Charter Hall Long WALE REIT (CLW) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Charter Hall Long WALE REIT 2021 Full Year Results Briefing. [Operator Instructions] Please note that this conference is being recorded today, Monday, 9th of August. I would now like to hand the conference over to your host today, Mr. Avi Anger, Fund Manager, CLW. Thank you, sir. Please go ahead.

Good morning, everyone, and welcome to the Charter Hall Long WALE REIT results presentation for the full year ending 30 June 2021. Presenting with me today is Scott Martin, Head of Long WALE REIT Finance. I'd like to commence today's presentation with an acknowledgment of country. Charter Hall is proud to work with our customers and communities to invest in, develop and create property assets on lands across Australia and New Zealand. We pay our respects to the traditional owners, their elders past and present and value their care and custodianship of these lands. The format for today's presentation is that I'll start with an overview of CLW and key highlights for the period. You will then hear from Scott, who will provide an overview of the financial performance of the REIT. I will then return to provide an operational update and portfolio overview for the period and provide an update regarding earnings guidance for FY '22. We will then offer the opportunity for questions. Turning now to Slide 5. Today, CLW is Australia's largest diversified long WALE REIT. The REIT is included in the ASX 200 and is a top 10 listed A-REIT by market capitalization. Since listing on the ASX almost 5 years ago, CLW has delivered long-term profitable growth, consisting of 12% annual return on equity; 36% NTA per security growth, representing annual growth of 6.8%; and 3.7% compound annual distribution growth per security. Based on CLW's price at 1 July 2021, CLW offers an attractive 6.4% distribution yield. Turning to Slide 6. We actively manage the portfolio to extend portfolio WALE, improve tenancy profile, improve diversification and deliver earnings growth. Over recent years, the quality and diversity of CLW's property portfolio has changed significantly. Today, CLW has a best-in-class $5.6 billion diversified real estate portfolio consisting of 468 properties with a very long-dated average lease expiry of 13.2 years. 48% of the income of the REIT comes from triple net leased properties. This is an important feature of our portfolio, given that under a triple net lease structure, the tenant is responsible for all outgoings, maintenance and capital expenditure. In addition, 75% of our portfolio is now located in markets on the Eastern Seaboard of Australia. These factors enhance the security and continuity of income at CLW. Turning to Slide 7. Our portfolio continues to be diversified by tenant, industry, geography and property type, which contributes to the stability of our cash flow. CLW has a high-quality income stream generated from blue-chip tenants, with 99% of the tenants of the REIT consisting of government, ASX-listed, multinational or national businesses. Our largest tenants are government, Telstra, BP and Endeavour Group. Our properties were leased to 77 tenants across Australia and New Zealand and diversified across long WALE retail, office, industrial, social infrastructure and agri-logistics sectors. All the leases in our portfolio have annual rent increases, providing strong year-on-year income growth. Our income is insulated from increases in inflation with 40% of rent increases across our portfolio linked to CPI, and the average fixed increase across our portfolio is a high 3.1%. Turning to Slide 8. CLW has a track record of attractive distribution growth with average distribution growth since IPO of 3.7% per annum. These highlights and the performance of CLW have only been possible due to the significant benefit that CLW receives by being part of the Charter Hall platform. The Charter Hall Group provides the REIT with access to high-caliber team of experts across all areas of the REIT's management and provides CLW with a competitive advantage in unlocking value-enhancing growth opportunities. Turning now to Slide 9 and key highlights for the period. I'm pleased to report that we completed a year of strong operating performance, delivering operating EPS of $0.292 per security and delivered distribution per security of the same amount. This represents growth of 3.2% over FY '20. Consistent with the FY '20 results, there was negligible impact on the REIT's FY '21 financial earnings as a result of COVID-19 pandemic, given the very small exposure to tenants entitled to rent relief. Our exposure to major national tenants in nondiscretionary and defensive industries means CLW is well insulated against mandated COVID-19 shutdowns, and we expect this will continue to be the case in the future. Our NTA at 30 June is $5.22 per security, up 16.8% from $4.47 at 30 June 2020, and CLW has a long-dated 13.2-year WALE, providing security and continuity of income to our investors. Over the year, we delivered $523 million of net valuation uplift for our investors, demonstrating the quality and resilience of the portfolio. We achieved valuation uplifts across the portfolio, including our pub portfolio, BP Australia and New Zealand portfolios, our agri-logistics and Telstra Exchange portfolios, vindicating our focus on long WALE real estate. 48% of the income of CLW is from triple net leases. During the year, we completed some significant capital management achievements. During the period, CLW was assigned a Baa1 investment-grade rating by Moody's. And following this, we were able to access capital market debt with $700 million of long-term, low-cost Australian dollar MTN debt issued. And we achieved a lower spread for a BBB+ REIT issuer since the GFC. Balance sheet gearing is 31.4%, within our target gearing range of 25% to 35%. I would now like to hand over to Scott, who will provide an overview of the financial performance of the REIT.

