DEMIRE Deutsche Mittelstand Real Estate AG (DMRE) Earnings Call Transcript & Summary

Good morning, everybody, to our 2020 half year results call, and thank you for dialing in today. I trust you are well and healthy in corona times. With me here is Tim Brückner, DEMIRE CFO; and Michael Tegeder, our Head of Investor Relations, your well-known team. Corona is the topic of the year so far and has us keep busy as well in recent weeks and months. To cover this important topic first, let me shortly summarize the situation at DEMIRE before I jump into the presentation. The good news is that the impact on our H1 results is limited and manageable for us. And the situation, especially in rental collections, has strongly improved in July and in August so far. If there is no second lockdown occurring in Germany and the overall situation remains as stable as it is today, we are confident to deliver a robust set of 2020 results that exceeds our very strong fiscal year 2019. Our REALize Potential strategy, which we have introduced last year and which focuses on the main goals of portfolio growth, financial strength and increased profitability, has helped to make DEMIRE more resilient of the current crisis and proved to be the right actions at the right time. For all 4 pillars of our REALize Potential strategy, asset management, acquisitions, financials and processes, we have continued to work on especially in Q2 2020 and we'll proceed on working to strengthen the company further. First, the asset management field. We were able to let more than 70,000 square meters in the first half year and we see a demand that remains robust as well as a well-filled pipeline for further lettings. While the EPRA vacancy keeps trending downward and improves to 8.5% as of 30th of June, the WALT of our portfolio remained stable at 4.8 years. The annualized rent was EUR 89 million, slightly lower compared to end of Q1, which is primarily due to the disposal of one larger asset in Q2, Eisenhüttenstadt. We'll come to that a little bit later. Second, after the latest acquisition in March, we also worked on disposals in order to optimize our overall portfolio structure and increase the average size of our assets. By closing the disposals of 7 mainly smaller, nonstrategic assets with a premium to our latest book values, our average asset size almost reached EUR 80 million. Given the corona situation, let me stress that transaction market has slowed down in the second quarter, but definitely not dried out or dead. Third, operations-wise, the financial performance in the first half year 2020 was as strong as the asset management. The successful integration of the acquisitions 2019 and this year paired with our REALize Potential strategy led to an increase in rental income by almost 15% to EUR 43.8 million and an FFO improvement of about 6% to almost EUR 17 million. Both LTV and cost of debt are basically stable. At the reporting date, the LTV is at 46.2%, and the cost of debt are at 8.8 -- 1.8% and are leaving headroom. Tim will elaborate on that later. In the fourth pillar of our REALize Potential strategy, processes, operational improvements are taking effect in DEMIRE's organization. In the first half year 2020, we implemented a state-of-the-art treasury system and an innovative portfolio management system. This enables us to considerably simplify and improve our workflows, enable more detailed analysis and more target measure controls and most important in these days, enable us to work remotely from home from March onwards to ensure business continuity. Along with that, administration costs came down by approximately 3% to less than EUR 5.7 million year-over-year. When we spoke last time in mid-May, I outlined that about EUR 1.1 million and EUR 1.2 million rents are overdue in context of the corona situation for April and May. While we saw a comparable figure in June, rental collections have almost normalized in July and August with a collection of 97% and 96%, respectively. This shows that our approach to initiate dialogues with the affected tenants and [ finding real ] solutions together to pay in installments was right. Furthermore, it makes us confident that we are well on track to [ lead ] pre-corona levels for the next month. Given DEMIRE's strong liquidity situation with over EUR 80 million cash and no large upcoming cash outflow, the company is well prepared for the rest of the fiscal year 2020 and beyond. And this allows us, for the first time ever, to pay out a dividend to our shareholders if they agree to our proposal on the AGM on the 22 of September. More on the corona impact to come, but let's look back at the first half year and let me continue with operational portfolio highlights. On Page 6, you see the development of our annualized contractual rent and our letting performance. The main driver for the low annualized rent is the disposal of the asset in Eisenhüttenstadt, but also the other [ 6 ] assets that were sold contribute here. As there are some new rental contracts becoming effective over the course of the year, we expect the figure to increase again. After the, let's call it, a record level of letting performance in H1 2019, we achieved, call it, 70,000 square meters in the first half year of 2020. Although it looks and is indeed below the last year's figure, please consider that our half year performance in times of corona is still on the level of that in recent 12-month period. So half year 1 2020 was strong in terms of letting performance as well. In figure, we made EUR 5.5 million in rental income and almost 7 years in WALT on a stand-alone basis. In addition, our letting pipeline is [ properly ] filled and we expect another operationally strong second half of the year despite the challenging market environment. Let us have a look on vacancy and WALT of our portfolio on Page #7. As I just mentioned, with the sale of the assets in Eisenhüttenstadt, we lost, of course, some annualized rent, but this disposal helped us to improve, in fact, other portfolio metrics like vacancy, for example. Together with a solid operational performance and the fully let acquisition in March, we see the EPRA vacancy improving by almost 1 percentage point to 8.5%. Another key performance indicator is the development of the WALT, the weighted average lease term. It remains stable at 4.8 years for the third reporting date in a row. In fact, the last time DEMIRE's WALT was comparably strong was end of March 2018. The result demonstrates, again, our very strong operational performance especially in terms of letting, enhanced by the accretive transactions we executed. Once you consider all lease contracts that have been signed already, the WALT would exceed 5 years, manifest -- underpinning the strong execution of our REALize Potential approach. Dear, ladies and gentlemen, please turn over to Page 8 for the development of our gross asset value. As you see, our portfolio is not totally unchanged, but there were only 2 larger effects happening in the first half year. The closing of the Roomers in Frankfurt increases our investment property value by about EUR 43 million, while the sales already mentioned of the asset in Eisenhüttenstadt together with further more smaller disposals had an adverse effect of almost EUR 33 million, thereof EUR 27.6 million affecting the investment properties and the remainder were the assets held for sale. Overall, the portfolio value is [ above ] EUR 1.5 billion [ of sales ]. After the reporting date, we were able to execute the dispose of the remaining assets held for sale in Darmstadt in July. We will conduct a valuation of our portfolio and the properties at the end of the year, and for now, we do not expect major changes to our property values. Overall, half year 1 2020 has been challenging, but also the chance to demonstrate the robustness of our strategy and the diversity of and resilience of our portfolio, unfortunately, in light of the corona pandemic. Now I would like to hand over to Tim for some insights about our key financial metrics before I will provide you with a more detailed overview of the corona effect on our portfolio and the detailed outlook for the full year 2020.

