Crombie Real Estate Investment Trust (CRRUN) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to Crombie RIETs Q1 Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to Ms. Ruth Martin. Please go ahead.

Thank you. Good day, everyone, and welcome to Crombie REIT's First Quarter 2023 Conference Call and Webcast. Thank you for joining us. This call is being recorded in live audio and is available on our website at www.crombie.ci. Slides to accompany today's call are available on the Investors section of our website under Presentations and Events. On the call today are Mark Holly, President and Chief Executive Officer; and Clinton Keay, Chief Financial Officer and Secretary. Today's discussion includes forward-looking statements. As always, we want to caution you that such statements are based on management's assumptions and beliefs. These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Please see our public filings, including our MD&A and annual information form for a discussion of these risk factors. I will now turn the call over to Mark, who will begin our discussion with comments on Crombie's overall strategy and outlook, along with a development update. Clinton will review Crombie's operating fundamentals discuss our financial results, capital allocation and approach to funding, and Mark will conclude with a few final remarks. Over to you, Mark.

Thank you, Ruth. Good day, everyone, and thanks for joining us this afternoon. I'm honored and pleased to be speaking to Crombie's quarterly results today. But before I get into the results, I want to highlight that this morning, we held our Annual General Meeting, where I spoke to the depth and value of the strategy that guides our business. Our focus will remain on 3 asset classes: grocery-anchored retail, industrial and residential. There are 5 strategic pillars that guide this focus: #1 operating with excellence, a well-curated necessity-based portfolio; 2, our strategic partnership with Empire; 3, executing a robust development pipeline, 4, ensuring strong financial conditions and most importantly, 5 are foundation, our people and culture. Staying focused and disciplined on our strategy is a must to achieving our long-term goal of sustainable growth. Our team's resilience and commitment to prudent execution is fundamental, and we are prepared to make hard decisions in the short term for success in the long term. Our portfolio is primarily comprised of the most desirable asset classes in Canada and our results reflect their resilience. Operational performance was strong in the first quarter with committed occupancy of 96.7%, healthy same-asset NOI growth of 2.4% and strong renewal growth of 5.7% over expiring rental rates. These metrics reflect the hard work and dedication of our leasing and operations team who commit to excellence every day for our tenants. One of our competitive advantages is our strategic relationship with Empire, investing in Empire's network in the form of modernization, conversions as well as their Vola e-commerce network is an important part of our program. We align our real estate strategies and overlay the synergies to create win-win programs. This collaboration drives value creation for both organizations. Development and reinvestment in our properties is an important pillar of our strategy as it provides opportunity to drive AFFO and NAV growth, enhancing the quality of cash flows across our portfolio. Leasing progress occurred throughout the first quarter at our completed mixed-use residential properties, Le Duke and Bronte Village. We are pleased with the progress that has been made. Le Duke, located in Montreal has reached full occupancy as of April 2023, with rents exceeding pro forma by over 5%. At Bronte Village in Oakville, lease-up continues to gain momentum with residential portion of the property 56% leased as of mid-April, with rents exceeding pro forma by over 10%. We are encouraged with the progress over the quarter and are still targeting stabilization of NOI next spring. To deliver our development pipeline. We continue to be prudent stewards of capital and prioritize its allocation with the long term in mind. Our financial strength allows us to pursue the right opportunities at the right time. Maintaining well-laddered debt maturities contributes to a strong balance sheet and financial condition. And in March, we secured long-term fixed rate debt, which Clinton will speak to shortly. With this financial strength, I am pleased to announce that we have committed to our next major development, the milestone formerly known as West Holon Duke in downtown Halifax, Nova Scotia. Halifax is a strong market and one of Canada's fastest-growing cities. Housing demands are substantial with a vacancy rate at 1%, and we own some of the best real estate in the city. This 291 unit residential rental project will be built to lead gold standards with an operational net zero ready plan and will be a Rick Hansen Foundation certified property. The milestone will be a valuable addition to our portfolio and to the community. Our development pipeline is expansive and entitlements play a critical role in establishing a well-structured development ladder. Our team is laser-focused on advancing projects through the approval process as securing entitlements provides optionality and flexibility for our development planning. We intend to submit 4 rezoning applications over the course of 2023 and adding to the 6 locations with either rezoning approval in place or rezoning applications submitted. Together, these 10 properties have the potential to add over 5 million square feet of commercial and residential GLA, which includes up to 5,800 residential units. On the sustainability front, this morning, I was pleased to announce Crombie's Climate Action Plan, the next part of our environmental commitment under our ESG platform. Crombie is committed to achieve net 0 by 2050 for scopes 1, 2 and 3 and is setting a near-term target in 2030 of reducing Scope 1 and 2 emissions by 50% from a 2019 base year. Our reduction targets will be submitted to the science-based target initiatives, SBTI, for validation and approval. In addition to this climate action plan, last month, Crombie was named a 2023 green lease leader, receiving gold level by the Institute for Market Transformation and the U.S. Department of Energy Better Building Initiatives. We also received Boma BEST Platinum at our Scotia Square office complex in Halifax. With that, I will now turn the call over to Clinton, who will highlight our first quarter operational and financial results and discuss our capital funding approach.

