Vonovia SE

XETRA:VNA

Earnings Call Transcript 2022-Q1

[Operator]

Dear ladies and gentlemen, welcome to the conference call of Vonovia SE. At our customer's request, this conference will be recorded. [Operator Instructions]

May I now hand you over to Rene, who will lead you through this conference. Please go ahead.

[Rene Hoffmann, executive]

Thank you, Martin, and welcome to our Q1 2022 earnings call. Your hosts today are once again, CEO, Rolf Buch; and CFO, Philip Grosse. I assume you've all had a chance to download today's presentation, and in case you have not, please do find it on our website under latest publications. Rolf and Philip will now lead you through this presentation. And of course, we'll be happy to answer your questions afterwards.

Without further ado, let me hand you over to Rolf.

[Rolf Buch, executive]

Thank you, Rene, and also a warm welcome from my side. So let's start with Page 3 and the highlights of this presentation.

First, Q1 results. I think we had a good start in the year. Adjusted EBITDA is up by 44% or probably more correct, 10%, excluding Deutsche Wohnen. Group FFO was up by 44% or almost 8%, excluding Deutsche Wohnen. Group FFO per share, which is probably the most important figure is up by 12%. EPRA NTA, based on the new definition, is EUR 63.55, 1.2%, and Philip will probably explain you a little bit what happens with integration. LTV 43.7%. So in the COVID, our net debt to EBITDA, 14.5, which will increase to peak level during the year, up to 16 and then we'll have a continuous build in decline thereafter.

Second, we have some positive changes on the guidance. Philip will provide more details later, but essentially, there are 3 items. Rent growth, we are now saying it at least 3.3%. You see that there were some very good mixed figure coming in during the beginning of this year. We will see further mixed period coming in and also probably effect of index rents, so that's why we are not daring to give you a company new guidance, but we are just saying it's at least 3.3%. And then there is -- we have an increased recurring sales volume by 10% and of course, we have reduced our investment program to a magnitude of EUR 1.3 billion to EUR 1.5 billion as we intend to switch most of the '22 development to hold to development to sell.

Let me probably make a remark here. You know that we have countered the development to hold business a part of our investment program. I think development to hold is more similar to an acquisition. And that's why if you apply our acquisition criteria, mainly FFO per share as value per share accretion, development to hold at the moment does not fit with our acquisition criteria anymore. That's why we will go to sell the buildings.

As far as inflation rate and -- inflation and interest rates, I think it is a very important topic for our business. We had to form a clear view on how inflation will impact our business. And you will see in the presentations that we have developed a solid opinion on this. Inflation will find its way into rental growth as Mietspiegel are not fixed by politicians, but a reflection of actual market data.

Index rates are a good way to accelerate the development for at least fully modernized properties. We do not consider affordability to become an issue anytime soon in light with a wide range of salary and wage increases and elevated government support. And on their use, we observed that prices for existing properties have moved alongside new construction prices. With a strong increase in price for new construction, we do not see how that trend should break. And in terms of overall valuation, the only period of slight weakness in the last 50 years was during a time of high vacancy. So this is opposite to what we have to see today.

And fourth, our priority in this new environment with increased cost of capital has changed. We are implementing a number of immediate actions for the year '22. So as announced already, no incremental debt. So Philip is not allowing to take additional debt on the books. That means that we have to have 100% organic funding for the reduced investment program. Majority of development to hold -- that's why we switched to sell. We will speed up the recurring sales volume and, of course, no larger portfolio acquisition, which includes also no acquisition of Adler shares.

In addition, we are working on 3 main pillars to focus for the year '23, putting more emphasis on asset-light business models as we look to offer our services, skills and experience to third parties. We are working on the feasibility study to build joint venture structures in our balance sheet as we look to attract private capital and possibly build a structure that could enable us to arbitrage between public and private debt. And third, we are -- we will review our capital allocation strategy. You know that our portfolio strategy is nearly 10 years old, because it was developed after our IPO, and this probably needs some revision. But it's also clear that we are not in a hurry, because it doesn't make sense to sell immediately portfolios where we know that in the next 12 months, the value will go up and then put the money in cash on the bank account because we have no other needs for this. So that's why it's probably good that we take the time to develop a new capital allocation strategy and then we'll execute this in the year '23 and following.

