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

Good day, and thank you for standing by. Welcome to the Azrieli Group Q3 2020 Conference Call for foreign investors. [Operator Instructions] With us today are Mr. Eyal Henkin, CEO; and Ms. Irit Sekler-Pilosof, Deputy CEO and CFO. [Operator Instructions] This conference call will be accompanied by a slide presentation. It can be found on Azrieli site, www.azrieligroup.com on the Investor Relations page under Media Room. Presentations and the financial report can also be found on the website. 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. Please note that today's conference is being recorded. I would now like to hand the conference over to your speaker Mr. Eyal Henkin, CEO. Please go ahead.

Okay. Thank you, and good afternoon. Thank you for joining the Azrieli Group earnings call summarizing the third quarter. . This was a record quarter in the operating parameters with good business environment up until now. A couple of points that I would like to make. One, the annual NOI rate based on the last quarter annualized is over ILS 2 billion, which is a good sign for the company. I emphasize that this does not yet include the NOI from significant contracts signed in a data center segment, which will be expressed in the coming year or 2. Mall Hayam, on which we closed the deal on July 3 and ownership of the property has been transferred to us, started to contribute to the NOI for almost the entire quarter, at an annual rate of more than ILS 90 million. Point number two, I would like to talk about the mix, the mix of contributions reflects investments in the development of the new growth engines, whether it's officers, senior housing and of course, the data centers. Third point, interest rates. The Bank of Israel interest rate increased to 3.25% after several years of 0.1%. Obviously, the increase in interest increases the input for all companies, but I think that in situation like this, we can appreciate and understand that [ debt with ] low leverage will enable us to be less affected by this process because, one, all of our debt is at fixed interest; second, the leverage is very low at 53% at LTV and the average duration of the debt is the long, this is more than 6 years. The fourth point I would like to make is that the signed data center contracts or what we call contracted EBITDA in Compass and Green Mountain are going up with very long-term contracts and very good or the strongest I would say, customers in the world. Some words about the Israeli economy. The Israeli economy to this stage is functioning well, much better than any relative economy in the OECD. In this quarter, Israel's GDP increased by 2.1% compared with the previous quarter and 5.8% compared with the equivalent quarter in 2021. The private consumption expenditure increased by 5.6% in the quarter compared with the equivalent quarter in 2021. And the updated growth forecast for the Israel economy up 6% for 2022 and 3% growth in 2023. I will now review some of our working spaces where I start with data centers. The data center segment is a significant growth engine for us and currently comprises some 15%, 1-5% of the group's operations. This quarter, it contributed ILS 35 million, which is approximately $10 million, which is our share in the existing NOI, which is annualized is $40 million or more than ILS 100 million, even prior to the signed contracts, both in North America and in Europe. We feel that the market continues to show strong parameters and high demand by the tenants, mainly by the hyperscalers. For example in the European [indiscernible] Frankfurt, London, Amsterdam Paris, Dublin, the new market supply figures and take-up figures seem to be very strong at an annual level of 400 megawatts in 2021 with a similar focus for 2022, just to give some figures from the recent CBRE research made on Q3 2022. In 2021, the new supply was 404 megawatts, take-up was almost 390 megawatts. In 2022, the projection is more than 360 megawatts and take-up of at least 380 megawatts, the balance in the supply and demand is something that at the end of the day, both increases the list prices and provides the ground for much more development, which is the place where the yields are coming from. Just to review some numbers about the hyperscalers, if I go to the major 3 ones, whether it's Amazon, Google or Microsoft. Amazon revenues was more than $20 billion Q3 2022 for AWS. This is an increase quarter-on-quarter 27%. For Google, the increase was 38% and for Microsoft, the increase was 26.5% quarter-on-quarter. For AWS, out of the total Amazon revenues, the revenues for cloud is 16% and in the Microsoft of 38.6%, while on the EBIT line, actually, the cloud funded the losses of other traditional operations and the contributed $5.6 billion, while the EBIT line of all of Amazon was $2.5 billion, which is 200% or more than 200% of the EBIT line of Amazon. The cloud operations in Microsoft, as I said, it was 38.6% out of the revenue line, but it's responsible for 41% of the operating income. Our conclusion, and we see, in fact, in the market, these giants growth engine is for the coming -- at least for the coming years is cloud and continuing to be cloud and taking all of this cloud, it needs to be stored in servers. Digital servers have to be somewhere, which is for us, real estate, which is data centers or your store processor transmit the data. In other traditional segments in Azrieli, the offices, the market is still good and demand is still strong despite the changes taking place in the high-tech industry and the impact on the employment market in this field and the repricing of stock and risk in the field. Contract renewals continue to be on a positive trend, and you can see it on the same property in offices. And some examples to exemplify what's going on here on our assets, a number of contracts that we had this quarter and Sarona, which is 100% occupied, but there were some tenants that left the building and some tenants within the building, who extended their footprint. We had 5,500 square meters that were renewed, 80% of this was 1 deal from ILS 140 per square meter, it reached to ILS 213 per square meter. There are left, the other 750 square meters, ILS 123 per square meter, it raised to ILS 160 per square meter. So the demand is still there. On the other hand, we're cautious. In Azrieli Tel Aviv, again, it's 100% leased. We had Alibaba leaving Israel, it had half of the store -- half of the floor of the Triangle building. We had 770 square meters in ILS 126 per square meter, and it was occupied by an adjacent customer with ILS 160 per square meter. So we still have a good demand in terms of growth. On the other end, we're very cautious and hands-on both with the customers and mobiles with new leasing in place. Just about SolarEdge, I remind you that we're building a new building dedicated for SolarEdge. The projecting is on line and on the time, it's going to be 40,000 square meters, which are going to be launched March 2025 for many years with this great company. Regarding malls, we had a very, I would say, record quarter with the malls. The NOI from this segment, we enjoyed ILS 236 million, which is an increase of 21% quarter-over-quarter. And even without the NOI of Mall Hayam, which is the new mall in Eilat, and looking only at the same property NOI, we can see an increase of ILS 18 million, which is up 9%, and occupancy where we started the parallel quarter with 99% occupancy and we're still in this 99%, but we enjoyed a 9% increase in NOI mainly thanks to the Azrieli Tel Aviv, Jerusalem, Ayalon and Givatayim malls. The new Mall Hayam contributes as afore said more than ILS 90 million annually to the NOI, and we started with this mall this quarter. Footfall in the mall is up 15% compared to 2021, this is for the same property. While quarter-over-quarter, store revenues increased by 8.1%, demonstrating the results of the rework that we carried out in these -- the properties. Regarding senior housing, on track and strong demand, dozens of contracts have been signed in each of the homes, mainly in Lehavim and Modi'in since the beginning of the year and during last year, which was a very strong year with Tel Aviv and Ra'anana maintaining almost full occupancy rates. In Lehavim, we finished and delivered Stage B, tenants have started moving in with 45 units signed out of the 109 units in the second stage. Restarting the pilot of residential rentals, what is called globally multifamily. There's a very nice demand to this project in Tel Aviv. Actually, today, there are no multifamily buildings of this sort in Israel, and we keep it under central and high-standard management. We could experience very high resident satisfaction and dozens of contracts have been signed in this project and continuing to be signed. Regarding development, in 2023, we expect to complete Modi'in Lot 21 and Check Post project in Haifa. And all other projects are moving as planned with no material changes. From here, I'm going to hand over to Irit, who will review the financial parameters in the quarter.

