Link Real Estate Investment Trust (823) Earnings Call Transcript & Summary

Good afternoon, everyone, and welcome to Link's interim results briefing, which we are hosting via webcast in consideration of the recent public health and social distancing measures. We are pleased to have with us today our CEO, Mr. George Hongchoy; CFO, Mr. Kok Siong Ng; and Mr. -- CSO, Mr. Eric Yau. [Operator Instructions] I will now turn over to George, our CEO. George, please?

Thank you, Luna, and thanks, everyone, for joining us today. I'm pleased to have K.S. and Eric with me here. Eric will start with some key highlights for the last 6 months. And then K.S. will cover our operating updates, and I'll wrap up with an overview of the macro environment and our strategy going forward. Eric?

Thank you, George. The first half of 2020/'21 saw the COVID-19 pandemic unfolding around the world rapidly, forcing governments, businesses and individuals to respond to an unprecedented level of uncertainty. I would like to thank every Linker and each of our service provider who have risen to meet the challenges in the operations from this epidemic, working tirelessly to ensure Link properties remain healthy and safe places for communities to meet their daily needs. Amid the challenges, we have managed to demonstrate resilient performance by maintaining high occupancy and rental collection rates at our properties. We are keeping our 100% distribution payout policy, yielding a steady DPU this period. To help our tenants during this challenging time as we operate under our business as mutual principle, we announced a tenant support scheme totaling HKD 600 million. With solid financial position and ample liquidity, we have also made good progress in realizing our Vision 2025 goal to maintain prudent portfolio growth with quality acquisitions, and we remain committed to delivering a sustainable return to our unitholders. For this interim period, we saw relatively steady business performance despite the challenges and uncertainties. Revenue and NPI recorded a small decline of 1.9% and 0.8% year-on-year, respectively. NAV per unit was lower by 3.9% to HKD 74.60 due to adjustments in investment property valuation. Distribution for the period amounted to $1.4164 per unit, representing a slight increase of 01 -- 0.1% year-on-year. Our operational performance has been resilient, with high occupancy rates across our portfolio as at the end of September. Retail occupancy was 91.6% (sic) [ 96.1% ] in Hong Kong and 94.7% in Mainland China while both offices in Australia and the U.K. remained at full occupancy. Due to the impact by COVID-19, Hong Kong retail portfolio recorded negative 2.6% reversion, but we saw relatively speedy recovery in Mainland China, which recorded a retail reversion rate of 8.1%. And overall, our rental collection rate in our retail portfolio was well above 95%. The health and well-being of our tenants, customers and staff continue to be our top priority. We have been assisting tenants and stakeholders with the most pressing needs. Through the tenant support scheme, we budgeted HKD 600 million to offer a range of support measures, such as lease restructuring, rent reduction and management fee waivers. We also offered car park discounts to school bus operators who have been severely affected by lockdown and school closures. In addition, we provided free disinfection service to tenants on request and had flexible work arrangements in place to ensure our employees' well-being. We remain steadfast in realizing our Vision 2025 goals. On portfolio growth, in addition to maintaining the productivity of our organic portfolio in Hong Kong and Mainland China, we added inorganic growth with overseas acquisitions. Credit ratings from the 3 agencies remained at A levels with stable outlook. The pandemic has made staff well-being a vital component in corporate sustainability, and we introduced a virtual wellness resource center as well as family care and examination leaves. We also launched a digital learning management system so employees could learn from any location. We continue to offer student internships and management associate program to ensure a sustainable tenant pipeline -- talent pipeline. And for the benefit of our environment, we began installing solar panels on the rooftop of our properties and signed 2 sustainability-linked loans to ensure sustainability best practices are embedded into our daily operations. Our Link University Scholarships have benefited 940 students since its inauguration in 2015. With our vision of being a world-class real estate investment manager, serving and improving the lives of those around us, we continue to work with our stakeholders to ensure we all thrive together. And I'll hand over to K.S. to talk about operational updates.

