Interim Management Statement

McKAY SECURITIES PLC
 
INTERIM MANAGEMENT STATEMENT
 
To meet the  requirements of the  Disclosure and Transparency  Rules,
set out  below are  the  Chairman's Statement  and the  Property  and
Financial Review previously issued  on 6th June 2008  as part of  the
Group's Preliminary  Announcement of  Results for  the year  to  31st
March 2008.  These statements cover the significant developments  and
events since 31st March 2008.
 
Contact
 
McKay Securities PLC - 0118 950 2333
Simon Perkins, Managing Director
Alan Childs, Finance Director
 
30th June 2008
 
CHAIRMAN'S STATEMENT
 
After  a  sustained  period  of  increasing  values  and  exceptional
returns, the commercial property market as a whole has experienced  a
swift reduction in asset valuations, primarily due to tighter  credit
conditions and a reassessment of its risk profile.  In the summer  of
2007,  initial  market  yields  on  commercial  property  investments
reached a level lower than the cost  of both the five year swap  rate
and five year gilts; this coincided with the crisis in financial  and
capital markets and a  marked slow down from  record bank lending  to
the sector.  The resulting fall in commercial property and  corporate
values was the most rapid experienced in recent times.  This shift to
higher yields had  been anticipated by  the Group in  the actions  we
were taking, and I  am therefore pleased  to be able  to report on  a
strong financial position as well  as an increase in adjusted  profit
before tax.
 
Adjusted profit before tax, which excludes movements in the value  of
the Group's property portfolio and interest rate hedging instruments,
profit on the  sale of investment  properties and surrender  premiums
increased by £1.16  million (16.1%)  to £8.38 million  (2007 -  £7.22
million).  Earnings per share, adjusted on the same basis,  increased
by 24.4% to 18.33 pence (2007 - 14.73 pence), benefiting from the tax
savings arising  from  the  Group's  first  year  as  a  REIT.   With
inclusion of the adjusted items referred  to above, there was a  loss
before tax of £43.40 million compared with a profit of £57.46 million
last year, and  a loss per  share of (94.76)  pence (2007 -  earnings
162.26 pence).  Net  asset value at  the year end  was 408 pence  per
share (2007 - 515  pence).  The year on  year differences above,  are
primarily due to a 12.3% (£44.54 million) reduction in the book value
of the Group's property portfolio, valued at £316.52 million at  31st
March 2008.  This compares with a valuation gain last year of  £43.55
million; in  both cases  these are  unrealised movements  in  value.
Realised profit on the sale of investment properties over book  value
was £0.31 million (2007 - £3.59 million).
 
After taking  into account  these factors,  the Board  is pleased  to
recommend a final dividend of 9.6  pence per share, up 29.7% on  last
years final dividend,  payable on  6th August  2008 to  those on  the
register at the close of business on 13th June 2008.  This takes  the
total dividend  for  the  year  to 14.3  pence  (2007  -  11  pence),
representing an increase of 30% over 2007. This increase accords with
the Board's  stated intention  to  set a  new  level of  dividend  to
benefit from the annual tax savings arising from its conversion to  a
REIT on 1st April 2007.
 
Despite the fall in property values over this last year, the  Group's
strategy of generating  additional value and  income growth from  the
refurbishment, development and management  of high quality  buildings
in the  resilient  regions  of  London and  South  East  England  has
resulted in a  57.1% (£115.12  million) increase  in portfolio  value
over the last five years.  This has been achieved whilst retaining  a
modest increase in the level of gearing to shareholders' funds  which
at the year end was 66.0% (2007 - 46.9%).
 
To enable the Group to benefit from opportunities likely to arise  in
a falling market, loan facilities were  increased at the end of  last
year by  £35  million  to  £185  million,  with  competitive  margins
maintained and the average term of the facilities on a weighted basis
extended beyond 7  years.  With net  debt of £123.28  million at  the
year end, the Group has a surplus for new acquisitions and  projects,
with a  low cost  of debt  protected  by £140  million (2007  -  £110
million) of interest rate hedging instruments.
 
