Morguard North American Residential Real Estate Investment Trust

TSX:MRG.UN

Earnings Call Transcript 2020-Q4

[Operator]

Good afternoon, ladies and gentlemen, and welcome to the Morguard North American Residential REIT Fourth Quarter for Year Ended December 31, 2020. [Operator Instructions] Also note that this call is being recorded on Thursday, February 18, 2021. And I would like to turn the conference over to your host, Rai Sahi. Please go ahead, sir.

[Kuldip Rai Sahi, Chairman & CEO]

Thank you. Thank you very much. Bev, I'm going to pass it onto you. You introduce everybody.

[Beverley Gail Flynn, Senior VP, General Counsel & Secretary]

Good afternoon, and welcome to the Morguard North American Residential REIT Q4 2020 Conference Call highlighting the results for December 31, 2020. We have with us today, in addition to myself and Rai, Chris Newman, CFO; Angela Sahi, SVP, Canadian operations; John Talano, SVP, U.S. operations; and Paul Miatello, Senior Vice President. Chris?

[Christopher A. Newman, Chief Financial Officer]

Okay. Thanks, Rai and Bev. So as is customary, I'll provide some comments on the REIT's financial position and performance. In addition, I'll provide a brief operational and liquidity update as we continue to focus on our essential service of providing safe homes for our tenants and providing a safe work environment for our employees during the COVID-19 pandemic. In terms of our financial position, the REIT completed 2020 with total assets amounting to $3.1 billion compared to $3 billion in December 2019. The increase is mainly due to a fair value increase on the REIT's income-producing properties partially offset by the depreciation of the U.S. dollar since last year. During the fourth quarter, the REIT substantially completed the redevelopment of its Class A mid-rise residential property, 1643 Josephine, located in New Orleans, Louisiana, and first occupancy took place in late October. The repositioned asset further improves the overall quality of the REIT's portfolio, and management is pleased with the final product and is confident of the property's long-term success. The REIT completed 2020 with approximately 27 million -- $27.3 million of cash on hand and $93.4 million available under its $100 million revolving credit facility with Morguard Corporation. The REIT completed 2020 with $1.2 billion of long-term debt obligations. And during the second quarter of 2020, the REIT completed the refinancing of a property located in Mississauga, Ontario, providing additional mortgage proceeds of $15.8 million. CMHC loan has a term of 10 years at an interest rate of 2.03%. The maturing mortgage had an interest rate of 4.25%, a considerable interest rate reduction. As at December 31, 2020, the REIT's overall weighted average term to maturity was 4.8 years, a decrease from 5.6 years at December 31, 2019. And the weighted average interest rate decreased slightly to 3.45% from 3.48% since December 31, 2019. The REIT's debt to gross book value ratio improved to 42.8% at December 31, 2020, down from 44.1% at December 31, 2019. The REIT's IFRS net asset value of $27.50 per-unit as at December 31, 2020, compared to the current market price of approximately $14.75 reflects a compelling entry point for investors. Turning to the statement of income. Net income was $166.8 million for the year ended December 31, 2020, compared to $80.1 million over the same period in 2019. The increase in net income was primarily due to a higher fair value gain on real estate properties of $16.3 million relative to the gain recorded to -- during 2019. An increase in fair value gain on Class B LP units of $66.8 million, an increase -- the increase was due to a fair value gain of $43.7 million on the Class B units recorded during 2020 compared to a fair value loss of $23.1 million recorded in 2019. A decrease in deferred income tax expense of $8.5 million and a decrease in equity income of $10 million mainly due to higher fair value loss on the REIT's equity-accounted properties. Net operating income was $135.5 million for the year ended December 31, 2020, an increase of $2.6 million or 2% compared to 2019. An increase in foreign exchange contributed $1 million of the -- to the NOI increase during the year. On a same-property, proportionate basis, NOI in Canada increased by $1.6 million or 3.1%. And NOI in the U.S. increased by USD 1 million or 1.8%. Partially offsetting the increase in NOI was an increase of $0.8 million in bad debt expense during the year. Bad debt expense as a percentage of revenue increased slightly to 0.8% compared to 0.5% in 2019, reflecting the strength in collections within the residential asset class. Interest expense decreased by $3.7 million for