Thank you, Avi. The REIT's key financial metrics for the year ended 30 June 2021 are set out on Slide 11. As Avi has just touched on, the REIT delivered operating earnings of $159 million or $0.292 per security and declared a distribution per security of $0.292 for the same period, reflecting a payout ratio of 100%. NTA per security at 30 June 2021 was $5.22, representing a 16.8% increase over the 30 June 2020 NTA of $4.47 per security. Movements in all other key metrics shown on this slide result from portfolio-enhancing activities undertaken during the period, which Avi will cover in his presentation. Turning to Slide 12, which provides a summary of the REIT's FY '21 full year results. Net property income has increased 25.5% compared to the prior reporting period and has been driven by a combination of net acquisition activity, which has contributed $41.8 million of NPI, and like-for-like rental growth of 2.4% from the stabilized portfolio. The 2.4% like-for-like rental growth comprises an average of approximately 3.1% on fixed rent reviews and an average of approximately 1% on CPI-based rent reviews. The REIT expects CPI-based rent reviews in FY '22 to increase from those achieved in FY '21. Operating expenses increased by 29% due to portfolio growth and new acquisitions, and we also saw a 6.9% increase in finance costs year-on-year as a result of partially debt funding for the REIT's acquisition activity. Operating earnings per security and distribution per security have both increased by 3.2% on the prior corresponding period to $0.292 per security, in line with our guidance released to the market. Turning to Slide 13 and the REIT's balance sheet position at 30 June 2021. The $1.6 billion increase in total assets represents an increase of 52% over the prior corresponding period and has been driven by acquisitions transacted during the year and $523 million of property revaluation gains. The net decrease in other assets is attributable to the divestment of the REIT's unitholding in Waypoint REIT, which was disposed of in July 2020. The $11.3 million increase in the provision for quarterly distributions results from the growth in operating earnings arising from acquisition activity and annual rent escalations. Acquisitions were funded through a combination of debt and equity. During the year, balance sheet-drawn debt increased by $508 million, and $652 million worth of equity was raised. NTA has increased 16.8% from $4.47 at 30 June 2020 to $5.22 at 30 June 2021, driven by the $523 million increase in property revaluations. A summary of debt and hedging is presented on Slide 14. At 30 June 2021, the REIT had $2 billion of drawn debt calculated on a look-through basis. Balance sheet gearing was 31.4%, and look-through gearing was 39.7%, which have both been calculated based upon drawn debt at 30 June and adjusted to include the property acquisitions announced and exchanged post reporting date. Balance sheet gearing remains within the REIT's target gearing range of 25% to 35%. During the current reporting period, the REIT was assigned a first-time Moody's Baa1 investment-grade issuer rating and issued $700 million of Australia dollar medium-term notes across 7-, 8.5- and 10-year maturities at a weighted average all-in floating rate of 1.2% at issue. In addition to the A dollar MTN issuance, CLW extended the maturity of its syndicated bank facility from March 2023 to March 2026. The combination of the above has contributed to increasing the REIT's weighted average debt maturity to 5.6 years, which has been calculated on a look-through basis. The increase in balance sheet debt, together with a minor $12 million increase in joint venture debt facilities, have increased the REIT's facility limits to $2.4 billion, comprising 40% of debt sourced from capital markets' long-term issuances and 60% from foreign and domestic banks. The REIT's weighted average cost of debt is 2.1%, which is calculated as the look-through cost of debt based upon drawn debt as at 30 June 2021. This includes line fees on undrawn debt capacity. The level of hedging at 30 June 2021 was $1.1 billion, calculated on a look-through basis, which reflected a hedge position of 53.4% and a weighted average hedge maturity of 3.8 years. I will now hand back to Avi to provide an operational update and portfolio overview.

