Region Group (RGN) Earnings Call Transcript & Summary

Thank you very much, and welcome to the FY '25 results for Region Group. My name is Anthony Mellowes, I'm the CEO, and presenting these results with me today is David Salmon, our CFO. And also in the room with me is Erica Rees, our Chief Operating Officer. Really pleased with this set of results as we're now back to earnings growth in a sector that has a really positive outlook for valuation upside. First, let me take you to Slide 4, which sets out the FY '25 highlights. Our funds from operations, or FFO, was $0.155 per security. Our adjusted funds from operations, or AFFO, was $0.137 per security. Our distribution was also $0.137 per security. Our statutory net profit after tax was $213 million. Our operational metrics remained resilient. Our comparable MAT growth was in excess of 3%. Our average annual specialty fixed rent reviews are now up to 4.3% per annum, and our average specialty leasing spreads were 3.7%. Finally, our comparable NOI growth was 3.2%. With respect to capital management, our average cap rate has firmed by 10 basis points to 5.97%, and we've also commenced an on-market security buyback program. Our NTA per security has increased to $2.47 off the back of valuation growth. And our, our weighted average cost of debt remains steady at 4.3% with high hedging levels for the next few years. Slide 5 remains unchanged. Our strategy is to provide defensive, resilient cash flows to support secure and growing long-term distributions to our security holders. Moving on to Slide 7. Our operational performance, which starts on Slide 7. We have a strong weighting towards those nondiscretionary food, health and retail services tenants. 46% of our gross rent is attributable to our anchor tenants and 54% of our gross rent is to specialties and mini majors with a key focus on food and liquor, retail services and pharmacy and healthcare. We have 87 centers that are 100% owned by region, which are geographically diversified across Australia. Moving to Slide 8. We continue to have consistent and resilient sales growth across our nondiscretionary tenants. Our 3.1% comparable MAT growth is driven by supermarkets at 3.3%. Discount department stores at 3.4%, mini majors at 1.8%, nondiscretionary specialties at 3.7% and our discretionary specialty tenants just slightly negative. Our specialty sales productivity is now just over $10,000 a square meter. And as with the majority of the market, we have now excluded tobacco sales from all of our figures. Moving to Slide 9. We continue to capital partner with our anchor tenants to drive sales turnover with over 55% of our supermarkets generating turnover rent. We have 123 anchor tenants contributing 46% of our gross rent. We now have 76 direct-to-boot and e-commerce facilities. As I said, the 3.3% supermarket comparable MAT growth has generated $7.5 million of turnover rent from 54 anchor tenants with a further 13 anchor tenants within 10% of that turnover rent threshold. Slide 10 shows our leasing activity that has driven higher occupancy and higher annual fixed rent reviews. 97.5% of the portfolio is occupied with 81% of expiring tenants retained, which helps to minimize leasing capital expenditure and downtime. The portfolio WALE decreased slightly by 0.2 years to 4.9 years. Our average specialty growth rent has increased from $880 a square meter to $919 a square meter, with an annualized growth of 5% since FY '22. We have an average of 4.3% fixed rent reviews, which is applied across 94% of our specialty and mini major tenants. And this has been a really important area of focus for region over the last 3 to 4 years. We've increased this figure from 3.8% to 4.3%, and this affects 80% of our specialty leases every year. Slide 11. We are proactively remixing and constantly remixing to secure quality everyday essential tenants. We completed 372 deals at an average leasing spread of 3.7% with strong performance from new leases, which increased by 6.1%. Our second half year leasing spreads increased from 2.1% in the first half to over 4% in the second half. 70% of the Mosaic brand GLA now has a signed offer or is being temporary casually leased or is strategically held. Leasing incentives on new deals is just over 11 months, although it has been a slight increase, it is still below the 12-month or 20% for an average 5-year lease term that is applicable for our industry. On to Slide 12. We continue to progress towards our sustainability target, which is spelt out in our annual sustainability report, which was also released today. Key focus has been on environmental, which is progressing with our solar rollout with 21.7 megawatts of solar PV across 33 sites installed and operational. In social, we continue to make a really positive impact in the communities that we operate in and have undertaken a number of community initiatives, including the Hope in a Suitcase, which helped raise awareness and collect donations across 13 of our centers to provide children entering foster care with essential items. And finally, governments, our alignment to the ASRS is on track for FY '27 reporting and our tendering process for new national contracts included modern slavery risk assessment and protections. I'll now hand over to David, who will talk through our financial performance.

