Rural Funds Group (RFF) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and thank you for standing by. Further to the disclosures lodged on the Australian Securities Exchange this morning, welcome to the Rural Funds Group Financial Results Presentation for the Full Year Ended 30 June 2021. My name is James Powell. And also presenting today is David Bryant, Managing Director; Tim Sheridan, Chief Operating Officer; and Daniel Yap, Chief Financial Officer. [Operator Instructions] Please also be advised that the webinar, including Q&A, will be recorded. I will now hand over to the first speaker, Tim Sheridan.

Thanks, James, and good morning, everybody, and thanks for your attendance. I'll commence today's presentation with an overview of the FY '21 financial results. The first page of the presentation -- the first page of this section details the income, earnings and balance sheet metrics for the group at the end of 30 June. Firstly, income and earnings metrics as presented in the top right-hand side of this page. Consistent with prior forecast, RFF recorded lower property income in FY '21 compared to FY '20. This is primarily as a result of selling the poultry assets and the Mooral almond orchard in prior years. Capital from the sale of these assets has been redeployed into macadamia development assets which are expected to add materially to property income in future years. This will be discussed later in the presentation by David. Offsetting the reduction in income was revenue earned on the acquisitions, development capital expenditure, the increase in the J&F guarantee from $82.5 million to $100 million and lease indexation mechanisms. Despite lower property revenue, total comprehensive income and earnings were approximately double of what was generated during the prior year or $0.365 per unit (sic) [ $0.366 per unit ]. The higher earnings was driven primarily by independent valuations, which were arranged for 3/4 of the assets in FY '21. Adjusted funds from operations, the net cash generated by RFF, was $0.119 per unit, slightly ahead of the prior forecast of $0.117 per unit. Distributions of $0.1128 per unit were paid during the year, which was in line with prior forecasts. Next, I'll look at the balance sheet metrics as presented in the table on the bottom left-hand side of this page. Included in this table are pro forma figures following the entitlement offer completed shortly after 30 June this year. I'll refer to the pro forma figures being the more current metrics for investors. Adjusted total assets of the Rural Funds Group are now $1.2 billion. As a result of these adjustments, we recognize the water entitlements at their independent valuations. External borrowings are $290 million and gearing is 25%. This is well below the target gearing range of 30% to 35%. And therefore, the group has balance sheet capacity which can be deployed on acquisitions and development capital expenditure. Again, David will talk further to these strategies later in the presentation. Finally, on this slide, the net adjusted value has increased by 13% to $2.20 per unit. Similar to total comprehensive income and earnings, the net asset value has increased following the independent valuations, details of which are presented on the next slide. The graph on the right-hand side of this page details movements to adjusted property assets grouped by agriculture sector. The group started FY '21 with $997 million of adjusted property assets. In December, the Mooral almond orchard was sold, as shown by the green bar on the graph, and valuations were received for the remainder of the almond orchards during the period with a combined increase of $5 million. Cropping assets increased $65 million during the year from the acquisition of 21 sugarcane farms. These farms are currently being operated as sugarcane farms prior to their future conversion to macadamia orchards and, therefore, are classified as cropping assets. The cattle sector recorded a $63 million (sic) [ $62 million ] movement, including uplifts in valuations for the Natal aggregation, Cobungra, Mutton Hole and Oakland Park. Combined, these revaluations totaled $46 million and were driven by a combination of productivity developments and the buoyant market conditions. Drivers of higher property prices are high cattle beef prices, low interest rates and good seasonal conditions. Several properties have been acquired and are currently being developed to macadamia orchards which were recorded in the $48 million movement attributed to this sector. Other movements include increased valuations for RFS vineyards and unleased water entitlements. As a result of these movements, total adjusted property assets ended the period at over $1.1 billion, as shown on the bar on the far right of the chart. Introducing the capital management section of this presentation is a very recent picture of cattle grazing on improved pasture, a property in Central Queensland called Rewan. This property was also revalued during the year. Next slide, please. Considering now the capital management of RFF. The most significant event was the issue of $100 million of new equity, which was raised by an entitlement offer in July and August this year. The offer was conducted at a price of $2.47 per unit and was taken up by approximately half of existing investors. The remaining equity was raised from institutional investors who sub-underwrote the offer. The chart at the bottom of the page shows the total return for RFF investors from July 2014 to present compared to the ASX300 A-REIT index, a very pleasing result. In terms of the debt facility, the overall limit was increased to $380 million in FY '21, and RFM is currently arranging the refinance of a portion of this facility prior to its renewal date. RFF financiers continue to indicate their support for the ongoing growth of the fund and the facility. During the period, $60 million of new forward-dated interest rate hedges were entered into as RFM seeks to take advantage of low debt funding costs. The table on the next page considers the debt facility and the interest rate hedges in greater detail. Like previous pages, I'll refer to the pro forma metrics, which adjust for the recent equity raising. The cost of debt was 3.2% in FY '21 compared to 3.7% in FY '20. Please note, this calculation includes the cost of interest rate hedges. 64% of debt is hedged, and the facility has $94 million of headroom based on the current limit. I'll now hand over to David Bryant to provide a portfolio update, including areas of growth for RFF. Thank you.

