Arena REIT (ARF) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Arena REIT Half Year Results Conference Call. [Operator Instructions] I would now like to hand the conference over to Mr. Rob de Vos, Managing Director. Please go ahead.

Good morning, everyone, and a very warm welcome to Arena REIT's results presentation for the half year to 31 December 2021. Before commencing our presentation, I would like to acknowledge the traditional custodians of the various lands on which we gather today and recognize their ongoing connection to land, waters and community. Arena's announcement, investor presentation and financial statements were released to the ASX earlier this morning. My name is Rob de Vos, Arena's Managing Director. Joining me on the call today is Gareth Winter, Arena's Chief Financial Officer. Today's presentation will include an overview of the highlights for the half year and an update on our performance against Arena's investment objectives and our business strategy. Gareth will provide insight into Arena's financial results and capital management position, and I will close the presentation with an update on portfolio operations and commentary on Arena's outlook. As always, there will be an opportunity for questions at the end of our presentation. Moving into the presentation on Page 3. And I'm pleased to report that first half of financial year '22 has been another successful period for the business. We've performed well against our investment objective, achieved strong investment outcomes across the portfolio and facilitated ongoing positive outcomes for the many communities across Australia that use an Arena property for their early learning or health care needs. Our highlights for the period include a record statutory profit of $185 million and underlying cash-based net operating profit of $27.5 million, which is up 11% on half year '21. We've seen strong valuation growth across the portfolio, reflective of ongoing demand for real estate that accommodates the central community services, contributing to an increase in net asset value, which is up 18% since June. We've made good progress on our renewable energy installations across the portfolio and against our financial year '22 sustainability goals. We've acquired 1 new early learning center on completion and completed 3 early learning center development projects and replenished our development pipeline, which now includes 19 future projects that will provide community access to 2,000 new early learning places. Gearing is under 19%, providing balance sheet capacity to take advantage of further new opportunities that are consistent with our investment objective and strategy. Earnings per security was $0.0797, which is up 10% on first half of financial year '21, and we have distributed $0.079 per security and are pleased to announce today an upgrade to full year distribution guidance to $0.16 per security, reflecting an increase of 8.1% on financial year '21. Moving to the next slide. And underpinning those achievements made in the first half is Arena's consistent approach, strong industry relationships and high conviction on maintaining our discipline and executing on our strategy. Highlights for the period under the team's key focus areas. We've sold 2 early learning center properties that relative to the balance of the portfolio were older and less efficient for total proceeds of just over $10 million and a premium of 15% to book value. We've seen strong valuation growth across the portfolio of $153 million for the half year. Passing yield for the portfolio is now at 5.14%, having compressed by 63 basis points from June. Our long WALE has been maintained at just under 20 years, and we've also maintained 100% occupancy across the portfolio, which has been the case now for 6 consecutive years. And this achievement highlights the overall quality of the portfolio, the need for the services we accommodate in the community as well as the proactive asset management programs undertaken by the Arena team. Average like-for-like rental increases across the portfolio for the half was 3.6%. And post balance date, with agreed terms to extend leases on 21 properties by an average of 5 years to facilitate solar installation and access to energy consumption data. During the period, we made good progress on our renewable energy program that is focused on collaborating with our tenant partners to install and promote the use of solar and reduce the energy intensity of our portfolio. Not including the post balance date agreement, we have now over 75% of the portfolio using or in the process of installing the renewable energy. In relation to the relatively small rent relief program struck in financial year '20, all of our tenant partners remain compliant with those agreements, and we've received 100% contracted rent through the year. We've completed 3 early learning center developments with existing tenant partners. These