Let's go on Page 4. Before Philip goes through the financial results and our revised investment program, let's tackle 4 areas where inflation can be relevant and explain what is our view. The 4 elements are inflation is relevant for rent, for P&L effects, for rates and for values.

Rental growth. Market rent growth follows inflation in Germany with a time lag. Index rents can be a good way to accelerate that development and the investment-driven rent growth is de facto inflation protected. P&L. The impact on inflation on our P&L is very manageable. Since about 80% of our rental EBITDA are margin, only the remaining 20% are exposed to inflation. So every 1% rent growth can absorb 5% of inflation, but we have a page on this as well.

Third, interest rate. The best hedge against rising rates is our 8 years average maturity. Increased funding costs have a limited impact on our overall cost of debt. And as you will see later, the average cost of debt is not expected to move very much in the coming years. At the same time, real rates are deep in the negative territory while real estate is widely considered a good proxy of hedge inflation. And asset prices, this is maybe where opinions differ the most. Time of inflation are usually time of asset value appreciation. We also have a few slides to give you some color on this debate, including a pretty stable spread between the values of existing buildings versus new construction, and what is the real driver behind the resi prices, especially for our product.

But let's move on Page 5. Let's begin with the inflation and rent growth and a recap of what Mietspiegel are and what Mietspiegel are not. Since rental contracts in Germany are evergreen without regular renewals of renegotiation of rents, there need to be a mechanism to a low rent growth for sitting tenants. This is what the Mietspiegel was built for and what the Mietspiegel does. And if you look on the ownership structure in Germany's fragmented market, it becomes clear that the Mietspiegel needs to work for everybody. So the question is not will Vonovia be allowed to go with inflation over time.

The relevant question is, how can the majority of the market survive if rent growth develops below inflation for a longer period of time. And the answer for the most market participants cannot survive in this scenario. And that is why the Mietspiegel with its look back period and average effect is important for the whole system. So Mietspiegel are not fixed by lawmakers. They have to be based on scientific methodologies. Representative data that is a true and fair representation of the local rent level and using scientifically recognized methodology that must be properly documented. To be clear, this is not me saying it. This is straight approved from the manual of the Federal Institute for Research on Building, Urban Affairs and Special Development. So this is the government who defines this need.

Mietspiegel defines a benchmark for local comparable rents, and they are calculated on the basis of rent levels that were agreed in the market for comparable apartments during the last 6 years. Look at this way, Mietspiegel are German's social market economy instrument for the residential rental market, averaging out the volatility.

Page 6. As a reminder, we are all used to market rents growing at 1% or 1.25% because this is what we all saw during the last 20 years. But that was because inflation was at this level. If you look at the 1970s, we see much higher rental growth because inflation was running at a higher level as well. So it is not politicians that somehow keeps the rental level down, it's a reflection of the market. That is what the Mietspiegel does, it average out development because of the 6-year look-back period since rents for new construction, for new lettings, for modernization and also for index lease agreements have to take into account higher rents will automatically feed into the future data set and that will be used to determine the rental level for sitting tenants going forward.

And on Page 7, you will see why inflation will be reflected in Mietspiegel only over time. There is an immediate way to increase rent with inflation, and that is by the way of inflation-linked rental contracts. The basis for this is governed in Germany's Civil Code, in this case, Article 557B, just like the Mietspiegel governed by Article 558 and the modernization allowance is regulated by Article 559. If you have an index-linked rental contract, rent cannot -- can be adjusted once a year on the basis of the CPI as determined by the Federal Statistics Office. This can be done on an open end or for a certain period of time.

What is important to know is that rental agreements is an index rent and are not subject to increase via Mietspiegel and the landlord is generally not allowed to use modernization allowance to pass on a percentage of the investment amount. So in the past, with low inflation and vast modernization potential index rents usually for us, did not make any sense, except for new construction, where we use index lease agreements as a standard already today. No surprises that the number of index rent contracts for Vonovia is low with only around 5,000 so far.

