Growthpoint Properties Australia (GOZ) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Growthpoint Properties Australia FY '22 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 Full Year Results for the financial year 2022. I'm Timothy Collyer, Managing Director of Growthpoint. Joining me this morning are Michael Green, Chief Investment Officer; and Dion Andrews, Chief Financial Officer. And together, we will take you through the presentation. I will start this morning with a brief overview of our results, strategy and sustainability highlights. 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 summary and outlook. We will then be happy to answer any questions you may have. Turning to Slide 4 and the financial year 2022 overview. I'm pleased to be able to present another successful year for the group in terms of financial outcomes and operational performance. Our FFO for the financial year is $0.277 per security, consistent with our guidance, which was raised twice during the year, and 7.8% above last year. On this basis, we were pleased to raise the distribution payment to $0.208 per security, an increase of 4% on financial year 2021. Acquisitions of WALE leased office buildings and a very strong leasing performance saw the weighted average lease expiry rise 6.3 years. As a result of this leasing success and cap rate compression, the value of the group's portfolio increased by 7.9% or $356 million over the year on a like-for-like basis. This was the primary driver of strong NTA growth currently at $4.56 per security. Turning to Slide 5. We have focused on our goal to provide security holders with sustainable income returns and capital appreciation over the long term. Growthpoint has a long track record of delivering value on our investment in high-quality assets. In financial year '22, we made strategic accretive acquisitions, investing over $320 million in 3 high-quality office assets, predominantly leased to government tenants with blended WALE of 7.2 years and a yield of 5%. Our further investment in additional DXI securities maintained our circa 15% holding in the fund and increased our exposure to industrial assets. We seek to maximize value of Growthpoint's assets and provide a combination that supports our tenant's success. Properties leased to BMW and Symbion were expanded, and we continue to reinvest in the portfolio to provide a high level of amenity. The group's leasing performance was strong with over 234,000 square meters leased, resulting in continued high occupancy of 97% and a high retention rate of 86%. We have also successfully executed on the group's growth opportunities in the year, as highlighted in the presentation. Moving to Slide 6. A major platform for the strategic growth of the group is the 100% acquisition of Fortius Funds Management announced in early August. Completion of the transaction is anticipated this quarter, subject to satisfactory completion of conditions precedent. Fortius is a property fund manager with a 30-year plus track record of delivering strong returns to its investors. Currently, Fortius has $1.9 billion of FUM in the office, retail, mixed-use property sectors as well as debt funds. The Founder and Executive Director, Ray Sproats and CEO, Sam Sproats, will continue in the business with retention of staff to grow the platform within the Growthpoint Group. Our strategic goal is to grow the funds management platform over time, so it represents 10% to 20% of group EBIT over the medium term. We are most excited about the prospects for the Fortius business, and are pleased to be working with a fantastic team that has a clear focus on growth and generating strong investor returns. Switching now to sustainability on Slide 7. Growthpoint is committed to operating in a sustainable way and achieving high ESG outcomes. We continue to make progress towards achieving our 2025 net zero target, including further property solar installation and improving energy and resource efficiency across the portfolio. Major external benchmarks rate Growthpoint highly, including NABERS for energy efficiency, GRESB and CDP. The group was also recognized by GRESB as a sector leader during the year. We are pleased to again see positive results on employee engagement and alignment with the group performing well against our benchmark group. Our team has grown over the year, and we have continued to invest in our people and our employee offer, which is -- which allows us to reward, motivate and attract a high-performing team. On Slide 8, we've highlighted our total securityholder returns compared to the S&P/ASX 200 A-REIT Index. The group has outperformed the index over the short, medium and long term as shown in the chart. In May 2022, there was a strong sell-off in the market, with the investors responding to a changing economic environment with higher inflation and central banks raising interest rates aggressively. The A-REIT sector performance was impacted as was Growthpoint's. Over the long term, however, Growthpoint's [ TSR ] has consistently outperformed the A-REIT sector. Our return on equity was 14.3% for the financial year 2022, continuing the strong performance over a decade. This return measures the distribution paid and the change in net assets over the year against the starting net assets. The 16.7% return per annum over 10 years speaks to the group's track record of providing value. However, the group's security price is currently trading at a substantial 18% discount to our NTA. To Slide 9. The macroeconomic environment is changing. Global supply chain disruption, the war in Ukraine and a resurgence of consumer demand and opening up of economies post-COVID lockdowns have contributed to rising inflation. It is expected that inflation in Australia will move higher than the current 6.1% in late 2022 before declining. We note that construction costs have risen significantly, which will likely lead to higher economic rents being required in the market for new buildings. This should favor existing buildings where quality office accommodation and amenity is offered with a flight to quality clearly exhibited by tenants. The RBA has raised the cash rate 4x from its emergency setting of 0.1% to 1.85% in early August whilst the market expects it to peak at over 3%. Unemployment is at a 50-year low, and these forecasts to remain low over the next 2 years with low net migration currently and a shortage of skilled workers nationally. Slide 10. With this changing environment, Growthpoint is well placed. Our office vacancy rate of 5% compares favorably to the national office market vacancy rate of 12%. Strong jobs and white-collar employment growth witnessed in the economy is a positive for the office sector. The industrial property sector is a standout in the market with record tenant demand and historic low vacancy rate and rise in rentals. Finally, we have seen the volume of commercial property transactions in the market to be very healthy with foreign investment strong at around 1/3 of volumes. We expect transaction volumes to slow in the short term as vendors and buyers take time to consider the market and where pricing sits, with significant capital to invest in commercial real estate in Australia still present. That concludes my opening remarks. I will now hand over to Michael.