projects had a total investment cost of $16.9 million and a net initial yield on all costs, including transaction costs of 6.4%. We've also replenished our development pipeline with the acquisition of 8 new early learning center development sites. Each project has been committed on a new 20-year triple net lease. We've acquired 1 operating early learning center in metropolitan Victoria on a new 20-year lease at a 4.7% initial yield on all costs. And we've agreed to buy a further 6 operating properties in South Australia post balance date with an existing tenant partner on new 25-year leases and an initial yield on all costs, including transaction costs of 5.6%. Now moving on to Slide 5. Arena released its 2021 sustainability report during the period, which provides the detail on our commitment to strategies that address sustainability challenges and opportunities faced by our business and our stakeholders. We've made good progress in the first 6 months of the year on these strategies, including a material increase in the use of renewable energy, reducing our tenant partners' utility costs and reducing negative impacts on the environment. We've increased our stakeholder engagement, which has allowed us to collaborate and create partnerships for positive change. We're currently working on plans to further reduce carbon emissions for our organization and for our portfolio and to align our reporting with TCFD. Our partnership approach promotes ongoing business and mutually beneficial outcomes for our stakeholders, including, importantly, for our team, where we are working on extending and reporting on employee initiatives to retain and attract the best resources and maintain a strong culture. If we do all of these things well, not only will we achieve positive sustainability outcomes, we'll also achieve positive commercial outcomes, and we will continue to broaden our universe of capital providers with a growing number of investors seeking better sustainability and social impact attributes from the businesses they invest in. And in that context, Arena is at the start of a journey and our view, very well positioned. Moving on to an update on the COVID impacts on the business on Slide 6. And like all of us, we had hoped to be on an improving health trajectory in the latter months of the half. Obviously, this was not the case with the resurgence of COVID-19, requiring our tenant partners, our team, contractors and service providers to again adjust their processes. And on behalf of the Arena team, thank you to all of the stakeholders for their tenacity and professionalism they have shown over this period. As Arena's portfolio exclusively accommodates the central community services, we've been somewhat sheltered from the financial impacts that other businesses are dealing with. We are acutely aware of the challenges that the resurgence of the pandemic has had and is continuing to have on many of our stakeholders. At an operational level, all of Arena's properties continued to trade over the period, delivering essential services. We've received 100% contracted rent for the 6-month period and therefore have no arrears. Progress on our development and origination programs has largely been unaffected to date. And looking forward, our medical centers will continue to play an important role in assisting the national vaccination program. Like many parts of the economy, but particularly through social services, the most evident impact on our stakeholders currently is the shortage of educators in the early learning sector, which for anyone that has been following us for the last few years would know has been an issue that we've talked about for some time and is an issue that is becoming more pressing living with COVID environment. Operators, including our tenant partners, are needing to pay more, engage more, train more, to attract and retain a good team. In our portfolio to date, the extra cost of labor has been absorbed by higher operating revenue, but it remains an area of key focus for the industry in relation to both containing costs and maintaining and improving overall quality of service. One consistency through the pandemic is the efforts by both state and federal government to ensure that early learning services remain open and continue to improve, not just for now, but for the important contributions they make to our current and future communities, allowing parents and carers to join or get back into the workforce, providing opportunity for better financial security as well as the benefits from increased socialization, including the emotional well-being of preschool children. In addition to the increased government funding coming into the sector next month, we're likely to see early learning to be a focus point for both major political parties in the lead up to the next federal election. And with that, I'll now pass you over to Gareth to provide some detail on our financial results.

