Report of the Board of Directors
1 January–31 December 2016

Operating environment

The Finnish economy has turned to moderate growth. In the near future, growth is expected to be close to one per cent. This growth is mainly based on private consumption and building investments. The outlook for exports seems brighter than in previous years, even though it remains weak due to the slow recovery of global economy. The Finnish competitiveness pact is expected to improve competitiveness with prices, but its impact on economic development will take effect after some delay. The public economy is estimated to remain clearly in the deficit.

Private consumption is expected to grow more slowly than in the year before because there has been no significant increase in income levels and the rate of inflation is estimated to increase. The employment rate continues to improve, but due to the mismatch in vacancies and the available workforce, the rate of unemployment is decreasing slowly.

Interest rates have started to go up in the USA where economic growth has strengthened. In the eurozone and Finland, interest rates are expected to remain low as a result of the financial policy of the European Central Bank and slow general growth. Low interest rates have a positive impact on SATO's results by reducing financing costs.

The success of urbanisation is essential for the competitiveness and growth of Finland. Recently, residential construction has been active and this good pace of construction should continue in growth centres in order to reach a good balance between supply and demand. In 2016, investments were made actively in apartments, with roughly 40 per cent of all major property transactions being housing portfolio deals. For example, real estate funds accounted for one third of all new residential buildings. As the supply of apartments has increased, competition over customers has intensified. SATO's competitive edge is boosted by improving customer service and introducing new services and housing concepts to enrich our broad range of apartments.

In the light of estimates, the market in year 2016 was better than the previous two years in terms of apartment sales. This growth has mostly been affected by the accelerated sales of new apartments. The positive development of apartment prices in SATO's operating areas has increased the fair value of the largest portfolio, evaluated according to the sales comparison method.

Strategy

In the autumn, the Board of Directors adopted the Group's updated strategy, strategic objectives and dividend policy.

Globalisation, digitalisation and sustainable development are accelerating the rate of urbanisation and influencing people's values and actions. Therefore, housing will also need to change. According to our vision, thriving cities will be home to people enjoying a high level of wellbeing. Our task is to revolutionise housing – provide our customers with more than just walls.

We will build a functional partnership network in order to offer diverse housing for different needs and services that produce benefits for our customers. We will allocate our growth investments to the Helsinki Metropolitan Area, Tampere, and Turku, i.e. to areas that show the highest demand for apartments and steady increase in value in the long-term.

The role of financing is emphasised in the creation of the capacities for growth, and we have included a strengthening investment grade rating (currently Moody’s Baa3) in our strategic objectives. Our return on equity target for the strategic period will remain unchanged at 12 per cent. In addition, our strategic objective is a constantly improving Net Promoter Score (NPS) among our tenants.

According to the new dividend policy, annual dividends paid will, depending on the market situation, investment level, the development of equity ratio and the solvency ratio, be a maximum of 40 per cent of the cash earnings.

Net sales, profit and financial position

SATO is engaged in investment activities where profit comes from rental income, sales profits and changes in the fair value of apartments. At the end of the year, capital invested in business operations stood at EUR 3,195.6 (2,669.5) million. When evaluating business profitability, the key indicator is return on investment, which was 9.1 (7.6) per cent.

During the reporting year, the Group’s net sales decreased by 1.7 per cent year-on-year and totalled EUR 318.0 (323.4) million. The change in net sales is caused by the previously announced discontinuation of owner-occupied house production. Of the net sales, rental income accounted for EUR 262.7 (249.4) million. The increased number of apartments and focus on small apartments in growing cities improved rental income by 5.4 (2.5) per cent.

Operating profit, including the change in fair value of EUR 124.3 (62.4) million, increased by 36.0 per cent to EUR 267.2 (196.5) million. The change in value is based on the shift of focus to growing cities and to smaller apartments in accordance with our strategy. The operating profit without the change in the fair value was EUR 143.0 (134.0) million, mainly due to an increase in the apartment stock.

Profit before taxes increased by 37.6 per cent to EUR 219.4 (159.4) million. The improvement was mainly based on the positive change in the value of apartments and the increase in the value of the Russian rouble. Earnings per share was EUR 3.22 (2.49). Cash flow from operations (free cash flow after taxes excluding change in fair value) amounted to EUR 86.2 (78.1) million. The improvement in cash flow was affected by low interest rates and good cost management. In 2016, net financing costs totalled EUR 47.8 (37.0) million, comprising 15 per cent of the Group's net sales.