Thank you, Ingo. Good morning, everybody. As Ingo already said, the impact of the corona crisis is so far limited on our performance and the growth profile of the company is unbroken. When you look at our selected P&L positions, you'll see that we have grown rental income from EUR 38.2 million by roughly 15% to EUR 43.8 million. This, as Ingo already said, is driven by the asset management and letting performance of our asset management team, the acquisition of the property in Frankfurt and the numbers are marginally mitigated by the disposal of assets, especially the assets in Eisenhüttenstadt. Also, the funds from operations continue to grow in the first half of 2020 mainly driven by the better rental income and rental performance, by roughly 20% lower interest expenses compared to H1 2019 and mitigated by impaired rent receivables due to the corona crisis and a higher tax burden than in previous years driven by our strong operational performance. Before jumping to Page 11 and looking at the numbers there at financial debt and NAV, I'd like to give you an update on the share buyback that we conducted after the reporting day and the acquisition of 5% further stake in Fair Value REIT. The share buyback -- we believe that the share buyback came at an attractive price, well below NAV and furthermore, enabled us to reduce the overhang of sellers in DEMIRE shares. The opportunity to buy a 5% stake in Fair Value REIT at EUR 7 per share is attractive as it reduces our minority position and improves our balance sheet ratio. As part of our strategy to, first, grow the company; second, reach IG rating; and third, pay a dividend, we will now take -- tick the dividend box and aim to pay dividends in the future, presenting a relevant share of operating profits but not necessarily attributing the full profit as defined in DEMIRE's HGB account. With this background information, I'd like to jump on the metrics shown on Page 11. We have reduced our financial debt position from EUR 807 million to EUR 785 million after some amortization and repayments linked to the disposal of the assets in Eisenhüttenstadt. With a liquidity position of more than EUR 80 million and new signed loan agreements of more than EUR 60 million, we have sufficient liquidity: a, for mitigating any foreseeable corona impact; funding growth; and pay a dividend as proposed by our largest shareholder, AEPF III fund, managed by Apollo. The EPRA-NAV per share has increased driven by the profit for the period from EUR 6.35 to EUR 6.43. Before I hand back over to Ingo to provide you more details on the corona effects and give you an update on our new guidance, I want to focus you on our leverage. The leverage is stable at well below our leverage target of 50%. But as we want to grow further and we expect the AGM to vote for paying dividends, we are looking forward to increase the LTV ratio towards our target level. We continue to further manage our average cost of debt successfully. We reduced it from year-end 2019 by further 6 basis points to now 1.78%, and it will improve further as soon as we draw the aforementioned loan facilities. Ingo, back to you.

