Macquarie Mexico Real Estate Management SA de CV

OTC:DBMBF

Earnings Call Transcript 2022-Q2

[Operator]

Good morning, and welcome to FIBRA Macquarie's Second Quarter 2022 Earnings Call and Webcast. My name is Kevin, and I'll be your operator for this call. [Operator Instructions]

I will now turn the conference over to Nikki Sacks. Please go ahead, Nikki.

[Nikki Sacks]

Thank you. Good morning, everyone. Thank you for joining FIBRA Macquarie's Second Quarter 2022 Earnings Conference Call and Webcast. Today's call will be led by Simon Hanna, our Chief Executive Officer. And to answer any questions you may have at the conclusion of today's prepared remarks, we also have Andrew McDonald-Hughes, our CFO.

Before I turn the call over to Simon, I'd like to remind everyone that this presentation is proprietary and all rights are reserved. The presentation has been solely prepared for information purposes and is not a solicitation of an offer to buy or sell any securities.

Forward-looking statements in this presentation are subject to a number of risks and uncertainties. Actual results, performance, prospects or opportunities could differ materially from those expressed or implied by the forward-looking statements.

These forward-looking statements are made as of the date of this presentation. We undertake no obligation to publicly update or revise any forward-looking statements after the completion of this presentation, whether as a result of new information, future events or otherwise, except as required by law.

Additionally, on this conference call, we may refer to certain non-IFRS measures as well as to U.S. dollars, which are U.S. dollar equivalent amounts, unless otherwise specified. As usual, we have prepared supplementary materials that we may reference during the call as well. If you have not already done so, I would encourage you to visit our website at fibramacquarie.com and download these materials. A link to the materials can be found under the Investors, Events and Presentations tab.

With that, it is my pleasure to hand the call over to FIBRA Macquarie's Chief Executive Officer, Simon Hanna. Simon?

[Simon Hanna, executive]

Thank you, Nikki. Good morning, and thank you for joining us. On today's call, I will discuss our second quarter results, provide updates on our growth initiatives and capital position as well as our improved outlook, including our increased data growth guidance for the year.

We delivered another strong set of results for the quarter as our well-positioned industrial portfolio continued its forward momentum, whilst our grocery-anchored retail portfolio continues to demonstrate its defensive qualities.

Furthermore, we continue to execute on our growth initiatives as we pursue diversified opportunities, including facilitating customer growth through build-to-suit expansions, delivering attractive risk-adjusted returns through industrial development in our core markets, as well as completing on a selective stabilized industrial acquisition that presents an attractive value creation opportunity.

In the second quarter, AFFO per certificate increased by 10.6% year-over-year to just over MXN 0.67. This strong result was driven by robust performance in both our industrial and retail portfolios, where we achieved a record quarterly performance on several key metrics.

The industrial portfolio realized annual U.S. dollar rental revenue growth of 7.2%, with solid increases in both occupancy and rental rates. Notwithstanding an increasingly cautious global macroeconomic backdrop, we continue to deliver consistent results, supported by our high-quality portfolio, primarily located in the northern markets of Mexico, with such markets being well positioned to capture long-term structural tailwinds.

Industrial market conditions continue to be favorable with low vacancy rates and strong demand from nearshoring trends along with growth in e-commerce-driven logistics. With this backdrop, we have maintained another quarter of record industrial occupancy of 97.1%, supported by a record low quarterly move-out volume. In addition, robust market fundamentals have provided an environment for strong leasing renewal spreads, with renewals completed in the second quarter, achieving a positive leasing spread of more than 13% and contributing to a healthy retention rate of 83% over the last 12 months.

Industrial leasing highlights in the quarter include 4 new customers across 3 northern markets and all new leases being denominated in U.S. dollars. New leasing deals featured international manufacturers, our Tier 1 EV supplier, 2 logistics providers and a contract manufacturer of consumer durables.

We remain encouraged by the fundamentals supporting our industrial portfolio. We have a manageable lease expirations of only 6% of annualized base rents for the remainder of the year and we anticipate continued robust retention rate and sustained occupancy.

In our retail portfolio, we are pleased to see an ongoing recovery as economic activity in Mexico returns to normalcy, along with the steady improvement in recorded foot traffic and car parking activity. We achieved a few post-pandemic milestones, including the first sequential increase in average occupancy, and we also recorded our highest level of quarterly revenues since the onset of the pandemic.