The change in the fair value of apartments included in the profit was EUR 124.3 (62.4) million. This change was affected positively by the development of apartment prices and the expiry of restrictions applicable to certain properties, the revision of yield demands for specific properties on the basis of guidance issued by an external valuation agency, and the increase in the value of the Russian rouble. The agency changed yields according to the changed market situation, which increased the value of apartments.

Further information about the determination of fair value is in note 13 to the financial statements.

On 31 December 2016, the consolidated balance sheet total stood at EUR 3,562.2 (2,979.7) million. Equity was EUR 1,252.6 (993.2) million. Equity per share was EUR 22.12 (19.53).

The Group's equity ratio was 35.2 (33.3) per cent, which exceeds the new target level of 35 per cent. Through its two share issues completed in June, SATO Corporation strengthened its shareholders’ equity by a total of EUR 112.9 million.

In 2016, the return on equity exceeded the target of 12 per cent and was 15.6 (13.5) per cent.

Financing

The Group and the parent company have enjoyed a good financial position throughout the financial period. At the end of the year, the Group had EUR 18.3 (60.7) million in cash and cash equivalents.

Interest-bearing liabilities at the end of the financial period totalled EUR 1,943.0 (1,676.2) million, of which loans subject to market terms accounted for EUR 1,446.2 (1,356.5) million. The loan itemisation is in Note 27 to the Financial Statements.

EUR 381.6 million of new long-term financing was withdrawn during the review period. The solvency ratio was 54.3 (55.3) per cent at the end of the reporting period. The target is a solvency ratio of less than 70 per cent.

SATO's objective is to shift towards an unsecured financing structure, and also to ensure as broad and flexible a financing base as possible and to improve the availability of financing to support the growth of the company. During the reporting year, SATO increased the proportion of financing without real securities to 38.8 per cent of all loans. The proportion of unencumbered assets was 53.1 per cent at the end of the year. In March, we issued a five-year bond of EUR 300 million with a fixed annual rate of 2.375 per cent. In June, SATO signed an agreement on syndicated credit facilities of EUR 400 million to refinance the Group's existing credit facilities. In November, SATO and the European Investment Bank (EIB) signed an agreement on a long-term loan of EUR 150 million. The objective of EIB and SATO is to construct new buildings of nearly zero energy and to carry out repairs that improve the energy efficiency of the Group's current apartments over the next few years. In December, SATO and Aktia Bank plc signed an agreement on a long-term loan without real securities of EUR 50 million.

To stabilise its financing costs and to improve the availability of financing, SATO set a stronger Investment Grade credit rating (currently Moody's Baa3) as its new strategic goal. At the end of the reporting year, the average loan interest rate was 2.5 (2.5) per cent. In accordance with the Group’s financing policy, the aim is to ensure that at least 60 per cent of all loans are fixed-rate loans. On the balance sheet date, the proportion was 82.2 (73.2) per cent.

In 2016, net financing costs totalled EUR 47.8 (37.0) million. The average maturity of loans with market terms was 4.9 (5.1) years.

During the financial period, the calculated impact of changes in the market value of interest hedges on equity was EUR -3.4 (2.9) million.

Group structure

SATO Corporation is the parent company of SATO Group. At the end of the reporting year, the parent company had a total of 21 (19) subsidiaries engaged in business operations.

Housing assets and fair value

On 31 December 2016, SATO owned a total of 25,344 (23,551) apartments. The number of apartments increased by 1,793 during the year. A total of 2,679 (476) apartments were purchased and 702 (708) new apartments were completed, totalling 3,381 (1,184) apartments. The total number of divested apartments and shared ownership apartments redeemed by the owner occupants was 1,588.

At the end of the reporting year, the fair value of apartments was EUR 3,383.2 (2,752.9) million and the change in fair value, including the rental apartments acquired and divested during the year, was EUR 630.3 (224.9) million. In addition to investments and divestments, the change in value was affected by the development of market prices and rental income, changes in the exchange rate of the Russian rouble, changes in yield values on the basis of guidance issued by an external valuation agency, as well as the expiry of restrictions applicable to certain sites.

