alstria office REIT AG

XETRA:AOX

Earnings Call Transcript 2019-Q1

[Operator]

Dear ladies and gentlemen, welcome to the Q1 results 2019 telephone conference of alstria office REIT AG. At our customer's request, this conference will be recorded. [Operator Instructions]May I now hand you over to Alexander Dexne, who will lead you through this conference? Please go ahead, sir.

[Alexander Dexne, CFO & Member of Management Board]

Thanks, operator. Good morning, everybody, and welcome to alstria's Q1 earnings call. I'm here this morning with Ralf Dibbern, who is our Head of Investor Relation, and me myself, I'm Alexander Dexne, I'm the CFO of alstria. It shall be my pleasure today to walk you through our Q1 numbers. We're going to take like whatever in the usual format, 50 minutes or so of presentation, and I will obviously going to happy to entertain the discussion with you. Olivier unfortunately is not going to be with us today. He is sick in bed. If he's tuned in, we wish him well and expect him back shortly.Before we dig into the presentation, I would like to draw your attention to our usual forward-looking statement and note duty to update disclaimer. Look, what I thought we do this morning to start with is we did present at our earnings call for the annual result this little set of boxes of more or less strategic options and alternatives depending on where we stand in terms of the overall development and forces to that are working in our market. And I thought this is a good starting point again for the discussion of this quarter [ LICO ] because it largely determines what our -- what is driving our capital allocation decision and to have a basic common understanding of where the market is right now.And we are still pretty much seeing conflicting signals. I mean we all have listened to the latest updates of the overall GDP development in Germany has been, I mean, flat in Q1. So there is basically I mean next to no growth in Germany. And still we are seeing a continuous decoupling of the investment markets, real estate prices -- we're going to come to that as we go through the presentation -- are still going up from what we are seeing, so we are seeing continued yield compression. We are also seeing, which is also kind of not really in sync with the no-growth environment, we are also seeing very, very strong leasing market.And basically and as is the take home from me from this slide, the current economic environment is still very marginal and as far as our industry is concerned, I mean solely driven by the ECB policy that is driving the market and the ECB statements to keep rates lower for longer is clearly the scene that currently is driving the market. And that's also our decision how to manage the company. If we look at the overall conclusions for us, we put this on the right hand side of this slide, I mean as long as alstria is trading at a discount to NAV, that is for us potentially a signal to be a net seller because that would crystallize and does crystallize value.I mean overall our capital allocation strategy is also driven by quality and location. We're going to come to that. The deleveraging process is successfully completed. We have again somewhat reduced the leverage. We're going to look also at that in a minute. And a key focus of value creation of cash flow improvement for us is obviously further vacancy reduction and refurbishment. And this really shows that the scene for the presentation and the more detailed discussion we're going to have.The highlights of the quarter are pretty much summarized on Slide #4. The operating business is ticking on as you would expect, is pretty much -- actually completely in line with the guidance EUR 46.8 million of revenues. FFO came in at EUR 28.6 million for the quarter translating into an FFO per share of EUR 0.16. The leasing markets, I have to say, are actually overwhelmingly strong right now. If you look at the results we're presenting today, 36,000 square meters of new leases. Extended leases 52,300 square meters at something like 2.5x to 3x of the numbers that we were reporting 12 months back.And this is really a reflection obviously of very strong market and also gives you a flavor and an indication of a very, very strong pipeline that we have built up. And that is potentially also going to crystallize as we further go through the year. We are also reporting today like on the transaction side of life, 2 further acquisitions we have done in Berlin for a total consideration of slightly north of EUR 22 million and disposals of 3 assets at a total consideration of EUR 17 million again at the book gain -- at a substantial book gain to the latest appraised values which again is evident that -- I mean there is -- there appears to be no stopping the market right now in terms of where yield compressions are I believe.And we're going to discuss these transactions. I mean they clearly not at the heart and core of the alstria portfolio. We're obviously going to confirm the -- I mean based on the numbers, the guidance which is going to remain at EUR 190 million of revenues and EUR 112 million of FFO.If we move on to the balance sheet, I mean some of the disposals have already run through the accounts. And therefore, investment property is down by some EUR 50 million. We also paid back some debts that we could pay back without any penalty payment, but we're basically using also these debt repayments to -- as a cash box or as a means of treasury managements because holding too much liquidity on the balance sheet is kind of difficult to manage because banks tend to confront you with charges. Equity is up 2.1% which is basically the net profit of the periods.If we look at how this translates into the P&L statement, as compared to the prior year where reporting gross rental income of EUR 46.7 million which is some 3% lower than this year mainly driven actually by the capital recycling process, you have a somewhat strikingly high increase in SG&A. Expenses moving from last year's Q1 EUR 5.6 million to EUR 6.8 million this year, increases as obviously as we are showing here, 20%. But this is solely driven by revaluation impacts of the share-based compensation, which again is obviously driven by the strong share price performance we have seen in Q1 which then leads to this revaluation and accounting effects on a more like cash based. We're pretty much flat in terms of SG&A expenses. Funds from operations are down as compared to prior year by 3.8% and we are reporting, as I said before, EUR 28.6 million of FFO.The deleveraging process as I would look at it is largely