Azrieli Group Ltd. (AZRG) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. Welcome to the Azrieli Group conference call. [Operator Instructions] This conference call will be accompanied by a slide presentation. It can be found on Azrieli's site, www.azrieligroup.com, on the Investor Relations page under Presentations, and the financial reports can be found on the website as well. I would like to remind everyone that forward-looking statements for the respected company's business financial condition and results of its operations are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated. With us on the line today are Mr. Eyal Henkin, CEO; and Ms. Irit Sekler-Pilosof, CFO and Deputy CEO. Mr. Henkin, would you like to begin, please?

Thank you. Good afternoon, everyone, and thank you for joining the Azrieli Group earnings call summarizing 2021. We are ending the year and Q4 with a return to business as usual, record results in both the operating parameters, whether it's occupancy, NOI and FFO and in some of our operating segments and with the best business environment and performance presented by the Azrieli Group to date. I would like to emphasize a few things regarding the numbers. The first thing is NOI. NOI last quarter annualized reached ILS 1.8 billion, the highest in the group's history and reflects the investment and growth engines that we developed in recent years, whether it's offices, senior housing, and of course, data centers. Malls have reached almost the same pace as pre-COVID NOI. The gap is attributed mainly due to tenant mix changes like the Zara stores in Jerusalem and Modi'in Mall, which are -- the Modi'in Mall Zara was opened this -- early this month. And tomorrow, the management of Zara is going to be in Jerusalem with one of the largest Zara stores in the world, which is going to be open to more than 3,000 square meters. Offices all-time high attributed ILS 700 million with an annual base of ILS 750 million in the last quarter reflects the good momentum in this segment. Senior housing Palace mainly come to a reflection into the FFO attributed ILS 166 million this year, the strongest in the chain's history, mainly because of the Lehavim Palace new home and also deposit turnover in all homes as well as NOI increase and operational betterment. Data centers attributed ILS 30 million in the last quarter, annual pace of ILS 120 million, which is going to be based on contracted EBITDA of -- the contracted NOI, it's going to be ILS 200 million by, I would say, mid-2023. If you had on this on the pipeline and the projections we are having, it's a growing segment, really growing segment within the platform today. For value gains, Irit will go over it, are ILS 2.4 billion. Net profit is ILS 2.8 billion, and comprehensive profit is ILS 3.25 billion in 2021, the highest by far in the history of Azrieli. We're still, in the first quarter, we were almost the entire quarter on a completely lookout. Some words about the Israeli macro environment. In the post-COVID period, the strong Israeli economy has been growing nicely, mainly thanks to the high-tech industry, which impacts all of the service providers and during income-producing real estate, and of course, first and foremost, impacts the high-tech workers, which translates into the higher consumption and expenditure levels. In 2021, Israel's GDP increased by 8.2% compared with 2020. And in Q4, it increased by 16.6% compared with Q3 the same year. Private consumption expenditure increased by 11.7% compared with 2020, a correction of the 9% decline in the year 2020 due to COVID lockdowns, and private consumption per person increased by almost 10%. The updated growth focus for the Israeli economy are better than last year and already beat the forecast by 2021. The IMF focused on a 7.1% increase of the Israeli economy in 2021 and yet we grew by 8.1% in 2021 and 3.2% in 2022. In this call, we are going to go over all of these areas of operations, but I'll first start with the data centers. Some words about strategy. Today, the data center industry is considered to be one of the most rapidly growing industries in the world. In 2021, there were a number of very large M&A transactions, whether it's CyrusOne, CoreSite, QTS and others, which amount or summarized for almost $50 billion. It is important for us to state that this segment is characterized in the world in general and then in the U.S. in particular or a situation where the joint companies, which are the customers require that no information be released regarding the transactions, which are being signed. And we therefore sign and, of course, respect confidentiality agreements with these companies. When I look at this industry, I found a great fit for Azrieli Group because of the following: one, it's pure income-producing real estate; second, it's an area of real estate which has grown at a rate of 35% to 40% per year, specifically with hyperscalers. It's an industry which is being driven by the explosion of the demand for storage services, cloud, 5G streaming, gaming, crypto, AI, autonomous vehicles, HPC, metaverse, VR and others. It's an industry that expects exceptionally strong customers like Microsoft, Amazon, Google, Oracle, IBM, Salesforce, Netflix, Facebook, et cetera. It's an industry with really long-term and sticky contracts. It's a very attractive industry in terms of financing, and it's an area with a lot of development, speculative development, which is something Azrieli will wake up in the morning. So all of these are a great fit for us, real capabilities. And there's other reasons why we work forward in this industry. Double digits, this industry margins and development are attractive. And in Europe and in EMEA, the margins are even higher than it is in the U.S. It's an industry which is capital intensive. We love industries which are capital intensive. It's an industry in which the cost of capital is significant. Irit will go over it. Cost of capital in Azrieli is really something unique. It's an industry in which the hyperscaler challenge really so far the fastest-growing area. As we look at it today, out of the 5 hyperscalers, we have 4 as customers. There is a close club of data center companies we sell consider qualified to serve hyperscalers of which only a few have signed contracts with more than 1 hyperscaler. And it's an industry which is global and we go global, we try to go global in this. This