Of the value of apartments, the commuting area of the Helsinki Metropolitan Area accounted for roughly 79 per cent, Tampere and Turku made up roughly 13 per cent, and Oulu and Jyväskylä roughly 4 per cent. Apartments in St. Petersburg represent roughly 4 per cent of the total value.

Development of housing assets

We develop our housing assets through investments and divestments and through repair activities.

Investment activities create preconditions for growth and modernise the apartment stock. Investments are allocated to the Helsinki Metropolitan Area, Tampere and Turku.

During the reporting year, investments in apartments totalled EUR 572.6 (250.5) million, i.e. nearly double compared to net sales. New apartments accounted for EUR 153.5 (136.7) million, roughly 26.8 per cent of all investments. At the end of the financial year, binding purchase agreements in Finland totalled EUR 121.2 (148.8) million.

During the reporting year, a total of 3,307 (1,037) apartments were acquired in Finland, of which 628 (561) in new buildings. A total of 1,232 (1,204) apartments were under construction in Finland at the end of the year.

The most significant investments were the acquisition of all shares in SVK Yhtymä Oy through a directed issue, as result of which 1,255 apartments were transferred to SATO, and the acquisition of 1,015 apartments from Suomen Laatuasunnot Oy. In December, SATO acquired Patrizia Immobilien KAG Greater Helsinki Oy which has a total of 113 apartments in Helsinki, Espoo and Vantaa.

In total, 1,267 (1,743) apartments with a total value of EUR 67.7 (95.9) million were divested in Finland. The most significant divestment was the sale of 294 apartments to KAS Group in December. The divested apartments are mainly located outside SATO’s primary operating area.

In Finland, EUR 45.2 (57.3) million was spent on improving the quality of apartments, including the repair and major renovations of properties.

Property development

Property development offers the basis of and continuity for investments. Our plot reserves create a competitive edge by allowing the development of apartments best matching the future demand.

At the end of the reporting year, the book value of owned plot reserves totalled EUR 62.0 (57.5) million. The value of new plots acquired during the year stood at EUR 13.5 (13.2) million. In addition, we signed preliminary agreements on permitted building rights of 45,000 gross floor square metres to be developed for the construction of more than 700 apartments. The book value of the plot reserves divested during the year or used for producing apartments was EUR 22.4 (23.6) million.

We had ongoing zoning projects in Oulunkylä, Haaga, Patola and Puistola in Helsinki, and in Soukka, Finnoo and Karakallio in Espoo. Of the zoning projects in progress, approximately 120,000 gross floor square metres of permitted building rights are planned for complementary construction on the company’s own plots, for approximately 2,000 apartments. Local plans were completed for complementary construction on the company's own plots, totalling approximately 50,500 gross floor square metres of permitted building rights. Complementary construction serves to produce various benefits for people already living in the area, future residents, service providers and society. The permanence of services improves, municipalities do not need to invest in public utility services, and furthermore the image of the area is enhanced.

When we decide to build new buildings, we assess which apartments are suitable for rental activities and which will be sold off as owner-occupied homes. During the financial year, a total of 628 (561) rental apartments and 57 (153) apartments for sale were completed for the Group in Finland. At the end of the year, 27 (52) completed and 0 (55) owner-occupied apartments under construction remained unsold at a total purchase value of EUR 16.1 (48.7) million.

Rental activities

Effective rental activities provide home seekers with quick access to an apartment. Rental services are mainly offered by SATO’s rental offices. SATO’s electronic channels makes finding a home easy for customers.

SATO’s economic occupancy rate in Finland was 95.6 (96.4) per cent on average. The occupancy rate improved during every quarter, rising from 94.8 per cent in the first quarter to 96.3 per cent in the fourth quarter. The average tenant turnover rate was 40.5 (41.1) per cent, of which residents changing from one SATO apartment to another accounted for 7.9 (8.5) per cent. The tenant turnover was increased and the occupancy rate decreased by the increased supply of apartments in SATO's operating areas. To increase customer loyalty, we will renew our service which our customers can use to change apartment.

The average rent of SATO’s apartments in Finland was EUR 16.47 (16.39) per m² per month at the end of the year.

