Growthpoint Properties Australia (GOZ) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to Growthpoint's half year results conference call. [Operator Instructions] I would now like to hand the conference over to Mr. Timothy Collyer, Managing Director. Please go ahead.

Good morning, and welcome to Growthpoint Properties Australia's half year results briefing. I'm Tim Collyer, Managing Director of Growthpoint. Joining me this morning is Dion Andrews, Chief Financial Officer; and Michael Green, Chief Investment Officer. And together, we will take you through the presentation. I'll start this morning with a brief overview of our results. Michael will then provide an update on our property portfolio, followed by Dion who will give a more detailed review of our financials. And finally, I'll provide a brief summary and some insights into how we are considering opportunities for further growth. We will then be happy to answer any questions you may have. Turning to Slide 4 and our half year highlights. Growthpoint has delivered strong results this half. I'm pleased that FFO is ahead of where we were at the same time last year, highlighting the resilience of our portfolio against a challenging economic backdrop. The value of our portfolio increased by 2.4% over the half. We saw particularly significant gains at our long-WALE assets, such as New South Wales police headquarters in Parramatta and across our industrial portfolio, and Michael will discuss that in further detail. We refinanced $315 million of debt during the half and now have no debt facilities maturing before December 2022. We remain committed to operating in a sustainable way and are pleased to see that our efforts continue to be recognized in external ESG benchmarks. We have recently commenced a review of our net 0 strategy, and I'm looking forward to providing an update on this at our full year results in August. The COVID-19 pandemic continued to have a significant impact on businesses and individuals around the globe during the half. However, the direct financial impact on Growthpoint to date has been immaterial. We continue to support our SME tenants who have been doing it tough. SA represents such a small proportion of our portfolio, around 3%. This only equated to $400,000 of additional rent relief. Overall, total rent relief granted since the outset of the pandemic has represented around 1.6% of our total portfolio income. Our billings collections have remained high above 98%. I know some of you joining us today may still be focused on these numbers and comparing our performance to other groups, so we have included these. However, unless there is a significant change, we won't be highlighting these metrics going forward. The group entered the COVID-19 period on a strong footing, and we have been able to maintain and even improve our position over the past year. We have increased our occupancy to 95%, maintained our long-WALE at 6.2 years and reduced our gearing. In Australia, we are increasingly confident about the future. The economy is growing and the outlook for continued growth into 2022 and 2023 is good. Government restrictions have been eased and the rollout of the COVID vaccine has commenced. As a result, I am pleased to announce that we are providing FFO guidance today of $0.252 to $0.255 per security and also reaffirming our distribution guidance of $0.20 per security, which represents a distribution yield of approximately 6.5% on Tuesday's closing ASX price. On Slide 6, we've highlighted our total security holder returns compared to the ASX S&P 200 A-REIT index. As you can see, Growthpoint has had a long-term successful track record of outperforming the index. However, over the last 12 months, we have underperformed. As a group, when we look at our results relative to the market, this is something we have struggled with. As I highlighted on the previous slide, the impact of the pandemic on our financials has been immaterial to date, and the fundamentals of our portfolio remain robust. There appears to be a significant disconnect with Growthpoint security price and the value of our business. Around 1/3 of our portfolio is industrial property. If we assume our industrial portfolio is trading in line with its NTA, this implies our office assets are trading at a discount north of 28%. As a result, we have announced today that we will initiate an on-market buyback of up to 2.5% of issued capital. The buyback program is one aspect of our overall capital management plan and will not restrict our ability to fund acquisition opportunities. I'll now hand over to Michael.