completed. We're reporting now a net LTV of 28.5%. If I'm not mistaken, in 2 weeks after our AGM, the dividend is going to go out and then going to bring back the LTV to some 31% which is more like the de-lever. What we feel comfortable at the current stage where we are in cost of debt are on average 1.8% and the net debt to EBITDA multiple we are reporting is 7.8x for the end of the last quarter.If we move on to the operations to the -- I mean where the value creation actually happens, I mean as you would expect there's no substantial changes. On the portfolio, investment property stands at EUR 3.9 billion. Vacancy rate is down to 9.2%, again driven by the lease of -- average lease length stays at 4.9 years and the overall contractual rent that we currently have locked-in stands at EUR 194 million. Valuation yield is at 5% and value per square meter is EUR 2,500.We actually did decide to move from annual valuation to semiannual evaluation, so we're going to have a revaluation of the portfolio in 3 month's time. And we feel in a phase where the market is moving very dynamically, it's probably the right thing to do to create a bit more visibility on where the market stands and hence the decision to move to buy annual here. So as I said in the introduction, I mean this is really where the value creation happens. It's in the leasing and obviously also in the refurbishment and the development project.I'm not going to read through the individual leases here one by one, but what I wanted to share with you is maybe pick as I highlight the Barmer lease 13,500 square meter in Heerdter Lohweg, which is more or less the distant area. And in this of which was obviously the biggest lease we were able to sign. What I think is still interesting to see is that we don't see like the market moving structurally to short-term leases or shorter leases.I mean with all our commercial tenants, we are printing as you can see here 10-year lease contracts, 12-year, 10-year lease contracts. So there is still the willingness of corporate clients to sign long-term leases, which I know we have been discussing a lot in the light and under the influence of co-working appearing and shorter, ever shorter business cycles that there would be a lot of pressure on more flexibility on the landlord side is actually not what we are seeing right now.And maybe the more tense availability of space is one potential driver obviously for enabling us to sign these long-term lease contracts. We're also extending important leases. Obviously, the Hochtief extension here is to be seen in relation to the sale of the Opernplatz office building to Hochtief, which Hochtief is now going to go to refurbish and in the meantime -- I mean they have extended their commitment to our Alfredstrasse building, which was part of the discussions we had with Hochtief. But still gives us nice visibility and a long term or longer term cash flow on that building in essence as well.The second big and important pillar obviously of the value creation and our real estate operations is our development pipeline. And this is basically the also the slide and the project that we have discussed in the annual earnings call. What I like to draw your attention to and what I like to reiterate is at this moment in time, it is very, very hard to find a better opportunity for us than to invest in our own portfolio. With all-in-cost yields that we're realizing here and as we had suggested in the last call of around 6.7%, this is clearly something we don't find in the direct investment market, especially not in the locations we're speaking about with our own portfolio, with our own development and the quality we're building and generating here.As a more a coincidence, but like a nice surprise for us, the Kanzlerstr assets that we have in the development pipeline here, we've been able and then this is just like more or less 24 hours all of this information, we've been able to fully lease this up. So we signed a lease of another 5,000 square meters here, which is now fully occupying this building, and we're going to start basically with the refurbishment of this building.As we speak, to move the new tenant in -- and the numbers we have been able to generate here are actually fully in line and supporting our assumptions on the new space in Kanzlerstr, so we're generating a rent of EUR 15, looking at around EUR 15.50. And from like the rental level, which was more in place rent of around EUR 11, we need to spend something like EUR 600 per square meter to get there, which then gives us a yield on cost here of north of 7%. And this is really what we're speaking about when we speak about capital recycling selling weaker assets, reinvesting the proceeds in the portfolio and generating superior returns.Speaking about capital recycling, we have been selling assets that we believe offer an inferior risk/return profile due to their locations. And we did sell a total of EUR 107.4 million worth of assets, thereby generating a gain on the latest appraised value of around EUR 18 million. And obviously, the flip sides on more cash flow perspective is we're losing on a going-forward base in-place rent of EUR 5.9 million, but then this is like 3 -- less than 3x the appraised booking we are realizing on day 1 here, and this is why we believe we're really building -- by selling these assets, we're building that helps us to build a stronger, a better portfolio with a better risk/return profile with a higher quality overall.We have been as you know selectively able to redeploy some of the capital in the investment market. Notably, we've been able to identify a couple of investment opportunities in Berlin. Here is another 2; we're reporting on one in Maxstr and the other one in Haupstr, and very much focusing on central locations, good connection and accessibility to public transport. Going in yield here is usually somewhere around 3%. The underwriting usually assumes and then we are usually confident that we can realize [ IRS ] in an order of magnitude of 6%, 6.5% with these kind of investments once we realize the reversion potential that is embedded in this assets.Overall, the reinvestment of the funds that we generated when selling Treptowers like 3 years ago, that has now been completed and we have a similar exposure to Berlin than we had at the time albeit with a much more diversified and balanced centrally-located portfolio. And this is really the way we are looking at as a risk and return.With that, I would like to close my more formal presentation and would open the floor to questions and looking forward to the discussions.