Net rental income from apartments was at the same level as 2015 at EUR 166.2 (151.8) million, corresponding with our current guidance. Net rental income rate was 5.6 (6.0) per cent. Our apartment stock which has been modernised through investments, the moderate development of maintenance fees and the development of rental activities and customer service, contributed to the increase of our net rental income.

Business operations in St. Petersburg

The housing market of St. Petersburg is of the same size as the Finnish housing market. The expansion of investment activities to St. Petersburg from 2007 has increased the opportunities for SATO’s growth. Russia is limited to a maximum of 10 per cent of the Group’s housing assets.

At the end of the reporting period, the fair value of housing assets in St. Petersburg totalled EUR 128.6 (106.1) million, i.e. 3.8 per cent of all housing assets held by SATO. The change in value amounted to EUR 19.8 (-5.4) million caused by the change in the currency exchange rate. The total value of binding purchase agreements was EUR 0.0 (2.4) million at the end of the year. There were a total of 534 (460) completed apartments and none (74) under construction in St. Petersburg at the end of the year. For the time being, SATO will refrain from making new investment decisions in Russia.

During the reporting year, the average occupancy rate of our apartments in St. Petersburg was 82.2 (82.7) per cent. The occupancy rate of our existing apartments improved as the year progressed, while it remained below the previous year's level due to the completion of 74 apartments in the middle of the year.

The estimated inflation rate in Russia was 5.8 (12.9) per cent. SATO's rouble-denominated rents changed by -0.7 (3.3) per cent. As a result of the increased value of the rouble, euro-denominated rents increased, being EUR 15.33 (12.54) per m² per month at the end of the year.

Customer accounts

The requirement level of customers has increased and their expectations have differentiated in terms of the quality of the apartment and service. We want to develop our operations and our range of products and services to continuously improve the customer experience. We measure the development of the customer experience using the net promoting score NPS, and our objective is to continuously increase this value. The NPS measured by the method used in 2016 improved by two percentage points.

At the end of the year, we launched three strategic development programmes to strengthen our customer satisfaction and permanence. To implement these programmes, we will strengthen our customer resources by recruiting 30 new SATO employees in spring 2017.

Development activities

Development activities were focused on strategy development, the development of digital services and IT systems and the planning of new concepts. A total of EUR 0.9 (1.2) million were spent on development, comprising 0.3 per cent of net sales.

SATO's new mission is to revolutionise housing – to offer more than just walls. We will start this change through three strategic programmes. The objective of the “Customer first” programme is to build a new service culture. Through the “OmaSATO” development programme, we will create new digital services, with a service aimed to make it easier to find a new apartment will be opened in the spring of 2017. The objective of the third programme is to launch new housing options in the market.

Corporate responsibility

Sustainable development is a megatrend which affects people's values and behaviour. For companies, sustainable operating methods have grown in significance, and SATO has continuously revised and changed the guidelines and principles to be followed in its operations. SATO's Code of Conduct, Corporate Governance Statement and Sustainability policy are available at sato.fi.

During the reporting year, SATO participated for the second time in the Global Real Estate Sustainability Benchmark (GRESB) assessment and was again rated in the best category, the Green Star. In its benchmarking group among unlisted housing investors, SATO was the best out of five Nordic investors and the sixth out of 24 European investors. Globally, SATO was ranked ninth of the 65 participating housing investors.

In 2016, SATO prepared its new Code of Conduct together with its personnel. Through the new Code of Conduct, SATO revised its guidelines, for example, on reasonable hospitality and decided to adopt the Whistleblowing channel for its stakeholders and personnel. The new Code of Conduct entered into force on 1 January 2017.

Environmental impact

Curbing energy consumption is a key issue in the prevention of adverse environmental impacts caused by housing. In October, SATO signed the energy efficiency agreement in the real estate industry for 2017–2025. SATO has also been party to preceding energy saving agreements of rental apartment associations, starting from the very first agreement signed in 2002. In addition, SATO is a committed climate partner of the City of Helsinki.

In the new energy efficiency agreement, SATO is committed to reducing the total energy volume of building heat and electricity by 10.5 per cent from the level of 2014 by the end of 2025. These tighter objectives encourage us to continue as a pioneer of sustainability.

During the reporting period, the specific heat consumption decreased by 3.3 per cent and that of electricity decreased by 1.0 per cent from the 2015 level. The specific water consumption decreased by 1.4 per cent.