Thanks, Anthony, and good morning, everyone. I'll start on Slide 14, where we highlight the key drivers of the movement in our funds from operations, which returned to growth in FY '25. Our FFO for FY '25 was $0.155 per security, in line with guidance and representing a growth of 0.6% over FY '24. There were positive contributions from the comparable portfolio NOI growing by 3.2%, the impact of our transactional activity and the establishment of the Metro Fund 2. The FFO growth was offset by the previously flagged short-term impact of our center repositioning projects and the normalization of our corporate-related expenses. During the year, we also raised a provision for unpaid rent related to two national tenants that entered administration during the period. Moving to Slide 15. We'll provide a bit more color on our financial results for the half -- for the year. Our statutory profit for the year is $212.5 million. This compares to a $17.3 million profit in the prior year following an increase in the fair value of investment properties. As mentioned, our funds from operations were $0.155 per security. Our adjusted funds from operations came in at $0.137 per security and our distribution for the year represented a 100% payout ratio in line with guidance. Net operating income has grown by 1% with comparable growth of 3.2%, offset by the impact of net asset disposals, temporary downtime from center redevelopments and ECL impacts. Our interest expense has now stabilized with a weighted average cost of debt at 4.3%, consistent with the prior year. Our maintenance capital and leasing incentives are in line with long-run averages. On to Slide 16. As of 30 June 2025, our total assets under management was $5.2 billion. This is an 8.7% increase from 30 June 2024 and includes the Metro Fund 2 properties that we started to manage during the year. Our balance sheet remains healthy with gearing at 32.5%, which is at the lower end of our target range. This provides us with the capacity to deploy capital where opportunities arise. Our NTA has grown to $2.47 per security off the back of valuation growth during the year. Slide 17, show some further information around the changes in the valuation of our portfolio. During the year, our portfolio increased by $92 million. The movement was driven by acquisitions of $69 million and a 3.8% fair value increase of $165 million, including capital, partially offset by disposals of $142 million. Capitalization rates have firmed by 10 basis points since June 2024 to 5.97%. On to Slide 18, where we talk to our capital management position. During the year, we completed $1.4 billion of interest rate derivative transactions. We were 97% hedged during the year and are highly hedged in FY '26 and FY '27. Our average hedge rates over the next 3 years are below 3%. Our weighted average cost of debt was stable at 4.3%, which we expect to increase to 4.6% in FY '26. At year-end, we hold over $300 million in available liquidity and have no debt expiries until FY '27. I'll now hand back to Anthony to talk through our value creation opportunities.

Thanks very much, David. We are focused on improving the quality of our core portfolio. And during the year, we acquired Kallo Town Center, a neighborhood center anchored by Woolworths and strategically located in the growth corridor of the northern suburbs of Melbourne. We also divested 6 non-core centers and a Bunnings site for a total of $228 million of an average passing yield of 5.8%. Market continues to be liquid with cap rates firming and continued strong interest for these assets, from both private but also institutional investors. We continue to remain the largest owner of convenience-based retail centers, and we have a proven transactional track record. Moving to Slide 21. There continues to be excellent Australian supply-demand fundamentals, particularly in the retail sector that will benefit region. The outlook for new retail floor space continues to remain limited, with strong population growth, creating these strong fundamentals. There is a return of positive retail sentiment, and with the CapEx stabilizing, potentially even compressing further, the recent evidence suggesting impression with continued income growth providing support for further continued growing valuations. Slide 22 highlights the FY '25 actual and FY '26 indicative spend on our capital redeployment program. In FY '25, we spent $75 million. And in FY '26, we expect to spend around $50 million. We're targeting a completion near to between 6% and 10% and a 10-year IRR that is greater than our weighted average cost of capital. Our funds management platform on Slide 23. During the period, we did establish Metro Fund 2 which more than doubled our funds under management to in excess of $700 million, and there are additional investment opportunities that we are currently investigating with our partner during July 2025, the Metro Fund exchanged on the acquisition of Dalyellup Shopping Center in Western Australia for just under $36 million, and this center is anchored by Woolworths. David will now talk through our AFFO growth target.