Thanks, Rob, and good morning, everyone. Just turning to Page 8 of the presentation, where you'll find a summary of Arena's operating income statement for the half, which shows an 11% increase in net operating profit to $27.5 million and a statutory profit of $185.8 million for the year -- I'm sorry, for the half year. A reconciliation of net operating profit to statutory profit is included in the appendix of the presentation, with the most substantial item being the periodic revaluation of investment property. Operating EPS of $0.0797 is 10% higher than the prior period and in line with our expectations for the first half. The key driver of the increase in operating profit is the 15% increase in property income, which has been derived from a combination of rent reviews, capital deployment. Like-for-like rent reviews averaged 3.6% for the half, noting that 87% of rent reviews in FY '22 have a direct link to CPI outcomes, with CPI being the minimum amount of the rent review. With recent volatility in CPI, this provides Arena with inbuilt inflation protection through our net cash flow. Arena's ongoing program of investment in ELC developments, the new acquisitions contributed to earnings via capital deployment of $48 million to date in FY '22, including the completion of 3 ELC developments and the acquisition of 8 new ELC development projects. It's also the acquisition of 1 operating ELC in conjunction with the tenant partner. And as noted in the announcement today, terms are agreed on the acquisition of 6 operating ELCs in conjunction with the tenant partner post 31 December. We have also continued our program of selective capital recycling with the proceeds of $10 million from the sale of 2 ELCs during the half at a 15% premium to book value to be reinvested into our new developments. Some specific comments on rent collections for the half year. Arena's portfolio has demonstrated high resilience throughout the pandemic. There are no rent arrears and all contracted rent has been received, including the collection of 600 of deferred rent in the first half. You may recall that our COVID-related rent deferrals were relatively short term, with the remaining balance of deferred rent of $1.5 million to be received by December 2023. Deferred rent has been previously recognized as income and is booked as a receivable with only the cash to be collected. Just turning now to some other line items. The property expenses have primarily increased during the period due to additional allowances for independent valuations and some property inspections from growth in the portfolio. There was a relatively modest increase in our operating expenses compared to the comparative period from FY '21. This increase is due to the cost increases from the scale of the platform such as corporate insurances, custodian fees and building our ESG capabilities but is also substantially due to the implementation in FY '22 of the outcome of an independent remuneration review completed in late FY '21. The objectives of that review were to compare the structure of Arena's remuneration framework, including incentive programs, against contemporary market practice and to benchmark each role in the Arena team to market to ensure remuneration recognize their skills, experience and appropriately structured rewards to performance-based outcomes. And importantly, in the current environment, to also assist with the staff retention. I note that it's been 4 years since the last independent rem review was performed. Pleasingly, and this points to the benefit of the internalized management platform, is that the property revenues have increased by $4.1 million in the half. The cash OpEx increased by less than $600,000. And our cash MER remains less than 40 bps. The increase in finance costs is the natural outcome from the completion portion development in FY '21, which moved them from capitalization of interest in WIP to operating and the commencement of leases and rental payments. Our overall cost of borrowing is stable with a slight reduction of 2.6% compared to 2.65% at June '21. The higher statutory profit of $185 million is primarily due to the growth in net operating earnings and the positive asset revaluations of $153 million at December, representing a 14% increase from 30 June '21. Arena's FY '22 distribution guidance was initially set at $0.158 per security, representing growth of 6.8% on FY '21 with the further deployment of capital in FY '22. We have updated distribution guidance today for total distributions of $0.16 per security, representing growth of 8.1% on FY '21. We expect that our final payout ratio will be consistent with recent years. Just turning to Page 9, the waterfall chart of EPS for the half year. The chart demonstrates the relativity of the individual items supporting EPS growth, adding the impact in FY '22 to date of the key drivers of growth being rent reviews and the deployment of capital. Turning to Page 10. This slide represents a summary of Arena's balance sheet. The full balance sheet is in the appendix of the presentation. Key points to note, growth in total assets is primarily due to the $50 million invested in acquisitions and development in the first half and the asset revaluations of circa $150 million, which is also the primary driver of the 18% increase in net assets per security. Net gearing at just under 18% and under 19% is well below Arena's maximum gearing range of circa 35% to 40%. However, this level of gearing provides substantial liquidity to fund the existing pipeline of developments will enable us to continue to take advantage of growth opportunities at a low incremental cost of capital and also provides a buffer around any future market volatility. Turning to Page 11, capital management summary. Our project capital management continues to prioritize resilience and risk reduction through relatively low gearing, high levels of hedge cover, regular extension of debt facility term and maintaining immediately available liquidity in excess of our development commitments. During the period, our debt facility was expanded by $100 million. And at 31 December, we had $155 million of immediately available liquidity through the debt facility to cover our $70 million of future development commitments. This liquidity, in combination with our modest gearing, allows us to actively consider further growth opportunities such as the 6 ELC addition announced today. The weighted average debt term is 3.9 years with no expiry before March '24, and we recently extended our March '25 expiry out to March '27. The all-in cost of debt, as I've mentioned, has reduced to 2.6% with interest rate hedge cover at 76% with a weighted average term of near 5 years. The relatively long-term hedge cover, combined with the natural inflation protection provided by rent review mechanisms that are directly linked to CPI outcomes, provides us with substantial protection of our net operating income in an environment where interest rates may increase. Finally, it is important to note that Arena is operating well within the requirements of our debt facility, and we have very substantial headroom in both our LVR and ICR covenants. I will now hand you back to Rob, who will give you an update on Arena's property portfolio.

