Morguard North American Residential Real Estate Investment Trust

TSX:MRG.UN

Earnings Call Transcript 2021-Q4

[Operator]

Good afternoon, ladies and gentlemen, and welcome to the Morguard North American Residential REIT Fourth Quarter 2021 Results Conference Call. [Operator Instructions] And as a reminder, this call is being recorded today, Thursday, February 17, 2022. I would now like to turn the conference over to Mr. Rai Sahi. Please go ahead, sir.

[Kuldip Rai Sahi, Chairman & CEO]

And I'm going to pass it on to Chris. Chris, do you want to do the introduction?

[Christopher A. Newman, Chief Financial Officer]

Thank you, Rai. And with me and on the phone as well are Paul Miatello, Beverly Flynn, Angela Sahi and John Talano. So as is customary, I'll provide comments on the REIT's financial position and performance in terms of our financial position. The REIT completed the fourth quarter of 2021 with assets amounting to $3.5 billion, higher compared to $3.1 billion last year. As this was a result of the fair value increase in the REIT's income-producing properties of approximately $290 million. The REIT finished the year with $26.6 million of cash on hand and $70 million [ advanced ] to Morguard Corporation under its $100 million revolving credit facility, providing the REIT with $170 million available under this facility. REIT completed the year was $1.3 billion of long-term debt obligations. And during the quarter, the REIT completed the refinancing of 4 Canadian properties, providing gross mortgage proceeds of $194.2 million at a weighted average interest rate of 2.72% and for a weighted average term of 10.5 years. The maturing mortgages associated with the refinance properties had a balance of a maturity of $74.2 million at a weighted average interest rate of 3.97%, resulting in net proceeds of $120 million before financing costs and any associated tax payable on the redemption of the Class C LP units. As at December 31, 2021, the REIT's overall weighted average term to maturity was 5 years, an increase from 4.8 years at December 31, 2020, and the weighted average interest rate decreased to 3.31% from 3.45% since December 31, 2020. The REIT's debt to gross book value ratio improved to 40.2% at December 31, 2021, down compared to 42.8% at December 31, 2020. The REIT's IFRS net asset value at $31.80 per unit at December 31, 2021, compared to the current market price of approximately $19 reflects a compelling entry point for investors. Turning to the [ statement ] of income. Net income was $245 million for the year ended December 31, 2021, compared to $166.8 million in 2020. The $78.2 million increase in net income was primarily due to a higher fair value gain on real estate properties of $216.4 million relative to the gain recorded during 2020. And was partially offset by an [ increase ] in fair value loss on Class B LP units of $74.1 million, [ reflecting ] an increase in the REIT's unit price during the year. And also an increase in deferred income tax expense of $67.8 million, which correlated to an increase in the fair value of the REIT's U.S. property. IFRS net operating income was $129.5 million for the year ended December 31, 2021, a decrease of $6 million or 4.5% compared to 2020. The change in foreign exchange rate amounts to $4.8 million of the overall $6 million variance to last year. And on a same-property proportionate basis, NOI in Canada decreased by $3.3 million or 6.1%, mainly due to higher vacancy, partly offset by growth in AMR. NOI in the U.S. increased by USD 0.8 million or 1.2%, as an increase in revenue from AMR growth and lower vacancy [ was ] partly offset by higher operating expenses, and the change in foreign exchange decreased NOI by $5.3 million. Interest expense increased by $3.6 million for the year ended December 31, 2021 compared to 2020, primarily due to a loss on tax liability on the redemption of Class C LP units of $3.8 million and a decrease in the noncash fair value gain on the convertible debenture conversion option of $2.3 million. These are partially offset by a decrease in interest expense, a interest on mortgages of $2.2 million, which was primarily due to the change in FX, as the strengthening of the Canadian dollar decreased interest expense on U.S. mortgages. The REIT's 2021 performance translated to basic FFO of $64.8 million, a decrease of $4.2 million or 6.1% when compared to 2020. And on a per unit basis, FFO was $1.15 per unit for the year ended December 31, 2021, a decrease of $0.08 compared to $1.23 per unit in 2020. The decrease in FFO per unit was due to the following: on a same-property proportionate basis and in local currency, a decrease in NOI from increased vacancy, partly offset by a decrease in interest expense and trust expense, had a $0.02 per unit negative impact, of which a successful property tax appeal in 2020 impacted FFO by $0.01 and a change in the foreign exchange rate had a $0.055 per unit negative impact. An increase from the contribution of the REIT's redevelopment property, 1643 Josephine, which reached stabilized occupancy during the fourth quarter at $0.005 per unit positive impact and a decrease in other income, mainly from a wage subsidy received during 2020 as well as a decrease in interest income on the Morguard facility which was partially offset by a non-recurring write-off during the prior year had a $0.01 per unit negative impact. The REIT's FFO payout ratio was 60.8% for the year ended December 31, 2021, a very conservative level, which allows for significant cash retention. And operationally, the REIT had average monthly rent in Canada increased to $1,535 or 2.3% compared to 2020 and reflecting the quality of our Canadian portfolio. During the year, the Canadian portfolio turned over 14.9% of total suites and achieved 12.3% AMR growth on suite turnover. While in the U.S., same-property AMR increased by 6.4% compared to 2020, having an average monthly rent of USD 1,519 at the end of December 2021. The REIT's occupancy in Canada finished the fourth quarter of 2021 at 93.6% compared to 94.9% a year earlier. Occupancy decreased in Canada due to prolonged stay-at-home restrictions throughout 2020 and in the first half of 2021, which disrupted normal leasing patterns as the administration of vaccinations continues to progress across the country. And as restrictions are lifted, we began to see increased leasing activity and the number of suites leased during the third and fourth quarters of 2021. Same-property occupancy in the U.S. of 96.3% at December 31, 2021, was higher compared to 93.6% at December 31, 2020. Continuing the positive momentum experienced earlier in the year as most of the REIT's U.S. submarkets are outperforming pre-pandemic levels. To add, the REIT's redevelopment properties, 1643 Josephine located in New Orleans, Louisiana, reached stabilized occupancy during the fourth quarter. The repositioned asset further improves the overall quality of the portfolio, having an AMR of USD 1,842. During the year, the REIT's total CapEx amounted to $30 million. That included exterior building and revenue-enhancing in-suite improvements. And we continue to ensure we maintain the structural and overall safety of our properties. Currently, collections remain strong as the REIT collected 98.8% of fourth quarter rental income and approximately 97.4% of January's rental income, which is materially in line with historical collection rates. At this time, I'll turn the call back over to the moderator for any questions.

