Fibra UNO (FUNO11) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and I would like to welcome you to Fibra UNO's Second Quarter 2023 Results Call on the 27th of July 2023. [Operator Instructions] The format of the call today will be a presentation by the management team followed by a question-and-answer session. So without further ado, I would now like to pass the line to Mr. Andre El-Mann, the CEO of Fibra UNO. Please go ahead, sir.

Thank you, Michael, thank you, everybody, for your interest and for listening to our results of the second Q of 2023. We are very excited of the results that we posted yesterday. And I would like to give you some comments about that. Our income line grew 11.2% despite the 15% appreciation on our currency that affects our incoming -- our dollar income rent. Our leasing spreads are showing a very healthy results. We have 1,600 spread -- basis points spread on the industrial side. We have 890 basis points spread on the retail side and we have finally achieved a 50% positive spread on the office segment. Our overall occupancy is 93.8%, which is very similar to what we had pre-pandemic. So I am very happy to announce that we are finally out of the hole, even though our income has been a lot higher than what we used to have pre-pandemic but now also our occupancy has reached a better level. We already opened -- made the grand opening of our new shopping mall in Tapachula, Tapachula is a border town, South bound and a very active city and we have been seeing Tapachula has shown better-than-expected flow of visitors. And based on the information at hand, our retailers are beating their pro formas by a wide margin. So we are very happy that it has begun as a very successful center. About the nearshoring, the nearshoring is still a growth engine. And due to the size and expertise from our management team which is way above our market peers, we expect to continue to outperform the market. In that order, we are still working to improve on our disclosing, especially in the industrial segment in order to embed the resid and extraordinary value of our precious and gigantic industrial engine and huge potential, again, way, way far from all of our peers. As our operational metrics continue to improve, we are setting up a very aggressive plan to contain expenses and be even more efficient. We are seeing some expenses lines growing faster than inflation at a very fast pace. For example, the property tax and the insurance premium. These increases are contagious to the other lines to all -- to any and all lines of expense to improve, and we need to contain those to improve our operative results. We received -- in the ESG front, we received the -- we are already again in the index of FTSE4Good Sustainability Index. And we are ranked among top performers on energy practices by Sustainalytics. Further on, Jorge will get into the -- to deal with this. This, again, only show our commitment to better ESG practices. Before I turn the mic to Jorge, I just would like to take a moment to reiterate our deepest condolences to the Mulas family. We are deeply saddened by the loss of our dear friend and independent member of the Board, Alberto Mulas Alonso. May he rest in peace. Lastly, I would like to stress our commitment to continue working to consistently deliver solid results. Please allow me to give the mic to -- to pass the mic to Jorge. Jorge, please.