To sustainably drive our medium- to longer-term earnings growth, we are focused on generating comparable NOI growth of at least 3%. Through our value creation initiatives, we aim to add another 1% to our growth rate. Our work in the capital management space to increase our hedging has indicated some of the short- to medium-term earnings volatility generated from interest rates with a longer-term impact dependent on market movements. Depending on all of this we are targeting medium-to longer-term growth in our FFO and AFFO of at least 3% to 4% per annum. Slide 26 provides a waterfall from FY '25 to FY '26 FFO guidance, which represents a growth of 2.6% from $0.155 per security to $0.159 per security. The FY '26 FFO guidance is underpinned by a 3.3% comparable NOI growth, accretive transactions and funds management activity. This is partially offset by an increase in the weighted average cost of debt from 4.3% to 4.6%. I'll now pass back to Anthony, who will talk to our key priorities and outlook.

Thanks, David. So, slide 27. We believe our nondiscretionary retail will continue to be resilient and will generate comp NOI growth through strong leasing, increased fixed rent reviews and continued proactive expense management. Our balance sheet is supported with growing valuations, which provides us with the opportunity to invest in our centers and be disciplined with acquisitions and explore additional funds management opportunities. We are maintaining a proactive approach to capital management, including a on-market security buyback, continued asset recycling and interest rate hedging. Assuming there are no changes in market conditions our FY '26 guidance for FFO is at least $0.159 per unit, and our AFFO is at least $0.14 per unit. And finally, I also announced my intention to retire at the end of May 2026. It's been a fantastic 13.5 years since we were demerged from Woolworths. I've really enjoyed my time. The portfolio is in great shape. Our earnings are growing, and we're in a sector that's in great demand. I really look forward to seeing a lot of you over the next couple of weeks. Thank you very much. And do we have any questions?

[Operator Instructions] And our first question for today will come from Cody Shield with UBS.

Anthony, congratulations on your tenure with Region and best wishes moving forward. Just on the property expense line item, it looks like that was 10% or so down from first half -- second half. There was also a bit of a lift in corporate expenses into the second half. Can you just run me through the drivers there?

David, do you want to answer that?

Yes, Cody, David here. So yes, we did have a reduction in property expenses in the second half. Look, broadly, the drivers there is we did have some cost savings initiatives that have started to kick in on our cleaning and security contract, procurement that we undertook earlier in the year. We've also we had a bit more waiting towards our R&M works in half 1, and that was a bit lower in half 2 as well. We had some electricity savings coming through from our solar projects kicking in as well. And there was just some operational general savings from the various headcount initiatives that we've also undertaken at the end of the first quarter as well. So they're broadly the key drivers there. I was going to say you also asked about the corporate expenses. Look, with corporate expenses are basically, its normalizing to back where we think they should be. We did have sort of some benefits in the prior year from our head office lease incentives that kept it lower than it would ordinarily have been. So the main driver of that coming back and the growth this year was that normalization of those costs.

That's clear. '26 guidance, I mean, 3.3% comparable NOI growth. Are you able to provide a feel for what you're kind of going to be seeing for the growth and expense moderate. What's the interplay there?

Yes, you're right. We are assuming 3.3% for FY '26. I mean broadly, we're assuming a 3% to 3.5% growth in expenses -- property expenses as part of that. Obviously, you get some things will be maybe a bit better than that or something might be a bit higher, but the weighted average is around that 3% to 3.5% zone. So -- and basically, the other part of the guidance, obviously, is our top line, which we're assuming will be growing about 4% to 4.5%.

Okay. Great. And one more on repositioning, if I may. So about $25 million for FY '26. Can we think about that as a run rate moving forward? Or just going to vary year by year?

Look, it's Anthony here. The $50 million is probably a bit normalized, and then we do have a bit lumpy when we do, do a specific development. So Delacombe was in FY '25. We don't have any specific development -- I'm talking normal-larger developments in FY '26 scheduled at stage. But we do have a number of developments that will come up over the next few years, such as North Orange in New South Wales, Green Bank in Queensland and Newcastle in Newcastle. So there's a number that are coming through. But that $50 million is probably pretty normalized, and we will certainly forecast when a bigger chunk is coming through developments.