The objective of the financing agreement signed by EIB and SATO in November is to construct new buildings of nearly zero energy and to carry out repairs that improve the energy efficiency of the Group's current apartments over the next few years.

During the reporting year, the specific emissions from SATO’s apartments were 34.7 (33.5) carbon dioxide equivalent kilograms per square metre. The goal is to achieve a 20 per cent reduction in greenhouse gas emissions by 2020 when compared to the 2013 level.

The Group's environmental programme is available at sato.fi/environmentalprogramme.

Events after the review period

In its meeting held on February 1, SATO Corporation’s Board of Directors has updated the financial targets to the group. The updated financial targets are:

  • equity ratio over 35 per cent (previous target over 30 per cent)
  • solvency ratio below 70 per cent
  • interest cover ratio over 1.8x
  • unencumbered assets ratio 60 per cent or more (previous approximately 50 per cent by the end of 2020) 

Risk management

Risk management at SATO is based on good governance guidelines as well as on the systematic risk assessment included in the strategy and annual planning process. When required, risk management measures will be initiated for preventing the materialisation of risks or for enhancing the monitoring of a certain area. Internal audits are targeted in line with the risk assessments made in the strategy and annual planning process.

SATO's reporting practice was amended from 1 January 2014 so that the change in the value of apartments will be shown in the income statement. Consequently, the development of apartment price levels – as well as currency fluctuations regarding the assets in St. Petersburg – may cause fluctuations in profit.

The most significant risks in the sales and rental of apartments are related to economic cycles and fluctuations in demand.

The positive development of the value of housing assets and the rental capacity of apartments are secured by focusing on growth centres. The quality of the Group’s housing assets is developed by engaging in systematic repair activities. Changes in the energy efficiency and environmental requirements may increase the repair costs of SATO’s investment apartments.

In Russia, SATO only operates in St. Petersburg. The St. Petersburg operations carry both a risk related to the operating environment and a currency risk. The known currency-denominated instalments related to the procurement of sites are hedged in compliance with the Group’s financial policy. The proportion of St. Petersburg from the Group's entire housing investments is limited to 10 per cent. About four per cent of SATO’s housing assets are located in St. Petersburg. For the time being, SATO will refrain from making new investment decisions in Russia.

In order to secure the continuity of services purchased from partners, procurement activities are distributed between several service producers.

In accordance with the Group’s financing policy, the aim is to ensure that at least 60 per cent of all loans are fixed-rate loans. The Group has set an equity ratio target of at least 35 per cent.

The Group’s asset, interruption and liability risks are covered by appropriate insurance policies.

Further information about risk management is available at sato.fi/riskmanagement.

Pending legal actions

SATO has no official procedures, legal actions or arbitration proceedings pending that would have significant impact on the company's financial standing or profitability, and SATO is not aware of any threat of such proceedings.

Shares

On 31 December 2016, the share capital of SATO Corporation was EUR 4,442,192.00 and there were 56,783,067 shares. The company has one series of shares. The shares are included in the book-entry securities system maintained by Euroclear Finland Oy.

SATO Corporation holds 160,000 treasury shares. That is equivalent to 0.3 per cent of all shares.

On 31 December 2016, the Board members, CEO and Deputy to the CEO of SATO Corporation owned a total of 179,000 shares in the company.

Personnel

At the end of 2016, the Group had 175 (170) employees. There were 160 (160) permanent employees and 15 (10) employees with a fixed-term contract of employment. During the year, the Group had an average of 170 (172) employees.

To improve the employment of young people, SATO took part in the Vastuullinen kesäduuni (Responsible summer job) campaign and offered summer jobs to 25 young people.

Shareholders' Nomination Committee

The Shareholders' Nomination Committee consists of representatives of SATO's four largest shareholders registered in the book-entry system on October 1, and who accept the task. Its members are Erik Selin (Balder), Hans Spikker (APG), Hanna Hiidenpalo (Elo) and Matti Harjuniemi (Finnish Construction Trade Union).

Members of the Nomination Committee in charge of preparations for the 2016 Annual General Meeting were Erik Selin (Balder), Andrea Attisani (APG), Hanna Hiidenpalo (Elo) and Reima Rytsölä (Varma).

