Parque Arauco SA

SGO:PARAUCO

Earnings Call Analysis

Company's Growing FFO and Strategic Outlook

The company is witnessing a 12% growth in FFO (funds from operations), boasting a healthy 62% margin, indicating financial stability and prudent receivables management. Highlighting Parque Arauco Kennedy's performance, the company reported strong positive revenue and a notable 24.9% increase in NOI (net operating income) without specifics on the absolute figures affecting such improvements. Strategy-wise, during the uncertainty engendered by the pandemic, they negotiated tenant contracts that would scale up the revenues year after year, promising rising future margins, akin to other Colombian projects in the medium term. Moreover, negotiations with non-anchor tenants are expected to yield higher revenues, positively influencing margins despite an increase in costs like territorial taxes and insurance, which they plan to offset with initiatives like zero-based budgeting and collective country-wide contracts.

Steady Growth Amidst Currency Headwinds

The company's latest earnings call revealed a trend of steady growth, with a particular emphasis on revenue and EBITDA, which both have been rising above inflation, despite the headwinds from unfavorable exchange rates in Peru and Colombia. Specifically, revenues increased by 12.1%, and EBITDA grew by 9.3%, alongside a noteworthy occupancy rate reaching the highest value in the last ten years at 95.8%. Additionally, the company's new developments in Peru and Colombia, along with its sustainability efforts in the form of a decarbonization strategy, signal a forward-thinking approach to growth and corporate responsibility.

Tenant Sales Divergence and Revenue Stability

Despite a 2% decrease in tenant sales, a closer examination reveals positive growth in local currencies for Peru and Colombia, indicating underlying strength. Additionally, non-anchor stores, which constitute approximately 80% of the company's revenue, show solid performance, with sectors like restaurants, health and beauty, and entertainment returning to pre-pandemic levels. This divergence between anchor stores and smaller stores also reflects stability in occupancy costs compared to 2019, with Chile and Colombia even seeing lower figures today than before the pandemic.

Cost Pressures and Net Profit Impact

The financial expense has been climbing, influenced by new bond interests and inflations, reporting an increase to CLP 14 billion. Despite this, financial income compensates somewhat with a 23.6% growth. Net profit is reported to be down by 66%, but without certain non-recurring adjustments, a profit increase to CLP 15 billion would have been reported. Additionally, administrative expenses have seen moderate rises, but initiatives are in place to further mitigate cost pressures.

Conservative Approach on Provisions

A prudent fiscal approach continues, as manifested by a conservative management of the provision for receivables, ensuring significant amounts are maintained on the books. Despite increased financial expenses, funds from operations have grown by 12% with a solid margin of 62%, which speaks to the company's ability to generate cash flow efficiently and effectively contain expenses.

Earnings Call Transcript 2023-Q2

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to Parque Arauco's Second Quarter Earnings Conference Call. Before I pass the line to Lauren, we [ of course ] would like to apologize sincerely for the events of last Friday, which led to the call being postponed. And thank you all for your patience. I now would like to pass the line to Lauren to begin the presentation. Please go ahead.

[Lauren Brown, executive]

Good morning, everyone, and thank you for taking the time to connect to the Parque Arauco's Second Quarter 2023 Earnings Call. I'm Lauren Brown, Head of Investor Relations, and I'm joined by Francisco Moyano, CFO; and Eduardo Perez, CEO of Parque Arauco. [Operator Instructions] Please note that this call is being recorded, and the recording will be used for internal purposes. And to start us today's call, I'm going to pass the call over to Francisco.

[Francisco Moyano, executive]

Thanks, Lauren, and good morning to everyone, the teleconference today, let's pass to Slide 4, okay? So regarding this quarter results, we are seeing the continuation of the positive trend that we have been seeing from the return of -- from the pandemic. For another quarter, our revenues and EBITDA are growing above inflation, confirming the stability [indiscernible] of the cash flow of Parque Arauco, which is an important characteristic of our business model.

