Warehouse REIT plc (WHR) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Warehouse REIT's full year results presentation for March 2023. My name is Simon Hope, Joint Managing Director of Tilstone Partners, and Co-founder of the Warehouse REIT. I'm joined this morning by Paul Makin, our Investment and Property Director; and Peter Greenslade, our Finance Director. We announced in our RNS this morning that Andrew Bird will be focusing on the development of the highly important Radway Green, Crewe, our multi-let industrial park, whilst I will lead on the fund advisory side. This plays to our respective geographical expertise and skill sets. It also utilizes my time having taken an executive role at Tilstone this year. The agenda this morning is split into 4 parts. I will deal with the key highlights and market dynamics, Paul will then talk through the portfolio review, and Peter will present the numbers. I will then conclude covering Radway Green, Crewe and outlook. The presentation will take around 20 minutes, leaving time for Q&A. Turning to the highlights for 2023, it was operationally very strong for Warehouse REIT and Tilstone. Occupationally, we did over 80 deals covering 1 million square feet of space and generating GBP 3.5 million worth of new rent. This delivered like-for-like rental growth of 5.3%, our highest ever since 2017, taking the overall occupancy to 96%, an increase of more than 300 basis points. However, in October, as you know, the bond and debt markets softened appreciably, 10-year gilts moving from 1.5% to over 5%. This had significant pricing impact on the property markets causing values to move to pre-COVID levels. As a result, the value of the Warehouse REIT portfolio fell by 18.5% to GBP 829 million with an NTA of 122.6% per share. As well as impacting values, the financial correction increased the cost of our debt. We acted quickly. In November, we told the markets we would delever our balance sheet and by year-end, we had executed on GBP 60 million worth of sales all of which were in the second half. We've maintained that momentum. And post year-end, we have exchanged on a further circa GBP 30 million of sales at 17% above March 2023 book values. Overall, this has reduced our loan-to-value to 30%. 75% of our debt is hedged, and the hedging was taken out during the year. Peter will talk to that in his section in a moment. At Radway Green, we've made really good progress. We've achieved planning. We're close to assigning pre-lets for over 350,000 feet for a scheme that will be BREEAM excellent. We're managing our risk appropriately and will only commit once the pre-lets are in place. We're also making really good progress on sustainability, and Paul will talk to that in a moment, that he's leading the charge. We've advanced our pathway to Net Zero and are delivering energy efficiency initiatives at standard. These steps put on a much sounder footing. And together with our conviction in the outlook, mean we are maintaining our dividend at 6.4p. Peter will talk to the pathway to full coverage in his section. Turning now to the portfolio itself. Our portfolio is 8.2 million square feet, 71% of that portfolio is multi-let. Well over half of that 71% is 6 -- in 6 major regional estates, such as Midpoint, Middlewich; Bradwell Abbey, Milton Keynes; Gateway, Birmingham, which I'll talk to in a minute. Why is this important? Multi-let assets provide a broad range of unit sizes that suit the life cycle of a company. Our estates appeal to a broader range of occupiers providing diversity of income risk. And in turn, we have more asset management opportunities to drive rents, which wash over the rest of the estate. Secondly, our portfolio is focused around 3 regional industrial hubs, the Northwest, the Midlands and the Arc around Milton Keynes, Milton Keynes being the fastest-growing city or one of the fastest-growing cities in the U.K. That also means that we have access to major arterial rates from our estate, namely road, rail, ports, both air and sea and abundant labor force, which is so important to our occupiers. Thirdly, our portfolio is highly reversionary. The vast majority of our leases are unfettered, less than 9% of our units are capped or collared, so we can drive rents ahead of inflation rate. When you have very high levels of inflation, you do not want captain-collared leases. Finally, we have pricing power because our occupiers are all in to pay more for the right space in the right location. The most important number to take from this slide is the capital values per square foot across our whole portfolio at GBP 92 a foot against the minimum build cost for multi-letted state of GBP 110. The land is in for nothing. Warren Buffett calls this an economic moat. What this means is supply is heavily constrained. You can't build this space and that's adding to the reversion. Gerald Eve report there's only 2.8 million square feet of spec multi-let space being built in the U.K. Coming now to Gateway, Birmingham as an example of what you should look for in a multi-letted state. This state is located on the apron of Birmingham Airport, the units range from 1,300 to over 50,000 feet. This state, as I say, is on the apron of the airport itself, occupiers include customs and exercise, FedEx, we're close to an international rail hub of Birmingham. We had joined the M42, which to the South leads to the M40 and London and then the North leads to Manchester and Leeds and the M1. If you hit a reasonable golf ball, you can hit the NEC. The NEC helps power this estate. This airport is where Ryanair will be using the new Boeing jets, which will come in sort of '29, '30 and the rents appear to us to be low at GBP 7.84 passing with an ERV of GBP 8.37. We have a whole host of other estates that are similar to this, but they are dominant in their region. In terms of the longer-term trends that drive our continued support for the sector, yes, online has peaked, but that is still an upward trajectory. Today, businesses are more focused on supply chain resilience because external factors are making it harder to guarantee supply at a time when customers are demanding products sooner. So there's been a shift from just in time to just in case models. This is driving rental growth, which is strong across the multi-let nationwide. You won't be able to see it, but the left-hand part of that histogram shows the highest rental growth in the Northwest, where we have Radway Green, Speke, Middlewich and a number of other really good regional estates. Investment markets also recognized these longer-term thematics and are starting to turn. There are already signs of yield compression for prime logistics and we've seen some early trades in 2023 of multi-let yields in the early reaches of 4%. We've seen buys in Hayward, north of Manchester and the traffic Parker state and other states in the Southeast. So to sum up, our business is well placed and the tailwinds in our sector remains strong. On that note, I'll hand it over to Paul.