Thanks very much, Gareth. I'm now on Page 13. As at 31 December, Arena owned 256 properties across Australia with a value of $1.3 billion. The portfolio is approximately 67 hectares of predominantly residentially zoned land with improvements that are almost exclusively purpose-built for our tenant partners to provide essential services to Australian communities. The portfolio is 100% occupied and with an exceptionally strong occupancy record having had no vacancy in 6 consecutive years. It has the longest contracted rent profile in the REIT sector at 19.8 years with annual rent escalations that provide inflation protection. The portfolio has low single asset concentration with the largest asset by value and income representing only 2% of the portfolio. The passing yield is 5.14%, which has seen compression of 63 basis points in the last 6 months, which added with rent increases has provided valuation growth of just under 14%. The land and building rate remains under $1,950 per meter, which looks like compelling value when measured against other real estate asset classes. Sector diversity for the portfolio sits at 87% for early learning and 13% for health care. Whilst we'd like to see more health care exposure, we currently see better long-term risk-adjusted returns in early learning center opportunities. In terms of tenant diversification, we continue to improve our spread of tenant partners, now totaling 33 with 27% of Arena's income supported by Australia's largest early learning provider, Goodstart, which is an average lease term in excess of 30 years across over 100 properties with us. Moving on to the lease expiry profile. And as you can see in the graph on this slide, with no expiries this financial year, and in fact, less than 2% of the portfolio's income expiring prior to financial year '21. And beyond that, no material concentration of expiries in any year and over 30% of portfolios income expiring beyond financial year '44. There's very long-term cash flows that have annual escalations providing income growth and inflation protection to our security holders. 100% of the leases are triple net with no exposure to variable property expenses, so highly efficient and highly predictable. And every one of our early learning center properties and our SDA properties provide us important business operating information data that assists us in our asset management and capital allocation decisions. And this has been an important tool in assisting the portfolio to remain 100% occupied for the last 6 years. You can see on the right-hand side graph on the slide here that the portfolio WALE has increased by over 10 years since 2014, which is a reflection of both development completions and partnering with our tenants on the existing portfolio. The outcome of which is obviously consistent with our investment objective of providing long-term distributions to our security holders that are highly predictable with the prospects for growth. Moving on to our rent review profile on Page 15. Here on this slide, we've broken down our rent review structures for the first and second half of financial year '22 as well as the full year '23, '24 and '25. Our average like-for-like rent increase for the first half of this financial year was 3.6%, which was made up of 41% of the higher of a fixed amount or CPI. And of those, predominantly, they were CPI-based escalations given the increase in inflation during the period. 6% was CPI only, 7% were fixed reviews and 1% were market rent reviews, which were completed at an average 6.5% increase. It's a similar profile for the second half of this financial year with a slightly higher exposure to market rent reviews, which have all been resolved at a 6.5% average increase. Looking forward, we have a similar profile of annual rent reviews in financial year '23, '24 and '25, with over 80% of escalations being higher of CPI and a [indiscernible] market rent reviews. If you add the higher of a fixed amount or CPI being the bottom of the blue shade and the CPI only in the dark gray shade, you can see that the financial year '23 has nearly 90% of income that will escalate at least as high as CPI and a relatively small exposure to market rent reviews, all of which are capped and [indiscernible] between 0% and 7.5% increase. Financial year '24 has a higher exposure to market rent reviews totaling 15.6% of that year's income. All of those reviews have a collar at the passing rent. In other words, the rent can't go backwards, and half of those reviews are subject to a capped increase of 7.5%, whilst the other half of those market rent reviews have no cap on an increase. I think the main point of focus on this slide is that our discipline in new deals of maintaining an escalation profile that is typically the higher of a fixed amount or CPI will provide the better rent growth outcomes for our investors in a high inflation environment as well as protection for low inflation environments, both of which need to be considered when initial lease terms are up to 25 years in duration. Moving to Page 16. And our acquisition and development programs continue to perform to our expectation. We've secured a targeted pipeline of quality early learning center development projects that will address community need, complement the portfolio and deliver future needs. We acquired 1 early learning center on completion in the growing suburb of Werribee in metropolitan Melbourne had a yield on all costs, including transaction costs of 4.7%. It's a larger center at 160 places and is performing well in its early ramp-up of occupancy. We've also completed 3 early learning center development projects in the half at a total cost of $16.9 million and a yield on all costs of 6.4%. This project was completed with an existing tenant partner, 2 are located in metropolitan Brisbane and 1 in metropolitan Melbourne. All of them are strategically positioned in their local catchment and are meeting our and our tenants' partners expectations in early ramp-up of occupancy. Post balance date, we've agreed terms for the acquisition of a portfolio of 6 new operating centers in South Australia with an existing tenant partner on a yield of 5.6% and a total cost of $38 million. The initial lease term for these properties is 25 years. Looking forward, our development pipeline has 19 early learning center projects that are located in Queensland, Victoria, South Australia and New South Wales, with a total forecast cost of $122 million, of which we have capital expenditure outstanding of $71 million. We anticipate that the average initial yield on all costs for these development projects will be 5.9%. Each of these development projects are being undertaken on a fund-through basis, and