Board of Directors, CEO and auditors

Up to the Annual General Meeting held on 3 March 2016, the Board of Directors of SATO comprised Esa Lager as chairman, Jukka Hienonen as deputy chairman, and Andrea Attisani, Esa Lager, Tarja Pääkkönen, Timo Stenius and Ilkka Tomperi as ordinary members.

The AGM held on 3 March 2016 confirmed that the Board of Directors consists of seven members.

The AGM selected Erik Selin as the chairman of the Board. Andrea Attisani, Jukka Hienonen, Esa Lager, Tarja Pääkkönen and Timo Stenius were selected to continue as members of the Board of Directors. Markus Hansson was elected as a new member. Andrea Attisani stepped down from the Board of Directors of SATO Corporation in July.

The Board of Directors convened 13 times during 2016. The Board of Directors is supported by two committees consisting of members of the Board: the Nomination and Remuneration Committee and the Audit Committee.

Saku Sipola, M.Sc. (Tech.), has acted as the CEO and Tuula Entelä, LL.M, M.Sc. (Econ.), as the deputy CEO.

KPMG Oy Ab, authorised public accountants, have been the company’s auditors, with Lasse Holopainen, APA, acting as the auditor in charge.

Members of the corporate management group

On 31 December 2016, members of the management group were CEO Saku Sipola, Antti Aarnio (vice president, investments, starting from 17 February 2016), Monica Aro (director of customer relationships and communication until 28 November 2016, vice president of development, starting from 28 November 2016), Antti Asteljoki (vice president, apartments, starting from 16 May 2016), Miia Eloranta (director of customer relationships and communication, starting from 28 November 2016), Tuula Entelä (vice president, business development, until 28 November 2016, member of the Group's management team, until 31 December 2016), and Markku Honkasalo (CFO, starting from 1 December 2016).

Other members of the management group were Pasi Suutari, who acted as vice president in charge of regional activities, new buildings and renovations until 16 February 2016, and Esa Neuvonen, who acted as CFO until 6 November 2016.

Outlook

In the operating environment, SATO’s business activities are mainly affected by consumer confidence, the development of purchasing power, the rent and price development for apartments, general competition and interest rates.

The Finnish economy is expected to continue slow growth, and general confidence is estimated to be higher than on average. Interest rates are expected to remain low in 2017, which will have a positive impact on SATO’s financing costs.

Increases in urbanisation and immigration provide good long-term conditions for continued investments in Finland. Net immigration is expected to be the highest form of population increase in SATO's operating areas. The volume of housing construction should remain at a level which, in the long term, balances the ratio between supply and demand. This requires sufficient plot reserves and the dissolution of regulation on construction, as well as an operating environment which offers encouragement to own rental apartments.

SATO's net rental income is expected to remain at the 2016 level. Rent increases are expected to be moderate.

Some 80 per cent of SATO's housing assets are located in the Helsinki Metropolitan Area, where price development is expected to be more positive than in the rest of Finland.

The Russian economy is expected to develop slowly.

Proposal of the Board of Directors regarding disposal of profit

On 31 December 2016, the parent company’s distributable assets amounted to EUR 239,829,144.49 of which the net profit for the financial period was EUR 52,631,635.21. The number of company’s outstanding shares entitling to dividends for 2016 is 56,623,067.

According to our dividend policy, annual dividends paid will account for at most 40 per cent of our operational cash flow, depending on the market situation, investment level, the development of our equity ratio and our solvency ratio.

The Board of Directors proposes to the AGM that no dividend will be paid for the reporting year 2016 (0.50 per share in 2015), and that EUR 52,631,635.21 be transferred to retained earnings.

No material changes have taken place in the company's financial position after the end of the financial period.

SIGNATURES TO THE REPORT OF THE BOARD OF DIRECTORS AND THE FINANCIAL STATEMENTS

Helsinki, 1 February 2017

Erik Selin

 

Esa Lager

 

Tarja Pääkkönen

 

Saku Sipola
CEO

Jukka Hienonen

 

Marcus Hansson

 

Timo Stenius

 

 


AUDITOR’S NOTE

An auditors’ report has today been issued for the audit carried out.

Helsinki, 1 February 2017

KPMG OY AB
Lasse Holopainen APA