The Group has  always had  careful regard to  market conditions  when
considering  the  implementation  of  development  projects  and  has
avoided significant exposure to an uncertain outlook.  In view of the
current economic climate, the emphasis during the year has  therefore
been to continue to acquire  income producing properties with  future
potential  and  to  manage   opportunities  that  exist  within   the
portfolio,  whilst  adopting   a  more  cautious   approach  to   the
implementation of larger schemes.
 
Our proactive  attitude to  portfolio management  continued to  prove
successful and good progress was  made with the letting of  completed
projects.  A  major  contributor to  the  £1.16 million  increase  in
adjusted profit before tax was a £2.04 million (11.8%) gain in  gross
rental income, which increased to £19.35 million.  Of this  increase,
£1.10  million  was   generated  from  new   leases  and   management
initiatives, helping reduce the level  of void properties to 8.2%  of
the portfolio's full rental value (2007 - 12%) at the year end  which
is below the sector average.  Lettings of particular note during  the
year were  at Lotus  One,  Staines, Dacre  House, SW1,  Pegasus  One,
Crawley, and Bartley House, Hook, which together with the letting  of
Lotus Two, Staines  since the  year end, have  a combined  contracted
rental value of £1.95 million per annum.
 
The quality  of the  buildings recently  completed has  continued  to
attract robust tenants, and  at the year end  the ten occupiers  with
the largest lease commitments accounted  for 50.1% of all  contracted
rents; these were all either  government departments or held the  top
credit rating from the agency used by the Group to assess the risk of
default.
 
Office  and  industrial  acquisitions   at  Banbury,  Weybridge   and
Maidenhead totalling £19.45  million inclusive  of acquisition  costs
were added to the portfolio during the year.  These have already made
a useful income  contribution which should  be improved further  with
planned refurbishment and management initiatives, and since the  year
end an  additional £8.03  million  has been  invested in  two  office
buildings at Ancells Business Park, Fleet.
 
The sale of Dacre House, SW1 and Flat 39 Parkside, SW1, realised  net
proceeds of £13.50 million.  Of  this, £12.44 million was in  respect
of Dacre House, where  an excellent price  was achieved reflecting  a
yield to the purchaser of 5.2%.  This secured a £6.63 million surplus
on cost  since acquisition  in 1997  which  is tax  free due  to  the
Group's REIT status.  The letting  of refurbished  office floors  had
achieved five  and ten  year  lease terms,  and with  slowing  rental
growth and five years  until rent reviews, the  decision was made  to
sell the property to release funds to re-invest in opportunities with
better growth prospects.
 
Recent major  schemes in  the  development programme  were  completed
prior to the current financial uncertainty, and the letting of  Lotus
Two in May  2008 leaves minimal  void exposure.  It  was intended  to
follow these with  the redevelopment  of 30/32  Lombard Street,  EC3,
where planning consent was granted in October 2007 for a high quality
58,000 sq ft office  scheme, representing a 60.5%  gain in net  floor
space compared with the existing building.  However, with  increasing
supply and doubts over future rents and tenant demand within the City
market, the decision has been made  to defer the scheme and  maintain
income  in  the   building  until  market   conditions  become   more
favourable.
 
Other projects within the existing pipeline include the refurbishment
of office floors  at Portsoken  House, EC3, where  lease expiries  in
December this year will allow works to enhance letting prospects.  It
is also intended to commence the first phase of refurbishment at  the
recently acquired Maidenhead property this Autumn.
 
Board Changes
 
Michael Hawkes retired  from the  Board on  31st March  2008 after  a
period of over 21 years, during which his incisive and astute  advice
has been invaluable to the growth  of the Group.  As Chairman of  the
Remuneration and Nomination  Committees he  successfully managed  the
introduction of changes to the  remuneration strategy last year  and
has  overseen  the  restructuring  of the  Board,  which   concludes
with  his retirement.  I  would like  to thank him on behalf of  past
and present members of the Board for his wise counsel, commitment and
support.
 