Thank you very much, Andre. Thanks, everybody, for joining our quarterly call. As usual, I will go into the MD&A discussion of our financial and operational results. As Andre mentioned, our total revenue line increased 1.1% compared to the previous quarter, but 11.2% in compared to the revenues of a year ago, which is what we see as a very remarkable feat, especially considering almost a 16% appreciation of the peso, a stronger peso currency, obviously dilutes our U.S. dollar-denominated income, and now we stand at roughly 80-20 mix in pesos of dollars, and this is because the dollars are worth less pesos, and that's why the mix has changed. But even with that and with the effect of the sale of some of our real estate assets especially if you compare numbers from a year ago, we sold the retail portfolio last year, if you recall, and the industrial portfolio that we collected this year and that we are using the proceeds for debt repayment. Even with those sales of assets and even with the appreciation of the currency, our top line grew double digits year-over-year. So we're very pleased with that performance. Obviously, the contribution to what explains the growth in our top line is basically rent increases resulting from inflation pass-through that is built into our contracts, rent increases in lease renewals. As Andre mentioned, we have very solid data on the industrial front, very solid data on the retail front. As I think we've been mentioning before, retail is posting a positive surprise of a very healthy leasing spreads. And even we are very pleased to see that, although not a huge number, we did see a 50 basis points increase in the leasing spreads in the office sector, while we're reaching 78% occupancy. So we're very pleased with that performance as well. Another contributor to the fact that our top line is increasing is the contribution of projects that were under development and are now ramping up their operation, in particular, the Mitikah development, given its size has the biggest impact on our numbers. In terms of occupancy, as Andre mentioned, we are at 93.8%, which is pretty close to the number that Fibra UNO has reported quarter in quarter out since our IPO, which is plus/minus 1% of 95%, which has been our target. So we're basically there. And we still have quite a lot of room to improve in the office segment. We still have a few basis points to increase occupancy in the retail segment as well. So there's a lot of upside potential in our numbers. Going into the detail, the industrial portfolio decreased occupancy by 30 basis points. Basically, this is the process of these renewals and just when you cut off the quarter, what's happening? Retail portfolio, we closed the quarter with 90.6%, so basically a 30 basis point increase in occupancy. The office portfolio, as I mentioned before, 78% occupancy, again, 30 basis points compared to the first quarter of '23. But if we look at this number on an annual basis, it's almost 3 percentage points above from where we were. So as we have been guiding the market, we expected to see flat rents in the office segment and the improvement in occupancy. It's exactly where we are. We are seeing flattish rents and an improvement in occupancy, but we are happy to see that we had a 50 basis point increase in the office rent for this quarter. The others portfolio, 99.1% versus basically stable against the previous quarter. And the In Service portfolio is 79.3%, 230 basis points above the first quarter. This is basically the inclusion of the Tapachula shopping mall into the In Service properties. It's starting at an 80% occupancy. But as Andre mentioned, with extremely positive dynamics in terms of foot traffic and the sales of the retailers that have established in the shopping mall. So we are very pleased with the performance of the shopping mall. Turning to operating expenses, property taxes and insurance, we saw an increase of MXN 29 million, basically a 4% increase prior to the -- compared to the first quarter of '23. Basically, it's a substantial increase quarter-over-quarter. And as Andre mentioned, we are focusing a lot of efforts on raining and containing our expense line and ensuring that we maintain or improve our margins from where we are currently. Property taxes increased by MXN 2.2 million, basically 1.1% against the first quarter. If you look at it on a yearly basis, obviously, the increase is substantially higher than that. Insurance premium increased 1.7% against the previous quarter. But again, compared to over a year ago, it's a substantial increase that we are seeing in our expense line. Basically, this leads to a net operating income increasing by MXN 23.5 million or 0.5 percentage point. Again, another record NOI of MXN 5.023 billion. NOI margin calculated rental revenues of 86.2% and 77.9% of our total revenue. So these numbers we are aware are a little bit lower than what we'd like them to see. And that's why we have a very strong focus on containing expenses. It's one of the initiatives that is currently ongoing at [indiscernible]. In terms of interest expense and interest income, net interest expense increased by MXN 47.1 million or 2 percentage points versus the first quarter. Basically, due to the high interest rate environment that we have and the effect that this has on our variable rate portion of our debt is offset by the exchange rate appreciation from MXN 18.1 to MXN 17.7 per dollar on the U.S. dollar portion of our interest expense line and it's also offset by the capitalization of interest expenses of MXN 432 million that we had for the quarter. As a result of the above, funds from operations controlled by UNO decreased by MXN 44.6 million or 2% compared to those of the first quarter, reaching MXN 2.175 billion. Adjusted funds from operation decreased by the same MXN 44.6 million, 2%. We did not record any sale during the quarter. We are on target in the execution of our asset recycling program. The expectation we had and we continue to have is to start seeing closings