But with higher inflation rates and an increasing pool of modernized properties, we can use index rents more frequently wherever they are advantage for us. In broad numbers, we estimate that we have around 140,000 apartments where index rates makes sense once a new tenant moves in. This number is excluding Deutsche Wohnen portfolio, where we still need to analyze for index rent potentials. Especially these apartments where we have made upgrade buildings investments and they are optimized apartment investments have either been made already or will be made when the apartment became vacant.

In the end, we will need to decide case by case to see what makes more sense for us, also bearing in mind that the Mietspiegel potential is high as well. But this is our normal job as asset managers. To help you a little bit with the rough math, assuming a fluctuation rate of 9% on the 140,000 apartments means that we get up to 13,000 apartments annually where we will implement index rents.

Page 8 also gives you a little view on why it is important to decide it case by case. Coming back on the argument that Mietspiegels are based on market data and not based on government decisions, we have been seeing some very encouraging new Mietspiegel so far this year. The chart on the right shows sustainable increase between the previous Mietspiegel and the most recent one. And it's probably fair to say that given the 6 years look-back period, inflation has not really been much of a factor in these increases. It's probably more of the fact that on the long run, Mietspiegel cannot deny market development.

Of course, there is also some level of influence by way of setting the data samples including or excluding premium or discounts for certain features. But the overall market development cannot be ignored for the long term. So over the medium term, Mietspiegel have to reflect what is going on in the market, and with supply and demand imbalance and high level of inflation, it is clear to us that there is higher rental growth to come.

And then, of course, on Page 9, we address the fact that a few market participants are afraid that higher rental growth will not be possible because the tenant has to pay more additional money for energy and other expenses. So the well-known affordability gap. That concern seems to ignore that not only salaries, wage is seeing very meaningful increases, but we are also seeing the government stepping it up their support in multiple ways. They have decided that going forward will be automatically increase the most elements.

So they are avoiding in Germany is the yellow vest phenomenon in France. So we see strong support to make sure that the lower and middle class incomes will not lose purchasing power. So I don't think it needs to go through all examples, but we have included on the pages, but it is obviously that affordability does not seem a problem and an issue in the foreseen future, at least for our clients.

Moving on to the second point of inflation is our P&L. This is Page 10. We are showing an illustrative sensitivity of different inflation assumptions and different rental growth assumption. So this is just illustration. On the first 3 columns, we are using the old guidance, the 3.3% rental growth and not -- no matter what I assume for inflation, whether it is 6%, 8% or 10%, the rental growth always creates a buffer that is higher than the impact of inflation. And the simulation on the left -- on the right side is more or less the same sense, the 3 columns on the right follow the same logic, only with higher rental growth, assuming the medium-term effect that reflected in the prior -- which I explained you in the prior slide. Obviously, the buffer is higher as a result of higher rental growth. So to make it short, a high-margin business is a very good protection against inflation.

Page 11 is all about interest rates. Left-hand chart shows how higher refinancing rates impact the overall average interest rate only marginally, because of the 8 years average maturity profile. For this illustrative view, we have assumed that we refinance the '23 and '24 debt at our current refinancing rate. This does not include any opportunistic disposal which, of course, would limit the impact even further. And on the right-hand side, we have plotted real estate rate as real rate over the last 50 years. Adjusted for inflation, bond yields have never been lower than today. They are deep in the negative territory, while the assets we own are widely considered a good proxy to hedge inflation.

Going down to Page 12. And then finally, the inflation -- the fourth point, inflation and values. I cannot count the times I have heard that higher rates automatically lead to pressure on values, because of higher interest rates means higher discount rates and therefore, values have to go down. It may work like this in the digital lab of an Excel spreadsheet, but not in a market where demand far exceeds supply and real rates continue to be in negative territories.

Over the last 50 years, whether interest rates were high or low, house prices have been going up, except for when there was a high level of vacancy. Following the construction boom after Germany's reunification, we saw a spike in vacancy and that led to slightly decreasing prices. But as vacancy came down, prices started to increase again and the value growth of the last 10 years come on back of very low vacancy levels. So supply and demand is stronger for prices than interest rates or inflation.