And just to be clear, was there any impact from repositioning in '26 guidance?

Yes. Broadly, the repositioning projects, whilst we have had some income coming on board in '26 from those projects as they complete because we're starting some newer ones that saw some downtime. So it's largely -- it's largely a net zero on both of those kicking in and kicking out. I guess what you'll probably see is more of that benefit come through from those repositioning projects in FY '27 on the Region.

The next question will come from Adam West with JPMorgan.

Just a quick one for me. I'm just wondering, what were the spreads at the Mosaic leases?

Well, yes, the 3.7% for the year, excluding Mosaic leases was about 3.2%.

And I'm just wondering for the FY '26 guidance, have you guys factored in any credit losses or loss rent from the Mosaic leases in there?

Yes, we do have some lost rent on the Mosaic sites in FY '26.

There's loss rent and there's also some leasing capital.

That's exactly right. The loss rent and leasing capital, if you look at them combined, considering they all go into AFFO. It's roughly about $3.5 million worth which -- that's a bit of a tailwind to the extent that we obviously lease those sites up and -- but that probably won't come through until FY '27.

Next question will come from Howard Penny with Citi.

Just on operations and how you see those evolving. We've seen a lot of capital coming into the specific asset class and interest from both local and international investors. How do you see that evolving over the next 12 to 18 months?

Thanks, Howard. It was a bit hard to hear, but I think you said what's the demand from institutional investors and other investors for our sector and how is it evolving over the next 12 to 18 months? Look, there has been -- there has always been in this sector a lot of private demand. The average price of a convenience-based retail shopping center is in that sort of sub-$50 million. So there's always been a lot of demand there from private. That continues. Where we're seeing a bit more demand from institutional investors is when assets get up a little bit higher, north of $50 million into -- closer to the $100 million or north of $100 million. You're seeing more institutional investors and that is Charter Hall announced a new fund that they're looking to pursue those types of assets. So I think a lot of people, even our venture partner, who's been on this journey for a number of years, they like the nondiscretionary, it's very resilient. And yes, 50% of the income is often from [indiscernible] and Coles. So it's very, very secure. And a lot of institutional investors do like that. So there's good cash flows coming through. Incentives, sort of 20%. So they're not highly volatile incentives. So I think there's a lot to be said for this sector. And I think that's why a lot of people -- there's always the privates, but you're seeing a greater influx of institutional investors looking at this sector. Their biggest issue is their smaller dollar value. So you need to get a number of them to outlay significant sums of money.

And then just on cost of debt. For FY '26, your weighted average cost of debt of 4.6%. Would you say that, that's the peak climax cost you're expecting for the next few years?

Howard, it's David. Yes. Look, what we're trying to highlight in the slides is we have got hedge rates of sub-3% for the next 3 years. And we think that does add a bit of stability to the overall cost of debt during that period. And on the assumption we can maintain our borrowing margins, which we expect to do so. So look, we see in the medium term, there's some stability in our cost of debt. When you get right out past that, obviously, there's a lot of market movements that have to get factored in. But in the short to medium term, we think there's -- that cost of debt is fairly stable.

The next question will come from Simon Chan with Morgan Stanley.

Metro Fund, can you give me some more insight into that one. It looks like you've void some capital for the first time in several years. What's the capacity there? And how big is the Fund 1 and Fund 2 in totality get to?

Yes. I'll just correct you. I wouldn't say it's been several years, Simon, because I think we've only been with them for about 4 or 5 years. So -- but certainly, they've been quiet over the last couple of years with interest rates going up because they do look at it in an after debt position. They are a very good partner to have. They like the sector. So -- it's their preferred retail sector, they tell us. So I think we're going to continue to see opportunities with them. And I'm quite excited. We bought Dalyellup just recently with our partner. So that's very encouraging, and we're looking at a number of other opportunities with them. So look, I see nothing but a positive outlook for them, just like many other institutions are looking at this space.

In terms of the size and scalability, et cetra can you make any comments on that? I think you've mentioned that $700 million are coming at the moment, but what could it get to on the platform?

