Abacus Group (ABG) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Abacus Property Group HY '22 Results Presentation. [Operator Instructions] I would now like to hand the conference over to Steven Sewell. Please go ahead.

Thank you very much, and good morning, ladies and gentlemen. Thanks for joining us here. We gather here in person, thankfully, in Sydney on the land of the Gadigal people of the Eora Nation, and I pay my respects to their elders past, present and emerging. It gives me great pleasure to welcome you to the first half results presentation for financial year '22. And I'm joined here today with Rob Baulderstone, our CFO; Evan Goodridge in our finance team; and Cynthia Rouse, our Head of Corporate Comms and Investor Relations. And what a half year of achievement for the group and solid operating results on which to move forward. Looking at the portfolio operating metrics, they are a great summation of where the group sits with a strong asset backing of quality income-producing assets in our 2 key selected sectors and a statutory profit for the year that reflects not only strong uplift in results, but a solid uplift in valuations of our asset base, led predominantly by our storage business. Pleasingly, the balance sheet is now almost fully deployed in our 2 key sectors. And even in light of the COVID disruptions, which have played havoc with so many aspects of everyday life, to varying degrees across Australia and New Zealand, the self-storage business has risen to operating standards of performance never before seen. Pleasingly, for investors, the distribution for the half year of $0.0875 per share reflects a conservative 89% payout ratio for the half, we believe appropriate as the business transitions for full year '23 to be the first full year of recurring income sources as we complete the closeout of our legacy mortgage positions. As I mentioned, in spite of the COVID difficulties experienced in the half, particularly in Melbourne, Sydney and New Zealand, our operating results and transactional activity at Abacus has continued at a very pleasing rate. Investing over $1 billion in the period from first of July to today in quality assets and all the while delivering the strongest ever trading results in the storage business we've ever seen and picking up good momentum in commercial with leasing demand being experienced now. The new investments that we've made were neatly spread across both commercial and storage sectors, including adding to existing assets, rebuilding and renovating some of those assets as well as adding to the pipeline of some future development opportunities in the self-storage space. A diverse blend of income and value-enhancing assets day 1, plus many opportunities that we believe as market conditions permit will underpin strong asset backing and income growth for the business over the medium to longer term. In storage, in particular, our investment thesis of investing and building contemporary modern properties in the best suburban and inner urban locations is continuing to deliver very strong occupancy and rental growth outcomes, and we believe we'll do this for years to come. Similarly, our portfolio of well-located CBD near fringe or suburban commercial investments has proven resilient, with many locations the subject of refurbishment and upgrade, presently or in recent times, resulting in strong customer attraction and tenant retention. As I said, the balance sheet now sees almost exactly 50-50 split between the 2 key sectors with our noncore legacy investments virtually nil. Following the exchanging of contracts to exit the last of our loans and mortgages exposure as we released earlier. The group's investment focus is now centered on medium- to long-term returns for each and every investment that we make -- have either made or will make to ensure that every dollar of capital we have invested is invested for the maximum long-term potential. This is a strict discipline internal, supported by the capability and experience of the team here at Abacus. In storage, in particular, we've had a dramatic uplift in the trading locations acquired over the last 3 to 4 years, and our operating team at Storage King, which I'll touch on soon, we continually monitor and plan for these investments to maximize the returns. We pride ourselves on our differentiated market position of being an owner, operator and manager of assets, either wholly owned by Abacus or with a set of strategically selected joint venture owners. Looking at the capital deployment slide you see in front of you, what a difference 4 years makes. A vast array of transactions, disposals and acquisitions, almost doubling our commercial property portfolio exposure and almost quadrupling our self-storage sector exposure. In particular, the game changer decisions to fully internalize the operating platform of Storage King at the end of 2020, we believe we'll deliver in spades for the groups for years to come. And considering the challenging macro conditions that have existed in both calendar year 2020 and '21, it's a testament to the capability and diligence of the entire management team at Abacus, well supported by the Board and our major investor. As we'll touch on shortly, the operating conditions across the portfolio, in particular, storage are very pleasing and underpin our confidence to continue to invest and develop this asset base and key sector focus of the group. I'll now turn over to our CFO, Rob Baulderstone, to take us through the key financial metrics.