Another reason why we believe upward pressure on values will continue is a very similar value development of existing homes compared to new construction and land prices. Of course, new construction has a higher value, but the gap between existing and new homes has been very stable over the last 50 years. And this is actually not a surprise. This new construction price is growing at more than 10%. Do we really believe that values for existing homes will stay at the current level and not move up? We don't.

Coming -- going to Page 14. The page compares Vonovia and the market in 2 counts. The chart on the left is Vonovia's fair value per square meter compared to the average fair value of condos in the same market as well as new constructions in that market. The chart on the right side is the same exercise, only for rent levels, so Vonovia's in-place rent versus asking rent for existing properties and new constructions. The bottom line is the same for both -- is the same for the both view. There is a substantial gap between our numbers and where the market is. Don't take me wrong. I'm not arguing that our fair values in Stuttgart are going to be above EUR 8,000 anytime soon or that our average rent level in Berlin will be EUR 16 in the near future.

But with these huge gaps between Vonovia and the market, with inflation usually leading to property appreciation and this new construction becoming a lot more expensive during inflation, we accept Vonovia's value to continue to appreciate, as there is no reason why the pricing gap of condos and new construction should widen in the supply-constrained market. So you see we have developed and we have a very clear view about what inflation will do to our business. Inflation, I consider as the best friend of resi.

And with this, I hand over to Philip.

[Philip Grosse, executive]

Thank you, Rolf, and also a very warm welcome from my side. Let's move to Page 15, please. As you can see on the slide, we have seen high absolute growth numbers for our segment revenue, EBITDA and group FFO, which, of course, is largely driven by the inclusion of Deutsche Wohnen, which, of course, was not included in Q1 last year. The same actually goes for interest expenses. They are higher because of the higher absolute debt volume as a result of the acquisition of Deutsche Wohnen. But if you look at Vonovia on a stand-alone basis, excluding Deutsche Wohnen, you also have seen very healthy growth rates. Total segment revenue up 18%, adjusted EBITDA up 10%, group FFO up 8%.

Moving to Page 16, to take a somewhat closer look on the different segments, and I will start with the Rental segment on Page 16, as I said. As a reminder here, our 4 individual segments are Vonovia stand-alone only, excluding Deutsche Wohnen, and that is until we have completed the financial integration of Deutsche Wohnen. So most likely starting as of next year, that will change. But during this time, you will see Deutsche Wohnen as an additional segment for the time being.

Vonovia standalone operated on a slightly smaller portfolio volume of roughly 5,000 units in Q1 2022, compared to the prior year quarter. And on that basis, we saw organic improvements on rental growth and vacancy reduction, which were only partially offset by slightly higher maintenance and operating expenses. Looking at our EBITDA margin that expanded to more than 80%.

Page 17 on our operating KPIs. Organic rent growth was 3.9%, and that is including the one-off from reversing the Berlin rent freeze law in April last year. Excluding for that, we are at 3.3%. Vacancy rate was down 40 basis points, reflecting the unbroken demand we see for all properties. Also, rent receivables remain at very low level, even slightly below what we saw before COVID-19. Maintenance, as I said before, slightly up on a per square meter basis compared to last year.

Yes, on Page 18, a brief update on carbon dioxide tax. The government will start the burden sharing from 2023 onwards. The cost allocation will be based on the building's energy consumption. As a reminder, the CO2 tax is dynamic. It was -- or is starting at EUR 25 this year, going up to EUR 55 to EUR 65 by 2026. You can see the distribution between tenants and landlords on the left-hand side. The more energy-efficient the building, the lower the share to be paid by the landlord. And that outcome actually is much better than what we have originally planned for, which was a 50-50 split.

And while there are still some details to be determined, our analysis is that Vonovia will start with a share of roughly 35% on average. But obviously, as we continue with our investment program that will do something with the energy efficiency of a building, and our share of the cost we will assume will decline over time. Our estimate for the next 4 years is that the CO2 tax will cost us roughly EUR 40 million in aggregate until and including 2026, and this number already includes the portfolio of Deutsche Wohnen.