is our strategy and we're going to execute on this. We see this segment as a significant growth engine for the group. And as I noted, our strategy has been to acquire platforms in secondary markets with potential for aggressive expansion, very good management, high-quality assets, high-quality relations with customers and then to enter to the main markets from there. We started in Northern America. We started with a company with $18 million NOI, which today is 9x the NOI -- contracted NOI. We went into Europe, and we found a great company, which we're developing to grow to a much larger platform compared to where we started, and we're investing. Some words about Green Mountain. We bought this company in Q3 this year. We invested quite a chunk of ILS 2.8 billion. We built a financing vehicle with Deutsche Bank with which we contributed ILS 1 billion on the first day, an additional ILS 800 million as a CapEx facility for this growing business, all are based on Green Mountain and Green Mountain alone. And we're developing this platform with the understanding with all the changes now going on in Europe, one might look or may look at data centers as a place where we want to sustain energy, green energy, and a very much lower cost of energy, all of which you can find today, maybe one of the only places you can find them is in Norway. So this is something that is really within the heat of this acquisition. Some of this, we planned. Some of this, we didn't. A few words about the customers. Amazon had a 40% growth in the cloud in Q4. The cloud accounts for 12% of income, but this quarter, it was 100% of the EBIT line. I leave aside the IPO of the electric car venture that they made. Looking at Microsoft, 46% increase this quarter. 36% of the revenues of Microsoft is Azure, and it's 37% of the EBIT line of Microsoft is Azure. So this is a huge market and a growing market. It's something we're going to invest in the future. We believe in this. Coming back to our, I would say, traditional areas, offices. We think that at Azrieli, we have a very strong product, service and customer loyalty base. The offices market currently is by far the highest level of demand that it has ever had in Israel. The office segment continues to perform extremely well, and we are signing large leasing transactions at very record high prices. The boom in the high-tech growth brings with it large financing rounds, exits and available capital for companies. Part of this high tech boom has flowed over to the real estate market where companies seek to create better work environments for their employees in order to attract the best talent. There is a crude shortage of workers and companies are competing with one another on a frenzy of employee requirements, one of which are high-level, best-located offices. Contract renewals continue to be an extremely positive trend. And I would say that in our both new and old premises, we signed contracts which are 25% to 50% higher than existing bonds. About malls, we've had an excellent solid increase in all parameters. Occupancy today is 99%. All of our tenants and stores are now open and operating. Since the mall opened in December -- on February 21, 2021, both the numbers of visitors and store revenues have been good and have been increasing ever since. In 2021, up until today, almost 2% -- there was almost 2% increase in store revenues compared to 2019, which was an excellent year. So I would say that we are gaining our confidence, and we are almost back to normal with malls. Senior housing, we are on track with a very strong demand to increase prices by 8% at the beginning of 2021 and by another 5% midyear, June 2029. This year, we marketed 205 apartments versus 159 in 2020, which was an increase of almost 30%. In our new Palace in Lehavim, we finished stage A, I would say, almost 18 months earlier than expected. And we began stage B, which will be completed Q3 2022. By the end, we're with a full house and Palace in Lehavim and Ra'anana are fully occupied. We started development activity, a fifth house in Rishon. And we are finishing the zoning in our sixth house in Jerusalem. In terms of development, we are currently developing around 1 million square meters. In 2022, we expect to complete the Azrieli Town Residence Tower, which is the first real multifamily, I would say, scheme in Israel up until today. And for us, it's a pilot. We really believe in this. And it's retail areas that are going to be completed as well. As well, we are marketing stage being Palace Lehavim, as I said before. Next year 2023, we expect to complete the Lot 21 project, which is a full mixed use in Modi'in and to finish the Check Post project in Haifa, which is fully retail project, which is already fully leased as well. Just to remind that our margins on the spreads and the projects are as follows. We're varying between 8% to 11.5%. And when you take the cost of capital of Azrieli, I would say these are record spreads that at least we find compared to any other companies or asset classes. Debt and leverage, Irit will get into it. Today, we're at 29% LTV and with ILS 29 billion in accumulated assets, but Irit will go over it. I will finish it with the ESG and corporate responsibility. In December 2021, we published the group's first corporate social responsibility report. At the same time, we have been in the process forming a significant and broad CSR policy for the group, starting with areas related to real estate such as green building. We're going to set a new standard in Azrieli's grade platinum. We have a huge project of recycling and reducing waste in all Azrieli's assets. We are continuing with our corporate governance and ethics policies in which we are strong and for which we are already currently rated very highly. Our CSR policy covers our employees, diverse employment encouraging the Israel economy, mainly for the suppliers. We are also involving social initiatives, both on the company-wide level and individual property level, where we try to improve volunteering and involvement in the communities in which we are -- our properties are located. And of course, we continue with our and -- develop our donations policy. We're improving the transparent CNA information and will improve ratings and improve performance and target settings. From here, I'm going to hand over the review of the financial parameters in Q4, and Irit will take it from here.