Thank you, Steven, and good morning. As Steven mentioned in his overview, the group has delivered a funds from operation profit of $81.1 million. That was an increase of 33.7%. Some of the highlights in these results were commercial property FFO increased by 13.5% to $47.1 million. Self-storage FFO increased by 67.2% to $53 million, which was mainly driven by acquisitions and the internalization of storage team, which Steven spoke about. The distribution for the half was 8.75% to security. Turning to the balance sheet. At the period end, net tangible assets per security was $3.73, an increase of 8.7%. At the period end, our gearing was 29.4%. Our average cost of debt was 2%. We expect the average cost of debt to increase to around 2.25% for the full year. Moving to the valuations. The valuation uplift for the period was $175.2 million. The gain in self-storage was $140.8 million or 7.5% while commercial property was up by $34.4 million or 1.8%. The property portfolio is now valued at $4.6 billion, with an even weighting between our core sectors of commercial and self-storage. I will now hand back to Steven.

Turning to the operating performance related to those 2 key sectors of self-storage and commercial. As I mentioned before, and there's a lot of information on this slide, our operating results in self-storage are at all-time highs. It is apparent as it has been for the last year or 2 that a number of tailwinds are well supporting the uptake and increased utilization of self-storage with the greatest impact seen in suburban and inner urban locations where work from home, people wanting to declutter their houses, elevated transaction levels in the housing market along with business users, small and medium-sized enterprises looking to store e-commerce and home businesses needing to store their inventory. We also don't think it's a coincidence that contemporary developed stores which have a far higher quality fit out, look and feel has seen a higher level of customer acceptance and attractiveness and that has lifted materially across the period. This has translated in the last 2 years to exceptionally fast lease up and across the entire -- and that's in new projects that we've expanded or improved rental yields and occupancy right across the board. The COVID restrictions and lockdowns have variously impacted stores across the country and in New Zealand, but even so, most stores now are trading in positive rent roll growth territory year-on-year even in spite of that. Our largest positive contributors presently are in Western Australia, Queensland and the ACT. Whilst the slowest recovering areas, albeit still single-digit positive on a like-for-like rental yield perspective, are in New Zealand and down in Victoria. On the next slide, we've provided a lot of granular detail of the various categories of our portfolio, given the material changes of composition we have seen in the last 3 to 4 years. What a wonderful set of charts, this is showing you on our like-for-like portfolio, which is now 63 of our entire 105 trading locations where we see positive rental rate growth right across the board. As I said, the confluence of strong occupancy and customer demand and acceptance is resulting in rental yield uplift in almost every market. We do expect this trend to continue for some time, and the trajectory as we see it is the strongest we've ever seen with so many tailwinds supporting, something not many predicted as we entered into the COVID impacts in early to mid-2020. Looking at the operational performance, we have a fully motivated and energized workforce across our Storage King operations. Their local market knowledge and passion for winning the consumer are to be applauded. As luck would have it, in early to mid-2020, we saw a dramatic increase and uplift in our online presence, upgraded systems and our user interface. This has resulted in many pleasing results. Website traffic on the last 6 months, up over 4%. Our online sales of storage up 49% on the previous 6 months which is as a result directly of those website enhancements and improved user experience. Online merchandise sales up over 184% on the previous 6 months with a combination of expansion of the product range and introduction of free delivery to our consumers. We've launched several new TV commercials, the most recent one you can see there on the screen. And allied with a national brand campaign in January, which all builds on Storage King's market-leading brand awareness. At the individual store level at our mature locations, as well as our new development and expanded stores, we are going through a brand refresh program and retail merchandise upgrade. Looking at the portfolio, there has been a very dramatic lift in a number of locations, negotiated, sourced, contracted and settled and with an increased focus in the last year or 2 on development sites that are available to us as conditions permit that will deliver these new contemporary large-scale locations to underpin our whole portfolio's income and capital growth prospects. These developments available to us, whether it be greenfield or brownfield locations, locations of our choosing rather than accepting compromise locations buying on market. The new development locations, as I mentioned, are experiencing far quicker and quicker lease-up demand from customers and once close to full are seeing increased rental yields well accepted. With this demand for well-operated, marketed and equipped infill suburban locations, outstripping supply, we see it as a structural change in the market for sure. For Abacus, this has been