Nexus Industrial REIT (NXRUN) Earnings Call Transcript & Summary

Thank you for standing by. This is the conference operator. Welcome to the Nexus Industrial REIT Third Quarter 2022 Results Conference Call. [Operator Instructions] The conference is being recorded. [Operator Instructions] I would now like to turn the conference over to Kelly Hanczyk, Chief Executive Officer. Please go ahead.

Thank you. I'd like to welcome everyone to the 2022 Third Quarter Results Conference Call for Nexus Industrial REIT. Joining me today is Robert Chiasson, Chief Financial Officer of the REIT. Before we begin, I'd like to caution that in regard to forward-looking statements and non-GAAP measures. Certain statements made during this conference call may constitute forward-looking statements, which reflect the REIT's current expectations and projections about future results. Also during this call, we will be discussing non-GAAP measures. Please refer to our MD&A and the retailer securities filings, which can be found at sedar.com and cautions regarding forward-looking information and for information about non-GAAP measures. So it was another solid quarter in the books for the third quarter. I'm looking forward to the balance of 2020 and 2023, while we will begin to see significant rental rate growth in the portfolio, especially in our Southwestern Ontario portfolio and our development pipeline starts to ramp up. We are in the next phase of our evolution where we will continue our repositioning with the high grading of our portfolio creating one that is of an institutional quality. In Southwestern Ontario, our London portfolio is not only realizing but also applying for significant rental rate growth. We are also awaiting permit for the construction of 100,000 square foot addition to our building at 1285 Hub Road, which we hope to break ground early next year, which was originally planned as a speculative addition now looks very promising for being pre-leased as we are just awaiting on the signature and agreed upon terms on an LOI for the space. In addition, we are currently waiting for 2 existing tenants approval on the Southwestern Ontario portfolio to add another approximately 65,000 square foot each of expansion space to their existing premises. As mentioned previously, the REIT has 22 acres of excess land at the Titan industrial site in Regina Sachin, that was acquired in February 2022, and we have submitted a design build package to an existing tenant in the REIT's portfolio to construct an approximately 300,000 square foot build-to-suit. This looks very promising as the tenant is currently seeking approval from its parent company. If successful, we would still have 6.5 acres of develop land left at this site. These aforementioned developments would be completed at an approximate return of 8% to 10% to the REIT. As mentioned last quarter, we are under contract with 3 additional properties, a brand-new build, strong covenant distribution center just outside Ottawa to be completed in January 2023, one in London, which is a unit deal, which is in the process of having a 150,000 square foot new addition being built and expected to be completed in mid-2023. And this is an extremely valuable site as there is significant additional land to continue to expand the facility as the tenant continues to grow. Thirdly, in approximately 85,000 square foot cross-dock facility to be built in Calgary, Alberta, with one of the REIT's existing tenants, which is expected to be completed in early to mid-2024. In the current quarter, we closed on a 94,000 square foot strong tentative A-class industrial building in Quebec City, where we assumed debt in the rate of 3.63%. We also closed on a 75,000 square foot sale leaseback industrial facility in Montreal with an annual rental rate increases of 3.5%. And subsequent to the quarter end, we have also closed on the small building a corn wall Ontario with one of the REIT's existing tenants, which is the same tenant as the new build in Calgary at a 7.25 cap rate as we have a long-standing relationship with the tenant, and we hope to continue to build on this relationship going forward. Finally, we closed on the 4 building, approximately 450,000 square foot industrial portfolio in Southwestern Ontario for approximately $39 million at a very attractive cap rate of 7% and the price per square foot well below replacement value. As you can see, we haven't continued to have an active pipeline of off-market opportunities and we will continue to recycle capital into both developing the aforementioned sites at higher returns within our existing portfolio and newer Class A industrial opportunities with solid annual increases. We have built a strong relationship with several developers in the industry, which should continue to provide ample opportunities for the REIT in major markets going forward. In Richmond, BC, we continue with the redevelopment of the approximately 60,000 square foot building for 2 tenants. One of the tenants commenced to release on September 1 with the free rent period to expire on November 30, and the other is expected to commence very shortly. We also continue to plan for 74,000 square foot addition, which would provide significant lift to the REIT NAV. We're also planning for bonus density, which is when it's approved and if it's approved, will allow for approximately 450,000 square feet of additional usable spar footage. Whether we build it or not, we will decide later in our life cycle here, but it would provide huge additional value to the site. In Montreal, we continue to work with the developer on the sale of the excess land at Les Halles d'Anjou. He's still working along with approvals from the city, but we anticipate closing of the transaction in February of 2023, which would allow us to utilize our first payment from the developer. We continue the process of reallocating and high-grading our portfolio by selling some of its office retail and noncore industrial buildings and reinvesting proceeds to acquire high-quality industrial buildings, creating an institutional quality portfolio. On August 3, we sold a retail property tended by RONA, that Senelevard in Sharat for $8.3 million on October 4, the recourse on the sale of a retail property at 1185 the Trumble and Longe for $11.5 million. And we're also under contract right now to sell a property portfolio of smaller industrial properties in Saskatchewan, and we currently have an executed LOI for a grocery-anchored retail property in Victoriaville, Quebec. Our 3-building office portfolio will be relaunched when it is anticipated that interest rates stabilize in the acquisition market for suburban office begin to open up. We'll continue to look for other noncore industrial and slowly phase out of those and redeploy that capital into class base facilities in the -- probably mostly in Montreal area in Ontario. Wholesale of our Victoriaville properties and post-closing of our Ottawa acquisition, the REIT holdings will increase to approximately 90% of NOI derived from the industrial sector. So it's moving along quite quickly. I'll now hand it over to Rob Chiasson to give greater detail of the REIT's financials.

