Diös Fastigheter AB (publ) (DIOS) Earnings Call Transcript & Summary

And welcome to the Diös Interim Reports Jan to June 2021. [Operator Instructions] Today, I'm pleased to present Knut Rost, CEO; and Rolf Larsson, CFO. Please go ahead with your meeting.

Good afternoon, and a warm welcome to this web presentation of the Diös second quarter results for 2021. My name is Knut Rost. I'm the CEO of the Diös, and I'm here today with our CFO, Rolf Larsson. In today's presentation, I will first give you the highlights of the quarter. Rolf will then more deeply go into the result. And I will finish by focusing on our market, how we will create more shareholder value and a short outlook. If you have any questions, there will be a Q&A session in the end of this presentation. Listen for instructions how to ask questions. If you are listening on replay, you can always reach us if you have questions. Contact details are at the end of this presentation, and of course, on our website. The second quarter is somewhat of a record in Diös history. We increased the result at all levels and reduce our financial costs. To highlight some of the key figures for the second quarter. Our property values are increased by SEK 728 million, whereof, SEK 262 million comes from unrealized value changes. The gain come from both a very active and strong market, our own activities and increased values within building rights. Our surplus ratio was 76%, which is a record for Diös. Rolf will cover the result in detail later on. The EPRA NRV was increased to SEK 84.9 per share and increased by 15% since last year. I will now hand over to Rolf, who will present the result in more detail. Rolf?

Thank you. As Knut said, our result in the second quarter was very strong. Income from property management increased by 26% compared to the same quarter last year. Like-for-like rental income increased by 1.9%. 0.2% is due to indexation and the rest of renegotiations and new lettings. Our total income was negatively affected by SEK 4 million as a one-off effect linked to the state's rental subsidy compared to SEK 24 million last year. This is a significant reduction and a sign of recovery among our tenants. Our net letting for the quarter amounted to SEK 1 million. This quarter was affected by an early termination totaling minus SEK 7 million. Related to this early termination, we have received a compensation of SEK 30 million, which affects the total income. The operating surplus amounted to SEK 353 million, which is 18% better than last year, resulting in a surplus ratio of 76%. And this is the strongest quarter ever. We have reduced our financial cost compared to last year, even though interest-bearing liabilities have increased. Better financing terms and a larger share of capital market financing have had a positive effect. Property revaluations amounted to SEK 262 million for the period, which represent 1% of the market value. I will come back to this later in this presentation. Our property portfolio is well diversified in terms of both segment and geography. We have a clear concentration of our portfolio towards the city center, in cities with good growth and the right characteristics. We have a low tenant concentration risk. Our 10 largest tenants, of which 7 are tax finance, amount for 17% of our total rental income, with an average lease term of 6.1 years. 31% of our rental income comes from tax finance operations and 8% from residentials. This means that we have a low risk in our cash flow. And the average lease term for all commercial premises has increased and amounted to 4 years. The market value of our properties amounted to SEK 26.1 billion, an increase of SEK 1.6 billion since the turn of the year. Approximately SEK 900 million is due to acquisitions, divestments and investments, and SEK 675 million is a result of property revaluations. The interest in investing in our cities in -- is increasing. During the past year, we have seen several completed transactions regarding offices, housing and community service properties. These transactions have been carried out on much lower yield levels than before. The value was positively affected by lettings and investments in primarily offices and a very active and strong market, with lower yield as a result. Building rights has also had a positive effect on the property portfolio. We recently sold 21,000 square meters of building rights to an average value of SEK 3,500 per square meter, a good level that we are satisfied with. On a yearly basis, we are currently investing just over SEK 1.3 billion in tenant improvements, property improvements and new construction. All our ongoing projects are proceeding according to plan. And before we start our projects, except residentials, we always have 100% signed leases. And here, you can see some examples of our major ongoing projects, both new builds and major reconstructions. More than 60% of the rental income from these projects comes from tax finance operations. We currently have around 100,000 square meters under construction, with an investment volume of SEK 2.3 billion. The positive cash flow effect will mainly come over the next 2 years. In addition, we have more than 200,000 square meters in existing or possible building rights in central location, and just over 60% refers to residential. And we believe that we can release some new projects in the coming quarter. As you can see, our net debt-to-EBITDA is stable between 11x and 12x. The ratio has increased slightly over the past years because of increased investments in new builds, with negative cash flow during construction. Our loan-to-value ratio at the end of the period was 53.8%, which is far below our covenant levels. The average interest rate at the end of the period was 1.1%, which is lower compared with the turn of the year, thanks to better financing terms and a larger share of capital market financing. During the next 12 months, we will refinance 11% of our outstanding loans corresponding to SEK 2.4 billion, commercial papers excluded. In the beginning of June, we launched our new MTN program, with a limit of SEK 3.5 billion, and we have since issued our first green bond of SEK 500 million. And with the current market conditions, we plan to increase our capital market financing further. Overall, we have a strong financial position. In addition to existing loans, we have liquid funds, unutilized overdraft facilities and unused -- unutilized credit facilities available corresponding to SEK 1.4 billion. As you can see, most of our key ratios are improving. Return on equity amounted to 17.9%. ICR remains strong at 6.7x, and EPRA NAV increased by 15% to SEK 84.9 per share. The growth in income from property management per share amounted to 8% for the period. And that was all for me. I will now leave the word back to Knut.

