Independent auditor’s report

To the Shareholders of Hospitality Property Fund Limited

Report on the audit of the consolidated financial statements

Our opinion

In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of Hospitality Property Fund Limited (‘the Company’) and its subsidiaries (together ‘the Group’) as at 31 March 2020, and its consolidated financial performance and its consolidated cash flows for the year then ended in accordance with International Financial Reporting Standards and the requirements of the Companies Act of South Africa.

What we have audited

Hospitality Property Fund Limited’s consolidated financial statements comprise:

Basis for opinion

We conducted our audit in accordance with International Standards on Auditing (‘ISAs’). Our responsibilities under those standards are further described in the Auditor’s responsibilities for the audit of the consolidated financial statements section of our report.

We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion.

Independence

We are independent of the Group in accordance with the sections 290 and 291 of the Independent Regulatory Board for Auditors’ Code of Professional Conduct for Registered Auditors (Revised January 2018), parts 1 and 3 of the Independent Regulatory Board for Auditors’ Code of Professional Conduct for Registered Auditors (Revised November 2018) (together the IRBA Codes) and other independence requirements applicable to performing audits of financial statements in South Africa. We have fulfilled our other ethical responsibilities, as applicable, in accordance with the IRBA Codes and in accordance with other ethical requirements applicable to performing audits in South Africa. The IRBA Codes are consistent with the corresponding sections of the International Ethics Standards Board for Accountants’ Code of Ethics for Professional Accountants and the International Ethics Standards Board for Accountants’ International Code of Ethics for Professional Accountants (including International Independence Standards) respectively.

Our audit approach

Overview

   

Overall group materiality

R76.7 million, which represents 1% of consolidated net assets.

Group audit scope

The Group consists of ten components, which include 54 hotels owned by the operating subsidiary.

We performed full scope audits on the components that are financially significant to the consolidated financial statements.

Key audit matters

Valuation of investment properties at year end of R9.98 billion.

As part of designing our audit, we determined materiality and assessed the risks of material misstatement in the consolidated financial statements. In particular, we considered where the directors made subjective judgements; for example, in respect of significant accounting estimates that involved making assumptions and considering future events that are inherently uncertain. As in all of our audits, we also addressed the risk of management override of internal controls, including among other matters, consideration of whether there was evidence of bias that represented a risk of material misstatement due to fraud.

Materiality

The scope of our audit was influenced by our application of materiality. An audit is designed to obtain reasonable assurance whether the financial statements are free from material misstatement. Misstatements may arise due to fraud or error. They are considered material if individually or in aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of the consolidated financial statements.

Based on our professional judgement, we determined certain quantitative thresholds for materiality, including the overall Group materiality for the consolidated financial statements as a whole as set out in the table below. These, together with qualitative considerations, helped us to determine the scope of our audit and the nature, timing and extent of our audit procedures and to evaluate the effect of misstatements, both individually and in aggregate on the financial statements as a whole.

  Overall Group materiality     R76.7 million.
  How we determined it     1% of consolidated net assets.
  Rationale for the materiality benchmark applied    

We chose consolidated net assets as the benchmark, because, in our view, it is the benchmark against which the performance of the Group is most commonly measured by users and is considered to be appropriate due to the nature of the company and industry practice.

Although the entity is profit-orientated, its strategic focus is to deliver long-term shareholder returns through the acquisition and development of investment property. As a Real Estate Investment Trust the users are likely to be more concerned with the net assets underlying the fund than the profitability of the entity. In addition the Loan to value (ratio of loans to the value of assets) is a key metric for the company.

We chose 1%, which is consistent with the quantitative materiality thresholds for companies in this sector.

How we tailored our Group audit scope

We tailored the scope of our audit in order to perform sufficient work to enable us to provide an opinion on the consolidated financial statements as a whole, taking into account the structure of the Group, the accounting processes and controls, and the industry in which the Group operates.

Two components that contributed significantly to consolidated net assets were subject to full scope audits. We performed analytical reviews over the remaining components considered to be financially inconsequential, individually and in aggregate. All testing was performed centrally by the Group audit team. By performing the procedures outlined above, we obtained sufficient and appropriate audit evidence regarding the financial information of the Group to provide a basis of our opinion.

Key audit matters

Key audit matters are those matters that, in our professional judgement, were of most significance in our audit of the consolidated financial statements of the current period. These matters were addressed in the context of our audit of the consolidated financial statements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these matters.

Key audit matter     How our audit addressed the key audit matter

Valuation of investment properties at year end of R9.98 billion

The majority of the Group’s investment properties comprise hotel properties. At 31 March 2020, the carrying value of the Group’s total investment property portfolio was R9 979 million representing a R2 045 million decrease compared to the prior year (refer to note 4Investment properties’ of the consolidated financial statements).

This overall decrease comprises a decrease in the fair value of the hotel properties of R2 461 million and a decrease of R4 million due to a disposal of investment property, offset by an increase of R220 million in capital expenditure and an increase of R200 million due to the acquisition of Southern Sun Pretoria.

The Group’s accounting policy is to measure investment properties at fair value using the discounted cash flow approach. The value of investment properties is dependent on the operating results of the respective hotel operations and the inputs into the valuation model. Factors such as prevailing market conditions and country-specific risks directly impact fair values, and are taken into account in calculation of the discount rate by use of a risk premium.

