Sirius Real Estate Limited (SRE) Earnings Call Transcript & Summary

Good morning, everybody, and welcome to this morning's presentation of Sirius Real Estate's interim results for the period ending 30th of September 2021. My name is Andrew Coombs. I'm the Chief Executive Officer for the Sirius Group, and I'm joined this morning by Alistair Marks, who is the Chief Financial Officer of the group, together with Diarmuid Kelly, our Group FD. Together, we will take you through this morning's presentation. Before we do that, maybe I can explain that we have today, made an announcement about a U.K. acquisition and fundraising transaction, taking place today. And due to regulations, I am unable to comment further. However, once the acquisition is completed, later in November, we will be hosting a series of investor calls to ensure everybody has the opportunity of being fully informed about this transaction. So back to this morning's interim results, and let me start by reminding everyone that Sirius is currently, an extremely resilient business in a very-resilient asset class, namely, mixed-use light industrial. We are the leading operator in the niche market of out-of-town, mixed-use light-industrial property, in which Sirius owns and operates EUR 1.8 billion of property assets. Sirius is an on-balance sheet play. We are not a REIT, and we're therefore able to reinvest 1/3 of our earnings back into our properties while still paying out the remaining 2/3 as a very well-covered and extremely reliable dividend. If we turn to Page 3, you can also see that Sirius is listed on the main markets of the London and Johannesburg Stock Exchange. And in the case of London, is a constituent of the FTSE 250. We have a fully-integrated operating platform of over 270 employees in 70 different locations. And if you go to Page 4, you will see that at present, the company operates in Germany, which has a very evenly spread economy across several large, autonomous geographical markets. Furthermore, that economy is well diversified by industry sector and is made up predominantly, of the Mittelstand, the German SME market. And as I'm sure you're all aware, a high percentage of the German population has now been fully vaccinated, and the country is fast returning to normality. But on to Page 5 and the results for the period. I'm delighted to tell you that we are this morning, reporting profit before tax of EUR 78.2 million, which is just over 25% up on the same period, previous year. We have grown our net asset value per share to just over EUR 0.92, which is just under 5% increase. And very importantly, we are talking to you this morning, about a 7.5% total accounting return for the 6-month period. This is very important to us because for the last 6 years, we have returned an average of 15% or more total shareholder return. And as you can see from today's results, we are in good shape to be able to exceed that again this year. I'm also pleased to tell you that Sirius has returned to acquisitive growth. After pausing acquisitions during COVID, I'm delighted to tell you that in the period to the 30th of September, we notarized or completed just over EUR 153 million of new acquisitions. 3 of those acquisitions, amounting to EUR 45 million, completed last week, and 2 others, over housing and [ Hallinan ] House, totaling EUR 45 million, are due to complete at the beginning of December. Alistair was also successful in getting one of first corporate bond in June for an amount of EUR 400 million and an interest rate that enabled us to lower our weighted average cost of debt from 1.5% down to 1.2%. Very importantly, that left us at the end of the period with EUR 944 million of unencumbered property. And as you can see, with the acquisitions I've just spoken about, that would take us to EUR 1.1 billion of unencumbered property. This will give us a great deal of flexibility in our business, including more flexibility to recycle assets in H1 of next year. So those are the highlights. Maybe I can hand over to Alistair, who can take you through the income statement in a little more detail.