Thank you, Eric, and good afternoon to everyone who are joining us. Including our newly acquired Australia and U.K. offices, valuation of our asset portfolio was about HKD 195 billion. It comprises of 133 assets, of which 126 are in Hong Kong, 5 located across the 4 Tier 1 cities in Mainland China and 1 each in Australia and the U.K. By value, 83% of the portfolio remains in Hong Kong, about 13% are in Mainland China and less than 4% overseas. For the first half, our Hong Kong retail portfolio continued to remain resilient despite market volatility and the unprecedented public health challenges. Total revenue of our Hong Kong retail portfolio decreased by 5.5% year-on-year. Occupancy rate remained high, though reversion rate was slightly negative. Average monthly unit rent decreased slightly to HKD 68.70 per square foot. There were no major concerns over retail collection and arrears, and we're happy to have welcomed over 200 new leases to our portfolio despite the challenging operating environment. Hong Kong tenant sales were significantly impacted by stringent social distancing measures and weaker retail sentiment during the third wave from July to September. Overall tenant sales dropped by 11.6%, with F&B and general retail being harder hit. But our tenants' nondiscretionary nature still outperformed the overall Hong Kong market. The supermarket and foodstuff segment in particular recorded a strong growth of 13.9% year-on-year as more people cooked at home. Rent-to-sales ratio of the overall portfolio increased to 15.7% as tenant sales recorded negative growth during the period. With various social distancing measures in place during the period, total car park revenue recorded a year-on-year decrease of 5.7% and income per space per month fell to HKD 2,745. Comparing with last year-end, average valuation per parking space declined by 3.6% to around HKD 541,000. Hourly parking in particular was adversely impacted by the partial lockdown, but ticket sales have been gradually recovering to pre-COVID level over the last 2 months. The Quayside, our joint venture project, managed to secure additional commitments in both the office tower and retail podium despite the slowdown in leasing momentum. Occupancy rates of office and retail space were around 80% and 76%, respectively. However, the 2 floors previously occupied by a co-working operator were vacated in October. And we are now actively marketing the space with some preliminary interest. Overall, we expect Kowloon East to remain competitive as rental gap continues to promote decentralization to this CBD2 of Hong Kong. Occupancy rate in our shopping centers in Mainland China was at 94.7%, mainly affected by COVID-19 lockdowns and the commencement of asset enhancement work in CentralWalk in Shenzhen. We achieved a positive reversion rate of 8.1% while tenant sales has recovered to about 90% of pre-COVID level. Similar to Hong Kong, rental collection has not been an issue. We are rolling out the Link Plaza branding across our retail assets in Mainland China this year to strengthen our brand presence. Occupancy of Link Square, our premium grade A office property in Shanghai, stood at 94.8% as at the period end. Office reversion rate was negative 7.7% due to a surge in new office supply in Shanghai and COVID-19 impact. We are glad to share that our anchor tenant whose lease is expiring next year has chosen to renew for another 10 years. We are planning asset enhancement on this property, which will start in mid-2021 to ensure its competitiveness given its prime location. We made our first expansion overseas this period by completing the acquisitions of 2 premium grade A offices, 100 Market Street in Sydney in April and The Cabot in London in August. Both assets came with full occupancy and high-quality tenant profiles and long leases. Coupled with 4% annual rental escalation of 100 Market Street and upward only rental reviews for The Cabot, these assets delivered immediate and stable income. We continue to extract value from our organic portfolio. In the past 6 months, we completed asset enhancements at Lok Fu Place (sic) [ Lok Fu Plaza ] and Choi Yuen Plaza, though ROIs were impacted by the dampened leasing market. We are currently -- there are currently 4 AE projects underway, including our first project in Mainland China at CentralWalk in Shenzhen and over 20 other projects under planning with estimated costs totaling over HKD 1 billion. With the prevailing uncertainties in the market, we will be more flexible and prudent in planning and phasing our enhancement projects. Prudent capital management remains one of our key focuses to sustain a sound capital position with strong liquidity amid the market uncertainties. The average borrowing cost of our total debt has lowered to 2.84%. Around 56% of the total debt was at fixed rate with an average maturity of 4.6 years. Gearing ratio slightly increased to 17.7%, and available liquidity amounted to HKD 13.6 billion. Despite the challenging environment, our 3 A ratings remain stable. We have been proactive in debt management to ensure we have ample capacity to both withstand any further market turmoil and fuel our portfolio growth. Our funding base is diverse with about 10% from convertible bonds and the balance split between bonds and bank loans. Our interest rate risk exposure is well managed, and there's no imminent financing needs given the staggered maturity profile. For our 2 overseas acquisitions, we managed the foreign currency exposures by borrowing local currencies, attaining very competitive all-in pricing in our first stepping of the AUD and GBP loan markets. During the period, we signed 2 sustainability-linked loans and issued HKD 400 million of bonds in October at a record tenor of 18 years at a coupon of 2.18%, reflecting market strong demand for our papers. Valuation of our investment properties has recorded a 1% increase compared to the end of March 2020 after the addition of the 2 new overseas assets. There was no adjustment in cap rates. Slight decline in the value of our Hong Kong retail properties and car parks was mainly due to a drop in market rent assumptions. The increase in value of our Mainland China properties was mainly due to RMB appreciation comparing with last year-end. Excluding the translation difference, value of Mainland China properties recorded a small decrease of 1.9% in RMB terms. Thank you. I'll now pass to George to talk about the outlook and business strategy.