Future Prospects
 
The immediate outlook is one  of economic uncertainty, as the  longer
term impact of the recent banking liquidity crisis in an  environment
of accelerating inflationary pressures remains to be seen.  Until  it
becomes clearer whether rental values are likely to be  significantly
affected by  an  economic downturn,  there  will be  little  momentum
behind both the sector  and property values.   Currently there is  no
change in our tenants'  ability to meet  their lease commitments  and
the fall in property values appears to be slowing. The Group's  focus
on London and South East England, which are the top economic  regions
in the country, and the portfolio's geographical and sector diversity
within  these   regions  should   mitigate   the  risk   of   further
deterioration.
 
We believe  that  the greatest  relative  and absolute  returns  from
commercial property will be generated by resilient, opportunistically
managed portfolios, combined with  management and development  skills
and long term  finance to  generate income.  The  cyclical nature  of
property  values  has  highlighted  the  importance  of  seeking  out
acquisitions with  income growth  potential  and matching  them  with
sustainable levels  of  debt.  I  am  confident  that  the  Group  is
appropriately  structured  to  continue  to  take  advantage  of  the
opportunities that arise in such testing times.
 
D.O. Thomas
6th June 2008
 
Property and Financial Review
 
Overview
 
The Company continues to focus on the established and emerging office
and industrial markets  of London  and South East  England, with  the
objective of maximising income and capital growth over the long  term
through active management and the implementation of refurbishment and
development projects.   Completed  schemes  are  generally  held  for
growth rather than being traded on  and are built to a high  standard
to enhance rental prospects and to attract prime tenants.
 
At 31st March 2008 the portfolio consisted of 34 properties totalling
1.32 million sq  ft valued at  £316.52 million, with  an average  lot
size of £9.31 million.  79.3% of this value was in office  properties
and taking  office  and  industrial properties  together,  61.8%  was
located in  South East  England,  outside London.   Acquisitions  are
assessed on  the  potential to  add  value  and our  current  mix  of
properties reflects the additional value generated from recent office
developments and acquisitions.
 
The average weighted  unexpired lease  term of the  portfolio at  the
year end was  8 years,  with 68.2% of  all contracted  rents paid  by
government tenants or those considered by the rating agency, Dun  and
Bradstreet, to have a net worth in excess of £15 million and a low or
minimal risk of business failure.  This combination provides a secure
recurring income from the portfolio, thereby underpinning profits.
 
Market Review
 
There have  been  wide  variations in  the  performance  of  occupier
markets across the  UK over the  year, but in  the south east  office
sector outside London, which accounts  for 42.8% of the portfolio  by
value, demand has remained steady  with take up slightly higher  than
the consistent  annual level  seen since  2004. Many  of the  popular
south eastern locations have  seen rental growth as  the take up  of
Grade A floor space has continued.  Although the pipeline of  schemes
under construction  has  increased,  the  supply  of  better  quality
buildings is likely to remain constrained.
 
The rental differential between  the best space  in London and  other
markets in  the south  east continued  to increase  over the  period.
However, rental growth slowed  in London and in  the City rents  have
begun to fall back.
 
The Group's  industrial holdings  are spread  across the  south  east
where rental growth was  generally limited, although  in a number  of
cases proactive  management activity  in  the portfolio  resulted  in
rental improvements.   Overall  demand  and  supply  in  this  sector
changed little during the year and rental growth in the short term is
likely  to  remain  limited  due   to  an  increase  in   development
completions and the removal of void rates exemption.
 
Valuation
 
The independent external valuation of the Group's property  portfolio
as at 31st March 2008 totalled £316.52 million, representing a  12.3%
(£44.54 million)  reduction in  book  value, disregarding  the  SIC15
lease incentive adjustment.   On a sector  basis, south east  offices
reduced by 13.3%, London offices  by 14.2% and south east  industrial
property by  10.8%. The  Investment Property  Databank (IPD)  Monthly
Index showed  a reduction  in value  for all  property for  the  same
period of  15.1%.   The  fall  in values  was  generally  across  the
portfolio, although reductions in  respect of Pegasus Place,  Crawley
(50,035 sq  ft), Corinthian  House, Croydon  (44,170 sq  ft), 5  Acre
Estate, Folkestone (60,260  sq ft),  Bartley House,  Hook (21,705  sq
ft), and Lotus  Park, Staines (79,135  sq ft) were  mitigated by  the
income  gains  from  new   lettings  and  improved  rental   values.
Disregarding the higher yield expectations applied in the  valuation,
the portfolio would have increased in value by 4.1% (£13.77  million)
on a like for like basis due to management initiatives.
 