of some of these asset sales by the third quarter of '23. So we are on time and on track with the asset recycling program as we had anticipated. On a per CBFI basis, we issued 28,288,000 CBFIs related to the employee compensation plan, closing the quarter with 3,807,288,000 CBFIs outstanding. The FFO and AFFO per average CBFI were MXN 0.5738 in both cases, 2.3% decrease versus the first quarter. Moving on to the balance sheet. Accounts receivable for the second quarter totaled MXN 2.99 billion, an increase of MXN [ 128 ] million or 4.3% against the previous quarter, consequence of regular business operation activities, which has led to an increase in invoicing. In terms of investment properties, the value of our investment properties, including financial assets, if you recall, the Memorial portfolio is qualified as a financial asset, given the repurchase option that the seller of that portfolio has. So the total value increased by MXN 2.7 billion or 0.9% versus the first quarter of 2023. Basically largest component is a fair value adjustment that we do to our properties. This is an estimation that is done internally by Fibra UNO during the first 3 quarters of the year. And also over the fourth quarter of the year, we have the final sort of official valuation by an independent third-party provider for this process. Also, normal progress in the projects under construction and development. Largely, we have some expansions in certain properties as well as the Tapachula development that we just concluded and the Portal Norte development in Satelite. And obviously, as I mentioned, CapEx in our operating portfolio. In terms of total debt, total debt for the second quarter of '23, ended up with MXN 128 billion compared to MXN 134 billion the previous quarter. The variation is mainly attributable to repurchase of FUNO international bonds, which -- at the closure of the quarter stood at USD 70.7 million. We have continued repurchases, and we are standing today at about 110 million of repurchase bonds. We are doing this on an open market purchase basis as well as, obviously, the effect of exchange rate, which in this case, reduces the peso value of our dollar-denominated debt. All of the above results in total equity increasing by MXN 4.4 billion or 2.4%, including controlling and noncontrolling participation. This is the result of net income generated by quarterly results, derivatives valuation, the shareholder distribution and the employee compensation plans. In terms of operating results, without considering the inflation effect of gross leasing spreads we had a 16.6% or 1,660 basis points increase in the industrial segment, almost 9% or 890 basis point increase in the retail segment. As we have been discussing in prior quarterly calls, we expected to see very solid results from our retail segment and the results are showing. We expect that obviously to continue to show very positive results in the industrial segment, and we are continuing to see these, and we are very pleased to see a 50 basis point increase in the rent in the office segment, which has been pressured for quite a while as we had expected for dollar-denominated leases, rent increases were 680 basis points for the Industrial segment, 560 basis points for retail and 300 basis points for the offer segment. Again, very pleased to see a 3% increase in U.S. dollar-denominated rents in the office segment. Obviously, this -- some of these data turns negative if we compare it to inflation, but we're pleased to see the overall absolute numbers being positive on all 3 segments, an extremely solid in the industrial and retail segment in particular. In terms of cost and properties, the rental increase per square meter for constant properties was a nominal 2% compared to the weighted average annual inflation of 7.1%. So a 5.1% decrease in real terms. This is mainly attributable to the FX appreciation, which in the period that we are discussing was 15.2%. So very happy to see a 2% increase even when considering the FX appreciation of the peso. Moving on to the subsegment. Data at a subsegment level of portfolio's annual rent per square foot stood at $12.3 per square foot per year to $12.4, so 0.4% increase, mainly due to the leasing spread activity, which is positive. And this is obviously offset as we were describing this data in dollars by the appreciation of the currency. So again, very pleased to see that even with the effect of the appreciation of the currency, you're seeing a very solid positive number in this data. Looking at the Logistics segment, NOI decreased by 4%, manufacturing decreased by 0.2%, basically stood flat. Business parks decreased by 1.7% on light manufacturing segment. So this is basically due to the FX appreciation on -- excluding the FX appreciation, obviously, all of these numbers would have been positive. In the office segment, NOI decreased by 2.8%. Again, this is the effect of FX appreciation, mainly on our U.S. dollar-denominated rents. The retail segment, stand-alone increased by 1.9%, regional centers decreased by 2.7%, fashion malls decreased by 2.2% and the latter is basically due to increases above inflation of some of operational expenses more than the rental level. As I mentioned earlier in the call, we are focusing all of our efforts on containing the expenses to ensure that our margins return to normal levels. In the other segments, we saw an increase of 1%, mainly due to variable rent component in that segment. And lastly, I would like to highlight that in addition to remaining again in the FTSE4Good Index, because it's one thing to get there, and it's harder to remain these indices, given the ever-changing and ever-increasing demands of the ESG world. So we are pleased to see that we remain on the index. We also received the distinction of a top company by Sustainalytics, which is a very well-regarded third-party provider and analytics -- analyzer of ESG data. And with this, I conclude my remarks, and Michael I would ask you if we can please open the floor to Q&A.

