Charter Hall Long WALE REIT

ASX:CLW

Earnings Call Analysis

Earnings Call Transcript 2020-Q2

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the Charter Hall WALE REIT 2020 Half Year Results Briefing. [Operator Instructions] Please note that this conference is being recorded today, Monday, the 10th of February 2020. I'd now like to hand the conference over to your host today, Mr. Avi Anger, Fund Manager of CLW. Thank you, sir. Please go ahead.

[Avi Anger, Fund Manager]

Good morning, everyone, and welcome to the Charter Hall Long WALE REIT Results Presentation for the Half Year to December 31, 2019. Presenting with me today is Scott Martin, Head of Long WALE REIT Finance. The format for today's presentation is that I will start with key highlights for the period. You will then hear from Scott, who will provide an overview of the financial performance of the REIT. I will then return to provide an operational update and portfolio overview for the period and provide an update regarding earnings guidance for FY '20. We will then offer the opportunity for questions. Turning now to Slide 4 and company highlights. CLW has had a very active 6-month period, and I'd like to take the opportunity to highlight the CLW of today. CLW today has a $3.6 billion portfolio of real estate leased to high-quality tenants on long leases. Our portfolio continues to be diversified by tenant, industry, geography and property type, which contributes to the stability of our cash flow. At December 31, we owned an interest in 384 properties. Our properties were leased to 56 tenants across all 8 states and territories of Australia and diversified across industrial, office, long WALE retail, telco exchanges and agri-logistics sectors. We are now the largest owner of long WALE real estate of any ASX-listed REIT with a WALE of 14.5 years. CLW has a very high-quality tenant roster, with 75% of our income coming from government or investment-grade tenants. These highlights and the performance of CLW have only been possible due to the significant benefit that CLW receives by being part of the Charter Hall platform. The Charter Hall group provides the REIT with access to a high-caliber team of experts across all areas of the REIT management. As a result of this growth, in December 2019, CLW was included in the FTSE EPRA/NAREIT Global Developed Index, a global index tracked by many global REIT managers. This has resulted in an increased interest in the REIT from overseas institutional investors. In the past 3 years since the CLW IPO, we have tripled the size of the portfolio from $1.2 billion to $3.6 billion and significantly enhanced the diversity and quality of the portfolio. We've also delivered a total shareholder return well above the ASX 200 A-REIT Index. This performance is outlined in the table on the following slide. Turning now to Slide 6 and the key highlights for the period. For the half year, we've delivered operating EPS of $0.14 per security and distribution per security of the same amount. For the full year FY '20, we are on track to deliver our upgraded guidance of $0.283 per security, representing growth of 5.2% over FY '19. Our net tangible assets per security at December 31 is $4.52 per security, up from $4.01 per security at December 2018. Following some long WALE acquisitions in the half, including the telco exchanges and BP portfolios and the Arnott's Sydney facility, our WALE at December 31 is 14.5 years, up from 12.5 at June 30. During the period, we invested $1.4 billion in acquisitions, which contributed to an increase in our portfolio value at December 31 to $3.6 billion. And we successfully raised $865 million of new equity during the half. Balance sheet gearing is at the bottom of our target gearing range, with a weighted average debt maturity of 4.3 years. Turning to Slide 7. We have actively managed the portfolio to extend the portfolio WALE, improved the tenancy profile, improved diversification and deliver earnings growth. At the start of FY '20, the portfolio WALE was 12.5 years. As a result of WALE-enhancing transactions, together with the Coles' Perth lease extension, we've increased the WALE to 14.5 years. We've strengthened the quality and diversity of our tenants with these new acquisitions being leased to tenants including the Australian Government, New South Wales Government, Telstra, BP, Arnott's and Bunnings. Our rental revenue is diversified across sectors with our largest weightings being to industrial at 29% and office at 29% of the portfolio. We upgraded our FY '20 earnings guidance twice during the half year, and we are on track to deliver our target of $0.283 per security for the full year FY '20. I would now like to hand over to Scott who will provide an overview of the financial performance of the REIT.

