Citycon Oyj

OMXH:CTY1S

Earnings Call Transcript 2021-Q1

[Laura Jauhiainen, Vice President of Strategy & Investor Relations]

Good morning, everyone, and welcome to Citycon's First Quarter 2021 Results Audiocast. We have today published our results for the first quarter, and those can be found from our web page under Investors section. My name is Laura Jauhiainen, I'm the Vice President for Strategy and Investor Relations. And together here with me, as usual, we have our CEO, Mr. Scott Ball; and our CFO and Executive Vice President, Mr. Eero Sihvonen. Scott and Eero will give you a presentation of the first quarter results and the main events of the quarter. And you will have a chance to ask questions in the Q&A session after the presentation. Scott, please go ahead.

[F. Scott Ball, Chief Executive Officer]

Thank you, and good morning, everyone. We're pleased to present Citycon's Q1 results. I'll start with a summary of Q1 results and the highlights of the year, then Eero will go through Citycon's financial overview and where we stand now at the beginning of the new financial year. I will end with a review of some of the main events of the quarter and our strategic focus areas. Citycon's outperformance relative to peers continued in Q1 with stable financial and operational results and growth quarter-over-quarter. NRI for the period was EUR 50.4 million, which is 3.8% behind pre-COVID Q1 2020, while NRI is slightly lower compared to that pre-pandemic quarter, it's informative that it grew from the previous quarter. Operating profit of EUR 44.9 million also exceeded the previous quarter but was, however, down 2.9% compared to last year. Rent collection for the quarter stands at 92%. We are expecting final collection figures to be higher as payments have lagged in some of the countries that had stricter regulations. Valuations increased in Q1, supported by strong leasing activity with rental growth. I'd like to also mention, if you haven't seen it, I would highly recommend taking a peak at the Green Street paper, which talked about -- which talks about what's happening with valuations in the European markets. I think it's very well done. Successful divestment of our noncore assets with pricing, which validated the value and liquidity of Citycon's portfolio also occurred. Administrative expenses declined by 13% year-over-year as a result of our cost management. All in all, Q1 '21 financial performance was in line with our expectations and tracks our full year guidance. Also, our operational performance continued to be strong. Leasing developed favorably, and a number of signed leases grew from 50,000 square meters last year to 64,000 square meters in the first quarter of this year. Furthermore, the average rent of both signed leases and the whole portfolio increased. Tenant sales were resilient. Total sales declined by 4.7%. Footfall declined for the quarter, but in April has been significantly stronger than in 2020 when the pandemic hit last year. This stable performance reflects the strength of Citycon's strategy, which is based on having a large share of necessity tenants and locations in densely populated markets. The stability of the Nordics as an operating environment is another key factor underlying the stability of the results. As you will see later in the presentation, the outlook for the region continues to be positive. On the financing side, we successfully issued a green bond of EUR 350 million, with significant demand in an order book close to 5x oversubscribed. The pricing of the issue was highly attractive with a coupon of 1.625, which was the second best in the company's history. The transaction was part of our planned refinancing program. And I'd like to point out Citycon's bond spreads significantly tightened in Q1 and have returned to a pre-COVID level as a result of our strong operational performance. We also continued our capital recycling by divesting 3 lower-tier, noncore assets in the Stockholm area. Portfolio was priced at EUR 147 million. These transactions demonstrate the reduced risk profile of Citycon and reflect the investor appetite for Nordic real estate assets. As you can see from these statistics provided by the IMF, the operating environment in the Nordics continues to support our business. The Nordics are expected to clearly outperform the Eurozone in '21 in the most important metrics describing the economic environment and forecasting consumer purchase behavior. The strength of the region is reflected also in the transaction market and yield development. Our strategy of having a large share of necessity on municipal tenants adds to the resilience of our portfolio and bring stability to business and cash flows. Over 35% of our GRI comes from stable necessity tenants and a small portion, only 5%, of leases are turnover based. We do not see this growing. I should also point out that 92% of our leases are tied to indexation, thus providing a hedge against inflation. The public sector is a growing part of our business. Currently, public sector and health care services account for 8% of our contracted GLA, with strong credit behind these leases. We will continue to increase this proportion of public services even further. As mentioned previously, tenant sales were relatively resilient. Total ton sales were down 4.7% compared to the same period last year. Footfall dropped following government restrictions in some of the operating countries. Tenant sales, again, were less affected because of 22% higher average customer purchase during their visits. The relatively strong sales figures reflect our tenant mix and the strong and stable demand for the goods and services provided in our centers. Leasing activity was clearly ahead of Q1 2020, which I would remind was a record year for us, and we saw rents increase on average price per square meter. 64,000 square meters of leases were signed in Q1 compared to 57,000 square meters last year. The average rent of both signed leases and whole portfolio increased as a result of active leasing strategy, which is an important leading indicator for future results. Quarter-over-quarter growth was highlighted in several key metrics, NRI, operating profit and fair value changes all increased from Q4 of last year. I will now hand it over to Eero, who will give a more thorough review of our financial development.