Thank you, Simon. To start, I'd just like to talk through some of the headline numbers. As Simon has mentioned, the value of the portfolio now stands at GBP 829 million. Against this backdrop, I'm pleased to say that operationally, we've had one of our best years, without which the downward movements would have been more dramatic. We've managed to increase the overall rent from the portfolio to GBP 45.3 million, seeing a like-for-like increase of 5.3%, our best yet. And the portfolio has become even more reversionary with a portfolio ERV of GBP 53.3 million, which again has grown on a like-for-like basis of 6.2%. And through our active asset management, we've effectively maintained the weighted-average unexpired lease term of 5.5 years. Looking now at the breakdown of the Warehouse REIT portfolio valuation. As we can see, the 2 multi-let categories, when combined, account for 71%, and this is the orange box on the slide. This is 71% of the investment portfolio. And although the valuations were down just over 15% on average, this was the smallest fall across the categories, being driven by the smallest yield shift of 79 basis points on the larger assets and 84 basis points on the smaller assets, and it was supported by strong ERV growth of 6.2% and 4.8% respectively. And it was bolstered by our continued asset management and leasing momentum, which I'll come back to shortly. On the single-let portfolio, the larger assets were down 23% in value, driven by 153 basis points in yield shift. As the market for these generally longer-let assets is based on -- is more affected by the increase in gilts and debt rates. Overall, this means the portfolio is now valued at a net initial yield of 5.6% with a reversionary yield of 6.6%. And as said, these are based on value as ERVs, which we continue to outperform. We consider this valuation to be a low watermark, and we're already seeing prices on an average 17% ahead on the latest deals that we've exchanged post period end. And it's worth noting that the portfolio is still very affordable with the average passing rent being only GBP 5.90 per square foot and an ERV of only GBP 6.65 offering further potential to outperform and capture future rental growth. Now looking at our active asset management. By way of reminder, we have 76 estates with 693 lettable units and 490 occupiers. This year, despite the macro headwinds, activity on the ground has been strong. We completed over 80 lease events in the year on 103 units, covering nearly 1 million square foot of space, again, maintaining our activity rate of around 2 per week. And having sold some of our smaller, more granular assets, our average unit size is now around 12,000 square feet. Therefore, this activity is coming from an increasing unit size, making the uplift more material. And to give you an example, the average deal size during the year was 11,600 square feet compared to 8,600 square foot last year. This has all helped to generate the GBP 3.5 million of additional income being on average, 23% ahead of the previous passing rent. The volume of activity demonstrates one of the key benefits of a multi-let portfolio and the rolling cycle of active asset management, firstly, utilizing capital expenditure. This year, we've committed circa GBP 5 million, not only improving the assets, but also allowing us to incorporate a wider ESG strategy, helping to future-proof our assets. This has then helped generate the higher evidence needed to increase the overall rental tone as demonstrated by new lettings being on average 13% ahead of the value as ERV and 29% ahead of the previous passing rents. We can then use this evidence across our leasing renewals and rent reviews on the multi-let estates to access the reversion. And as we can see from the graph on the right, I'm pleased to say the activity has driven the 5.3% increase in like-for-like contracted rents and like-for-like estimated rental value growth of 6%. We've seen the benefit of all this activity on increasing occupancy, which is now 96%, an increase of 300 basis points with our effective vacancy now only 1.6%. And we're delighted to introduce a range of occupiers to our portfolio on the bottom left-hand side, including Superbike Factory, a predominantly click and collect operation taking 20,000 square foot in Milton Keynes, PWR, a top-end specialist cooling systems manufacturer choosing our 39,000 square foot warehouse in Rugby as