Thanks, Tim. I thought I'd start this morning by giving you a quick update on our property portfolio as it stands today. On Slide 8, we've highlighted our top 10 tenants. I'm sure you are familiar with all of these logos. We've had one addition to the group during the half, Bunnings, who have become the key tenant at Botanicca 3, and we are very happy to welcome Bunnings into the Growthpoint portfolio. As Tim mentioned, COVID-19 to date has had an immaterial impact on the revenue of our business, and this is primarily due to our strong tenant base. I'm pleased to see that our occupancy has improved over the past 6 months, largely driven by our leasing success at Botanicca 3. We've also maintained our WALE at 6.2 years. Turning to an update on our industrial portfolio, which makes up approximately 1/3 of our total portfolio by value. It has been another great 6 months for this sector. The rapid growth in e-commerce accelerated by the COVID-19 pandemic has led to strong demand for warehousing and logistics space, and this trend is expected to continue. Colliers estimate that for every $1 billion spent online, about 85,000 square meters of warehouse space is needed, and they are forecasting online sales to grow by $12.8 billion in 2021. Our portfolio is certainly well positioned to benefit from these structural shifts, and this is reflected in the strong valuation gains in the last 6 months. The bar chart on this slide highlights the proportion of our portfolio by value, where valuations have increased, remained stable or decreased. As you can see, the chart is heavily weighted to increase with 73% of assets increasing in value. Properties that decreased in value were generally leasehold properties with near-term vacancy risk. The future of the office remains a topic of discussion around the world with many commentators continuing to speculate about the long-term impacts of the COVID-19 pandemic on office demand. We have a positive view on the outlook for the sector and believe that officers will remain an important part of company's identities and people's working lives. As a group, we've returned to the office and are really enjoying the social aspect of being together as well as the ease of collaboration. There are many aspects of working in an office environment that cannot be recreated no matter how good the technology is. A number of large organizations have publicly announced in recent months that they want their employees to return to the office. To facilitate this, first and foremost, they will need to provide an office that's safe. There must be sufficient space to support social distancing, good airflow and ways to access floors without using crowded lifts. In addition, tenant amenities are increasingly important, the office has to be a place where people want to go. As a result, we expect these factors to drive a flight to quality. Office tenancy demand remains strong for modern, high-quality A-grade properties, and we believe it is likely to reduce in the B and C grade assets. We have reviewed our portfolio, given our view on the future of the office market and have decided to sell the Quad properties. After running a competitive sale process, we're in the final stages of negotiations and expect to close the transaction soon. On Slide 10, we presented the same bar chart as we did for our industrial portfolio to highlight the valuation movement across our office portfolio. In 2020, there were fewer office sales transactions than in a normal year. There were, however, a number of strong sales results for defensive assets, modern well-leased properties with strong tenant covenants. These sales supported the strong valuation uplift for our portfolio, which was primarily driven by 2 large assets: New South Wales Police Force headquarters, which has 24 years remaining on the lease; and Botanicca 3, which appreciated significantly post the Bunnings lease. However, pleasingly, even if you exclude these assets, the valuation of the remaining office portfolio increased moderately. Turning to Slide 11 and an update on our leasing. The leasing market in Australia was subdued for the majority of 2020. In a normal half, we would expect to negotiate a number of leases that were due to expire in future periods. However, many tenants were reluctant to make decisions about their future accommodation strategy whilst the pandemic within full swing in Australia. There has been an evident pickup in inquiry levels in the first few months of 2021, with a number of tenants who have previously paused requirements in 2020 now looking to take action. We negotiated 3 significant leases, which I highlighted on this slide, during the half. As I mentioned, we signed a 10-year and 7-month lease with Bunnings for 71% of Botanicca 3. We also signed leases with the South Australian government and Monash University for 10 years and 5 years, respectively. We have signed a number of leasing deals since the 31st of December, with the most notable being a 10-year 6-month lease with Australia Post at Butler Boulevard in Adelaide Airport. We have less than 1% of lease expiries remaining in FY '21. This comprises of 5 relatively small leases for the group with no individual lease worth more than 0.3% of portfolio income. We are in the process of negotiating with all our key expiries for FY '22, excluding Downer, who we know are leaving their premises at the end of the lease. We are hopeful of being able to announce several renewals of other major expiries in the coming months. As some of you may remember, the site where Botanicca 3 now stands is essentially a glorified shed, sitting on a significant piece of underutilized developable land. In 2016, the Country Road Group decided to establish their new headquarters that -- joining 2 properties, leasing over 23,000 square meters for 15 years from Growthpoint, which reinforced our view on the site's potential for redevelopment. When we commenced planning for Botanicca 3, we set ourselves a target of building one of the highest quality metro offices in Australia with high green credentials, large floor plates that would appeal to preeminent tenants, both corporate and government. This strategy has certainly paid off. We had a product ready to go that met Bunnings requirements. So within 2.5 years, we turned an underutilized asset worth $23 million into one of the finest fringe office efforts in the country, generated development profit of $43 million and procured one of the best corporate covenants for the majority of the building for over 10 years. We continue the leasing momentum for the remaining space of Botanicca 3 and have recently agreed a couple of heads of agreements. Hopefully, we can provide more detail on these leases in the near future. I'll now hand over to Dion, who will provide a more detailed review of the financials.