[Eero T. Sihvonen, Executive VP & CFO]

Thank you, Scott. I will begin with Q1 financials. And like Scott said already, we had a good start to the year, and we need to keep in mind that comparing '21 Q1 over the Q1 in 2020, we are comparing ourselves to the pre-pandemic period because, actually, the pandemic started in this region only during the latter March in 2020, i.e., most of Q1 2020 was prior to pandemic. On net rental income level, we were actually, I would say, only EUR 2 million below previous year's Q1 level. And on direct operating profit level, actually only EUR 1.3 million below. And direct operating profit was relatively -- was actually less behind due to the fact that we had a substantial saving in SG&A costs, i.e., our SG&A costs were approximately EUR 800,000 below last year's level. And correspondingly, our EPRA EPS basic ended up at EUR 0.178, which is 9% below previous year's Q1 level. Also, our net rent -- also our net reinstatement value, which corresponds to the from NAV, improved. So that was also a very positive thing. Then continuing with exchange rates. And we had a positive quarter for the Scandic currencies, particularly Norwegian krone strengthened quite substantially. And as a result, our net rental income had an impact of EUR 900,000 approximately due to the fact that Norwegian krone was stronger. Also, we had a translation gain of approximately EUR 36 million due to the -- mainly due to the stronger NOK. Then there are a couple of net rental income bridges. First of all, the regular Q1 compared to the previous Q1 in 2020. And here, you can see that we naturally had a slightly negative like-for-like compared to previous year. Although, I would have to say, that probably this negative like-for-like is going to be the lowest in Europe compared to our peers, so we will most likely be better than all of the peers also in that respect. And as mentioned, the foreign exchange had a positive impact of EUR 900,000, and this other line includes certain other smaller items as well. Then the next bridge is the COVID bridge, and we have tried to be as specific as we can, and we have allocated the impacts of COVID to every single line item. And total impact of COVID on our net rental income for the first quarter was EUR 2.7 million. And this clearly shows that, actually, excluding the impact of COVID, Q1 '21 was better than previous years' Q1. Then turning over to the fair value changes. And as Scott mentioned, we had a positive quarter on fair value changes and did record EUR 8.5 million fair value gains, mostly coming from the positive leasing and slightly positive market rent development. So happy to report a positive valuation change. Then the next is the EPRA net reinstatement value. And again, like mentioned, we had a positive development there and had to do partially on the positive valuations and also the translation gains. So we used to have EUR 11.48, and that was improved, increased to EUR 11.58. Then the main financing metrics, we issued a bond very successfully during the quarter. And the proceeds were used towards debt -- towards refinancing and repaying other debt. And as a result, all of our financing is now on an unsecured basis. We paid down our secured revolver. So 0 outstandings under the revolver. And also, we extended, as a result, the average maturity of the loan portfolio to 4.5 years. And key financing figures can be seen here and loan-to-value improved and ended up at 46.5%. We had probably also a record liquidity following the bond issue and following other positive developments, and we had like EUR 564 million liquidity available, including the entire revolving credit facility of EUR 500 million, which was totally undrawn. And we continue to have ample headroom under all of our covenants. Relating to the bond markets, we are now back to the pre-COVID levels when it comes to our bond spreads and the bond markets in general are performing very well in Europe, and that was demonstrated by the fact that we were able to raise the recent 7-year bond financing at 1.625 fixed coupon, which is the next topic here. So we issued on -- actually on 4th of March, a EUR 350 million green bond, which was oversubscribed, substantially oversubscribed actually, and had one of the lowest new issue premiums in any European bond issue. Actually, a negative new issue premium. And as mentioned, we used all of the proceeds to finance and refinance eligible green assets and projects, i.e., this was a green bond as most of our financings nowadays are. And we also tendered another bond maturing in '22 and received EUR 93 million out of that. And our liquidity position is very good. And as mentioned, all of the EUR 500 million credit facility is unutilized and undrawn. And together, we had like EUR 564 million of available liquidity. At that time, we had approximately EUR 94 million of commercial paper outstanding. And as you will be able to see, we had a little bit higher cash than normally and some of that cash after the period has been further used to pay down commercial paper. So actually, now the outstandings are even lower than this shows. And then finally, the outlook and we have decided to keep the outlook unchanged, and we are well within the guidance. And like Scott mentioned, our Q1 is tracking well the guidance. So we will revert back to the topic of guidance in Q2. But as mentioned, we -- the guidance remains unchanged. And back to you, Scott.

