Baltic Horizon Fund (NHCBHFFT) Earnings Call Transcript & Summary

Good afternoon, and welcome to Baltic Horizon Fund Semiannual webinar where the latest update of the fund will be given based on mostly of the Q2 results and the main events of Q2, but also looking back for the past 6 months and also past 12 months, I would say, in some instances. So as usual, I plan to give roughly 40-minute presentation. And then during the presentation, I try to answer as many questions as possible that were received already previously before the webinar. And in case I missed something, then I will respond specifically to those e-mails. So let's get started. And yes, of course, questions can be asked also here in this webinar. So it's been a very eventful past 6 months and many of the important events have materialized only in second quarter. So most importantly, I think what's been on investor mind and also our primary goal is to refinance the bond of EUR 50 million. And that bond was maturing on the 8th of May this year, not the best time. But negotiations for this bond already started last summer after the war had started, and there was still quite a lot of uncertainty in the market. But there were various -- there was a question on what sort of bond solutions did we consider, and there were various solutions. Of course, it was necessary for us to make sure that we can do the bond at the lowest possible level. That's where we tried to refinance many of our loans with the banks during the second half of 2022. Of course, that wasn't easy either because of soft situation, uncertainty and the discussions with the banks. So led to us to understand that we needed to also sell a few properties, but the bank is being conservative. We weren't allowed to use the whole proceeds from the disposals for the bonds and had to pay back some bank loans in addition. So we were considering for some time whether to do a public offering of the bonds targeting all investors across the Baltics and Nordics to reach a level of EUR 35 million, EUR 40 million. And alternatively, we discussed the -- with our top bond investors local pension funds, whether a private debt or private bond could be a better alternative. And then we reached the conclusion beginning of this year where we decided not to go through with the public offering of the bond. Potentially, we could have achieved very similar, I think, terms, maybe slightly better. But the execution risk, we considered it very high, especially since the amount was quite sizable. And then we were able to agree on certain terms with 2 local Estonian bond investors, one of whom was a previous investor, the second one is a new investor, a structured new bond where we could reduce the bond amount within the next 12 months, so until May of 2024 and then have the bond for a 5-year term, but be able to repay back the remainder of the bond after 2.5 years with certain prepayment fees. So that was what we believe the best possible result we could achieve in the market. And I think, comparably, looking at similar bonds, we were priced quite similarly considering the size of the bond and the situation in the market. Then what happened in the second quarter, we didn't sell a few properties, almost brought to a local real estate fund and to head office to East Capital. I think, overall, we could say, today, we're quite happy with the results of these transactions being able to free up money. And I think that probably in the second half of the year, we would not be able to achieve these terms that we were able to achieve beginning of the year with these transactions. So -- and we have paid back now first tranche of the EUR 20 billion bond, but I will get back to that a bit later. There has been several questions about that. Just -- a bit to note here that we also have as a new Chairman of the Supervisory Board here in Estonia -- Estonian management company with Lars. And the previous Supervisory Board member is currently on a medical leave. So yes, Lars has stepped in as the founder and also a considerably -- considerable unitholder in the Baltic Horizon Fund as the Supervisory Board Chairman since the summer. And Europa Shopping Centre has shown now the first results of the turnaround, and we did receive a little award for that as well. So just quickly remind us about the properties that we had, and we were able to successfully exit and free up as much equity as possible, both, yes, Domus Pro and Duetto. So going forward, we have now a slightly reduced portfolio, and still our top tenants are the Latvian State Forestry, Rimi, the cinema and some of the others. Net rental income is still, let's say, rather equally sort of divided between retail, leisure and office segments. So probably the office segment part will decrease EBITDA in the second half of the year because of the disposals. And also there is SEB, which is one of the largest tenants in our portfolio, is moving out now shortly. And the new tenant, hopefully, will move in right away to start the preparation works and be able then to move in to some of the vacancy created by SEB in 1st of January. Perhaps as I note, there was a question on how our organization works and that -- so we have the management company in Estonia, where some people are employed. And then we have also a sister company in Lithuania, where other people are employed, including the financial, the controlling, the treasury, the fund administration team. So that is our Baltic Horizon, and I would say management team. The management fee that is paid by the fund is for those services, and that's as well, of course, investments and disposals. But we do work with outsourcing partners. The CBRE news that help us to manage the properties on a daily basis, find new tenants. And we call