MERLIN Properties SOCIMI, S.A. (MRL) Earnings Call Transcript & Summary

Just -- well, 3 quick questions. First, on the commercial policy that you recently launched for 2021. Just if -- is there any feedback already from your clients? And what is the level you expect for, say, problematic clients for 2021? Then second, on dividends. What should we expect for the dividend policy in view of the situation going forward? And also for the -- well, the part of the dividend that was put on hold from 2019 results, if there is any -- well, I don't know, if you could provide any kind of guidance going forward. And then last question is, well, you've already mentioned some of this, but how do you see the investment market in offices? Is it recovery? Or is it still mute? And if we -- well, how confident do you feel to preserve values in the current environment?

Okay. Thank you, Fernando. Look, in terms of the extension of the policy to the first half of next year, what I was commenting is that still there is still like 1 month to adhere to the policy, but it has been already accepted by more than 80% of our tenants. There are many of them who are still passing their internal constituencies. We expect a level of acceptance that we -- be in line with what we have had in the past, which has been in the region of 92%. In terms of what happens to the non-acceptors, the non-acceptors are people to which the policy is not applicable. I mean there are clients to which the policy is not applicable, because they haven't been forced to close or whatever. And then -- and we know they are trading well. For the rest, we have a, let's say, constant surveillance of performance, and we have identified like a 2.5% at present, which we believe are debt-debt. Many of them are already in our litigation, so many of them are already accounted for in our litigation figures. So some of them have already been evicted. 13 of them have already been evicted. And the other 35 are in current eviction procedures. Then we have a further 3%, which is a little bit the borderline, I mean, we don't know which side they will go. And there could be maybe another 3%, which is either nonapplicable or people that we believe will come back -- will survive after the crisis. So it will depend on next year's evolution of the pandemic to see whether those figures go up, go down, but those are the orders of magnitude we are talking. So in principle, and I think this is consistent with what we explained to the market at the time we adopted the policies in the first quarter, our effort has been aimed at freeing up our asset managers from the burden of extending contracts in 2021. So contracts have moved straight into 2022, which means our asset managers will devote the full 2021 to re-tenanting. So every time an eviction procedure results in effective eviction of the tenant, they will work in the re-tenanting of that shop. That may take a fall temporarily in occupancy, but it is what it is. I mean we need to refresh our shopping centers, particularly considering the effort we have made in terms of tenant. In terms of investment appetite, do you want to...

I just want to make one observation about the policy, too, that I think, for those who are doing the math to try to determine, is it better to litigate -- not give relief and try to litigate or give relief. What's the math? First, it's art, not science. But that said, in addition to the things that Ismael just said, I think it's also important to know that it is significantly more expensive to find a new tenant than to maintain an existing tenant. So those tenants leave or fail, because we're not giving them the relief. Then you have no expenses being paid. You have fit-out contribution likely for the next tenant coming in, and you have commercialization costs. So when you look at all those costs of having to bring a new tenant in and compared to the relief that we've given. In our math, it's pretty close. So would you rather maintain a very strong tenant relationship or keep the mix and end up roughly the same place financially? Or take a path of litigation, where now you've got a much, much more difficult relationship with all of your tenants going forward? So you have to keep in mind that, that commercialization cost around having a tenant go under is a big factor. It's not simply -- well, you grant relief or grant no relief, yes, you've got to look at the other cost side of that equation as well, and that's what we've done in doing this. And particularly with the second, which is obviously not as significant as the first year later now into the pandemic, so all the people have held on. It's now getting to the point where they need that extra to get across the bridge. We now at least see that the other side of the bridge at least visible. I don't know what that other side of the bridge is March, June. It depends on a lot of things, but at least we know it's there. And so to grab that incremental relief, to ensure that those who have been able to hang on so far, don't fall off in the next 4, 5 months, I think that math works out pretty well from our internal calculations. So I just wanted to make that additional point.

