Morguard Real Estate Investment Trust (MRTUN) Earnings Call Transcript & Summary

Good afternoon, ladies and gentlemen, and welcome to the Morguard Real Estate Investment Trust First Quarter Conference Call. [Operator Instructions] This call is being recorded on Thursday, April 27, 2022. And I would now like to turn the conference over to Mr. Andrew Tamlin. Please go ahead.

Good afternoon, everyone. My name is Andrew Tamlin, Chief Financial Officer of Morguard REIT. Welcome to Morguard REIT First Quarter 2023 Earnings Conference Call. I am joined this afternoon by John Ginis, Assistant Vice President of Retail Asset Management; Tom Johnston, Senior VP of Western Asset Management; [ Todd Febbo ], VP of Eastern Asset Management; along with Rai Sahi, CEO and Chairman of the Board. Thank you all for taking the time to join the call. Before we jump into the call, I'd like to point out that our comments will mostly refer to the first quarter 2023 MD&A and financial statements, which have been posted to our website. I refer you specifically to the cautionary language at the front of the MD&A, which would also apply to any comments that we make on the call. Overall, we are again pleased with the first quarter results, which showed continued improvement in the same asset metrics on a year-over-year basis. Net operating income for the quarter increased 11% to $31.5 million in 2023 due to a onetime property tax refund for one of the Trust enclosed regional centers, and the amount of $2.8 million, which related to vacant space and past failed tenants such as Target. FFO for the quarter also increased 9% to $16.3 million in 2023 compared to a year ago. Same asset net operating income for the first quarter, excluding the property tax refund, improved 1.3% from a year ago, buoyed by a 9% increase in same-asset results for our enclosed mall portfolio. This represents the eighth quarter in a row where we have achieved improved same asset results on a year-over-year basis. Interest expense has increased 13% to $14.7 million for the quarter on a year-over-year basis. The impact of lower debt in the amount of $23 million on a year-over-year basis has been offset by higher short-term borrowing costs due to the higher interest rate environment that we find ourselves in. Higher interest rate costs on renewal cost of mortgages has also been a factor. Consistent with year-end, the Trust is approximately 18% of its debt is variable, and the Trust will continue to monitor this and would expect to see it somewhat elevated in the near future as well. As mentioned previously, our enclosed mall results continue to rebound from the downturn we saw under COVID. During the quarter, we had a $21 million fair value loss on our real estate properties, which was almost all attributable to more conservative leasing assumptions on our office portfolio. This compares to a $25 million fair value gain recorded a year. The REIT's PCME or our operating and leasing capital reserve was established to be $25 million for the year. While we only spent $3.6 million of the $6.3 million reserve this quarter, we are expecting elevated capital needs in future quarters into 2024 above the reserve amounts. This is due to both contractor delays from last year and catch up in spending as well as some elevated leasing capital for upcoming renewals. Our overall occupancy levels of 90% at March 31 is down slightly from a year ago. This compares to the percentage of the start of the pandemic, grew 93%. We are seeing continued softness -- softness in the office leasing market. However, there are pockets of activity, including in Calgary and certain suburban office assets. This speaks to the fact that in most cases, we've been able to keep tenancy at our quality assets. I also note that we've had a single-tenant industrial assets for which the tenant did not renew in the fourth quarter. We are working to find a new tenant for this asset. And now for an update on our leasing efforts. In 2023, there's an approximately 372,000 square feet in retail GLA coming due. We do expect that every retail tenant larger than 5,000 square feet to renew their space. There's also approximately 329,000 square feet in office space coming due in 2023, and we feel good about the vast majority of this space as well. I do note that there is 13,000 square feet in Ottawa that will be vacated and a further 19,000 square feet at 77 Bloor that was vacated in this past quarter. We see no issue with the 40,000 square feet of industrial space renewing in 2023, which should be done with a good uplift in rates. Leasing discussions for retail opportunities have definitely picked up in the last year as both current and prospective tenants now have a better handle on what we expect going forward. This has led to numerous conversations about various opportunities at our properties across the country. Obviously -- in discussions on the other hand, while gaining some momentum are still muted as tenants are still trying to figure out what their office needs are over a long-term basis in a post-COVID world. Management has had continued ongoing discussions with the provincial government tenant at Petroleum Plaza in Edmonton, which came up for renewal on December 31, 2020, and is now in overhaul. While they have verbally told us that they expect us to renew, they have unfortunately still been focused on their response to the pandemic and other initiatives, which have taken priority. Our experience is similar to other Alberta landlords who have the provincial government as tenants. I do note that this space has remained occupied over this entire time frame. Turning to financing and liquidity. The Trust has $120 million in liquidity at the end of the first quarter and $316 million in unencumbered assets. These numbers are very comparable from year-end. Looking specifically at mortgage renewals, we had 4 mortgage renewals at financing so far this year with approximately $6 million in the financing proceeds. The Trust does have elevated mortgage renewals over the rest of 2023 and 2024, and we do expect that there will be limited opportunities of up financing available during this time. We are especially pleased with the results from Pine Centre in Prince George, British Columbia. This mall will have a new Save-on-Foods grocery store opening shortly, which has also led to leasing opportunities with discriminating tenants such as lululemon and Sephora, along with others. While the construction efforts with Save-On-Foods have seen delays, which is not uncommon these days, the marketplace is excited about all of these new tenants. We expect to be able to turn the Save-On-Foods space over -- the tenant in the second quarter. The addition of grocery further complements the strong anchor tenant profile in this mall. Last quarter, the Trust announced that it had reached an agreement with Teamtown to convert the empty Home Outfitters space at Heritage Towne Centre in Calgary into a 34,000 square foot retail store focusing on sporting goods. The project cost approximately $3 million from a landlord perspective and was completed in the first quarter of 2023. This space is now open. The Trust has also announced a refresh of the lobby and frontage of Rice Howard Place located in Edmonton, which will cost approximately $5 million. The Trust owns 20% of this asset. Wrapping up, we are pleased that the resiliency of our assets and the improved results and activity levels from our enclosed mall and retail segment. While there is still is room to grow to get back to pre-COVID results, we have seen positive results in the last year. We are looking forward to continued positive leasing conversations for our assets. Most of our enclosed malls remain dominant in their geographical area and our strip malls, which are largely, largely grocery-anchored, have performed well in the pandemic. Beyond our retail assets, we have high-quality office buildings in Canada's largest markets with a high degree of government office tenants. We continue to be positive about our business and the objective of building value for our unitholders. We look forward to continuing to execute our strategy, and thank you for your continued -- we will now open the floor to questions.