Thank you, Tim. Slide 12 provides a summary of the strategic property acquisitions made since 30 June 2021 with the group investing $426.6 million in A-grade office assets, which includes the recently settled acquisition of the GSO Dandenong building in July 2022, post period end. Consistent with the rest of our office portfolio, we sold our 4 high-quality, modern green credentialed assets. All of which are well leased to either government or large corporate tenants. With a blended WALE of 8.1 years and an average income yield of 5.1%, we believe that these acquisitions will have a positive impact on group's performance for years to come. Slide 13 provides an overview of Growthpoint's $5.1 billion portfolio. The group's well-balanced portfolio continues to be exemplified by a blend of modern office and industrial properties, leads to high-caliber corporate and government tenants. Over the 12 months, we extended the portfolio of WALE to 6.3 years through our active leasing and targeted acquisition activities. Our continued 97% occupancy rate is a tribute to the tireless efforts of our asset management team. We pleasingly delivered an 86% tenant retention rate over the year. Growthpoint was also proud to be named an industry leader for landlord satisfaction and external experts. Brickfields conducted our annual tenant engagement survey in February this year. On Slide 14, we continue with our portfolio key metrics. Both our A-grade metropolitan office portfolio and our well-positioned industrial portfolio increased in value considerably over the 12 months. The increase in portfolio valuation reflects the group's consistently strong leasing performance and deliberate portfolio composition. Our office portfolio increased in value by $129.6 million or 4.3% on a like-for-like basis. Approximately 80% of the group's office assets increased in value due to a combination of leasing success, yield compression and the advancement of the BMW showroom development at 75 Dorcas Street, our asset in South Melbourne, Victoria. We remain confident in the outlook for the office sector and particularly metropolitan office markets. Our industrial portfolio increased in value by $226.4 million or 15.1% on a like-for-like basis. Growthpoint's industrial portfolio is 100% leased at 30 June 2022. With 99% of assets increasing in value over the year, yield compression, market rental growth and leasing success within the portfolio were the primary drivers of the value appreciation. The defensive characteristics of the group's portfolio are illustrated again on Slide 15. As mentioned, we increased the group's WALE to 6.3 years over the year. Since Growthpoint's inception in 2009, managing lease expiry risk is something we've always been focused on, and this will continue to be a key focus of the group going forward. The chart shows that over the next 2 years, Growthpoint has 7% and 8% of income expiring in FY '23 and '24, respectively, a relatively manageable lease expiry profile. Moving to Slide 16 and the leasing activity during the year. The group leased 234,000 square meters across the portfolio, equating to 17% of portfolio income in FY '22. We extended a number of key leases in both the office and industrial portfolios, including leases to FOX Sports and Samsung in 2 of our New South Wales office buildings. Importantly, these 2 large corporate businesses extended their leases over the same amount of floor space that they were previously leasing from the group. We were also pleased to see Woolworths extend their lease for their major Queensland distribution center at Larapinta in the second half of the year, the group's largest industrial asset. Post-balance date, we have negotiated an additional 2.5-year extension to the Woolworths lease, resulting in a 7.5-year lease term from February 2022. Moving on to office markets on Slide 17. Positive net absorption has been a feature of both CBD and metropolitan office markets over the last 12 months. Pleasingly, the Growthpoint, the metro markets have outperformed their CBD counterparts with 100,000 square meters of additional net absorption. Over the last 12 months, we've continued to witness a flight to quality by office occupiers and an increasing interest from large corporate and government tenants in leasing highly energy-efficient buildings. The group's A-grade highly green credentialed office portfolio is well positioned to meet this demand. Growthpoint is the largest listed owner of metropolitan office properties with over 90% of our office portfolio, well located in key metropolitan office precincts. Turning to Slide 18. The industrial leasing market continues to go from strength to strength with 0.8% market vacancy rate as at 30 June 2022 at historic national low and according to CBRE, the lowest worldwide. The low vacancy rate and high levels of tenant demand promoted strong rental growth across all capital city markets. On the ground, we are regularly finding that our properties are being competitively pursued by a number of potential occupiers when a lease expiry is approaching. I will now hand over to Dion to take you through our financial results.