them sort of as an extended team because we work so closely together with them. So -- and there's quite a lot of people across the Baltics on the ground and also in several offices that we consider our close colleagues with this. So -- and we do have separate teams for Europa. We do have a separate team for Galerija Centrs with the property manager and also the marketing and these managers. So I think all in all, we have about 30, 40 people working on the fund and asset management side of Baltic Horizon. And so currently, our main focus is going on the occupancies, increasing of the occupancies and maintaining the occupancies of the portfolio. So there is some progress made in Europa. There's also some progress made in Galerija. I think this is also a good slide depicting that the past quarters were probably the lowest quarters of our city central located properties. And because many of the premises were vacated for the food halls to be reconstructed and for many other tenants to move in, so we have seen now, especially in Q2, a considerable recovery in those centers and also we can see that from the like-for-like assets comparison when we look at this summary here. It is true that Duettos and Domus Pros will not contribute to the rental income in the second half of the year, but it still looks like that we are aiming to achieve an NOI for the year between EUR 13 million and EUR 13.5 million. So I think, yes, if to disregard the properties that were disposed, then our portfolio remained quite stable in the second quarter and digital recovery in the NOI, specifically in Galerija and Europa. And based on the contracts and what we see the new tenants moving in, we see a continuous recovery happening in the second half of the year. However, at the same time, we've had some increase in vacancy or will have now in the third quarter in Upmalas and the LNK Centre. In LNK Centre, we had -- have 2 tenants, and one of them took quite a bit of time to understand what exactly are their office needs. And going forward, it's an IT technology company and they finally decided that they would like to reduce and reduce almost half of their space that they had. So yes, new talent searches surges are ongoing. And as I mentioned, in Upmalas, we already have one large tenant that will take a little bit less than half of the greater vacancy from -- hopefully from January next year. So there was also a question on how efficiently is our fund managed and that roughly around 30% of the rental income is for administrative and property management charges. And this, I would say, has been influenced. It's a bit high if you ask me. And compared to the market, I think the good level will be anywhere between 15% and 25%. I think one of the largest streets today has around 24%. I think Citycon comparison around 17%. We've had some additional costs related to the bond refinancing as well as vacancies have created additional expenses for the fund for the landlord to cover. Historically, we've had a cost recovery percentage of -- in the portfolio or in the properties at around 90% of all service charges being recovered, and that's where our goal is right now, is to achieve that when we have the vacancies reduced and new tenants signed in. So the new agreements are, to the vast majority, signed a triple net. So definitely, what we see also in Galerija and Europa now with the vacancies being filled out that it's a double positive effect. As previously, it was a double negative effect on the NOI, but a positive effect that not only we receive rent, but also recovery of the charges. So we do expect that ratio to improve. And as I mentioned, I think our target is to bring it down to anywhere between 15% to 25%. I think, realistically, it's around 21% when the buildings are all filled out. Overall, we did have some increase in financial expenses as I will also talk about that a bit later. So our balance sheet at this moment is the following. We did have to accept some of the devaluation of our properties that influenced our balance sheet. So -- and we have also paid now partially back the bond, EUR 7.5 million. So there's been some questions, why EUR 7.5 million? Why not more? Why not less? Then from our side, this is very specific cash management discussion and I think it's quite clear that we do have several also bank loans still to be renegotiated and prolonged. They are all in progress. We have successfully prolonged with the new bank or, let's say, signed a new bank loan for Upmalas Biroji. For LNK, the loan can be extended at similar terms, but also with Galerija Centrs loan is coming up beginning of next year. So we try to be very prudent to understand how these, let's say, different aspects of our daily life will find a solution. In addition, of course, we have been also offered some proposals to dispose some other properties. So we are also considering that. But I think from the bond repayment point of view that we will do it as prudently as possible in tranches and probably not more than 3 tranches before the year-end. So yes, it will cost slightly more to keep the expensive bond, but we do have to consider other things as well and not just payback the bond and give us challenges for further cash management topics. The deleverage of the disposals and not the revaluations is around 57%. As we have said openly, we continue to deleverage. We continue to find ways out to use new bank debt to payback the most expensive bond. It's priority for us to reduce the bond. I think that's clear. We've announced it several times. And there's various ways how we can do that. And again, it's either new cheaper bank loans upon improvement of our NOI in certain properties or further disposals, which are also not out of the question. We rather would