[Operator Instructions] Your first question. The first question comes from Jonathan Kelcher from TD Cowen.

First question, just on the office leasing side. You said you feel good about the remaining maturities this year. And I guess, other than the 13,000 in Ottawa, is there anything larger that you know that will not be renewing?

No. No. That was really everything that I wanted to highlight from that perspective, Jonathan.

Okay. And then what would your expectations be on renewal rates? What do you think the mark-to-market is in your office portfolio for what's maturing this year?

Todd, do you want to maybe cover that?

Sure. So the rates have been keeping -- holding steady. The differences of the cost to do those rates is where we're having to often give more TIs to compensate to keep the rates up. So we're holding strong with our rates. So they're going to keep as close to that as possible, but the inducements tend to have creeped up as the market has softened.

Okay. That was kind of my next question. What are you seeing in terms of increases in TIs? And is it different from market to market.

It is -- there has been certainly a creeping up. But it is kind of all over the board still. Unfortunately, it's tough to narrow down to a specific trend other than it's higher than what it was previously. There's really no specific number that I can give it to you that and say that this represents the market, but I can say that it's consistently higher. That's unfortunately the best I think narrowed down because that is really truly what we're seeing across the spectrum of other markets right now, at least in the East, and we can talk with whether the West is any different with the East, where I look after, it has been a very response to that over the 3, I say, I look after.

Okay.

Yes, I think -- I think it kind of varies depending on the market and the tenants and the situations, right, as far as trying to quotas, Jonathan.

Okay. Fair enough. The higher net effect is there will be obviously down a little bit, but you're holding face?

Correct.

[Operator Instructions] The next one is from Tom Callaghan from RBC Capital Markets. Hello, Mr. Tom Callaghan.

Sorry, I think I was on mute. Afternoon, guys. Just first one from me was, was just on the retail side of the portfolio. Just wondering, in terms of the sequential drop in occupancy, was that something specific like a lumpier tenant or just kind of a collection of smaller leases?