Thanks, Michael. Starting on Slide 20. We then highlight our strong performance delivering FFO of $0.277 per security, an increase of 7.8% on last year. I'll provide some more insight into the key drivers of net property income results in the following slides but a couple of additional points to highlight in the year. As we have noted in the slides here are, we reduced our net financing costs over the year despite increasing gearing to acquire new property as planned. This was largely due to the cost of debt decreasing for much of the year, following the group's significant refinancing activity in November 2021 and the restructure of associated derivatives. The cost of debt went from 3.3% last year, down to a lower 2.7% at 31 March before we're increasing again with a sharp rise in the cash rate towards the end of FY '22. Increased operating expenses over the year were primarily driven by an increased head count as the group positioned for growth. This is as opposed to the prior corresponding period, where we're focused on cost containment in the early phase of the COVID pandemic. This has led to the group's management expense ratio increasing to 0.4% around the long-term average. The distribution increased by 4% for the year to $0.208 per security and a lower payout ratio than the prior year and at the bottom of our payout ratio range of 75% to 85%. On Slide 21, we've highlighted the key movements of the FFO and NTA per security. The key drivers of the FFO increase include an increase to net property income driven by increased rent on the expanded net lettable area of 75 Dorcas Street, South Melbourne, further leasing at Botanicca 3 in Richmond and leasing of vacancy at the industrial property at 5 Viola Place at Brisbane Airport. The 3 properties acquired in FY '22 and [indiscernible] $0.006 per security to FFO, although this impact was partly offset by the sale of the Quads assets in May 2021, which subtracted $0.003 per security. The other key driver, as mentioned earlier, was a reduction in borrowing costs at the weighted average cost of debt reduced for much of the year following the refinancing of debt facilities and restructuring associated derivatives. NTA per security increased $4.56, an increase of 9.4% on 30 June 2021. However, much of the increase was driven by the significant valuation uplift across both office and industrial portfolio in the first half of the year. In the second half of the year, industrial property valuation growth was largely offset by a reduction in the value of the office portfolio in Dexus Industrial REIT share price reducing. Turning to Slide 22. We see gearing increased by 370 basis points to 31.6% at 30 June 2022, remaining well below the group's target range of 35% to 45%. However, pro forma gearing is set to increase to 34.3% following the settlement of the GSO Dandenong building in July and settlement of Fortius acquisition expected before the end of September. This brings the group up to just below the bottom of our target gearing range, and we would like to remain around the bottom of the range at this time. We still have latitude to utilize our debt headroom for capital management initiatives such as the buyback program as well as funding future growth opportunities where we see good value for securityholders. As I've touched on earlier, our distribution payout ratio is at the bottom of the target payout ratio range introduced at the beginning of FY '21 of between 75% and 85% of FFO. On Slide 23, we take a look at our capital position moving into FY '23, clearly, one of the most topical points at this time. Our weighted average cost of debt at 30 June was 3.4% after being as low as 2.7% at 31 March. The rapid increase in the cash rate is increasing the cost of floating debt with an average floating rate of 2.8% assumed across FY '23. We have little debt maturing over the next 2 years, having refinanced $715 million of debt during the year and adding a further $350 million in new facilities to finance the group's growth, all of pleasing margins. We do have $190 million facility due in December 2022, and we're in late phase negotiations to replace that with $200 million of new facilities with a weighted average tenor for a little over 5 years. As of 30 June, 61% of debt expected for an average of 3.8 years, with no hedges rolling off in FY '23. I'll now hand you back to Tim to wrap up.

