Lendlease Group (LLC) Earnings Call Transcript & Summary

Welcome to Lendlease's FY '20 unaudited results update to be hosted by Steve McCann, Group Chief Executive Officer and Managing Director; and Tarun Gupta, Group Chief Financial Officer. Please note, this call is being recorded. I'll now hand the call over to Steve McCann. Thank you. Please go ahead.

Good morning, everyone. My name is Steve McCann, Group Chief Executive Officer and Managing Director of Lendlease. Thank you for joining our conference call, providing an update on our FY '20 unaudited results following a release to the ASX earlier this morning. I'll begin by acknowledging that we're on the land of the Gadigal people, and I extend my respects to their elders, past, present and future. Joining me on the call is Tarun Gupta, Group Chief Financial Officer. Both Tarun and I will provide some opening remarks before opening the lines for questions. This morning, we provided an update to the market on our FY '20 unaudited results, which is due to be announced on Monday, 17 August 2020. On 28 April 2020, the group withdrew forward-looking statements included in the half year '20 results announcement as a consequence of the escalating impacts of COVID-19. We noted that profit for FY '20 for the core business will be dependent on the conclusion of some material transactions in the development segment, which may be delayed, the impact of reduced productivity in the construction segment and the impact of any revaluations in the investment segment. The group is now in a position to provide greater clarity on the impact of these issues. The development segment has experienced delay in the conversion of a number of opportunities across urbanization projects due to the impact of COVID-19, including at Melbourne Quarter, Barangaroo and International Quarter London. The segment has also been impacted by delays in apartment settlements, along with elevated cancellations across the communities business. Performance of the construction segment was impacted by COVID-19 in all regions. The impact was greater in our international regions, particularly in cities where mandated shutdowns were implemented. This has included lower productivity, projects being put on hold and delays in the commencement or securing of new projects. Performance in the investment segment will be impacted by reductions in valuations across the group's circa $4 billion investment portfolio, including the group's co-investments within the funds platform, Retirement Living business and other asset positions. The retail asset management business within the Investments business has been working with retail partners as they navigate through a difficult period. This will have a negative impact on the operating earnings of the investment segment in both FY '20 and FY '21. Following an assessment of these and other impacts, the group expects FY '20 profit after tax for the core business to be in the range of $50 million to $150 million, including the impact of reductions in investment valuations in the second half FY '20 in the range of $130 million to $160 million after tax. In terms of the noncore business, further progress has been made on the exit of engineering. The sale of Acciona is expected to complete in early FY '21, subject to outstanding conditions, including third-party consents being satisfied. The Melbourne Metro Tunnel Project, NorthConnex and Kingsford Smith Drive projects are being retained while in lease. As previously advised, the Cross Yarra Partnership consortium for the Melbourne Metro Tunnel Project is continuing to work with Victorian government on a confidential basis to resolve issues in relation to the scope and cost on the project. The New South Wales government has indicated that NorthConnex will be operational in the coming months, and the Kingswood Smith Drive project in Brisbane is scheduled to complete by the end of calendar year '20. Lendlease has previously disclosed a restructuring cost estimate to exit the Engineering and Services businesses of $450 million to $550 million on a pretax basis. The cost estimate included implementation and selling costs, indemnities included in any sale agreements and potential costs to cover concluding projects retained by the group. We believe we have greater clarity on the likely exit costs, which we now expect to be approximately $550 million pretax. It is expected approximately $525 million pretax will be accounted for in FY '20. I'll now hand over to Tarun to provide some more detail on the financials.

Thanks, Steve, and good morning, everyone. I'll start with the unaudited statutory results for FY '20, which is expected to be a loss in the range of $230 million to $340 million after tax. There are 3 components to this anticipated loss. First, core profit is expected to be in the range of $50 million to $150 million, as already outlined by Steve. Second, we expect a small operating loss for the noncore operations. And third, engineering exit cost of approximately $370 million after tax. That equates to approximately $525 million on a pretax basis, and you will recall that $15 million pretax of exit costs were accounted for in FY '19. In Europe, the expected FY '20 results, and given the current economic environment, the final dividend for FY '20 is not expected to be paid from Lendlease Corporation Limited. Subject to the final outcome of this trust for FY '20, it is anticipated a small distribution will be paid from the Lendlease Trust. We are pleased with the progress that has been made on strengthening the financial position of the group. We have the capacity to withstand and extend the period of uncertainty and market volatility, in addition to investing in key development projects across our pipeline and to increase our exposure to investments and grow funds under management alongside our capital partners. The group enters FY '21 in a strong financial position, with gearing at 30th June 2020, expected to be below 10% and total liquidity above $5 billion, representing cash on hand and undrawn facilities. This includes the $1.21 billion of new equity raised, the securing of additional debt facilities, a PLLACeS transaction on One Sydney Harbour and final operating and investing cash flows for FY '20. We have also taken other initiatives to enhance the financial flexibility of the group. As outlined at the announcement of the equity raising, nonessential capital expenditure has been reduced or deferred and overhead and employee cost reduction measures have been implemented. The benefits of these will be realized in FY '21 largely flowing through in each of the operating segments. I'll now hand back to Steve.