the main achievement of the last few years with our material increase in dollar exposure invested in this sector at a time when operational performance has been sustained at the highest levels, plus an increased investment demand for the asset class, seeing cap rates compressing materially. We believe mostly the locations we're adding provide a strong path to income growth, which will underpin value through all market cycles and conditions. Turning to the commercial portfolio, which is a blend of office and retail. Our commercial office portfolio is continuing to deliver solid growth. And we fully believe it's a testament to the quality of the locations in which we're invested and the caliber of our small- to medium-sized tenant business partners. Mostly over the last 2 years, we've seen that tenant base small- to medium-sized enterprises proving very resilient and sticky to their individual locations. As well with an active and refreshed asset management focus here at Abacus, including enhanced close tenant relationship management that has delivered as well for the business. As the markets open up variously across the country, we're seeing a strong resurgence of tenants reengaging, either in-place tenants looking to expand and renew and extend their agreements or new tenants seeking to establish in the locations, for example, where we are either building new or renovating and remixing space. Incentives remain in line with the previous period, somewhat abating here in Sydney and with a clear focus on amenity, tenant facilities, public transport connections by consumers. We're cautious on the Brisbane and Melbourne markets with elevated supply levels and backfill spaces where we have -- and we have a clear skew towards the Sydney market in the right locations with the right rental structures in place. Turning to retail. Of all the sectors, it's clear that retail has been impacted by far the most variously across the markets as the COVID lockdowns and retailer adjustments have rolled through. Our properties being predominantly food-anchored and nondiscretionary have fared okay. And with only 200 tenants in total across the portfolio, we believe that certainly helps. The biggest question being asked constantly and yet to be determined in some cases is what demand is there for the location, what are the viabilities of the businesses in that location. And that is something that we see is certainly not homogenous across the market nor easily established anytime soon. Looking at capital transactions and developments. We've been busy across a handful of projects and also completed a number of acquisitions of assets in several exciting quality, long-term locations, including our exchange soon to be settled acquisition of the office complex at 77 Castle Street, right here in the center of the CBD of Sydney. And currently, we have only 2 small development projects approved yet to complete, being our new build in Church Street Down in Richmond, which will result in about 19,000 meters of NLA on completion owned in partnership. And owned outright our building at Abbotsford in Johnson Street at Abbotsford, which will result in about 14,500 meters of net lettable area. Both of these projects with under $20 million yet to spend. In our various partnerships, we've discussions and plans afoot to upgrade and expand buildings, such as 201 Elizabeth Street in Sydney and most recently with the Walker Corporation, the options for refurbishment of the good shed and also development above 710 Collins Street down at the entrance to the Docklands with more details and information to come in future reporting periods. Sustainability with every acquisition project we undertake and in keeping with the asset plans for each investment we have, our platform is integrating sustainable practices and strategies be they energy use, waste, water and consumables, our greenhouse gas emissions. We've enhanced our governance structures across the business, and we'll continue to focus more and more on sustainability with a refreshed and redrafted Board committee charter and attracting some new talent into this area into our teams. Turning to the summary and the outlook for the business. The group is extremely well positioned, as I said, with a market differentiated strategy to be an owner and operator manager of 2 key sectors and asset classes that through this cycle of volatility are delivering good income growth today and projected into the medium to long term. As an investor and owner, we will continue to be nimble, active and networked into the market to assess and crystallize opportunities as we see fit. We will continue to be disciplined and judicious as to where we're invested, the assets in those locations, whether we should increase or decrease our exposure and manage our balance sheet conservatively. We believe entirely appropriate for the volatile macro conditions that exist. It's pleasing for us to be able to provide our investors the guidance that barring unforeseen market dislocations and especially not further protracted pandemic lockdowns, et cetera, we are confident of being able to deliver a distribution for investors for the full year '22 of at least $0.18 per share with a previously advised -- within the previously advised payout ratio of 85% to 95%. We will continue to reassess our business operations for the outlook into the next financial year and provide guidance on that year at our full year results briefing in August of '22. That concludes the presentation of the results, and we will now turn it over and take any questions that you may have. Thank you.