Thank you, Mark, and good day, everyone. Crombie ended the quarter with committed occupancy of 96.7% and economic occupancy at 94.5%. Excluding Voilà CFC3 which is expected to take occupancy and commence paying rent in mid-2023, economic occupancy would be 96.1%. New leases increased occupancy by 62,000 square feet at an average first year rate of $18.91 per square foot. Approximately 87% of new leases equivalent to 54,000 square feet were completed in VECTOM in major markets. At March 31, 2023, 406,000 square feet was committed at an average first year rate of $20.42 per square foot, with tenants expected to take possession throughout 2023. VECTOM and major markets represented 363,000 square feet of committed space, including 304,000 square feet in Calgary, Alberta for the substantially completed Voilà CFC3 and 31,000 square feet in Burlington, Ontario for our new Farm Boy store. During the quarter, 540,000 square feet of renewals were completed at an average increase of 5.7% over expiring rental rates. The primary drivers of renewal growth in the quarter were our freestanding retail and retail plaza portfolios. An increase of 7% was achieved for first quarter renewals when comparing expiring rental rates to the weighted average rental rate for the renewal term. Crombie proactively manages its lease maturities, taking advantage of opportunities to renew tenants prior to expiration. During the quarter, approximately 237,000 square feet of renewals related to future year expiries were completed. On a cash basis, same-asset NOI increased 2.4% compared to the same quarter in 2022. Primary drivers are improved tracking revenue, increased rental revenue from renewals, new leasing, modernizations and capital improvements. For the quarter, AFFO per unit was $0.26, increasing from $0.24 for the same quarter last year, while FFO per unit was $0.30, increased from $0.28 for the same quarter last year. AFFO and FFO payout ratios in the quarter were 86.6% and 75.3%, respectively. The improvement in AFFO and FFO for the quarter is primarily due to an increase in income from equity account investments of $3.2 million as a result of the sale of land inventory at our Opal Ridge property in Dartmouth, Nova Scotia. Increased rental revenue from renewals, new leasing and acquisitions as well as improved tracking and higher supplemental rent from modernizations. This was partially offset by lost rental revenue due to dispositions. AFFO was further offset by an increase to the maintenance capital expenditure charge in Q1 2023 from $1 to $1.10 per square feet, which resulted in an increased charge of $468,000 and is expected to impact the full year by approximately $0.01 per unit. We have worked hard to improve our balance sheet and overall financial condition to position us well to drive future growth. During the quarter, Crombie had a successful offering of $200 million senior unsecured notes with a term of 6.5 years at an interest rate of 5.24%. This transaction aligns with our strategy of accessing multiple sources of capital to pursue strategic growth opportunities, including Empire-related initiatives and our robust development pipeline. We ended the quarter with available liquidity of $736 million, and our unencumbered asset pool grew increasing its fair value from $2.2 billion at year-end to $2.3 billion this quarter, predominantly from mortgage repayments. The $200 million non-revolving bank facility expiring in November 2025 is intended to be used to fund mortgage repayments over the next 12 months. Unencumbered assets as a percentage of unsecured debt is 195%, providing Crombie with additional financing flexibility and optionality. Our debt to gross fair value was 41.9% at the end of Q1 2023. We ended the quarter with debt to trailing 12 months adjusted EBITDA at 7.96x down from 8.02x at December 31, 2022. The improvement is primarily due to lower outstanding debt as a result of mortgage repayments and dispositions as well as improved EBITDA. We continue to prudently allocate capital, reduce risk and build financial strength through access to multiple sources of capital, maintaining ample liquidity and a healthy weighted average turn to maturity. With that, I will now turn the call back to Mark for a few closing comments.

