CT Real Estate Investment Trust

TSX:CRT.UN

Earnings Call Transcript 2021-Q2

[Operator]

Good morning. My name is Valerie, and I'll be your conference operator today. At this time, I would like to welcome everyone to CT REIT's Q2 2021 Earnings Results Conference Call. [Operator Instructions] The speakers on today's call are Ken Silver, Chief Executive Officer, CT REIT; Lesley Gibson, Chief Financial Officer, CT REIT; and Kevin Salsberg, President and Chief Operating Officer of CT REIT. Today's discussion may include forward-looking statements. Such statements are based on management's assumptions and beliefs. These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Please see CT REIT's public filings for a discussion on these risk factors, which are included in their 2020 MD&A and AIF, which can be found on CT REIT's website and on SEDAR. I will now turn the call over to Ken Silver, Chief Executive Officer of CT REIT. Ken?

[Kenneth Silver, CEO & Trustee]

Thank you, operator, and good morning, everyone. We're very pleased to welcome you to CT REIT's second quarter 2021 investor conference call. With Canadians having significantly embraced vaccination, resulting in lower COVID case rates and the lifting of most public health restrictions, we can be hopeful that the worst of the pandemic is behind us. Yet we can see with the emergence of the Delta variant and ongoing health crisis in various parts of the world, that the future is not without risk. Even given the path we're currently on, there is much uncertainty still regarding the safe return to the workplace, schools, travel and other elements of normal life. Nevertheless, in many ways, the second quarter marked the transition from a Canadian economy constrained and impacted by the pandemic to a step on the way to a new somewhat different normal. From a CT REIT perspective, we're pleased to share with you the results of another strong quarter, a quarter to a large extent, reflected this transition in the Canadian economy. One of the key takeaways from the past year or so is that throughout the pandemic our portfolio demonstrated tremendous resiliency, delivering uninterrupted growth in AFFO per unit, a strong balance sheet and credit metrics and distribution growth. We believe that we are well positioned to navigate whatever twist and turns may emerge. All of these hallmarks of our strong performance were, again, reflected in our Q2 results. In addition, renewed market confidence has contributed to growth in our IFRS fair value driven by strong fundamentals in both the retail and industrial components of our portfolio. The reduction in our bad debt expense is also a reflection of greater confidence in the resilience of our ancillary tenants as the economy moves to reopening. We are also excited about the growing list of projects that will support our future growth with the new investments that we announced yesterday, bringing our acquisition and development pipeline to approximately 1.25 million square feet of attractive low-risk investments. Our resilience and our growth are owing to the success of Canadian Tire, which continues to demonstrate its ability to deliver on the wants and needs of Canadians year in and year out through good times and bad for now almost 100 years. With that, I'm going to turn the call over to Kevin to provide an update on our investing activities and operations. Lesley will then review the financial aspects of the quarter before turning the call over for questions. Kevin?

[Kevin Salsberg, President & COO]

Thanks, Ken, and good morning, everyone. I hope you're all doing well. As outlined in yesterday's press release, we are pleased to announce 5 new investments this quarter, requiring an estimated $60.3 million to complete. These new projects consist of the vend-in of an existing Canadian Tire store and Canadian Tire Gas+, Gas Bar in Toronto and Ontario, Canadian Tire store expansions in Toronto, Ontario [indiscernible] as well as the Canadian Tire store expansion that required the acquisition of land from a third party in [ Drummondville, ] Quebec. Finally, we've also announced the vend-in of land for the development of a new Canadian Tire store and third-party tenants in Moose Jaw, Saskatchewan. When completed, these investments are expected to earn a weighted average going in cap rate of approximately 6.5% and will add roughly 266,000 square feet of incremental GLA to the portfolio. This brings the total investment activity, announced since the beginning of the year, to $173 million, $130 million of which relates to the expansion and development of Canadian Tire retail and supply chain assets. As we continue to work collaboratively alongside Canadian Tire on these projects, the REIT has opportunistically engaged in discussions with our largest tenant surrounding remaining lease terms. As can be seen this quarter, these proactive negotiations allowed us to extend the weighted average lease term for the entire portfolio by almost half a year to 8.9 years, one of the longest in the sector. This improvement was primarily driven by the extension of one Canadian Tire distribution center lease and 9 Canadian Tire store leases, and we are pleased to have extended the lease terms for all but one of the Canadian Tire stores that were set to expire between now and the end of 2023. We are in discussions with Canadian Tire regarding possibly replacing this remaining location to a larger format store that will potentially better serve the market in the long term, and we'll announce further details in the future should this project come to fruition. At the end of the second quarter, CT REIT had 28 properties that were at various stages of development. These projects represent a total committed investment of approximately $280 million upon completion, $66 million of which has already been spent and $54 million of which we anticipate will be spent in the next 12 months. These projects will add a total incremental gross leasable area of approximately 923,000 square feet to the portfolio upon completion, 95% of which has been pre-leased. As at June 30, 2021, CT REIT's occupancy rate was 99.2%, in line with both Q2 2020 as well as year-end. With that, I will turn it over to Lesley for a review of our financial results.