Thank you, Andrew. So on Page 6 of the presentation, you will see our income statement. And I think, the first key number on there is the EUR 78.2 million profit number, which Andrew mentioned. That would have been EUR 85 million, had it not been for the EUR 7 million of adjusting items. They, predominantly, relate to repaying around about EUR 170 million of debt, which we used some of the bond proceeds to actually do, during the period. So again, it's probably one of the highest 6-month period report -- profit reported that we've incurred in the history of this business. And whilst that does have around about EUR 51 million net gains on the valuation, that's net of about EUR 9 million of CapEx, the real driver, we believe, has been the FFO, which has now increased about EUR 33 million for the first 6 months. The main driver of that FFO is the rental growth. So you've seen, we've had about EUR 3.7 million increase on the rental income in the period, just over 8%. That is, predominantly, coming from organic growth. So we saw about 5.1% increase in the like-for-like rents for the second half of last year. We've seen about 2.5% for the first 6 months of this year, that is the main driver of the increase in the rental growth. And that has transpired to about a 16.3% increase in our EBITDA, and that's about EUR 5.5 million. I can say, about EUR 1 million of that has come from acquisitions, and the rest is being driven by organic growth, starting from the top line, feeding through to better service charge recoveries, plus a bit of extra income from our Titanium joint venture with AXA. So the main driver of EBITDA growth has actually been organic growth. That comes down to about 13.4% increase in FFO because we have had a bit of extra interest in the first 6 months, partly because we had a shorter period of double interest from the bond as well as the debt that was actually repaid. But also, as I've mentioned to you last time, there's been some changes in tax laws, and that's resulted in us restructuring a little bit, but our tax bill on income, going forward, will increase from about EUR 1 million a year to around about EUR 3.5 million a year, which we believe is very, very manageable. But you can see that coming through, which is why the FFO accretion is slightly lower than at the EBITDA level. If you flip to Page 7, you can see on a per share basis, what that transpires to. And I think the key thing to note here, is that FFO per share is now up to EUR 0.0314 in the first 6 months. So we're running at the early 6s as far as on an annualized basis, and that has resulted in our dividend cracking the EUR 0.02 for the first time. So EUR 0.0204 is what we will pay as a dividend, compared to EUR 0.0182 last year. So about a 12.1% increase in the dividend, compared to the first 6 months of last year. And that's -- and both of those dividends are based on 65% of FFO. Flipping over to the balance sheet on Page 8. You can see the key drivers in the NAV per share increasing up to close to EUR 0.93 or adjusted NAV per share, which we think is the more relevant number, increasing to close to 99%, has been the increase in the property values. And that is in the tune of about EUR 81 million for the period. EUR 62 million of that has come from valuation increases, which we will talk about in more detail, in this presentation, but about EUR 20 million of the EUR 150 million acquisitions completed in the period. So the bulk of the EUR 81 million increase in property, is coming from valuation gains. We have, however, paid for about EUR 75 million of the noncompleted acquisitions, which you can see in the other receivables line, which means we've only got about EUR 55 million of cash left to pay to complete those EUR 155 million of acquisitions that we've mentioned before. And that's leaving around about EUR 187.6 million of cash that's still sitting on the balance sheet, which obviously, is a relevant number, when you consider how we're going to fund this acquisition that we will talk about, later today. The debt has increased a bit. It's effectively the net of the EUR 400 million new bond, less the EUR 170 million of debt that we actually repaid in the period, and that's transpiring to about a 37% net LTV that we will report in the period. Flipping over to Page 9, as far as NAV per share is concerned, I think the key things to note here, as we usually highlight, is what -- from a profit perspective and an increase in perspective that's contributed to the year. So Andrew mentioned a 7.5% increase in total shareholder return. If you look at the EUR 0.0289 per share that's coming from recurring profit, and the EUR 0.0486 per share that's coming from the increase from property gains, reflecting in the NAV, that's 8.3%, not 7.5%. So the only reason we're reporting 7.5%, rather than 8.3% in the first half, is because of those costs to repay that EUR 170 million of debt, when we got the bond proceeds. So from an operating performance point of view, the actual total shareholder return was more like 8.3% in the first 6 months. And on that note, I'll pass back to Andrew to talk about the ESG situation.