Look our initial scale was $750 million, and we're basically there now. And I think we will be working with our partners to -- I think it really comes down to what's their allocation to this sector. We look at assets on a single asset basis to see whether it generates the appropriate returns for them and that they are very happy with this sector and want to allocate more to it. And so we're not talking about reducing -- but I can't tell you whether it's $1 million, $2 million, $3 million, $4 million, $5 million, I don't know.

Next question for David. I just want to clarify one of the answer you gave to a previous chat question. So [indiscernible] development center repositioning expense and that's cost you about $0.02 FFO in FY '25. You mentioned that, that won't be coming back in '26. Is that correct? Because what comes in will also go out. Like there'll be even money, I guess, of NOI coming back and then you're losing NOI to the new tenant -- new project. [indiscernible] coming back [indiscernible] actually finished for that $0.02 to actually come back.

Yes. Look, I mean broadly, what we were saying in FY '26 is, yes, we do have some income starting to come online from some of the completed Region projects or as we're still doing some leasing up on those projects, but that will come online during FY '26. We're also commencing our next tranche of Region projects, which will have downtime. So broadly in FY '26, they were roughly offsetting each other. So that's why we haven't called it out specifically on the chart there.

So now the temporary positioning as a permanent feature for Region Group? Or do you think because like Anthony said, in his presentation about how pricing opportunities are coming back, because we had them say, well, it's probably easier than just focus on acquisitions and buy stuff that's immediately accretive rather than repositioning?

Look, I think there's three, how I view it. It's a whole capital allocation. We don't just focus on one area we focus on, which is going to give us the best return. Whether that's acquisitions, whether that's a bit of center repositioning, whether that's larger retail developments, whether that's the buyback. It all depends on which is the best at a point in time, and that's what we will be focusing on. You'll see our, as I said, the actual developments have come off this year, which was Delacombe that's come off, and we've roughly got about the same going forward on our repositioning. I think that -- and we do get a return on that. So that is going to continue to be there, as David talked about. But yes, I think that we look at all of them at a point in time when we make the decision to commit as a whole capital management, what's the best use of that capital at any particular point in time.

Next question will come from Murray Connellan with Moelis Australia.

Anthony, congratulations on your retirement and on a great career. I was hoping to just touch on the Mosaic brand spread again, please. You've obviously spoken to that $3.5 million headwind into this year. But what is your -- what's your expectation on how long it takes to get that fully leased up again? And could you maybe give us a little more color on what sort of spreads you're seeing there, specifically, please?

Yes. Look, I'll give it a go first. Look, I think we've got roughly 70% done. Now I think it's probably about 55% of longer-term leases locked in on that. So we've got a little bit of work to do there. The issue that hurts us in this year is more about the leasing incentive because that's normally about it. At least 12 months, that tend to be bigger areas -- that we have to do. And so some of the leasing incentives go up. So that's where that $3.5 million. There's a bit of lost rent and leasing incentives in there, whereas in this year, FY '26, there was no leasing incentive, really, it was just all lost rent predominantly. So that's where we're sort of looking at. I think, look, going forward, I'd like to -- we've got good runners on the majority. We're at 70%. I think by the end of the year, end of FY '26, I think we'll be well done. There will always be some that we haven't quite got away, but I'm pretty confident the vast majority will be done by that date. But we always -- we treat it now as we're not looking at Mosaic. It's just as part of the normal -- leasing -- re-leasing of vacant shops that we have. It's just fallen into the normal. It will come into comp going forward. That's what it is, and that's how we treat it. And our focus is to reduce our vacancies.

And then Anthony, just you've spoken about the direct market a little bit, but can we just get your thoughts on, I guess, what the upside is to be deploying on balance at the moment? And just how, I guess, easier or difficult it is, how much you're seeing on the market at the moment that you like? And I guess what your what your appetite is for gearing at the moment?

Yes. Look, we're in a situation at the moment. There's a lot of people in demand. There's a lot of demand. Quite a few of the owners basically also sit there and say, "Well, I don't want to sell because of demand, so if people want them, we're happy to keep them because we have a very high proportion of private ownership in this sector. So that's the first thing. For us, there's a lot that we could buy. I can -- it's actually pretty easy to buy, you pay $1 more than the next person is prepared to do. But if the trick is buying well, and for us, we're very disciplined. We look at what we can afford, what our cost of capital is, what the returns are, what the growth profile is. So we look at a lot of factors there. In terms of our balance sheet, David, gearing whether you want to...