Okay. Just a quick follow up. I understand your approach, but this -- I don't know, is other retailers or other landlords are taking the other way around, no? So what do you think they are doing it?

Yes, well I would say the other -- because I think the other landlords don't have a diversified portfolio. So when you look at the impact of the COVID restricted -- COVID incentives we've given, look at the year we just had. We're able to still demonstrate meaningful FFO because it's only 18% of our portfolio. If you're only a retail guy, that's all you are, you can't afford to do that, because it's so much more of your FFO. So if you look at the people like at Klépierre or Unibail or a Lowe, for example, they don't have the flexibility to do that, that we do. So I don't think they can even afford to do that math. They need the cash flow now to be able to run the business, whereas we have much more flexibility because of EUR 90 million of rents from BBVA, the rents from Caprabo, the fact that our office portfolio has performed pretty much bang on pre-COVID levels. That gives us the flexibility to do things in our retail business that pure-play retail owner doesn't have.

In other words, Fernando, I have been talking to all of them, because all of them, of course, call us and blame us for adopting these kind of policies because they cannot follow suit, et cetera. And you know what, I say, look, everyone plays its own strength. When we started, I remember not showing this company when it was a pure cash box. And people said, you want to do shopping centers, it's impossible. You cannot do shopping centers. You want to do logistics? You cannot do logistics. You cannot compete against Prologis. You cannot compete against Unibail. Everyone has its own strengths. For so many years, we have been treated as local rednecks. Because we have 15 shopping centers, we are not global, we are not specialized in 1 asset class. Okay. And everybody took advantage of their strength. And they -- those big names were trading at incredible, incredible premium to NAV, et cetera. And we couldn't say anything. But now times come tough, and we can afford a number of humble measures that help our people, and they can't. So we adopt those measures. This is the way we sit. Diversification has 2 phases. We have always been suffering the bad phase of it, because we don't look cool for Americans. But for our little market, we have explained thousands of times that in a 50 million-people country, you cannot be single asset class. Nobody believed us but now is paying off. In terms of investment appetite, I was commenting before that the way we see the market, people is a little bit waiting on the sidelines. But consistent with what we see in the rest of the world, the amounts of equity waiting on the sidelines are incredible. Incredible. And this time around, we are not talking about opportunistic equity. Opportunistic equity is, of course, also waiting on the sidelines. I don't believe they will make a big progress in Spain in this occasion. The people who will eventually be able to reap some good harvest in Spain this time is value-add and core, core-plus. Because, yes, there will be some -- there could be some transactions in the market, not so much on anything we would like to buy, because good quality office buildings, Castellana, Diagonal, Marqués Pombal, prime lease on office buildings are not trading. And we don't expect them to trade, because the owners of those assets are normally unlevered or very neatly levered. I mean they are comfortable with the LTVs. So the assets that we trade will be of other nature. For example, I see a big opportunity for hotels. So some people will be able to profit from that opportunity. But the amount of money waiting for opportunities is massive, because the market is -- this time is much better capitalized than it was in the great financial crisis. And as I was commenting also before, what we are seeing across the board, particularly when we look at the outside world, I mean, other countries outside Spain, is that yields seem to be tightening, curiously enough. I mean some office buildings are transacting at incredible yields. But also in Spain, we have seen recently and Amazon shared sold at [ 3.7 ]. And there is a portfolio now in the market that will probably transact [sub-5 ], including some development, some land. So it's very interesting to see what is happening in the market. We will keep an eye on the market, eventually, again, against the legend. The legend says, we haven't rotated any noncore in the past. In our own computation, we have sold more than EUR 3 billion of noncore in the past. I mean, I think people will have a different opinion on us if we still had our hotel portfolio, our resi portfolio, which is now suffering significant collection losses. We have repeated a lot of noncore in the past. We will continue to rotate noncore, because we know it's a good source of much needed cash in order to keep LTV at bay, particularly when forecasting the future for valuations of shopping centers, which I believe will be affected by a widening of yields. And eventually, we will try to continue selling some noncore. There is not much now we can sell, and we don't have now plenty of noncore in the portfolio. But we will continue rotating noncore, particularly in order to continue funding our CapEx program, which is yielding excellent returns. And if we can, delevering a little bit the company because this disgrace of the COVID has found us 3 years before plan in terms of delevering plans. Dividend policy, precisely in line with the delevering I was referring to. The EUR 0.17 that were unpaid corresponding to last year will be retained by the company. So this will be used to increase, not to repay debt. And as for the future, dividend policy on -- after the General Shareholders' Meeting next year, the Board will need to decide. I mean the Board is sovereign. It has till the end of the year to decide whether to pay interim dividend or not. I wouldn't be surprised if they decide not to pay interim and accumulate everything in one single payment after General Shareholders Meeting next year. What amount will they decide to pay unknown to me. But my recommendation, as I have commented recently in a media interview, will be to try to share a little bit the excellent production of cash of the company between dividend distribution and debt repayment, because I want to keep an eye always on the L factor of the LTV. Because I know the V will go down in shopping centers, almost for sure, owing to all the pressure we are seeing and also owing mathematically to the fact that the reequilibrium of rents will end up being lower than the rents pre-COVID. So as a consequence of lower rent, there will be lower values in shopping centers. This is undeniable. And as a consequence, we want to keep control on the L factor of LTV.

Your next question comes from the line of Peter Papadakos.

I just want to focus a little bit just on the office and especially the A1 and A2 corridor. From the outside, obviously, we see very different fundamentals in terms of vacancy rate -- market vacancy rates and projections of market vacancy rates on a submarket level for the MERLIN portfolio. Can you sort of elaborate a little bit how do you see the next 18, 24 months in terms of organic rent growth between CBD, A1 and A2 for your portfolio?

Sure. This is David Brush. I would say in the A1, our main focus is occupancy, as you can -- as you can well see, because the lion's share of the vacancy in our portfolio is in the A1 corridor. So our focus -- occupancy and rental growth are always in contradiction with each other, right? So our focus on the A1 is increase the occupancy of the portfolio and less on trying to generate rental growth above existing rents we update. All the other markets that we operate in, the A2 included, we're seeing -- our vacancy is relatively low, and we're seeing good growth of release spread. That includes some of the peripheral markets as well. So that's where I would define it. A1, we're focused on growing that occupancy in whether it's the other markets in Madrid, whether it's Barcelona, whether it's Brisbane, we're actually seeing very good rental growth because of the tighter occupancy set we have in those markets.

An interesting thing also, Peter, is that, believe it or not, we are starting to detect some future trends, which may help peripheral location of offices. Because in polls to employees of our tenants, we are -- what we are detecting is that they prefer today, as we speak, maybe in the future things change, but they prefer to go to work in what we call the green buses rather than the blue buses of the city center. Simply because in the green buses, you have an assigned seat, and you have predefined distance to the next seat occupied. Whereas in CBD buses, in the blue buses, you are standing up and your nose is right in front of somebody else's. Likewise, people is preferring now aerial train rather than subway in the polls we are doing. So people prefer to go now to peripheral office to work more than they do to CBD. This is not a problem for CBD because vacancy is so low, but it is at least a temporary trend. Time will tell whether it settles. Because in conversations recently with a large asset manager in the U.S., they said to us that they have -- they are now moving to a big headquarter in New York, but they are opening sub-headquarters in White Plains and New Jersey. So let's see. Let's see what happens in peripheral offices. You would be surprised of the performance of locations as remote as Ática en Pozuelo or Las Rosas. I mean, they are performing very, very well. So vacancy is mainly concentrated in the A1, and this has a reason, which is the lack of infrastructure. Because for 23 years, Madrid has been waiting for the Chamartín development in order to write the infrastructure around the A1 corridor. Now Chamartín is approved, but the infrastructure is not yet ready. It will -- should start around beginning of '22, end of '21. So in the future, it will be easier that we have a number of tough years ahead. In those tough years ahead, what we will do is simply exert market power, bring tenants to our portfolio, brands important, not so important. I mean, when times get tough, it is important to be big and behave like big, and we will do that. So if somebody cannot cope with that, their problem. That we will be doing our job trying to make sure that we increase our occupancy in that particular weak point of our portfolio.