Thank you, Michael and Dion. Just on Slide 25. Our presentation today highlights that the group and its portfolio is performing well against the backdrop of changing economic conditions. Our portfolio metrics are strong, and we have executed on the key strategic goals, including entry into funds management. This will be a key focus of the business going forward. Our balance sheet is in good shape. Given this position and factor in higher interest costs on floating debt going forward, we provide FFO guidance of between $0.25 and $0.26 per security full financial year 2023. This level of earnings has enabled us to increase the distribution guidance by 2.9% in financial year 2023 to $0.214 per security, whilst maintaining our FFO payout ratio in the target range of 75% to 85% at the midpoint of guidance. We remain committed to providing our security holders with sustainable income returns and capital appreciation over the long term. Thank you, and that wraps up our prepared remarks this morning. Thank you very much for your attendance today. Thank you also to the Growthpoint team, external stakeholders and our security holders for your continued support in financial year 2022. We'll now open up the lines and are happy to take your questions.

[Operator Instructions] Your first question comes from Annabelle Atkins from JPMorgan.

Just wondering, post-June '22, what you have left to spend on the 75 Dorcas Street redevelopment? And what yield on cost you're looking at on that development?

It's Michael here. So there's limited spend and we finished this month. So in August, we're going to the opening the new facility -- later this month. So I'm not exactly sure. I think we spent [ 23 or 26 ] from memory to 30 June. And yield on cost was 7.25%, I think, from memory.

Okay. Great. And just another question. Michael, you said you were confident in the outlook for suburban office, just looking at your valuations for your office portfolio, you had, I think it was 15% of assets lowered. Just -- can you just talk to what you're so confident about on your valuation going forward?

Sure. So I mean what we've seen across -- there's a very good chart in our presentation on the state of the leasing market on Slide 17, which gives a really good indication of the net absorption that we've been seeing across the metro markets across the country. And we have done some really strong leasing across our portfolio. What we noticed is a real strong support from tenants and a number of parties looking out to the metropolitan office markets in lieu of the CBD market. So from an occupancy standpoint, I think that's very positive. And we've seen a number of our assets have faced rental growth while a lot of incentives have plateaued for the last 6 to 12 months. We have [indiscernible] rental growth coming into the market. So that gives us a positive view of the world from that sense. As far as the properties have gone backwards, it's really limited to a couple of assets where specific leasing occurrences that happened. So by and large, the portfolio grew in value over the 12 months.

Okay. Great. And just one final one. You talked about the increase in leasing you've done. What kind of spreads are you seeing on these leases?

Sure. So it's an interesting sort of spread across the portfolio. So it's about negative 7%, it's the balance of the portfolio. But that's a bit misleading because we did have a couple of long-term industrial leases, which rolled off after 15 and 10 years, respectively. So there was a bit of a reversion on those. And so for example, if you exclude Larapinta from the equation of the positive leasing spread of 4.5% on the industrial portfolio.

And office?

We see a similar sort of story. It was around negative 6%. So it's actually a big negative spread on the industrial portfolio than the office portfolio, but principally because of a couple of long-term leases that rolled off.

Your next question comes from Ben Brayshaw from Barrenjoey.

Tim, I was wondering you could just step through or discuss, please, the Fortius Funds platform. I'd just be interested in your, I suppose, color around the composition of the funds, the maturity profile and just the overall strategy to, I suppose, maximize that going forward?

Yes. Thank you, Ben. So just going back a step, you'll know that we've been looking in the market for an appropriate funds management platform, and we're obviously very enthusiastic about our acquisition going forward and the team there at Fortius. We think they're fantastic. Fortius principally is in, well, unlisted funds, firstly, but many of their funds are value-add. So they have syndicates. Syndicate investors typically high net worth individuals and private investors, but also institutional cornerstone investment -- investors into the funds as well. So you would have seen the large institutional investor names in the presentation when we announced the transaction. So they have a diverse range of investors, and principally, they are value-add. So principally, the -- there's a term in between 5 and 7 years for the investment, and typically, Fortius fees involved acquisition fees, then investment management fees and then quite often, a performance fee at the back end. So we expect to assist growth in that business but also offer a wider range of products to the market across different sectors, but core, core+ value add, we're expanding the fund offering over a period of time.

And Tim, is it your expectation that you will potentially co-invest in some of the new product offerings going forward?

Yes. One of the attractions of the group is that we have a large capital base to support growth of the business. So that capital base may be underwriting of assets, partnerships, taking co-investment stakes in funds and the like. So yes, we want to use our capital base to support growth of the business. And we look forward to co-investing in new funds alongside the investors in those funds.

Your next question comes from Ed Day from MA Financial.