we've secured agreement for leases with existing tenant partners on every project in our standard 20-year triple net lease format. Arena is a leader in early learning center development and had an enviable record in executing on its development pipeline. Over 1/3 of our early learning portfolio has been developed by us since listing in 2013. In that time, we've completed 57 developments with 14 tenant partners across all states and territories, except the ACT. Those development projects have delivered increased community amenity as well as unrealized gains of over $100 million through December and in excess of $20 million of annual rent. Moving on to the next slide, just the ELC operating environment. As is well being publicized, the federal government support of the early learning sector through the pandemic has been significant, and for the very most part, well designed and well received by operators that required support particularly through the COVID lockdown periods. Both major political parties and Australian communities more generally recognize that a well-performing early learning sector is integral to assisting parents and carers and particularly females join or get back into the workforce in the short term and on an ongoing and sustainable basis. There's also a fundamental service to assist workforce productivity by supporting employers in attracting and retaining employees in a tightening labor market. And there is a growing awareness of the positive lifelong learning prospects of children that attend early learning services and the broader role that plays in creating a more socially and emotionally well-adjusted community and a more qualified and productive workforce in future generations. The macro drivers supporting early learning sector continue to be positive with a lower unemployment rate and increases in female workforce participation. And in relation to supply, net new supply of early learning centers was down marginally, as measured against the last 5 years in the last 12 months. So across the country, there was a net addition of about 253 centers, which is net growth of approximately 3.1%. Moving to the next slide. In that context, Arena's early learning portfolio is in a strong position. We are 100% occupied. We've collected 100% of contracted rent through the first half. Every one of our early learning centers is open and trading. And every one of those centers provides us business operating data, and that data provides us important information that assists asset management and capital allocation decisions as well as provide insight into the general health of the sector. As we've done in previous reporting periods, we've included operating data up to the quarter prior, and that data provides average underlying operator occupancy has increased from September '20 to September '21 to record the highest rate in our portfolio in the last 5 years. Daily fee growth has also increased to reflect an average of $117 per day, which remains below the government's benchmark fee of $135 per day. As you can see on the graph at the bottom of the page there, the government funding package continues to suit our early learning center portfolio and is typically geared towards middle-income families. And to give that some context, over 90% of our early learning centers have daily fees under the government's health care subsidy benchmark fee as at September. Our average rent per place across the portfolio has increased marginally to $2,606 per place, and given we've developed more than 1/3 of the portfolio over the last 6 years, remains highly affordable in our view. Despite rent increases across the portfolio, rent affordability has improved for our tenant partners on a net rent to gross revenue ratio reducing to 10.3% as at September. Moving on to the next slide. Our health care portfolio continues to perform well. And like early learning, the macro trends for health care remain compelling. A higher number of people are moving into older age brackets and a higher proportion of the population is living with chronic illness, which underpins an increased need for health care services and the infrastructure to accommodate those services. We continue to see increased investor interest in the Australian health care property market, which has reflected an increase in the asset values for our health care portfolio. And whilst we continue to be attracted to new opportunities in the health care property market and aspire to grow this part of the portfolio, we currently see better long-term risk-adjusted returns from early learning acquisition and development activity. So we'll continue to participate in health care opportunities as they arise, but we'll be disciplined on our approach. Ultimately, we're looking for quality over the long term that will support our investment objective on a sustainable basis. Moving on to the outlook. And today, we're announcing an upgrade to our full year distribution guidance to $0.16 per security, an increase of 8.1% on financial year '21. The portfolio is in a strong position, 100% occupied, 100% of rent collected, a very long WALE with a transparent, highly predictable rental profile that has inflation protection. Short- and medium-term income growth is underpinned by those contracted annual rent increases as well as the impact of our financial year '21 and financial year '22 acquisition and development completions. Medium- and longer-term earnings growth is supported by both our contracted annual rent increases as well as the completion of our recent additions to our development pipeline and any future acquisitions that are consistent with our investment objectives and our strategy. Looking forward, early learning and health care services are integral to economic recovery and improving community outcomes, and those important themes underpin Arena's portfolio value and investment objective of providing long-term predictable distributions to our security holders with prospects for growth. We have substantial balance sheet capacity to take advantage of new opportunities that are consistent with our strategy, with gearing at less than 20% and no debt expiry falling due until March '24. Our experienced management team has strong industry relationships and in-house development and origination expertise that will assist us in sourcing future opportunities in a disciplined manner. In closing, I'd like to thank our team and our tenant partners contributing to the positive investment portfolio and community outcomes that have been achieved in the first half of financial year '22. That concludes the formal part of today's presentation, so I'll now pass the call back to the operator to open up for questions. Thanks, operator.