At 31st March 2008  the initial yield from  the portfolio at  passing
rents, after allowing for notional purchasers' costs, was 5.3%, (2007
- 4.3%), increasing to a reversionary  yield of 6.9% (2007 -  5.7%).
The portfolio's equivalent yield  was 6.7% (2007  - 5.6%), being  the
average  income  return  reflecting  the  timing  of  future   rental
increases.
 
Portfolio Activity and Income
 
Net property  income from  the portfolio  for the  year increased  by
£1.95 million  (11.8%)  to  £18.43 million.   Gross  rents  received,
before deducting non-recoverable  property expenditure, increased  by
£2.04 million to £19.35  million.  The total  contracted rent of  the
Group's portfolio at 31st March 2008, net of ground rents,  increased
by 9.4% to  £20.16 million (2007  - £18.43 million)  and full  rental
value, net of ground rents, increased by 7.6% to £23.18 million (2007
- £21.55 million).
 
Over the course of the year  the total contracted rent in respect  of
all new open market  lettings and lease  renewals was £2.42  million,
with those  at  Dacre House,  SW1  and Lotus  Park,  Staines,  making
significant contributions at rental values ahead of expectations.
 
The comprehensive refurbishment  of Dacre House,  which completed  at
the end of 2006, improved the quality of the office floors and common
parts and added  additional floor space.   The five resulting  office
floors ranged in size between 1,850 sq  ft and 2,800 sq ft, and  were
marketed at a time  when floors of this  size were in short  supply.
All the vacant space was let in the first half of the year at a total
contracted rent of  £639,000 per annum.   Although market  conditions
were deteriorating,  the  property  sold for  £12.70  million,  which
represented a profit  over book value  as at 30th  September 2007  of
£0.19 million and a historical profit of £6.63 million since purchase
in 1997.  Also sold during the  year was the long leasehold  interest
in Flat 39 Parkside, acquired  by the tenant, realising the  marriage
value from the merger of the  interests and a profit over book  value
at 30th September 2007 of £0.27 million taking the total profit  over
book value  on the  sale of  investment properties  to £0.31  million
(2007 - £3.59 million).
 
Important progress for  the Group  was made at  Lotus Park,  Staines,
following completion  in May  2007 of  the major  refurbishment  work
undertaken to Lotus One (15,190 sq ft) and Lotus Two (19,600 sq ft).
The buildings were well received by the market and in the first  half
of the year  Lotus One was  let on a  10 year lease  to Dow  Chemical
Company Ltd at a  contracted rent of £425,180  pa (£28.50 psf).   The
occupier interest referred to at the half year stage led to a letting
of Lotus  Two  shortly after  the  end of  the  financial year  at  a
contracted rent of £607,600pa  to Salesforce.com, also  on a 10  year
lease.  The rent achieved represented an improvement to £31.40  psf.
This  letting  leaves  the  buildings  at  Lotus  Park  fully  income
producing.
 
Also in Staines, income  was maintained at  Mallard Court (22,120  sq
ft) where leases were due to expire in March 2008.  Existing  tenants
have been retained with the exception of the top floor (5,200 sq  ft)
where  refurbishment  work  has   been  completed  and  marketing  is
underway.
 
Works also completed at Corinthian  House, Croydon where the 9th  and
10th floors and common parts were substantially upgraded, and  12,088
sq ft is now available to  let.  Croydon had seen encouraging  rental
growth since  the  property was  acquired  in December  2006,  and  a
government decision on the planning applications for the regeneration
of the  regionally  significant  Croydon Gateway  site  opposite  the
property is expected shortly.
 