Thanks, Tarun. COVID-19 has had a material effect on the financial performance of the group in FY '20. While our main priorities have been to keep our people safe and protect our balance sheet, considerable progress has been made on executing our core strategy of urbanization in key gateway cities. This is a testament to both the great projects we've secured and the quality of our capital partner relationships. There are also early signs of recovery in other segments of the group. The group successfully progressed several conversion opportunities across urbanization projects in the second half of FY '20. A partnership was formed to develop the $4 billion Milano Santa Giulia project. Remaining conditions have been satisfied and PSP Investments, one of Canada's largest pension funds, has been announced as our development partner. We've been exploring opportunities with PSP Investments for an extended period and welcome them to the platform for the first time. We look forward to developing our relationship further as this project and potentially other projects progress. At Elephant Park, final conditions have recently been satisfied for further 241 units across 2 buildings to be added to the U.K. residential investment partnership with CPP Investments. That takes the residential for rent units in the partnership to more than 900 units. We've executed agreements to establish a development joint venture with Mitsubishi Estate, who will acquire 25% interest in the delivery of the first residential tower at One Sydney Harbour, Barangaroo. The creation of the joint venture is expected to contribute approximately $100 million to profit after tax in FY '21. This is our third partnership with Mitsubishi Estate following successful unions at Melbourne Quarter and Sydney Quay. As previously advised, TRX presales on tower 1 at TRX Residences in Kuala Lumpur currently exceed 50% of the official launch of the project -- ahead of the official launch of the project. A significant number of the portfolio of 21 major urbanization projects are recent additions to the pipeline and are, therefore, in early-stage planning. We've made good progress on planning consents on several of these, including approval being obtained from Milan Innovation District and 30 Van Ness in San Francisco, which supports the conversion of these projects to delivery. In our Australian Communities business, inquiries have recently returned to pre-COVID-19 levels. In the construction segment, all but a small number of projects are currently operational. This is a significant improvement from the number of active projects just 4 to 6 weeks ago. Revised methodology is designed to comply with social distancing and additional health and safety standards remain in place, and we expect some continuing impacts on productivity. In Australia, we are starting to see some public sector stimulus coming through, which should bode well for FY '21. Conversely, activity in the Americas is likely to be subdued over the coming year. In the investment segment, we were selected by TCorp, the investment and financial management partner of New South Wales public sector to manage a circa $1.5 billion diversified property portfolio. This has now increased to circa $2 billion. While the duration of the impacts of the pandemic remain uncertain, the group is well positioned to execute the delivery of the global development pipeline and take advantage of opportunities to increase exposure to investments and grow funds under management over time. We will now open up for questions.

[Operator Instructions] The first question today comes from Stuart McLean with Macquarie.

My first question was just on operational deleverage in the business. So just taking 1/2 core profit, that implies a loss in the second half around $200 million. If you back out devaluations, it looks like a loss at the midpoint of around $70 million, give or take. Just maybe at the operating EBITDA level, what is that -- the size of that deleverage, were you able to move quickly to remove some costs? And really, what does that look like next year in terms of that operating leverage coming back into the business? And as construction still seems like it's going to be slow in places like the U.S. calling out investment management to be an issue in '21 as well, so just a question around operational leverage and deleverage.

Yes. Stuart, it's Tarun here. Yes. So in terms of the absolute details, clearly, we'll be coming back on the 17th of August to share them with you. But in terms of what's happened in the second half, which we flagged in our April announcement, we've had devaluations, which you've mentioned in the development segment, we've had transactions deferred, which we've highlighted and also deferral of settlements and communities settlements, et cetera. In the construction segment, we have had projects in GPM that was paused because projects were shut, has moved into FY '21. So that's a timing issue that we highlighted. And then to answer your question in terms of operating leverage. Yes, since March, we have been focused on reducing the operating leverage by looking at our cost base, all discretionary spend was paused as the pandemic was starting to increase. And we also deferred nonessential capital expenditure. And we have taken austerity in terms of the workforce expense that we have from executives, but also throughout the organization. So those initiatives have been put in place, and they are continuing into FY '21. But in terms of detailed EBITDA analysis, clearly, we just finished 30th June yesterday, we'll come back to you in August and share that.

Yes. And on those austerity measures, are they going to have a greater impact in '21 than they did in '20? Or was '20 kind of as good as it gets?

