Deutsche Konsum Real Estate AG (DKG) Earnings Call Transcript & Summary

Dear ladies and gentlemen, welcome to the conference call of Deutsche Konsum REIT AG. At our customers' request, this conference will be recorded. [Operator Instructions] I now hand you over to Rolf Elgeti who will lead you through this conference. Please go ahead, sir.

Thank you. Good afternoon, everyone. Thank you for your time and interest in Deutsche Konsum. We will be sharing a presentation on screen, but it's also on our website in case you don't have access to the webcast. So let me just quickly start with the highlights and the overview of what we want to talk about. So first, that's the operational update. I don't want to read out all the numbers, but basically the rental income is up. That's, of course, because we have acquired more properties. Our FFO was up, not quite as highly which, of course, is logical because we borrowed more money against that. We came in with an FFO of EUR 41.2 million, which is slightly above the guidance range. But as you know, we've reduced that guidance earlier due to some slower closings. And the FFO per share crucially is up by 11%. We haven't issued any shares in the period in question so the last full year. The FFO run rate is also up, below the guidance but that's because we sold properties. But even in spite of the sales, the run rate is up 5% year-on-year, and again let me stress that at the same number of shares. So the actual organic growth of the business is rather strong. And the last point on the organic growth is that the like-for-like rental growth is 1.7% plus. So let me just repeat that. We're talking about retail properties and our like-for-like rental growth is positive 1.7%. We'll give you more details in a second. We've acquired more properties, we've acquired for EUR 120 million in the space over the last 12 months. The average yield of 9.1%. We've seen some revaluations. You've seen this in the 9 months figures already, so we don't need to go through that. The third point is, I guess, the most important for today's presentation. We have talked about capital recycling quite a bit over the last quarters, but now we've actually done it in size. So in the fiscal year, we sold a small discounter store in Berlin, literally sort of doubling our money. The sale was at a yield of 4.5% and we acquired at 9.7%. And then we sold 8 properties for EUR 70 million at a yield of 5.6%, and those were acquired at a yield of 10.6%. And then we sold another asset, actually, last week at also similar yield spreads. And we have further sales in the pipeline at similar yields as the one we mentioned. At the same time, also we're not sort of dissolving our business. We actually keep acquiring at significantly higher yields than where we sell and also roughly at similar yields where we bought for. We'll give you more details on that in a second. The balance sheet is boring and solid as before. Interest cover ratio at over 6x. That's, of course, a very strong number. Cost of debt at 1.9. New senior debt at just over 1%. So cost of debt likely to fall further. LTV at 53%. Our target is 50%. So we're pretty much there. We are suggesting a dividend of EUR 0.40 per share again. That's the same as last year. Obviously, we could have gone higher, but I'm sure you all appreciate that when we're negotiating with our tenants in a tough COVID year and all of that sort of raising dividends may not be the best signal, but we will likely raise the dividend significantly in the year after due to the sales. Now the sales plus the cash at hand actually have increased our firepower. So today, we have firepower to acquire for roughly EUR 180 million without issuing any more shares. So the business is looking pretty strong. We can maybe skip one slide and just go over the property disposals on Page 6. So we've published this already. But just to remind us what we've done here. So we sold these assets at a yield of 5.6%. That's a sort of significant gain over where we acquired them because we acquired them roughly at a yield of 10%. It's worth noting that we're talking about sort of roughly 3% of Deutsche Konsum's portfolio, so 3%. So I'd like to stress this so no one gets the impression we become a property trader or some sort of casino here. I mean if we sell sort of 3% of our balance sheet then this is equivalent to saying we have an average holding period of roughly 33 years for our property. So we're still a long-term owner. But the capital recycling we're doing is meant to sort of enhance the returns significantly as you will now see because the profits from this disposal will increase our dividend. You know the rules under the German legislation. So we have to pay out 90% of our German GAAP profits. For disposals, we can reduce this to 45%, so we can keep sort of half of that sort of in special reserve to reinvest. So when we say here, we'll increase the dividend by, not to, by EUR 0.30 to EUR 0.40 just on those sales and this is almost doubling the dividend. And we're talking about sort of 3% of the balance sheet, and we're only sort of dispensing half of the profits. So it is very, very significant what this does to the underlying profitability and the return profile, the organic return profile of our business. So as you can see, I'm getting excited. So we are great fans of capital recycling and of capital discipline. In this pie chart, you see the breakdown of how we use the proceeds of the sale between bank loans, dividends and then the cash to be reinvested. And of course, if you look at the numbers, so basically, we are repaying our debt, we're paying our dividend, but we still have enough money left over to acquire the same amount of assets again. But of course, we will likely not sort of pay 5.6% when we acquire but we're hoping for some sort of something in the region of 9% when we acquire, which of course, will then be significantly cash flow [indiscernible] again. So in spite of paying our dividends and without raising any further money, the recycling of this capital will actually increase our cash flow profile. So that on sort of on capital recycling. On Page 7, you see a couple of the new acquisitions. No point running through the details except for 1. They're roughly the same again. So of course, they're food anchored. The yield is just under 10%. The lease terms are sort of on average sort of in the 5- to 6-year space as before. So the message is rather we can still do it. And this is the acquisitions since sort of the end of September, so our first fiscal Q1, so calendar Q4. And you can see that we have invested a significant amount, the amount is approximately EUR 30 million and the quarter isn't over. So we're very hopeful for 1 more property before Christmas. And so you can see that EUR 30 million in the quarter, that's exactly the same run rate that we did in the last year at EUR 120 million. So again, just to be sure, on this point, we have sold some properties, and we may sell more at those prices. But at the same time, we keep buying at roughly the same valuation metrics as before, and we will keep doing so. It's just a question of sort of different funding source for this growth. Let me skip a few slides and let's go to Page 10, just where you have the portfolio overview with all