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Earnings Call Analysis

Fibra Monterrey Reports Strong Growth

Fibra Monterrey finalized its acquisition of the Zeus portfolio, adding 46 industrial properties and a large land bank, bolstering its already strong industrial sector presence. Growth prospects are high, with expansions driving a projected GLA increase of approximately 4%. The company's financial position remains solid with a loan-to-value ratio of about 25% and a net debt-to-EBITDA below 3x. Affirmed their capability to secure over $250 million in market opportunities, they reported an AFFO increase of 35%, with further growth anticipated. Moreover, a $83.2 million industrial portfolio acquisition is expected to close in Q1 2024, and over $1 billion in potential transactions are being evaluated. Their debt, 100% unsecured and U.S. dollar-denominated, has an average maturity of 4.6 years, with no significant maturities until late 2027.

Positive Acquisition and Portfolio Expansion

Fibra Monterrey has successfully completed its second closing of the Zeus portfolio with an investment of $45.2 million, expanding its industrial footprint significantly, especially in the strategic Puebla market. The company has experienced a surge in demand for expansions in its industrial property portfolio. With potential expansion exceeding $90 million, Fibra Monterrey is actively constructing and negotiating additional space, translating into over 100,000 square meters of gross leasable area (GLA) to enhance its portfolio. Approximately 53,000 square meters are currently in the construction phase.

Achieving Upper-End Guidance

For the ninth consecutive year, Fibra Monterrey is on track to meet or exceed its upper-end guidance. The investment proposition of the company is bolstered by long-term, predominantly inflation-adjusted, U.S. dollar-denominated lease contracts, providing stability despite fluctuating macroeconomic conditions.

Diverse and Occupied Portfolio

The company's real estate holdings span 15 markets across 14 states, representing a GLA of nearly 18 million square feet, with occupancy rates around 96%. Industrial properties account for 71.8% of revenue, while office buildings and small retail portfolios make up 26.7% and 1.5%, respectively. The dollar-denominated leases amount to almost 83% of gross revenue, providing a buffer against local currency fluctuations.

Strengthening Operating Margins

Despite a gross revenue reduction of 6.9% due to negative foreign exchange (FX) impact, the integration of the Zeus portfolio led to a 60.4% increase in net operating income (NOI) year-over-year to MXN 523.4 million for the aggregated portfolio, with an NOI margin of 90.4% for the quarter, surpassing the target of 88%.

Financial Strategy and Vision

Fibra Monterrey continues to optimize its NOI through a variety of strategies, including FX impact management and operational savings. The company is also eyeing an industrial portfolio acquisition of $83.2 million potentially closing in early 2024. With the intent to commit more than $250 million, including expansion and acquisitions, the company is evaluating over $1 billion worth of industrial properties in strategic regions, navigating through competitive landscapes with its established reputation and financial acumen.

Conservative Financing and Growth Potential

Maintaining a robust balance sheet, Fibra Monterrey prudently manages its unsecured debt with interest rates below 5% and a loan-to-value ratio around 25%. Affording significant flexibility to seize market opportunities, the company's net debt to EBITDA is below 3x. The management's commitment to enhancing cash flow per share is further validated by AFFO (Adjusted Funds From Operations) per share, showing an approximate increase of 10% year-on-year when FX fluctuations are isolated. Furthermore, the Fibra maintains industrial sector dominance with over 75% revenue coming from this segment and has been praised by Standard & Poor's CSA evaluation.

Earnings Call Transcript 2023-Q3

[Operator]

Good morning, and welcome to the 2023 Third Quarter Fibra Monterrey's Conference Call. With us this morning from Fibra Monterrey, we have Mr. Jorge Avalos, CEO; Jaime Martinez, CFO; and Javier Llaca, COO. They will discuss our more important strategic financial and operating aspects of the quarter.It is important to note that the presentation related to this conference is available at www.fibramty.com, and recordings of the call will be available on the website of the company in the next 2 hours. If you're connected using our webcast tool, you have the option to download the presentation in order to move the slides at your own pace.Let me remind you that the information discussed in today's call may include forward-looking statements on the company's future financial performance and prospects, which are subject to risks and uncertainties. Actual results may materially differ and the company advises not to rely on these forward-looking statements. Fibra Monterrey undertakes no obligation to publicly update or revise any forward-looking statement.I will now turn the call over to Mr. Jorge Avalos. Please go ahead.