[F. Scott Ball, Chief Executive Officer]

Thank you, Eero. As you can see, the finance team had a busy quarter and a very successful quarter. As many of you know, our strategy includes a stable core business partnered with attractive growth opportunities to have clear synergies with our business. We have assets in prime locations, which are located in the top 2 cities in each country, with strong urbanization and direct connection to public transportation. The tenant mix is primarily necessity goods and services, layered with a growing share of municipal tenants. On top of the stable assets, the densification plans associated with our assets provide significant growth potential. This entails developing new residential, office and municipal service space adjacent to our existing assets. We also have strong social and community relationships, which makes us the preferred partner for municipalities to develop these areas around our assets. As a result of capitalizing on the growth potential, we envision that the future share of non-necessity retail will be around 40% compared to the current level of 60%. We intend to shift the portfolio composition further towards mixed use through capitalizing on the densification potential around our existing assets. As mentioned, this would be complemented with making selected disposals of noncore assets. In the future portfolio, at least 20% of the portfolio would be necessity-based. Participating in densification will increase GLA and create synergies with retail assets. Furthermore, transformation of the portfolio brings diversification benefits that increase the stability of cash flow and reduce the risk profile even further. It is important to highlight that much of the value creation from densification starts in the zoning phase once sellable building rights are received and prior to potential CapEx outlays. As previously mentioned, these building rights before any construction creates an additional EUR 200 million of value for Citycon. Our newest project, Lippulaiva, which is expected to open April '22, and is a prototype of an urban hub and a showcase of this strategy. The tenant mix of new Lippulaiva is heavily necessity-based, with 45% of the GLA reserved for grocery. It will also be a home a variety of public and private everyday services such as a kindergarten, library, health care services and a gym. 1 year ahead of the opening, we have contracted or agreed on 76% of the GLA, with an average rent of EUR 31 per square meter. I should also mention that we have another 15% in active negotiations at this point. Therefore, we're at 91% once we complete those deals. In line with our strategy, there is significant residential component attached to the center. There will be, in total, 550 apartments adjacent to the center, of which approximately 275 rental apartments will be owned by Citycon, with an anticipated rent of approximately EUR 25 per square meter. Lippulaiva is located in an affluent area in the Helsinki metropolitan region. The purchasing power of the 93,000 inhabitants is clearly above the metropolitan area and county -- country average. The catchment is expected to grow over 10% during the next 10 years. Lippulaiva is located in direct connection to public transportation with both metro and bus terminal. 14,000 commuters are expected to visit the center daily once the logistics part has been completed. In Q1, we continued our program capital recycling. The outlook for the Nordic real estate transaction has improved, which will support execution of our strategy going forward. We closed on the divestment of 3 of our lower-tier noncore assets in the Stockholm area for EUR 147 million in March, as we had announced earlier. The net yield on the transaction was 5.7%. The outlook for the commercial real estate market has improved and the Nordics are seen as an attractive region for investment. This has been reflected in commentary of several leading publications. And I would, again, encourage you to take a look at the Green Street piece as well as Bloomberg's latest piece on the Nordics. This analysis supports the empirical insight that we have operating in the market. We've included a few quotes and can be -- more can be found within various industry publications. The activity level in the market has increased, which has been demonstrated as several reverse inquiries have come our way for specific assets. We anticipate taking further advantage of this improving transaction market in order to strengthen our balance sheet as well as accelerate the transformation of the resi retail ratio of our portfolio. In summary, for 2021. In terms of quarterly performance, financial and operation results were stable with quarter-over-quarter growth. Q1 was in line with our expectations and tracks our full year guidance. Leasing activity was strong and both the number of leases signed and rental level increased year-over-year. This is a direct result of our active leasing management strategy, an important indicator for future results. The transformation of our portfolio is accelerating. We continue to progress our strategy of densification through diversification. Lippulaiva, which is a prototype of this urban hub strategy, has progressed as planned. We continued our program capital recycling and closed on the divestment of 3 noncore assets, with pricing that validates the value and liquidity of our assets and portfolio. The Nordic transaction market is positive. This is demonstrated by the increasing market activity and commentary from influential industry analysis providers as well as Citycon's own observations from the market. With that, I'd like to thank you for your time and hand it back over to Laura.