[Operator]

[Operator Instructions] Your first question comes from Lorne Kalmar of TD Securities.

[Lorne Kalmar, Associate]

Just on the distribution, I think you guys had a [ pretty ] regular track record of increasing it year-over-year. It [ looks ] like things have largely stabilized. How are you thinking about distribution increases going forward?

[Christopher A. Newman, Chief Financial Officer]

Yes, [ Rai ], do you want to touch upon the distribution?

[Kuldip Rai Sahi, Chairman & CEO]

Yes. I think at this stage, we are all [ being ] [ kind ] do increase a bit. I think right now, we will continue to think about that, but I think we don't have any plan to increase at this stage. We might consider next quarter, but we'll see how things go.

[Lorne Kalmar, Associate]

Fair enough. And then you guys, it looks like you now have a quite a [ bit ] [ of ] cash on hand. What are you thinking about in terms of deploying that capital? [ What ] acquisitions, debt reduction? What are your thoughts on that?

[Kuldip Rai Sahi, Chairman & CEO]

I think we're looking more -- acquisition, we're looking at more in the U.S. There's really nothing at the price that they would like to [ place ]. Well, we continue to look in the U.S. and see if something comes up, we will acquisition.

[Lorne Kalmar, Associate]

So would it be fair to say that the acquisition environment has gotten -- I mean, how does Canada or it's Canada it's certainly [ gotten ] tougher in the U.S.?

[Kuldip Rai Sahi, Chairman & CEO]

Actually it's tougher in Canada. U.S., there's still some availability. So there's a lot more availability in the U.S. than in Canada. Canada prices have gotten crazy.

[Lorne Kalmar, Associate]

Yes. Sorry, I just meant -- I mean I know it's not as bad as Canada, but I was wondering if you saw it trending that way given some of the pricing [indiscernible] it's been -- or some of the prices that [indiscernible] transacting at?

[Kuldip Rai Sahi, Chairman & CEO]

Paul, do you have any comment on ?

[Paul Miatello, Senior Vice President]

Yes, it's Paul. Yes, we're definitely seeing an uptick in pricing in major U.S. markets without a doubt. It's -- I think it's more like Rai said, there's more product available, but there's a scarcity of product relative to how much money is chasing apartment product though. So -- and we are seeing -- as you could see from our results, rent increases, which I think is bringing in some non-traditional buyers. And in addition to that, I think we continue to see some U.S. institutions [ recircling ] out of different asset classes into [ multi-res ] and industrial in the U.S., so that's also sort of compounding the problem. But yes, we are observing higher pricing per unit than we have historically.

[Lorne Kalmar, Associate]

Okay. And then just last one for me and whatever you can give would be great. Have you heard anything in terms of considerations of additional regulation for any of the potential Ontario government platforms with the election coming up?

