Mindspace Business Parks REIT (MINDSPACE) Earnings Call Transcript & Summary

Good afternoon, ladies and gentlemen, and welcome to the Mindspace Business Parks REIT's Earnings Conference Call for financial results for the quarter ended December 31, 2022. [Operator Instructions] I now hand the conference over to Mr. Kedar Kulkarni. Thank you, and over to you, Mr. Kulkarni.

Thank you. Good afternoon, everyone, and thank you for joining this third quarter financial year 2023 earnings call of Mindspace Business Parks REIT. At this point, we would like to highlight that the management may make certain statements that may constitute forward-looking statements. Please be advised that our actual results may differ materially from these statements. Mindspace REIT not guarantee these statements or results and is not obliged to update them at any time. I would now like to welcome our CEO, Vinod Rohira, and our CFO, Preeti Chheda. They'll first walk you through the business update and the financial performance during the quarter. We will then open the call to Q&A. I now hand over the call to Vinod. Over to you, Vinod.

Thank you, Kedar. Good afternoon, everyone. At the onset, let me wish each one of you a happy and healthy 2023. We delivered yet another quarter in line with our expectations. Our parks continue to witness demand for institutionally managed office spaces. We have recorded a gross leasing of circa 1.3 million square feet in the third quarter of financial year '23, taking the cumulative number to circa 3.5 million square feet in the first 9 months of this financial year. Our Hyderabad project, Mindspace Madhapur recorded the highest share of gross leasing in quarter 3 financial year '23 followed by our Chennai Porur Asset and Commerzone Yerawada, Pune. We began the financial year with committed occupancy of 84.3% and achieved circa 400 basis points increase in the first 9 months of the financial year to reach 88.3% at December 31, 2022. The committed occupancy of Mindspace Madhapur, the largest park in the portfolio now stands at circa 95%. Our parks in Pune and BKC are near 100% committed occupancy. Our park in Malad also had circa 95% committed occupancy. As guided in our earlier calls, we are happy to announce substantial leasing during the year at our Commerzone Porur, Chennai Park, which has helped us take the occupancy at this park to over 93%. We continue to deliver robust financial performance supported by these tailwinds in the committed occupancy. We recorded an NOI of circa INR 4,551 million, which excluding a onetime compensation of INR 186 million, represents a year-on-year growth of circa 16.8% and quarter-on-quarter growth of circa 4.6%. Our in-place rents have grown circa 9.4% year-on-year to INR 64.5 per square foot per month. The gradual transition from work-from-home to work-from-office continues. If you refer to the recent commentary, the Indian IT Companies, more and more organizations are framing definitive guidelines to return to office. As we've been highlighting over the past few quarters, companies have realized the importance of having a dedicated and demarcated work environment. The improvement in productivity from being in a collaborative work environment is quite evident. During this transition, organizations are careful not to lose out on their talent. They are particular about offering top quality office spaces that have the best health and wellness measures in place. As a result, they're observing a discernible shift amongst our occupier segments towards institutionally managed Grade A office spaces. As envisaged, the physical occupancy in our parks is nearing 50% as against circa 40% during the previous quarter. While the outbreak of the virus in our neighboring nation had led to some caution, it has not hampered the transition from work-from-home to work-from-office in India. Unlike their global peers, Indian office sector has demonstrated robust performance and remarkable recovery in demand in 2022 in spite of the uncertainties with global economic disruptions in the backdrop. Overall the leading trends remain encouraging. India continues to be the preferred choice for top tech talent at affordable cost. And in the coming months and quarters, we may see large GCC, GICs looking at India to expand their support services network to optimize cost and bring in newer and smarter technologies for their customers across the world. However due to the uncertain economic environment globally, we may see conservative fostering the occupiers in the next few quarters for large ticket size demand. While Preeti will elaborate our debt strategy, let me spend a couple of minutes on how growing debt costs are impacting the sector. With low debt levels, AAA credit profile and greater share of fixed cost that we've been able to achieve tighter spreads on our borrowings. This, however, may not be uniformly applicable to the market at large. High cost of debt, difficulty in assessing debt markets and a rush towards residential developments is slowing down the potential commercial supply. Also the under-construction supply is likely to come into the market at higher rates due to the inflationary impact of construction costs and debt. This opens up an opportunity for us to bring in strategic supply in the markets