those numbers. Let me just show you here where we are on a few. So the important thing is the WALT as per usual reasonably stable. And of course, if it's stable, sort of that means that we've extended the leases by year. I'll come to that in a second. The in-place rent has gone up. I also get into more detail about this in a second. And you can see the valuation at 13.9x or 13.6x, including the new acquisitions and excluding the disposals at 13.6x. That's a very, very undemanding valuation at about EUR 950 per square meter that certainly is not sort of bubble territory. On the next page, just you see a couple of the KPIs for the entire portfolio where we stand. Again, the key one to note, as always, for our portfolio is the WALT because as you remember, effectively the investment case in 1 sentence is that we buy high-quality sort of well-researched, well-anchored retail properties in the convenience space with super strong tenants. So everything is very, very high quality with the one exception which is the lease term. And the lease term is 5 to 6 years. And that's the 1 risk we take is lease extension risk. And for that risk, we are very handsomely compensated by an almost double-digit yield. And therefore, 1 question to ask all the time is, can we kind of keep the lease terms together. And therefore, the chart of the WALT is a key chart to look at if I was you all the time, and you can see here that nothing is happening, which is good news. In more detail, you can see this on Page 12, where we show you for the first time in this format, thanks to the excellent work done by our CFO and his team. You can see here what we've actually operationally done because the numbers on the prior chart were the complete numbers. This is now like-for-like, so only looking at the properties we've had before. So you can see first in the table that our like-for-like rental growth is 1.7%, and we've reduced the vacancy by 4.3%. The WALT is, apart from a rounding error, stable. So let's just go through these 3 points. So first, the rent is up. The 1.7% is actually significant. That's actually mainly driven by. Well not mainly, it's driven by new lettings, extensions as well as vacant space and upgrade, of course, but also, it's the CPI-linked nature of our rent contracts. But of course, you know that while CPI is rising even in Germany. This is sort of the backward-looking version here. And therefore, the inflation [ has not been ] 1.7%. And therefore, the actual rental growth we achieved is actually higher than the inflation link. So it's more than inflation link. But it's very crucial. And again, just at the risk of boring you, this is retail properties and the rents per square meters are rising. The vacancy reduction is what it is. Our asset management team has achieved, I think, a very respectable performance. We give you some stats here just so you have an idea of what this entails. We're talking about sort of 112 new leases over the last year. I mean we only have 170 properties. So this is hard but good work. We've reduced the vacancy by over 16,500 square meters. We've extended for over 66,000 square meters. And just this sort of extra value created by our asset management team has led to more than EUR 0.5 million of extra rental income per year. And the WALT, again, if the WALT is stable, don't forget that means we have extended leases on average by a year, of course. So that's what I want to say on the operational performance. The tenant structure hasn't really changed, still very much food anchored. Our rent collection rate is what it is, very high, I mean. And on Page 15, is just -- again, only just to remind ourselves like how often we have the same tenant, again and again across the portfolio. This is key to our business is the sort of the fact that we effectively change the nature between landlord and tenant by having these relationships. The expiry profile of the leases is pretty much unchanged. I mean anything else would be a surprise. You have a few more details on some CapEx investments we've done, some repositions. The numbers speak for themselves. We're happy to go through them. But the key thing is we just want to show you where we spend the money. So what's the difference between FFO and AFFO? And what have we achieved with it. Then just quickly on the financing on Page 22, structurally, nothing has changed here. And of course, nothing will change structurally with a very, I think, well diversified sort of funding source. Just to remind you, the debt that that's expiring next year pays an average coupon of 2.75%. And so if we can -- well, not if, I mean, we will refinance this, but we will refinance this extremely likely at significantly lower cost of debt so we will likely save at least EUR 1 million of interest costs for that. And then the numbers. And the numbers, I'm sure you've looked at them already. We're happy to take any questions. And then let's move on to the outlook. The outlook for the FFO is actually a tricky one, and that's why we've -- I decided to show you this sort of funny bridge here on Page 30 because where are we? We are today -- we have a run rate of about EUR 42 million of FFO. That's already post the disposals. So the actual run rate, including disposals would have been higher, but we've sold these assets. But even with what's left in place that's already higher than last year. Then, of course, we have already made some acquisitions. So that brings the run rate today to about EUR 43 million. And then the real question is, like how much will we sell from here more? And how much more will we buy? And that will very likely lead us to an FFO run rate forecast of about EUR 45 million for the end of the fiscal year. But what's really going to happen within this year is very difficult to forecast because, a, we don't know like how many of the current negotiations in terms of the sales will be successful. And the same, of course, applies to the acquisitions as per usual. Even once that's notarized, the time between notarization and closing can be anything between 2 and whatever, 7, 8 months these days. And as a result, sort of what will actually happen with next year's FFO is slightly more complicated to forecast than prior years, which is why we're giving a wider range of EUR 40 million to EUR 44 million. The same applies, of course, to the dividend. We give sort of a likely range of EUR 0.60 to EUR 0.70 for the dividends for the next year but there may even be surprises to add. Of course, if we sell more then the dividend will rise. And if we don't sell anything more at all and even if we don't acquire anything more, we would likely end up sort of at the lower end of this range of the EUR 0.60 so that's actually a very conservative estimate but there is, of course, upside risk if we sell more. So that in a way is partially -- I'd like to conclude here that it's partially sort of a slightly new phase of Deutsche Konsum where the focus -- whilst we're still growing and while we're still growing at the same speed as before, I think the nature is slightly changing with the bigger focus on sort of total returns, including the capital recycling that we have started and that we will likely to continue. So that's where I'll pause and open the floor for any questions you may have.

