CI Banco SA Institucion de Banca Multiple FF/00939

BMV:TERRA13

Earnings Call Transcript 2022-Q3

[Operator]

Good morning. My name is Ali, and I will be your conference operator today. At this time, I would like to welcome everyone to Terrafina's third quarter earnings conference call. [Operator Instructions] Thank you for your attention.

And I will now turn the call over to Francisco Martinez, Terrafina's Investor Relations Officer. Sir, Please go ahead.

[Francisco Martinez, executive]

Thank you, Ali, and good morning, everyone. Welcome to our third quarter 2022 conference call. We are very pleased to have with us today from Terrafina, Mr. Alberto Chretin, Chief Executive Officer; and Mr. Carlos Gomez, Chief Financial Officer. Mr. Chretin will take us through the company's overview and operations, and Mr. Gomez will discuss our financials.

Before we begin, we would like to refer you to the note on forward-looking statements in the early report or any information expressed or implied during the call may include forward-looking statements, which could involve certain risks and uncertainties. Terms such as estimate, project, plan, believe, expect, anticipate, intend and similar expressions may identify such statements. Listeners are cautioned that forward-looking statements made during this call or by the company's management may change based on various important factors out of the company's control. These comments represent the company's judgment at the time of this call, and the company has no intention or obligation to update these forward-looking statements. Thank you again for your attention.

And at this point, I will turn the call over to Mr. Alberto Chretin for his remarks. Go ahead, Alberto.

[Alberto Castillo, executive]

Thank you, Francisco. Good morning, and thanks for joining us today. During the third quarter, we continued to have a strong operation and financial results. We also made significant progress with our development pipeline, which I will glad to discuss in detail later during this call. And we have all witnessed recently, the industrial real estate space has proven to be one of the strongest and most resilient sectors in Mexico.

This has been especially true under the current macro-economic scenario, which is characterized by high inflation as well as a potential economic recession, persistently threatening global markets. Under these conditions, the manufacturing for export and logistics activities, primarily within the Northern region have been the main driver for new inventory demand. This benefit Terrafina as they enable the successful development activity considered on our 3-year growth plan. Vacancy rates remain at record lows in core markets like Tijuana and Sura, which are key markets for multinational tenants.

We are confident that near-shoring activities will keep triggering growth opportunities as supply chains are restructured across the world. Mexico's privileged geographic location as well as its excellent track record for industrial activity will continue to be fundamental to our operations.

Moving on to the highlights for the quarter. Our leasing activity reached 2 million square feet. Of this, 900,000 square feet were new leases and 1.1 million were -- it is worth mentioning that 60% of the total new lease activity was concentrated in the Northern region, specifically in Tijuana and [indiscernible] with a weighted average lease term of 7.7 years. This considering the 5-year term agreement for logistics tenants and a 10-year term for a manufacturing tenant. The remaining 40% mainly came from tenants in the logistics sector located in the central region, specifically what clinical. This had a weighted average lease term of 3.5 years and a rental rate of $6.31 per square foot per year.

Rental rates in the new leases in the North closed at $7 per square foot per year for the property in Tijuana and $6 per square foot per year in [indiscernible]. These developments are part of our previously announced 3-year growth plan. We also had new leasing activity in 2 properties in San Luis Potosi within the Bajio region. We signed leases for 120,000 square feet property for a logistic tenant at $4.63 per square foot in a 5-year term and for a 42,000 square feet property for an automotive tenant at $4.39 per square foot with a 6-year lease term.

As for renewals, most of the activity took place in the northern region of the country. Chihuahua was the leader-- as we review 532,000 square feet at a weighted average lease term of 6 years and a rental rate of $4.90. This mainly came from aerospace and automotive sector tenants. [indiscernible] has followed with a 223 to square feet of renewal space. These leases were focused on tenants in the industrial goods sector, particularly in the manufacturing of plastic and cardboard packaging. They were closed at a weighted average lease term of 8.1 years and a rental rate of $5.44 per square foot.