[Operator]

[Operator Instructions] The first question is from Mihail Tonchev of Kempen.

[Mihail Tonchev, Analyst]

Just a few questions from me. First one on the Berlin acquisitions, can you maybe share with us the remaining lease term? And perhaps just more generally speaking, over what time period do you think you'll be able to capture the year-over-year which is quite attractive? And then furthermore, do you have any plans to do refurbish the building just as you do in the rest of the portfolio or will you just rely on the strong market and do normal course leasing?

[Alexander Dexne, CFO & Member of Management Board]

I mean the lease terms, remaining lease terms are around 3 years. So there is some time to get used to the building and better understand the building. This is actually quite a common pattern that we encounter when we can be successful is that there is more like a medium-term cash flow on the building, which makes it less attractive to like the local developers which usually like to start immediately and are also short enough or too short this medium-term lease terms for investors that look more for stabilized assets. Usually, for us, it doesn't make sense to lease the assets as is because there's more reversion once you invest. And on these assets typically, we are planning with CapEx of EUR 500 to EUR 800 per square meter to get them up to standard.

[Mihail Tonchev, Analyst]

Okay. That's very clear. So it's the typical alstria formula of refurbishing in relating higher. That's good to see. On the second question is, you refer on your press releases extremely dynamic lease pipeline and you mentioned your successes so far in Q1. Do you see the rest of the year going in that same leasing momentum? And then perhaps can you, if you can, elaborate on any other contracts that you're working on the moment? For example, if there is anything on the more peripheral markets like Darmstadt or is it mostly sort of refurbishment driven?

[Alexander Dexne, CFO & Member of Management Board]

It is clearly not only refurbishment driven. So we are also seeing stronger demands in assets -– for assets outside of the refurbishment pipeline. It -- I'm a bit reluctant to give you like a clear guidance and commitments here. What I'm saying and what we're seeing is that on a number of the larger vacancy assets in the portfolio, there is a pipeline and there is demand. Now if this is going to translate into leases in this quarter or next quarter, I don't know. But what I'm seeing and where I'm kind of very positive that we will be able to report more bigger and substantial leases as we go through the year.We're having discussions in Darmstadt. We're having discussions and interest in Frankfurt, in Zimmerstrasse. We're discussing in [indiscernible] in Dusseldorf. So that's really a number of projects. And, yes, I'll just keep my fingers crossed for our team and for the overall company progress that there is going to be more to report on. And as I said, I'm actually looking at the pipeline. I'm pretty bullish on them.