keep more cash in our balance sheet than less. And if we find proposals reasonable for certain properties that we have, we will consider disposing them as well. Our goal, of course, is to continue and prolong the debt maturity as much as possible. Yes, around 2 years is quite a low figure, but we work with the banks as much as we can. And with new long-term leases, we do hope to have also more long-term bank loans. We're quite happy with Upmalas Biroji refinancing with relatively new, but small bank in Latvia, Riga called BlueOrange. So they are our new partner now. And I think we work with all the banks that are today in the market and discuss various proposals. So -- and happy to see that these new up and coming banks are eager to also gain market share and therefore, offer quite competitive terms and actually, in this case, best terms offered by BlueOrange Bank. In regards to our hedging policy, we still have quite a few hedges with different maturity dates. And yes, these hedges are loan-by-loan, maturity-by-maturity being removed. But our answer there is that we -- during this time, I aim to payback the bond as much as possible because, again, this is the most expensive bond that -- or the loan that we have debt instrument. And if one would ask, would we want to pay back the whole bond, the whole EUR 42 million as soon as possible? Then answer is yes. Of course, that also needs a specific agreement with the bondholders who have said that, theoretically, they could be open for that. So of course, it's a commercial agreement, and we're looking for ways how to do that. But of course, primary goal is to pay back the first EUR 20 million before this year-end. But at the moment, the hedges still help us regardless of the very expensive bond. Our average cost of debt in Q2 was 4.2%. I think it's reasonable to expect that this will be increasing over the next few quarters, but I don't think the increase will be too astronomical. So no -- so yes, the hedge is still -- help us today. It's, today, difficult to say, "Have the hedges paid off?" But I would -- from -- because it's too early, depends on -- this depends on how long the high interest rate environment will stay. Probably today, it looks like it's going to stay here longer than was expected at beginning of the year. But also understanding what -- more or less, if I recall correctly, what we paid for those hedges back in a day, then I think they should be paying off definitely. And -- but I think a more specific calculation needs to be done for that, and we will do that for this year when the full year is over and hopefully, also have a paragraph there about that in the annual report. Going forward. So we've analyzed our properties early. And we -- yes, we -- on one hand, we are in a process of deleveraging, selling our secondary assets, secondary locations where we feel that we can get the best price today and on a long-term perspective where we can only add limited value. Then clearly, we've been hit by several different crises over the past 3 years, starting from COVID, and COVID did have a strong effect on our central located properties. But today, we have already made some progress, and we're confident that we can make even better progress with our centrally located asset leasing. So the work has got out for us, but -- there are several scenarios, but we do see that there's definitely interest in our vacancies. There are several negotiations still ongoing. We have signed several leases already, but the levels of rents that we could get from these new concepts are very attractive. So -- and they are long-term leases. So it's definitely where our main focus is going today. And we see an upside potential in our portfolio with indexations and vacancy reductions of around EUR 4.5 million that we have calculated today. Yes, it would need some investments, and that's what we are also preparing for over the next 12 to 18 months in order to achieve the full potential. But we definitely see that investing that EUR 1 million into these lease agreements, into these tenants, and reducing the vacancy and getting better cost coverage is absolutely worth it. It's what we see also from the food hall investment calculation that investing around EUR 2 million, we have -- at least at the beginning, we have the return of around 20% of that investment. So achieved even higher rent, more than 20% -- EUR 20 per square meter for the fourth floor in Galerija. So we see that it is possible. And when you get the concept right, when you get the tenants right, and that's what we see today also for the portfolio. And here in more detail, these are the 4 assets that have the highest vacancy today. Yes, we haven't found a younger anchor tenant in Meraki yet, but there are several tenants, again, looking at it and we're making test fits for them. So we're trying to agree on commercial terms. So it's just, again, a matter of time when we will be able to lease it out because in that area, again, it is the best and the newest office building in area. Office tenants need to make certain upgrades for their fit-outs in order to attract people back to the offices. So that is all working in our favor. Of course, at the same time, competition for new tenants in Vilnius is strong. Quite a few older properties that have increased vacancies, but the work continues. In regards to Postimaja and the cinema, that is quite simple. The Postimaja agreements have all been prolonged. The last vacancy, we have a tenant in place. It's not signed yet, but we aim to sign it shortly. The tenants as well as I, we are expecting the time line to be completed. And then with the cinema, we need to sign 2 lease agreements, one for the ground floor where negotiations are ongoing as well with several anchors. And