[Operator Instructions] We'll start with Mr. Gordon Lee from BTG.

Two quick questions that have to do with the dividend and with taxes -- with taxable income. The first is the 100% payout ratio for this quarter, was that -- and I know that was all taxable income, but did you distribute 100% of the taxable income that you estimate for the quarter? Or do you think you're sort of building a surplus that might -- if the FX stays here lead to sort of an above 100% payout ratio towards the end of the year, similar to last year? And the second question I had, as you conduct the asset sales in the second half of this year, does the premium over historical cost, is that taxable income as well that would have to be distributed at least 95% of by the end of the year?

Thanks, Gordon. Second question first, yes, the premium that you pay not over book value, but over your fiscal cost is taxable income, and it's part of the distribution calculation as part of the profit and is part of your net taxable income calculation. Important to mention that given where we are in terms of FX, inflation and all of the different drivers that affect taxable income, we decided to distribute the FFO as 100% of net taxable income, but the reality is that net taxable income is a yearly calculation, and we will not know what that number is until December 31 when we know where the FX closes when we know exactly where inflation closes. But we are assuming that is going to be 100% of FFO, and that's why we decided to distribute this as 100% of FFO.

Perfect. That's super clear. So just one quick follow-up on that. Then given the uncertainty around that, right, and the fact that the peso just continues to strengthen almost daily. Should we expect proceeds from asset sales to be applied towards debt reduction as we've seen so far? Or would you hold on to some of that cash to be able to make that additional extraordinary distribution, if you had to?

That's a good question. I think we don't know, at this stage, the strategy we have so far as of right now, and I don't think we've changed course is to direct the asset sales to debt repayment, and we will figure out what happens with the dividend later on.

Our next question comes from Mr. Anton Mondo Cote from GBM.

Congrats on strong operational results. I just have one question. It's quite specific related to Turbo. I understand that with the delivery of the Tapachula project is now an outstanding balance from a capitalized service rendered with Parks Concentradora of roughly MXN 970 million. Just wanted to better understand what this means. If this is capitalized construction costs? Or is this a fee? If you could walk us through, it will be really helpful.

Honestly, I don't have that data right now. But if you want, I can ask Fernando and our finance team to give you a call back to address that.

Yes, that will be really useful.

Sure. We'll get back to you.

Our next question comes from Mr. Francisco Chavez from BBVA.

Congrats on the strong results. Nice surprise on the office segment. Can you give us more color on this recovery in occupancy, which -- what kind of tenants are demanding more space? And do you expect the office segment to gain momentum in coming months?

Yes, I think Francisco that we are receiving requests for space from all over the world, all types of industries. And we have also been receiving from the company that are already established that they need more space. This is a very common practice in the last 20 years in Mexico. All the companies that are established eventually, if they are growing, they need to grow their footprint on their office. Of course, we had the pandemic and the new way of life of the workers. But I think that has already passed. And we are heading back to what the uses and customs were. So I think we are receiving from all different industries, and we are receiving strong from the currently established companies. They need more space.

There's also people reshuffling from one place to another, people that was probably in the Class B, Class B minus buildings, they are moving, taking advantage probably of the pricing into a Class A, Class A minus type of buildings. For example, there's a large request of the market right now from public agency that is taking quite a large amount of square meters that they used to be in the [indiscernible] that nobody knows. And they are moving to reformat. So that's the type of things that we are seeing on the market.