No, there should be some benefits also flowing through in '21. We have taken some costs in terms of one-off costs that hit -- are hitting FY '20, which should have benefits flowing through in FY '21.

Okay. My next question is just on the liquidity. So I think at the equity raise, that was called out to be about $4 billion. It's now increased to $5 billion. Can you give a guide as to how much of that $1 billion increase is a result of PLLACes?

Yes. Stuart, so I'll give you a bit of a bridge from that. So we've had additional equity raise since the -- through the SPP, which was around another $260 million. We put in additional bank facilities of another circa $450 million, $500 million. The net proceeds from PLLACes is in excess of $500 million. And we've also had some operating cash flow come back, which, again, the details we'll share with you on the 17th of August. So they're the building blocks of that increase, substantial increase in available liquidity.

And just a final one for me. Just on the exit cost, $550 million. Does that -- Steve mentioned there's increased certainty on Lendlease's end, but was there maybe a push from auditors to take that in this period, given the increased likelihood and a loss of Melbourne Metro? And secondly, what has led to increasing confidence on those exit costs?

Yes. So obviously, with the passage of time, we've had more time to look at where we're headed and where the range of scenarios are, both in the engineering business and the progress of the sale. And the steps required towards completion and also on the progress of discussions with the Victorian government. And through that assessment, we're now in a position where we have more clarity on the expected cost of the exit, given the progress on the sale, and we have flagged, we're expecting the sale to complete in the early part of FY '21. What remains outstanding there are some third-party consents, but we have achieved a number of consents. So we're continuing to make progress. Acciona, I can tell you, is working as hard as we are to drive those out of the line. So that obviously gives us more confidence as well. And then in relation to implementation and selling costs, indemnities all associated with that, we have more clarity on those. And we have more clarity on the potential costs of concluding retained projects, including Melbourne Metro. So the other point I should make is, in terms of taking a provision in this year, we are -- we have done an analysis of all of those range of scenarios, including a scenario where, for some reason, the sale doesn't complete, and we end up in a situation of discontinuing operations, and we factored that into our likely range of scenarios as well. So the combination of all those things enables us to take a provision now, which we think is appropriate.

Okay. And just a follow-on on that. Of the $525 million, how much of that is cash? And so it will be in net debt number as at June 20 versus how much more need to be worked through over coming periods?

Yes, Stuart. We'll come back on the exact details on that in terms of how much is for FY '20 year. But I think it's important to flag that the cash flow impact of the provision will come through over the next 3 to 4 years as all our projects -- retained projects complete.

The next question comes from James Druce with CLSA.

Just a follow-up question on Stuart's queries around sort of the drivers of that second half core earnings number. Can you just talk to what was sort of the bigger driver? Is it the construction? Is it the operating leverage in construction, or is it the development delays coming through?

James, development transaction deferral and the comments we made on community settlements and some apartment settlement moving to next year was a substantial driver. And then the revaluations, which we've already flagged in the investment segment. They were the 2 biggest contributors. And then construction book and burn, which is really, as we said, some productivity impacts because of COVID-19 health and safety measures, but the most substantial impacting construction is just when the projects are shut, even though that GPM is still there because we get extensions of time, those projects have been shut for a number of weeks. So that GPM moves into future periods. So that was the order of development, then investment vals and then construction GPM. That's sort of the building blocks.

Okay. Very good. And then on the revaluation, can you just talk to what you've done for your Asian retail assets?

Yes. So we've -- all our underlying assets are in joint ventures or equity accounted structures or in managed funds. So they've all gone through an independent valuation process. What we're seeing is overall about -- and this is across our $4 billion investments platform, including retirement living, about a 5% decline and that includes declines in the Asian platform as well. So yes, in terms of, obviously, in retail exposure, we're seeing more impacts less in commercial exposure and a circa sort of 5% to 6% impact on the retirement portfolio, mainly reflecting declining underlying residential values rather than trading performance where our actual trading in the retirement business is up on last year. So it's more market-related valuation decline.

Okay. And then just finally on gearing. At the equity raising, you were talking to a range of 10% to 15% based on what engineering goes through, you've come up with 10% today and obviously, it's at the lower end and still waiting for engineering. Is that 15% number still -- how are you thinking about things on a pro forma basis?

No. I think, James, we're going to come in, as I said, below 10% at 30th June. And then engineering, if it happens in early FY '21, as Steve has highlighted, that will have a net cash outflow of circa $400 million and gearing impact in the order of 3%. So that's what we flagged in April, and that still remains above the impact when the transaction completes.

The next question comes from Ben Brayshaw with JPMorgan.

I just have a few questions actually. Firstly, around Melbourne Quarter. You mentioned, Steve, that it had been affected in terms of timing of completions. I was wondering if you could perhaps give us some feedback on approximately the number of units that have settled in the second half or that are still to be settled and that you're expecting will come through in FY '21?

Yes. Ben, there are 2 Melbourne Quarter impacts or components. One is the residential tower that's being completed in joint venture with Mitsubishi Estate. We have settled about 300 lots as at 30th June yesterday, which has actually coming slightly better than our budget. So there's still another, I think, the balance to go on that in FY '21. And the other comment we've made is the Melbourne Quarter office tower, which is 75,000 square meters, which we did get planning for in the half. And that's where we're continuing to work with capital partners and tenants for pre-commits.

And Tarun, just your comments around liquidity being in the order of $5 billion. I suppose, I'm just curious, it is a meaningful number. And perhaps if you could just get your thoughts around, to what extent does that reflect the liquidity requirements of the business for, say, the next under 2 years? Or are you positioning with dry powder to deploy that into acquisition opportunities? Just be good to, I suppose, hear your thinking around setting the liquidity buffers at around that level?

Yes, I might take that one. Just in terms of what we're looking forward to coming out of this crisis, we obviously, as we flagged at the time of the equity raising, looking to strengthen our balance sheet. Put ourselves in a position where we can navigate through even an extended period of challenges from COVID-19, and that duration clearly remains uncertain. However, what we are very clear about is that we're now in a different point of the cycle. And therefore, the opportunities that are likely to emerge post COVID are going to be greater than the opportunities that we could see pre-COVID when asset values were stretched. So we believe it is the right strategy to have access to significant liquidity. It also puts us in a position where we are able to co-invest alongside our investment partners, which they do expect. And it makes us -- it puts us in a better position to be -- have some choice in terms of where we bring partners in and when we bring them in, in the pricing of the assets that we're delivering. So when you look at our future pipeline, there are a lot of projects that are in the early phases of conversion. We've mentioned that on mind in Milan, we now have master planning approval. That's a very significant project, so we are underway there. On Van Ness in San Francisco, we also now have master planning approval, so that's the height of the building, shadowing, environmental, so the next phase is detailed DA, and we're working towards getting that building into production in calendar '21. So that is -- that's fantastic progress for those 2 projects. I'll mention also Google. So the first phase of Google, which is about 3,500 homes, we are working hard towards getting into commencement again in calendar '21. We're working through master planning for that and local authority approvals, but that is progressing very well. There's an office component in that as well, which we may also get access to, but that's for us to work through with Google. And then on Silvertown, we're in the planning phase now. We had GBP 105 million debt facility now confirmed with Homes England, and that puts us in a position to also accelerate the approval phase for that project. So when you look across the combination of those sorts of projects, and Tarun mentioned, Melbourne Quarter and some others, we do expect that there will be a need to bring in third capital partners, but also an opportunity for us to invest in those projects in a little bit short term. And we are also very actively looking at other opportunities that we're seeing beginning to emerge. And as, I think, we said a couple of months back, we're not going to rush. We don't want to catch a falling knife, but we do think that over the next 12 to 18 months, you should expect to see some attractive opportunities for us to invest that liquidity.

That's great, Steve. Just 1 final question for me around TRX in KL. Would you get a comment, please, or perhaps just give a brief update on the percentage committed? And whether the project is still, I suppose, on time for completion? Based on recent press reports, that's been said to be December 2021. So just curious as to whether the situation has changed or whether you could further add to what's been recently reported?

Yes. So on the residential component, which we flagged we've achieved more than 50% presales, we were going to launch that in the first half of this calendar year, that's been pushed into the second half of the calendar year due to COVID-related delays. The first phase is 2 towers, about 900 units in total. On the overall delivery of that project, obviously, we have -- it's been slow because the project has been stalled through COVID. It is now operational, but productivity is lower than it was. So there is expected to be a bit of delay on the delivery of the retail shopping center. Leasing was progressing quite well. Obviously, in this retail environment, we're just taking it a step at a time, but what we expect on TRX is we've secured a number of very attractive brands. So we're expecting that as things pick up, we'll still do pretty well on the leasing. The other point on Malaysia is it does remain a market that is outperforming in terms of retail spend growth versus pretty much anywhere else we operate. So that gives us some confidence. It doesn't have the oversupply, challenges of high-quality retail that some other markets have. So I think we remain in a reasonably good position. But yes, there's been a bit of delay to that project. It was in lockdown for a period of time.

Would you dare to comment, Steve, just around your current expectations as to when the project will reach completion?

It's a bit difficult to be too definitive. We'll try and give some more guidance when we come out with our results. But at the moment, we're only just getting back into productivity. So it's a bit hard to put a date on it at this point in time. So -- but we'll give you an update in August.

And just on that, I appreciate it's a development project, and you're not being overly specific around the composition of the devaluation gains recognized in the second half. But were there any devaluations attributed to TRX?

No, Ben, there wasn't. The devaluations are in the investment portfolio.