the year ended December 31, 2020, compared to 2019 primarily due to a noncash increase in the fair value gain on the conversion option -- debenture conversion options. The REIT's 2020 performance has translated into basic FFO of $68.9 million, an increase of $4.7 million or 7.4% compared to 2019. And on a per-unit basis, FFO was $1.23 per unit for the year ended December 31, 2020, an increase of $0.01 compared to $1.22 per unit in 2019. The increase in FFO per unit was due to the following: $0.045 per-unit increase on a same-property, proportionate basis from higher NOI and lower interest expense partially offset by higher trust expenses and lower Morguard facility interest income. The $0.045 per-unit decrease was also due to the dilutive impact from the issuance of units in August 2019 offset by interest income earned on proceeds advanced on the Morguard facility net of the partial use of those proceeds and additional FFO generated from the acquisition of Marquee at Block 37 in December 2019 as well a $0.01 per-unit positive impact from the change in foreign exchange rate. The REIT's FFO payout ratio was 57% for the year ended December 31, 2020, a very conservative level which allows for significant cash retention. Operationally, the REIT's average monthly rent in Canada increased to $1,500 or 4.7% increase compared to 2019, reflecting the quality of our Canadian portfolio. During the year, the Canadian portfolio turned over 10.6% of total suites in Canada and achieved 17.4% AMR growth on suite turnover, while in the U.S., same-property AMR increased by 1.3% compared to 2019, having an average monthly rent of USD 1,428 at the end of 2020. The REIT's occupancy in Canada finished the year at 94.9% compared to 98.8% a year earlier. Occupancy slightly decreased in Canada due to continued lower leasing traffic, lower immigration levels as well as 2 properties impacted by university closures. Same-property occupancy in the U.S. of 93.6% at December 31, 2020, was slightly lower compared to 94.5% at December 31, 2019. During the year, the REIT's total CapEx amounted to $22.1 million that included common area projects, exterior building and revenue-enhancing in-suite improvements. Overall, in order to preserve liquidity, the REIT scaled back most of its revenue-enhancing CapEx and continue to focus on maintenance CapEx. In addition, during the year, the REIT incurred development costs of $6 million to complete the REIT's development of 1643 Josephine Street in New Orleans. Providing an operational liquidity update, the REIT recognizes the impact COVID-19 has on many of its tenants in North America and its stakeholders and is committing -- committed to taking measures to protect the health of its employees, tenants and communities. To provide an update, as at February 16, 2020 -- 2021, the REIT's collection -- the REIT collected 98.7% of fourth quarter rental revenue and approximately 97.5% of January 2021 rental revenue, which is materially in line with historical collection rates. Management will monitor collections and compassionately follow-up with those accounts in arrears as the impact of the pandemic continues to weigh on the North American economy over the course of this year. As well, the REIT is committed to working with residents on a case-by-case basis on rent deferral arrangements as eviction moratoriums are lifted. Currently, 0.9% of residential tenants have deferred payment plans. As at February 16, 2021, the REIT's occupancy in Canada and in the U.S., with the exception of a few directly impacted by university and local business closures, remain stable as leasing agents work remotely and utilize online technology to continue leasing activity following the onset of social distancing guidelines. Generally speaking, current conditions, including social distancing, have reduced leasing traffic. In addition, management will closely monitor any impact Ontario's current state of emergency as well as the extension of the U.S. eviction moratorium may have on traffic and turnover levels in the coming months. The REIT has liquidity of $120.7 million, comprised of approximately $27.3 million in cash and $93.4 million available under its revolving credit facility with Morguard Corporation. In addition, the REIT has no significant debt maturities until the third quarter of 2021, and the REIT has approximately $45.3 million of unencumbered assets. The REIT has also narrowed down the scope of its capital expenditure program to ensure the availability of resources, allocating an amount that enables the REIT to maintain the structural and overall safety of the properties. So at this point, I'll now turn it back over to the moderator, who will open up the line for questions.