Thus, the revenues are growing 12.1% and EBITDA is growing 9.3%. Even with the headwinds of the exchange rate from Peru and Colombia used for the consolidation of our figures, which are minus 3.8% for the Peruvian Sol and minus 15.7% of the Colombian Peso. In addition, the occupancy is showing its highest value for the last 10 years of 95.8%, with excellent levels across Chile, Peru and Colombia.

Regarding our projects, we are excited to announce the development of a new lifestyle mall in the La Molina area in Lima, Peru, a new H&M stores for Parque Arboleda, Caracoli and Parque Alegra, strengthening our mix in this successful malls in Colombia. Now regarding our sustainability pillar, we were very pleased to have announced a few days ago our decarbonization strategy, which included proposed targets calculated under the science-based target initiative for the next year of operation.

We wanted to follow the science in this matter, following the most prestigious organization and decarbonization initiatives as SBTi is today and setting responsible role for the future that will include developing [ internal ] projects within Parque Arauco. Now passing to Page 6. I would like to start talking about the tenant sales that is total figure is decreasing 2%. But even when the figure is negative as a total, there are two comments to make regarding this figure.

First, the exchange rate, as I said, in the consolidation is negatively affecting the amount. By country, we can see that the minus 3.5% in Peru is actually 0.4% positive in local currency and the minus 6.2% in Colombia is actually a 11.1% positive in local currency.

Also, we are seeing an important divergence between anchor stores and the rest of them all. The breakdown of the decreasing 2% is really a negative double-digit value for anchor stores and a positive single digits for the rest of the stores. It's also important to say and remember that around [ 80% ] of our revenue comes from intermediates and a smaller store. So for which stores we are seeing very positive figures with the highlight of restaurants, health and beauty stores and entertainment especially movie theaters that are returning to figures comparable with the pre-pandemic times.

This divergence of the sales is also applied to the occupancy costs and the same area sales. In the occupancy cost, we are seeing very stable figures if we compare with 2019, increasing to 11.7% in Chile, a 7.8% in Peru and 11.2% in Colombia. However, if we see, for instance, Colombia, in 2019 was 12.5%. So it's showing an amount that is below today than it was in pre-pandemic times. The same area sales is negative in Chile, Peru and positive in Colombia. But as I said, if the divergence that we are seeing for anchor stores from the rest of them all is also affecting the total figures.

In the next page, regarding revenues. To start our review of revenues, please note that we changed our accounting policy regarding the netting process of our utilities costs, including in our financial statements are reclassification between revenues and costs in 2022, does not change any results of EBITDA, but make values more comparable for revenues and cost of sales. [ This contains ] as you can find more information in Section 3.19 of our financial statement of this reclassification. But with that, our revenues is increasing 12.1%. And it's also affected by the same factor of exchange rate.

Chile is growing at 17.8%, a very positive figure for Chile, and Peru is growing 3.7%, but in local currency is actually growing 7.6%, sorry, 7.6% in local currency. So it's very positive and above inflation. Colombia is growing 5.5% in the consolidated figures, but in local currency it's growing 23.9%, an impressive figure for Colombia and there are very positive figures for Chile and Peru. Also, as I said at the beginning of the call, we achieved the high value of the last 10 years in our occupancy of 95.8%.

That value is coming with the stabilization process that we are experiencing in Parque Alegra which reached 80.6%. Without Parque Alegra, in fact, the consolidated figure is 96.5%. In same area rent, I would like to highlight the figure for Peru, which is growing 15.6% and is positive for Chile at 2.8% and positive for Colombia at 8.2%. The highest value in Peru is related with the good performance that we are seeing in that country in this year returning to pre-pandemic levels in all of the operations.

Also, I would like to highlight that we have a fixed rent of 89%, a variable rent of 11%. This is also very important to understand the stability of our cash flows and revenues in our company.

Now we come back to Page 9. Our EBITDA is growing 9.3%. The inflation in this 12 months is below that figure is around 8.5% in our consolidated figures. So the EBITDA is growing above inflation and if we go, we already reviewed the revenues that are growing 12.1% while cost of sales is growing 24.2%. Most of the increase in this cost of sales comes from an increasing real estate taxes, mainly coming from Chile.