At Pegasus Place, Crawley the ground  floor of Pegasus One (4,620  sq
ft) was let on a 10 year term  with a tenant break clause at the  end
of the fifth year.   This leaves only the  first floor (5,330 sq  ft)
vacant.  The ground floor  of Bartley House, Hook  was also let,  and
the building is now fully income producing.
 
Other management activity within the portfolio included the upgrading
of the  prominent corner  retail  unit at  Portsoken House,  EC3.   A
premium of £101,000 was paid by the outgoing tenant at the end of the
last financial year and an increased  rent and longer lease term  has
been achieved with the new tenant.  At Folkestone, improvement  works
and the opening of a large DIY retail outlet between the 3 Acre and 5
Acre Industrial Estates have improved rental values, particularly  at
the 5 Acre Estate where trade counter users have been prepared to pay
significantly higher rents.  Improvements to the Oakwood Trade  Park,
Crawley, and the McKay Trading Estate, Bicester, were also  completed
which has  assisted with  lettings and  improved rents  secured.   At
Bicester a new rental high has been achieved and works are ongoing to
improve Unit 2 (10,280 sq ft) which has underutilised road frontage.
 
During the first half of the year, securing acquisitions on the  open
market was difficult as the prices sought offered little potential to
add value.  However, two acquisitions were made off market; both have
been  integrated  into  the  portfolio  and  are  making  a  positive
contribution.  At  Brooklands Industrial  Estate, Weybridge,  a  good
quality 62,800 sq ft unit was acquired from Yamaha Motors (UK) Ltd on
Sopwith Drive.   They leased  back the  office element,  leaving  the
remaining 38,000  sq  ft  of  warehouse floor  space  to  be  let  on
completion of sub-division works.  These have now been completed, and
there is good interest in the unit.  Also acquired in the first  half
of  the  year  was  the  Lower  Cherwell  Street  Industrial  Estate,
Banbury.  The 39,980  sq ft estate  which consists of  19 units  with
future potential  for  residential  or other  higher  value  uses  is
located within the town centre, close to the railway station.   Since
acquisition, improvements have led to a 15% increase in rental values
and all units are occupied.
 
The  rapid  correction  in  property  values  between  September  and
December 2007 has  lowered price expectations  of committed  vendors,
thus improving  prospects for  acquisitions with  growth  potential.
With the benefit of secured finance and falling prices, opportunities
to invest in refurbishment and development prospects are likely to be
more realistically priced once vendors  accept the reality of  higher
yields and the increasing cost of  such projects.  This was the  case
at the end of the year with the acquisition of The Switchback located
to the north of Maidenhead  Town Centre, taking total funds  invested
in acquisitions  over  the  year to  £19.45  million.   The  property
consists of six  two storey  office units in  three blocks  totalling
37,380 sq  ft, constructed  in  the early  1980's with  generous  car
parking.  The units will be refurbished on a rolling basis as  leases
expire over  the next  five  years and,  with landscape  and  signage
improvements, will  be rebranded  and  marketed to  increase  rents.
After the year end, a further acquisition was made of the freehold of
two  good  quality  office  buildings  with  excellent  car   parking
totalling 21,155  sq ft  at  a price  of  £7.6 million  before  costs
(initial yield 7.3%), at the entrance to Ancells Business Park,  just
off Junction  4A of  the M3  motorway at  Fleet.  The  buildings  are
under-rented and should show growth from the current average  passing
rent of £16.60 psf.  In  addition, planning consent has been  granted
in the past for a further 4,736 sq ft.
 
Within the future development pipeline is the potential redevelopment
of 30/32 Lombard Street, EC2,  where planning consent was granted  in
October 2007 for  a top quality  58,000 sq ft  office scheme on  this
prime City location.  In  addition to completed  and vacant stock  in
the City there is a large supply of new buildings due to come to  the
market over the next two years at a time of questionable demand  from
financial institutions  and related  parties, which  has already  put
downward pressure on  rents.  Current market  conditions in the  City
for this type of scheme are therefore not favourable and income  will
be maintained until circumstances change.
 