Thank you, Scott. Turning now to Slide 16. An important part of our strategy is to grow and enhance our portfolio through accretive acquisitions. During the year, we acquired $1.4 billion of portfolio-enhancing investments diversified across real estate sectors, including investments in long WALE retail, social infrastructure, office and industrial and logistics. These acquisitions demonstrate our focus on transactions offering attractive, long-term, risk-adjusted returns but also mindful of downside protection, investing in critical properties with strong tenant credit, favoring large companies and properties with higher underlying land value. As a result of these acquisitions, we extended our relationships with some existing portfolio tenants with the acquisition of properties leased to the Commonwealth Government, BP, Telstra, Endeavour Group and Bunnings. A large proportion of the transactions we completed were sale and leaseback transactions, featuring high-quality real estate that is operationally important and backed by strong tenants. Some highlights include: the BP New Zealand portfolio of 70 convenience retail properties acquired with a sale and leaseback transaction on a 20-year triple net lease. We were able to secure this portfolio off-market from BP on attractive pricing and terms following the successful completion of the Australian portfolio transaction we did with BP. Another recent acquisition is the Telstra Pitt Street exchange. This property is a high-value, strategic site in the Sydney CBD with significant value embedded in the land and existing buildings on the site. The property features a long triple net lease to Telstra. In the long term, when Telstra vacates the property, there are a variety of possible options for the redevelopment of the property. Given Charter Hall Group's strong reputation and strong relationships in the marketplace, we continue to see most deals in the market and also have access to many off-market opportunities as a result of existing relationships across the group. We were able to secure deals not solely based on price but also based on our ability to provide certainty of completion and ease of execution for the vendors. So turning now to Slide 18. In the following slides, I'd like to provide an overview of our portfolio and outline some key attributes of the portfolio. Slide 18 is our portfolio overview. During the year, we were able to grow and enhance the portfolio through acquisitions and positive valuation movements. The value of the portfolio is now approximately $5.6 billion. During the year, we further enhanced the portfolio with $1.4 billion of acquisitions. These acquisitions have increased the number of properties of the REIT to 468, and the portfolio has a long-dated WALE of 13.2 years at June. The properties in the portfolio feature a blend of annual lease review structures, both fixed and CPI-linked. Our average fixed reviews are 3.1%, whilst our CPI-linked leases provide a hedge against the potential of an increase in inflation in the future. Our portfolio has occupancy of 98.3%, and the portfolio average cap rate is 4.77%. Turning now to Slide 19 and an outline of the tenant customers and the tenant diversification of the REIT. Our portfolio of long WALE properties lease to high-quality tenants, including government, Telstra, BP, Endeavour Group, Ingham's and Coles. The acquisitions completed during the period further increase our exposure to some of these high-quality tenants, whilst in the introduction of new tenants in the period, further diversifies our tenant base. Turning now to Slide 20. On the following couple of slides, I'd like to outline the resilience and strength of the tenants in our portfolio. Slide 20 outlines the credit rating of the tenants in our portfolio. 62% of the parent entity of tenants in our portfolio are independently rated as investment-grade. And the vast majority of nonrated tenants consist of government, ASX-listed and large corporations. Turning now to Slide 21 and the industry diversification of our tenant customers. Within our overall portfolio, approximately 99% of tenants are ASX-listed, government or multinational or national corporations, with the vast majority of these tenants operating in nondiscretionary industries. For example, the government, including the ATO and Australia Post, are an example of our nondiscretionary tenant exposure. We also have a high proportion of tenants operating in the nondiscretionary grocery and food sectors such as Woolworths, Coles, Ingham's, Arnott's and Metcash. Turning to Slide 22. As can be seen from the chart on this slide, the REIT's portfolio has a long-dated lease expiry profile and reflects a low-risk position relative to our peers in the sector. Our portfolio WALE is a long-dated 13.2 years. And we continue to work to push our expiry profile as far as possible to the right of this chart both through acquisition and negotiating lease extensions with our tenant customers. Turning now to Slide 23 and the environmental, social and corporate governance. We are very focused on implementing sustainability initiatives across our portfolio. This includes climate resilience, social and community policy and responsible business and governance. For the FY '21 period, some of the REIT's key highlights include average 5-star NABERS Energy and Water ratings and 4.3-star NABERS Indoor Environmental ratings across our office portfolio, 28 Green Star Performance-rated buildings with an average 3-star Green Star Performance across office properties and 2-star Green Star across industrial and recognition by GRESB of a high level of corporate governance and public disclosure by CLW. Importantly, CLW is committed to environmental resilience and governance with a road map to alignment with the TCFD recommendations and climate change adaptation plans across its portfolio. This includes net 0 target for Scope 1 and Scope 2 emissions by 2030 with a focus on renewable energy sources, particularly solar. These preceding slides demonstrate the resilience and strength of our portfolio. Our portfolio WALE, quality of tenants and proportion of triple net leases provides better downside protection and lower volatility in our cash flow. Our approach has clearly produced more resilient income streams, resulting in higher-quality earnings. This, together with our focus on maintaining a strong and flexible balance sheet, has put us in a very strong position today. Turning now to Slide 25. I would now like to provide an update on our earnings guidance for FY '22. The REIT reconfirms that based on information currently available and barring any unforeseen events or further COVID-19 impacts, CLW provides FY '22 operating EPS guidance of growth of no less than 4.5% over FY '21 operating EPS of $0.292. That concludes the presentation, and I would now like to invite questions.