[Operator Instructions] Your first question comes from Caleb Wheatley with Macquarie Group.

My first question was just on guidance. It looks like it might be partially driven by those acquisitions post balance date. Just keen to get a bit more color in terms of how you're thinking about the components of guidance, including timing around those acquisitions, expectations for the cost of debt and any rental growth expectations for the second half.

Yes, sure. Gareth, did you want to fill that question?

Yes, it's obviously contributing a small part. But obviously, we haven't settled on those debts or any of the terms. We want to move to settlement as soon as possible on that, but we would be in a position to consider an upgrade even without an acquisition.

Sure. And just around cost of debt, anything else on the loan portfolio for the second half?

Yes. So the -- on a cost of debt basis, obviously, the acquisition will be debt funded. We're currently sitting at 2.6% all-in. I wouldn't expect that to change materially, which in the near term, obviously, with the high level of hedging that we've got, which is also any hedging that we'll be putting in place would be incremental in nature only and only have a small effect.

Yes. Sure. The second one is just on the like-for-like rent growth numbers that [indiscernible] 3.6%, which seems relatively strong. Just wondering if I could get a little bit of color around the composition of that. Looks like a lot of the second half with CPI -- CPI links with the [indiscernible]. Was there some CPI prints [indiscernible] or were there any other things to flag there?

It's CPI, Caleb. So it's the strongest CPI and state-based allocation of where those rent reviews come up.

Sure. Final one for me, just on opportunities for deployment. So it seems like you've done quite well to get that recent portfolio of 5.6% yield given we're seeing interest in trends, assets, trade in that ELC space. Just want to hear your view seeing opportunities for direct acquisition and how you're doing the [indiscernible] developments and particularly, I guess, the type from a tenant perspective to launch development.

Yes. So we're clearly pleased with where we're up to at the moment. As you know, we've got quite a high feature in regards to rental affordability, particularly. So that's probably where -- if anywhere, we saw missing deals, but there's plenty to be done. We're seeing quite strong tenant activity, and we're seeing supply that's actually moderated through the sort of COVID period, Caleb. So conditions on that front are pretty good. I guess on the downside of that, we're probably competing a bit more with high-density residentials that continues to improve. That sort of forward development pipeline at about 6%, that's pretty good against where we're sort of seeing in-place completions. I think the average market transaction, yes, from the first half of financial '22 was 80-odd transactions at 4.7%. If we can continue delivering best-of-breed at 6s, it's good business to be done, and there's plenty more to be done.