Good morning, ladies and gentlemen. Before I move into the next section, the picture here is Rural cotton, which is in bales ready to go to the cotton gin. That photo was taken on Mayneland, one of RFF's properties. Mayneland's been undergoing development initiatives to improve its productivity. These developments include expansion of irrigated cropping areas and water storages. Actually, the picture on the front of the presentation is a picture of a full water storage on a property nearby, Lynora Downs, which is another cropping property owned by the fund. The development of these assets is an integral component of RFM's strategy of maximizing the value of RFF assets for RFF unitholders. So I'll now provide an update on the progress of this strategy with respect to macadamias. So as described in the first half of this presentation, RFF currently has balance sheet capacity, which is being directed towards macadamia orchard developments and the purchase of cattle and cropping properties. As you can see on the map on this page, RFF has acquired land and water sufficient for the development of 5,000 hectares of macadamia orchards over time. We now have over 100 hectares planted. There's 500 hectares that will be planted in the next 2 months. And by this time next year, 1,000 hectares will be planted. We are confident that by having the orchards planted before contracting lessees, we can achieve a higher rate of return for our unitholders. And this is for several reasons. First of all, a picture is worth a thousand words or seeing is believing, particularly for institutional investors that are unfamiliar with agriculture or investing in it for the first time. Secondly, by having the orchard planted, we're another year along the development time line. So the mathematics for the investment analysis is actually better. And then thirdly, and significantly, by having the orchard planted, we've removed risk. So over the next year, RFM will complete the initial development of 1,000 hectares and seek a long-term lessee on terms that are attractive to the unitholders of RFF. After allowing for this development expenditure, RFF has $100 million of capital that can be allocated to cattle and cropping acquisitions. RFM has already agreed terms with potential lessees for cattle acquisitions. And we are currently in an exclusive due diligence period for a sizable cattle property, a property that has potential for a substantial increase in carrying capacity. We've also identified opportunities in the cropping sector, similar to Mayneland and Lynora Downs, that are assets in growing regions with development potential. The next slide shows the financial return RFM has achieved on assets with these attributes, that is, the ability to convert to higher and better use or improve productivity. The case study on the right of this page highlights the productivity improvement strategy. We've used the property, Comanche, which is a 7,600-hectare cattle property that we acquired in July 2018. Since acquiring that property, we've installed center pivot irrigators, further watering points and improved pastures. Those developments have cost $3.3 million and has helped to increase the carrying capacity of that property by about 50%. By adding that carrying capacity, you're adding to the productivity of the farm, you're increasing the profits that the lessee can make from their cattle operations and, because the farmer is more profitable, it is more valuable. Through a combination of buying properties at a reasonable price and buying properties with unutilized natural resources and then improving them, we believe we can generate 15% internal rates of return on specific assets over a 10-year period. The strategy is similar for cropping properties, relatively small quantities of CapEx to fund relatively large increases in productivity. We've listed RFF cattle and cropping properties at the bottom of this table on the right of this page, which are undergoing this type of development. The case study on the left of this page is in relation to higher and better use development strategy and described to the Mooral property at Hillston that we acquired as lower-value cropping country and developed it to almonds and then sold it recently for $98 million. Again, this strategy generated a greater than 15% internal rate of return. This example is a direct parallel with what we are doing with macadamia developments, buying cattle and cropping properties and then redeveloping them to a higher-value crop. RFF has acquired $104 million of land and water suitable for macadamia plantings. At Maryborough, we have 5,000 hectares of variable land, half of it will go into macadamias, which will then fully commit the water entitlements we have there. The other areas will be utilized for other types of cropping. At Rockhampton, we have thousands of hectares of land, and we have acquired sufficient water to plant 2,500 hectares to macadamias as well as to support irrigated cattle. These acquisitions have been funded by the sale of the poultry assets in FY '20 and the Mooral almond orchard in FY '21. While the sale of these assets has led to a reduction in the AFFO in these years, RFM expects the AFFO to reset higher than previous levels as these assets are developed and leased. Furthermore, additional AFFO accretion is expected to be driven by new cattle and cropping assets acquired from balance sheet capacity. Despite the portfolio still undergoing this transition, RFM is pleased to confirm the FY '22 forecast distributions of $0.1173 per unit, representing 4% growth on FY '21. Moving now to the conclusion of this presentation. Fittingly, a picture of a mature asset of RFF, the Geier vineyard in the Barossa Valley. This vineyard was developed by RFM starting in 1999. And it's, for well over a decade, been producing high-quality grapes, supplying Treasury Wine Estates premium labels. I'll now hand over to James to conclude today's presentation, and then we can commence Q&A. Thank you.

Thank you, David, as noted, will shortly commence with the Q&A. [Operator Instructions] However, now just moving to the conclusion slide. In summary, the presentation today has shown that the Rural Funds Group is poised for additional growth. And specifically, RFM will be continuing the proven strategies of converting assets to higher and better use and seeking acquisitions with productivity development potential, both of these strategies seeking to increase AFFO. We have presented some investment, financial and portfolio highlights on the right-hand side of this page for you to review at your convenience. And note that in the appendices, there is more information on the financials as well as the portfolio itself. This concludes the formal component of today's presentation. We'll now just pause for a moment to give attendees the opportunity to type questions into the questions field, and we will be back with you shortly.

It's David Bryant speaking. We've got a question here regarding asset valuations. It's a question regarding the names of the valuation companies and how many years they've been valuing them. I'll actually hand over to Tim Sheridan who rather than provide you an extensive list of the valuers -- I'll probably just address that, first of all, and that is that we use national valuation firms. And we have a policy where we cycle through valuers after a period of years. And Tim will answer how many years that is. And before I hand over to him, another part of this question is will future dividends continue to be paid out of annual income. Yes, that is the case. Although you might have seen in the presentation, we're forecasting that our payout ratio will go to 101% this year. We see that as a transitory thing as we increase funds from operations, as we enter into new leases both from macadamias and these expected cattle and cropping acquisitions. And so we don't expect a further increase in payout ratio beyond that. And now, Tim, I'll just ask you to address the valuation policy.