[Laura Jauhiainen, Vice President of Strategy & Investor Relations]

Thank you, Scott and Eero for the presentation. We now have time for questions, and we welcome any questions you might have at this stage. Operator, please go ahead.

[Operator]

[Operator Instructions] Our first question comes from Niko Levikari from ABN.

[Niko Levikari, Research Analyst]

I had a few questions that I'd like to go through. One is on -- I appreciated the fact that the waivers were very limited in Q1. I think you disclosed it was EUR 0.1 million. However, you set the rent collections are 92% for Q1. Now what sort of arrangements have you done in terms of the remaining rent collections for the circa 8%? Are these due to be collected in Q2 onwards? Or if you can elaborate on that? Maybe we can kick off with that.

[F. Scott Ball, Chief Executive Officer]

Yes. Thanks for the question. I think it's fair to say that the drag on rent collections has really come from Estonia, where there have been more severe government lockdown measures taken. As a result, we have been working closely with tenants trying to give them more time to see a rebound in their sales and, therefore, have the capacity to pay us our rent. So I think this is one of being patient. At 92%, that's still obviously an unbelievably strong collection number. I would venture to say it's going to be best-in-class. And I would remind you that that's an unadjusted number. We have always kind of reported the pure number, if you will. But I think it's really concentrated in that market. I would say that in the other markets, we've seen rent collections kind of stay stable with where they were last year.

[Niko Levikari, Research Analyst]

Okay. No, I thought it might have been Estonia because of the lockdown, but I just wanted to hear as well. So anyway. So this is something that is due to come and subject to the closure.

[F. Scott Ball, Chief Executive Officer]

Yes. Yes.

[Niko Levikari, Research Analyst]

Okay. Second question. Can you give any indication at this stage yet on the range of total CapEx that you might have for the Lippulaiva now that you are planning to develop the 4 residential towers on top of it yourself in-house? Just to get a let's say, some range.

[F. Scott Ball, Chief Executive Officer]

Yes. Again, I would remind that the scope of this project has changed significantly over time. As we reported, I think we have spent EUR 263 million to date, and we anticipate total cost of the project to be roughly EUR 322 million. And that scope change includes the resi, as you just mentioned. And again, it's -- just remind, this is a pretty complicated project. You're building a metro station subterranean with a couple levels of retail. We had an old shopping center that we knocked down and relocated, and now we have to relocate those tenants back. So there's been a lot of moving parts, which is why we've been, I would say, careful about disclosing what we anticipate the cost is. But now that we're kind of a year out, I think we're comfortable providing this estimate.

[Niko Levikari, Research Analyst]

Okay. So in terms of the residential part, if I have estimated roughly EUR 50 million for that, is that reasonable?

[F. Scott Ball, Chief Executive Officer]

I don't have the breakdown in front of me, but it doesn't sound unreasonable. But I don't have it in front of me. So...

[Niko Levikari, Research Analyst]

Okay. Two more questions. Please bear with me.

[F. Scott Ball, Chief Executive Officer]

'Yes.

[Niko Levikari, Research Analyst]

So one is on the economic occupancy rate. It's nice to see that Norway picked up a bit. Also good to see that the leasing activity improved year-on-year basis. However, can you give me a bit of a color what is, let's say, the main drag that you see in terms of the slightly weakened economic occupancy that you have in the Q1 figures? Is it just that you have some tenants leaving out? And I mean just if you can provide some color on that.

[F. Scott Ball, Chief Executive Officer]

Yes. I think it's -- I think if you look historically, not just at Citycon but retail generally, Q1 you tend to see a slight drop in occupancy in Q1 over Q4. And it's not surprising necessarily, when you think about the business cycle where Q4 is where a majority of your sales come and then Q1 is a little bit of a drop. I would say if you dig into the details of it a little bit more, our experience right now is that we are seeing actually relatively robust interest and activity in categories, including food and beverage, which we frankly were not surprised at, we thought it would snap back as restrictions kind of became less severe, if you will. But I would say the one category that is the drag, if you will, would be fashion and apparel. And again, I think that's consistent with what we've seen and what we've kind of anticipated. I think we said last quarter that there were 2 categories impacted in 2020, food and beverage and apparel, and that we thought the food and beverage impact was temporary and the apparel might have some more structural issues in that segment of the business. And we're kind of seeing that play out so far in the first quarter. But again, I think occupancy is -- it's down slightly, but it's -- if you look at since the pandemic quarter -- pre-pandemic quarter, we've stayed kind of relatively -- we haven't really moved up and down a lot, it's been relatively flat. But we are really encouraged by the increased amount of activity we're seeing and the fact that we're seeing growth in rents. So that for us, we always look at that as a forward-leading indicator, and we're pretty excited about that.

[Niko Levikari, Research Analyst]

Okay. And the last question I wanted to touch upon is the leasing spread, because you used to be providing this for renewals and relettings. So I mean, I can calculate the average you have from the old rent levels and the new ones, but that doesn't really look too promising. So is there any indication that you can give? What was the other leasing spread during Q1? I calculated from the averages, it's minus 10.9%. So...

[F. Scott Ball, Chief Executive Officer]

Yes. I think that the leasing -- what was called a leasing spread was reported a variety of different ways by different companies because there is no kind of EPRA standard for how that should be reported. And frankly, if you look at leasing spreads kind of space -- to get an accurate leasing spread, you really need to look at the same space. You can't get it from looking at the old rents versus the new rents because there are different spaces involved in those. So what I would suggest as a better measure is to look at what the average rent was last quarter for the portfolio and then look at what the average rent was for the portfolio this quarter. And I think that gives you a better indication of where rents are headed.

[Niko Levikari, Research Analyst]

Okay. So if I have now minus 10.9% then for Q1, that doesn't look too promising. So...

[F. Scott Ball, Chief Executive Officer]

No, no. I think I don't -- I disagree with your number. I don't think your number is accurate.

[Eero T. Sihvonen, Executive VP & CFO]

Yes. I would -- this is Eero, just to add that the way how we look into things is that it's more like flat, and we actually had a mildly positive rental result or leasing result. So those -- this minus EUR 10 million is not correct.

[Niko Levikari, Research Analyst]

Okay. I was just taking from the Q1 when you have average trends of leases started and average was of leases ended.

[F. Scott Ball, Chief Executive Officer]

Yes. But that's not the same, that's my point. That's not the same space. You're looking at -- you're comparing apples and oranges, basically. I think a better reflection would be for you to take a look at what the average rent is for the portfolio last year and what the average rent is for the portfolio this quarter.

[Niko Levikari, Research Analyst]

Okay. But you're saying that this -- the figure that I gave is more in line with the old ones that you used to be reporting, like I said the previous way.

[F. Scott Ball, Chief Executive Officer]

No, again, it's -- you're comparing apples and oranges because you have a different set of spaces, a different set of real estate in the expiring leases versus a different set of real estate for the new leases. So it's not a really -- it's not an accurate comparison.

[Niko Levikari, Research Analyst]

Okay. Fair enough. The only point I was saying I'm not comparing these figures with your peers per se, but I'm looking at the trend that you have in these figures as a company. And that's why it would be nice to see the old metric show. But fair enough. That's...

[F. Scott Ball, Chief Executive Officer]

But again, I just want to repeat, I think the best measure for you to really understand what's happening with the company is to look at what the average rent is across the entire portfolio in the last quarter and then what's the average rent across the entire portfolio this quarter, that's going to give you the best indication of where -- what's happening with the business.

[Niko Levikari, Research Analyst]

Yes, fair enough. I would also argue that I can talk to the local brokers and the guys who are doing the leasing in the market to see where the market rents are moving and then have a view on, if I think, going forward, when you have lease renegotiations and you're going to have to reset them to a lower level, and that's the counter argument I could also make.

[F. Scott Ball, Chief Executive Officer]

You can say that, but that's not accurate. I don't want to get into an argument with you. But what you're saying is just absolutely not accurate. So...

[Operator]

Our next question comes from Rob Virdee from Green Street Advisors.

[Rubinder Singh Virdee, Analyst of Research]

Good morning, guys. A couple of questions, please. And Scott, thank you very much for just giving some clarity on the leasing activity. I think that's really important. And one of the ways that I try and look at it is the new leases versus passing rent, have you got that color for us?

[F. Scott Ball, Chief Executive Officer]

I don't have it here, Rob, but we can find that for you. We'll come back to you with that, yes.

[Rubinder Singh Virdee, Analyst of Research]

Brilliant. Secondly, just on some of the capital recycling and the CapEx requirements for all the diversification you're doing and just where your LTV stands at the moment. Just wondering, bigger picture, how you're thinking about your capital allocation, where the CapEx is going to come from and where you think your LTV needs to go?

[F. Scott Ball, Chief Executive Officer]

Yes. I think I'll let Eero talk about the LTV question. But as it relates to the capital question and the capital allocation question, as mentioned in the presentation, we have received a number of reverse inquiries of late. And I think we're feeling pretty confident about our ability to transact on assets that are noncore. So I would say that we're clearly seeing market activity pick up. Our own transaction, I think, is a little bit of evidence of that, and we'd anticipate that there will be more of that, quite frankly. And so I think that we have inflows of capital that we anticipate coming forward that will help to offset the potential capital expense. The other thing I would remind is on the densification strategy, a big part of this is the opportunity to joint venture and to contribute building rights as our equity, if you will, and then have someone else bring capital to the table. And we actually are in the middle of some very interesting strategic conversations with folks around that. And so I'm feeling very, very optimistic about our ability to execute on this and do some really interesting things that I think will make the market stand up and take notice. But Eero, I'll let you talk about LTV maybe.

[Eero T. Sihvonen, Executive VP & CFO]

Yes. So the management is still committed to our own range of 40% to 45%, and that remains a target. And now actually, loan-to-value management is easier than it has been due to the fact that we have received these inquiries and the disposal markets seem to work clearly better in the Nordics. And there is a lot of interest to buy centers, which are currently noncore to us. So I would say that actually the situation has clearly improved in that respect.

[F. Scott Ball, Chief Executive Officer]

Yes. And I think we saw a slight improvement in our LTV this quarter, and we -- Rob, we're still committed to that and feel like we're in a pretty good place there.

[Rubinder Singh Virdee, Analyst of Research]

Okay.

[F. Scott Ball, Chief Executive Officer]

Yes. By the way, that was a very good piece. I really thought it was very thoughtful. And yes, it should be required reading for appraisers out there.

[Rubinder Singh Virdee, Analyst of Research]

Thank you.

[Operator]

Thank you. Appears to be no further registered questions. So I will now hand over back to the speakers.

[Laura Jauhiainen, Vice President of Strategy & Investor Relations]

Okay. So thank you for attending the call today, and thank you also for the questions. So if you have any more, please do contact us, either myself or Eero, and we're happy to give you more answers. So thank you for the call, and have a nice day.