Thank you. Good afternoon to you all. So the third quarter is an indication of stability further to the company's growth. The NOI in Q3 was around ILS 513 million compared with ILS 428 million year-over-year. The increase of ILS 85 million constitutes a 20% increase in the NOI. The retail segment contribution to the increase was very significant and totaled approximately ILS 41 million. ILS 23 million derived from the acquisition of the Mall Hayam in Eilat and the balance of ILS 18 million derived from organic growth of same properties. Approximately ILS 17 million derived from an increase in the office segment, which was also due to organic growth in higher rent at same properties. Approximately ILS 3 million derived from the increase in the senior housing segment mainly due to increased occupancy in the Modi'in arm and in Lehavim Stage A and them reaching full occupancy. Approximately ILS 28 million derived from an increase in the data center segment, mainly in view of the acquisition of the Norwegian company, Green Mountain. The U.S. office segment is still showing no signs of recovery and its negative contribution to the NOI was approximately ILS 4 million year-over-year. The same property NOI in the quarter presents a similar trend to the NOI and the gap between them actually mainly stems from discounting, the operating results of Green Mountain, which was acquired in August 2021 and discounting the Mall Hayam in Eilat, which was acquired in July 2022. The company's FFO totaled ILS 330 million in the quarter compared with ILS 357 million year-over-year. The decrease mainly derived from a big boost in the same quarter from the marketing of apartment in the senior homes from the -- for the first time, while now actively, we are left with more limited number of apartments, which have not yet been marketed. And therefore, the volume of deposits we are receiving from residents is stabilizing. The FFO, net of the impact of senior housing increased by ILS 6 million year-over-year as the company builds its future growth engine, and invest in data center. The yield will be expressed in the NOI in the coming months, while the growth in financing expenses and G&A is already expressed and evolving the increase in NOI. At the end of the quarter, the total value of the group's real estate properties was around -- sorry, ILS 38 billion. In the report period, we invested ILS 2.6 billion in the acquisition and further development of income-producing properties and properties under development, including purchasing the Mall Hayam in a Eilat and closing the purchase of land in Herzliya for the construction of the SolarEdge campus. Depreciation in respect of fair value adjustment during the quarter, derived mainly from the revaluation of the properties in Israel, due to the impact of the CPI increase of rent prices. During the quarter, we increased our holdings in Compass from 24% to approximately 32% at a bargain price, which was stipulated in the original purchase agreement from 2019. This increase yielded as revenues of approximately ILS 204 million, which are included in the other income item. The company's net debt is ILS 15.5 billion, which is around 33% of its total assets. The company is very financially robust. And as around ILS 32 billion in unencumbered assets in addition to cash balance and deposits totaling approximately ILS 3.7 billion. During the quarter, the company performed an ILS 3 billion expansion of 3 of its bond series with an average duration of 8.1 years and an average linked interest of 2%. I would like to take a few moments to discuss the issue of the impact of the increased market interest rate. Approximately 90% of the company's debt is CPI linked to loans in Israel with an average duration of 6.3 years. Recent trading figures shows that Azrieli's interest for financing today with similar duration will be higher by only 0.5%, compared to the average interest today. So we are still in a convenient environment for raising capital in the capital market. This is while the average cap rate of the company's properties is approximately 6.7%, such that the spread between the average interest rate expenses and the cap rate is high at approximately 4.7% and give us a lot of patience. The net income for the quarter approximately ILS 330 million compared with ILS 187 million last quarter. The increase mainly derived from the increase in NOI increase in profit from fair value adjustments due to the increase in the CPI and profit registrated from the increase in the holdings in Compass. All net of an increase in financing expenses, which mainly derives from linkage differentials on the debt. Now we will move to the Q&A portion.