Thank you, Alistair. So we continue to develop our model for carbon emissions reduction. And we are determined that this will be based on good, solid analysis, which we are undergoing at the moment, and we started nearly a year ago. The results and targets will be published in our annual results in June of next year. And they will be based upon a time frame that is financially and sustainably viable. Meanwhile, we continue to take a range of tactical actions, including the delivery of energy from 100% renewable sources as well as focus on some of our biodiversity initiatives. We've also managed to maintain ratings, in terms of MSCI, Sustainalytics and GRESB, in terms of the public disclosures we make and the ratings those organizations give against our ESG initiatives. And we recognize, we can do more. This is a journey, and it's a journey, whereby we need to continue to challenge ourselves, but to do so within a time frame that is financially and sustainably viable. And we will provide more detailed reporting at the full year, in June of 2022. We can go across the page, to Page 11. What you can see here is our like-for-like rent roll, has increased by 2.5% in the 6-month period. That has been largely due to the increase in like-for-like rents per square meter, whereby we've moved from EUR 6.17 to EUR 6.33. And you can see that our new letting rate per square meter of EUR 6.69 versus the rate at which people are moving out at, EUR 6.43, is going to produce further growth, going forward. If we go across to Page 12, you can see how the rent roll has grown over the period. Starting in March '21 at EUR 96.5 million and finishing 30th of September at EUR 99.7 million. You can see, within that, are just under EUR 6 million of move-outs, but you can see, both the move-ins and the CapEx-assisted move-ins amount to just under EUR 7 million. If you then put the EUR 1.3 million of uplifts that we get in the rent roll, together with the acquisitions, that's how we get to the EUR 99.7 million. If you go across to Page 17 -- sorry, Page 13, we look at acquisitions. The line I would like you to focus on, is the total with EUR 153.4 million total investment on 254,000 square meters. The EPRA net initial yield, in the right-hand column, at 4.9%, potentially, doesn't really tell the story. The way we look at this story, is between the annualized EUR 10.2 million of rent and the annualized NOI of EUR 7.5 million. So the first thing we see on the EUR 10.2 million as against the EUR 153 million, is actually, we've got a 6.7% gross yield. And that's relevant because the difference between the 10.2 and the 7.5 represents colossally-beautiful leakage. We love colossally-beautiful leakage, because we can close it down. So there's a double opportunity here. It's the journey from the 7.5 NOI up to about 9.5 NOI, closing that leakage down, and it's the journey from the 68% occupancy up to 85% occupancy. So we can make two things happen. We can improve the occupancy, quite substantially. And in doing so, we can also close down the gross-to-net leakage, which is exactly why we've gone out and bought these properties because we think they blend to a good mix of gross-to-net improvement as well as occupancy improvement. If I can now hand over to Alistair, who's going to take you through the valuation movement.