their European distribution headquarters. Now looking at the portfolio reversion. We've talked about the in-built reversion that we've helped create in the portfolio, and the graph breaks this down. The key point here is that we have an ability to secure an additional GBP 5.8 million from inherent reversion within the portfolio based on the independent values of -- that's the market rent and remembering that we continue to outperform. And that is assuming their market rent on each of the units, and this will be captured through lease renewals and rent reviews. But the real benefit of the multi-let estate is our ability to access this in-built reversion more quickly and this can be seen on the graph on the bottom left, which were around GBP 3 million of this reversion is potentially available in the next year. Whilst rent reviews and lease renewals can take some time to agree, it's worth remembering that we continue to outperform the ERV by some way. And therefore, we see good prospects of securing this healthy reversion in the very short term. As we've said, we focus on key gateway locations and a strong conviction location of ours is the wider Oxford-Cambridge Arc centered on Milton Keynes. Why is this? Milton Keynes has one of the fastest-growing economies in the U.K. The population is expanding, providing access to growing workforce and it's centrally located between Oxford and Cambridge and it's on the M1 motorway between London and Birmingham. We already have a multi-let estate in Milton Keynes called Granby Trade Park, which has been a success. And therefore, when we spotted a similar opportunity at Bradwell Abbey, and we were able to buy it off market early in the current financial year, we were pleased, and we've been busy implementing our asset management strategy. The asset comprises a total of 335,000 square foot in 69 units, as you can see on the plan on the left-hand side, ranging from just sub 1,000 square feet up to 15,000 square feet. The largest occupier is Argos, who manage their product technical documentation process from a number of units and have taken a new 10-year lease subject to a refurbishment, which has now been completed. This refurbishment forms part of a GBP 2.5 million refurbishment plan committed during the year, and we're almost complete. And with the next phase of CapEx is being prepared. We're improving the common parts and engaging with occupiers as to what amenities they want to see on the estate. And we've taken the rental tone from -- on the larger units from GBP 8 to GBP 9.50 and secured lease renewals taking rents from GBP 8 to GBP 13 plus and we hope to set a new rental tone for the smaller units in the late teens later on this year. Following all this solid asset management, we now believe that there's a 45% total reversion within this asset. And so we're very pleased with our progress and the first year of ownership and look forward to reporting further in the forthcoming periods. Sustainability is an integral part of how we manage our business, right the way from asset selection to capital expenditure and our tenant engagement. We're taking advantage of lease events and capital expenditure projects to invest in our portfolio and deliver some of these key initiatives, such as LED lightings, low-carbon heat management systems and EV charging points. We've surveyed our occupiers, so we're learning a lot about what is important to them from a sustainability perspective. And we've discussed ways to help them with their own energy efficient implementations, such as variable speed drivers on pumps and PV cells on the roofs. And I'm pleased to say that we've delivered 92 EPC rates upgrades covering 15% of the portfolio. For example, at Bradwell Abbey, the EPCs were 38% between A and C when we bought it just under a year ago and we've already increased this to 48%. So overall, 60% of our portfolio is in the EPC band A to C, and we continue to make improvements. We've introduced green clauses and all our leases and importantly, we've formalized our pathway to Net Zero, which includes a commitment to reach Net Zero carbon on Scopes 1 and 2 by 2030. We're pushing more environmental certifications like BREEAM, for example, and we're also committed to reporting progress and we're delighted to have been awarded the EPRA Gold Award for the second year running. I'd now like to pass to Peter, who's going to talk through the financial results.

Thanks, Paul. The full detail of the results are in the RNS and in this presentation, I want to pull out a number of the salient numbers and ratios. However, if you have any specific questions, we'll be only too happy to answer them at the end. On Slide 19, you'll see the EPRA NTA fell to 122.6p from the high watermark of 173.8p at March '22. This was driven by equivalent yields moving 108 basis points, which is an 18.5% like-for-like revaluation fall. It should be noted, however, that post year-end, disposals have reflected market values higher than those at March '23. Adjusted earnings were 4.7p, down from 6.4p a year ago. Net interest was the main driver with additional year-on-year cost of GBP 5.7 million or 1.3p. The dividend for the year was maintained at 6.4p and 73% covered by adjusted earnings, but this increases to 86% when profit on cost from disposals in the year are included. LTV closed the year at 33.9%, comfortably in our 30% to 40% range. This will reduce further when first half disposals in the current year are taken into account. The GBP 200 million of interest rate caps at 1.5% taken out in July last year, have increased our hedged debt to 75.2%. And this will increase as the previously mentioned first half disposals complete. Cost of debt was 4.3%, up from 2.6% a year ago. The hedging of 1.5% has helped enormously, but the unhedged element has driven the inevitable cost increase. Reducing the RCF via the disposal program and thereby increasing the hedge percentage is a corporate strategy for the current year. When you look at the detail in the financials a little more, you'll see that headline IFRS losses were GBP 183 million, predominantly driven by the revaluation and almost offsets the gain from the previous year. Adjusted EBITDA was GBP 32.2 million, rental income was up GBP 1.7 million but one-off dilapidation income was down GBP 2.7 million year-on-year. And when combined with a higher unutilized property costs from assets now sold, they gave an outcome lower than last year. EPRA earnings are depressed by EPRA's interpretation of interest income from hedging. EPRA are reviewing the treatment. But until they do, their rules say that it has to be excluded. When this income, which is GBP 2 million, is included together with adding back our aim to main costs adjusted earnings of 4.7p. These adjusted earnings increased to 5.5p when the profit on cost of disposals in the year are included. The cost ratio was 28.4% in the year, slightly higher than last year and due to void costs from now disposed assets, this will reduce in the current year. The ongoing charges ratio of 1.3% is broadly in line with last year. The bridge on this slide shows how we track earnings from 6.4p in March '22 to 4.7p this year. I've already referenced the revenue and void cost movements, and the bridge highlights the impact of interest rates, which are the major driver. The box to the right shows how we look to cover the dividend for 2024. And this will come from a combination of capturing the reversion already highlighted by Paul at some GBP 3 million this year, reducing the RCF and thereby increasing the hedge percentage by selling assets yielding less than the cost of marginal debt. This will also be accretive to earnings. Earning a license fee from the developer of Radway Green to compensate for loss of rental income during the building of Phase 1 and also from profit on the disposal of assets in the year, of which 1p is already assured from disposals exchanged but not yet completed. If you just quickly look at the EPRA NTA bridge, from GBP 173.8p last year to 122.6p, the movement is predominantly driven by 45.5p revaluation impact. The other items of operating profit are offset by dividends, the loss on disposal of properties and the cost of buying the hedges. Just touching on the balance sheet. We've already highlighted the GBP 200 million of interest rate caps that we took out in July at 1.5%. This meant that we were 75% hedged at the year-end, and this will increase further. In addition to the caps, we have also recently completed a new GBP 320 million facility with a club of 4 banks, including NatWest and Santander alongside our long-term supportive banks of HSBC and Bank of Ireland. This facility is for 5 years with a plus 1 plus 1 and has a favorable 2.2% margin. It secures our short- and medium-term financing and has the flexibility of GBP 100 million RCF. It also has covenants with lower levels than the old facility. Simon?

Thanks, Peter. Radway Green, Crewe, every portfolio needs a flagship, and this is a flagship for us. It's taken us 7 years since we floated to put this site together. We bought from Hansteen, The Duchy and St Francis. And now this year, we've managed to secure 1.8 million square feet of planning consent. We've managed to secure the 278, which allows us to break ground, which we have done. And we secured Panattoni, one of the world's leading development managers as a partner. For those of you that don't know, Crewe, it's on Junction 8, the cities on the Junction 16 of the M6. It's home to ao.com, TK Maxx, the Network Rail. It's a major industrial location. The scheme, as I say, is 1.8 million square feet, which we're only going to build in a measured way, risk managed on a pre-let basis. We are close to securing a number of pre-lets there. Work between 350,000 feet and 370,000 feet. We have committed to the infrastructure works and the contractors are on-site breaking ground. We will not commit to the build contract until those leases are signed, but they are imminent, and we're hopeful, very hopeful. We expect this to deliver around GBP 3 million worth of rent. So you can work through in terms of the rental rates. The rental rates have grown since we've been working on this scheme, we are in the latter reaches of the 7s. We started in the 6s. So it's moving forward. There is virtually no vacant space, not virtually. There is no vacant space of this nature in the Greater Crewe area. And so we're very excited about it. What sort of returns is it going to generate? Well, on new money, remembering we've already bought the site. We've already bought the site. It's going to generate over 10% on new money. What we are seeing is build costs are coming down. Infrastructure costs, in terms of looking at those costs, they've remained fairly static during the last 5 years, but build costs are coming down significantly. So we're really excited about the wider scheme and we're confident it will attract a lot of interest. It's just one of the few schemes that's available in the Northwest. As I say, we're just 3 minutes from the M6. You can get to Birmingham and Manchester in around an hour and to London in around 3 hours. As Paul has touched upon, we take sustainability really seriously, and this has excellent credentials. We're targeting BREEAM Excellence and an EPCA rating, and we've got the design for infrastructure for 100% PV loading on the roof and 100% EV charging at the stations. As I say, we've made no formal commitments as yet, but we have a range of options, and we'll continue to explore these. So we're working very well with Panattoni and Andrew, as I say at the beginning of the presentation, is focusing on this every day. Turning to the outlook. I mean we've talked about the occupier market, which remains robust. Any market where vacancy levels are sub-4%, the rents are rising. There aren't many markets where that is the case. It's certainly the case in the multi-let market and the broader industrial market. There are strong signs that the investment markets are stabilizing. I've already aforementioned the trades that have happened. But there's a width and depth of buyers. And your yield is a function of what you expect the rents to do in the real estate market. So it's about looking at the forward radar rather than the rearview mirror. These rents are growing. And therefore, you could expect yields to solidify in the force for prime assets, even with the gilt movements. So we're seeing more liquidity for the types of assets that we own, and that's reflected in our own activity with the sales book -- sales being ahead of book. And our recent sales that we've announced post year-end, are indicative of our feeling that the market has bottomed to be 17% above our March '23 book and makes our valuation look solid, if not light. In terms of the longer term, demand is underpinned by strong structural drivers. We've -- our focus is on multi-let assets in the U.K.'s key industrial hubs means we're well placed to appeal to a broad range of occupiers. We're highly diversified. We've got some 490 tenants across a whole range of industries. So we're very positive about the rental growth outlook. Remembering that our capital value per square foot is only GBP 92 a foot. You can't build this multi-let space for GBP 110 a foot. So as I say, repeat to myself, land is in for nothing, it's a compelling economic argument and Paul's numbers evidence that very strongly. So we've got 4 clear priorities for the coming year. First, we're laser-focused on capturing the reversion in our portfolio. Paul's got a very, very good team split along the geographies that we've outlined in terms of Northwest, Midlands and the Arc and so they have a strong record of delivering that reversion, which is GBP 5.8 million in our portfolio today. Second, we're going to continue the capital recycling. We've demonstrated there's liquidity in our assets and we have competing uses for our capital. So we'll continue to progress sales and pay down the RCF to a level where we're pretty much fully hedged. Radway is a key opportunity for us. We've made enormous progress in derisking this through the year. And as a third priority, we're very happy with the progress we're making. All the planning conditions satisfied, Panattoni's secured major pre-lets about to be announced. Finally, the dividend coverage. Peter has set out a pathway to focus on capturing this reversion, delivering income from developments and further asset sales to pay down the RCF. I think the one thing I haven't mentioned is in terms of the 1.8 million square feet, if you said it was GBP 8 a foot, that's GBP 16 million of rent to come in. The only thing we've got to pay for is the build cost. So there's a big free cash flow. We're not going to build speculatively, but we are -- we have got a width and depth of demand to lease up this scheme. So we're well positioned. We feel confident for the future, and we'll be happy to take any questions you have.

[ Andrew Sam ], private investor. Would you be willing to give me an estimate of when you can cover the dividends again? I mean it looks to me that you've done pretty well so far to weather the storm, but there could be a bit of a squeeze ahead. Your vault is fairly long. Your net initial yield of 5.6% is not much ahead of your cost of debt of 4.3%. So how long will it take to get that dividend cover? And if that's a difficult question, the subsidiary question would be, do you have a stated policy of keeping the dividend -- maintaining the dividend level?

Let me pass that across to Peter in the first stage. Peter, do you want to just look at how we're going to access.

Yes. I mean current run rate, as we just explained to everyone is obviously of unencumbered. But we see a number of opportunities and a number of building blocks to get there. And in terms of quarter-on-quarter, it will be by late '23, '24, for next year that we think it will be covered. Paul's team on the reversion in particular, are working very hard. We've already referenced a couple of large opportunities that are out there. So we will gradually get there. It's not going to happen overnight. We absolutely acknowledge that.

Andrew Saunders from Shore Capital. I wonder if you could give us an idea of what the annualized rent roll looks like once you take the latest disposals into account. And perhaps you could just give us an idea about what you're doing with your space configuration on Phase 2 of Radway, I think as I understood it, you were keeping that as a bit of a moving feast.

Let me split the answer into 2 parts, Paul, if you want to touch upon the rental piece, and then I'll pick up Radway in terms of Phase II.

Thank you. So the overall rent at the moment is GBP 45.3 million, and the rent from the 2 sales that are on the go at the moment, I think it's fair to say it's roughly about GBP 1.5 million. not a huge reduction in income from those sales. But I think that what's interesting about the sales is the premium above the last valuation, just reiterating the low watermark that I've mentioned. Future sales that we referred to, we're only going to be selling assets if they are accretive, I will be selling at yields below our debt costs to pay down that RCF.

I think the -- one of the trades, the majority of that sort of just under GBP 30 million of sales, was a net initial yield of 4.6%. So there's -- the major benefit, the RCF, Peter is costing us, what 6.5%.

Just over 6.5%, yes.