Thank you, Tim. Let me now give you some details and figures about how our portfolio is affected by the corona pandemic in detail. You know that we have withdrawn our official guidance on rental income and FFO in April as we could not foresee the full impact on our business and on the market development. But what we see here and experience today, the direct impact on rental income is very moderate and well manageable, and the strong development of DEMIRE over the last year helped us to deal with and maybe even profit from the situation. It does not make us fully resilient, but helps us to manage the situation and keep our head up. In more detail and with latest data, while the rent suspensions from DEMIRE's tenants in context with the corona crisis amounted to an average of 13% of the target rents during the months of the second quarter, we see a significant recovery in July and August. In these 2 months, we have been able to collect 97% and 96%, respectively, and also collected already EUR 0.8 million of outstanding Q2 rents. These suspensions do not directly transfer to a loss in the P&L, only in case they are considered irrecoverable due to the insolvency or alike. In our H1 figures, you can find about EUR 2.2 million of such irrecoverable receivables. We expect the remainder of the outstanding rental suspensions to be paid given the aforementioned high collection quotes and recently and ongoing constructive dialogue with the affected tenants. The majority among the affected tenants in our portfolio belongs to the asset classes retail and hotel, of course. Again, I'd like to stress that with over EUR 80 million cash on the balance sheet and more than EUR 62 million of undrawn credit facilities, DEMIRE has ample liquidity for a dividend and to make use of any opportunities that might arise. On the next page, 15, please find our new 2020 guidance. We are confident that our rental income will increase by about 5% to 85 -- from EUR 85 million to EUR 87 million. This increase compared to the full year 2019 is mainly based on full year effect of acquisitions that we did in 2019 and strong letting result, slightly mitigated by selective disposals and corona effects. And the bottom line, in terms of FFO, will increase as well and probably even stronger by about 7% to EUR 36 million to EUR 38 million. The 2 driving forces for the FFO improvement are rental growth and lower financing costs. To summarize DEMIRE's first half 2020, while we have not been fully spared from the corona crisis, the effect on our portfolio and our P&L are moderate, manageable and expected to be further diminished in the upcoming months. The structural and operating improvement of our REALize Potential strategy gives us strength and pays off. I conclude our last results call mid-May by claiming that I believe we will finish the fiscal year 2020 with both rental income and FFO exceeding last year's figures, and I would like to confirm that to you today. Thank you very much. We are open to answer questions you might have now.

Our first question comes from Andre Remke of Baader Bank.