So Page 14 and 15 will cover the valuations in this deck. If we start with Page 14, you can see on the top table there, the EUR 62 million increase in valuations, which I referred to before. The good news is that more than half of that is coming from the like-for-like rent increases. So the 2.5% like-for-like rent increase for the period has contributed to just under EUR 34 million of increase in the valuation, and the 20 basis points yield compression has contributed about EUR 28.5 million. So more from rent than there is from yield. But if you look at where the yields have actually ended up at the end of September, we're still at a 7% gross yield and around about a 6.3% net yield, which we think whilst the market has actually, probably, come in again in the last 6 months, it's still higher than where we're seeing transactions occur in the period. So even at 7% gross yield, we think that is still relatively conservative to where the market is at the moment. If you flip to Page 15, you can see the movements we've seen in the period. And what I'd like to highlight here on the top two tables, which show the like-for-like movement in the portfolio, you can see the EUR 1.347 billion valuation in total, going up to EUR 1.409 billion, is 4.6% increase, both on the value add as well as the mature. Both asset classes have seen 4.6% increase in the valuation. Similarly, when you look at occupancy, both asset classes have seen occupancy fairly stable, 82% for the value-add, 95% for the mature. But the key thing is that in the pricing that we've seen, the pricing increases, partly due to the new lettings coming in at higher prices than before. But also the fact that we are actually investing quite substantially into space that's poor quality that we receive back and reletting it at higher prices. And you can see that coming through in those pricing increases. 2.8% increasing in pricing on the value-add portfolio, 2.2% increasing in pricing on the mature portfolio. Both portfolios, regardless of whether they mature, or whether they're in the value-add, have got increases, going forward. And that's the key thing, I'd like to highlight there. But if you look at where we are at the end of the period, so the third table shows the acquisitions, the 2 acquisitions we've completed in the period, I'd like to draw your attention to the vacancy. And you can see that those 2 acquisitions have added 23,000 square meters to the vacancy. So we're back up to 228,000 square meters of vacancy. 30,000 of that is going through the CapEx program, and there's another 34,000 is the space that I've just mentioned, the space that we've actually received back recently, which we're looking to upgrade and then relet at much higher prices. So whilst the occupancy is increasing, we're replenishing it constantly by buying assets with vacancy, but also, we're actually really identifying opportunities of poor quality space, we get back to upgrade it. And that's going to keep on fueling our growth, going forward. And if you flip over the page, you can see on that CapEx program, Page 16. So when we reported last time, there was about 15,500 square meters of space that hadn't been completed on this CapEx program. That's now up to 30,000. So the new acquisitions have added 18,000 of suboptimal space -- 18,000 square meters of suboptimal space to this program. And all we've done in the period, we've completed about 3,000 of the older space, and there's still about 30,000 still to come. But what you will see is that most of that 15,500 space that we started, we've commenced work on that. But because it is a relatively high investment, it will take probably, the rest of this year to complete that. But we are constantly topping up this CapEx program with acquisitions. And if you look at the other acquisitions that we haven't completed, there's about another 60,000 square meters of vacancy that will come with that. So again, more acquisitions with vacancy that will continue to top up this CapEx program. And on the vacant space that we've received back, there's about 34,000, as I mentioned to you. 34,000 square meters of suboptimal space that we've recently received back. We're looking to invest about EUR 7 million into that to get close to EUR 3 million more rent from that as well. So that is on top of what we reported on this slide on Page 16. And how that transpires to our FFO growth. If you move to Page 17. And I'm not sure if you remember last time we reported, but we showed what we thought we could achieve on the FFO for the next 2 to 3 years. And then, there was about -- on that other column on the right-hand side, at the start of this period, there was about EUR 17.3 million in that category. Now, there's EUR 7.3 million. The EUR 10 million difference between the change in that other bucket has come from the fact that we've done this bond and the fact that we'll have about EUR 200 million of cash more to invest in new acquisitions. So EUR 10 million of the EUR 17 million gap has been covered by the bond. You'll hear later on this afternoon that there is an acquisition that we will talk about, a corporate acquisition, which will plug more than what's left there. But a lot of that gap that we had at the start of the period, was dealt with by dealing with this bond -- by issuing this corporate bond. If you look at organically, how we're expecting to grow FFO over the next 3 years, you can see about -- or EUR 7.5 million is coming from just completing the acquisitions that we've committed on. But EUR 3.9 million coming from the CapEx programs, EUR 3.7 million coming up from other vacancy. That is close to EUR 8 million that's going to come just by getting our occupancy up from about 85%, close to 90%. That's just the normal course of business for us. Almost EUR 8 million will come just from doing what we do, as far as completing CapEx programs and letting up vacancy. There's about EUR 7.3 million that will come from embedded rent increases within the contracts that we've got in place, had about EUR 4.3 million of other initiatives, which is predominantly relating to improvements in service charge recovery, which will come from higher occupancies, increasing other ancillary income, as well as looking at doing some development opportunities. We will invest in building new buildings on some of the surplus land and that will contribute, I reckon, about half of that EUR 4.3 million over the next 2 to 3 years. So the path to EUR 100 million is becoming clearer and clearer, all the time. The bond, obviously, took a big chunk -- or helped with a big chunk of that. This new acquisition, we will talk about, later on today, we'll probably deal with the rest of it. But organically, there is still a lot of potential to go, as far as the Sirius portfolio is concerned. And then, just flipping on to the financing on Page 18, I think, this slide is fairly self-explanatory. As I mentioned to you, we've repaid about EUR 170 million of secured debt, and we've issued EUR 400 million of unsecured debt in the period. The key things that, that has actually done, is, firstly, it's increased the weighted average cost of debt from 1.5%, down to 1.2%. It's increased out unencumbered assets to 48, from 19, so close to EUR 1 billion of unencumbered assets, when we complete on the rest of the assets that we've committed to, that will go up to close to EUR 1.1 billion. And it's also increased our weighted average debt expiry up to 3.7 years, from 2.7 years. So we think the metrics here -- even though the net LTV has increased slightly, the fact that most of our assets are now unencumbered, is an extremely important point to consider, when looking at LTVs. So the bond has been a transformational thing, not just for increasing the FFO, but from a security, from a financing perspective, that bond has been quite a significant development for us. And on that note, I'll pass over to Andrew to summarize and conclude.