[Operator]

[Operator Instructions] And your first question will be from Fred Blondeau at AI Securities (sic) [ iA Securities].

[Frederic Blondeau, Research Analyst]

Two quick questions for me, I guess, for John. First, it looks like Chicago is still a challenge. Could you give us a bit of color on the situation and what would be the action plan from here?

[Kuldip Rai Sahi, Chairman & CEO]

John, go ahead.

[John Talano, Vice President of Operations]

I would say that our Chicago assets are doing very well in general. Our property Marquee at Block 37 was hit very hard with both the pandemics, but also, it was right in the middle of the riots, and it had a large number of furnished suites with -- that were focused on the theater district. Obviously, all of that has been closed. But we've actually seen a recent uptick. That property dipped down as low as 73% in terms of its occupancy. But today, it's actually 79.42%. So it is definitely on an upswing. That's 79% leased. So we understood that the market was going to be difficult. Chicago has been virtually closed because of the pandemic. But we did not want to discount rent or give significant concessions away because it is a beautiful Class A, actually the highest-end building in our portfolio. So we gave up a little occupancy knowing that we intended or will hold rent. So we are seeing an increase in traffic significantly over the last several weeks. Several of our staff -- actually, our entire staff have gotten their vaccinations at all 3 of our buildings in Chicago, which we're very excited about. So several of our team actually have received 2 -- both shots. So things are beginning to open up. And we have definitely been stable for the last several months. I would say the low was really was really Q2, but we are optimistic and really expect -- in Chicago, in general, really expect that to explode once the vaccine proliferates more in that region. So that actually could be -- that could be the summer. But we don't know, so we're not going to predict. But I would say we are stable and actually improving today.

[Frederic Blondeau, Research Analyst]

So is it fair to say that you do not have a base scenario in terms of your expected occupancy for these properties for the end of 2021?

[John Talano, Vice President of Operations]

I don't -- I can't speculate on that now. I think things are still a little uncertain. But I would absolutely say that we are stable and improving. So our other Chicago assets, Coast at Lakeshore East is actually 93% occupied and 96% leased. So things are good. And we're really happy with our overall performance. We just have a few assets that have been hit a little harder, but we're being strategic about waiting this out and making sure that we maintain the highest level of rent and keeping the properties in their best performance possible later this year into next.

[Frederic Blondeau, Research Analyst]

That's totally fair. And the second question in terms of your overall U.S. portfolio. Could you give us a sense of your expectations on potential financial impact, if any, from the vortex that we're seeing and from what we're seeing in terms of the nat gas pricing?

[John Talano, Vice President of Operations]

Our hardest-hit assets were in Texas, and we've had multiple frozen pipes and leaks, but our teams have been on site. Actually, several of the folks lost power at home. They literally moved into the corporate suites that we have in Texas. And we've actively repaired everything as of today, but it's still very cold. We expect that it will warm up towards the end of the week. It's possible that we will have some insurance claims there, but I don't think it's likely they're going to hit the deductible. So we will manage both internally. That's really immaterial to overall performance. In terms of the gas pricing -- is that what you're asking about, the natural gas price or the [ lack of availability ]?

[Frederic Blondeau, Research Analyst]

Yes. Well, I mean pricing has increased, obviously. So...

[John Talano, Vice President of Operations]

Yes. Overall, most of our markets are not using natural gas. We are in Chicago, and we are in Washington, D.C., but those are long-term contracts that we've been locked in on. So I have several years before [ I have to worry about it ].

[Frederic Blondeau, Research Analyst]

So we shouldn't expect a hit on Q1 financial performance from that situation, right, either the vortex or nat gas, correct? [ Or should I adjust it? ]

[John Talano, Vice President of Operations]

Yes. I don't expect a material impact from either.