On Page 19, the Value-add business. Here in Q1, we saw continued growth, both in external and internal revenue. Part of that growth is due to the phasing, as we have made price adjustments for our energy distribution. I would expect that this kind of one-off effect will level out throughout the remainder of the year. The main challenge here really remains, we have a material shortage of labor. That means we cannot do the amount of work with internal resources that we have originally planned, and we need to rely more on subcontractors, which are more expensive than in-sourcing, and that is somewhat biting into our margin. For Q1 this year, that meant our external growth was almost fully absorbed by higher costs in this challenging environment.

Moving to Page 20 on recurring sales. Our volume this quarter was a bit lower than the prior year, but that had to do more with Q1 last year really being an exceptional year. But while volume was a bit lower, the fair value step-up was quite a bit higher, it's 47%, for an EBITDA contribution of EUR 41 million. What is equally important is the EBITDA contribution is cash conversion. So cash proceeds after cost and after taxes, because these are the funds that we are able to reinvest in our investment program for our standing portfolio. And for Q1, the conversion rate, as in previous years, was around 90%, translating into EUR 126 million of free cash flow.

Our Development segment, on Page 21, contributed almost EUR 62 million of EBITDA, substantially more than in the prior year that was partly driven by a larger to-sell project that we have completed in the beginning of this year. But not only were the volumes bigger in to-hold and to-sell, we also saw higher margins on both channels in between 20% to 30%. As I will explain later, there are -- or we are currently reviewing our volumes to-hold versus to-sell. For 2022, we intend to move the majority of to-hold developments into to-sell. And beyond that, we will review the allocation in context of our overall capital allocation strategy.

Page 22, yes, this really on the total number of completions in Q1, 777 units, of which 266 were to-hold, the remainder to-sell. We are no longer breaking down the overall long-term pipeline between to-hold, to-sell, as this allocation is currently being reviewed. But as I said, only a small part of this pipeline is for to-hold, and we have here all flexibility to shift from to-hold into the to-sell segment. That is not a problem at all.

Yes, let's move to Page 23. That is on EPRA NTA. I think our definition change has been well flagged, so hopefully, no surprise. By looking at the numbers, in line with the general market practice. As a reminder, we are no longer adding back the transaction cost and we are adding back the full deferred taxes for our to-hold portfolio. If you want to better understand the changes, we have also included the NTA as of the year-end 2021 based on the old definition. So you can see where the differences come from.

Be it what it may, as a result of that, NTA is up 1.2% on this new definition. This is really driven largely by the impairment of the remaining real estate-related goodwill. So we are done on that front. The remaining goodwill we have is less sensitive to our cost of capital. Please also note that we had to do a technical and really only a technical Q1 valuation, because the expected value change was above the threshold defined by our auditors, and that prompted that technical valuation update. This is simply a function of almost EUR 100 billion of real estate values we are accounting for in our balance sheet.

And this update, and that is important, does not include any yield compression. While positive market dynamics clearly continue, as Rolf said, 1 quarter is simply too short to observe the sufficient amount of data for measuring yield compression and the development of discount and capitalization rates across the different locations. And as a consequence of that, we have limited our Q1 valuation to a model update of the relevant portfolio data. This led to a valuation result of roughly EUR 405 million, essentially accounting for the additional rent we have collected in Q1, and that's being capitalized at the current capitalization rates.

The next valuation will be as usual with H1 2022. And similar to the practice in previous years, we will be analyzing the 20 largest locations in Germany plus Sweden plus Vienna, and this valuation will then also include the positive impact from yield compression. And my expectation, as I said, is that we will continue to see yield compression in H1, but preempting a potential question in the Q&a, we will not be giving any quantitative guidance on that.

Moving to Page 24 on our debt structure. I don't think I need to go through our maturity profile in detail, as you will be familiar with it. And Rolf already mentioned that there is very limited impact that rising rates have in the near term. So let me reiterate the main parameters that I think are relevant. The robustness of our capital structure in combination with the funding mix, LTV, net-debt-to-EBITDA, fixed hedged debt ratio, and the overall long-term maturity profile. And with 2022 refinancing largely addressed and very limited impact for 2023, we are confident that our capital structure remains very sound.