Thanks, Kelly. As Kelly mentioned, Q3 was a solid quarter for the REIT, in line with our expectations. We completed $40.5 million of acquisitions in the third quarter and a $39 million acquisition subsequent to quarter end. The weighted average cap rate on this $80 million of acquisitions is 6.2%. We assume $9.5 million of debt at 3.63% on these transactions with a balance financed through new debt. The impact of our acquisitions, combined with positive same-store NOI saw our AFFO payout ratio decreased from 90.3% for Q2 to 88.9% for Q3. Q3 per unit measures were once again impacted by foreign exchange losses of $0.06 per unit. Absent the impact of the $460,000 unrealized foreign exchange loss in the quarter, say ratio would have been 86.1%. We increased our credit facility by $100 million in the quarter, with the increase secured against 10 previously unencumbered properties. On the investment property valuation front, we applied some cap rate expansion and our valuation of the REIT retail and office assets. We also applied some cap rate expansion in our valuation of some of our industrial assets. However, that was more than offset by increases to stabilized NOI. The recently announced Summit transaction implies that there is significant value in Ontario and Montreal industrial assets in particular. For the remainder of 2022, we have approximately $5 million of mortgage at a weighted average 3.55% interest rate that will mature. And in 2023, we'll have approximately $50 million of mortgages with a weighted average interest rate of 4.35% that will mature. The bulk of the region in place mortgages mature in 2026 on and we're not significantly exposed to renewal rates. I'll now turn the call back to Kelly.

Thanks, Rob. We'll open up the call to any questions that you have.

[Operator Instructions] The first question comes from Brad Sturges with Raymond James.

Just starting on the development pipeline and discussion that you have there. Obviously, you just identified a few projects that you're advancing on. Would all those projects you just highlighted with those all potentially break around next year?

I would say that definitely the 100,000 square feet with break ground next year. If we're successful in the $300,000 in Regina that would break ground next year, for sure. We have plans getting ready to go. It literally is just one of our tenants was purchased by company in Britain, they have to go for approval to their parent on that one. So we're kind of hopeful for that one. And then the other 2, I believe that one of the tenants is awaiting on a contract. And if they get it, that will break ground relatively quickly as soon as permits are in hand. And then the other one, that one they're making a decision in January. So most of them, I would say, would break ground next year.

And then I think in the summer, you bought a couple of development sites of RFA in Hanson, are those scheduled for construction next year as well?

One of them is, I guess, the first one that we have a 20% interest in is probably further out. That one's not serviced yet. But the other 2 are probably start next year or the year after.

So how much potentially could you keep the development next year, I guess, if everything kind of hits. And then what would -- do you have a rough budget of what that might cost?

Yes. So the ones I mentioned, I think we've got pricing somewhere between 120 and 130 a foot. And that what equated to what 4,500 500change.

And the 2, just remind me the Hamilton sites that are closer to breaking ground how much would that be?

So next year, I don't anticipate there'll be significant cash required for those because we have BTDs and other financing in place, and we'll have construction financing.

Yes, I'm not from the Hamilton one that I would think, if anything, they would be either late next year to probably 2024.

Okay. Maybe just thinking more generally about development and how you're thinking about pursuing specific projects, is there certain kind of criteria aspects you're looking for to pursue a project? Is it related to being approached by a tenant and their specific needs or return overall capital requirements. Is there a couple of factors that you're really focused on in terms of what makes a project worthwhile pursuing?

Really, it's our returns. But we're looking at developing the land that we have now. The Regina, we had 22 acres. So that was a no-brainer to go forward and try to find a tenant, which we found within our existing portfolio. So we approach them. They love the site, and it works for them. So let's see if they get approval. But again, we're looking a little bit outside the returns here. We can get the one in London and the other 2, we've kind of already be looking at around a 10% return on those. So we're just striving for that probably more like 8.5% to 10%. And if we're really lucky, 11%. So really, that's what we're looking at. And we were just lucky in Windsor, one is in Winder, that site has the ability to expand on everyone Thomas Ontario, which has a pretty good land to expand on. And then the London, we have an abundance of land, and we're looking at the London portfolio, in particular, because we do have in the overall portfolio, quite a bit of land. So we're kind of looking at it and saying, what's next after the 100. We'll go from there. But yes, we're looking from a return base.

Okay. Just on the Richmond there, one tenant commenced their agency and had a free rent period. Did the second tenant also have a free rent period or when would you expect?

I'm hoping it's December 1, and it doesn't have a free rent period.

Okay. So you could see some contribution in Q4?

Yes.

Okay. And I guess you're going through the permitting process for the next phase, where which sat back up in terms of priority and where you begin that for ourselves.

Well, we've submitted it also for the bonus density. So it will probably take maybe a little bit longer to get that through because the bonus density is very valuable, and that's a little trickier to get. But I think the Richmond elections of new people in Council they're pretty keen on those projects as a whole. So I'm fairly positive that we're going to get it, but we will see.

So my response earlier. We're looking at about $17.5 million of capital towards the end of one of the RF development projects. And then the other small pumping small amount, I guess, in April, roughly $4 million.

And the next question comes from Kyle Stanley with Desjardins.

Just looking at the disposition. Just wondering, what kind of pricing you expect? Specifically, you mentioned Victoriaville and the portfolio in Saskatchewan, just an overall high-level price that you might get for that.

Yes. So Victoria Ville will be right around our book value. And the Saskatchewan portfolio pretty much is bang on or slightly above our book value as well that we're currently carrying it. So fairly strong pricing on both of them.

Okay. And then maybe in the press release or commentary about leases that commenced in the third quarter at $1.35 per square foot spread over the expiring and in the fourth quarter 250. Could you provide either what the expiring rate was before or actually what the percentage increase was.

I could if you give me a minute, we can come back to that.

Okay. No problem. I just look -- you mentioned it on to ask Rob this question, so I may stop it from looking. But as you look to refund the $50 million of mortgage debt maturing next year. I'm just wondering, I guess, what the cadence of the maturities are, if they're kind of front-end load and back-end loaded in the year? And then where you're seeing the potential rate on that currently?

Yes. So I'd say $30 million of it is towards the end of April. And so that's the bulk of it. And so we're going to see -- I mean, we have the weighted average that was in the MD&A that I talked to. Right now, we'd probably be looking at if we put 5-year mortgage financing on probably the low 5% range. We're developing an overall debt strategy right now looking at drawn some funds on the credit facility that are in variable rate form BAs. And so we're taking a look and seeing whether it makes sense at this point to either swap or to enter into 5-year the mill of mortgages. We'd expect refinancing, it's doing 5 years mortgage probably in and around the low 5s based on today's rates. And I think the bond yields factor in some more increases to the overnight rate. But my crystal ball is a little bit murky in terms of where interest rates are going.

Just looking at acquisitions, I mean, you had some commentary in your prepared remarks. But I guess just how are you thinking about acquisitions going forward, still seeing a deep pipeline. Curious where you're willing to take leverage to be denoting down. And then tell you, in your comments, you said focusing more on Montreal and Ontario, is that can you take from that, that maybe it will be less active in Western Canada going forward.

Yes. I think at the end of the day, where we're evolving to right now is major market, Montreal, Ontario. And I think you'll see over the next while, continue that transition. I think will slow down on the Western front. We have a lot of opportunity here through relationships we've built, so off-market opportunities, which is good. Our still our London family as well, have some nice assets to roll in when the time is right there, and those would be a unit deal. So we're going to continue to recycle that capital. We'll look at identifying some other ones early towards the end of this year to kind of launch maybe January, February that will allow us -- because there a lot of things that we have closing come later in the year next year. So we'll stagger throughout the year in our future DSAs. So we'll just continue to recycle that capital, take it out of smaller dollar sites and they'll continue with some of the retail and office, if we can, and we'll just keep continuing to recycle that back into the, I call them a class newer assets where we would see deals with pretty significant rental increases where we're in the 4% to 5% per year on new deals. So where I'd take leverage to, it's going to depend on our sales program as well. So I'm trying to balance the purchases with sales at the same time, I guess.

