One Sydney Harbour on capital solutions achieved, with Tower One pricing occurring during the height of COVID uncertainty, reflected in pricing improvement on Tower Two – An investment partner was not secured in FY21 on the next phase of International Quarter London • There were also some positive impacts for the Development segment: – Demand and pricing for luxury apartments at Barangaroo was aided by the strength of established house prices, in part a function of the significant decline in household borrowing costs – Government stimulus measures, including first home buyer schemes, have resulted in stronger activity in the new detached housing market in Australia – The Group took advantage of the weaker operating environment by securing additional urbanisation projects on attractive terms. Construction segment COVID continued to impact on delivery and revenue across the segment during the year. These factors contributed to revenue being down 16 per cent on the prior year. • Impacts included: – Social distancing protocols on productivity across our sites was reflected in a 16 per cent decline in revenue compared to a 9 per cent decline in hours worked – Projects being put on hold in some markets, with delays in the securing and commencement of new projects – Declining private sector activity, particularly in the US, impacting new work secured • Cost management measures implemented following the onset of the pandemic cushioned the impact on construction segment margins • Conversely, public sector activity has increased, with an acceleration of projects being brought to market. This supported strong new work secured outcomes in Australia and a rebound in new work conversions in Europe compared to the prior year. Investments segment Performance across asset management and investment income was impacted due to COVID, although there was some recovery from the worst of the impacts that were experienced in the second half of FY20. • The impact was pronounced in the retail sector: – Retail asset management fees were lower than in the prior year • The Group’s investment portfolio was impacted by similar factors: – Coinvestment income was impacted with activity disrupted across underlying assets – The trading performance of the Retirement Living business remained subdued, although it recovered during the year reflecting the strength of the established housing market – Extended stabilisation periods are being experienced on recently completed assets • Identified projects and assets that were substantially impacted, but unable to be quantified as solely related to COVID, included: – Coinvestment yields impacted by c.$40 million1 in rental assistance provided to tenants across the portfolio – 845 West Madison, Apartment for rent building in Chicago lower than expected occupancy • While income has been impacted, real estate valuations were resilient in the year with coinvestments appreciating overall, highlighting the ongoing demand for high quality assets by investors. Government wage programs In several countries, governments have established wage programs with the aim of keeping people in employment through the pandemic. The position of the Group in respect of these programs is: • Australia – No participation in JobKeeper in the year • UK – Coronavirus Job Retention Scheme – Employees of the Group, who were furloughed during the year, received the benefit of payments under this scheme • Singapore – Job Support Scheme (JSS) – The JSS provides cofunding for all active employers in Singapore. As an employer in Singapore, the Group received funding under this scheme. The amounts under these programs, totalling approximately $10 million, were not material in the year. All benefits were received in the first half of FY21. 1. Represents total rental assistance in FY21 across Lendlease managed assets. 59 A sense of place 58 Lendlease Annual Report 2021 Performance and Outlook