On Page 25, for LTV and net-debt-to-EBITDA, LTV was just shy of 44%. So very much in line with what we have reported for year-end pro forma for the asset disposals in Berlin, which meanwhile have occurred. Net-debt-to-EBITDA, which is for me really the leading debt KPI in today's environment, was at 14.5x. To remove the distortion from comparing the spot number net debt with the cumulative number EBITDA, we have calculated that number as the average debt over the last 5 quarters in relation to the EBITDA of the last 12 months. What that means is that if we look at it on a continued basis, our net-debt-to-EBITDA is going to be at around 16x as we increase our EBITDA, but also include more quarters of higher debt volumes.

As Rolf mentioned earlier, our working assumption is that we will not issue any incremental debt in the current environment. So if you keep the net debt position stable, the net-debt-to-EBITDA reduction is a function of increasing EBITDA. And we did a simple sensitivity analysis on this slide, assuming a 4%, 8%, 12% growth for 2023 on the EBITDA, and the reduction we see in that given multiple is fairly pronounced in between 0.6 to 1.6x in 2023 alone. And if you factor in that we have been guiding for slightly above EUR 100 million of synergies, that alone is accounting for a reduction of 0.5x.

Moving to Page 26. As a reminder, what our investment program includes. To be clear, these are not mandatory investments that we need to make. I would argue that the upgrade building investments are probably quasi mandatory as we want to be CO2 neutral by 2045, but the rest really is discretionary growth investments that we can choose to do or not to do. So in times of higher cost of capital, as we currently experience -- as we currently do experience, we are taking a very close look at these investments to decide what we want to do and what we don't want to do.

And among the 3 main buckets, optimize apartments, upgrade building and new construction, the story for 2022 is actually fairly straightforward. We are reducing our previous guidance of in between EUR 2.1 billion to EUR 2.5 billion to between EUR 1.3 billion to EUR 1.5 billion, and this reduction comes exclusively from our intention to switch the majority of development to-hold into the development to-sell. And the remaining investments into space creation will be largely driven by new square meters that we build through floor additions and new buildings on land and in between buildings we already own. But part of that is also for the development to-hold in Austria on a smaller scale as this provides the long-term pipeline for our very attractive privatization business in that region.

The investments into optimize apartments and upgrade building remain unchanged, because in terms of numbers, it continues to work even in days of higher cost of capital, which in today's world are more in the region of 4.5% for Vonovia.

On Page 27, we show a new level of detail regarding the net initial yields and the IRRs of our different investment strategies. If you look at the table on the bottom, we have 3 different basic investment scenarios. First, we do either upgrade building or optimize apartment only. And here, you can see the net initial yields in the past have ranged in between 5% to 8%. The IRR has been between 7% to 11%. So very attractive. And as you can see by the numbers, scoring well with our increased cost of capital.

Second, we do upgrade building in combination with optimize apartments and have modernized apartments in modernized buildings. Past initial yields and IRRs were, of course, similar to the first scenario, but we can do index rents for these modernized apartments and put them on a faster rent growth trajectory. We've also included 2 scenarios: One, with 3% and one with 6% inflation. And of course, the IRRs in these scenarios are considerably higher than in the first case, because the rent is growing with inflation right away. Reality on the ground is a bit more granular, but I think the table shows the overall potential for our portfolio, as we increase the share of modernized buildings with modernized apartments and put them on an index rent.

And finally, on the third investment scenario, new construction. The net initial yield is quite a bit lower even including the development profits of roughly 20%, 25%. So from a net initial yield point of view, they are challenging with our current cost of capital. But still, IRRs are very attractive, though. And since we do index rents for new constructions, the IRR in higher inflation environment are even more attractive. But in the context of overall capital allocation, we intend to shift much of the development volume from to-hold to the to-sell and limit new construction largely to space creation on land and in buildings that we already own.

Moving to Page 28, on -- some illustration on organic funding. Increased cost of capital means that we need to review our funding sources and how we allocate our capital. And the overall premise is that, as I said before, our debt does not increase. In this environment, we want to fund portfolio investments through the Group FFO after cash dividends plus the free cash from recurring sales. Space creation investments are to be funded through capital recycling.