Read between the lines there. I think site developments might be more of a focus going forward, obviously excluding an opportunity here and there?

Yes. Look, it's -- we're never very good at it. There's lessons learned early in the piece. But having done 57 we've done, we think that we've got that down pat with our tenant partners made it very efficient, saying that -- so that's a fund through model that we've come going for. Saying that, the acquisition that we did recently that we've now got [ turned to green ] hope to settle imminently is a good example of relationships with tenant partners that allow us to go by going concerns. And I think I've mentioned that previously. That is an area that we're sort of focusing on a bit, too. That 5.6%, including all your capital transaction costs, is again a good buy. And particularly, if you've got a portfolio that has got an existing consumer base and is profitable that might start with. So we'll continue to look for opportunities in that line as well. Thanks, Caleb.

Your next question comes from Lou Pirenc with Jarden.

A few questions for me. First one, can you just give an indication that 80% of the higher of CPI or fixed increase, based on where CPI is today, is the majority of those already kind of CPI links? Or is the majority still fixed?

Majority just tipped over into CPI. And it's a state-by-state basis. It's how -- on an all group state-by-state basis, having calculated at least a bit of disparity between geographical disparity in regards to the outcomes there, but we're now tapping into CPI escalations on those [ recorded ] components.

Great. And then just following up on the development question. Kind of with land increases, cost inflation, how much pressure do you see? Or maybe a different way of putting it. It's kind of land that you're buying recently. How much more is set on a per square meter basis than 12 or 18 months ago?

Yes. It's probably up 10%, I think is the answer there, Lou. And it's one of the things that we sort of do some pretty deep match with our tenant partners is early mention to the earlier call. We think the braking is making sure there's plenty of rent cover available at the end of these feasibilities. It's not our style to be building at the highest rent and then selling it off quickly. We want these to provide, if you like, smoother development profit over the balance by providing good access to our tenant partners to create profit. But there's no question that the input costs, both land and construction materials, albeit coming off a little bit from their highs a couple of months ago have increased. So, too, have rents across the country as well and so, too, has close revenue for tenant partners. So if you like all of those feasibility inputs have actually changed upwards as a result of that. But we are, as we always have been, particularly careful on that rent affordability piece.

Yes. No, that makes sense. And then, Gareth, just a final one for you. Just on that, the cost inflation, the rem review. In the first half, a pretty good indication of the ongoing cost or is there another [indiscernible] to happen in the second half?

No, that will be a fairly good indicator of the annualized increase. Obviously, we would then expect that it would just go out again, we would expect to provide a bump.

Your next question comes from James Druce with CLSA.

Just hoping to provide a bit of color on the health of the underlying tenants. Obviously, there are some labor shortages. Total occupancy cost equivalent still looks very reasonable. But can you just talk to some of the operating conditions that you've seen?

Yes, James, certainly can. There's no question, I think, as well on the point that -- and I think most people on the call recognize it that labor shortage is the first discussion that we have with all tenant partners, and that has been a challenge prior to COVID, through COVID and is certainly challenged now. So we've seen a number of centers particularly through early January that were affected, that sort of half of the Omicron -- the health trajectory that needed to shut across the market. I think the highest point was 400. You may be familiar with actually a government website that sort of shows where the -- on a daily basis, what centers are shut. There's about 80 as of last night that was shut for health reasons across the country in a portfolio sort of, again, 700. So it is definitely an issue. Like anything, I guess, the good operators, including our tenant partners, in my view, have been sort of ready for this. There's been engagement with staff. There has been increased pay that's been sort of working through. But I think there's another leg of that to happen across the industry. Government is doing a pretty good job in regards to both state -- particularly state governments are doing a good job in regards to reducing the cost for qualifications to become an e-learning educator. That is the challenge at the moment. Outside that, supply is not a massive issue. We're seeing supply moderate. So that's good. It's obviously a localized issue, but generally, that's in check. And we are seeing fee growth and occupancy growth across our portfolio. So at the top line, things are in good condition. From a supply and competitive landscape, in reasonably good condition. The operating expenses are very careful on labor cost.