Thanks, Michael. Starting on Slide 14 with an overview of our financial results for the half. As Tim highlighted, we've delivered a strong result with FFO per security increasing by 0.8%. I'll provide some more insights into the key drivers of this result on our next slide. While FFO increased, we reduced our distribution this half to $0.10 per security, in line with our distribution for the second half of FY '20. The -- this reflects the group's decision to maintain a more conservative payout ratio going forward. For this half, the payout ratio was 78.5% compared to 94.1% in the first half of FY '20. On Slide 14, we've highlighted the key movement in FFO per security and NTA per security. As expected, we had a significant headwind that impacted FFO this half with no contribution from our Broadmeadows asset, which we have now divested. A further reduction to FFO occurred as we had no capitalized interest expense on development projects this half. However, this decrease was offset by a reduction in tax expenses as there were no profits on developments as they were in the prior corresponding period, which was driven by the completion of Botanicca 3. FFO growth drivers were a reduction in operating expenses, largely due to our tight cost control, lower interest rates on debt and increases to the net property income due to fixed bumps in leases and higher add-back of amortized incentives. NTA per security increased $0.17 or 4.7% over the half. This was largely driven by the strong valuation uplift across both our office and industrial portfolios, which Michael highlighted. The ADI share price also increased and is now trading only a little below where it was just before the COVID-19 pandemic. During the half, the group participated in ADI's equity raising to maintain a 15% holding. Since June, our gearing reduced by 230 basis points to 29.9%. The reduction was primarily driven by increased cash from operating activities, positive investment revaluations and proceeds from the sale of our Broadmeadows asset, which we used to pay down debt. Our gearing is now 510 basis points below the bottom of our gearing range, and we remain well within our debt covenants. This puts us in a strong position to initiate a buyback program, as Tim mentioned, as well as fund growth opportunities. At the moment, we can deploy approximately $408 million of existing headroom at a rate of around 1% and remain at the bottom of our target range. Deploying a good portion of this debt capital either for the buyback or new acquisitions will be a key driver of FFO growth in the short term. I'll now hand back to Tim.