then finalize talks with Apollo, who would take the remainder of the property, second floor until the sixth floor. Cinema business is doing well, recover very quickly as has the fitness segment. So in that sense, we're comfortable and actually quite happy to have such segment in our portfolio as a cinema. People need entertainment and relatively cheap entertainment. So that's definitely -- that shows also in the results. With Europa, we are working on the third floor, which is a primary topic how to lease out the half of the third floor to tenants that are not in retail segment. So in other segments to improve the tenant mix, improve the property and make it more mixed use, we see the game changer and several negotiations ongoing. And again, hope to make further announcements in upcoming periods. And Galerija Centrs mentioned already about the food hall market, which is coming in November, improvements in H&M store and -- but also search for new anchors on the fourth and fifth floor continues. Also adding mixed use to the properties will most likely be related to either offices or clinics or also gym. So we know what we have to do and hard work is being put on by the teams in order to achieve those new leases. So to make maybe a recap here, this is where we're focused on. If we believe that we can still get the best price today at an acceptable level for some of our assets that we don't see long-term potential, we will consider selling them. We continue to deleverage, continue to catch up for the coming 12 to 18 months period. We want to pay back the bonds. We want to have some funds for the CapEx fit-out investments that would be needed to achieve improved NOI. If we had achieved improved NOI, we are able to get better financing terms with the banks. And that's definitely what we want to achieve as well because compared to the bond, bank financing is still very competitive and much cheaper. And some of our LTVs and some of our properties are very low at the moment because of the recovery happening. So that's one side of the coin as well of what needs to be solved for the upcoming 6 to 12 months. And as I mentioned, several lease agreements have already been signed and a lot of them under negotiations. And bit by bit, we are confident that we can increase the occupancy of our top assets already now over the next 6 to 12 months, but there are many more things that I cannot maybe announce today that are in motion. So -- but yes, this -- I think this slide definitely summarizes the action plan that currently is in motion. Let me see if I have some questions here. So there was a question also on the NOI drop from EUR 1.4 million to EUR 1.2 million last month, and that is directly to do with the disposal of Duettos. Yes, there was some indexation. But yes, the -- let's say, the new level of the NOI is EUR 1.2 million. And I think it is reasonable to assume that the annual NOI will be roughly EUR 13 million to EUR 13.5 million. Let me see there are more questions. The question on the office market. So how do I see the office market today? I would say that office market generally works fine, and there are tenants that are looking to find more efficiencies, especially in certain segments, such as IT and probably financial services to some extent. Then, again, real estate development, we definitely don't see that, rather the opposite. And in that sense -- and also back offices, I think, due to security reasons, people are required to work more from office and cannot provide too much flexibility there. So for example, SEB that is moving out from Upmalas, they are actually expanding their back-office service center, and that's why Upmalas was too small for them. Upmalas is a good quality. Actually, a very good quality property in -- on the left side bank of River Daugova. So it is -- has 2,000 square meter floor plates, and that's why the new tenant that has also -- we have been able to attract to Upmalas like the property. So there are -- and this new tenant is actually gathering their different small, let's say, premises, people from the smaller premises into one. So they are consolidating their premises. So we see that as well. Then in LNK, we see one of our anchor tenants also increasing their premises. But yes, in LNK's case, we saw a decrease. So I would say, overall, in the market, there is definitely increased competition for tenants, and that's what we see also in Vilnius today with Meraki. So the new reality in the office segment is trying to -- is beginning to show some -- it's a new phase. So I'd say the office market growth is definitely expected to be smaller than, let's say, in pre-COVID periods when it was the growth of 20%, 30% annually. But as Baltics are still moving towards service-based economies, and we have not near -- not even comparable amount of office space compared to the Nordics, so there's definitely going to be some growth overall. But I think from the short-term period, yes, there will be some reductions, there will be more competition. So in that sense, probably the new stability will be found within the next 2 or 3 years, what is the new fit out for the offices needed and the new standards going forward with this life after COVID. A question on what proposals have we received for our properties and which ones? I can probably generalize a bit. I don't think we have received pro offers for all of our properties, but we received quite a few offers, most of them actually unsolicited offers. So -- and I think what -- looking back to the 6 months that we had, there's definitely still buyers out there, and I think the market can be satisfied with that. Of course, it's a cat and mouse game, what price, what property. And -- but I wouldn't say that the market is completely dead. I