Understood. And my final question is just reading between the lines from your press release with regards to the development pipeline. So you have big projects, big cycle of CapEx, which is coming to an end. It seems like you are a little bit more cautious. So I guess, justifiably so in terms of launching new projects in this environment. How should we think about development CapEx per annum for the next couple of years after this cycle of money you spent now in Q1 '21, et cetera?

I think your assessment, it was in between the lines that we were hoping was actually in the lines themselves. But we are going to be more prudent. When you look at -- so warehouse logistics and ancillary to warehouse logistics, we're still keen to put capital there. Retail, once we finished Larios and El Saler in Q1 of -- Q1, Q2 next year, so retail CapEx program is finished. And then you're just talking about -- largely finished there, and you're just talking about kind of minor things. And with offices with Monumental, Diagonal 605, 85, you've got the major parts done. But we still have what we call -- now called Sollube, Ruiz Picasso, which is right in the heart of Azca. That's a project that's in our priority of capital, and we will do that because it's CBD, Madrid right in Ministerio, it's [Foreign Language], not only [Foreign Language]. So retail is very, very -- you'll see it come down considerably. Office, it will come down simply, because we'll have fewer business. But this was the pig going through the python this year with those 3 big projects. So even though we have Ruiz Picasso coming, it will fall off relative to. And then warehouse logistics, we'll be -- we'll continue to be keen to do that. But we'll be doing things that are more tied to direct income. So it's prudent and prudent only because as we look now, as you said, the LTV is going to be critical to bring down. So we have to do a prudent CapEx, focusing on those projects that are immediately cash generating, just to be sure that we're able to maintain that LTV until we can see where that retail cycle particularly might bottom out. And I'm just going to amplify what Ismael said earlier, because it's something I have said even back in March. I don't see really any reason for cap rates in office to do anything but compress. When you look now at the U.S. 10-year rate, which even after the recent move, is still below 1%, and they've joined -- the U.S. has finally joined the ZIRP world. When you look at -- and the amount of capital that's out there looking for opportunity, I think that's going to continue to push down yield and office. And we're only going to get -- as people become a little more clear about this whole idea of work from home, work remotely, and you're already seeing some of the mindset change. The further you get into this, the more people are saying work from home is not for everybody. So the percentage of people that might continue to work from home is less. I make the comment anecdotally. Facebook, they all started work from home, but they just leased 750,000 square feet in New York City. Amazon just bought the REI headquarters in Seattle. You just had the -- WeWork sold their building in Manhattan. Once again it was either -- they have Amazon as well. So these guys are all talking about work from home, and they're buying up real estate in major cities in a big way. So I still hold to what I said early on, which is it's overdone. People are reacting emotionally. Will there be any impact at the margin of work from home? Yes. Is it possible that could be offset by the move back to less density? Entirely possible. So when you look at what yield we should want to pay for a good, well-located real estate asset, I think there's more upside in that than there is downside.

[Operator Instructions] So no more questions at this moment. [Operator Instructions] And you may go ahead, sir.

Okay. So I think we'll leave it for today. Everybody knows that we remain at your disposal. You can contact us, both Fernando Ramírez and myself if you have any further questions. And well, thank you very much for attending today's call, and we hope that you remain safe and sound. So it's to you, Ely. Bye.

This concludes your conference for today. Thank you for participating. You may now all disconnect.