NOI for the retail portfolio increased 13% year-over-year, and we were able to close the quarter with occupancy back above the 90% level. Foot traffic still remains below pre-pandemic levels, but is up almost 30% compared to the prior trailing 12-month period. Quarterly cash collections of MXN 167.1 million were the highest since the start of the pandemic and rent discounts were lower for the fifth consecutive quarter, with scheduled discounts having now expired. New doubtable leases include a new gym lease for Smart Fit in Multiplaza Cancun and a new lease for an MG car dealership in the Coacalco Power Center.

In addition to organic growth that our operating portfolio is delivering, we are excited about our diversified intangible growth pipeline. Over time, we have demonstrated the successful execution of our strategy to expand our industrial portfolio by investing in and developing Class A assets in core markets that demonstrate strong underlying market fundamentals and a positive economic outlook.

In recent years, we have delivered on our growth initiatives, primarily through build-to-suit expansions and new developments that we have completed with an average yield north of 11%. This strategy provides FIBRA Macquarie with the enhanced stability to sustainably increase earnings and total returns on a per-certificate basis. We now have approximately 1.5 million square feet of GLA in our growth CapEx pipeline for delivery in the coming quarters, which has increased from the 1 million square feet we reported at 31 March.

With regards to the 2 development projects we have previously discussed. We are nearing completion on our 183,000 square foot industrial property development in Apodaca Novelion as part of a multiyear 800,000 square foot industrial development project, and we have received strong tenant interest in the property.

In Mexico City, we are on track to deliver our two-building project comprising 734,000 square feet of industrial GLA by year-end. We are also constructing a 46,000 square foot build-to-suit expansion in Hermosillo Sonora, which we expected to deliver in the third quarter at an attractive going-in yields of 11.8%.

Of note, during the quarter, we acquired a 54.5-hectare land parcel in Ciudad Juarez. This investment represents an exciting long-term development opportunity in the prime southeast industrial submarket that is ideally located for a diverse and growing base of manufacturing for export customers. We anticipate a phased multiyear development of a 10-property Class A industrial park with a total potential GLA of approximately 2.5 million square feet, incorporating best-in-class sustainability elements. We expect to commence development of the first property comprising 267,000 square foot of GLA in the third quarter, with delivery in the first half of 2023.

Additionally, we recently completed an opportunistic industrial acquisition. Whilst acquisitions are not our primary growth strategy at this time, this transaction allows us to add a strategically located industrial property, at an attractive price, with upside opportunity on rental rates and valuation. This fully leased industrial property comprising 293,000 square feet of GLA is located in the strategic Cuautitlán submarket of Mexico City. The purchase price totaled MXN 307.5 million and will deliver an initial NOI cap rate of approximately 8.2%. Importantly, in-place rental rates show meaningful upside potential, which we believe can be captured in the near term given the property weighted average lease term of just 1.1 years.

With the expected increase in rental rates through the leasing cycle, we expect to see the cap rate returns grow to approximately 9.5% and so expected to deliver meaningful transaction value creation. Maintaining a well-positioned balance sheet has consistently been one of FIBRA Macquarie's guiding principles.

During the quarter, we took additional steps to further enhance our financial flexibility, with the execution of a new USD 90 million unsecured uncommitted credit facility. As a result of this transaction, FIBRA Macquarie's fixed rate indebtedness was 88% and our weighted average annual cost of debt for our entire debt portfolio of $868 million, is 5.2% per annum. As of quarter end, we had $290 million of available liquidity, including cash on hand and undrawn capacity on our committed revolving credit facility. Additionally, our real estate net LTV declined by 470 basis points to 33.8% from the prior corresponding quarter, positioning us well to execute on our growth initiatives.

Our NAV per certificate increased over the year by 25% to a record MXN 42.3, which we believe demonstrates the constructive market dynamics and the value creation we have achieved through the execution of our strategy.

Turning to our sustainability efforts, which are integrated into all aspects of our business. During the second quarter, FIBRA Macquarie was selected as a Green Lease Leader by the Institute for Market Transformation and the U.S. Department of Energy's Better Buildings Alliance for the second consecutive year, and our green lease leader status was increased from silver to gold. We also achieved EDGE certification on 38 industrial buildings, bringing our green building certification coverage to 30% of our consolidated GLA.

Finally, we are increasing our 2022 AFFO per-certificate guidance to a range of MXN 2.60 to MXN 2.65, up MXN 0.10 from the prior range. This increase is mainly driven by strong top line growth, along with an enhanced outlook for the remainder of the year. We are pleased with our ongoing progress, including the record results our industrial portfolio is delivering and the resilience of our retail portfolio, which is returning to pre-COVID performance across a number of key metrics.