A couple of questions from my side, please, starting with the portfolio valuation. What was the motivation not to proceed valuation at this point in time? Did you fear any kind of write-downs in an uncertain situation? Or are you simply arguing that there are no -- not enough reliable data points? This is the first question, please.

Okay. Andre, hello. I'll take the first question. Ingo here. The valuation is done once a year, right, is done once a year. And in the first half year, especially in the second quarter, we have not enough stable data to make a valuation properly. We don't see a real effect on our values so far as we look in the market -- in the investment market. But the valuation done by our appraiser, by Savills, is executed in the second or in the third quarter this year.

Sorry, is it second or third quarter?

The third and fourth quarter this year, sorry.

Okay. But you will provide then the numbers at the beginning of next year based on December numbers? Or is there a chance to -- that we already get a valuation update in -- with the 3-month figures?

No. I think it was seen in the last quarter.

Okay. Okay. Then looking at your new guidance and comparing this to the old guidance, it's a minus of EUR 4 million to EUR 5 million in rental income and FFO. What comes from -- or is it possible to say what comes from corona and what from lower acquisitions or [ proceeds of ] disposals? Is it possible to say?

It is hard to say because it's a mix of both. It comes from the postponement of acquisitions we planned in the [ second ] quarter, and they will not bring rental income or FFO in the second half year so far because as you know, the acquisition process usually takes more time. The rental income, of course, you can see very properly what we lost. It was -- it's coming so far from insolvencies. I think we will be affected in the last half year. We see EUR 0.5 million less rent than we expected in our last forecast. But also, we see a slowdown in new lettings in the second half. We didn't see it in the first half, so we have -- we were very successful on that. But in the second half, we took our planning a little bit down to be cautious for the future.

Okay. But it is a bit in contrast to what you said on the full letting pipeline. So honestly, I'm a bit surprised that you still have a strong letting pipeline in this market environment because many others or market, let's say, experts are telling us that there is less demand or at least that potential tenants are not willing to do decisions today. But it seems to be the other way around with you, so...

Yes, good points to answer that. The letting pipeline is still filled, but what we see is a prolongation in the decision processes within the tenant. So we don't see that they come to a decision very fast, and this leads us to see the incoming rents a little bit later.

Okay. Then a question regarding your decision for the dividend proposal. I know it was driven by the main shareholder. But how does this mean concerning your expansion strategy going forward? There was certainly lower potential for acquisitions. So you're paying out EUR 50 million or almost EUR 60 million, and the LTV will then increase to 50%. If you would step into a new acquisition, you have [ -- are short for ] fresh money. So what is the motivation to do this at this point in time?

Yes. Andre, you have done the calcs right. Obviously, that's all correct. It limits our acquisition power with existing equity by roughly EUR 50 million. I guess nothing has changed in terms of the overall strategy that we are looking for single-asset deals and also for transforming transactions. You know who our main shareholders are. Obviously, they are, at some point, exit-oriented. And we will do everything to deliver on our 3-pillar strategy, which is growth, IG rating and dividend. Obviously, these 3 pillars are a bit contradicting and cannot come at the exactly same point of time. But we are confident that our main shareholders support the strategy also in the future and that we maintain our growth profile.

And you made some remarks that a full payout of earnings will not be the case for -- in the future. Do you already discuss the kind of the dividend policy for the overall company going forward? Or is it too early?

No, I guess, it's too early to really comment on what we will do in 2021 and thereafter. But as you see from the shareholders' request that we are dealing with right now is that we pay out the entire dividend potential. And what I would expect for the future is that we, according to kind of market standard and general investor expectation, pay a relevant dividend which can be compared to our peers and is somehow linked to our operational profit. But this is certainly not a dividend guidance now for the future, and no decisions have been made for the future.

Yes. Okay. Fair enough. So a very short question on your treasury shares now, 1.9%. What are you planning to do with them? Will you keep them? Or will they be canceled?

There are currently no plans to cancel them. But as you know, we can cancel them if we think that, that makes sense. So far, we will retain them and see how we can best use them.