[Scott Nicholas Martin, Head of Diversified Finance]

Thank you, Avi, and good morning, everyone. The REIT's key financial metrics for the half year ended December 31, 2019, are set out on Slide 9. The REIT delivered operating earnings of $52.2 million or $0.14 per security for this half and similarly declared a distribution per security of $0.14 for the same period. Balance sheet gearing as at December 31, 2019, was 23.8%, which includes the committed acquisition of The Glasshouse, Macquarie Park and Bunnings, Palmerston developments, which were announced to the market on the 4th of November 2019. The gearing remains below the target range of 25% to 35%. Movements in all other key metrics shown on this slide result from portfolio-enhancing activities undertaken during the period, which Avi will cover later in the presentation. A summary of the REIT's HY '20 results are summarized on Slide 10. Net property income has increased 55.7% compared to the prior reporting period, driven by net acquisition activity, which has contributed $21.9 million in the current reporting period. In half year '20, the REIT successfully completed $1.4 billion of new property acquisitions, which Avi will cover in further detail later in the presentation. Operating expenses increased by 45.7% due to portfolio growth and new acquisitions. We also saw a 29.1% increase in finance costs compared to last half year as a result of partially debt funding the REIT's acquisition activity. Operating earnings per security and distribution per security have both increased by 8.5% on the prior corresponding period at $0.14 per security, which is in line with our guidance range. A summary of the REIT's balance sheet position as at December 31, 2019, is presented on Slide 11. The NTA per security has increased 10.5% from $4.09 at June 30, 2019, to $4.52 at December 31, 2019, primarily due to equity raising activities, net valuation gains and movements in derivatives. Investment properties increased $375.3 million or 28.3% due to acquisition activity and valuation growth of $48.7 million. Similarly, the $475.3 million or 86.3% increase in equity-accounted investments represents valuation growth of $34.6 million and the acquisition of a 15% interest in 242 Exhibition Street in Melbourne and the acquisition of an effective 24.5% interest in both the Telstra Exchanges Portfolio and BP Australia portfolio of 225 long WALE convenience retail properties. The $6.6 million increase in the provision for quarterly distribution results from the growth in operating earnings arising from acquisition activity and annual rent escalation. The $30.9 million increase in other assets includes a $19.9 million GST refund related to the Arnott's Huntingwood acquisition, which was received in January 2020 and an $8.3 million option fee paid on The Glasshouse, Macquarie Park asset. Other liabilities have reduced by $12.6 million or 35.2%, $10.8 million of which relates to movements in derivatives. Acquisitions were funded through a combination of debt and equity. During the half year, balance sheet drawn debt increased by $38.9 million and $864.7 million of equity was raised. A summary of debt and hedging is presented on Slide 12. During the current reporting period, the REIT increased its balance sheet debt capacity by $100 million from $680 million to $780 million, with the addition of a further $100 million bilateral facility with an offshore lender. At 31 December, the REIT had $1.236 billion of drawn debt calculated on a look-through basis. Balance sheet gearing was 23.8% and look-through gearing was 37.8%, which have both been calculated based upon drawn debt at 31 December, adjusted for the funding of the committed acquisition of The Glasshouse, Macquarie Park and Bunnings Palmerston developments. The difference between balance sheet and look-through gearing ratios relates to the REIT share of joint venture debt facilities, each secured by long WALE assets and strong covenants. During the current reporting period, 3 new joint venture debt facilities were secured to assist with the acquisition of each of 242 Exhibition Street, the Telstra Exchanges portfolio and the BP long WALE convenience portfolio. The increase in balance sheet debt, together with the addition of 3 new joint venture debt facilities, has increased the REIT's facility limits to $1.5 billion on a look-through basis. The weighted average cost of debt at December 31, 2019, is 2.9%, and the weighted average debt maturity is 4.3 years. The REIT has entered into interest rate swaps totaling $1.12 billion as at 31 December 2019, which is also calculated on a look-through basis and reflects a hedge position of 80.9% and a weighted average hedge maturity of 4.8 years. I will now hand back to Avi to provide an operational update and portfolio overview.

[Avi Anger, Fund Manager]

Thank you, Scott. Turning now to Slide 14. An important part of our strategy is to grow and enhance our portfolio through accretive acquisitions. During the half year, we acquired $1.4 billion of property. These acquisitions were diversified across real estate sectors including investments in office, industrial, long WALE single tenant retail and Telco Exchanges. The combined acquisitions featured an accretive average WALE of 18.7 years. Importantly, a number of these acquisitions were secured off market, demonstrating the strength and benefits, which the Charter Hall platform provides to CLW. 2 significant portfolio transactions which CLW participated in with the Telstra telco exchanges and BP portfolios. Both these transactions featured a high-quality, diversified portfolio of strategic properties, attractive triple-net lease structures, long WALEs of 21 years on the telco exchanges and 20 years for BP and annual rental growth. Turning to Slide 15. In the office sector, we acquired an interest in Telstra's head office at 242 Exhibition Street in the Melbourne CBD and a 50% interest in The Glasshouse, a new A-grade office building in Macquarie Park in Sydney, which is 70% pre-committed to the New South Wales Government. In December, we added to our industrial portfolio with the acquisition of a 50% interest in the Arnott's facility in Huntingwood in Sydney. This property, which is an important part of Arnott's manufacturing and distribution network, has a 32-year leaseback to Arnott's, triple-net lease structure and annual rental growth of CPI plus 0.5%. We also added to the Bunnings stores in our portfolio with the acquisition of a new Bunnings store currently under construction in Darwin. This was acquired directly from Bunnings Group and will feature a 12-year lease on completion. The Telco Exchanges, BP Portfolio and Arnott's facility are examples of transactions we're focused on. That is sale and leaseback transactions that feature high-quality real estate that is operationally important and backed by strong tenants. Given Charter Hall Group's strong reputation and strong relationships in the marketplace, we continue to see most deals in the market and also have access to many off-market opportunities as a result of existing relationships across the Charter Hall Group. We're able to secure deals not solely based on price, but also based on our ability to provide certainty of completion and ease of execution to the vendors. Over to Slide 16. In the previous slides, I mentioned the strong transactional capability of the Charter Hall Group. I would also like to highlight the strong asset management capability of the group and how we've been able to work with our existing tenant customers to extend leases in our portfolio. This slide highlights our track record of lease renewals and extensions in our portfolio since IPO. We have demonstrated a consistent track record of lease extensions for portfolio properties including extensions agreed with Electrolux, Inghams, Suez and Woolworths. This period, we also agreed a lease extension with Coles Group for the Coles Distribution Center in Perth. On Slide 17, we provide a case study overview of this major lease transaction. In November, we announced that we had reached agreement with Coles to extend the lease term from 8.4 years remaining to 15 years remaining from 1 January 2020. This transaction was made possible as a result of Charter Hall Group's strong relationship with Coles, which extends across retail supermarkets, office and industrial distribution centers. Turning now to Slide 18. In the following slides, I would like to provide an overview of our portfolio and outline some key attributes of the portfolio. Slide 18 is our portfolio overview. The value of our portfolio is now approximately $3.6 billion. And during the period, we further enhanced the portfolio with $1.4 billion of acquisitions. These acquisitions have increased the number of properties of the REIT to 384. Our WALE has increased as a result of the transactions and lease extensions completed with a long-dated WALE of 14.5 years at December. 45% of the portfolio by income is the subject of CPI increases, and 55% of the portfolio is subject to fixed increases with the portfolio weighted average rent review of 2.7% per annum. Our portfolio has occupancy of 99.8%, and the portfolio average cap rate is 5.49%. Turning now to Slide 19 and an outline of our tenant customers and the tenant diversification of the REIT. CLW features a high-quality portfolio of long WALE properties leased to high-quality tenants, including Commonwealth, state and local governments, Woolworths, Telstra, BP and Coles. The acquisitions completed during the period further diversify the tenants in the portfolio and introduce additional high-quality tenants to the portfolio. Within our overall portfolio, approximately 99% of tenants are either ASX-listed, government or multinational corporations, with the vast majority of these tenants operating in nondiscretionary industries. Turning to Slide 20 and the geographic and sector diversity of the REIT. The properties of the REIT are diversified across sector, tenants as well as geographically. During the period since IPO, we have increased the number and value of properties in the portfolio located along the Eastern seaboard of Australia, and we have further increased this during the period with the acquisitions we have completed. Turning to Slide 21, and this can be seen from the chart on this slide. The REIT's portfolio has a long-dated lease expiry profile and reflects a low-risk position relative to our peers in the sector. Our portfolio WALE has increased from 12.5 years at June 30 to 14.5 years at December 31. As I mentioned earlier, we are now the largest owner of long WALE real estate in the ASX 200, with a WALE of 14.5 years. Through both acquisition and active asset management, we remain focused on extending our expiry profile and reducing any near and medium-term expiry to continue to deliver a stable, secure and growing earnings profile to our investors. Turning now to Slide 23, and I would now like to provide an update on our earnings guidance for FY '20. The REIT confirms that barring any unforeseen events and no material change in current market conditions, CLW's guidance for FY '20 operating EPS remains unchanged from the guidance announced on 12th December 2019 of $0.283 per security, reflecting operating EPS growth over FY '19 of 5.2%. And the REIT maintains a target distribution payout ratio of 100% of operating earnings. That concludes the presentation. And I would now like to invite questions.

[Operator]

[Operator Instructions] Our first question comes from Suraj Nebhani from Citigroup.

[Suraj Nebhani, Assistant VP & Associate]

Another good result. Just wanted to clarify a couple of things, if I can. So just on the like-for-like NOI growth, can you tell what that number was across the portfolio in the first half, please?

[Avi Anger, Fund Manager]

The like-for-like is difficult, Suraj. Morning, anyway. It's Avi here. Like-for-like is difficult just because the portfolio changed so dramatically over the period. So I mean we have the 2.7% average rental growth across the portfolio. That's probably -- when you look at it, that's probably where the NOI more meaningful sort of number in terms of looking at growth across the portfolio. However, we can take that off-line with you, and we can give you some more information if you need it when we catch up.

[Suraj Nebhani, Assistant VP & Associate]

Sure. That sounds good anyways. And just on the weighted average cost of debt, obviously, that was down a fair bit versus the full year number. We are now at 2.9%. So that's down roughly 100 basis points versus the full year. I'm just wondering, like, if I take that 100 basis points and apply that on the borrowings that you had at the start of the year, it implies almost all the guidance -- like the -- almost all the earnings upside implied in guidance. So I'm just wondering, like, what the assumption is for the full year included in guidance? And then how you're thinking about weighted average cost of debt going forward?

[Avi Anger, Fund Manager]

Yes, it's the same. It's the 2.9%. I'll hand over to Scott. He might be able to add a bit more to that.

[Scott Nicholas Martin, Head of Diversified Finance]

Thanks, Avi. Yes. Look, I think for the full year, like, we're probably looking maybe somewhere around the 3.2%, 3.3% mark, I believe. So yes, obviously, we've restructured things in the last 6 months, so it has dropped considerably. But yes, 3.2% to 3.3% is probably more long-term cost of debt average.

[Suraj Nebhani, Assistant VP & Associate]

What do you think is driving the increase from 2.9% to 3.3%, Scott?

[Scott Nicholas Martin, Head of Diversified Finance]

It's just -- the hedge position will change -- or the rate on the fixed interest rate hedges will slightly tick up sort of closer to June.

[Avi Anger, Fund Manager]

Yes. I'll just hand over to Darryl as well, Suraj, and he can add to that.

[Darryl Chua, Senior Fund Executive]

It's Darryl here as well. Look, it's fair to say like all REITs, we've been the beneficiaries of the low interest rate environment, which has seen our weighted average cost of debt reduce. But if you recall, as part of one of the transactions we did throughout the year, which was The Glasshouse transaction, which was an equity raising done in advance of the deployment of the capital for that, we did a temporary reset of our swaps just for that corresponding period. So that's also seen our weighted average cost of debt in FY '20 reduce. But as I said, it's just a temporary initiative, which is basically done to offset the natural dilution, which resulted from us raising equity for The Glasshouse development, which is to be deployed later in this year.

[Operator]

Our next question comes from Darren Leung from Macquarie.

[Darren Leung, Analyst]

Two quick ones from me. First one, just in relation to the lease outcome with Coles at Perth. Can you please provide a bit more color as to the lease structure base terms here? Whether it's releasing spreads, incentives, et cetera, et cetera?

[Avi Anger, Fund Manager]

The lease -- the terms of the lease haven't changed. It's a lease extension. We can't -- we aren't able to provide any more details on the terms of the deal just because we've signed confidentiality agreements with Coles. So for that one, we're bound by confidentiality, so we really can't talk too much more about it.

[Darren Leung, Analyst]

Understand. Can you provide a bit of color around what the passing yield of the building is now post the new deal?

[Avi Anger, Fund Manager]

Yes. I mean the rents are passing. Yes. It's about -- it's the same. It's the -- the passing is pretty much market. So it'd be around that, I think, it's at 5.5%, 5.6%, yes.

[Darren Leung, Analyst]

Understand. Can you provide a bit of color as to why they have extended sort of so early in the process, given they had sort of 8 years left to go?