[Operator Instructions] The first phone question comes from Caleb Wheatley from Macquarie.

My first question is just on guidance. So conscious you provided an expected cost of debt for the year. Are you able to provide any additional color on components, particularly with respect to underlying growth in the subsectors. Any potential earnings would be recognized from property development. And any expectations around COVID-related impacts, please?

So in the second half, we're not expecting further COVID impacts. We obviously still have arrears in each of commercial and retail to collect from the first half. But we don't expect -- even though there is obviously code mandates in place in 2 bigger states until I think it's March, middle of March. We're not forecasting further COVID impacts. In respect of debt costs, I think we're cautious of the environment. We're clearly facing underlying interest rate lifts. And I think that's something that we continue to monitor and take advice on where those forward curves are sitting, but we're just factoring in some conservatism there. As far as the growth on the individual segments, we're not providing that growth at this stage. I think your comment about the development income, I think FY '22 will be the last of that development income as part of a segment and that comes with the extinguishment of those loans and mortgages, which we're expecting subject to all the CPs being completed over the course of the next month or 2. So that will see that segment go to 0 and not be in existence in the next financial years.

Sure. But we should expect some earnings out of that noncore portfolio in the second half, albeit tons lower than the first half, given that wind down?

Yes.

Sure. And then if I take the $0.18 per share or at least $0.18 per share dividend guidance, then applied to payout ratio range is a spread of about 11% or 12% on an implied FFO guidance basis. What sort of variables should we be thinking about in regards to, I guess, the spread between the high and low end of that range?

I think we've got a wide payout ratio. And I think looking at where we've got capital uses with projects either that we're committed to in a small number of instances or projects that we might initiate, we'll see us bring the payout ratio down. I think whether the average payout ratio continues at the lower level, our preference is being given we're quite conservatively geared to run at a higher payout ratio. And I think we're just giving ourselves some flex in the balance sheet as we now have basically the entire balance sheet invested in those income-producing assets. So it is really just giving ourselves that flexibility.

Yes, sure. The second question, just around the tax expense in the first half. It looks like it picked up quite significantly to about $6.8 million despite the wind down in the property development segment. Could you just provide some color around what's driving this? And how we should think about it once that segment winds down in this half?

Yes. I think the major impact there is the impact of the Storage King ownership, the ownership of the operating platform of Storage King. We can perhaps provide you some color on that, more detail on that.

That's fine. And final question for me, just around funding. So pro forma gearing now at about 33%. You've stated that internal maximum of 35. How should we be thinking about funding growth from here? Albeit would Abacus look to potentially recycle some assets? Or are there other sources of funding you might look to consider from here?

Yes. So we do have -- we do have some initiatives underway. The recycling of assets is real. As we basically look at what assets are on the balance sheet and what do we want to be on the balance sheet in the medium to long term. And initiatives such as the Virginia Park Business Park down in Melbourne in partnership is one that you'll see come to market shortly. So yes, we're constantly going to the top of the portfolio down to the bottom and cycling back again. So that's something that we will continue to do, as I said, to basically continue to confirm where it is we're invested and how is that capital working for us in the medium to longer term. We do have some -- also some commercial assets that we've been actively improving and re-leasing over the last few years, which we believe may have peaked in their operating conditions, WALE and tenant attractiveness, which we may look to shift as we see better opportunities in more strategic locations. So that is an active work by the team, the asset management team in commercial.

So it sounds like the preference then is to, I guess, refine the existing portfolio rather than to grow it in dollar million terms? Is that a fair conclusion?

Yes, I think we have identified in both sectors that product creation through investment, whether it be development or enhancement and renovation, delivers the far best returns for us and is the best use of our capital. So you're seeing us build in a pipeline of opportunities in storage, for example, projects that we can pull off the shelf for years to come in locations that we have identified. So -- and similarly, in office, particularly retail, to a lesser degree, Ashfield really being the only property that we've got works planned, although up at Oasis on the Gold Coast, conversion of some of the upper-level retail space to commercial is an active consideration. But certainly, investment into the assets we've got is our best use of capital.

The next question comes from Alex Prineas from Morningstar.