[Operator]

Next question will be from Lorne Kalmar at TD.

[Lorne Kalmar, Associate]

Maybe just following on Fred's question but maybe a bit more broadly about the U.S. In terms of occupancy, do you guys think you've kind of hit trough right now? Or is there a little bit of room to go?

[John Talano, Vice President of Operations]

No. I think we've been very stable. We're actually up a little bit from even our Q4 numbers. So again, I cannot predict anything and can't speculate what will happen tomorrow in this environment. But we've been very pleased. Our portfolio is 95% leased today, and things are going well.

[Lorne Kalmar, Associate]

And then what about in Canada? Do you guys think you're close to trough there? Or is there still a little bit of room to go down as well?

[Angela Sahi, Senior VP of Corporate Development & Director]

So in Canada, we have a similar comment. Like, it's hard to predict, but we only have a couple of properties that are impacted in the more urban quarters, and that's 160 Chapel and Square 104. The rest of the portfolio is actually quite strong and performing well. So -- and we're already getting calls about inquiries for [ university season that perhaps we'll be seeing ] in August. So I think there's definitely a pickup and some optimism there with the vaccine rollout and things going back to normal with, hopefully, the stay-at-home orders loosening up in the next few weeks.

[Lorne Kalmar, Associate]

Okay. And then maybe just following up, I may have just missed it. But when typically do, at least in your guys' experience, the students start doing leasing? When is the high season for that?

[Angela Sahi, Senior VP of Corporate Development & Director]

Like July, August, [ they'll start coming in ]. Yes.

[Lorne Kalmar, Associate]

July, August. Okay. Yes, I guess when -- just when you think you're starting to get to the pandemic, you get the crazy weather down the states. It's never a dull moment, eh? And then on Louisiana development, I think I saw it was about 6% occupied as at year-end. Where is that number now?

[John Talano, Vice President of Operations]

11.4% occupied and 12.5% leased. So it's been slow, but again, there have been significant restrictions with COVID in New Orleans, but we're really pleased with the property and same story with the universities there as well. And we -- summer will be pretty good.

[Lorne Kalmar, Associate]

Okay. And I know this question always gets asked, so I won't even bother asking about Canada. But have you guys been seeing anything on the acquisition front in the U.S.?

[Kuldip Rai Sahi, Chairman & CEO]

What was the question again?

[Christopher A. Newman, Chief Financial Officer]

U.S. acquisitions.

[Kuldip Rai Sahi, Chairman & CEO]

Well, we're looking at it, but I think we're not aggressively. We're more trying to manage what we have. But notwithstanding, we'll keep looking at it, and we'll see whether we want to do anything or not. But usually, we always that anyway, so it's really not a...

[Lorne Kalmar, Associate]

Yes. It was one of those I think -- I thought I knew the answer going into it. Have you guys seen any change in cap rates in the U.S.? Or have they been holding them pretty steady?

[John Talano, Vice President of Operations]

They are actually going down currently. I just got off the phone with some of our brokerage partners, and it's been highly competitive, and there have been -- there's been an interest in investments from other -- that would typically go after other types of assets interested in multifamily, specifically. So we're actually seeing some cap rate [ compression there ].

[Lorne Kalmar, Associate]

So would it be fair to assume that there may be some fair value gains coming down the pipe in the U.S. portfolio?

[Kuldip Rai Sahi, Chairman & CEO]

I wouldn't want to predict anything on that.

[Lorne Kalmar, Associate]

Fair enough.

[Christopher A. Newman, Chief Financial Officer]

The same with the NOI. We don't know exactly what's going on with tax and insurance and a lot of other things like bad debt. So it's hard to kind of wrap them all together with cap rate compression.

[Lorne Kalmar, Associate]

Sure. And then last quick one for me. Have you guys given any thoughts to reinstating or rather doing a distribution increase?

[Kuldip Rai Sahi, Chairman & CEO]

Well, we look at that every year. So when the time comes, we will. I think I'm more on the conservative side right now, trying to conserve cash as opposed to distribute more.