However, we will be seeing an important decrease of this cost in the rest of the year since we have to account an important full year cost of one of our malls in June following an accounting policy. So we are expecting this 24% actually to decline in the following quarters. In administrative expenses, we had an increase of 5.2% below inflation because of some of the -- some savings that we are having in our list of big expenses, which also includes a decrease in -- a partial -- a decrease for a partial release of our bad debt provision of [ CLP 470 million. ]

In the next page, we have the consolidated results for Parque Arauco, and we can see that the net profit is declining -- is decreasing 66% and reaching CLP 19 billion. However, in this decrease, we have to take into consideration that in the second quarter of 2022, we had an adjustment of our fair value.

That was an extraordinary adjustment because of the increase that we have in inflation in all three countries last year. So taking apart the effect of the adjustment of the fair value that is affecting the other gains by function. Also the share profit of associated accounted with the adjustment of fair value that Grupo Marina made in June last year. And also deferred taxes that was affected by the same adjustment, we would have had a net profit of CLP 4.5 billion.

And with that, we have had increase in net profit of around CLP 15 billion. We are pleased to see that the income from indexed assets and liabilities is actually decreasing from CLP 27 billion to CLP 12 billion, reaching a more normalized value for these accounts. The financial expense is growing this year to CLP 14 billion, which is related with -- first with the inflation of the period, but also because of the new interest cost that comes with the new bond that we issued March this year of UF 3 million. However, this increase in financial expense is compensated by the financial income that is also growing 23.6%.

Now to pass back to Page 13. Regarding the FFO, please consider that late on Thursday last week, we uploaded a new version of this page of the report since we realized that the value included of the associate accounted FFO for the second quarter of 2022 was incorrectly informed. That is thirdly, there is a new version with the correct figures that we are showing in this presentation, so please download the new report if you happen to have the first version.

So the FFO in [ this story ] is actually growing 1.7% affected by the financial expense that I've explained -- already explained, is growing 19.8% and compensated by the financial income. However, if we see the last 12 months, the FFO is actually growing 12%. And it's showing, as you can see in the chart below, is having a good margin of 62%, which in comparison with the past year is also growing.

With that, I would like to pass to Page 15. Only to highlight the trade account receivables and the other receivables and that provision that you can see in the lower part of the table. We have not seen any decrease -- any increase of losses coming from bad debt. However, we are still conservative in this management -- in the management of this provision and maintaining an important amount in our books. With that, I would like to pass back the call to Lauren to present some of our projects.

[Lauren Brown, executive]

Thank you, Francisco. Now I'm going to go to our asset level results. Starting on Page 20, you can see all of our asset level results here. And I wanted to highlight that as what Francisco is saying, we experienced positive revenues, especially at Parque Arauco Kennedy. In addition, our outlet revenues grew substantially as well.

In Peru and also across the board, food and entertainment have returned to pre-pandemic levels and in some assets in Peru, the cinemas are helping to drive revenue. In Colombia, the occupancy of Parque La Colina reached nearly 100% and Parque Alegra is now over 80% occupancy after a year of being open.

Passing now to the next page. Here, you can find an overview of our occupancy levels, again, highlighting that this is the highest occupancy we've had in the past 10 years. Jumping ahead to Page 22 now, I would like to highlight the last line for the totals. So if you look at the Chile total under revenue, you can see that our revenue increased 17.1%, while NOI increased 12%. In Peru, the revenue total increased 7.6%, while the NOI increased 7.4%. And in Colombia, the revenues increased 23.9% and the NOI 24.9%. These figures are in local currency.

I did want to point out that in Chile, you will note there is a negative NOI in Arauco Chillan. And that is a result of the reconversion projects that we are doing there, which I will highlight in a future page. I'm going to jump ahead now to development.