Thank you, Eyal. Good afternoon, everyone. I'm going to review the key operating parameters in the 2021 financial statements. And I will address the highlights of the statements on both the quarterly and the annual levels. Q4 reflects excellent results as expressed in all of the operating parameters of the quarter. The NOI in Q4 was ILS 454 billion compared with around ILS 224 million in the same quarter last year. The 103% increase of ILS 230 million in the NOI year-over-year, mainly derived from the retail segment, which contributed ILS 161 million to the increase due to the COVID relief for the tenants and the waiver of rent in Q4 2020. ILS 30 million derived from the increase in the office segment mainly from the completion of the construction of Azrieli Tower in Tel Aviv and Azrieli Manor in Huron as well as from the occupancy of space in the Triangular Tower of 2 tenants who replaced Bezeq at higher rent prices and ILS 23 million derived from an increase in the data center segment, mainly due to the acquisition of the Norwegian company, Green Mountain, whose results were first consolidated this quarter. The NOI in 2021 was ILS 1,590 million versus ILS 1,213 million in 2020. This was an increase of ILS 376 million year-over-year, which was mainly derived from a ILS 230 million increase in the retail segment due to the relief granted in 2020 to mall tenants, of course, because of the COVID restrictions. The NOI increase also derived from ILS 101 million increase in the office segment due to rent increases and the occupancy of several new properties built by the company. Same-property NOI for last quarter of 2021 had a similar trend to the NOI. And in practice, the difference between the 2 stems from the exclusion of the HaManor building in Holon, whose construction was completed in October 2020 from Azrieli Town whose construction was completed in December 2020 and which has been fully marketed from the operating -- and from the operating results of Green Mountain, which was acquired in August 2021. So actually, the difference between the NOI and the same-property NOI for the last quarter is the 3 assets that I just mentioned. The company's FFO amounted to ILS 362 million in last quarter versus ILS 230 million in the same quarter last year. The 70% increase in the FFO correlates with the increase in the NOI net of tax expenses. At the end of the year, the total value of the group's real estate properties was ILS 34 billion. During the report period, we invested ILS 1.1 billion in the acquisition and development of income-producing properties and properties in development in addition to an investment of ILS 2.4 billion in the continued development of our global data center platform. During the report period, the company recorded a ILS 2.8 billion increase in value from fair value adjustments of the investment property. Part of the amount was recorded in results of companies accounted for using equity method. The increase mainly derived from the decrease of the cap rate for some of the properties, the increase in rent and from revaluation of buildings right. The company's net debt is ILS 12.4 billion, which is 29% of the total balance sheet. The company's average effective interest rate is around 1.5% with an average duration of around 6.4 years. The company has ILS 29 billion in unencumbered assets, which are around 74% of the company's assets in addition to cash and deposit balance which was ILS 2.9 billion at the end of 2021. The net profit for 2021 amounted to ILS 2,889 million versus a profit of ILS 184 million in 2020. The increase was due to the increase in the NOI and in profits from adjustments to fair value [indiscernible] by an increase in financing expenses mainly derived from the rise in the CPI. The equity attributed to the shareholders amounted to ILS 20.7 billion at the end of the year. The company's Board of Directors approved the distribution of dividends totaling ILS 650 million, which continues the trend of growth in the dividend from previous years and represent around ILS 5.36 per share. We will now move to the Q&A session.

[Operator Instructions] The first question is from Charles Boissier of UBS.

I just wanted to check because, Eyal, I think you mentioned about becoming global in data center market. And of course, to some extent, this is something that you've already successfully achieved in 2021 with the addition of Europe on top of the U.S. But I was wondering whether these were the 2 geographies or you also were considering Asia or some other markets.

Okay, Charles. Thank you very much. We're trying to be humble. We went into private. There's lots of potential in the South Pacific, both growth, volume and returns. I think within the pace we are in today, what we tried to do is the following. We started in Northern America, as you know, because it's a huge market, but not because of the best returns or the highest growth, even though there's lots of growth there. We started there in order for us to go on the safe side in terms of understanding of the business, going into a mature market in terms of suppliers, regulations, infrastructure, customer relations, et cetera. To cut a long story short, if we are successful within the coming 2 or 2.5 years in Europe, we go to South Pacific big time. But we still -- we want to make it gradual. We think South Pacific is more challenging for a company like ours. We need to gain more experience, a better -- or to extend our customer relations and maybe to join hands with a South Pacific partner or investor or to make an M&A in the South Pacific and then go there. So bottom line, first of all, it's on the radar. We want to get there. But first, we want to establish our footprint in Europe as a second stage after Northern America.

Okay. Very clear. I just had 2 more questions. One of them -- so I think it's in Palace Lehavim where you -- maybe I don't pronounce well, where you mentioned that you rose prices by 8% in 2021 and then another 5% midyear. And Phase A is not fully occupied. So I just was wondering because it seems like your discussion is that it's going very well, also your starting phase. So is it because you finished Phase A 18 months earlier than expected then the occupancy is not, let's say, close to 100 persons for Phase A.

Okay. What's -- since -- first of all, you're right. By the way, the pricing throughout the entire chain were up 8% and an additional 5% this year. Talking specifically about Palace Lehavim, our plan was within the coming 2.5 to 3 years to have the first stage leased. First stage is 241 apartments. Second stage is additional 109 apartments. Up until now, we already leased more than 200 apartments for stage A. And we believe that by the end -- by the time we finish stage B, which is June this year, we believe stage A will be already fully occupied and then we can go to stage B. And just to give you some sense, in stage B, the good apartments are already being leased. And as we speak, we already leased 29 apartments out of the 109 apartments in stage B. So we're already looking at -- it's short term, but looking at the short term, you don't want to be stuck with a waiting list, which you cannot give good answers still. So we believe that by mid this year, we will have most of the first stage leased, and then we can go to the second stage, which is already being leased today.

Okay. Very clear. And then during your comment, you mentioned on the office side that rents were being renegotiated 25% to 30% higher. This is very high, so very good. But is it, you would say, reflective of the level of rent potential across, you would say, your office portfolio? Or how much should we make on this read across your entire office portfolio?

Okay. I'll say the following. We -- just to exemplify some of the leases, for example, in Azrieli Tel Aviv, which is, on one hand, it's the icon of Israel. On the other hand, it's the oldest building in the CBD of Tel Aviv, right? Even though we went through renovation and it looks new, but it's not new. We have here some listings. I'll give you an example of 2,800 square meters from ILS 121 to ILS 147. We had another one from 1,536 square meters for 118 to 150. We had one from 120 to 155. We had one from 37, not here, in another asset, 255. We had one from in Australia from 57 to 78. What I'm trying to say is that if you look at Tel Aviv, I would say, it raised from another one from 93. I look here to 150 in Tel Aviv. So if I look at Tel Aviv, it ranges between 20% to 50%. Let's call it between 25% to 30%. This is the median or the average whatever. This is one. If you look at [indiscernible], up until today, the prices were 55 to 65. It's getting to 80. We just leased another office. The asset there is fully occupied, 70,000 square meters. We just did an asset with 110. But maybe it's a spike. I'm not sure this is the recent leasing. So let's call it going up from 55 to 70, which is 20%. If I look at Holon and Rishon, I would say it's between the same prices, plus 5% plus maximum 15%, 1-5, even though demand is strong. So it ranges in the more peripheral areas of Tel Aviv. [indiscernible] but peripheral, it should be between 5% to 15% increase. If you go to the CBD of Tel Aviv, it should be between 25% to 30%, even though in some cases it's bigger spikes. But I wouldn't look at it as a general phenomenon going to 50% and higher.

[Operator Instructions] There are no further questions at this time. Before I ask Mr. Henkin to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available later today on the company's website at www.azrieligroup.com in the Investor Relations section. Mr. Henkin, would you like to make your closing statement?

We are maintaining and developing our core business areas in Israel. The group is making strong advances in all of the ongoing parameters from our offices and malls through to our senior offices, senior housing in terms of occupancy, NOI, FFO, customer traffic and store revenues. We're in an accelerated development boom with around 1 million square meters under construction. And we strongly believe and are pushing the data center division. We think this is the right time in the right places in a development market with high margins, massive growth, the strongest customers in the world, very long and sticky contracts and a technology-driven world that is only accelerating and growing -- with growing needs for data storage. We will continue to grow our data center segment following the Green Mountain transaction with further acquisitions and large-scale development. Thank you very much for listening, and wishing you all the good health. Thank you, and bye-bye.

Thank you. This concludes the Azrieli Group conference call. Thank you for your participation. You may go ahead and disconnect.