we are present in and further consolidate our position. This quarter, we are also pleased to announce the proposed redevelopment of another strategic cluster at Mindspace Madhapur. This is in addition to our earlier redevelopment that is currently underway. The low-density park has been recently upgraded and the added infrastructure can easily accommodate further developments in the park. The high committed occupancy of 94.5% of the park is a testament to the strong demand in the micro-market and encourages us to bring in strategic supply within our existing park. Further, the addition of the increased area would also offer an opportunity for tenants to expand and consolidate within our park. Within this park, we are proposing to redevelop 2 of our legacy buildings constructed around 2005 with a collective usable area of circa 0.36 million square feet. Post-redevelopment, we expect the total usable area to grow 4-fold to 1.6 million square subject to design finalization and necessary approvals. This redevelopment shall be value-accretive to the REIT and would also provide a continued supply of new Grade A assets within the park. We have completed the demolition of the existing premises of the redevelopment already underway and is on track to complete by December 25, and we shall commence demolition of these buildings beginning first quarter of next financial year, and the new development is estimated to be completed by December 2026. Together, the 2 redevelopment projects will incrementally add circa 2.1 million square feet to the overall portfolio. We are still awaiting clarity on the DESH Bill. In the interim, we have made representations to the government to provide an enabling framework within the existing SEZ policy for partial denotification. This is the key demand from industry and shall immensely help the revival of demand for SEZ spaces, which are large employment providers. Most of our non-SEZ supply at Mindspace Airoli West is fully leased. Encouraged by the strong demand, we have applied for denotification of one of the existing buildings of 0.4 million square feet in the same park. To give you an update on the potential acquisitions. Commerzone Raidurg, Hyderabad, and the Square Avenue 98 BKC Annex, Mumbai region, they are nearing completion of our valuation and intend to soon table the proposal to the governing board, subject to the requisite approvals, as may be applicable, we anticipate closure in the next few months. I would now like to take you through the specific operational updates for quarter 3 financial year '23. Of the total portfolio area of 32 million square feet, 25.6 million square feet is completed and contributed to circa 93% of our portfolio value. 1.8 million square feet is currently under construction, and we have another 4.6 million square feet available in the portfolio for future development. We received occupancy certificate for approximately 0.7 million square feet area across assets. We have leased 1.3 million square feet during the December quarter, of which 0.6 million square feet was on account of reusing and 0.7 million square feet was on account of new and vacant area leasing. Collectively the gross leasing in the first 9 months of the financial year stood at 3.5 million square feet. During this period, we have successfully re-leased circa 77% of the scheduled expiries of financial year '23. We have recorded average re-leasing spreads of 26.6% on the 2.3 million square feet are re-let during the 9 months of the financial year. We leased 0.3 million square feet at our Commerzone Porur, Chennai Park, during the quarter. With this, the leasing -- with this leasing, the committed occupancy of the park now stands at 93.5%. The overall committed occupancy of the portfolio stood at 88.3%, registering an increase of 140 basis points over the previous quarter. Our in-place rents have grown by circa 9.4% year-on-year to INR 64.5 per square foot per month. Coming specifically to the ESG update. At Mindspace REIT, we stand firmly committed to resource optimization, water management, reduction of GHG emissions, clean energy, hygiene and safety. In alignment with our ESG targets, we are on the road to addressing the comprehensive set of critical issues that are significant for us as well as our stakeholders. The quarter saw Mindspace REIT procured 100% green energy across common areas maintained by us at Mindspace Airoli West, Gera Commerzone Kharadi and Commerzone Yerwada. Received LEED Platinum O&M certification from USGBC for Paradigm, Malad, Mindspace Mumbai region and for 1 building at Commerzone Yerwada, Pune. Commissioned the community need analysis to understand the requirements of people in the vicinity of our projects of our business parks and Airoli, the outcome is likely to point to specific areas of focus, which will assist us in curating our future CSR projects in our markets. We expect the forthcoming budget to support the growth momentum and further augment the business environment for commercial real estate. We hope to see regulatory amendments that help growth of investments in REIT [indiscernible] and consequent rise in capital inflows, both foreign and domestic into these instruments. With this backdrop, I hand the call over to Preeti to take you over the financial updates.