And on Page 26, you can find a table that highlights our various development projects. As a result of normalization of EBITDA and our leverage levels, we continue to return to higher levels of CapEx investments. We are investing significant percentage of our total CapEx in regional shopping centers. including the expansion of the iconic Parque Arauco Kennedy in Santiago, various expansions and reconversions throughout Chile and Colombia and a new lifestyle shopping center in Lima, Peru.

As you can see in the graph on the right, despite various multifamily announcements, retail real estate remains our focus and largest investment this year and will continue to be in the future. On the following page, you can see a description of our newest project announced Parque La Molina, and this is going to be the second lifestyle shopping center in Lima, Peru after Larcomar. The open architectural design has many green spaces and includes 16,000 square meters of retail space, which will incorporate a wide variety of gastronomic and entertainment options in addition to small, mid and department stores.

The design of La Molina takes into account sustainability measuring the carbon footprint during construction and incorporates energy efficiency measures and recycling points. On Page 28, you can see a closer look at some of our expansions and reconversion projects at our malls throughout Chile and Colombia. In Chile, at Arauco Chillan, we are reconverting a unit that was previously a supermarket into 22 smaller stores, which we expect will increase the profitability of the GLA.

This year, we continue investing in the expansion of Parque Arauco Kennedy as well. In Colombia, at Parque Alegra, Parque Arboleda and Parque Caracoli, we're working on H&M. A store in Parque Alegra recently opened and had a successful launch. Now to accommodate the opening of H&M in the other malls I mentioned, we are in the process of reconverting spaces and in some cases, moving stores. In Parque Arboleda, we just opened the newly renovated Zara, Bershka and other Inditex stores, which are relocated in this process.

We believe that these reconversions will attract more clients and increase the profitability of these malls. As Francisco mentioned, we are happy to announce our decarbonization agenda.

And on Page 30, you can find this agenda and the goals that we have submitted for science-based targets approval. As Francisco also mentioned, science-based targets is one of the most rigorous standards that we can adhere to. We are one of only 20 companies in all of Chile and the first real estate company to be working with science-based targets. I invite you to take a look at the information we are presenting on this slide and additionally in our 2022 integrated report that you can find on the website. On Page 33 and 34, we highlight the efforts we are making to improve the experience for our customers and our tenants.

We have created archetypes for our end customers and tenants so that we can further analyze ways we can improve their experience. On the tenant side, we have also added Arauco PopUp modules in Peru, and we have improved the process for tenant entry into our shopping centers. And in addition to the E for environment in ESG, we've also been dedicated to projects that focus on the S for social.

We have supported over 800 entrepreneurs between fairs in Peru and Chile, and we've also established a program with Naturalizar to create community gardens near assets in Quilicura and El Bosque. In Peru, we have partnered with Sinfonía por el Perú to promote musical culture through coral and instrument making program.

Recitals were held at MegaPlaza Independencia and were open to the public and attended by local mayors in addition to the Parque Arauco team. I invite you to watch the video about the Sinfonía por el Perú on the Investor Relations YouTube channel, and you can also access by clicking the link on the earnings presentation report. Now I'm going to turn it over to our question-and-answer section. [Operator Instructions] Now to start off today's discussion, I'm going to pass over the call to Eduardo.

[Lauren Brown, executive]

Hi, Joel, I'm going to start with you. You typed me a long call that perhaps you want to verbally...

[Joel Lederman, analyst]

I have two questions. The first one is related to the controlling FFO [indiscernible] I just want to understand better [indiscernible].

[Lauren Brown, executive]

Joel, sorry, you have a lot of background noise [indiscernible].

[Joel Lederman, analyst]

Like I said before, I just want to understand better the Marina Arauco, FFO [indiscernible] that fell 28% during the quarter. On the second question I have is related to a Parque Alegra, I just want to understand better the NOI margin that we should expect going forward since you already reached to 80% of occupancy and you only have 26% NOI margin. So I want to understand the evolution of that as well.

[Lauren Brown, executive]

Great. Thank you. I'll just repeat that so everyone can hear it. The first question corresponds to the controlling FFO and the lower amount of FFO associated with Marina Arauco. The second question has to do with Parque Alegra and how the occupancy is over 80% and the NOI margin is 26% and what will be the evolution of the NOI margin of this asset?

[Eduardo Marchant, executive]

Joel, so regarding the first question, as you know, in Parque Arauco we do the fair value calculation of our properties during the last quarter of every year. Extraordinarily, we did a fair value calculation of our properties at June of last year because of extraordinary inflation -- 2-digit inflation conditions. Also Marina Arauco is -- this is 50% owned by Parque Arauco and 50% owned by Ripley portfolio of properties, mainly in the city of Viña del Mar and also in the cities of Concepción and Curicó.

They also did after value calculation of the properties. And therefore, the base is also affected in the case of Marina Arauco. However, it's important to mention that the fair value calculation is not a part of the FFO calculation. So that's the first part of the question. The second question regarding Alegra, we started to build Alegra, Joel, before the start of the pandemic and when the pandemic started, we frozen all the investments with only two exceptions, the expansion of Parque Arauco [ Kennedy ] and the construction of Parque Alegra.

Basically, in those two cases, we believe that the benefit of continuing the project was larger than the cost of continuing the project. Even though the levels of uncertainty were very important. And because of that, we have to negotiate the contract with our tenants in the middle of the pandemic. And because of that, those were challenging negotiations. And in most of the cases, the revenues that we negotiated with the tenants are scaling up in the next years.

So basically, most of the cases, the contracts start with a lower revenue per square meter basis, but those contracts increased year after year. So you will see higher margins going forward. I would expect similar levels to the other projects in Colombia [ in the medium term. ]

[Lauren Brown, executive]

Joel, do you have any follow-up question to that? I'm going to pass the...

[Joel Lederman, analyst]

No.

[Lauren Brown, executive]

Great. I'll now unmute Jorel from Goldman Sachs, one second. And then following his question, will unmute Marcelo Motta from JPMorgan.

[Wilfredo Jorel Guilloty, analyst]

So I have two questions. One is we discussed the occupancy cost dynamic previously. And the increase in occupancy cost is not much of a surprise. But I was just wondering as you look into the second half of the year, how are you thinking about this dynamic going forward, maybe next 6 months, next 12 months, particularly for Chile, do you think that we've hit the limit? Or do you think it can continue rising due to lower sales and higher rent dynamics? And also, I wanted to piggyback on the margin question.

And I'm sorry if this was answered, I didn't quite make it out. But when I look at NOI margins for Chile at the asset level, they declined about 420 basis points. I mean -- and as I understand it, some of that is due to like operating costs rising materially with inflation. But should we just expect that 93.5% NOI margin at an asset level we're seeing with Chile is basically we bottomed out, and we should expect that to either stabilize or go upward. Those are my 2 questions.

[Eduardo Marchant, executive]

So let me give you -- so as Francisco explained, there is an important difference between performance of anchor stores and the rest of the shopping center. The tenant sales of anchor stores are decreasing at 2 digits. The sales of the rest of the shopping center are increasing at a single-digit rate. So it's important to understand the difference because most of the contracts that are expiring in the following years and that will be renegotiated are contracts that are non-anchor contracts. And when you analyze the total -- the occupancy cost levels.

And let me give you here also a little bit of more color related how they split between anchors and non-anchors. So the total occupancy costs during the second quarter of '19, including both anchors and non-anchors, during the second quarter of '19 was 10.5%. The total occupancy cost this second quarter in the average of the three countries and again, including both anchor and non-anchor was 10.4%, so 10 basis points below. However, when you double-click the occupancy cost between anchors and non-anchors, you will see that the occupancy cost of non-anchor during the second quarter of '19 before the start of the pandemic was 14.1%.

And this occupancy cost of non-anchors during the second quarter of '23 was 13.3%, so 80 basis points below. When you see the figure of anchor during the second quarter of '19 was 4.9%. And during the second quarter of '23 is 5.5%. So I think it's important to understand that because the tenant sales of non-anchor stores are increasing and because the occupancy cost of non-anchor is 80 basis points below the start of the pandemic, I still think there's room for growing above in place.