We've had some other sort of interesting commentary in the market this week from some other office REITs. One of them was saying that of tenants that renewed, of the big corporate tenants that were cutting about 25% of the floor plate. And another rig, I said to say they didn't experience that and that most tenants we're keeping the same space or increasing. I was wondering what you're seeing in that regard in terms of renewals are they -- what level of floor plate are they hanging on to?

Yes. I suppose it's a little bit bespoke for our portfolio. But as I said, our portfolio predominantly is occupied by small- to medium-sized tenants. We have very few multi-floor tenancies across the entire portfolio. And we've seen quite strong and positive [indiscernible] by in-place tenants to extend their term in place. And we've seen that across the spectrum from smaller to more midsized tenants. One of the notable reductions in space, and it was one that we actually encouraged and are happy for is Computershare down in Melbourne, which has literally halved its office space. It had a vast tract of office down there, 16-odd-thousand meters, some of which was not utilized. We've compressed them now to just under 8,000 meters and we're retenanting and reconfiguring the space, the balance of the space, but we proactively drove that. And actually, it was 2 or 3 years ahead of expiry on that lease. But as far as that corporate reduction in footprint, we do not have a tenant basically that has the sort of footprint and locations that, that refers to. So that doesn't refer to our portfolio or impact our portfolio.

One of the other trends that was observed elsewhere was smaller tenants moving from fringe locations into CBD prime grade buildings. Is that something that you're seeing?

I think that's certainly a trend where there is a disparity in the rent levels, fringe to CBD, and that most dramatically is in the Sydney market. I think in the case of Brisbane and Melbourne, we've not seen that trend so much. And we do own fringe buildings in all 3 markets as well as CBD buildings. I think for us, it is building specific, but we're aware of that commentary. And we think it gets back to tenants assessing and judiciously selecting locations for their buildings and for their tenancies. And that really is looking at the amenity of the building, the precinct, the public transport connections and even the wellness security ventilation of the building, that is certainly that is coming up more and more in tenant discussions and tenant representative discussions.

The next question comes from Richard Jones from JPMorgan.

Steven, I have a few questions, if you don't mind. Just firstly, on Slide 5, just interested in the $247 million increase in other self-storage investments. Is that is it the other things in that?

Valuation movements, valuation movements.

It's valuation movements. Do you mark-to-market that position?

Yes.

Okay. Second question, thanks for splitting out the breakdown of the storage portfolio to stabilize acquisition and established. Just interested similarly in office, your operating stats are all based on nondevelopment assets I think is how you classify. Just what proportion of the office portfolio is considered development assets?

It's pretty small. We'll get to the proportion. Yes, it's the same as last half, Richard. It's, I think, only 2 or 3 properties, and we'll get to the percentage, if you like. 464, 201 and that might be it. Maybe Abbotsford.

So just on those 2 developments you called out, Richmond and Abbotsford. Can you just give us a leasing update and remind us on completion of those 2 projects?

Yes. So Richmond is about 70% pre-leased. It will have practical completion in March, April. There was actually a variation, an extension of time claim because of the lockdown and the prohibitions of proportions of trades that could be on site in Melbourne in the latter part of '21. We're about 70% leased. The building is in great shape. We've got discussions over the balance of the space. We're extremely happy with the outcome down there, the tenant mix, the look and feel and the construction quality is superb on that building. And valuation very much supported by the acquisition by another REIT of the building over the road, which added nicely to our development profit and valuation on the building. So very happy with that Church Street Richmond. Similarly, Abbotsford, if you drive past Abbotsford today, there's a lot of work happening. We've compressed Computershare and fitting out their new space at one end of the building. And we have -- we're early-stage works to create the tenancies in the balance of the building, and that's to be leased. So we've got about 7,000 or 8,000 meters of space to lease in the balance. And we've got early interest on some of that space. But our key tenant being Computershare is locked away for a further -- for a new 10-year period, and the building looks sensational compared to what it was historically. They're the only 2 projects, Richard.

Sorry, I was on mute, sorry. Just your thoughts on Riverlands and Camellia that you converted from a loan to an equity holding. Can you just update us on your thoughts on that 2 landholdings?