[Operator Instructions] First question is from Kai Klose of Berenberg.

I've got 2 questions, if I may. The first 1 on the 1.7% like-for-like. Could you give a bit more details on how much was coming from these extensions regarding to CPI -- these adjustments are going to the CPI and extending leases at higher levels. Maybe I can have a split of this 1.7%. And the second question, on the CapEx project. I saw that some hotels have not seen -- have not been revalued by the [indiscernible] yet. I just wanted to ask why. And could you give an indication how much you plan to spend on CapEx and refurbishments in the new -- in the current fiscal year?

Yes. So on the first question, the split for the like-for-like was between sort of coming from inflation and from sort of lease renewals, extensions or anything else or reducing vacancy is roughly 50-50. So about half is coming from inflation link, so about 85 basis points of that. I could have mentioned this earlier, I apologize. The CapEx, well, the revaluation is that the answer is simple because the revaluations are done for the end of June accounts, and so they're done in the quarter prior to that. So anything that has happened afterwards is simply not being taken into account yet for the valuers and is in the balance sheet at cost and will revalued for end of June next year. And as far as more CapEx projects are concerned, I mean, we plan this bottom-up rather than top-down. But the 1 thing I can say is that very, very likely, it will be a lower number going forward because we have had some significant projects in here. And what's currently in the pipeline, I mean, there are some, but they will be fewer. So I can't give you an exact number. But in terms of direction, very likely it will be a lower CapEx number in the fiscal year that has just started.