Thanks, Dion and Michael. As highlighted throughout this presentation, Growthpoint is in a strong position. Our results for the 6 months demonstrate the resilient nature of our business. The COVID-19 pandemic has not had a material financial impact on our business to date. We increased our portfolio occupancy and maintained our long-WALE. We delivered FFO growth, and the value of our portfolio increased significantly. As a result, we are now in a position to provide financial year '21 FFO guidance and reaffirm our distribution guidance. All in all, we are feeling very confident about the outlook for the group and Australia more broadly. On Slide '19, we have highlighted the reserve Bank of Australia's forecast for GDP growth and the unemployment rate, which have become increasingly positive over the last few months. The red line is the RBA's forecast in August last year, and the blue line is their most recent forecast. As you can see, the RBA now expects GDP to rebound quicker and stronger. Unemployment never reached the level initially feared and the forecast level has been revised down significantly. Economic -- the economic recovery has been driven by government support measures with the federal government committing more than $500 billion to soften the blow of the pandemic for individuals and businesses. The recovery is also being underpinned by the RBA's significant monetary policy. The RBA have stated that they don't expect official cash rate to change from 0.1% for the next 3 years. This time last year, we flagged that we were considering opportunities to diversify our income streams. As part of our COVID response, we put this project on hold. This is no longer the case, and we are now actively looking for opportunities for growth. As I said, we are feeling confident about the future and believe Growthpoint is well placed with low gearing and ample liquidity to fund new opportunities and ultimately grow the business. When we are assessing the attractiveness of different opportunities, there are 4 key considerations: FFO accretion, the ability to leverage Growthpoint's expertise, the risk/reward ratio, and longer term potential. We have listed on this slide the 4 opportunities that we are focused on. Firstly, industrial and office property acquisitions. We are expecting more assets to come onto the market this year, and we are looking to grow our portfolio. We are focused on modern assets with a strong tenant covenant. Secondly, funds management. Our executive team all have significant experience in property funds management, and there may be opportunities, both internally and externally. Thirdly, a buyback. As I mentioned at the beginning of the presentation, we announced a buyback today. Buying our securities will provide attractive returns to security holders whilst not limiting our ability to pursue other acquisition opportunities. And finally, M&A is also on the list. That wraps up our presentation. We appreciate you joining us today. We will now open up the lines and are happy to take any questions that you may have.

[Operator Instructions] Your first question comes from Caleb Wheatley of Macquarie Group.

Just a couple of questions from me. I'll start on the capital deployment side of things. So a few things here in the results that you pointed to reducing the payout ratio to be a bit more conservative, but also launched a buyback and gearing is well below that 30% range. First one. Just be able to marry up the reducing payout ratio and launching a buyback in the context of that low gearing number. As an extension to this, has there been a change of view on the payout ratio longer term? And what's driven this year?

Yes. Thanks, Caleb. It's Dion here. First of all, to the first question, our gearing -- target gearing ratio was actually 35% to 45%, and that remains at 29.9% gearing that we are currently. There's a lot of room moving up towards that gearing range for us to both conduct a buyback and execute on acquisition opportunities as they arrive. So we've got a lot of headroom in our debt, and we've got a lot of headroom before we hit the bottom of that target gearing range. Secondly, with regards to payout ratio going forward. We have moved to a more conservative payout ratio, so that is to be expected. We've moved to that more conservative payout ratio. If we take last year, FY '20, it was around 85% payout ratio. This year, it's around that 78%, 79% payout ratio. We're not giving firm guidance, but that's the sort of indicative area to look forward.

Sure. And is there a reason for the downgrade? I mean, cash production has been really solid, and as you said, you've got a lot of headroom to at least that 35% number. Why is there a view to reduce that and retain more capital?

Yes. So if we looked at the first half of last year, it's actually up around 94% as the payout ratio. Considering some of the incentives we're paying with regards to leasing up Botanicca 3, we still have the police incentive to pay over the next couple of years and potentially moving into an environment of slightly higher incentives. We're just looking to be a little more conservative with the cash at the moment to make sure that we can cover those incentives and continue to grow our distribution.

Okay. Sure. And then just about the incremental use of capital. I know you've highlighted before opportunities on the last slide there. Is there any sort of preference between those? Obviously, the buyback is the one that's the most easily attainable near term. But is there a preference on how that capital is deployed?

There is not a clear preference. Certainly, we'll be looking at the industrial property sector and also the commercial property sector, and it will depend on opportunities coming through to the market. We know over the last 12 months, there's been a lesser amount of opportunities than there has been in the past, but we see the market slowly opening up this year. So we'll be concentrating on the 2 markets we're invested in. It's obviously going to be a very competitive market for industrial property this year, but they're the markets we'll be concentrating on.

Sure. And just one last one for me. Just on the guidance range. So FFO looks like you're almost going to annualize what happened in the first half. Are you able to speak through what sort of assumptions are filtering into the second half FFO there?