Yes. There is no specific tenants, Tom. It was really -- I mean, you could kind of chuck it up to the -- there's always a bit of a decrease from Christmas as well. So just a lot of small little things.

Got it. And then maybe just building on that and some of your earlier comments in the prepared remarks, where do you guys kind of see portfolio occupancy trending here over the next kind of 2, 3 quarters?

Do you want to make a comment on that, John, from a retail perspective.

Sure, Andrew. Thanks very much. And I appreciate the question. So retail in general, if you compare over the course of the last 2 years, we've actually held pretty steady in terms of overall occupancy. And clearly, we went through difficult times in the summer and late -- latter part of 2020, but we've been pretty good in terms of retaining portfolio occupancy across the board, whether it's in closed malls or strip centers. So as Andrew noted, we usually see a pickup in Q4 to represent some temporary leasing we do in our enclosed malls in anticipation of the Christmas season. But all in all, we see increased demand, which is good. Our strip portfolio has been pretty consistent as it relates to its occupancy. But the demand, and it varies across the country, more so in the West than here in the East. But I would argue that portfolio occupancy from the retail perspective should may mean at or grow incrementally over the course of the calendar year.

Got it. That's helpful. And maybe just one more -- one last one for me on the credit side. But you guys provide some disclosure around the split with respect to mortgage financings between kind of the split between banks, pensions and insurance companies. Just curious, have you guys seen any change in lending appetite or perhaps bifurcation amongst those groups, say, over the past kind of 6 months?

No, not really. I think it's all -- we do try to have a good variety there, Tom. So I would continue to see -- say that we'll strive to have a variety as well, just -- just to mix things up. But I would say no real change of note.

Okay. Got it. Got it. And then just on kind of remaining refinancing this year. I think you had mentioned last call kind of 50 to 60-ish percent on LTVs. I assume that's kind of still the target for the remainder?

Yes, it is. Yes.

Your next question is from Dr. Chao Ed, a private investor.

[indiscernible] could you please let know what's your current net asset value by the [indiscernible], please?

Sorry, You're not coming through all that well.

So I said more investor [indiscernible] What is your current net asset value and the payout ratio, please.

Maybe I could -- maybe you could reach out to me and I could clear some of these questions after the fact, if that's okay.

Okay. I said I know [indiscernible]. I want to know what is your current net asset value on the payout ratio, please?

Well, the payout ratio was 37.5%.

37.5%. And what's the net asset value, please?

The net asset value of $15 to $16.

Okay. So if you have a net asset value in the range of $15 to $16 and your stock price has been [indiscernible] over the years. Why -- what is -- how do you guys feel about this for your long-term investors? When you have a house, you own a property that is worth $15 to $16 per share, and it is selling at less than $6 consistently. How do you guys feel about this?

Well, obviously, there's been real estate downturn. I'm not entirely sure what you're wanting to convey. We've gone through COVID, there's macroeconomic factors.

The next one is from [ Ten zing Warner ] a shareholder.

I was just wondering sort of if you could comment generally about your priorities for the excess capital that you have within the REIT, the distribution is sub-15% of your adjusted funds flow from operations. And I'm just thinking in terms of sort of cost of financing is generally going inching up. I don't know what the weighted average interest rate is currently probably 5%, maybe getting close to that and moving up. So I was just curious how the management team thinks about between deleveraging or investing or, I don't know, unit buybacks. What are your priorities for whatever excess funds you have within the REIT?

Yes, thanks for your question. We are -- we are focused on our debt right now. So I don't see us focusing too much on buybacks. We've talked elevated of maturities and debt being due over the next year or so. So we will be focused on that rather than focusing on issue bid purchases. There is a modest amount of development capital that we're looking at as well, but nothing that's -- nothing that's going to be too high.

Okay. So just to clarify, in terms of you're not sort of trying to redeploy it into additional acquisitions or more properties. It's just getting your leverage down. Is that right?

Yes. We haven't been fund acquisitions in the last few years. So I don't really see us moving ahead with any acquisitions in the near term. Anything else?

No...

No further questions in sir. Please proceed.

Okay. Thank you. Thanks, everybody, for joining the Q1 call, and we look forward to talking to everybody next quarter. Thank you.

Thank you ladies and gentlemen, the conference has now ended. Thank you all for participating. You may all disconnect. Goodbye.