Well, it's as per previous periods. We're in planning, particularly in the case of Camellia the government's called submissions on the master plan, and we're fully expecting at some point that there will be a decision made on Camellia. There's, I think, unanimous all parties in agreement that something has to happen. And we're not settled yet on that acquisition, but as a 100% owner, it will be our role to manage that process and once rezoned, look at how that's subdivided and decontaminated and that sort of work for the next 2, 3, 4 years as it falls out. In the case of Riverlands, our major activity there is waiting for our partner -- sorry, our adjacent neighbor who acquired almost 18 hectares Mirvac. And they've got development submissions and rezoning on their block. And we're hampered in some ways not to start on our side until such time as they get going on their side. And we're not unhappy with that because we believe they will add materially to the value and amenity of the area. So that's the 2 parcels. So they're now part of the commercial team managed in-house.

Any expectation that you would do land sales in those 2 parcels at the right time. Is that for...

I think in the case of Camellia, there's a potential for development of either storage or commercial. In the case of Riverlands yet to be determined, really. I think that needs to play out with the neighboring estate just as to what the best use -- highest and best use of that, it's 50 to 60 hectares, a majority of which is actually a flood plain of the river. But we're excited at what Mirvac will do to the adjacent estate. So they are medium- to long-term holds but they'll be actively managed to land the way to maximize the value for us.

[Operator Instructions] The next phone question comes from [ Ed Day from MA Financial ].

Just a couple of quick ones for me. On your capital management, your hedging is relatively low compared to peers. Can you just firstly talk through whether you have a hedging target? And secondly, how we might expect this to sort of evolve over the next 6 to 12 months?

So Ed, we sit at around 50% hedging today and the band that we have upper and lower band is in sort of 40 to 90. We've given ourselves plenty of scope on that. So we're comfortable where we are, given where markets are, but it is something that we do take external advice on and manage quite closely.

Okay. And then just on your storage development. You mentioned you're seeing exceptionally fast way out of development site. From memory, you sort of work to about a 2-year time frame or 2- to 3-year time frame. Are you -- can you give some color, I guess, as to what you're experiencing on recent development?

Yes. I think it's been 2 to 3 years is exceptionally quick. That's sort of what we're experiencing at the likes of Brookvale in Sydney, Pymble in Sydney as well as Robina on the Gold Coast and Rowville down in Melbourne. Historically, it was always anticipated 3 to 4 years was the typical lease up for storage. But I think the important point as well is that even with the accelerated lease-up, it's being done at higher rent levels. And that, we think, is the structural change that the customer is better accepting of newer, shinier, infill locations, and that has given us that real confidence to proceed and start to accumulate some land and as I said, greenfields and brownfield opportunities to undertake those developments in years to come and create the product rather than buy existing product that might or might not be in the right location or in the right configuration.

And finally, just you mentioned you were cautious on Brisbane and Melbourne office markets. I'm not sure what percentage of your leasing was done in those markets during the period. But can you just give us a bit more granular detail around the metrics on leasing deals you've achieved in those markets?

Yes. We haven't actually done a lot of leasing in -- and mainly it's because of the asset profile we have in Melbourne, other than obviously the new builds, Church Street and Abbotsford. So Melbourne is more when we see supply and new supply coming into the market backfill space numbers as is being reported presently that is concerning. And it mostly impacts us and sort of jaundiced our view, if you like, on acquisition due diligence and investigation of opportunities. Up in the Brisbane market, again, we're seeing increased from elevated levels, we're seeing increased levels of supply and new buildings being proposed, approved and commenced almost on a weekly basis. So we have, as you know, disposed of some assets in Brisbane 444 Queen Street, we sold. And we've still got exposure in Brisbane, but we are extremely cautious. We've owned assets in that market for a long time. And we don't have a big team on the ground development or leasing. And we just remain cautious about not being the victim of people stealing tenants and looking to pre-commit or get precommitments for new builds at our expense. So that's really the basis of the caution.

The next question comes from Suraj Nebhani from Citigroup. Suraj has actually just removed his question. At this stage, we're showing no further questions, I'll hand the conference back to Mr. Sewell.

Thank you very much. Thanks, everybody, for the questions. And I realize it's a busy day, and I appreciate you dialing in. Have a good day.