But again, as we have mentioned, I think it's for 3 or 4 quarters now, we expected to see recovery in occupancy. And once we get to a certain level as a market, we will start seeing recovery in rents. We're not quite there yet in terms of recovering rents, but we are getting there, at least in UNO, we expected to continue to increase the occupancy, and that's what we are on track to that objective.

And we have to be patient. This won't happen in the next quarter. This will happen probably in the next 18 months.

Our next question comes from Vanessa Quiroga from Credit Suisse.

My first question is on the industrial segment. If you expect that leasing spreads to continue to be at the same level of strength in the coming quarters. The second question would be regarding your cost reduction strategies, which segment or portfolio do you expect to deliver more or the biggest part of these cost reduction strategies. And the third one would be, if there is any progress in the lobbying, I guess, that the sector is doing with the tax authorities in order to change the way that the fiscal net income is calculated for the -- or the way that dividends are determined given the big impact that is -- that the FX is having on the Fibra.

Thank you, Vanessa. We are in continuous communication with the authorities, and we hope that we can get to a change in the regulation that will help us fulfill the obligation that we have to distribute 95% of our fiscal income. I mean -- I think that we need some changes, but I think that the authorities will cooperate in finding a solution for all of us who have this problem currently in the market. As for the industrial side, it's posing very hard. I don't think that it's sustainable to have 1,600 basis points of leasing spread. But I think it's going to continue to be pushing because we have lack of space all across the country. So this lack of space at the end will have a price tag. And the price tag cannot be off the charts. So I don't believe that 1,600 basis points of leasing spread is sustainable. We got to that in this quarter, I think, by accident. And I am seeing very -- too much pressure on the prices. And I hope that we do not go -- fall off the charts. If we fall off the chart, we will lose competitivity. So I hope that it will -- it don't -- it won't be there. No cost reduction all across the board. We are turning all the screws we can find in order to contain the increases on the cost, if not cost reduction, is containment of the increases on the expenses. It's a decent way of doing it.

The industry is a nice problem to have, but we'd rather not have continued explosion in rents because as Andre mentioned, we become less competitive. So the market is very hot. We'll see what happens.

It looks like Ms. Vanessa has dropped from the call. We will open her line once again once she comes back in case there are any follow-up questions. The next question comes from Mr. Pablo Monsivais from Barclays.

The first one is on Andre's comments on the press -- on the earnings release about the 500,000 square meters that you have for industrial space. This is not yet on the development pipeline. So I just want to have more color on that, if you plan to develop that ELA soon or that's a medium-term project? My second question is to get your views on the inventory of office in Mexico City. I mean in the last few years, there's been an excess of inventory. How much of that is already absorbed?

Yes, regarding the land, as you know, we have with the different acquisitions we've made in the past about 1 million square meters of shovel-ready land to initiate development is something that we can do. And I think that the short answer, Pablo is that we will go with our tenants and whenever they demand space, and we have well-located land because of land we purchased came in either existing parks that are already established and developed in the north part of the country where there's a lot of demand. So we have space there, and we will work with our tenants. How fast we go with that? I think it's more of a question of the demand side of the equation rather than on our capability of developing. We can do that very fast. We'll work more with our tenants to see where people want to establish, and we're able to develop that. But it could be quick if the market is there. Let's put it that way.

In term of the office inventory, as you know, since the last quarter of 2018 when Claudia Sheinbaum took place as a city mayor. She stopped almost every construction. And after 5 years, we see this like a benefit because we stopped the supply of new inventory to the market. Due to the COVID, we saw a bunch of quarters with negative absorption. And as of now, I can tell you that there has been 3 quarters with positive absorption. As of this year, the positive absorption is around 150,000 square meters and take under consideration that back in 2019, the average positive absorption was in between 350,000 to 500,000 square meters. So we are on the pace of recovering the occupancy. As I mentioned, it will take 2 quarters, probably something that will take 4 to 6 quarters to get back to the occupancy where we were prior to the COVID.

We saw Ms. Vanessa Quiroga from Credit Suisse dropping for a few minutes. We can see that you are back. Vanessa, your line is open in case you have any follow-up to your previous question.