[Avi Anger, Fund Manager]

Yes. Look, I think they've undertaken a review nationally of their requirements. And look, it's a fairly modern facility, the one we've got in Perth, and it suits their requirements going forward. As I mentioned earlier in the commentary on the presentation, we're talking to Coles regularly across their business in their supermarkets, industrial and office about their requirements. And we have dialogue across all those portfolio properties of all the different funds, where they're all on the agenda. And when we discuss Perth, it meets their requirements, and we said: "Look, why don't we look at extending that lease?" And they're open to it. So it's just evolved through our discussions with them.

[Darren Leung, Analyst]

Okay. Understand. Second question, you talked to the strength of the platform, those who are accessing product off-market and how they compete aggressively on price. Can you give us an indication as to how many acquisitions you expect either by number of transactions or by quantum dollar million into calendar year 2020, please?

[Avi Anger, Fund Manager]

We don't -- we don't have -- I mean at this early stage of 2020, very hard to know how the year is going to play out. So we'll look at -- I'm sure we'll look at a number of deals and see if they make sense, but it's too hard to put a number on that at this stage.

[Operator]

[Operator Instructions] Our next question comes from Richard Jones from JPMorgan.

[Richard Barry Jones, Vice President]

Avi, just interested in your feedback on what the valuers are saying in relation to long WALE assets? And perhaps any reference that they're making to changes in the risk-free rate and the risk premium over the last 6 months?

[Avi Anger, Fund Manager]

Well, I think -- yes, look, I think, Richard, the value is, we're looking at the transactional evidence, which has been pretty strong across the market particularly for long WALE assets and they're basing their valuations on that evidence going forward. So as you know, they look at 2 approaches: the DCF and the cap rate approach. So when they look at the cap values and they compare that to what's transacting in the market, I think that we've seen some compression over the last sort of 6 months which will likely feed into, and it has fed into our [ vals ], as you've seen through the uplift we reported at December. And I'd say the transactional evidence from the back half of last year will probably continue to feed into June [ vals ] in 2020. So I'd say the -- most -- I think more importantly the rate -- the bond rates are still very low, so they're basing it of when they're doing their analysis on -- even though the premium is still required, but that -- the base rate is much lower, and that seems to be staying low. So that's sort of, I think, also being used in valuations as well. Seeing a risk premium -- the risk premium is still there, but the base rate is much lower.

[Richard Barry Jones, Vice President]

And how much of your portfolio was revalued in the half?

[Avi Anger, Fund Manager]

We revalued about 80% by value. The properties that we would have acquired within sort of 3 to 4 months a year and we didn't revalue, and there was some of the portfolios that we only valued part of because of the number and volume of properties to get through there.

[Richard Barry Jones, Vice President]

Yes. So you've obviously had an incredibly active period. Did you think the activities -- I imagine it's going to be difficult to replicate what you've done in the last half, do you see a lot on your plate at the moment or is the pipeline slowing?

[Avi Anger, Fund Manager]

It's very hard at this stage of the year to form a view on pipeline. Typically, in real estate, everyone goes away Christmas. And then people come back in the New Year and start thinking about what they're going to do. And typically, it's around this time of the year when people start thinking about their capital decisions in terms of buying and selling. So we're starting to see deals come through and -- but it's hard to get a read on how these are going to go, but I'm sure, it's an active market. Even if the markets are high or low, people always have reasons to buy and sell. So I'm sure there'll be -- it will be another active market this year, and we'll see where we fit into all that.

[Richard Barry Jones, Vice President]

And do you think the sale-and-leaseback market is kind of where the best opportunities lie for you guys in the short term?

[Avi Anger, Fund Manager]

Whilst the sale-and-leaseback suit us a lot because of the nature of them being typically you're getting long leases, you're getting a good covenant tenant, you're negotiating with that tenant directly on leaseback terms and now 47% of our portfolio is triple-net, which is a big increase from where it was previously. So we're able to negotiate those sorts of leases, which are also sort of what we're looking for. So yes, look, I think it's definitely an area that corporates are more focused on. And it's an area that we'd love to do more and absolutely.

[Operator]

[Operator Instructions] There are no further questions at this time. So I'll pass back to Avi.

[Avi Anger, Fund Manager]

Thank you. Well, thanks, everyone. Thanks for joining the call this morning. Appreciate your support and interest in CLW and look forward to catching up with you one on ones in the next few days. Thanks.