Okay. Then a very last question regarding your Karstadt assets. What is the situation at your different locations?

I will repeat the question because it was difficult to understand. What is the -- what is happening at Karstadt in the different locations?

Thank you for the question. We have 5 Karstadt within our portfolio, and we were in negotiations in the last month [ like -- there's 2 ]. And you can imagine, they will move out in, I think, the best locations we had so far in Trier, and we are looking for new tenants at the moment. This will happen in the fourth quarter of 2020. And in the other locations within our negotiations, we could bring them to a longer lease contract. They prolongate it for 2 more years. But we have to let -- rent a little bit down, so we -- they spend 10% less rent in average.

Okay. And you mentioned a new tenant and you mentioned the fourth quarter. Is this also already the case that you will -- the new tenant will sign a contract in the fourth quarter?

As you know, the buildings of Karstadt are very specific, so we have hardly to refurbish the property. So this is not the case that we can expect to move in, in the third quarter or even in the fourth quarter. I expect it more in 2021 to come. But we are -- at the moment, we are in active negotiations with possible tenants. So as said, this is, location-wise, one of the very attractive standout locations we have. So we expect some tenants to move in, in 2021.

Our next question comes from Stefan Scharff of SRC.

Stefan here from SRC Research. As most questions are already answered after Andre asked for it, I just have a question about your pipeline and the outlook for acquisitions in the second half of 2020. Can you say a bit more what is realistic here to expect?

As said in the speech, we postponed acquisitions for 3 months because it was not possible to make site visits. As you know, this is very practical [ reason ]. But at the moment, we are in negotiations for one bigger office building with more than EUR 100 million, and we are in advanced negotiations. So this gives you an outlook what could come. Of course, we have other properties in the pipeline that we are looking at, but this is the most advanced that we can look at. So we expect an acquisition dealing in the next weeks or the next month.

Okay. So is it also a topic perhaps to bring a bit more logistics assets into your portfolio as logistics seem to be quite stable in this year and also for -- is also expected for the next years?

Yes, of course, we are looking for logistics. But as you can imagine, the prices went up even through corona. This was one of the [ profiters ]. So we are not sure that the pricing is right today. We look for at least 2 asset class in a focus. This is office, and this is a logistics.

Our next question comes from [ Ahmed Al-Araki of M&G ].

Just a quick question from me. You talked about an increase in the LTV closer to the guidance, so I guess closer to 50%. Can you just elaborate why is that, i.e., I mean, do you think it's going to be there after dividend payments and that dividend payment will have the effect of increasing the LTV? But then again, I guess, do you think -- because if you're closer to your guidance and values are probably going to go down, then your headroom to your guidance would obviously be lower and lower. And will that be compatible with your IG, with investment grade, target?

Yes. Thanks for your question. As Andre already calculated, the payment of the dividend will effectively increase our LTV ratio and will bring it close or at about the 50% mark. As Ingo said, we are not necessarily expecting a decline in the value of our portfolio. That would mean that we would remain stable if we do nothing else at roughly 50%, but let's see. Obviously, we want to retain our current rating, and we will do everything to do so. We have made a lot of operational progress, and both of our KPIs are now much better than in the previous years and the years before. The KPIs are also better than in the respective rating category. But as I said before in our 3-pillar strategy, growth, investment-grade rating, dividend, it is very difficult to achieve everything at the same time. And yes, the dividend payment will probably postpone the IG rating.

And do you have in mind kind of a time line for the IG? Or does it really depend on market conditions?