Thank you, Clinton. To summarize, I'm pleased with our first quarter results. We strengthened our business with successful operations and finance results. We're in a great position with strong fundamentals and a committed team. I'm especially pleased with the progress we've made to advance our environmental commitment and our next major development. That concludes our prepared remarks. We are now happy to answer your questions.

[Operator Instructions] We have your first question coming from the line of Lorne Kalmar from Desjardins.

Mark, congrats on 1 quarter in the books. Just on the Marlstone. I was wondering if you could give any color on yields and costs and time lines, given that you guys would sound like you're pretty close to getting started on the project.

Yes, we're really excited about the Marlstone, our next project. We expect cost to be in the range of about $130 million to $150 million. We, at this point, already have about 75% of the cost through an LOI. So we have some security around that, which is one of the things that we've been working hard at over the last number of months on getting some comfort around the cost in this market. And at this point, we don't currently disclose yields, but really pleased with the project metrics and the project time lines and discipline that we're taking around this. And so that gives me a lot of confidence. And I think your last question was around timing on breaking ground. Because we've done a lot of work over the last couple of months on getting organized with certainty around costs, we've got a lot of the contracts ready to go. And so the team is ready to start to pull the trigger over the next coming weeks to month or 2.

Okay. So you guys are real close on that one. All right. And then just sort of maybe looking a year or 2 down the road, is the goal to sort of start one project a year?

Yes. As you know, we got a really robust pipeline, a number of near-term projects, medium-term projects, and we just talked about sort of one of the things that we want to work on is in the acceleration of entitlement for flexibility. We have an amazing team that has really worked hard over the last 5 years on the other 6 projects. And we're going to pick our spots. We're going to start with the Marlstone. We're going to work through the rest of the development ladder and find our spots when the market conditions are right when we have the right team available and we have some certainty around it. So more to come, but at this point, I'm super excited about the Marlstone to get that one going.

Okay. Fair enough. And then just last one from me. You guys got the CFC coming on in Q3, I believe, or middle of the year, I should say. Is there any desire to add to the industrial portfolio by way of acquisition?

Well, CCI 3 was the one that we acquired and built and we will be -- we've handed that one over to Empire Sobeys, and we're really pleased with that construction. It is one of our focuses as we talked about the 3 asset classes that we're most interested in. Most of our industrial has been with our partnership and our strategic alliance with Empire. Never say never in the acquisition, but in world keen on industrial, it's a nice asset class for us. We've grown that portion of our portfolio mix. And so we're always interested in that platform. It is a part of our growth.

[Operator Instructions] Your next question comes from the line of Mario Saric from Scotiabank.

Coming back to the milestone, I may have missed it, but it appears that you own 100% of that project is the intention to own 100% of it going forward.

Yes, that is the intention. So we own 100% of that asset. We are going to self-develop that asset and manage that asset. We've got an amazing team that has been working on residential projects over the last 5, 6 years. We've got the home base here in Halifax, and we've got one of the best operating teams directly adjacent to this site. So yes, we will own 100% of that asset.

Got it. And so, I guess, discussing returns, just conceptually, how do you -- how does running 100% of the project impact kind of the required return to kick start the project relative to actual interest previously at all?

Yes, the last residential projects we had completed, we were as shared partnerships with Westbank and Prince [indiscernible]. All the metrics and all the project modeling that we did included all the overhead requirements, they're all embedded in with this project. And they're included in sort of that capital $130 million, $150 million that I referenced earlier. And so overviewing the metrics over the last few months and getting ourselves organized, we're really pleased in kind of where we're going to land on this project.

Got it. And then maybe, again, conceptually, when you think about interest rates have come up quite a bit for a lot about construction costs or construction interest rates coming up quite a bit. How do you think about returns in relation to construction interest rates or private market cap rates, if you can just conceptually kind of illustrate how you think about the relative return profile when it kicks in.

Yes. I'll give you a bit of an overview on sort of the construction industry, and I'll pass it to Clinton, then I'll talk a little bit about cap rates and interest rates. But from the industry side, as we were going through our tendering process, we are seeing some good stability in the market. And we're also seeing good availability of labor and trade. Again, it's our home base and Halifax and so we've got some amazing partnerships already formed here. And on that side, we were really, really comfortable, and we're able to get to 75% certainty around the cost, which was one of the influential factors as we're looking at the total cost to move it forward. I'll pass it to Clinton who can talk about cap rates and interest rates.

Yes. So on the interest side, obviously, we'll be looking at implementing CMEC financing, the loss cost, funding possible on this and lots of liquidity to manage us through the construction phase as well. So from that standpoint, Mario, I'm not sure your question around how that ties into returns. But during the -- obviously, during the construction, we'll be capitalizing as a project cost, and that's built into the modeling. But at the same time, once we do get to substantial completion, we will be looking to put long-term CMC financing on that property.

And I think excluding kind of the value of the land, like how much equity do you think you need to put into the project?

Equity, well the value of the land is in there. We haven't disclosed that yet, Mario. Honestly, I don't want to give disclosure at this point in time. We'll get back to on that probably in the next quarter or so.

Okay. Maybe shifting gears on the retail side, just from a leasing perspective, are there any larger leases in the next 12 months or so that you're concerned about in terms of renewal? Or are you pretty confident that you can maintain what is essentially a record occupancy in '23?

Mario, it's a good question and definitely been hitting record highs. As I continuously call out, I think we have one of the best leasing and operations team in the country, and they've done just an exceptional job in managing the relationships with the tenant. At this point, we don't see anything that would adjust those numbers. There's slight fluctuations up and down, but we have no material concerns around our portfolio. As we're operating in 3 really desirable asset classes. The tenant mix is really healthy, and we're really pleased with sort of where we sit today.

Got it. Okay. Last one for me, Mark, you talked about never say never in terms of buying industrial assets. How about on the office side? I know the office portfolio is somewhat integrated within the broader portfolio. What are your thoughts on the office exposure going forward?

Yes. We have the Scotia war asset, and it is for those that know the asset, it is centric and Halifax occupancy rates in the near 90s or slightly above 90. It's got some of the best amenity services in that building and the operations team there and the tenant service team there has done just an excellent job. We have a pretty long Walt on that facility. In terms of where do we stand on office, it is not part of our 3 asset classes that we are -- what we've been on. This particular asset represents about 3% to 5% of our GLA. And so it's a small piece but end we're happy with the asset, but we're not looking to invest any more in that.

Your next question comes from the line of Tal Woolley from National Bank Financial.

Just on the Opal Ridge project. You've obviously been liquidating some land there. How much more land is available there to liquidate? And do you have a sense of the timing of that?

Yes. So yes, there is more land inventory. And yes, we do expect to sell more in the second half of 2023. We own about 6 parcels remaining. And so we will be looking to dispose of those assets over the course of the year or into next year, timing still to be determined or sort of working through the process at this point in time.

Perfect. I mean you mentioned earlier wanting to increase the amount of sort of zone density within your pipeline projects. Do you look at target a certain amount that you're looking to surface over the next x number of years?