Thank you, K.S. Over the first half of this financial year, COVID-19 continued to do a heavy toll to our global and local economic activities. Coupled with the strained China-U.S. relationship, the operating environment in Hong Kong and Mainland China remained challenging. In Hong Kong, the unemployment rate increased with median household income drop, and retail sales fell further, though nondiscretionary trade remained relatively defensive. Overall, business sentiment remains subdued, and rising office vacancy put pressure on office leasing market. The Mainland Chinese economy suffered earlier from COVID-19 but has quickly stabilized. As the economies in Tier 1 cities gradually recovered, the decline in retail sales narrowed and improvement was seen in urban household disposable income growth in Beijing, Guangzhou and Shenzhen, where our shopping malls are located. In Shanghai, office rent declined due to the surge in new office supply and continued incentive offered by other landlords. As an integrated part of the community, we believe that the many challenges we face from the different -- from both the current COVID pandemic and also issues such as climate change and waste management are best addressed by coordinating and aligning the efforts of multiple stakeholders. The business as mutual principle we have been embracing adopt a holistic mindset and forms an integrated, interactive framework for collaborating among stakeholders to address these challenges. By focusing on building relationships and understanding concerns across our value chain and the various stakeholders, we can create together long-term sustainable values. This year marks Link's 15th anniversary. Since the IPO in 2005, we have been progressively developing and evolving our business strategy. Starting with asset management and enhancement in Hong Kong. We began acquiring new quality assets in 2011 and making divestments in 2014. And in 2015, we made our first development project in Hong Kong and then entered Mainland China market, followed by acquisitions across various Tier 1 cities. This year, our portfolio expanded to Sydney and London. With active capital recycling, we now own an enhanced portfolio that facilitates future growth. In the near term, we will stay focused on our defensive core platform with our world-class asset management skills, closely collaborating with stakeholders to ride through external challenges. And we shall keep up our efforts in providing a hygienic quality environment for tenants and shoppers as well as maintaining occupancy and strategically managing our assets to further create value. We remain committed to generating sustainable return. Our strategy has been to focus on predominantly core, core plus and value-add portfolio while adding opportunities to further strengthen it with the addition of inorganic growth drivers from local, Mainland China and overseas markets that offer stable and quality income. We will maintain a high credit rating for favorable funding costs and to ensure ample liquidity for facilities to fuel further portfolio growth, and we will consider appropriate and sustainable capital return to our unitholders. Finally, the important dates for payment of interim distribution are set out here. We will, again, have the scrip election for our unitholders. We now open the floor for any questions. Thank you very much.

Thank you, gentlemen. So there are a few questions coming in from the webcast. And I guess a lot of the questions are quite alike from a few of the analysts, so I will just read once. Allow me to consolidate your wording. So the question from Cusson of JPMorgan, Hildy Ling of Morgan Stanley, Mark Leung from UBS and also Ken Yeung from Citi, they're all asking about the tenant support scheme. So how has it been accounted for in our P&L and our DPU? And how much has been utilized? And the follow-up question on this would be do you see a potential increase in such amount?

As of today, I think a large chunk of the tenant support scheme has been utilized. And the support comes across in various functions. But specifically on the tenant support scheme, from an accounting perspective, currently, the accounting adjustment is needed in the distribution. So first, the rental concession pertaining to rent has been amortized through the remaining lease, as we've explained before. And there's another portion regarding management fees and car park concessions that are expensed in this current financial period. And because, in a way, the NPI looks understated vis-à-vis cash, so there's a distribution adjustment at this point. Carrying on is the fact that the trust did today allow only asymmetrical treatment, where the deduction is there, but to add back subsequent years is not. And this is something, together, the Board will consider to correct it and subject to unitholders' support. If they favor it, then we will adjust it in the subsequent years.

Okay. Thank you. Thank you, K.S. Next question from Hildy of Morgan Stanley. So on Hong Kong retail, is there any color of the recent retail sales trend and rental reversion in Hong Kong? Should we expect sequential improvement versus the second quarter or the second half comparing to the first half of this financial year?

The worst months are July and August in Hong Kong, and obviously, that has an impact. But looking forward, we see the gradual relaxation of social distancing rules. The tenant sales have improved over the last 2, 3 months -- 2 months. And if there is no further sort of wave of infection, then we hope that the worst is over and then we see a stabilization. Obviously, with rental reversion discussion with tenants, it's comparing with the lease that was strike some years ago. And so it really depends on the data that we get for individual tenants, the occupancy, cost of sales, their business prospect. Certain trades are obviously more challenged than others; for example, Chinese restaurants. But obviously, we are already seeing some very good improvement in the last 1 or 2 months.