[Operator]

Next question will be from Matt Logan at RBC.

[Matt Logan, Analyst]

Just maybe taking a bit of a bird's eye view. I'm wondering if you could talk about your top 3 priorities for 2021 and where you really plan to spend your time.

[Christopher A. Newman, Chief Financial Officer]

Well, I think it's simply the same as what we're doing right now. It's managing what we have, making sure we are taking a conservative approach with debt and focusing on our rents and our properties and our tenants and our staff to make sure we can recover and grow from [ this point on ].

[Kuldip Rai Sahi, Chairman & CEO]

I see -- this is Rai. I see a little bit of the light at the end the tunnel in a way. Right now, everybody focused on this, what happens to -- so it's an issue of health-wise. I think that's what everybody is concerned about. The politicians are concerned. We are concerned. And some of the things are unpredictable. So all we can hope, that unless the -- although, I have a bit of a positive view that the multiple vaccines are there. So I kind of see there the light at the end of the tunnel maybe 12 months, 18 months from now that things will start getting better. So on the other hand, who knows? We can't predict what happens. So it's not a -- so it's a cautious approach kind of these days. We manage the assets as well as we can and keep our staff healthy, keep our tenants healthy wherever we can. So it's not -- that's where most of the focus is. It's less the opportunities to buy anything at this stage. Notwithstanding, we do always continue to look at it. But I think it is more a focus on the senior management to keep our staff healthy, keep our tenants healthy and monitor and see wherever we can. So...

[Matt Logan, Analyst]

Makes total sense to me. And when we think about where the REIT's units are trading, would you consider making any strategic or structural changes to the business, such as an SIB or perhaps narrowing the geographic focus through some asset sales?

[Kuldip Rai Sahi, Chairman & CEO]

No. We've never done that in good days, and [ it isn't what we do ] in these days. So we just run the business the way we ought to run it, and we are not trying to create [ a situation to try to ] deal with that. So let's continue to manage as we can. And it's kind of day to day [ almost ].

[Operator]

[Operator Instructions] And your next question will be from Yash Sankpal at Laurentian Bank.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Just the Marquee property. Given that kind of its suites are fully furnished, what is the breakeven occupancy for that property?

[John Talano, Vice President of Operations]

The unit -- sorry...

[Kuldip Rai Sahi, Chairman & CEO]

Block 37, right, Marquee?

[John Talano, Vice President of Operations]

Yes, the Marquee.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Yes.

[Kuldip Rai Sahi, Chairman & CEO]

Yes, go ahead, John.

[John Talano, Vice President of Operations]

We do not have a large number of furnished suites. Those were corporate suites that were leased out to a third party that furnished them. So we just had a regular unfurnished agreement with that company. They are actually seeing much more activity and have maintained all of the leases that they do have today. So they are current, and they're paying and have had an uptick in their business as well. But that was really the bulk of the issue at that property. So we inherited those leases from the previous management company. And then we also had a large foreign student population, and the schools have been closed. So when those reopen, we are in a fabulous location that has access to the schools in the theater district that, quite frankly, no one else has. So we're very bullish on it. We're just biding our time to get through the pandemic, and we expect it to do really well once things calm down a bit.

[Kuldip Rai Sahi, Chairman & CEO]

Thanks, John.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Okay. And now this question is for both the U.S. and Canadian portfolios. Are you seeing any new trends emerging in your portfolio over the last 2 quarters?

[Kuldip Rai Sahi, Chairman & CEO]

What kind of new trend?

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

In terms of your tenants leaving for a certain reason or anything...

[Angela Sahi, Senior VP of Corporate Development & Director]

I can comment on the Canadian side a little bit. So we actually did a little bit of an analysis. I think you asked a similar question last time. So in terms of the -- our MRG portfolio, 25% of the people who are leaving are actually purchasing homes, and then 14% are relocating. And then if you look at Mississauga versus like [ Toronto's own Queen's Park area ], in Mississauga, it's mostly purchasing homes and then relocating. And then for Toronto, it's actually relocating. So they're relocating to a more suburban environment if they can and then purchasing homes because of low rates for financing and things like that. So...