Yes. No, that's very comprehensive. And just you mentioned obviously the federal election coming up in the support from both parties to the sector. Can you just touch on, I mean, Labor's doing a more generous policy, but can you sort of [indiscernible] but just comment on how that can come to the sector if Labor do win the election?

I mean I can't comment for what might be future policy or policy response. But in the last election, as an example, a lead up to last -- the Labor government talked for the first time about perhaps a pathway to universal care. So if you look at our portfolios and look into the whole of Australian child care, we think we're probably middle to top market that receives about 66%. That 2/3 of operators' revenue is supported by the federal government. And what Labor's hoping to do is push that to a higher level. And in doing so, that investment of additional taxpayer money would provide for increased workforce productivity and actually provide an economic gain. And it's believed to be every dollar that's invested in will come back as some $2 investment back into government coffers eventually. So there's good reason why they do that. Whether that's short term or long term, don't know. But at the last election, most of them proposed an increase in both the funding end to families as a percentage. So effectively, the child care obviously sits now at -- it's a scaled environment. They sort of shortened that scale and actually increased funding to it, James. So I can't remember exactly what the dollars were, but the annual, another couple of billion dollars, so very significant investment. And as I made the point in the speech, the expectation and the work at advocacy groups and importance of these services, we do expect that both major political parties have to have good, strong policies [indiscernible] community demand.

Your next question comes from Jeff Pehl with Goldman Sachs.

Just a quick one, just turning back to developments and acquisitions. Are you finding opportunities versus acquisitions just outside of child care, maybe in the SDA portfolio, maybe some opportunities to grow with SACARE?

It's okay, firstly. Yes, we certainly aspire to do more. Our major asset, if you like, Jeff, in sales there with SACARE has got excess land both aspire to do some further development works in time. So that's something that we have talked to SACARE about. I don't want anyone to bake that in, but that is available for us to do at a time that makes sense for both parties. And then we certainly hope to grow with them as a landlord partner. In regards to SDA more generally, there's a lot of competition in that space at the moment. We're sort of on record that we sort of like the high physical support component, more specialized high funding component and perhaps less so the lower quartile of SDA not interested in buying sort of apartments and retrofitting them for run for access. So continue to watch -- there's been a lot about NDIS funding and it being underfunded. The risk of, I guess, policy change in regards to the NDIS and the NDIS' management is relatively high in our view. So we're still watching community demand and government response in there. We've seen a few things pass our desk, but there's been nothing that we say that might make sense beyond our development programs that we've got underway with early learning.

And then I guess just moving back to just the fees and costs. I mean fees are much higher than they were 2 years ago. And that's on the back of, obviously, a COVID-impacted environment, increased government support. But you're also sitting at a rent revenue ratio at 10%. Is -- in context, a couple of years ago, supply was high. You've had a lot of competition pulling staffing away, and staffing can make up to 60% of the cost. Does it give you pause for potentially as rents roll off being more aggressive in raising that rent revenue ratio and raising rents given costs are so high and they could be going up or you have these discussions and rental growth could essentially not be as strong going forward?

Yes, I'll touch upon it. Look, it is a center-by-center proposition, and it's one that we don't undertake just at the rent review event. I guess, Jeff, we sort of measure it against business operating data and market rents sort of on a quarterly basis and make a call on who's in it, who's not and why. Our view is that we'll continue to see strong market rent reviews in the sort of capital, call it, environment that we've got next year that we're running through. And I guess $2,600 per place, I think the portfolio continues to sit very well in regards to, I guess, replacement cost as well. So all of that bodes pretty well. And the one thing I'm dwelling on a little bit, very important, that 10.3% is rent to gross revenue, and there is a bit of pressure on the operating expense on the labor side. So we are sympathetic to that. If you look at an EBITDAR with an R on the end, it's sort of about 35%. So still highly affordable in our view, but we are watching with interest government response as well as the market's response to attracting and retaining labor.

There are no further questions at this time. I will hand back to Mr. de Vos for closing remarks.

Thank you very much for everyone's attendance on the call today. Please don't hesitate to contact Sam, Gareth or I directly with any questions. And we look forward to seeing a number of you probably virtually unfortunately again over the coming days and weeks. Thanks very much.

Thank you. That does conclude our conference for today. Thank you for participating. You may now disconnect.