think there are transactions happening quite close to the valuation at least. Where in our case, so -- but let's say, certain offers that we have received, we consider them also based on our calculations, again, based on the potential that we see in our properties, not acceptable as a lot of value would be lost. So we do see -- we're signing some of these additional leases that a lot of value can be recovered, and that's again what we are working on as we speak. So there is a question on Galerija. And so the -- and I guess that also goes to the yield of Galerija and Europa and to some extent, Postimaja Plaza, which has been lower. The net yield -- running yield between 3% and 4%. It has been improving gradually and will improve, I think, also in the coming quarters. But yes, it is still below our target yield, which is close to 6%, 6.5% on average. In the next, I think, quarter, Galerija Centrs for ground floor for ARKET will be still under construction and fit-out works. So no rent is actually received from those premises. So that's why the recovery of the yield is probably not happening too much in the next quarter. But in Q4, definitely, there would be improvement there as well as in first quarter when ARKET effect should be very visible. And since it would be the only ARKET in Riga, I think, again, like -- it's a novelty like we see in the food hall perspective. We're absolutely amazed what's happening that people come there. It's not cheap to have a dining experience there. But just the views and the atmosphere and the vibe, that's what people want and that's what people in today's retail world search for. It's not, again, only food stores or fashion. It's about experience. And we try -- we do the best we can with the concepts that we can come up with. And we believe that ARKET will be similar with their little cafe there as well in the courtyard. So I'm looking forward to further enhancing them with anchor tenants that we're targeting. But again, that will take probably another 12 to 18 months to fully realize. So let me see if there were any other questions. So yes, coming back maybe to the administration of the fund, and we've been searching for ways out to cut costs. We reduced the marketing expenses, also negotiated as much as possible with lawyers and auditors for better terms, decided to postpone certain expenses for the future. So we've really gone through as well the cost cutting as much as possible. Of course, especially for our new concepts, we need to have some marketing to promote it and to get the NOIs improving. So -- but we aim to be as efficient as possible in that regard. So let me see if there's more questions. So maybe just to summarize once again. It's been turbulent times, and we're prepared for the upcoming period, which will be also well challenging. From one end, we're in economic recession already. The positive thing is that all the new concepts opening in our shopping centers in our central located assets show very positive results. So again, new concepts work. They are fresh news, and we see it from the results. So we see that we're working towards the right direction. And as well, the turnover of the tenant hasn't really dropped much. It has remained stable, maybe hasn't shown major increases now over the past quarter as it did in end of last year due to inflation and price adjustments. So -- but -- so we're cautiously optimistic there. And especially, yes, the new tenant concepts were working on decreasing the vacancies. That's our primary goal. That will allow us to improve the occupancies, the yields get better bank loans, and then we have more resources to pay back the expensive loan. Up until that, we have disposed some assets. We may continue to dispose even more if that's necessary to have sufficient cash to go through this period of rejuvenation of the central located assets. And as I mentioned, the potential of roughly EUR 4 million to EUR 5 million of additional NOI, we see that as very tangible dependent on these new concepts and new leases. And from that, a lot of value can be restored, regained instead of looking for ways how to dispose assets in today's environment at a very unfavorable conditions. So yes, we have started discussions on refinancing of the loans also happening next year. So they are well in motion. We have good relationship with the banks who have made quite large profits in the past periods. So we hope to achieve attractive terms with the banks. It's yet early to see what terms, but maybe one note I can give here is that we had, I think, the most difficult time, end of last year, beginning of this year, where disposals were not certain, nothing was certain. Banks were very conservative towards us being able to refinance the bond at all as we saw what was happening in the Nordic market in Sweden and Finland, especially. And -- but after now -- after the past 6 months events, we've been executing. We've been able to execute these plans successfully. And I think going forward, we are in, let's say, more predictable or more certain situation as we were compared to end of last year, beginning of this year. So I think thank you from my side. Hopefully, this was informative. The work continues. And if we have any additional news, of course, we will announce it separately through a stock exchange. I think one should expect some news definitely in the upcoming month or 2. We're looking for various ways out to how to keep our cash buffers, how to get the best possible terms with our loan partners and how to be also ready to attack the market and the opportunities in the upcoming periods. So that's also something that we are discussing with some of our anchor investors that have a long-term view on the Baltics. So all the best, and let's be in touch.