Thank you, Rolf. I will now cover some points on our strong market, how we should benefit from our interesting market and all the opportunities arising and a brief market outlook. We covered a strong market last quarter, but worth repeating is what we now are seeing is a market-driven era of industrial investments in our region, driven by increased demand of sustainable alternatives. About EUR 100 billion is expected to be invested into battery factories, fossil-free steel production and development, and of course, production of nonfossil energy. We have the [ commodities ] and access to natural resources in the region that is needed for driving the economy in the sustainable way that is required to reach the Paris Agreement. Northvolt, LKAB and H2 Green Steel are large companies that announced major investments in our region. As the industrial companies grow, we definitely benefit from all the surrounding effects they will bring. We are already seeing clusters of engineering consulting companies establishing and increasing their presence in our cities. You might call it an industrial service sector that is now prospering, and I'm sure that we are seeing the inception of a wave of new establishment. Those consultant companies are requiring centrally located offices with high sustainable standard and good access to urban service. We are the market leader in these premises, and our offering is exactly what these businesses request. And I'm sure this will lead to higher rental levels. Our market is experiencing increased competition from other real estate companies regarding tenants, properties and employees. To remain market leaders in our 10 cities, we are developing our tenant offering and we will continue to drive growth. I encourage competition because that makes our local teams sharpening our offering. The increased competition on the transaction market has already shown in lower property yields. And from what we are experiencing, that the yield will continue to be lowered. The pandemic has fast forward time maybe 10 years, and something that is obvious from last year's remote work is that people value their time. It is not sustainable to commute 1 to 2 hours every day. People are moving from larger cities to one of our 15-minute cities to create a more sustainable way of living. We are now seeing COVID-19 restrictions are relieved and experienced a great optimism from our tenants. We see more people on the streets, more people in the offices and more tenants willing to invest in the future. We believe that the highest rental growth will be within offices, offices with the best location, with the highest standard and with surrounding services that employees occupying can benefit from. We are also experiencing higher requirements from our tenants for design, functionality and flexibility, features from where we can raise rents. Now it's not a matter of if we will reach SEK 3,000 per square meter. It's a matter of when. We have finalized a number of transaction during the first half of 2021, as we said we would. The transaction are mainly offices properties with great potentials in developing areas, including building rights. Our strategy when developing our building right is to create the highest value for the company. The selling of the building right in Sundsvall will speed up the developments in Sundsvall, which we will benefit from. We have also seen a number of transaction in our market, now latest in Skellefteå, at new lower yield levels. We are continuously looking for new acquisition opportunities and are involved in several leads as we speak. All our ongoing projects proceed according to plan. The hotel project in Sundsvall is finalized, and the grand opening will be the 1st of September 2021. We are convinced that the hotel will contribute, with higher footfall and increased attractiveness in the city center. We are also looking at new construction projects for both commercial premises and residentials for our current building rights, and we can hopefully release some news in the near future. So to summarize, we have a unique position in a hot market, with competent and driven employees. We will continue to act on our opportunities, do more good business, increase our profitability, and therefore, create additional value for our shareholders. This takes us to the end of this presentation. Thank you for listening. We are now ready for questions.

[Operator Instructions] Our first question comes from the line of Albin Sandberg from Kepler Cheuvreux.

Yes. I had 2 questions. The first one, if you just could elaborate a little bit on dynamics on the occupancy of the portfolio and how you see that progressing going forward.

You're talking about the vacancies.

Yes, exactly. Or I said occupancies, so it's just the other way around.

That's the same. Sorry. It's my English. We have had some termination of lease that -- it's the net letting, both in the first quarter, in the second quarter, but we are now on plus, so to speak, and -- but we have a very good forecasts in the future. We have a lot of negotiations going on. So we see that the vacancy will go down, both in the third quarter and the fourth quarter this year. So it's actually looking good despite that the Q1 and Q2 looks a little [ status ], so to speak. But the Q3 and Q4 will be much better.

Okay. And then you also highlight that you had an extraordinary income of around SEK 30 million. Was that related to one and the same lease?

Yes. It's an early termination. We lost SEK 7 million in rental income for the same tenant. So the net is SEK 23 million. An early termination where we had SEK 30 million, and we lost SEK 7 million in rental income for the second quarter.

Okay. And the outlook to fill that space, is that good?

Yes. We have negotiations going on with approximately the same tenant, a local one. So we are close to finalize that deal. Yes.