The expiry of leases at Access House, Newbury (17,040 sq ft),  Castle
Lane, SW1 (14,180  sq ft), and  Portsoken House, EC3  (47,000 sq  ft)
over the next nine months will provide the opportunity to refurbish a
number  of  floors.   The  most  significant  in  terms  of   capital
commitment is Portsoken House,  where general improvement works  will
upgrade the floor space to improve on passing rents in the region  of
£22 psf.
 
Finance
 
As at 31st March 2008, the Group's net debt was £123.28 million (2007
- £110.77 million) representing 66.0% of shareholders' funds (2007  -
46.9%).   The  increased   level  of  debt   was  due  primarily   to
acquisitions  and  capital   expenditure  incurred   mainly  in   the
refurbishment  of  Lotus  Park,  Staines  and   Corinthian   House,
Croydon.  After taking into  account  sales of £13.50 million (2007 -
£22.57 million), the net investment in the portfolio for the year was
£8.60 million (2007 - £0.94 million).
 
The opportunity was taken in the Autumn to increase the size of  four
of the Group's bank facilities. Despite the difficulties faced by the
banking sector at the time, this was completed with existing  lenders
at the same or improved margins.  As a result, total bank  facilities
available to the Group  increased by £35 million  to £185 million  at
the year end,  and the  average weighted unexpired  term to  maturity
increased to 7.7  years.  If  fully drawn,  gearing to  shareholders'
funds would increase to 99% (2007 - 63.6%).
 
The ratio of  drawn debt to  portfolio value at  31st March 2008  was
38.9% (2007 - 31.5%).  Net  cash flow  from operating activities  was
£2.13 million (2007  - £1.88  million) and interest  cover, based  on
adjusted profit before tax plus finance  costs as a ratio to  finance
costs, was 2.2 (2007 - 2.0).
 
Following adoption of REIT status on 1st April 2007, the Group is tax
exempt in respect of capital  gains and all qualifying rental  income
which includes the majority of  the Group's activities.  There is  no
tax charge this year  in respect of  residual income from  activities
outside of the REIT regime, as the minimal income has been offset  by
relevant costs.
 
As a REIT, the Company is required to distribute at least 90% of
rental income profits arising each financial year by way of a
Property Income Distribution (PID), which, subject to certain
exemptions, is made after deduction of withholding tax; at present
20%.  Therefore all dividends must now be allocated between PIDs and
non PIDs.  Of the final dividend of 9.6 pence per share, 6.95 pence
will be paid as a PID; after deduction of withholding tax, the net
receipt per share will be 8.21 pence.  The PID distribution for the
full year will be 10.45 pence of the total dividend of 14.3 pence.
 
The main financial risks to  the Group are tenant default,  liquidity
and interest rate  movements on bank  borrowings.  Tenant default  is
monitored using  Dun  & Bradstreet  credit  checks for  new  tenants,
together with  ongoing  credit  checks  and  strict  internal  credit
control.  This, together with close  management of rental income  and
suppliers, ensures the Group's ability to generate income to meet its
commitments.  Liquidity risk  is managed through  a mixture of  short
and long term committed facilities  that ensure sufficient funds  are
available to cover  potential liabilities  arising against  projected
cash flows.  Protection  against interest  rate risk  is provided  by
financial hedging instruments. At the  year end £140 million (2007  -
£110 million)  was  protected  by such  instruments  with  maturities
ranging between  2015 and  2032; if  bank borrowing  facilities  were
fully drawn, cover would  be 75.7% (2007 -  73.3%).  The increase  in
hedging instruments was  considered prudent,  especially during  such
uncertain times in the financial markets, and has contributed to  the
Group's low weighted average cost of  borrowing for the year of  5.4%
(2007 - 5.8%).  The  Group does not hedge  account its interest  rate
derivatives and therefore includes the movement in fair value in  the
Income Statement.
 
S.C. Perkins
A.S. Childs
6th June 2008
 
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