[Lesley Patricia Gibson, Senior VP & CFO]

Thanks, Kevin, and good morning, everyone. We are, again, very pleased with the strong Q2 results that CT REIT has delivered. Our rent collections for the second quarter remained stable at 99.7% and we recorded no bad debt expense, reflecting the stable portfolio and health of our tenants. Our reported AFFO per unit on a diluted basis was [ $0.277, ] an increase of 8.2% and compared to Q2 of 2020, reflecting the positive net impact of NOI variances, including reduced credit losses and lower interest expense. Reported net operating income increased 6.5% or $6.1 million in the quarter compared to Q2 2020. The main contributors to this growth are the same-store NOI results, which contributed $3.3 million as well as intensifications and the acquisition of introducing properties completed in 2021 and 2020, which contributed a further $2.8 million to NOI growth. Even excluding the credit losses recorded in Q2 of 2020, organic NOI growth would have been a healthy 4.9%. Same-store NOI increased by 3.6% or $3.3 million compared to the Q2 2020, driven by contractual rent escalations contributed $1.5 million and lower provision to the expected credit losses due to the improving business environment, which increased NOI by $1.4 million. General and administrative expenses, as a percentage of revenue, were 2.5%, which is in line with recent quarters. The REIT recorded a fair value increase of $106.5 million on our investment properties for the second quarter of 2021. the increase in the fair value adjustment on investment properties was driven by changes to the investment metrics for both the industrial properties and the retail properties in the portfolio, with about 57% of the increase attributable to the industrial and the balance to retail. This was supported by recent market activity and external appraisals completed during the quarter. Our AFFO payout ratio has improved for the 3 months ended June 30, 2021, and was 72.6%, a decrease of 3.4% from the same period in 2020. There has also been continued improvement in our debt metrics, with interest coverage ratio increasing to 3.73x in Q2 compared to 3.5x for the second quarter of 2020. The increase in the interest coverage ratio is primarily due to the growth of the EBIT fair value as well as a decrease in the interest and financing charges. CT REIT's indebtedness ratio has also improved and was 41.6% as of June 30, 2021, compared to 42.5% a quarter ago. The decrease was primarily due to the growth from property fair value adjustments, along with a reduction in the total indebtedness. In addition, with $294 million available through our committed credit facilities and $3 million cash on hand, coupled with no debt maturities for the remainder of 2021, we continue to maintain a liquid position. Lastly, the book value increased to $15.31 in the current quarter, up from $14.74 and per unit in the first quarter of 2021, primarily due to net income exceeding our distributions. And with that, I'll turn it back over to the operator for any questions.

[Operator]

[Operator Instructions] Our first question is from Sam Damiani with TD Securities.

[Sam Damiani, Director, Institutional Equity Research]

Just to, I guess, close the loop on the renewals, which were great to see, the lease renewals. Did any of those renewals -- the terms of those would they interrupt the same-store NOI growth that the REIT has been enjoying historically in the 2% plus range?

[Kevin Salsberg, President & COO]

Dan, it's Kevin. I think you're basically asking if the annual rent escalations would be continuing in the extension terms? And the answer for these lease extensions is, yes, they will be.

[Sam Damiani, Director, Institutional Equity Research]

Okay. Great. And the DC lease extension, was that just a renewal? Or was it like a blend and extend that might impact rents in the short term?

[Kevin Salsberg, President & COO]

It was tied to the expansion that we announced earlier this year and the exercised options in conjunction with the funding.

[Sam Damiani, Director, Institutional Equity Research]

Okay. Great. Okay. And I guess, great to see the results showing basically 0 impact of the pandemic. Do you expect that to continue in the latter half of 2021?

[Lesley Patricia Gibson, Senior VP & CFO]

Kevin -- Sam, it's Lesley. We're very happy that, that happened for the second quarter. It is really hard to predict with what's going to happen in future quarters. I think the tenant have shown resilience and found a way to operate through this and our rent collections and the bad debts have virtually gone back to pre-pandemic levels. But one can't guarantee what happens in other quarters. But we certainly hope that is the continued experience that we have.

[Sam Damiani, Director, Institutional Equity Research]

Great. And last question I have before I turn it back, is just an update on the Brampton Steeles Avenue property owned by Canadian Tire. Any update on the plans there? Is the company still utilizing that space at all?

[Kevin Salsberg, President & COO]

It's Kevin. I'll take that one. So yes, Canadian Tire continues to use that facility. I think with the robust sales they've been generating. They were looking for excess capacity and had the facility available to them. So in the short term, it is still in use. We continue discussions with Canadian Tire on the future of that site and potential to redevelop it. And in conjunction, are working on, obviously, concept planning and working towards advancing some municipal approvals over time.

[Operator]

Our next question is from Jenny Ma with BMO Capital Markets.

[Jenny Ma, Analyst]

I'm looking at the development pipeline schedule, and it looks like there were some projects that were actually moved up in terms of time frame. Could you talk us about why that was the case? Were you able to make a little bit more progress? Or maybe you had been conservative in some of these timing estimates?

[Kevin Salsberg, President & COO]

Jenny, I think you'll see quarter-to-quarter projects shifting both forward and backwards. A lot of that depends on the municipal approval process and how long it takes certain jurisdictions. Obviously, we foresee it happening sooner and it takes longer or vice versa. And then obviously, construction related delays or not. So no specific commentary on the projects that moved up or any rationale. I think it's just the development process sometimes can be lengthy or sometimes takes less time than we anticipated, and you'll see some natural movement within the projects related to that.

[Jenny Ma, Analyst]

Okay. Sounds good. With regards to the Leslie and Sheppard expansion that was mentioned in the press release, it says its expansion into some current CRU space. Is that a result of Canadian Tire desire to expand that specific store? Or did you have any tenant failures that may have brought this opportunity up? Is there something specific that you could share about this location?

[Kevin Salsberg, President & COO]

Sure. So totally related to Canadian Tire's desire to expand that particular location. It was actually the reverse of tenant failures. We had to remove certain tenants to accommodate the store expansion, which obviously was to the benefit of our anchor tenant and financially made sense to us as well. So they just expanded into adjacent space was really the story there.

[Jenny Ma, Analyst]

Okay. Great. And it's great to see that the bad debt has basically been eliminated. So is it safe to assume that there wasn't any issue with the rent collection as well, but that was at 100% for Q2?

[Lesley Patricia Gibson, Senior VP & CFO]

Yes. Jenny, our rent collections -- when we're operating in sort of 99.7%, we're really fully close to full rent collections. And yes, and the bad debt for us have effectively subsided during the quarter, which was great to see.

[Jenny Ma, Analyst]

Okay. Great. Do you know if any of your tenants are still taking CERS assistance at all? I realize that it's not very opaque with this process.

[Lesley Patricia Gibson, Senior VP & CFO]

Yes, I do understand. We have a handful of tenants that are still participating in the CERS to the best of our knowledge.

[Operator]

[Operator Instructions] Our next question is from Sumayya Syed with CIBC.

[Sumayya Syed Hussain, Associate]

So just can firstly on the distribution policy, a bit of a higher bump announced more recently following, I guess, a smaller increase last year. So just how are you thinking about that? And should we expect a similar pace going forward? And what payout ratio would you be targeting?

[Kenneth Silver, CEO & Trustee]

Sumayya, it's Ken. I can't give you a ton of guidance on the distributions. I mean, obviously, it's something we review with our Board and that they approve on a monthly basis. So really, it's a reflection of what's happening in the business and what we see going forward. So I wouldn't infer from what we've done in the past year and make any conclusions about what you might see going forward.

[Sumayya Syed Hussain, Associate]

Okay. And then just on the investment activity in the quarter, there was a land vend-in [indiscernible], just wondering what does the scope of the pipeline look for land, how [indiscernible] that could be resuitable down the line?

[Kevin Salsberg, President & COO]

Well, there's a couple of land banks that Canadian Tire has owned some historic, some more recent that are strategic to them and should they decide to move forward in terms of developing new locations or larger format stores on those land parcels that would be the appropriate time for the REIT to step in and acquire it.

[Operator]

Our next question is from Tal Woolley with National Bank Financial.

[Tal Woolley, Research Analyst]

Just a follow-up on Sumayya's question. She was asking about the payout ratio. But obviously, you are continuing to work down your leverage, and you're still seeing good cash flow growth. Maybe we could just expand the question a little bit more you gave us like what's the goal leverage that maybe you're trying to get to? Should we expect on CT REIT to sort of continue to work down that leverage over time, or given that you're continuing to build excess cash, you could look at distribution increases, maybe you look at share buybacks, that kind of thing, like you give us a sort of sense of where you want debt structure to be over the longer haul?

[Lesley Patricia Gibson, Senior VP & CFO]

Tal, it's Lesley. As far as our leverage goes, yes, we have been sort of slowly working that down. I think whether -- where it is sort of now and so that sort of low 40% range is where we'd like to sort of see it and target it. There is not a specific goal that's significantly lower than that, that we're actually aiming towards. In terms of stuff like share buybacks, I think we've worked over the last few years to sort of increased float and do other things. So that's not something that I would see us looking to on our radar screen. But -- and the ratio -- the payout ratio has moved around and continues to be lower, obviously, with the recent distribution increase that will inch up a smidge. But I think in that sort of mid-70s range is probably where you'll see the payout ratio land, and we'll still be looking at wanting to have sort of, I guess, conservative leverage compared to our peer group of REITs here.

[Tal Woolley, Research Analyst]

Okay. And then just to go back to the lease extensions for a second. Kevin, I think you said basically like you've handled all of the CTC leases except for one through to 2023. Do I have that correct?

[Kevin Salsberg, President & COO]

That is correct. Yes.

[Tal Woolley, Research Analyst]

Okay. And I'm just wondering, can you remind me what exactly the mechanism is? I hadn't -- I didn't have time to look at up this morning, but I remember there was a sort of end of lease term mechanism that was there. I just can't remember exactly what it is? Can you just talk about whether this was negotiated out or you just followed the mechanism?

[Kevin Salsberg, President & COO]

So the mechanism is basically they have an option to extend that they can exercise within 18 months of the expiry of the term. The rents are set up market subject to a floor not less than determine the initial -- or the rent in the initial term and a ceiling that basically works out to not greater than roughly 12% more than that number. These negotiations were done outside of that process. We've obviously had weighted average lease term as a focus of ours for a long time now, and are obviously in constant dialogue with Canadian Tire on a number of different items, lease term being one of them. And these being strong performing stores and in conjunction with other discussions around new store development store expansions. Their program came to the conclusion that both sides were amenable to dig into the lease extensions and find win-wins. And that's how these ones came about.

[Tal Woolley, Research Analyst]

So can you give us some sense of with us, like we see other peers that obviously hasn't been an issue for you guys since your debut in the public markets. But can you give us some sense of what is the renewal spreads were on those leases?

[Kevin Salsberg, President & COO]

Well, as I mentioned in Sam's -- to Sam's question, the lease extensions provide for the same annual rent increases as in the initial term.

[Tal Woolley, Research Analyst]

Okay. So it's more of a continuation of that then you're seeing a big step. Got it. Yes. And then just finally, the triple-net market, like what how have you seen many good deals outside of the transactions you're doing with Canadian Tire to?

[Kevin Salsberg, President & COO]

A couple of interesting things out there that we are seeing and working on. I think you've probably heard commentary from some of our other retail REIT peers around just depth of demand for, obviously, grocery and essential needs retail. So there's a couple of transactions that we are aware of that are either tied up or closed that are really driving cap rates down for strong retail assets. And I'd say there was a good amount of marketed product that came out of first part of the year. It's a little slower now in the midpart of the summer. But I think there's still lots of capital private and otherwise chasing these deals. And hopefully, in the fall, we'll see some new supply to address that demand.

[Tal Woolley, Research Analyst]

But nothing out there that was like you guys were dying to get your hands on?

[Kevin Salsberg, President & COO]

Well, like I said, there's some transactions out there that we are looking at and working on once we, I guess, bring those to fruition, lots more to say about it.

[Operator]

Our next question is from Sam Damiani with TD Securities.

[Sam Damiani, Director, Institutional Equity Research]

I just wanted to see if there was an update on Canada Square with the approvals and the expected time line? Any update on the LRT, et cetera?

[Kenneth Silver, CEO & Trustee]

Sam, it's Ken. Happy to give you an update, although there's not a ton of new news, our Development Manager in Conor Oxford Properties continues to advance the building design for the first phase as well as the overall municipal approval process. Nothing's changed from a timing perspective as we continue to be subject to the timing or the completion of the LRT. Again, lands that Metrolinx is using for the construction of the project at the north end of the site are part of the Phase 1 lands. And there has been no new announcements from them, and we are still expecting a construction start in 2023. With respect to the municipal approval process, Obviously, this is a very significant site at a key location in the city of Toronto, and we would expect it to be given careful consideration by many stakeholders. Our master plan concept reflects the policies and guidelines. The city developed the site over a significant number of years. So we continue to work with with the city to advance the application.

[Operator]

As there are no further questions registered at this time, I will turn the call over to Ken Silver, CEO, for closing remarks.

[Kenneth Silver, CEO & Trustee]

Thank you, operator, and thank you all for joining us today. Enjoy the rest of the summer, and we look forward to speaking with you all in November.

[Operator]

Thank you. This concludes today's call. You may now disconnect.