[Mihail Tonchev, Analyst]

That's great to hear. Just a last one for me. When looking at the leases signed last quarter, the incentives were little bit high on the leases in Dusseldorf. And I'm wondering whether that's just a function of the lease term or of the fact that you really wanted that tenant or is it something to do with the market as well?

[Alexander Dexne, CFO & Member of Management Board]

I think it's too early to call because this is just anecdote –- I mean looking at 1 or 2 leases always just anecdotal evidence and is a question of negotiations. And, yes, you're right, incentives look higher, but then these are also like locations which are not like the most sort after locations, so it has an element of we wanted that tenant and -– but I think they're overall still pretty good and nice leasing results for us. But I don't see -- as now -- as of now, we don't really see a substantial or a structural move that the equilibrium between tenant and landlord is changing and that we have to give more incentive as gain, not what we're seeing.

[Operator]

The next question is from Georg Kanders, Bankhaus Lampe.

[Georg Kanders, Investment Analyst]

From Dusseldorf, I have just 1 question regarding the adjustment on the real estate operation expenses, what you stated were ground tax. I assume this will then be negatively adjusted in the forthcoming quarters for about earnings EUR 300,000 each quarter. Is this correct or is this really a one-off item for properties?

[Alexander Dexne, CFO & Member of Management Board]

This is pretty much summarizing the situation. I mean I really don't want to torture you with the IFRS details here. But it's basically, the land tax according to IFRS has to be recognized fully in the beginning of the year. So we are basically booking all the land tax at the beginning of the year and run those through the P&L. But for FFO purposes, we divide them by 4 and allocate them to the quarter which we believe is actually more from a business perspective the right thing to do. So it is exactly as you say. We're taking out, I think it's something north of EUR 1 million. We're taking out of the FFO in the first quarter and then we put back EUR 300,000 in the next 3 quarters. So it's basically a linearization of the land tax.

[Operator]

The next question is from Bernd Janssen, VictoriaPartners.

[Bernd Janssen, Head of Research]

Just a brief technical question. You have been again I think also correctly focusing on the topic of portfolio optimization and capital allocation. Can you remind us under the REIT structure where you are somewhat limited if I remember correctly to turning 50% of the portfolio in 5 years and 100% in 10 years? And I'm particularly looking at the 50% in 5 years. Can you roughly tell us where you are standing there and what the leeway is in terms of strategy going forward?

[Alexander Dexne, CFO & Member of Management Board]

I mean our portfolio value is at EUR 4 billion right now. If we were to sell -- like if we want to adhere to the 50% kind of guidelines, I mean human finger analysis would yield that we can sell something like EUR 2 billion over 5 years which we're probably not going to sell. I mean what we're looking at selling, if I look at what we have earmarked as noncore in our disposal pipeline is probably something between EUR 100 million and EUR 150 million from where it stands right now.So the REITs as rigid and frightening as it might seem at some stage is clearly not limiting us here, it's -- or guiding us even because this is really driven and our strategy is orientated at by what we think is helping us to build a better portfolio to up the risk/return profile of the portfolio and this would be selling, yes, as I said something like a $100 million to $150 million of peripheral assets and then reallocating those proceeds into the refurbishment pipeline and hopefully also 1 or the other selectively chosen like direct investments. That's really the idea.

[Bernd Janssen, Head of Research]

Okay. So that's the reason I wasn't sure how Prime office acquisition still account into that, and I was under the impression that you were already much closer to the 50% limit. So the key message is there are as far as you're aware of there are currently no limitations with regards to alstria's portfolio.

[Alexander Dexne, CFO & Member of Management Board]

Yes, I'm not saying no limitations, but I'm saying -- I mean in the -- if I look at our growing rate selling $150 million to $200 million over the last couple of years at in an -- on an annual basis, that is not -- I mean we're not being stopped by the REIT law to do this.

[Operator]

There are currently no further questions. [Operator Instructions]

[Alexander Dexne, CFO & Member of Management Board]

Look, if there are no further questions, I think it's for us to say thank you for your time, for your continued support. There will be ample of opportunities to continue the discussion to catch up. We're going to be in London this week. We're going to be in the Netherlands later in May on the roadshow meeting investors being available and we're actually looking forward to continuing our dialogue. Thanks again for attending. Have a nice day and speak to you soon. Bye-bye.

[Operator]

Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect.