New Zealand Rural Land Company Limited (NZL) Earnings Call Transcript & Summary

Everyone and welcome to the NZL Half Year Results Call. Thank you very much for joining us. So we've got a few people online, so thanks very much for making the time. With me in the room I've got NZL Director, Chris Swasbrook and Rob Campbell and Sarah Kennedy both joining us online from the NZL Board. The results we'll be talking about today are for the 6-month period ending the 30 of June 2024, which is our half year. Just a reminder that NZL's balance date is end of December 2024. I'll walk through without laboring some of the slides in our presentation and then move to questions and if people could just raise their hand if they've got a question. So the portfolio has increased its yield by having further diversified following our recent acquisitions of some apple orchard land and forests. Our free cash flow or -- operating cash flow AFFO per share has grown from $0.0153 per share to $0.0194 per share, which is a growth of just under 27% compared to the same period the year before. Gearing has lowered to 30.5%. The dividend has been resumed with a 75% payout ratio of AFFO. We previously announced in the market that Roc Partners have purchased 25% of the NZL portfolio -- and we've -- and we touched [ on the result of our ] partnership with New Zealand Forestry Leasing, one of our tenants, which is a large project centered around native regeneration on some of our forestry properties. So in terms of the half year '24 results, we've seen net profit after tax and AFFO grow. NAV per share has grown since listing. It's back slightly on 31 December. We're reaffirming our AFFO forecast to be in the range of $0.05 to $0.0536 per share in '24. We expect to see the second half of the year free cash flow per share growth versus the first half of the year. And that's largely a result of the CPI rent increases we saw take place in the middle of the year and some higher yielding acquisitions that we've made with some of the proceeds of the sale of 25% of the dairy portfolio to Roc. We've seen our CPI linked rental increases come through at just under 19% on just under 40% of our total portfolio and this took effect in the middle of this year. And so we'll see the half year impact of this in the second half of the year and obviously a full year of it the following year. A further 26.5% of our portfolio, which is on annual CPI rental review, saw a 4% increase in the 12-month period leading up to it. And there's been a small on-market share buyback with some opportunistic buying over the last half year period, bringing total shares bought back to just under 630,000 shares. In terms of financial highlights and metrics. Total assets of $423.5 million. Net asset value of $216.9 million. NAV per share is $1.55 and gearing at 30%. We've resumed the dividend and we're paying out 75% of half year's AFFO, which is $0.0146 per share, and we expect that to be higher in the second half as previously mentioned. This slide is a summary of the acquisitions that we've made and the portfolio changes over the first half of the year. Really, this is just the deployment of the proceeds received from the 25% portfolio sale. So what we've seen is diversity of the portfolio increases to lower exposure to dairy and increased exposure to forestry and apples. We've seen our gearing come down from 36% to roughly 30%. And we've seen our weighted average lease term increased by nearly 10%. So from 11.6 years to 12.7. We've purchased some apple orchard land only, so not the improvements, although the improvements do revert to our ownership at the end of the lease. In Twyford Hawke's Bay which is arguably the best apple growing area in the country. We've added to our forestry estates and added a tenant, a different tenant into the mix as well in Whanganui and Taranaki. And we've got -- we've contracted to buy an apple orchard land in Otago. Part of it is settled with NZL shares issued at NAV and the collection of these acquired properties yield between 7.5% and 9%. They also have annual rental adjustments as opposed to the 3 yearly, which you'd be used with our dairy portfolio. So the frequency of rental adjustments has increased as well across the portfolio. In terms of our adjusted funds from operations or AFFO for this half year period, we've seen $0.0219 per share of funds from operations. And then in terms of adjusted funds from operations, $0.194 per share. We expect that to be considerably higher in the second half of the year. Profit and loss $12.38 million net profit after tax and $0.0918 share of earnings per share. In terms of net asset value per share, you'll see that it was close to $1.60 on the 31 of December and it's $1.55 [ as of today ]. In terms of our debt summary. There's 30.5% gearing. Our average interest cost is 6.6% and we've got a 1.2 years weighted average term to expiry. I would touch on that. What we're going through at the moment is bringing in a banking partner. We're well progressed on that front. And so we expect that this -- that we would extend further out our debt facility exposure and profile with the introduction of a new banking partner alongside Rabo. We're 64% hedged at the moment, which tails off to 50% next year and 35% the following year. Total returns, which we -- which I'm sure you'll be familiar with, a steadily increasing net asset value and AFFO per share and dividends per share. In terms of our sustainability program, most on the call will be familiar with our Enduring Life for Land program. In terms of specific initiatives, that's throughout this period and ongoing. We've put a spotlight on our native forest regeneration. And so with our tenant partner, what we're engaged in is very active fire management and large scale intensive pest animal control and pest plant control. And what that allows for is the -- is for pine trees to act as a nurse crop to native plants and regeneration of native birds to allow both native plants and native birds to regenerate. Pest control is expensive and it's your #1 priority in terms of keeping out competing species, both [indiscernible] and animals. And so that's something that we will continue to update and report on and is an active project for us. We've had other initiatives around solar pumps and green loans that we touch on this slide. And then in terms of the dividend and outlook, we reaffirmed our dividend policy of 60% to 90% payout of AFFO for this half year. We're paying out 75% of that. In terms of a share buyback program, and I just -- I think it's important to make this clear. We always want to have the ability to buy back stock if there's a very compelling opportunity to do so. That's not to say that we'll be romping out in the market to buy back shares on an unfettered basis. We do have a dividend reinvestment policy and process people can participate in with this dividend. So obviously we're not going to be introducing a DRP and then taking that money buying shares back at the same price in the same period of time. It's just the share buyback program is important to have it in place should there be a very compelling accretive opportunity in the future. In terms of the outlook in our FY '24 forecast, so we're reaffirming guidance. We've seen the impact of inflation in '24 with forestry and dairy asset lease increases. We've got hedging in place for 64% of our total borrowings and that drops off to around 50% and 30% as it currently stands. Plan at the moment will be to keep that hedging at similar levels and continue to roll as it comes off. I think with that, what I'll do is open up to questions.

So I've got 2 hands up here. Arie, you are the first to put your hand up. So I'll take questions from you first.

Richard, yes, just...

Hang on a second. Let me just turn up the volume. It's a little bit hard to hear. Excuse me. [indiscernible] full.

Is this better?

Better, yes.

Okay. I'll make sure I speak up. Yes, just firstly, in terms of the Roc cash that's now largely accounted for, you've got gearing in the low 30s. Will we see some further small acquisitions beyond what you've announced in FY '24 or into the start of FY '25 that utilizes a bit of that gearing capacity? Or is that not the intention?

I don't anticipate there being any further small acquisitions. I think what we've announced and what we've got paying with the Southern Orchards that sort of ticks over between this year and next year [indiscernible].

Okay. And then just, I guess, following on from that and -- but thinking further out in terms of future acquisitions, I mean, you've started -- well, you're well underway, I guess, in diversifying the portfolio away from dairy now sort of more concentrated in dairy and forestry. Do you have targets in terms of weighting to the various end-use classes? Or will it be more opportunity specific?

It will be opportunity driven. I mean, the further concentrated we are in certain areas, the more appealing something would need to be to really -- really influence us to continue to chase it. But no, we don't have targets. We're opportunistic in our purchases and there'll be a cycle and there'll be a time for a variety of different assets. We just want to buy quality at a good price. And so need to remain optimistic about that.

Arie, [indiscernible]. Arie, we've always said that from the outset -- it's Chris here -- that we would be opportunistic. And I think if you go back in time to when we first started the New Zealand Rural Land Company, people were highly skeptical as to whether we could buy any land and yields we were indicating. We went out and bought that large-scale dairy portfolio. And we've since added on incrementally starting in forestry and now horticulture. And if we had told you at the beginning that we would get 8.5% of horticultural land, you would have told us we were on drugs. So it's just always opportunistic. And various asset classes or subsectors within that particular asset class become more attractive at certain points in the cycle and that will continue to be the case for the foreseeable future. We do not have a pretty pie chart saying that we want 33% in dairy, 33% in horticulture, 33% of in trees.

Yes. No, that's good. And then just on the refinancing of the debt, which you mentioned as well progressed. In terms of finalizing that and extending out that current debt, do you have sort of a time frame in mind in terms of when that'll be sewn up?

Arie, are you able to just speak up a little bit?

We really shouldn't hear you, Arie. I don't know...

Okay. Yes, that's unfortunate. Yes, sorry. Just in terms of the refinancing of current debt, which you mentioned, yes, that -- have you got a time frame in terms of when you expect that to be concluded?

In the next couple of months.

Right. And then final one, just in terms of the dividend policy. So, let's see that you've gone in the middle of the range. What are the factors that will likely sort of influence where you end up in that range sort of going forward? Is it 75% now for the sort of foreseeable future? Or what will sort of determine where you sit in that range in future periods?

There's a number of things that we're balancing when we look at our target payout ratio. Well, certainly, I would expect certain mid- to lower end of the range so that we retain some flexibility with free cash flow. It does depend on what opportunities are presented to us, what our gearing looks like, trying to remain attractive to the marginal buyer, which is likely to be a real focused retail investor. And so, yes, it's some -- that's is a balance. But if you thought somewhere in the mid- to lower half that range, you wouldn't be too far wrong.

Great.

Arie, you know what markets are like as well as anyone here. I mean, they do strange things from time to time, and you want to have that flexibility to buy that shares. So I don't think that we're doing this DRP and we're going to take that money and buy back shares. So I understand people would be scratching their heads saying, well, that's very inefficient use of capital. You view buybacks as very much like we are when we're purchasing land. We want to be opportunistic. If we think the discount is too big and the market is not pricing the shares properly, we will get -- we will initiate the buyback.

Is that all from you, Arie?

Yes, it is.

Nick, floor is with you.

There we go. Sorry. Just checking that you can hear me.

Yes, we can.

Great. Looking at your FY '24 AFFO guidance of $7 million to $7.5 million, which is unchanged, CPI-based rent reviews have come in in line with basically expectations. However, since then, the forward interest curve has shifted downwards quite a bit. And I guess all else equal, the combination of the 2 would lead to high AFFO expectations. Would it be possible to provide a bit more of a breakdown in terms of how your AFFO expectations have accounted for this drop in interest rate? Is it a case of the FY '24 weighted average cost of debt not changing and this being more of a story for beyond FY 24?

So a couple of things. We were delayed by 3 months on a couple of our raw material purchases. So some apple orchards and forestry didn't settle towards until the end of May, and we thought we'd be doing those earlier in the year. So there's a little bit of delay on settlement, therefore delay on rental income. On the flip side of the coin of the -- we hedged 64% of the debt. So the other 36% that were unhedged for, we should see some improvement on what we forecast for the end of the unhedged portion of our interest bought towards the end of the year. And then also there's slightly not very material, but slightly more professional fees associated with selling and buying properties. And so you see a little bit of that versus, say, a more steady state. And so just the unders and overs of those various elements leaves us within the existing guidance range for AFFO. So we've just retained guidance.

Okay. That's helpful. And then just on the rent reviews, 18.6% is quite a chunky increase. Would it be possible to provide some more commentary as to how you're monitoring your tenants' financial health and ability to manage these increases?

Yes. So a good back of the envelope network to think about from a dairy tenants point of view is, in the past, our rental -- so first and foremost, if a tenant is leasing a property from us, they don't then have gearing on the land. So I think about the lease as a financing or interest type cost from a tenant's point of view. In the past, the lease is made up between $1.10 and $1.30 of milk check income. With a 20% increase in round numbers that then becomes $1.50 and in round terms out of a tenant's milk check. If you then add on $5 to $6 worth of just pure operating costs, you end up with a $6.5 to sort of $7 structure all in with milk at the moment at $8.80 is about 20-something percent net profit margin, which is reasonably healthy for tenants. We are also looking at partnering with Rabobank to offer tenants some access to hedging as well, because at these levels, they are very profitable. And so if we are able to facilitate some sort of -- some sort of program in conjunction with our banking partner to tenants for some -- to effectively lock in very healthy margins and profits, we'd like to do so. On top of that, what we get from tenants is quite detailed quarterly management accounting, as well as budgets and reforecasts when they're doing them. So we get quite a good line of sight into tenant profitability, as well as monitoring the balance sheets. And so at a minimum, a tenant with a 10-year lease needs to maintain [ 8x ] 6x rental cover in terms of equity. And then maybe longer the lease, the higher that needs to be. So for an apple orchard, for example, that needs to -- that increases to 12x. And so those -- it's market monitoring and a basic understanding of the sector's profitability and what granular information and contractual obligations on our tenants that we monitor as well. Is that helpful?

Yes. That's really helpful. Just to clarify, the hedging offered to tenants with Rabobank, is that for interest rate or commodity risk?

If it was done, and we're still working through it with Rabo. So if Rabo does get done, that would be for -- it would be for milk price, not interest rates.

And we would have no economic exposure.

Okay. Great. Regarding the recently announced Apple Orchard acquisition, would I be correct in saying that this will be 75% funded by NZL with the remaining 25% funded Roc Partners?

Right.

Great. And so will the second tranche or the second payments also be done with NZL shares issued at NAV?

That shows the payment and the shares are in 2 tranches? The shares are in the first tranche with the balance being in cash, and then the second payment is all cash.

Okay. And just the last question from me. Your commentary on native forest regeneration, just thinking aloud where the pine forests you see in New Zealand or I've seen in New Zealand, don't really have the best soil compared to, say, using gorse to help a native nursery crop. In terms of going from a plantation radiata to native regeneration, how has this been done elsewhere in New Zealand? And I guess, how does it impact for the pine trees -- the pine trees impact on the soil? I guess the reason -- one of the reasons why I asked this is I was under the impression that when the forestry acquisition was initially announced, it had a relatively low maintenance spend outlook from the tenant's point of view, given its mature profile. But going from pine trees to nurse crop, it sounds like a lot more work required, which means a lot more costs, right?

So the costs are incurred by the tenant. And so what it really boils down to in simple terms is very active pest control management. And so what you see around other parts of New Zealand, especially with pine crop, is people either don't want to spend the money on pest management or they would like to be able to hunt deer, goats and pigs in their forests. If you want to spend the money on having really high-quality fencing and then very active pest control, being ducks, pigs, deer, et cetera, and stoats and weasels, so that you then allow for goats not to eat the native ferns that are growing underneath and for stoats and weasels and rats not to eat birds' eggs so that the birds can thrive and then also distribute native seed. That's how you regenerate native underneath a pine crop. And then pine when it starts to run its course in 150 years, you've got a very healthy, self-sustaining native growth coming through that effectively take over. But yes, it's expensive and intensive, but that's why you have a large tenant that's got the staff and the infrastructure to do that.

Yes. Nick, it's Chris here. The Board of NZL actually went down recently to look at one of our forests in Whanganui with our tenant in New Zealand. And Richard is 100% right. And you actually have to see it to believe it that their pest control is the major driver of native bush regeneration. Soil qualities are distant, also ran in that sense. It is just amazing. And how New Zealand Forestry Leasing and their teams manage that and everything, from the number of hedgehogs that are controlled and everything by that [indiscernible] hedgehog is actually very dangerous to native bird species and things like that. So I cannot stress enough. It's about pest control and the tenant is just -- well, it has a world-class or just an incredible operation doing this. It really is.

Out of its 70 employees across the business, approximately 50 are in pest control.

Yes. I mean, because it's just so vital for their operation as well. So maybe we do a field trip down there next year and -- or later this year and take some of the analysts around and show you. It really is quite eye opening. So it comes down to pest control. It's not soil. And it's not this negative -- negativity around pine needles and acidity in the soil and these various stories that you hear, nothing to do with that.

I guess with the 50 people dedicated to pest control this expensive -- or like, this high cost, ongoing costs going forward is not sort of a new development from the tenants' point of view. They always sort of expected this or had planned on this...

Because it goes to growth, it goes to the carbon profile and the growth, you get the trees off particularly when they're younger to a good start. The carbon profile is very, very robust. And so they have modeled all of this. They are in the business of farming for carbon and they know that pests do real damage to their growth profiles and even -- and matured trees as well.

I'll go through the Q&A questions that we've got here. So we've got 7 questions. One question. Rabobank Facility B expires this Sunday, 1 of September. Has this renegotiated yet? And if so, when will it. Yes. It's been extended by Rabobank for another 3 months while we go through our refinance. And they've said they'll continue to extend until they're a very happy bank and will continue to extend while we're working to refi. But we've had strong offers come back and we think bringing on the syndicate partner will be imminent. In terms of our debt covenant level. So our baseline debt covenant in terms of interest cover ratio is 1.75. We've got a temporary covenant of 1.65x and it then reverts to 1.75. In the past, it has been as high as 2, but 1.75x ICR cover is the current debt covenant with a temporary 1.65x. At the moment, we're trading our ICR at about 2.3, 2.4. There's a question on the DRP program, which we believe we've answered. In terms of the types of buyback, all of our buybacks are done on market. We say that at a minimum, we'd like to see a 90% discount. But obviously, when we're buying back, especially at $0.88 and lower, the discount we're buying for is a lot greater than that. As a question [indiscernible] show dairy prices per hectare dropping throughout the year. Would you expect the valuation at the end of the year to show a drop in asset value for dairy assets? Well, I wouldn't expect so, but I can't predict the market. By the end of the year we're seeing -- we're seeing prices hold reasonably firm and confidence increasing in the sector, so, yes, I'm sure at the moment.

There's a question here on NZL stated they were not paying dividends because they wanted cash for buybacks of the severely undervalued stock. But the cash hasn't been used for buybacks. What has changed? Yes, we only repurchased a small amount of shares in the period. But we were out of the market for quite a period of time with various transactions and you had the windows and we just didn't have large enough windows to really execute on a buyback. So that's the reason why we didn't repurchase many shares [indiscernible] previous periods we obviously did.

And the dividend was suspended. Well, the dividend was suspended for the last year. And that's when we bought back the majority of the shares. This first half year we've been out of the market and we're paying dividends.

And also, we've had these transactions where we haven't been able to. So I think we followed through on what we said we would do with regard to that question in the relevant time periods.

Another question here. Can you please provide more color on the new tenant MM Forests Limited? So MM Forests Limited is medium-sized forester in the North and South Island. They had -- they found a particularly attractive off market purchase they wanted to make. With the purchase came some carbon credits, which we obviously didn't want. And so we -- they approached us knowing the sort of arrangement we have with New Zealand Forestry Leasing and we managed to construct what I think was quite an attractive deal for NZL with -- and bring on another New Zealand domestic owner operator, medium-sized tenant with a strong balance sheet. They've got the same covenants required as anyone else. Right. Are there any more questions? There don't appear to be and I can't see any hands raised. So if there aren't any further questions or hands raised, I'd like to thank everyone very much for joining us today and making time. And as always, please send us an e-mail or give us a phone call if you'd like to speak to anyone or have any further questions. But thank you very much and we really appreciate the support.

Thank you.