Yes. Look, gearing is at 32.5%. Look we're at the lower end of our target range for the right opportunity, we would definitely consider whether we wanted to increase that gearing. Obviously, we've got plenty of capacity within our covenants and things like that. We've got headroom in our credit ratings and things like that as well. So -- but it all comes down to the right opportunity and yields and that IRR that long-term IRR, whether that ticks all the hurdles that we set for ourselves.

And the buyback obviously.

That's right. We also can deploy capital into the security buyback that we -- that is currently underway for us. And also -- look, I was just trying to say, obviously, our gearing is supported by strong valuation environment as well. Obviously, cap rates have started to tighten and there definitely appears to be a momentum for asset values going to the rest of the year.

Based on what you're seeing at the moment, would you expect much more cap rate tightness to come through in FY '26?

Look, I think -- look, it's hard to look to FY '26. But certainly, looking at what happened recently and focusing on December, I expect cap rates to continue to compress, while we also have good income growth of our assets. So I see continued valuation growth, which is a real positive. And I think with a lot of investors that are excited about this sector. I think it means cap rates are compressing tighter than probably where I would have thought 3 months ago. So I'm quite -- I've got a really good outlook of our sector going forward.

Next question will come from Callum Bramah with Macquarie.

I just had a question around cash flow. I was just having a look through and it looks as though in the second half of the year, your operating cash flow dropped quite a bit. Are you able to just talk me through the drivers of that?

Yes. Look, there's -- I guess there's broadly a few things there. There's -- we had some project costs and like our systems and technology costs that have -- which don't form part of our FFO, but is a cash outflow that we've incurred as a business. We also had some restructuring costs, that I was referring to a few months ago that goes on operating cash flow, which doesn't go through our FFO. And also, I guess, its just timing of collection of cash receipts essentially. We had probably a bit more accrued income at the end of June. In the past, there was a lot there was a lot of percent rent that came through, which obviously we haven't collected yet. We accrued for a lot of that because it's build later, but we have a very strong quarter from a sales point of view, and that's reflected in some high percent rent accruals as well. So that's broadly the three buckets.

And I just wanted to follow on, I guess, some of your earlier comments, Anthony, just around that sort of value creation. I guess the increased competition in the sector. Do you think looking forward, it's going to become harder to generate that 1% of incremental growth from those value creation strategies or you do think -- still think there's some sufficient opportunities? And I know you've made some comments around this already, but I guess just trying to understand your thinking around the buyback as well as some of those value creation strategies, capacity on the balance sheet to do them as well?

Yes. Look, the balance sheet is in a great position to do that, so we don't have a constraint there. It really comes down to what those opportunities are. We -- I don't think you're going to find and we have never been one that's going to win in a straight auction campaign. We win by generally having off-market opportunities and pursuing those and funding those. And I think that's going to continue on the acquisition side. We're also progressing quite aggressively a couple of the development opportunities that we spoke about, and I think they'll start to roll out in the second half next year, probably more for the beginning of FY '27. So there's developments there. But look, in the buyback, I think we if our NTA is up to $2.47, I think, now. So we will continue to look at the buyback. And I think our NTA will continue to grow based on where the market is at the moment. So I'm quite positive about that. So there's a number of different avenues there from those growth drivers to achieve that 1%.

Just about -- you gave the guide, I think it was 6% to 10% yield on completion. Is that a range across the projects or a range within...

Range across all the projects. We have some of our solar and embedded networks have very high returns, others lower return. So that's not an average of 6% to 10%, that is just depends on the mix as it comes through.

What sort of return should we expect, I guess, out of that $50 million if you weighted it?

Look, the high returning ones, solar have sort of coming to an end, as we've outlined in our sustainability report. We're sort of at the and end and we're doing a lot more smaller solar projects as opposed to the bigger and embedded networks. So overall, it's going to be more at the bottom end as opposed to the top end of that range.

There are no further questions at this time. I will now hand the call back to Mr. Mellowes for closing remarks. Please go ahead.

Thank you all. I know it's been a very busy day for you all. I hope everyone can get through everything and look forward to seeing you all on our road shows over the next couple of weeks. Thanks very much, and you'll still hear from me in February. But thanks very much and speak soon.