[Jorge Avalos Carpinteyro, executive]

Thank you, everyone, for your time, and I'm glad to share with you Fibra Monterrey's highlights during this third quarter results. In September, we concluded the second closing of the Zeus portfolio for an amount of $45.2 -- $45.2 million. This transaction included the acquisition of 3 industrial buildings and the land bank of approximately 800,000 square meters primarily located in the Peubla market. Consistent with our business model, we're exploring various strategies for this bank to generate additional cash flow. These strategies include, but are not limited to, expansions for existing tenants and land the investment for development complying with Mexico's income tax law.During the third quarter of '23, we received an unprecedented number of requests for expansions within our industrial portfolio. As of September, we have accumulated potential expansion exceeding $90 million with an average yield at a cost of approximately 10%. Of these, $49 million are already signed and under construction, $19 million are in advanced negotiations and the remaining $22 million are primarily in discussions. These expansions once completed are expected to increase our GLA by over 100,000 square meters, with approximately 53,000 square meters currently under construction. This will also extend the current lease contracts maturity terms, enhancing the defensive fundamentals of Fibra Monterrey portfolio.As of this earnings release, more than $1.2 billion in possible acquisition transactions have been identified and evaluated for industrial portfolios. From our previous call, we have already signed an $83 million LOI for an industrial portfolio that Javier will address during his remarks. A significant progress is being made towards finalizing other agreements to buy an additional industrial portfolio and complete our LTV target, which is 35%.Regarding financing, to strengthen our growth trajectory, we have arranged a bilateral credit line with a bank for an amount of $63 million in September. This credit facility is marked specifically for expansions and offers the unique advantage of an interest and principal payment upon each draws maturity. This structure will allow us to strengthen our interest associated with these expansions and preventing the allocation of operational cash flow for construction, debt services payments. The credit line features a variable interest rate with a credit spread of less than 150 basis points and duo up to 18 months. Our strategy is to transition the utilized balances to long-term debt structures once respective expansions generate rental income.As we reach our 35% LTV target, we intend to tap the capital markets during the first semester of 2024 for the following reasons: 1, we are trading near NAV, and we're seeing an unprecedented interest in international investors to capture this near-shoring momentum; 2, the use of proceeds will be used by an additional -- to buy additional industrial portfolio, reduce our debt structure and diversify our portfolio; 3, due to economies of scale and the combined cap transaction price, we can create AFFO accretion; and finally, as we intend to do a 144a and [indiscernible] issuance, our investor base will diversify, creating thus more liquidity for our stock and hence improve our cost of capital.Before concluding, I invite you to read our 2022 sustainability report. This report endorsed by Fibra Monterrey ESG Commission outlines our strategic sustainability plan for 2023 and 2025. It underscores our commitment to economic, social and environmental stewardship, aligning our internal initiatives and processes with global sustainability trends and expected outcomes to foster continuous improvement in our trust performance. In our pursuit of transparency and accountability, we sought limited independent assurances for this report.Furthermore, demonstrating our dedication to sustainability alignment at a strategic level, Fibra Monterrey participated in the 2023 CSA by Standard & Poor's, with results anticipated this November. In adherence to our public commitments as a signatory of the United Nations Principles for Responsible Investment, we have submitted our annual report detailing our responsible investment initiatives. We expect the publication of the corresponding assessment results in the fourth quarter of this year.Finally, I am proud to acknowledge that based on the outcomes as of September and reflective of our portfolio performance and the strategic initiatives deployed by our management, we are well-positioned to achieve the upper end of our guidance for the ninth consecutive year. I wish to emphasize that the prevailing macroeconomic conditions strengthen Fibra Monterrey as an attractive investment proposition, featured by long-term, U.S. dollar-denominated lease contracts, predominantly inflation-adjusted contracts. Similarly, the current interest rate landscape motivates development-centric firms to divest assets to meet ongoing market demand. In this environment, Fibra Monterrey stands with enhanced financial flexibility compared to other market players, ready to leverage these opportunities throughout our credit lines and as I mentioned before, with additional equity issuances.I will now let Javier walk you through our portfolio performance.

[Javier Llaca García, executive]

Thank you, Jorge. Good morning, everyone. I'll start my piece of the presentation on Page 3 with the composition and geographical distribution of our portfolio as of the end of the third quarter of this year. We have integrated all 46 properties of the Zeus portfolio as well as the 9.5 million square feet land bank in Puebla. Fibra Monterrey now manages 106 income-producing properties. Our footprint covers 15 real estate markets across 14 states in the Northern, Central and Bajio area, with a total GLA of roughly close to 18 million square feet, out of which around 15.5 million square feet are industrial, 2.2 million square feet are in office buildings and 215,000 square feet belong to our small retail portfolio. This is in addition to our land bank.Overall occupancy in terms of GLA stands solely close to 96%. We have consolidated a strong presence in the market with the most activity in mutual and real estate transactions, and we'll continue expanding in such markets, particularly in the Northern and Bajio areas. We will address that in more detail further in this presentation, how the integration of the Zeus portfolio has been completed during this last quarter.On to Page 4 of the material, we present a brief overview of our new key performance indicators as of the end of September and moving forward. In terms of percentage of revenues, these indicators remained similar to the previous quarter. 71.8% of revenue by asset class come from our industrial properties, while office and retail account for 26.7% and 1.5%, respectively. By location, revenue from our Monterrey-based portfolio represents 41.4% of total income, followed by Guadalajara, Guanajuato, Saltillo and Tijuana, which combined represent close to 34% of revenue.Occupancy rate as a percentage of potential revenue at full capacity stands close to 93%. Our dollar-denominated leases represent almost 83% of gross revenue, which could further expand if the peso exchange rate increases. And finally, lease maturity schedule and weighted average lease term is at 5 years with around 39% of revenue will begin expiring in 2028. As we mentioned during our previous earnings call, we believe that during '26 and '27, we would be able to capture positive spreads on industrial renewals and new leases.On Page 5 of the webcast material, we present the same property performance analysis for the third quarter of 2023 compared to the same quarter of the previous year. For purposes of this analysis, we used all 6 investment properties in our portfolio prior to Zeus, which represent a total GLA of 8.8 million square feet. Compared to the second quarter of -- to the third quarter of 2022, gross revenue contracted in 6.9% or MXN 25.10 million, with a decrease of 7.6% or MXN 24.7 million in our net operating income, mainly due to negative FX impact following the third quarter of last year. NOI margin contracted in 70 basis points to 86.3%. The composition of NOI variance will be explained in detail in the following slide.Once we incorporated additional revenue from Zeus, the aggregated portfolio generated a total net operating income of MXN 523.4 million compared to MXN 326.2 million in the third quarter of last year, an increase of 60.4%. Our NOI margin for the aggregated portfolio was of 90.4% for the quarter, above our target of 88%. The fact that the NOI margin of the Zeus portfolio is almost 97%, we continue to accomplish substantial economies of scale in the operation of the portfolio.Slide 6 of the presentation explains in detail the MXN 24.7 million reduction in our net operating income comprised of the following: MXN 44.7 million decreased due to negative FX effect between the third quarter of last year and the third quarter of this year. MXN 300,000 increased due to vacancies from certain lease expirations. MXN 13 million increased due to inflation escalations on lease agreements and new leases. And MXN 7.3 million increase due to savings in certain operating expenses. As you can see, once we included additional revenue of about MXN 221.8 million from the Zeus acquisition, we reached the MXN 523.4 million NOI in our aggregated portfolio.On Page 7 of the presentation, I would like to address the variance in the valuation of our investment properties portfolio in which we have