There are strong tailwinds supporting continued industrial growth in Mexico, and we have an attractive pipeline with tangible projects, which should contribute to sustained earnings growth and enhance total returns on a per-certificate basis.

I want to thank the entire FIBRA Macquarie team for their dedication and our stakeholders for their ongoing support. With that, I will ask that our operator open the phone lines for your questions.

[Operator]

[Operator Instructions]

Our first question today is coming from Gordon Lee from BTG.

[Gordon Lee, analyst]

Two quick questions. The first on the Ciudad Juarez land acquisition that you announced, I was wondering if you could tell us what you think at this point, sort of your yield will be on that, the development cap rate will be on that, throughout the life of the project?

And then the second question, you mentioned in your [indiscernible] that roughly 60% of your leases are indexed to either U.S. or Mexican CPI. I was wondering whether as you renew contracts, are you trying to push a CPI escalation feature on it? Or are you keeping the structure sort of steady on renewals?

[Simon Hanna, executive]

Yes. Thanks, Gordon. And just addressing those questions. Yes, Juarez investment, obviously, very excited about the entire project. Great market to be in, a market we've had a lot of success today, and we think the long-term fundamentals are going to really reward us with that 2.5 million square foot build-out over time.

As we do that, we think as we reported in the pack sort of going in cap somewhere between 9% to 11% and hopefully nudging towards the topper end of that range, in this particular case, I think, is an outcome that we would like to achieve.

So I think -- and that should obviously be very much polarized given the manufacturing for export tenant base. So that's -- that's how we're looking at it from an underwriting point of view. That's where we're seeing current rental rate conditions you could see and something that we'd like to achieve as we build out that first property and beyond.

With regards to the second question, yes, absolutely. I think we've got quite a strong focus in -- as we go through the leasing cycle, making sure really that we can have our cake and eat it, really as a starting point in the sense of having a poor -- with basically CPI there as an exposure on the indexation. We actually -- you might have seen that actually quarter-on-quarter, our pure CPI exposure went from around 57% to 58%.

So that was sort of a good little incremental increase. But certainly, when you think about current market dynamics and very much being in the landlord favors, I think that also helps with regards to taking that to a pure CPI basis.

Encouragingly, we do have approximately 30% of the industrial book rolling over the next 18 months. So I think with that, that should give us quite a good amount of opportunity, not just to capture some of that leasing spread that we've been reporting in the last couple of quarters but also to improve the quality of the lease contract with regards to CPI construct.

[Gordon Lee, analyst]

Sorry, if you could just repeat that. So 30% of the portfolio rolls over the next 12 months? Is that what you said?

[Simon Hanna, executive]

That's correct. Yes, we have around 21% rolling next year, and we have 6% or 7% rolling for the remainder of this year. Yes.

[Operator]

Your next question is coming from Juan Ponce from Bradesco BBI.

[Juan Ponce, analyst]

So given your flexibility in terms of your balance sheet, how should we think about FIBRA Macquarie's growth strategy in 2023? I mean should we expect more manufacturing-based tenants or logistics, domestic consumption base? And do you plan on using leverage to fuel growth? And if so, what level of loan-to-cost should we expect for these projects?

[Simon Hanna, executive]

Yes. Thanks, Juan. Look, I think when you look at where we're building out our GLA, there's a bit there in Monterrey, a bit there in Juarez, a bit there in Mexico City, with a bias towards Northern markets longer term. But I think that really means that in terms of growth strategy and sort of exposure dynamics very much a continuation of what we've been doing, exposure to northern markets, but also looking to capture a bit more with regards to logistics, in particular, in the e-commerce segment.

So that's really the name of the game is to continue with the growth strategy with what we've been doing so far, very much focused on industrial development. Bias towards northern markets, but also looking to add exposure in key e-commerce logistics market towards the center of the country.

And I guess with regards to financing that, as we said, look, we have a very well-positioned balance sheet. We have close to $300 million of liquidity as of today, committed liquidity that is and I think starting with LTV of 33%, we expect, just based on growth CapEx requirements with the GLA in progress, pre-revaluation gains upon stabilization, that might sort of get back in towards the mid-30 level, by the time we fully deploy, not taking into account retained AFFO.

And as we've seen AFFO grow, we do have increased capacity there to have the retained AFFO north of $20 million on an annualized basis, but that also helps. So we do think that there's more than enough flexibility with regards to capital sourcing to be able to responsibly and adequately finance that growth pipeline over next year and beyond.

[Juan Ponce, analyst]

So when you look at a loan-to-cost, I mean how -- what percent of the project is normally financed with that? Is it around 30% or roughly half?

[Simon Hanna, executive]

Yes. So in this case, what we're looking at is really financing through a combination of retained AFFO and incremental debt. And I'd say that I guess with the pipeline we have at the moment, that's sort of just north of $50 million, you could say, it's sort of remaining payments. And so we have retained AFFO north of $20 million based on run rate and then topping that up with a little bit of leverage through the cumulative revolver. That's really, I guess, the near-term financial requirements.

And then it's just worth knowing that as we get that revaluation gain on stabilization, that helps just to bring that LTV back down to where we were before, more or less. So I think that's really the sustainable way that we're looking at financing that in progress pipeline.

[Operator]

Our next question is coming from André Mazini from Citigroup.

[André Mazini, analyst]

My question is a follow-up on the first one. The breakdown between the cap and the fixed and the CPI-linked inflation increases. So if I'm reading the table correctly, the fixed portion and the cap portion, they're 2.4% and 3 [indiscernible] 7% last 12 months increases as well as the CPI are way higher, right. So is that the case going forward?

I mean the fixed and the caps will continue on that level. And as you guys increase the proportion of CPI linked, which happened this quarter, right, to 59%, give or take, we should see more inflation pass-through happening?

Other way of putting the question, the fixed portion going forward, it's going to be hovering at 2.5% year-over-year increase, which is currently below inflation, right? So there's upside as we have more CPI linked going forward.

[Simon Hanna, executive]

Thanks, Andre. And look, yes, you're reading that table correctly. And so the sort of 2.4% is what we're currently seeing as a fixed step-up capped rate 3.7%. You'll see that's a sort of a dynamic analysis quarter-on-quarter. We had a little bit higher on the fixed step up last quarter, a little bit lower cap rate increase. It obviously depends on the lease role and how we reset that through new leasing and renewals and move-outs, but it's going to be in that range in the short term.

And look, I'd say the CPI-linked total portfolio of 58.7%, what we are looking to do is try and move that up through rollovers and new leasing. As I just said, we actually were around, I think, 57.5% last quarter. So we saw a percentage point increase over the quarter, which is moving in the right direction. And that will really be our focus is to try and incrementally move that up north of 60% and beyond. And we do have real opportunity with a meaningful rollover in the next 18 months to achieve that. So yes, hopefully, that explains the backdrop there.

[Andrew McDonald-Hughes, executive]

I think just to complement there, Simon. The other thing that we saw this quarter was that there was a greater weighting towards fixed and cap increases for those leases that rolled during Q2 and so we saw less pure inflation happening just from a timing matter in the order of what is rolling this year and what is linked to fixed and cap increases. So with a higher proportion of those, that meant that our lease renewal or rather our incremental increase linked to inflation was slightly lower, given that higher weighting to fixed and capital increases.

[Operator]

[Operator Instructions]

Our next question is coming from Alejandro Chavelas from Credit Suisse.

[Alejandro Chavelas, analyst]

First on the plots of lending products, I mean it's a pretty big stabilized GLA opportunity if you were to developing fully, I think it's 2.5 million square feet a significant portion of your current portfolio. I mean how confident are you that there will be opportunities to lease all of there -- or build and lease all of this space -- and for example, are you seeing any particular cluster that is interested in building an industrial park with you guys in this type of land? And what -- let's say, assuming everything goes according to plan, what would be the time line for that, like 5 years, more than that? What are you thinking about there?

[Simon Hanna, executive]

Yes. Thanks, Alejandro. Look, I think when it comes to Juarez, it's a great market to be for a number of reasons. And I'll say first and foremost, it's a very diversified tenant base. So we really do a lot of different type of industry segments in terms of leasing there, whether it's with electronics, medical, it's really across the board with regards to the type of tenants who are based in Juarez.

So that diversification is -- gives us confidence that we'll be able to continue with sourcing tenants come what may with all the different types of activities and nearshoring that we're seeing in that particular area.

And when we look at our own Juarez exposure and the sort of close to 100% occupancy level that we're enjoying there. We do see that beyond our own portfolio that the market as a whole is essentially sold out.