Thank you, Alistair. So profit before tax of EUR 78.2 million, most importantly is 7.5% return, despite some of the cost that Alistair explained earlier. FFO growth of 13.4%, leading to a 12.1% increase in dividend per share, to EUR 0.0204. Completion of that transformational inaugural corporate funds, back in June, leading to unencumbered assets, at the end of the period, of EUR 944 million. And very shortly, that will become EUR 1.1 billion, lowering of the weighted average cost of debt to 1.2%, acquisitive growth in the period of over EUR 153 million. And very importantly, we have maintained our ESG MSCI rating and improved our Sustainalytics and GRESB ratings. Looking at Germany, we see now a high percentage of the German population being fully vaccinated. We see Germany returning to normal. However, in the medium to long term, we see a structural shift in the asset class as people on-shore production to within European borders. And we think, this bodes very well for German light industrial, whereas at the moment, there is an oversupply, and it's discounted asset class. We see in the future with [ on-shore], the possibility of that reversing. Several acquisitions that have taken place in H1, stand to complete soon. And we will see the numbers flowing through into H2 and the full effect of those numbers hitting next year. And therefore, I am pleased to confirm to you all that we are trading in line with expectations for the full financial year. Thank you very much, indeed.

Yes. We've had a question from Andre von Rohr at BIG Capital. Do you still aim 5% like-for-like rental growth this year?

Yes. So we've had half of that this year. And obviously, we still got 6 months to go and without putting any forecasts out there, I'd be surprised if we didn't hit those kind of numbers again this year.

Thank you. We've had another question as well from [indiscernible]. On the acquisition side, gross-to-net leakage, EUR 10.2 million, EUR 7.5 million. Could you remind us what this leakage means and how does it get phased down. I think we may have covered that, but do you just want to have a quick recap, Alistair?

Yes.

Yes, let me do that because what that is, is that other operators, who don't have a strong platform that Sirius has. And what that means is, instead of them being able to collect all their service charge and instead of being able to collect the money due on the occupied space, some of that money isn't collected and it leaks out. And I'm understanding, if you want to talk about how we go and improve that.

We would, but that is a typical thing we always have with acquisitions. But I think, with these assets, in particular, we saw their gross-to-net leakage as much higher than normal. So obviously, that's something that we've identified in due diligence, that we can deal with, very, very quickly. That's part of the low-hanging fruit that we would have, on these acquisitions. But generally, we would look to, A, improve the lease contracts that are in place. And generally, we've got the ability to do that, once we've actually invested into a lot of the things on to the site, including being able to allocate the costs much more accurately. So most operators tend to allocate all costs on a square meter basis. We invest a lot of money into being able to allocate facility management, utility costs, on a consumption basis, which is a big thing, when it comes to tenants paying their bills. Because generally, in Germany, if they feel that they pay for what they actually use, rather than just getting a straightforward allocation, which is equivalent across all tenants, they're more likely to have better contracts for us and actually pay all of their bills. And when you do allocate it, on a consumption basis, then you can allocate more to the space that's occupied rather than the space that's actually vacated. So hence, we tend to get much higher recovery percentages than the occupancy percentages, which is highly unusual in the German market. So that is something that we've been doing, for the last 10 to 15 years. And that's something we see as some very strong opportunities within this portfolio.