I'll just come back to your earlier question. So on the Q3 renewals, we started to own at about $4.25 a foot. And the reason that number is low is we have Stryker Medical in there who was in a fairly low rate. And our lift in the first year going in lift is not as high as our ultimate lift will be, I think we're gradually increasing the rent for the replacement tenant at that location, and Kelly's built in some good steps. So that's the reason the starting rate is a little bit lower there is because we're eating the tenant into market rents. And we've got $745 roughly the starting rent on the Q4 expiries that we renewed.

The next question comes from Mark Rothschild with Canaccord Genuity.

Kelly, when you spoke about the 8% to 10% return on projects, and I guess I assume you meant unlevered. But can you comment on how that will work with 2 development projects such as in Regina, I wasn't clear to that I think you were talking about those projects as well, but maybe just expand on what your target range would be.

Yes, it's pretty simple. We're looking at what is our spend. So this is 130-foot on 100,000 square foot addition we'll get $13 footing it, that's how we look at when we're looking at that return, and that's kind of the deals that we're doing down in London right now. So hopefully, those to fruition now Regina, we're pricing out for the tenant right now might be slightly under 10%, but I'm thinking that's between 8% and 10% return straight on our cash at.

Okay. Great. And maybe this is connected. When you look at acquisitions, and it seems like the replacement cost is going up quite a bit, but properties aren't necessarily trading at replacement costs. How do you look at that? And in the short term, does replacement cost matter when you're looking at new acquisitions in a market where the rent is going to be stable and growing?

I'd say it depends, right? It depends on the asset. It depends on everything like we're a little bit -- [indiscernible] shipping, I guess, shifting gears here, and I do call it the evolution of the company. Now we have a summit that's been taken out and sort of leaves us as the only industrial option. And what we're trying to do is build an institutional grade portfolio going forward. We have, I think, succeeded in doing that in what we've recently purchased. And at the end of the day, there is going to depend on what area you're in, like in winter that we bought before assets is well below replacement cost. Newer products that will roll in. It's a new product that would be -- it's brand new. You're trading and getting it at, call it replacement cost. So at the end of the day, it's a mixture of both that we're looking at, and we'll continue to that Class A industrial brand-new product. We have fairly strong relationships that we can take that down pretty easily. We also have strong relationships in London and the other places that were not brand new, but pretty new stuff we're getting new relationships every day with guys interested in possible unit deals. So I think where we're going right now is to do the again, under market rents that we see value and listing for relatively higher increases on a year-over-year basis, where it might be at market or slightly below market, but they've negotiated 4% to 5% a year rental rate increases or CPI. So that's some of the mantra going forward right now.

And the next question comes from Matt Kornack with National Bank Financial.

Just quickly with regards to the forward purchase assets. Can you give us an update as to where those are in the construction process and when you'd be likely acquiring them? Has anything changed there?

Yes. So I believe the Ottawa site is due January or like, well, actually March. So that one is March. And then the one in Calgary, I believe, then broken ground with that will probably be -- we're anticipating end of next year. I think it's going to be more like May of the following year. And then the London deal unit deal, that should be in the summary, and I'm contemplating around you for that one.

Okay. So in terms of near-term commitments, it's really the Ottawa asset? And what is the dollar value for that one in particular, if you think you can provide? I don't know if that's possible.

[indiscernible] Yes, it's $115 million.

Okay. And in terms of financing that on completion, I assume you get secured financing for a portion of it. But do you need asset sales to kind of fund the balance? Or is this new credit facility teability that you have enough to kind of bridge that equity component?

Yes. I mean I think between the credit facility, the undrawn amount there, and we've got some unencumbered assets, the $40 million acquisition that we just completed is unencumbered. And we've got other assets, a couple of other assets that are unencumbered, we have funds to finance the purchase of the Asman property and probably about $300 million or so of acquisitions.

Okay. Perfect. That's good to know. And then London, the full equity component is going to be units. Is that fair to assume?

We would assume the existing we get. And we would -- I think that was the deal struck before I believe I'm trying to remember the actual balance between -- but it's all units and existing debt on that one.

Okay. Perfect. Just with regards to the acquisition in Tilbury and Windsor, would they -- I mean, I guess, if you impute rented something like a $6 a square foot rent to get to a 7% cap. Is that market, I'm not as familiar with that market? Or is there some potential capture on upside as well?

Well, it's a longer-term lease, but it's far below market. Market in lenses about 950 or so-- and you're bang on right around the rent the existing rent.

Okay. So longer term, as in 10 years or...

Just trying to remember, it might be... Give me 2 seconds I will tell you. 2031, it expires.