[Operator Instructions] Your first question comes from Stuart McLean with Macquarie.

A couple of questions, if I may. First question is just on Bowen Hills. So about 1/4 of the way through leasing setup. Was that lease-up originally planned for in guidance? And then looking forward, how do you think about leasing up the remainder of Bowen Hills? And what's currently in guidance for FY '22, please?

Sure. Stuart, thanks for the question. So in our FY '22 guidance, we have reflected the Fujifilm deal that's in that number but nothing further in terms of any further leasing up in that number. So any additional leasing will be upside to guidance. Look, we're making some progress on leasing up the balance of the space. We're in dialogue with some tenants in relation to that. There's nothing further that I can -- no further information I can really provide at this stage. But I'm hopeful in the near term, we can provide a further update in relation to leasing at that property.

And I appreciate that it's quite a small amount of space that you have leased up in the context of the broader portfolio. But I'm assuming FY '22 guidance was originally set with 0 lease-up at Bowen Hills. Or were you confident of a little bit of lease-up and so you had a bidding there in guidance?

Yes. We've always had the Fujifilm deal in our guidance, yes.

Okay. Great. Second question, so on Slide 28, it shows that revals have been $523 million for FY '21. It's great for the NTA, but responsible entity fees and other operating expenses are a touch to GAV. And so at 60 basis points, it seems like about a $3 million headwind just based on rising asset values in the P&L. How do you offset this at the group at the kind of the operating earnings level going forward if there is to be further NTA appreciation? Just what are some other levers that you can pull? Is it cost of debt because that's starting to be a pretty big input in the P&L?

Scott, do you want to take that? Or I'm happy to answer it.

Yes. Look, Stuart, I think, obviously, fund management fees at 45 basis points of gross asset value, that will continue as we buy more assets and valuations go up. That fee rises. I think on the admin costs that on a look-through basis, which were roughly $3.5 million, I think they're not increasing at the same rate. So I think especially at the balance sheet level, you saw roughly $2.9 million of admin costs last year, and that's the same issue, even though we've done $1.4 million -- $1.4 billion of acquisitions. So I think, hopefully, you won't see those admin costs continuing to increase, but the PFM fees obviously will. And then on the cost of debt, we've got a WAC there at 2.1% as at 30 June, which is based upon our drawn debt. That number is contained within our guidance as well.

Yes. And I should add, admin costs are not tied to fund growth. So they're a fixed cost, and we can take -- I don't know if the 60 basis points is correct that we've got a lower number, but we can take that off-line and work through that with you, Stuart.

Yes. Got it. So I was looking at [ TDS ] management fees of 45 bps and operating expenses of 15 basis points, but there might be an adjustment there. Okay. And then maybe just while I've got -- on the cost of debt, hedging is now almost 50%. Is that weighted average cost of debt of 2.1% now almost as low as it can go, given you've brought down the hedging and you've got more floating debt as well? So that tailwind is -- should abate a little bit? So we shouldn't expect cost of debt to continue to fall? Is that fair?