And then some of your comments about rental growth within offices is very promising and interesting. And you're talking about the top rent made of your portfolio. If you look across our portfolio and our lessons learned from COV19 and how tenants are behaving in terms of demand and so on, maybe not only for the top rent segment, what are the key lessons learned you think so far?

Well, we think that during last -- the second quarter in 2020 was rather rough, tough for the business and for all us, I think, in Sweden. And then we came into June, July last year, and everything was feeling good again. And then we had some drawbacks in fall, October, November. I think the lesson we learned that is that we are very hopeful and we think we will be very successful in the new standard for office in our cities. We see that location is even more important. This is a trend that started before the pandemic, but has, of course, fastened the need for higher standard. The location is very important. Many companies are using the office premises for brand, for branding and identity, and of course, very not so -- it's expected that young people who wants to go to an employee and into -- in a company want to be met by a design they can like. So I think the individual needs for each company will grow bigger. And I don't think we can talk about the standard for office in the future. We talk about location. We talk about identity. We talk about individual needs. And moreover, it's very interesting that Rolf, my CFO, he said to me the other day that we are not talking about CBD area anymore. We're talking about the UD, central urban district. We see that the rent level for offices is higher when you can offer both residential, but of course, urban services around the office. And we can see that the rent is higher when you work in areas where we have mixed use. So that's very interesting.

And do you feel that tenants -- are they trying to reduce space and so forth in the wake of this? I know you probably had talked about basically the space being unchanged, with maybe conference rooms and so forth being replaced by individual working seats. I'm just trying to get a feel for, let's say, the -- what you think of your portfolio, the total demand you're seeing from office tenants now versus, let's say, Q4 2020 before [ resulting ball cap]. Sorry, to [ 2019 ].

To be very honest, we haven't seen that yet. We hear that universities are doing research on this. We can see it in media, but we haven't actually seen it in our 10 cities. The thing we see, it's the individual demand for design and trendy office. But we haven't seen that the demand is shrinking or anything, but we can see that you need more flexible bases. I think last 10 years, we are talking about flexibility, and now I think the flexibility is here. I saw a report where all employees in Sweden -- of all the employees in Sweden, 30% could work from home, and that's why we should reduce the space by 30%. That's nonsense. I think the main thing that would happen is the most sustainable thing we can do is not to commute 1 to 2 hours each day. That's not sustainable. And I think that sort of behavior will, in a way, not disappear, but it will -- I'm not -- diminish, it will shrink. And I think people who commute a lot, they will sit at home, they will sit in a co-working hub somewhere. And that's what we call flexibility. And I don't think the premises space will shrink now. And we haven't seen that yet.

Great. And then just final question, on the financing side and the comments you made, Rolf, about possibly increasing the share of capital markets financing. Is that, let's say, a structural way to look at Diös financing? Or is it more an opportunistic view based on how the market is looking today?

Well, I think a little of both, to be honest. I think it's a structural change where we would like to have a lot of sources for funding, both banks and the capital market. Then of course, it's a matter of how the market is working, what the current market conditions are as well. But I think we will see more capital market financing in the future.

[Operator Instructions] We currently have no further questions. I will hand back to the speakers for any further remarks.

There's a couple of questions from -- written questions. The first one is, how would you describe the transaction market? Is it more [ but ] this year? Or is it similar to last year?

I would say that maybe it's a little more busy than last year because last year, we had the pandemic, and that was something that we have to handle then. Maybe a little more transaction going on, but not that much. It could be more. We would welcome more transactions in our market.

Next question. The rental levels in total, if compare that to Stockholm, how does that look? And how is the trend on the average rental level?

Well, starting with the residentials for [ Cintas ] is approximately the same. When we talk about urban services and offices, of course, it differs a lot. When you in Stockholm, for instance, have a high yield. On SEK 10,000 per square meter, we have about SEK 3,000 per square meter. And we don't have the volatility that you have in Stockholm, for instance. So therefore, we can convert premises to another premises, for instance. When talking about urban services, talking about retail, we have had some new contracts in the last months. And we can see that the retail rent level is back on the level it was before the pandemic. So it's looking really good. And the thing we have to do in Diös is the -- when we talk about renegotiations, we have to be a little more convinced and more secure in talking with our tenant. So that's the difference.

And the last questions. We state that SEK 3,000 per square meters will happen within a short period of time. Which submarket would reach that level first? And is there some submarkets that will not reach SEK 3,000 per square meter in offices?

We're looking to the crystal ball. I think the first type of cities that will reach SEK 3,000 per square meter -- and maybe it's not us. It could be some of our colleagues in the business. It will be in a building that -- in a location that's very central located, close to a travel center, with urban service around it. I think it will be Luleå, Umeå or Skellefteå. That's the cities that will reach the highest level first. And we are very, very close to it in all our cities.

That was all the questions.

So to summarize, thank you very much all for listening, and have a great summer out there and be careful. Bye-bye.

Bye.