Okay. Perfect. And then you've been very active. The same property portfolio isn't really indicative of kind of actual portfolio trajectory. But can you give some sense -- I mean, a, like I can't remember what your policy is in terms of inclusion in the same property portfolio. Does it have to be in for the full year-to-date. But maybe if you could give a sense as to what's not in the same property portfolio, how that -- what the trajectory of that relative to kind of the same property portfolio?

Yes. So in order to include something in the same property in the full quarter for both Q3 2022 and Q3 2021. And then in terms of trajectory, I mean, I think Kelly mentioned we have -- and I think we mentioned in the press release that we have quite a number of square feet that's coming up for renewal where we expect a pretty good lift in rental rates. So I'd expect same-store NOI to continue to increase upward trajectory for sure.

Okay. That makes sense. And then last one for me, just quickly. The lease maturity profile that you show, I mean, there's not much that matures in the balance of 2022, but that doesn't necessarily show what you may have signed in prior quarters. Is that essentially what I'm saying is that a net number as it like okay. So do you have a sense as to how much actually matures and at what rent spread is maturing in Q4 itself?

I do, but I don't have it. I haven't had a couple of different files that I need to add together. So I think we had -- what we said about 17,000 square feet was but haven't been renewed yet. And I'd have to get back to you on the other number.

I guess we could take a typical kind of proration of normal and apply kind of a pretty good spread using the numbers that you maybe you disclosed last quarter in terms of relative weighting anyway. It's okay, we'll figure something out, but sounds good.

The next question comes from Gaurav Mathur with iA Capital Markets.

Just quickly on renewals and just feeling the recession drones, are tenants continuing to have renewal conversations earlier than usual? Or is that changing in any manner?

I think it depends on the market share in. So in London, we're pretty on top of things, and we're well into discussions. I'd say, less it's a little slower happening out there right now. Montreal, again, pretty quick. So in Montreal, I'd say, Montreal and Ontario, you're having them now well intensity. I know in Montreal, a couple of our sites, we've done renewals completed a few renewals where the tenant doesn't even need to renew until end of next year and early 2024. So again, I think it becomes in the market.

Okay. Okay. Great. And just on the acquisition front for industrial properties in your targeted market. Can you talk about how the stabilized yields have moved when you're comparing it to the beginning of the year?

Yes, it's cell depend, right? So it depends on the assets. So if you're sitting on an asset with a 1% a year increase, that has been affected, probably, I would say, by about maybe 50 bps. But if you have newer assets, newer assets that have 4% to 5%, which is the norm or CPI in there, you're still curiously high in demand. So I don't think that cap rate has moved at all. So it really depends on your rental stream.

Okay, perfect. And just lastly, we noticed the uptick in leverage this quarter. Is there a range that we should think about going forward?

Yes. We'll probably -- we'll continue to add that as we acquire and so we will see ourselves pushing 50%.

Yes. And then, Mathur, I said, it's going to depend on the success of moving some of the older stock and the remainder of the office and some of the other things that we are trying to move. So again, it's just a repurposing of the capital.

[Operator Instructions] The next question comes from Jimmy Shan with RBC Capital Markets.

Kelly, I just wondered if you just talk in general what you're seeing in the acquisition market is a follow-up in terms of depth of bids, appetite. We just heard from the call earlier that core industrial and not clearing of prices that were trading earlier in the year over last year, kind of wonder what you are seeing.

Yes, I'd say, definitely in Montreal and Sharon, like I said, is it really does depend on the rent spreads, and it depends on what increases you've negotiated in your leases. So those haven't moved hardly at all, but other assets that may have like 1% increase or no increase over every 5 years, those definitely have been affected. So I've seen portfolios where they haven't traded as being portfolios where I was surprised that the price that they got because I thought was overpriced. So I think it's just like market by market and it's almost building by building. You can't just look at one trade and say, well, here's the new norm. It really is what's the lift in the portfolio and what are the embedded rental rate increases. That's really determining the sale price right now.

And the evolution you speak of in terms of moving to more institutional quality portfolio, did that take you the GTA or the major markets, that the plan?

Yes. Yes. So we will. You will see us, over time, continue Ontario and GTA is pretty wide, pretty wide range, but Southwestern Ontario is still a big one for us. Montreal, we seem to get pretty good traction in right now. So we're going to start over time to rotate out of some of our older assets in Alberta and rotate back in into Ontario and Montreal. And we really have developed some pretty good relationships, but I think we can do quite well over here.

This concludes the question-and-answer session. I would like to turn the conference back over to Kelly Hanczyk for closing remarks.

All right. Thanks, everyone, for joining, and we will see you next quarter.

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.