The impact of the novel coronavirus and the associated impact on the hospitality industry has resulted in changes to the expected growth rate and cash flows. Cash flows are expected to decrease significantly in year one and two. These have resulted in a decrease in the fair value of the hotel properties.

Among others, the following assumptions are key in determining the fair value:

  • the discount rate applied by management;
  • net cash flows; and
  • the expected growth rate which drives the exit capitalisation rate.

The valuation accounting policy applied during the year requires properties to be externally valued by a qualified real estate appraiser (‘the appraiser’), which was performed on the entire portfolio of investment properties.

We considered the valuation of the investment properties to be a matter of most significance to our current year audit due to the following:

  • significant judgements made by management in determining the net cash flows, exit capitalisation and discount rates; and
  • the magnitude of the balance of the investment properties recorded in the consolidated statement of financial position as at 31 March 2020.
   

We updated our understanding of and tested the relevant controls related to the budgeting process, which included controls in relation to the following:

  • the entering and amending of leases in support of contractual rental income;
  • the setting and approval of budgets by the Group; and
  • Board approval of the valuations obtained.

We tested capital expenditure incurred and capitalised on existing investment properties, by agreeing the consideration amounts capitalised to underlying documents, in order to determine whether the capitalisation criteria had appropriately been met. We considered the accounting for the acquisition of the Southern Sun Pretoria property. No exceptions were noted.

In respect of the appraiser (management’s expert), we:

  • considered his objectivity, independence and expertise by inspecting the external appraiser’s valuation reports for a statement of independence and compliance with generally accepted valuation standards; and
  • confirmed the external appraiser’s affiliation with the relevant professional body.

On a sample basis we tested the fair values in the appraiser’s valuation reports by performing the following procedures:

  • utilising our internal property valuation expertise, we assessed the appropriateness of the valuation methodology used;
  • we evaluated the cash flows in year one and two of the valuation. The cash flows were expected to be significantly affected by the restrictions as a result of Covid-19. Based on our work performed, we accepted the impact that management has projected;
  • we evaluated the cash flows in the valuations from year three to assess the reasonableness of the expected cash flows with reference to historical cash flows;
  • we assessed the reasonableness of the growth, exit capitalisation and discount rates used in the valuations by independently calculating a range of rates which would be considered reasonable against similar properties; and
  • we determined a range of acceptable valuations of a sample of hotels based on industry benchmarks and noted that the valuations prepared by the appraiser fell within these ranges.

We agreed all of the fair values in the final valuation reports to the fair values recorded in the Group’s accounting records as at 31 March 2020.

Other information

The directors are responsible for the other information. The other information comprises the information included in the document titled “Hospitality Property Fund Consolidated annual financial statements for the year ended 31 March 2020”, which includes the Directors’ Report, the Report of the Audit and Risk Committee and the Declaration by the Company Secretary as required by the Companies Act of South Africa, which we obtained prior to the date of this auditor’s report, and the other sections of the document titled “Hospitality Property Fund Integrated Annual Report 2020”, which is expected to be made available to us after that date. The other information does not include the consolidated or the separate financial statements and our auditor’s report thereon.

Our opinion on the consolidated financial statements does not cover the other information and we do not and will not express an audit opinion or any form of assurance conclusion thereon.

In connection with our audit of the consolidated financial statements, our responsibility is to read the other information identified above and, in doing so, consider whether the other information is materially inconsistent with the consolidated financial statements or our knowledge obtained in the audit, or otherwise appears to be materially misstated.

If, based on the work we have performed on the other information that we obtained prior to the date of this auditor’s report, we conclude that there is a material misstatement of this other information, we are required to report that fact. We have nothing to report in this regard.

Responsibilities of the directors for the consolidated financial statements

The directors are responsible for the preparation and fair presentation of the consolidated financial statements in accordance with International Financial Reporting Standards and the requirements of the Companies Act of South Africa, and for such internal control as the directors determine is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.

In preparing the consolidated financial statements, the directors are responsible for assessing the Group’s ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless the directors either intend to liquidate the Group or to cease operations, or have no realistic alternative but to do so.

Auditor’s responsibilities for the audit of the consolidated financial statements

Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor’s report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these consolidated financial statements.

As part of an audit in accordance with ISAs, we exercise professional judgement and maintain professional scepticism throughout the audit. We also:

We communicate with the directors regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during our audit.

We also provide the directors with a statement that we have complied with relevant ethical requirements regarding independence, and to communicate with them all relationships and other matters that may reasonably be thought to bear on our independence, and where applicable, related safeguards.

From the matters communicated with the directors, we determine those matters that were of most significance in the audit of the consolidated financial statements of the current period and are therefore the key audit matters. We describe these matters in our auditor’s report unless law or regulation precludes public disclosure about the matter or when, in extremely rare circumstances, we determine that a matter should not be communicated in our report because the adverse consequences of doing so would reasonably be expected to outweigh the public interest benefits of such communication.

Report on other legal and regulatory requirements

In terms of the IRBA Rule published in Government Gazette Number 39475 dated 4 December 2015, we report that PricewaterhouseCoopers Inc. has been the auditor of Hospitality Property Fund Limited for four years.

PricewaterhouseCoopers Inc.
Director: A Taylor
Registered Auditor

Johannesburg

28 May 2020