[Operator Instructions] The question come from the line of Charles Boissier from UBS.

Yes. I have 2 questions. The first on Compass, where you mentioned you increased your stake by exercising the option that you were granted in 2019. So now you have a 33% stake. Would you consider buying more of this company? Obviously, the price would not be the same as agreed back in 2019. But if the other shareholders were interested in selling their stake? And the second question is, do you have a target loan to value for the company?

The second was what's the target in terms of loan to value? When you say the company is Azrieli or company?

Azrieli, yes.

Yes. I would leave the leverage issue to Irit, but I'll say about Compass. Personal, as you said, yes, we don't have the option of exercising the purchase of the company based on the original share price, more than 33% so we've done there. We are planning to expand in the data center space, whether through Compass or other opportunities. I would just say that the option of our partners, which are Rapyd and the [ OTPP ] for going to the market and selling their stake is going to be available starting Q1 next year, 2023. So there is an option there. And again, whether they sell, how much they sell and whether there's the prices that are good for us. It's absolutely an option. And on the contrary, if the price is very high, it's an option for us to sell as well. So this is what -- regarding the LTV, I will let Irit answer you.

Yes. So regarding the leverage, you can see that in our current report, the net debt to balance is around 33%. But you can see that we have quite a huge amount as cash in our cash flow, it's around ILS 3.7 billion. After investing this amount and of course, investing it very wisely, we will be in a situation that our leverage will be around 35% to 40%. Again, we will have profit. So everything is going to impact our balance sheet. But I assume that this number is something that we can expect.

[Operator Instructions] And the questions come from the line of [indiscernible] from Egan Asset Management.

I was just curious. I mean, many companies have a slide on, for example, their ESG efforts. Where would you stand with respect to greenhouse gas footprint mitigation or adopting certain carbon pathways? Is that something which is part of the strategy of the company? Or is that more so for tomorrow?

Okay. Thank you for the question. First of all, we usually have it on the annual investors presentation. We have a full ESG report in our website, in the Azrieli Group website. I would say the following. First of all, Azrieli by far in Israel, the leading real estate company in terms of ESG, I would say, treatment focused approach and the investments. So this is one thing. We have quite a number of projects in terms of ESG. We build our buildings. All our buildings are lead from gold to platinum. And we are now transferring the old buildings into lead gold as well. And our, I would say, operations into lead operations. We've done it now in the first building in the Azrieli Center, and we're moving forward with the second and third buildings here. So this is about ESG. The second thing is that one of our reasons for buying Green Mountain is the fact that Green Mountain has 100% real green data centers. When I say real, it's not that they buy credits, it's actual green electricity, whether hydro or wind, which is very abundant in Norway. So yes, we have the reports. We have recruited people. We have a full team here, both under construction and operations, and we invest by far more than any other real estate company in Israel today. I'll just say on the flip side, that I think Israel is a couple of steps behind at least what's going on in Europe, not the U.S., but in Europe. And in Azrieli, at least, we're trying to keep the pace or more than this in order to close any barriers that we have. So this is my answer.

We have no further questions at this time. I will now hand the conference back to Mr. Eyal Henkin, for closing remarks. Thank you.

Okay. So to summarize, we keep focusing, we're developing and we're growing our core businesses. This is how we start the day. I think the parameters are very strong and we are very proud of it. The group is making strong progress in all of the operating and financial parameters, whether it's in the office segment, malls, continuing with senior housing from occupancy rates through NOI, traffic, store revenues in the malls, et cetera. We continue our accelerated development momentum with around 1 million square meters under construction, and we strongly believe in the data center segment, developing the companies increase our holdings in them and entering into new markets. We 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 world driven by data that only accelerates the need to increase storage space or leading to data centers development. Thank you very much for listening, and we'll see you in the next quarter. Have a nice evening. Bye-bye.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect your lines. Thank you.