Thank you, Vinod. I'm happy to present our financial performance for the third quarter of financial year 2023. We closed the third quarter with the revenue from operations of INR 5.4 billion and net operating income of INR 4.6 billion. The revenue from operations and NOI, both included receipt of onetime compensation of INR 186 million from a tenant for termination of letter of intent at the Square BKC Mumbai. Adjusting for this onetime impact, revenue from operations and NOI grew by 18.9% and 16.8%, respectively, on year-on-year basis. We continue to maintain NOI margin at 80% plus. We announced a distribution of approximately INR 2.8 billion, which is INR 4.8 per unit for the quarter. The distribution grew by 3.4% year-on-year. The distribution comprises approximately 91%, which is INR 4.37 per unit of dividend, which is not subject to tax at the hands of unitholders and approximately 9%, which is INR 0.4 per unit of interest. At Mindspace REIT, we have followed the strategy to diversify our debt book and optimize our debt cost. In December 2022, for SEBI's clarification allowing REITs to issue commercial papers, we concluded a commercial paper issuance of INR 1 billion, thus completing the maiden commercial paper issuance by an Indian REIT. We shall continue to explore ways to optimize our borrowing cost through a mix of short and long-term borrowings. In the backdrop of global as well as domestic inflationary pressures, India has seen significant interest rate hike this year. For most part of the coming financial year, we expect interest rates to remain high before the environment stabilizes. This is expected to cause our borrowing cost to rise in the coming financial year. Our portfolio [indiscernible] remains low, adding to the strength of our balance sheet. Our net debt as on December 31, 2022, was approximately INR 48.7 billion. Our LTV as of December 31, 2022, stood at approximately 17.6%. We have a well-spread maturity to [indiscernible] our debt with only 11%, which is INR 5.6 billion expiring in FY '24. Approximately 42% of our debt is fixed cost in nature, helping us cushion from impact of rising interest rates. We have undrawn committed lines of approximately INR 4 billion from financial institutions. Our low leverage provides us enough headroom for development within the portfolio as well as inorganic growth opportunities. REITs continue to witness demand from retail investors, which have contributed to the total number of unitholders of Mindspace REIT, nearing 50,000 as the unitholder was expanded by over 13% over the last quarter, largely driven by the addition of retail unitholders. We expect positive policy development to further detail the market to REITs and invest in India. With this, I request the operator to now open the floor for question and answers. Thank you.

[Operator Instructions] Our first question is from the line of Adhidev Chattopadhyay from ICICI Securities.

Sir, a few questions. Firstly, just wanted, you mentioned about the physical occupancy. I just missed the number. Could you also break it up across cities, how we have seen the trends moving across Mumbai and Hyderabad specifically?

About 50%.

I'm sorry to interrupt, sir, we could not hear you at all because there was a disturbance from Adhidev's line. Adhidev, when you're not speaking, please mute your line. Sir, could you please repeat your answer? We could not hear anything.

Yes. So some parks are outliers, our Kharadi Park is 90%. The rest of it is between 50% and 60%, in that range.

A second -- my second question was on the expiry profile. So I think there have been some fresh expiries of 0.5 million square feet. Could you just help us understand for now rest of the year, what is the -- how much do you expect to re-lease out of the expiry? And where do you expect the overall portfolio occupancy to trend [indiscernible] the actual occupancy and the committed occupancy?

So whatever expiry was scheduled are already done with, and we've predominantly been able to even reload the sudden expiries that came through. We're not seeing any expiries for the next quarter.

And sir, just final question on SEZ. I think last quarter, you alluded that it was, I think, around 1.8 million square feet of SEZ space, which was vacant. Now you're planning to convert out of this 0.4% as you mentioned. So could you help us understand the timelines for this? And under the existing guidelines, can we expect some more space also to come up under similar arrangement in the coming 2 months?

In our Gigaplex park, cumulatively, we had 1.4-odd million between under construction and ready non-SEZ supplier, which at the beginning of the year had vacancy of approximately 6-odd lakh square feet. We've completely almost fully leased that out. We have no supply in the non-SEZ space at all in that park. So there is an opportunity of a 400,000 square foot building, which we applied for denotification, we should get it in the next 4 months latest for us to be able to bring that as a pipeline for further supply in the market.

We'll take our next question from the line of [ Jatin ] from Bank of America.