Okay. Next question is from Cusson as well. So what is the impact of the LTI reversal? Because the P&L seems to be affected by the reversal in the DPU also. So can you share a little bit on what is the staff cost change excluding the LTI reversal?

I think if you look at the LTI impact this year -- or this first half year, because of the LTI from previous years and then we did the modeling and the consultant came back, we have a reduction of about $90 million in terms of the LTI provision. But if you look at the base salary, there's a slight increase of about 6%, 7%, 8%, first half to first half, accounting for the head count and all the increased activities that we are looking for in terms of the Vision 2025.

Okay. Next question on Hong Kong retail also. On the destination malls occupancy, which seems to have declined further to 92.3%, should we expect further decline in the upcoming few months given the retail weakness? Or do you have any concerns on the occupancies at both community and neighborhood shopping centers as well?

Eric?

Sure. Destination mall, because there are only very few of them, there are only 6 destination malls, so the numbers can be skewed by the performance of 1 or 2 malls. And partly because the Lok Fu was recently out of asset enhancement, so the occupancy was not -- has not stabilized yet and also because of the departure of certain tenants in T.O.P. in Mong Kok, so the occupancy for destination malls particularly was -- suffered in this first half. We do expect, once the market stabilizes and -- the AE stabilization and the market stabilize, the destination mall occupancy should be better. We haven't seen any mass exodus of tenants within our portfolio in Hong Kong. And the rest of the portfolio, the community and the neighborhood malls are still pretty resilient and still pretty stable.

The policy that we have implemented is to ensure that there is high occupancy. Obviously, that will mean that we have to be somewhat flexible with some tenants in terms of rental reversion and concession. At the same time, if you looked at the new -- number of new tenants that have opened up -- started operation at Link portfolio in Hong Kong, close to 200 tenants have started business since the beginning of this year. So we have continuous demand to make sure that we can actually replace tenants that are not performing, allowing us to have a support to the impact on our revenue -- rental revenue.

Thank you. Next question is on the China portfolio. So is there any color about the recent rental reversion and tenant sales for retail? And for office negative reversion, should we expect it to continue in the second half of this financial year?

Eric?

For China, the performance has been pretty stable. We still managed to achieve positive reversions with the expiring leases, and we hope to sustain that for the second half. The -- as you know, the recovery of China after the pandemic has been quite swift, and our footfall and tenant sales have both been doing quite well in the recovery period. And we sure hope the -- there could be recovery, and the good performance will sustain towards the second half. As for the office, the office reversion was negative because of more supply in the Shanghai office market. And -- but it was still at a very sustainable level, we think, given the cost -- the rental cost for Link Square in Shanghai, and we still managed to achieve a pretty decent occupancy. And we've also just been able to sign the renewal of the lease with our anchor tenant in Link Square. And that lease is supposed to expire in 2021, but the tenant pre-committed to the extension of 10 years. So this is evident of the strength of the location and the quality of the building in Pudong -- in Puxi, sorry. So I'm pretty positive with the overall performance of our office in Shanghai.

For the mainland, the government have lifted all the lockdown restrictions last week for all the different trade, except gym and KTV. And cinema is still at 75% capacity limit, but otherwise, all the trades are back to normal. So this will support our tenants a lot. The 2 properties that are affected a lot -- a bit more is: Roosevelt Plaza, which, obviously, you would expect a more severe lockdown in Beijing. And CentralWalk in Shenzhen is affected by us closing down some part of it as we started our asset enhancement project at that particular property.

Thank you. Next question is from Justin from Goldman on asset enhancement. So on asset enhancement in Hong Kong, the budget seems to have shrunk quite a lot. Is that an intended cash preservation amid COVID? Or is it because of a lack of viable projects available? And the next question is also on AE, which is specifically about CentralWalk. What is the expectations on CentralWalk and the target ROI?

The target ROI will continue to be similar to Hong Kong. As we -- when we invest, we don't really make a distinction across geographies. So we're targeting double-digit return for the investment. We're looking at around sort of RMB 300 million type of investment for CentralWalk. And for Hong Kong, we have completed quite a lot of projects over the years. We've been doing this for 15 years. We have now a lot of the properties where we don't need to do the type of asset enhancement work in terms of changing corridors and adding staircases and all that. But tenancy work continues. So we believe that we can continue to re-tenant and improve our rental income. We've done some of the major CapEx that we need in the past. So we hope that, that will become through -- a more perhaps mundane-type asset management type work than having very drastic wholesale change to the layout, et cetera, to the properties.