Understood. And maybe 1 more question regarding the, let's say, selective and opportunistic sale of assets. How does this affect your longer-term strategy to potentially internalize the asset and property management to do more in-house than compared to now?

Yes, it's a very good question. The answer is, I don't know. I mean I do know intellectually, but the -- look, I mean, the -- we've just -- actually, over the last weeks, we've sat down internally and sort of drawn up a plan on what it would entail to internalize some or all of the functions of the property and asset management and what it would cost us and what are the other effects, et cetera. And the conclusion we came to is that at the current size, it will be more expensive to internalize but we're not far off anymore. So I mean the short answer to your question is like the only thing that's holding us back to internalize is critical mass for that, the critical mass to be kind of cost efficient or cost competitive versus the externalized option. And of course, if we sell then everything else being equal, this sort of puts us further away from that critical mass. But if at the same time, we recycle and acquire more assets, it actually shouldn't change our sort of estimated arrival point of when we are big enough to internalize that. So long-winded way of saying, I guess, it's like structurally, nothing has changed. We want to do this at the right time -- well, not at the right time but at the right size, and that will come with time. And of course, selling sort of might mean that this will take a little bit longer, but we haven't changed our position per se on this.

And what would the size you have in mind to go ahead with the internalization?

Yes, that's -- I think it will be the -- I could just give you a number, but that would be sort of too easy and too superficial because ultimately, before that question is the question do we want to internalize everything or initially just some parts or do we want to do this step by step because for some functions, sort of the breakeven point is earlier than for others. So for instance, if we're talking sort of bookkeeping service charge reconciliation that sort of thing, obviously, that's something that where you will reach critically mass faster than anything that involves sort of driving out the properties because they are kind of the efficiencies of somebody that has sort of dozens of customers like us are obviously difficult to beat. So with that in mind, I think for the various functions, sort of we think we will have the critical mass for sort of at the low end between sort of roughly sort of 20%, 25% bigger portfolio and at the high end, sort of literally 3x. And so how exactly we're going to deal with this we're I'm sure. But sort of, I guess, we could service -- so we are approaching the zone where this becomes a realistic option. But by no means are we near a size level where it's no brainer to do this. And then sort of above all that, it's, of course, a question like should we be prepared to sacrifice some economics for the sake of internalizing this for kind of noneconomic benefits of internalizing and that question is also open.

Understood. And the very last 1 from my side. Next year's expiries of EUR 101 million. Could you give some more details on how far you have already progressed regarding the refinancing and at which terms? Maybe you have some thoughts there?

We haven't done anything at all, really. I mean we -- that's very granular and we simply just need to renegotiate the existing kind of bank loans at lower terms. So it's -- I mean my CFO will likely kill me for what I'm saying now. But that's actually not very hard work and it's easily done.

The next question is from Stephan Bonhage of Metzler Capital Markets.

Two questions, respectively topics from my side. And maybe the first 1 is on rent collection and rent extensions in the current situation here in Germany. We consider the 2G rule also the lockdowns for unvaccinated people. Do you see here any pressure on your rent collection, especially from cyclical tenants or is it more difficult to renegotiate new contracts? And the second question is on the assets on sale. Maybe you can give a rough indication how large is the asset volume currently on sales and negotiations.

Okay. Thank you. So on your first question, I mean the short answer would be there's no real impact. I mean that's certainly true for anything food and other fast-moving consumer goods like drugstores, et cetera. As you said yourself, it may be different for the more cyclical people and indeed it is. And we are sort of -- we're trying to be sort of reasonable and sort of we're not, I guess, pushing everyone as hard as we could considering the circumstances. And so I guess what am I saying? I think will the -- I assume the question you are asking is ultimately is there a structural change in what we should expect in terms of rental growth, occupancy likely lease terms and other conditions going forward from COVID-19, the answer is really no. I think we should bear in mind that most of our tenants have had a record year last year, I mean, partly because food is food and partly because sort of the gorillas of this world are not really delivering to everyone. And also because surprise, surprise, many of the food anchor guys have sold more nonfood because they were open and their competitors not. And so they actually had a very strong time, a very good time, very strong business. So that's why we're actually seeing the rental growth sort of on top of the inflation link. And for some of the cyclical guys, life is tougher and it depends. I mean if you are a yoga studio then life is not so good. And therefore, one needs to be a bit more modest here. But by and large, I think I wouldn't assume any real change sort of in the underlying sort of supply and demand picture of our asset class. I think the only thing maybe if you want to say something is that likely what it does is that it sort of increases the speed of concentration. And so we've always been fans of the bigger shopping agglomerations within basic retail. And according to our observations, they seem to be performing even better than the average ones. And the likely trend, I think if you look at sort of security measures, sort of hygiene measures, look towards things like click-and-collect concepts, sort of -- and other sort of more synergetic options between sort of basic retail and sort of last mile logistics, I think the bigger -- we believe -- I mean it's a forecast of uncertainty, but we believe that the big agglomerations will do better than the smaller ones. And that's maybe the only thing that COVID sort of accelerates a little bit, yes, but that's really sort of just looking at the rounding error of other things. So that was your first question. On the second question, on the sales volumes, I'm afraid I can't really tell you because -- and had you asked about acquisitions, I would say the same because you know how it is in property. I mean there's -- you need to be in front of the notary and everybody to sign and then you have a deal. In these days, even if that has happened, you can't be certain of a deal. And before that, there's a lot of talk and a lot of negotiations and a lot of people with professional standards that might be considered inadequate in other industries to put it mildly. And therefore, it's really tricky to see and to say. And as you can imagine, I mean, our portfolio is on the website. We've now been in the news that we've sold the price points in the news. And therefore, we've been contacted by all sorts of people. But not everyone is a sniper. There's a lot of carpet bombing going on as well. And so we -- I really can't tell you what's going to happen on that side because it will have to happen before we can take a view on this. And also, we don't want to sell too much, right? We want to sell a little bit and recycle some capital. But as I said, we don't want to dissolve the company. So don't model it would be advice if I'm allowed to say that. Keep it in as possible. Pleasant surprises will happen but don't -- I wouldn't model it.

The next question is from Manuel Martin of ODDO BHF.

One question from my side, please. Could you elaborate a bit on the acquisition process, especially on the speed there because in the past apparently we had some -- there were some problems with the authorities being slow. Do you see the picture becoming better?

Well, just for everyone on the call just to show what this is about. So what the slowness or the lack of speed that has been COVID-induced is that the time between notarization and closing is longer than usual because various authorities need to do various things as sort of conditions precedent before the closing and that's taking longer time as many people, working authorities in home office sort of emphasize the home bit more than the office part of it. And so the short answer to your question is no that's not improving. That's still very much the same. And that applies to our acquisitions as well as our sales. And that, of course -- that doesn't make life any easier like liquidity planning or even FFO forecast. But no, that hasn't really changed. Everybody else is working very professionally and as normal. So sellers, lawyers, notaries, we ourselves, hopefully, our teams, our engineers, but it's -- once the state gets involved, there's a bit of sand in the machinery. Not everywhere in Germany and not in all authorities, but because you need when you have 5 CPs, you need the last fifth to fall into place before a deal closes. And if you have a portfolio of 5 properties in 5 different locations then you have 25 such things that need to happen. And if just 1 single one doesn't come into place then the entire deal is just in the air until then but that hasn't changed. I mean that's not really a structural -- a fundamental issue. I mean it just means that that's a delay when we buy ourselves, but it's just slightly sort of annoying, I guess.

[Operator Instructions] As there are no further questions, I hand back to Mr. Elgeti.

Fantastic. Thank you, everyone, for your time, questions, your interest not just today, but over the course of the year as well. If we don't speak, have a very merry Christmas or holidays or whatever, happy New Year and all that. And we will be there for you any time between now and Christmas or in the New Year, if you want. Many thanks for your time, all the best. Bye.

Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect now.