A couple of questions. First for Vinod, it would be great to get a color on the 3 things around the expiries and cancellations we saw this quarter. First, on the early termination and the LOI cancellation. If you could help with what categories this client belongs to; global, domestic, technology, captive? And what could be the motivation behind these? I believe there could be multiple; either adjustments, basically layoff at the industry as recently seen or reevaluating their strategy entering or expanding into India, either on their own versus now thinking of outsourcing these to some of the Indian vendors? So this was part 1. Second, the 0.3 million square feet expiry, which you have seen at the Madhapur redevelopment. Was this a plan expiry or -- initiated by Mindspace to go ahead for the redevelopment in this quarter only?

First one had a lot of pieces in it. But fortunately or unfortunately there was an old tenant 2 years ago that walked away from our BKC asset. And we got compensation for it. And that is since then long pre-leased, the building now stands occupied. So if you ask for that onetime compensation, it was for a client who got hit by COVID at that point in time, didn't have clarity whether to continue or not. But they were committed on that space and they paid us for it. Coming back to the re-leasing of space that got suddenly surrendered in the last quarter, we were fortunate to re-lease that back in the same quarter to a brand-new tenant who took that space for our Hyderabad complex. And we saw the vacancy as well as the re-leasing in the same quarter.

I have another one for Preeti. Preeti, looking at your NDCF, we've generally seen the CapEx items and your net debt drawdown, generally, you typically move in line. This quarter, I think there was some bit of divergence and it's not for that, maybe the distribution are a bit more higher. So do you expect this to reverse in the coming quarters and incrementally aid our distributions?

So this time in the NDCF specifically, if you're looking at that CapEx versus [indiscernible] numbers, not really talking each other, that's because there's a INR 100 crore item, both which are sitting in the working capital as well as CapEx, which is, I would say, reflecting [indiscernible] each other. So therefore, if you remove that, then probably will see the CapEx not -- the debt matching the CapEx. So that's where we stand. And we should see a similar trend going forward unless you have anything specific.

So the working capital balances that. Got it.

[Operator Instructions] We'll take our next question from the line of Mohit Agrawal from IIFL.

So my first question is, for the last few quarters, if you see your NOI growth has been pretty robust. But somehow that has not translated into the NDCF growth. So NDCF has been flattish. If you look at the NDCF to NOI ratio, that is coming down over the last few quarters. So how do you see that going forward? And especially in the light that last 2, 3 quarters, we have had some sort of inflows coming in from the Pocharam land sale. That will not be there next quarter onwards. So how do you look at the NDCF over the next 2, 3 quarters?

Yes. So just to explain this. We have been able to utilize the incremental amount, which has come this year to reduce our debt support. We had mentioned, I had mentioned earlier, that because of the shortfall in the rentals, we've not been able to get all the rentals that we had envisaged. We were drawing some bit of debt support to reach our distribution content. So that is reduced with the incremental NOI coming in. And the Pocharam proceeds have also helped us bridge that gap. Going forward, we are hoping that because of the robust leasing that we've seen, which should translate to rentals in the quarters as we move forward. The rental, which is going to come from there, translate into NOI increase, that should further help us [indiscernible] debt support and then we should be able to independently have the NOI cater to the NDCF. It is one. And of course, I have to mention this, that there is one thing that is also eating up into our NOI which is the interest cost, right? Because while in FY '23, it has not been very substantial, but obviously some of the loans which we have taken, we will see transmission of those interest cost hikes in the coming year. Also in this year, we enjoyed some loans where we had rest this for longer period. Now once we are out of those lock-ins, we'll again see those rates getting to market. So next year, obviously, while we will see NOI increase, we will have the same [indiscernible] interest cost getting higher than what we see this year.

And if you look at the NOI growth for 9 months cumulative, year-on-year, it's about a 14%, 15% growth. Should we expect the similar run rate to continue forward?

So I won't be able to commit to a number, but I would say directionally, yes, with the healthy meeting which has happened, and we expect that the NOI growth should be seeing a similar direction. I won't be able to comment on the number though.

Sure. Second question is, Vinod, you initially mentioned about the denotification on, I think you're talking about the B5 building, 3 lakh, 4 lakh square feet. With now the SEZ build, basically likely to get -- looking like it is getting delayed, what is the plan B? Beyond this 3 lakh, 4 lakh, is there any other plan to denotify other buildings? What is the way forward for Airoli in terms of opportunities?

So the way we see it is, while this may take slightly longer, right, they are in the interim allowing for considering unit-wise denotification. And that's come to its final stages where we can then partially denotify spaces within buildings that are waiting. So that will be the next step of unlocking. We want to start that process immediately, and that will then allow us for more supply pipeline to come through.