Well, earlier this year, we thought we are really well on track by climbing up the rating ladder. The rating agencies told us during corona times when they conducted their rating reviews in June that given the general market circumstances, it's fairly impossible for us to now climb up the rating ladder, which is obviously not supported by our ratios because the ratios are much better than before and would probably justify a better rating. When we look into the future, obviously, the crystal ball is not so clear how markets will develop and -- but still, we will do everything to climb up the rating ladder because it's clearly part of our capital markets strategy, and we want to regain and retain the opportunity to refinance ourselves on the capital market. But yes, the dividend payment has been requested by our shareholders, and we expect the shareholders to support us in our overall strategy and yes, going forward, also support the IG rating. But last point on that, you know that rating agencies are relatively reluctant to provide IG ratings as soon as financial sponsors own a majority in a firm. So this is certainly something that hinders us also going forward as long as our shareholder base is as it is currently. So on the precise answer to your question is there a precise time line on IG, no, there is no time line on IG, but the target to reach IG is still there.

Okay. No. No, I completely understand the fact that rating agencies, they maybe usually look at those sponsors negatively. But I guess someone like Moody's, someone acknowledged the fact that actually Apollo are, I guess, are supporting your strategy, which includes being IG at some point. So I think that's [ a plus ]. And maybe one last question for me, sorry for that. [ As you know ], with all the trends that we are trying to see obviously with working from home and obviously all that mega trends, how do you think your portfolio is -- your office portfolio is positioned today to cope with this new, what, not that new, but with this accelerating trend?

This is a philosophical question.

I know it's not...

Yes. [ Your re-lease ] of space is expanding per person because you need a lot more room between each person in the office. On the other hand, as you said, home office is a trend. But I think we see it very focused in the second quarter of 2020, and this will normalize in the next months. And they come back to the office because it's much more productive to work together and elaborate on that. So in the long term, it's hard to say. In the short term, I think it will normalize. And it's hard to say. It means you have to invest in the right properties. You have to look for the right fitting in the property so that you can deal with both, with elaboration in person and elaboration via mobile or via all this technical stuff you can use.

Our next question comes from [ Veer Tronborg of Danske Bank ].

I have a couple of questions. Obviously, most has been covered already, but firstly, the closing of the Roomers Hotel. I was just wondering how was -- how that new building is performing. And secondly, I was just thinking about the move to core strategy with core plus and value-add buildings. What is your premise for moving them up to the core plus segment? Yes, that's it.

Okay. Let's start with the Roomers. The Roomers is a hotel. So it is, of course, affected from corona, but the numbers are getting better again. They didn't pay the rent for the 2 months that was allowed by the law in the second quarter, but we are in negotiations with them to collect the outstanding rent. And in July and August, they paid already. So this is not suffering. I see it on the right track to get better. So -- and the strategic point to refurbish or to reposition the properties from opportunity or value-add to core, I think this is due to our asset management work, the focus of what we do in our properties, not just giving the location, also refurbishment or collecting and managing the tenants. We have several examples for that. A single-tenant property in Bad Vilbel, for example, was repositioned, and we have several tenants moved in and stabilize the property. So I think it's moving up the ladder from core plus to a more stable property. And I could fill the row with more examples on that, but it is a reflection of our asset management work.

[Operator Instructions] Our next question comes from Philipp Häßler of Pareto Securities.

Philipp Häßler from Pareto Securities. I have one question. You seem to be relatively confident about the portfolio valuation that you don't expect any negative impact by the end of the year. Maybe you could elaborate a little bit on this, why you are so confident? And maybe you could also shed some lights on the different sectors, i.e., office, retail, logistics, where do you see some negative valuation impact and where you are more confident?

I'm not sure if you got me right. The confidence in the stability of the valuation is not that we see it exactly the same that it is. We see effects, of course. And you asked for the affected asset management focuses. I think retail and hotels could be affected by that. On the other hand, we have a lot of office properties within our portfolio, more than [ 6% ]. And there, it's the opposite to be expected because we have done a lot of asset management work in the property. So overall, we see it stable, but it could change a little bit between the different asset classes. For example, in the logistics -- for example, the logistics in Leipzig, this is a development that [ we end ] very positively on asset management regard. And so we expect here strongly an uplift.

And at this time, we have no further questions in queue.

So thank you for dialing in and the call today, and hope to hear you on our next call. Have a good time. Bye.