And so certainly, the demand-supply fundamentals give us a good set of common [ sludges ] for now, but really medium-to-long term, we see that market holding up very well as we deliver additional GLA into that market. So that's, I guess, our perspective with regards to the lease-up.

But in terms of, I guess, timing, yes, as you say, it's a really big parcel that we have there, 2.5 million square feet. So it does give us the ability, I guess, to build that out in a manner -- in a timing that I guess, corresponds to market dynamics I think getting -- the first property started straightaway with regards to permitting, et cetera, that's absolutely a no-brainer just given what we're seeing in front of us.

And I think as we head into next year and beyond, we'll obviously assess overall market conditions where we are from an overall capital allocation point of view.

But we do think that lease-up of this property should hopefully be something very, very soon around the delivery or completion of that property. But let's see how we go there. And if that's the case, then I think would be very interesting in looking at building 2, building 3 during the course of next year.

[Alejandro Chavelas, analyst]

Great. Perhaps a follow-up on the retail portfolio. It's funny to me or interesting to me that the retail portfolios overall have not returned to pre-pandemic traffic levels. And I think your properties are not particularly linked to office now. So I was wondering if you have some color on why are visitors not coming back in full force or pre-pandemic levels. Any ideas on that front?

[Simon Hanna, executive]

Yes, it's a good question to be asking. And look, there's probably a couple of dynamics there. Firstly, I'd say that we are seeing across the market, in terms of same-store sales and overall retail sales, actually, up pre-pandemic levels. So we know that consumption's overall is in a fairly good place. Certainly, when we look at our anchor tenants, particularly groceries -- grocers really doing better than ever. So definitely, people are out and about spending.

Perhaps what we're seeing with sort of vaccination levels still on the increase and COVID still around maybe the way that families are shopping may be changing in the sense that maybe not everyone is going to the supermarket from a family point of view that was going pre-pandemic with perhaps more vulnerable family members staying at home.

But we're seeing, for example, car parking traffic increasing 30% quarter-on-quarter up year-over-year. So I think people are still getting out there to do the shopping and to spend the money, but not necessarily bringing, maybe, the whole family along as they used to. That's perhaps one -- at least one factor we can point to.

[Alejandro Chavelas, analyst]

That's very useful. One final question, sir. On the cost of the acquisition, could you just repeat it? I didn't catch it initially, the Mexico City acquisition.

[Andrew McDonald-Hughes, executive]

Sorry, Alejandro. What was -- the question was what was the cost of the Mexico City acquisition. Is that right?

[Alejandro Chavelas, analyst]

Correct.

[Andrew McDonald-Hughes, executive]

Yes. Yes, that was MXN 320 million, including transaction costs.

[Operator]

Our next question today is coming from Alan Macias from Bank of America.

[Alan Macias, analyst]

Just a question on share buybacks. You extended the program. You didn't make any purchases last quarter. At this level of NAV discount are you still keen on doing repurchases? Or you would be expecting a higher discount to do this?

[Simon Hanna, executive]

Yes. Thank you. Look, yes, look, we're pleased that we had the buyback program, extended another MXN 1 billion for another 12 months. So that gives us all the optionality in terms of our capital allocation. We certainly do see the value proposition and the corporate finance [ MXN 0.21 ] to do buyback. I think it's something that we're very much open minded to do, as you say, with the prevailing discount sort of close to 40%, that does make sense.

In doing so, though, we're mindful of really of capital allocation and looking really at making sure that we're financing our growth pipeline, which also has very attractive risk-adjusted returns, again, sort of at that 10% NOI level. That's something which obviously needs to be financed. And as has always been the case now for a number of quarters, what we're looking to do is really just balance the capital allocation priorities, keeping in mind that leverage target, 33% we're comfortable with.

Obviously, buyback does have a leverage implication. And so we will be balancing that capital allocation as we go through quarter-on-quarter. And if we think that the opportunity is there to pick up a bit of buyback along the way, then we will do so. I think we've had a very proven track record, if you like, of taking advantage of that with $55 million life-to-date buyback. And so there's a opportunity we could add to that in the coming quarters.

[Operator]

We reached the end of our question-and-answer session. I'd like to turn the floor back over for any further or closing comments. Does management have any further closing comments?

[Simon Hanna, executive]

Yes. Simon back here. So thank you very much, and thank you, everyone, for participating in today's call. We look forward to speaking with many of you over the coming days and week as well as updating you again soon on our third quarter '22 results. Thank you very much.

[Operator]

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