And will that be just through an executive order or like could that come in the budget? Or is it just going to be a simple executive order?

[indiscernible] to the SEZ rules.

Any expectation in terms of how much time can that take, that change in the rules?

In the next couple of months, we will have clarity on that for sure.

And last one from me. What is happening on data center demand. So I guess, we have been quite positive on both Mumbai and Hyderabad. So any movement, any progress there beyond the 2 data center building that we are doing?

So a lot of the data center operators wanted to buy land, and we were not too keen doing that unless it was value-accretive for us cumulatively. The leasing demand, I think, for data centers will come back where you want the land owner, developer to build and lease it to you. And they are focusing our attention on those clients because a lot of the data center hyperscale are going to buy land. Demand continues to be very strong in the [ New Bombay ] region.

Our next question is from the line of Sameer Baisiwala from Morgan Stanley.

Preeti, can you quantify what could be the interest cost impact for next year? Is it 100 basis points, 150 on the overall debt?

Yes, Sameer. So 2 impacts, Sameer. One is, obviously, the debt would also rise because of the CapEx that we'll incur, we do expect to incur anywhere around INR 1,000 crores of additional cost in the development, which we're undergoing at the moment. So obviously the interest cost from that also will add. On the existing, in this coming quarter, in this quarter, we expect about 15% to 20% hike versus where we are today. And in the coming year, depending on how much the RBI would increase the policy rate, of course, it depends on that. But we do expect to tweak in some further hike. Also, Sameer, to explain what I said sometime back. But currently, we have about 70% of our variable cost, which has interest rates locked in for a couple of months. So once those lock-ins ends, then those will move to the market. So one thing, will have impact on that as well.

So 50 to 75 basis point increase, does it include the second part, the lock-in, which gets open up?

Yes, it does.

So that's the overall impact. And we need to add INR 1,000 crores more, INR 4,800 crore on debt outstanding, right?

Yes, you should.

And the second question is for the 2.1 million square feet B9, B5 and data center, which is getting completed in Q4. What's the sort of rental attrition that you expect next year?

So these are all -- most of them are actually re-leased as we speak. The data center is fully built to suit. The Commerzone Kharadi building has probably 50,000-odd square foot left. And Airoli building, 9,000 of about 130,000-odd square foot left, which hope -- we are hopeful before the end of the next quarter we'll be done with that.

So what I'm trying to get is, so their average rental would be like INR 70, INR 75?

So each of these assets are different. The Pune will be in the region of INR 80. The Mumbai region 1 will be between the INR 58 to the INR 60 number. And the data center is already pre-leased at between INR 74 and INR 75.

So maybe roughly INR 150 crores all of them put together on that 12 month.

Rents will start at different dates, but yes, you're right. Annualized you're right.

And one final question from my side, and that is for the 2 acquisition assets, the interest rates have moved up, as you know, over the last 6, 8 months. So how are you thinking about funding of the same? Has the valuation expectation changed? Are you getting lease that are higher cap rates, so a better value for you as a buyer? And just your thoughts would be very helpful.

So Sameer, Vinod can comment, let me just attempt to answer that. We will be cognizant of the interest rate hike when we are acquiring these assets. Obviously when we are acquiring [ data centers ], we'll not just look at short-term, but we are looking at adding these assets for long-term asset augmentation in the REIT. So we do look at the fundamentals of the assets, which is, of course, the value accretion and all, we will be mindful of.

Yes. Just to add to that, primarily to us the profile of tenants, quality of building, location and the cumulative value and quality of that asset really matters in the long-term. And both these are really strategic. And of the quality, we want to infuse in the REIT. So we'll be very happy to take them in.

Yes, sure. No, I get that, and that's what they qualify, Vinod. But, Preeti, what you said, does it imply, maybe there will be short-term pain and long-term gain. Is that what you're trying to say?

So Sameer, it's not about short-term pain. But I'm saying that today when we are evaluating an acquisition in the REIT, we are just not going to look at what the short-term interest rate increase is due to the overall acquisition decision. We are [indiscernible] to look at long-term. And when we are buying these assets, we will look at accretion for the REIT.

[Operator Instructions] As there are no further questions from the participants, on behalf of Mindspace Business Parks REIT, that concludes this conference. Thank you for joining us, and you may now disconnect your lines.