seen a negative impact of about MXN 2.1 billion in FX change alone during the last 12 months prior to September of 2023. Some CapEx expenses as well as improvements in the operation and market conditions, current investments and expansions, and the integration of Zeus portfolio boosted valuation from MXN 17.8 billion to MXN 28.4 billion at the end of the third quarter. It is important to point out that sequential FX effect for the third quarter was positive for valuation purposes for the first time in the last 7 quarters, although we are still carrying an overall negative impact year-to-year.Moving on to Page 8 of the presentation. We are happy to inform that the integration of 46 properties of the Zeus portfolio was fully completed by late September. Our operations and accounting teams have done a phenomenal job in terms of administrative work with our tenants and property managers to secure 100% invoicing and 100% rent collection. The second and last closing of the portfolio was executed on September 20 and this is scheduled to be paid on October 31 of this year. The land bank in [indiscernible] is being already marketed with a very positive perspective for the sale of at least a significant percentage of it, along with the possibility of development as the demand in [indiscernible] is picking up momentum.Also, we have already received some requests for proposals for new build-to-suit projects at that location. We have already executed 125,000 square feet expansion in one of the Aguascalientes properties, which comes along with a blend and extend lease of the previous and new facilities together. As Jorge also mentioned during his opening remarks, we have executed 4 agreements for certain expansions in our industrial portfolio, which are highlighted on Page 8 of the presentation.The construction of these expansions is already underway. This expansion in certain properties in San Luis Potosi Monterrey, Queretaro and Aguascalientes, with a total GLA of more than 0.5 million square feet will represent a total investment of close to $50 million. These expansions would generate additional NOI of $44.6 million. This is a yield on cost of 9.3% net on investment in tenant improvements, which are amortized throughout the lease term. These expansions also will allow us to extend the term in another 10 years with an attractive blend and extend lease rate close to market and above our current rates.These expansions will increase the size of our industrial portfolio in close to 4% in terms of GLA. It is also relevant to say that all required energy for these projects has been already secured. More expansion on our industrial buildings are well advanced in negotiations, as Jorge said, and are expected to be executed in the next few weeks. It would drive additional GLA of another 0.5 million square feet with an investment of around $41 million at a similar cap rate than the 4 previously mentioned. And finally, I would like to point out that positively spread observed during this last quarter stood above 8.3% above inflation for renewals, new leases and expansion.Finally, and moving on to Page 10. Jorge also mentioned some of our underwriting activity during the quarter. We have executed a letter of intent to acquire an industrial portfolio for $83.2 million, which we expect to close in early first quarter of 2024. Details on the transaction are not yet ready to be disclosed, but we will keep you posted as the transaction progresses. It is important to mention that this transaction as well as any others on the pipeline are still subject to corporate and governmental approvals such as [indiscernible].Talking about potential future acquisitions, and as Jorge mentioned earlier, we are currently evaluating more than $1 billion worth of industrial properties in the Northern, Bajio and Central regions. We continue to focus on those opportunities that are consistent to our investment profile and guidelines. Again, we strongly believe that our current firepower could be committed before the end of the year, including expansions and acquisitions.At the end of today's presentation, I'll be more than happy to address any questions you might have regarding operations and acquisitions in our real estate portfolio. But for now, I will hand the presentation to Jaime Martinez. Jaime?

[Jaime Martínez Trigueros, executive]

Thank you, Javier, and thanks, everybody, for joining the call. I would like to start my speech with a quick overview of our balance sheet. As you can see on Slide 11, our outstanding debt fundamentals remained virtually the same since our last call. We kept our debt 100% unsecured with an interest rate well below 5% and U.S. dollar denominated. Also, the average debt maturity stands at 4.6 years with no material debt maturity until late 2027. Furthermore, our balance sheet remains strong with our loan-to-value around 25%. This results in greater financial flexibility to size market opportunities of our -- of more than $250 million, including the expansion Javier mentioned a moment ago. The same flexibility remains true while looking to our net debt to EBITDA, which stands below 3x.Moving on, we have more than enough gone powder in available credit lines that accounts for 20% of our assets. As Jorge mentioned in his initial remarks, during this third quarter, we secured a bilateral credit line with Scotia Bank for $63 million. This line versus single interest and principal payment at the maturity of its draw, simplifying the identification as the financial cost of the development and preventing the allocation of operational cash flow for construction debt service payments. The credit line accrues interest at a floating rate with a surcharge of less than 150 basis points and has a term of up to 18 months. We aim to replace the drawn balance with long-term debt following the beginning of the rental revenue from each expansion.Starting to talk about bottom line results, as shown on Slide 12, this was the first full quarter without the revolving credit lines we use for the Zeus acquisition. Nonetheless, an even stronger peso kept as a constraint in our AFFO once translated into Mexican pesos. It is worth mentioning that isolating these FX variations, our AFFO per share would have grown around 10% on year-on-year basis. I'll emphasize this matter later in the call. As shown in the graph on the right side, when looking into the main variations in cash flow against last year's AFFO, the main driver is obviously the Zeus acquisition, which was partially offset by same-store NOI variations that Javier already mentioned, lower cash investment balance and higher interest expenses paid to finance the acquisition also by larger administrative expenses due to inflation and nonrecurring expenses related to the Zeus acquisition. Nonetheless, AFFO increased about 35%.On the next slide, you will find the same analysis was compared to the previous quarter. The main variation was lower financial expense given that this is the first full quarter without the revolvers used to acquire Zeus, and having the benefit of the 60 basis point compression in the credit spread of our $150 million credit line, which we announced last quarter. This benefit was partially offset by same-store NOI given a stronger peso when compared to the second quarter and larger SG&A expenses due to higher expenses in projects mainly in the finance, CLG and tax departments. Both effects influenced both NOI and EBITDA margins when compared to the second quarter 2030, especially the FX variation, given our highly dollarized revenue and mainly peso-denominated expenses both on the operational and the administrative front.As previous quarter, on Slide 14, they selected information to compare and contrast our main financial indicators on the last 12 months to facilitate your analysis.Finally, on Slide 15, I'll emphasize the FX relevance for our local investors. As you can see in our graph on the left, this quarter AFFO per share stood at $0.94 on an annualized basis at an FX rate of just shy MXN 17 per dollar. Sliding to your right, you'll see different FX scenarios ranging from MXN 18 all the way to MXN 20.23, which was the third quarter '22 FX rate. Once isolating this effect, our AFFO per share increased 10% on a yearly basis when accounting for the 2 equity issuance we did in the last 12 months. Our focus as management stays the same, to keep improving our cash flow per share performance on a regular basis. Having said that, I would like to end my speech by remember in Fibra Monterrey's strong fundamentals as an appealing all-weather investment vehicle.First of all, we keep almost 75% of our revenues in the industrial sector with a strong presence in other markets, mainly in Monterrey and Saltillo, which are the most active markets in near-shoring activity. Fibra Monterrey stands as the best-in-class Fibra in the market, endorsed by Standard & Poor's in its CSA evaluation. We are the most active issuer in the market, having grown our portfolio more than 10x, while continuously increasing our shareholders' cash distribution and keeping our balance sheet prudent and strong.Our firepower capacity, organic potential in the office space and industrial expansion paired with our strong lease fundamentals such as highly dollarized revenue stream and inflation escalation, considering current market activity and the potential reduction in our cost of capital, given our market cap size and investment-grade status, AFFO per share has more upside potential that will be materialized going forward.That would be all. Kevin, please continue with the Q&A section of the call.

[Operator]

[Operator Instructions] Our first question is coming from Hugo Grassi from Citibank.

[Hugo Grassi, analyst]

Regarding -- my question is regarding the nearly 820,000 square meters of land you acquired, mostly in Puebla. Can you just be clear, lay out what the game plan is regarding that land? Can we expect to develop yourself, which you historically have rarely done? Or do you plan to call in a third-party developer or even alternatively you plan to sell the site? So I guess, which of the 3 options do you have in mind? That should be on my side.

[Jorge Avalos Carpinteyro, executive]

Thank you, Hugo. Yes, the short answer is 2 of the 3 options. We're not going to develop ourselves. If we were to invest in development of that site, it would be through a third-party developer. What most likely is going to happen is a mix of a sale of at least a portion of the land and the land that could be developed would be developed through a third-party developer. We would only contribute equity in the form of the land and working capital. But that would be performed by a specialized industrial developer with a good track record.As we mentioned during the presentation, we have seen a pickup in the momentum on demand from automotive companies in that area because of recently announced new production line of Audi. The site is across the road from the Audi complex and we are seeing a pickup in momentum. We are already working on a couple of RFPs, request for proposals, for 2 build-to-suits. And we are discussing with this developer, the possibility of developing a speculative building. Still early to give you more details, but it would be a combination of land sale and development through a third-party developer.

[Operator]

Next question today is coming from Anton Mortenkotter from GBM.

[Ernst Mortenkotter, analyst]

Congrats on your results. I have 2 quick questions. I mean, you mentioned you're looking into $1 billion of potential investments, given the current competitive landscape with many vehicles coming out and so many eyes on all the industrial real estate, how much of that $1 billion would you say you are the main bidder? Or how is competition there? And what would you say is your edge on that?

[Javier Llaca García, executive]

Okay. Yes, the $1 billion that we are evaluating, it's comprised by a bunch of portfolios. I would say that we have -- that we are always a competitive bidder. We proved that with the last Zeus transaction. The execution capacity and the ability to closing that we have proven to the market and to the developers is well known. So that's a very attractive and appealing aspect of closing with us.Obviously, we have limited firepower right now. If you take into consideration that we are close to around $90 million on expansions and this LOI that we signed last week, we are close around $170 million with our current firepower. That leaves us with roughly $100 million to deploy before reaching or closing to 35%. So we are being very selective on this pipeline. We are being very surgical, if you will.Jorge mentioned the potential need for tapping the markets again to rebuild this firepower. But we are -- the ability that we have on closing either a single building or a portfolio of several buildings is second to none in the market. So we are very selective. What's the percentage on that pipeline that we think we could be a successful leader, that's hard to say. I can tell you that all potential sellers are very serious with us. We are very serious with them. We're making progress, and we will let you know as these progresses. But I think that would be the best answer I can give you.

[Ernst Mortenkotter, analyst]

That's great. And also good that you mentioned the expansions. How much additional expansions have you been able to pinpoint using your current portfolio? Or most of it just comes out as a request from the current tenants.

[Javier Llaca García, executive]

Well, I think we explained that. But we have about 8 to 9 expansions in the works. 4 of them are already signed and being developed as we speak. The other ones -- when you talk about expansions, the success rate is really high because these companies need to grow close to their facility. All of these expansions have reserved land considered for potential expansions, some of them from the beginning. So the success rate is really high. If you would have -- would ask me the success rate on that million square feet that we have in the works, I will be surprised if we don't close all of it. We depend more on the business plan and the ideas of the tenants, but we are ready to shoot for those expansions. So I believe the success rate on this $90 million is really, really high.

[Operator]

[Operator Instructions] With no questions in queue, I'd like to turn the conference over to management at this time.

[Javier Llaca García, executive]

Well, thank you, everyone, for your time, and we'll speak to you next quarter. Have a great week.

[Operator]

Thank you. That does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.