[Kuldip Rai Sahi, Chairman & CEO]

Well, the governments are going to what are they going to do? We still have [ rental ] [ tool ]. I don't know what more they can do. And we'll just continue to watch it. there's not much you can do. I mean the elections are coming, so there are -- they won't be under pressure. We're also concerned about municipalities are probably [ because ] of pandemic [ are ] going to have a challenge, and there would -- there will be some pressure on increasing the property taxes, which will negatively impact us. But nothing as of yet, I guess?

[Paul Miatello, Senior Vice President]

No, nothing.

[Operator]

Your next question comes from Jimmy Shan of RBC Capital Markets.

[Khing Shan, Analyst]

Maybe if I could just push you a little bit on that -- on the U.S. pricing that we're seeing -- it seems like we're seeing actually quite aggressive bid on [ Sunbelt ] assets in particular. So I was curious as to whether you actually -- are you getting to any bids on your assets? Are you -- would you be more in the [ camp ] of being a seller here? Maybe some -- what are your thoughts?

[Paul Miatello, Senior Vice President]

Yes, it's Paul here. Yes, we are seeing unsolicited bids. It's not an unusual thing in the U.S., especially with what's referred to as the 1031 exchange [ guys ], [ real ] institutions will sell properties and then they want to buy something so they can fulfill the requirements of the tax deferral. So it's a common thing. We are seeing more unsolicited sort of interest come in. So that's another indication. So yes, [ Jimmy ], we are on sort of track there. And yes, we are looking at perhaps [ pruning ] assets in 1 or 2 [ Sunbelt ] markets, but that's just something that we're considering right now.

[Khing Shan, Analyst]

Okay. And the unsolicited bid that we're seeing, are those pricing -- I mean, clearly, the fact that you're contemplating perhaps pulling the trigger on a few, you suggest to me that the pricing is quite attractive perhaps even more attractive than what you're marketing these assets books.

[Paul Miatello, Senior Vice President]

It's attractive...

[Khing Shan, Analyst]

I'm [ leading ] you a bit.

[Paul Miatello, Senior Vice President]

Yes. But yes, you never have a sense of who. We never really have a sense of who the buyer is, right? You're just getting sort of stuff e-mailed and you don't know what's real, what's not real. So I wouldn't really comment on that at all.

[Khing Shan, Analyst]

Okay. And then on the Mississauga , these used to be operating at almost 100% occupancy. So what do you think it takes for those assets to go back to that level? Is it really just immigration and [ return ] to work. I wondered if you have any -- to dig a little deeper on what do you think some of the drivers would be to get back to that level again?

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

I can take that one. It's Angela. So we're actually -- if we take the average of just the Mississauga portfolio, we're already at 96% occupancy in Mississauga, and we're at 95% in Toronto, so including [ Forklift Park ]. So we're approaching -- we're making progress. And all of it, I think you -- as you stated, immigration is going to be the major thing that's going to impact the occupancy. And really, it's the one-bedroom suite that we're finding more difficult. They are the ones that have a vacancy. Our 2 bedrooms were actually even able to increase rents on our 2 beds. So it's really those 1 beds, and the young [ professionals ], not so much families at this point. So we're waiting for the immigration really and just offices and things being back to normal.

[Khing Shan, Analyst]

Okay. And what about -- are there any concessions still in the marketplace when it comes to the 1 bed?

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

Some incentives. There are some incentives in the marketplace still I mean the variant was just recently another lockdown. And so yes, the market is still offering incentives right now, so we're doing the same.

[Khing Shan, Analyst]

Okay. And what's the trend? Is it about the same as it was about a year ago?

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

Actually less. I think we pulled back.

[Khing Shan, Analyst]

Okay. Okay. And then sorry, last one for me just on the U.S. I did see the leasing spread on renewals and new leases in the quarter. I might have missed it, but if you have that handy, that would be great.

[Christopher A. Newman, Chief Financial Officer]

John, do we have that available or...

[John Talano, Vice President of Operations]

I don't have it on hand. And are you speaking specifically about the turnover on new leases?

[Khing Shan, Analyst]

Yes, turnover on new leases and [ that's ] the way you're getting on renewals?

[John Talano, Vice President of Operations]

Yes. So our turnover in the quarter on the new leases. And again, this is just a snapshot of what happened [ to ] turnover was north of 12%.

[Khing Shan, Analyst]

Okay. Okay. And on renewals?