[John Talano, Vice President of Operations]

Yes. In the U.S., I would say it's similar. In the South, we are not seeing as many folks purchasing homes. We did see that in Washington, D.C. and Chicago in our portfolio. But generally, our garden-style apartments are in suburban locations. So those have done very well. We have seen an increase in our winter move-outs, but we've also seen an offsetting balance of new move-ins as well. So those, I believe, were up roughly 10% on both sides. So definitely more people moving around in the middle of winter than we normally have. And we know that is due to the pandemic, either folks moving out to go home or moving closer to home or job relocations or job losses. But at the same time, we're backfilling just as quickly.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Okay. And this one is for Angela. If we just look at Q4, what was the rent growth you achieved on turnover? I know you gave the number for the full year. But just wanted to find out what it was for Q4?

[Angela Sahi, Senior VP of Corporate Development & Director]

[ I think ] 17%.

[Christopher A. Newman, Chief Financial Officer]

Yes, we disclosed roughly 17%.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Even in...

[Christopher A. Newman, Chief Financial Officer]

So probably [ same as Q3 ], right?

[Angela Sahi, Senior VP of Corporate Development & Director]

Yes, it was about the same.

[Yashwant Sankpal, VP & Equity Research Analyst of REIT]

Okay. And how should we model your Canadian occupancy for -- like in Q2 '21 given what you know right now?

[Kuldip Rai Sahi, Chairman & CEO]

Your guess is good as ours there, okay? We don't -- we've stopped guessing these days.

[Operator]

Next question will be from Dean Wilkinson at CIBC.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

I guess my first question is, Rai, how are you doing?

[Kuldip Rai Sahi, Chairman & CEO]

Under the circumstances, depending on who calls me.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Yes. As good as the rest of us.

[Kuldip Rai Sahi, Chairman & CEO]

I always have a positive mental attitude. The things that I can't control, I stop worrying about it. [ And the thing is ], I look at the positive side of it. This -- as I've said earlier, this shall pass. So the -- particularly with multiple vaccines being here, we've got the next the year, 18 months, maybe 2 years of -- and we on the real estate business, it's a longer-term play. So I'm a little bit positive in this sense. If there was no vaccine, I'd be really worried about it. So...

[Dean Mark Wilkinson, Director of Institutional Equity Research]

So you and I both. I guess, as I'm getting older, I'm sharing your optimism about all things. Maybe for Angela, and I don't know if you could answer this question. We're starting to see a bit more prevalence of sort of new variants and outbreaks. And I believe there was a condo building in Peel where they actually went around and tested everybody. Do you have a way to track, and it might be invasive, the incidence of positive COVID cases within the buildings, particularly when you look at the [ Peel ]?

[Angela Sahi, Senior VP of Corporate Development & Director]

Yes. So what we do is we do request tenants to let us know. They don't have to. It's not [ mandated ] that they need to tell us, but we do because we help them with groceries, garbage removal, those kind of things that they're not allowed to leave their unit if they're quarantining. So we have some idea. And we actually haven't had many incidents at all in our whole portfolio, very few. So that's kind of the comments I can give you on that because we're not really required by law to obtain that info from them. So...

[Dean Mark Wilkinson, Director of Institutional Equity Research]

So no superspreader events or anything like that, that you're aware of.

[Angela Sahi, Senior VP of Corporate Development & Director]

No nothing like that. Nothing at all like that.

[Kuldip Rai Sahi, Chairman & CEO]

Nothing at all.

[Operator]

[Operator Instructions] And at this time, we have no further questions. Please proceed.

[Kuldip Rai Sahi, Chairman & CEO]

Thank you very much. Thank you for attending, and we shall talk to you next quarter. Thank you.

[Operator]

Thank you, sir. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines.