Nippon Building Fund Inc. (8951) Earnings Call Transcript & Summary

Good morning, everyone. This is Daisuke Yamashita, President and CEO of Nippon Building Fund Management Limited. Thank you very much for joining us today. Before presenting the results for the 49th fiscal period, I'd like to briefly comment on the public offering we conducted last month. Through this public offering, we are able to acquire properties, including a newly developed one in the Nihonbashi area, where further rent growth is expected, and we received very favorable feedback from many investors. I'd like to once again express my sincere appreciation to all of you. The office leasing market remains firm. And according to data recently released by Miki Shoji, vacancy in Central Tokyo was 2.15% as of the end of January, almost going below the 2% threshold. A vacancy below 2% is a level not seen since 2019 before the COVID-19 pandemic. We hear that the leasing of properties that are to be completed in 2026 is progressing steadily and that demand is already extending to large-scale new properties scheduled for completion in 2028 and 2029. Supported by strong corporate earnings, we expect the office leasing market to remain solid going forward. Against this favorable backdrop, NBF has been steadily increasing real estate rental revenues. We will further accelerate EPU and DPU growth based on the strong internal growth and by continuing our external growth, supported by financing that is mindful of the financial market. Now I will explain the key points of our earnings forecast based on the results for the 49th fiscal period. Please turn to Page 3 of the presentation material. NBF's key metrics continue to show solid growth. First, looking at the graph on the left, the occupancy rate for the 49th period is 98.5%, unchanged from our forecast, and we expect to maintain the high level of above 98%. Real estate rental revenues reached JPY 44.8 billion in the 49th period, representing growth of approximately JPY 1.6 billion or 3.8% compared with the previous period. Looking ahead, we expect another 3.7% increase of JPY 1.6 billion in the next year. Next, please see the graph on the right. This graph shows the year-on-year change in real estate rental revenues for existing properties broken down into the impact of rent revisions in blue and tenant replacements in green. During the 6 months in the 49th period, rental revenues from existing properties increased by 1.2%. The blue bars represent the impact of rent revisions on real estate rental revenues. The 1.1% increase projected for the 50th period reflects rent increases that we have agreed on with a major tenant, and we are expecting further growth of 0.8% in the 51st period. For the green bars representing the impact from tenant replacements, as explained in the previous results briefing, we are expecting the impact to be negative in the 50th period due to the departure of major tenants at Shinjuku Mitsui Building, but we expect positive contribution in the 51st period. While the impact of tenant replacements may fluctuate depending on the timing of move-ins and move-outs, the impact of rent revisions is expected to increase by 1.9% annually. This will serve as a solid foundation toward our target of achieving 2% annual growth in real estate rental revenues from existing properties and will continue to drive internal growth. Please turn to Page 4. As for the results of the 49th period, we acquired Frontier Musashikosugi in July and NBF CONNECT SAPPORO in November. Total operating revenues were JPY 48.5 billion. Net income was JPY 19.2 billion. DPU was JPY 2,454. Let me point out some of the highlights from the changes in revenues and expenses compared with the previous period. Number one, real estate rental revenues increased by approximately JPY 1.6 billion in total or 3.8%, which includes 2.6% from asset replacements and 1.2% from existing properties. Number two, operating expenses increased by approximately JPY 1.3 billion overall. While building management expenses rose by about JPY 600 million, if we exclude special factors such as asset replacements, the increase in expenses for existing properties was around 1%, while there were factors such as the decline in repair expenses. Number three, interest expense increased by JPY 350 million as we secured financing at an average rate of around 1.3%, while funding property acquisitions. As a result, the bottom row shows that net income, excluding gains on sales of real estate increased by 3.2%. We conducted a public offering in July, so EPU for the 49th period increased by 1.5% from the previous period to JPY 2,231. Please turn to Page 6 for our forecast for the next 2 periods. As for asset replacements, we have decided to acquire Nihonbashi Honcho M-SQUARE and make an additional acquisition of Toyosu Bayside Cross Tower in March, dispose of Sumitomo Densetsu Building in June and dispose of NBF Sapporo Minami Nijo Building in July. For the 50th period, we are forecasting operating revenues of JPY 53.9 billion, net income of JPY 24 billion, DPU of JPY 2,460. For the 51st period, operating revenues of JPY 50.6 billion, net income of JPY 19.9 billion and DPU of JPY 2,465. Let me now explain our outlook on revenues and expenses. Number one, real estate rental revenues are expected to increase by 3.7% over the next year, up to 2 fiscal periods ahead, of which 1.8% is from asset replacements and 1.9% is from existing properties. Number two, operating expenses are expected to reflect approximately 2% annual increases in building management expenses for existing properties as well as higher taxes and depreciation associated with property acquisitions. Number three, interest expenses are based on an assumed average borrowing rate of 1.5% for the 50th and 51st periods. I will elaborate further on our interest rate outlook shortly. Please turn to Page 9 regarding internal growth. The graph in the upper right shows the current status of rent increase negotiations. At present, rent increases have been agreed for approximately 74% of the renewals and nearly 90% by leased area, indicating steady expansion in rent increases. We will continue negotiations to further raise the ratio of rent increases as well as the extent of each rent increase. Looking at the lower section, the number of free rent months continues to trend at around 3 months. The rent gap has been widening due to rising market rents, increasing from 8.1% in the 48th period to 12.5% in the 49th period. Please turn to Page 10 for external growth. We have summarized key indicators for the asset replacements with our sponsor and other parties that were announced from the 49th period onward. Through this series of asset replacements, we will expand AUM, improve the amount and yield of NOI as well as the yield after depreciation and make the portfolio younger. In addition, we will book total disposal gains of JPY 5.3 billion from the 2 disposed properties in the 50th and 51st periods. Page 11 covers financing. As of the end of the 49th period, LTV was 43.3%. The long-term fixed interest ratio was 83.9%. The average borrowing rate was 0.67% and the average remaining maturity was 5 years. In addition, following the public offering in January, LTV is expected to remain at 43.2%, broadly at the same level as the end of the fiscal period. Regarding the interest rate outlook, while the rise in rates is as expected, we recognize that the pace of the rise in long-term interest rates to date has been somewhat faster than anticipated. Concerns such as financial deterioration have been raised and the market is in a state that can hardly be described as stable. Under such uncertain conditions, NBF's policy is to respond by utilizing floating rate borrowings as well as fixed rate borrowings with adjusted maturities. As explained previously, we will not be bound by our traditional policy of maintaining a long-term fixed interest ratio of 80% or higher. And until the market regains stability, we will respond flexibly, allowing the ratio to move into the 70% range if necessary. In this earnings forecast, as also shown on the next page, in the most recent 49th period, we raised JPY 74 billion with 10-year terms at 1.3%. For the 50th and 51st periods, we assume an average borrowing rate of 1.5%. And for reference purposes, we assume 1.75% for the 52nd period. Next, please turn to Page 14. Please look at the graph on the left, which shows EPU and DPU through the 52nd period. First, regarding the completed 49th period, EPU was JPY 2,231, JPY 31 higher due to rents increasing more than expected and expenses decreasing. For the 50th period, EPU is expected to decline temporarily because as explained at the time of the public offering, the rental income contribution from the properties to be acquired, including Nihonbashi Honcho M-SQUARE will materialize from the 51st period onward. In addition, in the 50th period, as we will book JPY 5.1 billion in gain from the disposal of the Sumitomo Densetsu Building, DPU is expected to increase JPY 6 from the previous period to JPY 2,460. We are expecting steady growth in EPU in the 51st period onward. And for your reference, in the 52nd period, EPU is projected to be JPY 2,298 and DPU is projected to be JPY 2,528. With respect to the reference DPU figure for the 52nd period, we have revised it upward by JPY 25 from what we announced at the time of the January public offering. This reflects the fact that while we have raised our interest rate assumption from 1.5% to 1.75%, as mentioned earlier, we have also reviewed other expense items in detail. As a result, from the 49th to the 52nd period, EPU is projected to increase by JPY 67, representing 3.0% growth over 3 periods and an average annual growth rate of 2.0%. Next, please see the graph on the right, which shows the trend in retained earnings. In the 50th period, we will allocate a portion of disposal gains to retained earnings and retained earnings are expected to remain at a high level. NBF's policy is, in principle, to distribute 110% EPU by utilizing disposal gains generated through strategic asset replacements and retained earnings, and we will continue to achieve sustainable DPU growth going forward. Please turn to Page 16. Regarding ESG, in the 2025 GRESB assessment, we maintained the highest level of ratings, received a 5-star rating in the real estate assessment and an A level rating in the disclosure assessment. In addition, LED lighting conversion across the portfolio has progressed to 73% as of the 49th period, and we expect to go above 80% within 1 year. Please see our website for details. In closing, NBF rental income continues to rise steadily. While there are concerns about interest rate hikes going forward, if the increase remains within the level assumed, our top line growth will be sufficient to absorb the increase in interest costs, and we will firmly achieve EPU growth through internal growth. We will also seize opportunities for external growth that contribute to improving the profitability and quality of our portfolio as a means to accelerate EPU growth. We will continue to accelerate the pace of both internal and external growth, striving toward our target of achieving annual EPU and DPU growth of 3% or more. That concludes my presentation. Thank you very much for your attention. [Statements in English on this transcript were spoken by an interpreter present on the live call.]