And that will affect margin positively. So regarding the second part of the question regarding cost. So we are seeing an increased cost in two -- basically in territorial taxes. But as Francisco explained, a part of that increase is non-recurrent. And second, insurance. We are working on several initiatives, including a [ zero-based ] budget for next year and including negotiating contracts all 3 countries together for the first time in the history of the company and another initiative that I expect will compensate that increase in territorial taxes and insurance costs.

So in summary, I would expect similar costs going forward, but higher revenues because of the better conditions that the non-anchor contract will be negotiated. So I would expect similar to a little bit better margin going forward.

[Wilfredo Jorel Guilloty, analyst]

And a follow-up, if I may. What is the breakdown between anchors and non-anchors? I'm not sure if that's something you previously disclosed in terms of revenue. Because you mentioned that non-anchors have seen occupancy cost decline, anchors have seen occupancy cost increase. How does that split either by revenues and however you want to think about it.

[Eduardo Marchant, executive]

Yes, it's an 80-20, basically revenues in anchor are 20% and non-anchors are 80%.

[Lauren Brown, executive]

All right. I will now pass the mic over to Marcelo Motta from JPMorgan.

[Marcelo Motta, analyst]

I mean is more a follow-up on this question of anchors and satellites, right? So your comment about the double-digit tenant sales being down on the anchor segment, while on the others, they are single-digit up. So just wondering what is the trend that you expect? I mean and what are the plans that either the anchors or the company is doing in order to revert this trend? And also, when we look at, let's say, La Molina, you still have a big Falabella there.

So just wondering if despite the sales being down double digit on anchors, you were seeing some of those anchor is outperforming? Or in terms of food traffic, they continue to be very relevant and it's just like that the average ticket is down, but people are still going there and still attracting flow to your mall. So just to understand how we should think about that.

[Eduardo Marchant, executive]

Regarding the -- let me start by the last part of the question, the performance of anchor stores and Falabella were incorporating the La Molina. So it's a small Falabella, it's not a large Falabella. It's actually a format that Falabella is testing, it's approximately 2,000 square meter Falabella, which is a little bit more than 10% of the total GLA of the property. And therefore, it's by far lower than percentage of anchors that our -- the average of our portfolio. The average of our portfolio in terms of surface is more or less 40-plus in anchors. And in this case, we will have approximately 20% net.

So going forward, the reason why the anchor stores are performing -- are decreasing two digits, we believe it's very correlated with the fact that especially department stores and home improvement stores, they sell a lot of durable goods. And a large percentage of these durable goods are sold by credit. And the same anchor brands have been restricting the credit. So this has been affecting the sales of these durable goods. This is not the only explanation, but we believe it's a relevant part of the explanation why the tenant sales are decreasing.

So going forward, we do think that the relevance of anchor stores in our total GLA will be lower in the medium term, but we believe that this will be a gradual and slow process. When you see weaker department store sales, it's very important to understand the quality of the portfolio because, of course, department stores will close or will decrease the relevance in terms of GLA of the less successful stores. And when you see the EBITDA per square meter of the portfolio of Parque Arauco in 2022, we have the highest EBITDA per square meter compared to any competitor. So in Chile, in Peru and in Colombia.

And that shows that the portfolio of Parque Arauco in objective KPIs is a high-quality portfolio. And because of that is less probably that we will face relevant closing of anchor store space. That said, we do expect that we will face some closure of anchor store space. And we believe that in average, that will be a good news for the company because we will be able, in average, to reconvert to spaces at [ basements. ]

[Lauren Brown, executive]

Would anyone else like to ask a question today? Thank you, everyone, for joining our call for the Second Quarter 2023 Earnings Result. Again, thank you for your patience and for connecting today after our technical issues on Friday. We will be seeing each other once again for the third quarter results in October. Have a great day. Thank you very much.

[Eduardo Marchant, executive]

Thank you. Bye-bye.