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 will be accompanied by a slide presentation. It can be found on Azrieli's site, www.azrieligroup.com, on the Investor Relations page under the 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 respective 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 Irit Pilosof, Deputy CEO and CFO. Mr. Henkin, would you like to begin?

Thank you, and good afternoon, and thank you for joining the Azrieli Group Earnings Call Summarizing Q1 2022. This was a very good quarter in the operating parameters, whether NOI, FFO, occupancy, et cetera, with a good business environment. I'm going to put less of a focus on going over the numbers, but I'd like to mention a few significant figures. The annual NOI rate, based on the LQA, is over ILS 1.8 billion. These figures I've mentioned do not include the contribution of Mall Hayam, which is the new mall we're buying in Eilat South City in the flows of Azrieli Sarona, which we recovered as well as the contracted data centers' NOI. In terms of FFO, we have an annual rate of ILS 1.4 billion. And looking at the interest rates in Israel and the world, I would say that, last week, there was an increase of 0.4% in the local interest rate by the Federal Bank. Obviously, the increase in interest also increases the input for our companies. But I think that in situations like this, we can say that in a company like ours, the impact is milder, because, one, out of the debt is a fixed interest, all of the debt in Azrieli. The second thing, the leverage is very low. It's 29% LTV, which, in other words, does not impact the results when the interest rate goes up. With -- I'd also add that during the recent years, the average duration of the debt was prolonged dramatically from 2.3 years to 6.4 years. And the interest rate -- the average interest rate on the loans was reduced from 5% to an average of around 1.5%. So in view of all of this, we are ready for the current inflation trend and interest rate hikes. On the macro Israeli economy, the Israeli economy is functioning well and is strong, specifically relating to other economies in the OECD. In this quarter, Israel GDP increased by 9% compared with the same quarter in 2021, when there was a lock down until February 20. The private consumption expenditures increased by 13.3% in the quarter year-over-year, and the private consumption per person increased by approximately 11%. The updated growth focus for the Israeli economy are better than they have been in the past year and even better focus in 2021, where the focus today for 2022 is a GDP growth of 5.5%. And in 2023, the focus is 4%. In -- just in perspective, relative to the forecast of OECD for 2022, it's 1.6%. In the EU countries, it's 1.5%. In this call, we will review all of our operating segments, but I'll start with the Data Centers segment. I would say that in the past 3 years, data centers have been considered one of the fastest-growing industries in the world. Both development and supply are matching or even lower than demand, specifically in Northern America, Europe and some in the South Pacific. In 2021, there were a number of very large M&As, such as the acquisition of CyrusOne, CoreSite, and the recent one-off switch, which were all between $10 billion to $15 billion. I would say that the prices are reflecting multipliers of 25 to 30, reinforcing our view of a growing market with intensive horizon and projections. The Data Center segment is a significant growth engine for the group, currently comprising some 12% of the group's operating -- operations and reaching almost ILS 250 million contracted NOI. We plan to expand specifically in Europe. And afterwards, if we come to a stage where we feel comfortable, we would like to extend our operations to South Pacific. Green Mountain, the company we recently bought, is moving in a fast pace, I would say, both ESG, both in this respect, green power, both redundancy in terms of power resources, in both the tragic, I would say, circumstances in Europe, to a certain extent, support and move this company forward in terms of stickiness and projections going forward. Regarding the major customers, on a glance, AWS, Amazon, I would say the following. Q1 year-over-year the growth was 36%. This is one thing which is phenomenal. The other thing I would say that even though in terms of the portion of the top line, of the revenues, today, it's 15.8%, all the operating profit of Amazon this quarter only came from AWS. Going to Google. Google, quarter-over-quarter, the growth was 45%, growing dramatically. And in Microsoft, with the Azure, the growth was 49% year-over-year last quarter. And today, in terms of operating profit, the cloud services attribute 37% of the total operating profit of Microsoft. These are things that, I would say, move economies and are very important for this space, even promising. In terms of offices. The market is good, and demand is strong, despite the changes taking place in the IT industry and the repricing of stock and risks in the field. A couple of things about Azrieli. First of all, we have an extremely strong product. We think we have a very good service, and we prove it with a very high customer loyalty. Contract renewals continue to be on a very positive trend. And some examples to specify what's going on here during this quarter. For example, in Holon, we replaced a tenant. Holon is full today. We replaced a tenant with 1,500 square meters GLA from ILS 63 per square meter to ILS 85 per square meter. We had 2 major contracts in Israeli Center, with almost 6,000 square meters, going up from ILS 110 to ILS 155 per square meter and the other one from ILS 106 to ILS 123 per square meter. Also in Herzliya, for the recent 1,000 square meters, the prices rose from ILS 85 to ILS 110 per square meter. Again, we're humble. We're cautious, but I think we have a very healthy customer base with a good average tenure of contracts and good prices. This March, we started building the SolarEdge campus. We strongly believe in this company. It's going to be almost 40,000 square meters campus. And we're on time, on budget. We're going to be there to launch the facility on March 2025. Regarding the malls, in March and April 2022, store revenues increased by 0.5% year-over-year without adjustments. We presented March and April because of the Passover holidays, which was in different dates this year compared to last year. And this presentation adjusts for the effect of such timing in the comparison years. I would also say that in 2021, on January and almost all of February, the malls were closed, which is another reason just to compare March and April. We are intensively working on the mix in Jerusalem Mall and Modi'in Mall. And I would say that March 24, when we opened the largest dollar store in Israel, I think we finalized 98% of this work, which took us more than 3 years. Also in Azrieli Mall, in Tel Aviv in Givatayim, we're working hard on the mix. Still, I believe that this will be expressed in quarters going forward and by the end of the year. And I would say that still with all these changes, we're on occupancy of 99.3% in the malls. Some flavor of what's going on here in terms of customer experience. We opened what we call the D.N.A food truck venue that we built on the ground for the Azrieli Center. And it started working and is ending -- it's running in the period. If anything, it's working very well and customers and tenants are really loving our initiative to improve the customer experience, which includes food trucks with high standard cuisines, bars under the direction of chef -- one of the leading chefs in Israel, Yossi Shitrit. And hopefully within the coming years -- months, we would like to invite you all to visit and to see Israel and see how great, I would say, experience this is. Regarding senior housing, we are on track with a very strong demand. One of the parameters which support us is the very healthy, I would say, apartment markets here, which are very strong and people can sell their apartment in high prices and come to us, they are great senior houses. In Q1, we released 35 units in the Palace chain. We raised the prices in the entire year of 2021 by some 13% in the aggregate. In our new home down in the desert in Lehavim, we completed Stage 8. We have today more than 86% occupancy and most of the Stage A is already leased. In Q3 2022 as planned, we will complete building stage of Stage B. And the occupancy will begin there. By the way, we already sold 23 or at least 23 apartments in stage b. Modi'in, our senior housing, is already 100% pocketed and occupied. Regarding development, lots of development, let's just go through the -- to the ones which are going to be mature within the coming 18 months. As I said, Stage B at Palace Lehavim. Azrieli Towers, we are going to have a 210 residential rental apartments with the first, say, Western residential building in Israel to be occupied in August 2022, a real multifamily here, which is not the culture, but we think it's the next stage of the Israeli culture. We are marketing it with high success, and we are ready to open a new, I would say, space here in Israel in terms of market. Next year, in 2023, we expect to complete Lot 21 in Modi'in, which is fully mixed use with hotel, retail, offices and long-term apartment rentals, adjacent to our great mall there. And we are going to finish the facility in Check Post, which is in northern Israel. Now I'm going to hand over to Irit, who will review the financial parameters in this quarter. Irit?

Good afternoon to you, all. I'm going to review the key operating parameters in the Q1 2022 financial statement, and I will address key points in the statements. Q1 reflects excellent results as are expressed in all of the operating parameters for disclosures. And they can be reviewed as an indication of stability and return to routine. The NOI in Q1 was approximately ILS 456 million compared with some ILS 301 million year-over-year, and some ILS 399 million in the same quarter 2019. The 51% increase in the NOI of ILS 155 million year-over-year is mainly derived from the retail segment whose share increased to around ILS 112 million. Due to the COVID relief to tenants, waiving rent during the lockdown in the same quarter last year. Approximately ILS 17 million derived from an increase in the Office segment mainly due to the handover of spaces to tenants in the Triangular Tower, while replacing Bezeq at a higher rent and rent increases in agreement renewals, mainly in Azrieli Tel Aviv and Sarona. Net of rent office space that Teva vacated in Petach Tikva at the beginning of the year, and which is now being marketed intensively. Approximately ILS 3 million derived from the increase in the senior housing segment, mainly due to increased occupancy in the Lehavim Stage A and Modi'in on and they're reaching full occupancy. Approximately ILS 22 million derived from an increase in the Data Center segment, mainly in the view of the acquisition of the Norwegian company, Green Mountain, whose results were first consolidated in third quarter 2021. The same property NOI in the quarter presents a similar trend to the NOI, and the gap between them actually mainly stems from discounting of the operating result of Green Mountain, which was required in August 2021. The company's FFO totaled ILS 337 million in the quarter compared with ILS 228 million year-over-year. The 38% increase in the FFO compared with the same quarter is in correlation with the increase in the NOI net of the increase in the management expense and interest, which are mainly derived from the acquisition of Green Mountain. At the end of the quarter, the total value of the group's real estate properties was approximately ILS 35 billion. In this report, we invested some ILS 0.5 billion in the acquisition and development of income-producing properties and properties under development, including closing the purchase of land in Herzliya for the SolarEdge campus, where we have already made a cornerstone for the beginning of work. In the report period, the company recorded appreciation in respect of fair value adjustments of investment property of approximately ILS 252 million, which derived from updating rent in contracts linked to the CPI. The company's net debt is ILS 12.6 billion, which is around 29% of the total assets. The average effective interest of the company is approximately 1.7%, with an average duration of around 6.3 years. The company has ILS 30 billion in unencumbered assets, which are about 75% of the company's assets. In addition to the cash balance and deposits, which totaled approximately ILS 3.1 billion at the end of the quarter. The net income from the quarter totaled approximately ILS 336 million compared with ILS 110 million year over year. The increase mainly derived from the increase in NOI and increase in profit from fair value adjustments. We will now hold a Q&A session.

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

Just a question on construction cost, given, of course, your large development pipeline. Also, we are hearing European companies talking about a strong cost inflation of maybe 15% for material and scarcity shortage of material product. What is your view on the cost inflation and the availability of material for your ongoing pipeline?

Thank you very much. A couple of things. One, the index for, let's say, building materials in Israel is on an annual pace of 6.8% a day. This is one. Second, on our budgets, we still, maybe because of, as you said, magnitude, some of it before because of, I would say, I think very strong capabilities of the teams here. We're still absorbing and maintaining the budgets within the buffers that we have on the buildings. And the last thing I would say is that for pre-list for example, the SolarEdge campus, all the listing is hedged or indexed with the rise of the building indices. So to a certain extent for these buildings, we have a very good mitigation. But I would say that if it will keep going up, we may find ourselves overbudgeting or realigning the budgets. Up until today, knock wood, we're still holding the budgets within the same -- we didn't touch the budgets. And I think that we're watching it carefully.

[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 concluding statement?

Yes. Thank you. We're maintaining and developing our core businesses. The group is making strong progress in all of the operating parameters on every segment, whether it's offices, malls and continuing in senior housing with occupancies, NOI, FFO traffic and store revenues. We're in the midst of an accelerated development momentum, with around 1 million square meters under construction. We strongly believe and are pushing the Data Center segment. I think it's the right time in a market of development with high margins, massive growth and the strongest customers in the world. With very long and sticky contracts, in a whole world driven by technology, that only accelerates the need to increase storage space, all leading to data centers. We will continue to grow after the agreement and deal with large-scale development and possibly additional acquisitions. I would like to thank you, and we'll see you next time on the next quarter. Thank you very much.

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