[John Talano, Vice President of Operations]

Well, the renewals on average, we are -- we're well above pre-pandemic levels. Depending on the location, Chicago was basically flat. Chicago and D.C. are basically flat. And many of our markets, Florida was up 15%. Atlanta was up 13%. And most, every of our markets are up [ double ] digits, but we are also being cognizant of our exposure and making sure that we keep our occupancies up with our renewals. So we're very careful about that and focused on occupancy, specifically through the winter. Again, those things [ slow ] down, folks don't move out as often in the winter months. And right now, we're pushing we're pushing 96% occupancy and 98% lease. So we're in a very good position.

[Operator]

Your next question comes from John Shi, Private Investor.

[Unknown Attendee]

You reported an impressive fair value gain for the quarter and for the year. In recent months, there have been several acquisitions of U.S. multifamily REITs. And could you share your perspective on how your current IFRS property valuation compares to the valuations implied by these buyouts?

[Christopher A. Newman, Chief Financial Officer]

Yes. Look, we -- overall, our approach to IFRS fair value. We have -- at Morguard, we have every [ appraisal ] prepared internally each year, every quarter. Our appraisals are externally performed on a cycle of 3 years on the U.S. portfolio. So we're well covered when it comes to the fair value [ changes ] from quarter-to-quarter. I don't know, Paul, is there anything to add on with respect to kind of where the market is compared to coinciding with our actual IFRS values and where we stand today? I think was part of John's question.

[Paul Miatello, Senior Vice President]

Yes. I mean I wouldn't add too much else every privatization acquisition of a REIT, it's going to be a different blend of different locations, different geographies. Our our weighted average cap rate on the U.S. assets is [ about ] 4.8%. And that's probably [ blend ] of everything from urban Chicago to Texas to Florida, et cetera. So like [ was ] [ asked ] like it was suggested earlier, I think we are seeing some premium bidding right now based on relative scarcity of product compared to how much money is chasing multi-res products. So I don't know how long that lasts for, but it's certainly peaking right now. So I think we're obviously comfortable with our 4.8% cap rate based on what we're seeing in the market for stable assets.

[Operator]

Your next question comes from Tenzing Lama, Private Investor.

[Unknown Attendee]

I was just wondering, in sort of the rising rate environment that we're all [ expecting ] now, how are you sort of preparing for it? And if you could give us a sense of let's say, you get something like about 150 basis point increase in interest rates by the end of the year. How does that affect your adjusted funds flow in '23, let's say, how much does it go down by?

[Christopher A. Newman, Chief Financial Officer]

Thank you. So we don't have a large amount of maturities upcoming. So in 2022, it's roughly about $66 million of principal maturing. That's in the U.S. at an average rate of about 3.75%. So we -- relative to that interest rates in the U.S. probably are between 2.5% right now. So we don't expect a large impact on any refinancings upcoming. And even in looking ahead 2 years as well, Canada, very small maturity coming up in the U.S. There is a little [ bit ] $120 million, but again, the weighted average interest rate is about [ 3.6% ] there. So the impact from an interest rate change may not be as severe. I think if we're taking on additional proceeds that are up financing the use of those proceeds likely will offset any kind of higher interest on principal amounts.

[Operator]

Your next question comes from Dean Wilkinson of CIBC.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Probably a question for Paul. Have you guys taken a look at what the cost and/or the benefit would be of potentially hedging the FX or the residual cash flow after debt service coming out of the U.S. just to maybe take some of the foreign currency translation off the table? Or would it just cost too much?

[Paul Miatello, Senior Vice President]

Yes. We [ look ] at that regularly team -- and I think -- I know you're a long-time follower all of Morguard companies. So you're probably aware that the hedge book has been closed for some time [ at ] Morguard as a policy. The overall exposure on -- obviously, we've got the U.S. dollar mortgages, which are the natural hedge and the overall exposure on the U.S. equity is not that large. So we've seen things go both ways where you can -- you had to [ lock ] in those rates, but if [ things ] go the other way, you can get burned. So it's been our policy to keep the hedge book closed. And we all know the biases for rates to go up, like we get that. But at the same time, it's very volatile and things are changing. Things are changing very quickly in this new world, right? So -- but we do analyze it regularly. So we'll continue to do that.

[Operator]

[Operator Instructions] Gentlemen, there are no further questions. I will turn the conference back over to you for closing remarks.

[Kuldip Rai Sahi, Chairman & CEO]

Okay. Chris, do you want to add any closing comments?

[Christopher A. Newman, Chief Financial Officer]

No, no. Thank you, everyone. It's been a good year. So we look forward to talking to everyone next quarter.

[Kuldip Rai Sahi, Chairman & CEO]

Thank you.

[Paul Miatello, Senior Vice President]

Thank you.

[Christopher A. Newman, Chief Financial Officer]

Thank you, everyone.

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

Thanks.

[Christopher A. Newman, Chief Financial Officer]

Bye.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We'd like to thank you for participating and ask that you please disconnect your lines.