Finally, an [indiscernible] in [indiscernible] renew 112,000 square feet on a 3-year lease term and the $0.30 per square foot rental rate. In the central region, we renew 129,000 square feet of G&A in the quarter with a $6 rental rate and a 1-year contract for a tenant in the consumer goods sector. As a result of this leasing activity, we had positive net effective lease rents across our contracts with spreads of 6% and 11% in the Northern and Central region, respectively. This led to a 6.8% consolidated net effective lease spread.

Moving on to our expirations out of the 18 lease contracts that expired during the quarter, [indiscernible]. Allow me to elaborate on these expirations, providing further color, especially the most relevant spaces. We have a 122,000 square foot property in Tijuana that represented 22% of [indiscernible] of the third quarter terminations. This property was vacated in refurbished to take advantage of these markets strong demand and dynamics.

By doing so, we were able to sign a lease with a 34% rental rate increase. The previous average rental rate for the property was close to $5.20 per square foot, while the new lease ability was signed for $6.95 per square foot. [indiscernible], 141,000 square feet, equivalent to 25% of the total termination were vacated. This termination is explained by the fact that the base was only being temporarily leased while we finish the construction of a build-to-suit property requested by the same tenant which was delivered during the quarter. We already have for this property, an LOI for a new tenant for a 10-year lease contract at $5 per square foot per year.

In [indiscernible], we see in other regions, 68,000 square feet or 12% of the 12 terminations were vacated. This space is already negotiated to be leased during the fourth quarter. And in the central region, we had 2 properties in [indiscernible] scale that were leased to new tenants at higher rental rates, given our ongoing strategy to improve the portfolio's average rental rate. These properties added up to 103,000 square feet or 15% of the quarter total termination.

We have been taking advantage of recent lease terminations to re-evaluate rental rate conditions for some leases, contracts that are now below market rents. With this, we seek to materialize organic rental growth for the portfolio as the year comes to an end. For the rest of the smaller termination contracts, we were undergoing these negotiations in commercialization efforts as there are opportunities to have some expansions made for tenants adjusting to these spaces. If we consider the already leased space that did not renew, the renewal rate is 88%.

Moving on to our strategic premium growth plan progress. We delivered 3 new properties during the quarter. Two of these were in salaries and amounted to 640,000 square feet. We expect both properties together will add an estimated $3.6 million to our annual NOI starting at the end of the fourth quarter of this year. The third property in Apodaca, we expect it will add 100,000 square feet to our overall G&A and $400,000 to our annual NOI started in the fourth quarter as well.

We are very proud of our progress with the development pipeline as we have committed more than $128 million on development activities to date. This sets us ahead to deploy in a faster way, our goal of $150 million to $200 million of our 2021 to 2023 development activities. We are servicing that we will be on track with our growth plans for next year, and we continue to evaluate opportunities for additional growth going forward. The great value of our investment properties led to a 7.5% increase in our net asset value per certificate compared to the second quarter of 2022.

On our buyback activity, we remain active as we purchased 3.4 million certificates at a weighted average price of MXN 28.05. With these transactions, we have reached our target amount in resource deployment toward buying back certificates. So we expect to be less active on this front for the remainder of the year. Quarterly distribution will be $18 million. This translates into a payment of USD 2.34 per certificate. And considering the average share price of MXN 27.42 during the quarter, Terrafina's annualized dividend yield is 6.9%.

Finally, on the ESG front, we kept our solid position of S&T's 2022 Corporate Sustainability Assessment or CSA with a total score of 63 points. We are glad to know that Terrafina ranks high among other international companies with one of the most relevant annual evaluations of sustainability practices. Additionally, we also achieved strong results in our global real estate sustainability base mark assessment, commonly referred as TSB with a total of [indiscernible] points. Thank you.

And Carlos, please go ahead with the financial highlights for the quarter.

[Carlos Espinosa, executive]

Thank you, Alberto, and thanks to all the participants for joining us on today's conference call. Please note that all figures discussed in this call are in U.S. dollars. But Mexican peso figures can be found in the earnings report. Additionally, NOI, EBITDA and FFO figures exclude non-cash items as well as nonrecurring and transaction-related expenses, the latter of which are only included in the AFFO. We will focus on [indiscernible] property comparisons for the main financial metrics.

Same-store net collections in the third quarter of 2022 reached $48.7 million, a 3.5% increase compared to the third quarter of 2021 consolidated results. Rental revenues and NOI reached $48 million and $46.3 million, respectively. Both results implied a year-on-year increases of 1.9% and 2.6%. For the third quarter of 2022, we reported an NOI margin of 93.6%. EBITDA totaled $40.5 million, a 1% increase and an 81.8% margin. Finally, AFFO reached a total of $25.5 million, a 1.5% year-on-year decrease. It is also relevant to mention that during this quarter, we came up with our CapEx investments and expect to continue to do so during the fourth quarter of the year.

Moving on to our balance sheet. We told the quarter with $45.2 million in cash and investment properties booked at $2.6 billion, a 3.2% quarter-on-quarter increase. Our total debt at the end of the third quarter of 2022 closed at $843.7 million with an average cost of debt of 4.8%. The average weighted maturity for our debt was 5.5 years. Finally, our LTV remained low at 33%, a 100 basis point decrease compared to the second quarter and continues to be better than our expectations of having an LTV ratio of 35% by 2023. Thank you for your time and attention.

I will now ask the operator to open the line for questions.

[Operator]

[Operator Instructions] Our first question is coming from Pablo Monsivais.

[Pablo Monsivais, analyst]

Alberto, you mentioned in your earnings release that you're almost done with completing your 3-year growth plan. My question is, is what's next for Terrafina -- how can you take advantage of the growth opportunities that are presenting in Mexico right now?

[Alberto Castillo, executive]

Thank you, Pablo. Yes, as I mentioned, we are very pleased with the performance of our 3-year plan, and we have already delivered some good results on it. However, we're looking also at other opportunities to continue with this growth. We identify opportunities for development on our own land and also opportunities for potential M&A and that we are working very hard on different options to fund this continued growth. We have been very successful on a couple of joint ventures with a proven property managers, and we're looking to opportunities to expand on these kind of scenarios and in working very, very, very hard to do that. And we will in time, announce what are we going -- what our plans are going to be moving forward to expand on these growth opportunities. Okay.

[Pablo Monsivais, analyst]

So if I'm understanding your answer correctly, perhaps sometime next year, maybe we should expect some new growth plan for the next x amount of years?

[Alberto Castillo, executive]

Absolutely. Yes. And I think that it's something that we're doing -- we're not waiting until we finalize these 3-year growth plan. Right now, as I mentioned, we're working very actively to evaluate different options to continue to grow with -- and also opportunities to fund this growth with other alternatives. So yes, we're mindful of the need that we had not only to continue with good performance of the portfolio, but also to accelerate the velocity by which we are going to grow a company.

[Operator]

Our next question is coming from Juan Ponce.

[Juan Ponce, analyst]

I have a question on asset dispositions. Can you give us an update on how you're moving along with the process? How much is left in the pipeline?

[Francisco Martinez, executive]

Sorry, Juan, could you repeat the question, please?

[Juan Ponce, analyst]

Sure. My question is on asset dispositions. If you can provide us, please, an update on how the plan is going...

[Alberto Castillo, executive]

The distribution, we have a payout ratio of 70%, and we will continue with the distributions with the 70%. That is not going to move I don't know if that was...

[Juan Ponce, analyst]

No, I'm sorry. I was talking about asset dispositions, so asset sales. Asset sales.

[Alberto Castillo, executive]

Okay. The assets, yes. The as sales, we have had 2 events of asset sales as part of our capital recycling initiatives, as you know. And we slowdown of the asset sales for the remainder of this year as we're not going to sell properties below prices that we think that are convenient to Terrafina. So I think that we do have 2 events in the pipeline, and we are negotiating with potential buyers, but we are not going to accelerate the sales and deal unless we have something that is going to be beneficial to Terrafina...

[Juan Ponce, analyst]

Okay. Can you just remind us, please, how much is left in the pipeline? I mean I think it was around $500 million, but can you remind us, please?

[Unknown Executive]

Yes, the overall amount of asset dispositions that we have, one is in the range of $60 million approximately.

[Operator]

Our next question is coming from [ Andres Figueroa ].

[Unknown Analyst]

I have 2 quick questions. The first one is regarding the renewal rates. I think I didn't get it clear. Could you give us some color on what happened on the renewal rates? And the second one, driven the reduction in margins in the current quarter, could we expect to see a trend on the near future? Or is it or is it just a onetime thing?

[Alberto Castillo, executive]

Well, the renewals, we have had the renewal range for Terrafina has been in the mid to high 80s, and we expect that to continue. This particular quarter, we had a situation that we initiated an initiative not to renew some contracts that were not favorable to Terrafina by means of if we could get a better tenant or a higher rent on the lease contracts. This was specifically true, as I mentioned, in Tijuana and in Cuautitlan Izcalli, and so in Chihuahua also. Basically, what we did was not to renew contracts that were at a lower rent, when we had the opportunity to have a new lease with a higher rent or if we had an opportunity to enhance the quality of some of our tenants, which is something what happened in what the plan is [indiscernible] -- so that's -- we expect the renewal rates for the next quarters to be in the high 80s as we have been doing this in the past years.

[Unknown Executive]

And could you also repeat your second question, [ Andres ]. Thank you.

[Unknown Analyst]

Yes. There were some reductions in margins in the current quarter, I mean, a little ones. Could we expect to see like a trend in the near future? I see just like a onetime thing?

[Unknown Executive]

In terms of our margins, what are our expectations on the top line is to maintain an NOI margin on the mid-90s in overall annual results. And on the bottom, results, we also expect to see on the AFFO on the low mid-50s percent. So yes, for this particular quarter, it was a one-off, and we actually guide all of our market participants to look into our results for the annual guidance for Terrafina.

[Operator]

Our next question is coming from [ Juan Mercado ].

[Unknown Analyst]

Are you hearing me?

[Operator]

Yes, sir.

[Unknown Analyst]

Yes, great. My question is regarding your cash flow. We saw cash inflow from distribution. Is this related to your JV with American Industries? Or can you give us some color on that?

[Carlos Espinosa, executive]

Yes. Yes. On regards of the JV from American Industries, we received an inflow of $25 million, which was used for development and other corporate purposes. And yes, we are expecting the cash to remain in the $40 million neighborhood for the next quarters.

[Unknown Analyst]

Okay. So this is -- do we expect more inflows in the coming quarters? Or is this it I didn't understand...

[Carlos Espinosa, executive]

No, no, no. This is a onetime cash event, and we are not expecting additional funds from that same source.

[Operator]

Your next question is coming from [ Renata Koblan ].

[Unknown Analyst]

I have a follow-up regarding a question from the beginning in terms of the growth plan for the future. I'd like to hear from you what do you think of the biggest demand driver going forward if it's onshoring industrial or e-commerce? And what would be the decision of the company to -- if it would invest only one of these fronts?

[Alberto Castillo, executive]

Okay. Yes. As I mentioned, going forward on our growth strategy, we are evaluating other options to fund the growth because we identify opportunities to continue to develop within our own land as well as some M&A opportunities on some properties in the core markets in which we operate. So moving forward -- going forward on the growth activities is going to be a combination of development as well as M&A. And to fund these growth opportunities, we are looking for something like we -- as I mentioned before, we have 2 very successful joint venture with our current property managers, and we are looking at this type of instrument for continued growth with we're exploring opportunities, which we will announce in time when we are ready to deploy these activities.

[Unknown Executive]

If I put a [indiscernible] nearshoring side, yes, it has been more active. We have been taking advantage of some opportunities, particularly on the manufacturer as well as on the logistics side. So for 2023, we expect to see more activity coming from new turn.

[Operator]

Our next question is coming from Alan Macias.

[Alan Macias, analyst]

Just a follow-up on CapEx. You can remind us of the CapEx -- your guidance for next year and what it could be accelerated to if you can provide at this time level of what might be -- how much higher given the strong demand in industrial space in Mexico? And also if you can just update on your LTV target, would you be willing to go up to 40%? Or what level would you be comfortable?

[Carlos Espinosa, executive]

On regards of our guidance for CapEx for 2023, we are expecting to invest in the neighborhood of $80 million. On regards to our LTV target, today, we are in 33%. We may be using some additional debt for growth, but we are not expecting to be above 36%.

[Unknown Executive]

Let me just about, Alan, when we are talking about the CapEx is basically on the maintenance side. This is the $80 million that Carlos mentioned. And when we are referring to our development CapEx, as you know, part of our 3-year strategy, we expect to see in the range of $60 million per year. To give you an idea, we have already announced $18 million for this 3-year growth strategy. So yes, you could see that 2023 would be a year where we could increase our development activity as we see more opportunities coming from the new share coming from existing tenants or sales of the expansions for other opportunities as well.

[Operator]

Our next question is coming from Francisco Suarez.

[Francisco Suarez, analyst]

The question that I have has to do with your overall lease expirations for the next year that are roughly 16% of your [indiscernible] based rent. What are your expectations on this lease expirations? Do you have any idea on the differences between in-place and market rents. And if you can expand a little bit on how things are proving between core and non-core markets...

[Alberto Castillo, executive]

Thank you, [ Alberto on ]. Yes, the lease expiration for next year are well within the normal range of aspirations for us. So we don't expect to have any changes in terms of the performance on the renewals of the expirations. On the core markets that we operate, mainly Tijuana, [indiscernible], Monterrey and around Mexico City, we expect to continue to see substantial rent growth as the demand for space in those markets continues to be very strong and the vacancy continues to be very low. So we expect to maintain the positive rent growth in these markets. And as far as the expiration for 2023, we feel that are an opportunity also to continue with our strategy to enhance the quality of our tenants as well as obtain rent growth.

[Francisco Suarez, analyst]

Okay. And just to clarify, by normal spreads, you mean the lease spreads that we saw this quarter for the northern markets that are in the 6% range. And also, if I may, how do you see the Saltillo market? Is that a core market for you? Or is that a noncore market?

[Alberto Castillo, executive]

Yes. The Saltillo market, that area, which has had a very good growth pace on the RO sector. We think it's not only [indiscernible]. There has been some activity on the automotive sector, especially with Tier 2 and Tier 3 suppliers that are servicing the electronic -- in hybrid vehicles -- so it's a market that has been performing well. And to answer your question, we expect that in conjunction with the Monterrey to be a core market going forward.

[Francisco Suarez, analyst]

Perfect. And just to clarify, the 6% is something that you might expect for next year in terms of lease spreads for your northern exposure in the north, just like we saw...

[Alberto Castillo, executive]

That is correct. That was the consolidated spread. We had above that, a risk spread because of our Tijuana and acquire developments. But the 3.8% consolidated average will continue to be also during 2023.

[Operator]

As there are no more questions in queue, I will hand it back to Mr. Chretin for his closing comments.

[Alberto Castillo, executive]

Well, thank you all for attending today. I would like to finish the call by thanking everyone in Terrafina as well as [indiscernible] real estate and partners for your help and commitment, which has been a key element for reaching solid results again. I would also like to thank our stakeholders for their continuous trust and reiterate our fundamental they are to our growth. Thank you for your time, and have a great day.

[Operator]

Thank you, ladies and gentlemen, and this does conclude today's call. You may disconnect your lines at this time, and have a wonderful day, and we thank you for your participation.