A question from and Miranda Cockburn. Could you provide more detail as the current demand, which subsectors are you seeing the most demand for? Offices, storage, et cetera?

Well, we're seeing very strong demand, in terms of industrial and manufacturing as well as our domestic storage products. We're also seeing very good demand for office in the smaller segments. So 1, 2-person office on the edge of town, that is where the office demand is really moving towards. So the fact that we have a balanced portfolio, in terms of products, that we offer the range of products that we do, means that this bodes quite well for Sirius, but the strength in demand is on the industrial, the manufacturing and the storage side. That's also bolstered by increasing demand in domestic self-storage. And where office is concerned, the peak of the demand is really at small office, 1, 2-person smart-space office on the edge of town.

A question from Charles at B&I Capital. What stats are you looking for to show that the on-shoring is happening?

So we have anecdotal evidence, at the moment. For example, Bosch have recently on-shored all of their chip manufacturer for the automotive industry, from China to Dresden. Funny enough, next door to the Sirius site in Dresden. Apart from that, the evidence that we are hearing and seeing, is from our tenants. And the kind of things they're asking is, what happens if we need to increase our space at the end of next year, beginning of the following year? What about that land next door? Would you be prepared to buy it because we're going to need to store stuff and use it in the future? It's a lot around the larger companies talking about increasing their space requirements. And when you talk to them and you ask why, it's because they want to store component products that they use in the manufacturing process, and it's very, very clear that previously, those component parts have arrived from outside of the European continent, in a just-in-time basis. What these manufacturers now want is, they want at least 6 weeks stored on the premises and what they're talking about, is instead of those things coming from outside the European continent, they're coming from Germany and in particular, Eastern Europe.

Thank you, Andrew. Just a quick one. We had a couple of questions here, asking about specifics about today's transaction. Just to refer you back to Andrew's opening remarks, we're not actually able to comment on that. I have to refer you to the announcements we've made, and we will deal with that at a point, when we can. We've had a few questions here from Kai at Berenberg, which I'll take one by one. So the first is what was the split of the 2.5% like-for-like rental growth between indexation, lease extensions and new lettings?

So about EUR 1.3 million. So EUR 1.3 million came from uplifts on tenants and the rest is a combination of new lettings, coming in at higher rates, as compared to the move-outs. That's pretty much the split. EUR 1.3 million on pricing and the rest is the net between the two.

And what is the split of the EUR 4.3 million titanium income between asset management fees, acquisition fees and for Sirius' stake in the JV as co-investors?

So I think about -- as far as fees are concerned, we're looking at about or EUR 3.3 million, I think, from off the top of my head, and the rest will be coming from our share of the profit.

Okay. Great. And the final one. On Page 5 of the H1 report and Table 4. Could you comment on the decline in inquiries year-on-year, 4 months due to September? And particularly, the minus 14.5% year-on-year for September?

What page was that?

Page 5.

It's under what?

[Foreign Language]

[Foreign Language]

So the decline, when?

June to September.

Okay. All right. So there's a decline, compared to the previous year. Yes, absolutely. So in the previous year, we were looking to overtrade in our marketing because of COVID, because our conversion was going around -- they're going down. And therefore, we generated 1,622 inquiries. This year, we returned to normal because our conversion is getting better, and we were at 1,387. So this is purely within our control. A year ago, we were worried about COVID and we wanted to generate an excess of inquiries to make sure that we have the right level of sales. We don't want to keep throwing inquiries at the salesforce to make their job easier. These inquiries cost money. Hence, why we've returned to a more normal pattern of just under 1,400 inquiries in September. This year.

Okay. That's all the questions we have today. So any quick closing remarks, Andrew?

No, thank you very much indeed for your time and attention, this morning. I think, Sirius remains in good shape. And when we close this transaction, I would be delighted to talk to shareholders about it. And I look forward to doing so, at some point, later on this month. Thank you.