And with that, I hand over to Rolf for a quick word on Adler.

[Rolf Buch, executive]

Thank you, Philip. So we are dedicating Page 29 with the attempt to reduce the question on Adler in the Q&A session. I don't know if we will be successful. Because, of course, Adler is grabbing a lot of headlines, while the implication of Vonovia are very limited. You all know why we became involved. There was an opportunity and we seized this to secure opportunality for our shareholders. We have since learned that most of you value [ no risk higher ] than attractive potential opportunities. That is why our -- that our opportunistic involvement has led to the ownership of 20.5% in Adler, has become nothing more than a financial investment. So we are not buyers of Adler shares.

Our decisions from the beginning were based on our conviction that starting with the yielding portfolio and then accounting for the different risk, there was much more value in Adler than the equity market believed. The KPMG report and the recent market reaction do not change that view. In fact, the acquisition related to signs in the past. We expect the new Chairman to clearly show that Adler has broken with the past, and it's on its way to become an investable company again.

At this point, we have no reason to believe that he will not be able to do just that. I'm actually personally convinced that Stefan will do exactly what is needed. The recent news, though, on Board changes and the messaging of recent earnings calls seem to confirm that view. We will monitor the further development, but see no need to take any decision in a hurry given the small size that this stake has in the context of overall balance sheet.

With this, back to Philip.

[Philip Grosse, executive]

Yes, very quick to summarize on guidance. I mean first, we confirm guidance on revenue, adjusted EBITDA and group FFO where we have seen some updates. It's first on organic rent growth, where we've gone from around 3.3% to at least 3.3% that has a certain degree of conservatism in it as we cannot reliably estimate how quickly rent growth picks up in each figure across the country. The positive examples Rolf has shown you year-to-date are encouraging, but the only effect of a relatively small share of our portfolio.

The second update to our guidance is on recurring sales, and that's really with a view to support the organic funding, which we have increased by 10%. Here, too, we want to be somewhat cautious initially, because we want to make sure that we do not increase the volume too fast and jeopardize the margins. But going forward, I think there is room to even further uplift that number in the years to come.

And finally, maybe most importantly, that is on the investment program, where as I said, we are reducing debt to EUR 1.3 billion to EUR 1.5 billion, portfolio investments in the standing portfolio, but in between EUR 1 billion to EUR 1.1 billion are unchanged, but the investments into space creation, new construction to-hold are significantly reduced to EUR 0.3 billion to EUR 0.4 billion, as we have the switch from develop to-hold into develop to-sell.

With that, back to Rolf.

[Rolf Buch, executive]

Thank you, Philip. So before we get to the Q&A, let's say a few words on our priorities that we have in the new environment of increased cost of capital. Let me start by saying that the fundamentals of our business and our business model have not changed. We are taking our decision based on megatrends, urbanization, climate change and demographic change. Our portfolio is located in urban growth areas, for which we see only long-term positive fundamentals.

ESG is firmly anchored in our business model and we are the innovator of CO2 reduction in our industry. We have built the best-in-class operating platform and are the market leader in asset and property management with superior scale and efficiency, and everybody who wants to own resi buildings in Germany, Sweden or Austria needs a platform like this. So our immediate and near-term action take place from a position of strength, and a healthy business model.

In light of the increase of corporate capital that we are facing from higher equity and debt funding costs, we have to take immediate actions to make sure that this healthy business model is completely independent from funding from the capital market. So no more incremental debt, only organic funding of the reduced investment program. Substantial reduction of the development to-hold volume as we look to switch most of this volume into development to-sell, and you have seen the figures from Philip. The IRRs, what we have in the development to-hold, are very attractive for a lot of market players. So it is not an issue at all to sell double-digit IRRs.

Increasing recurring sales volume to fund the investment program. Reduced capitalized maintenance following years of generous CapEx, significant above market standards, and of course, no larger portfolio acquisition, which includes Adler. At the same time, we have near-term actions with basically breakdown in 3 categories. Building up asset-light business models where we offer our services, skill and experience to third party. This is actually what [indiscernible] is doing in her new role. Second, as I said in the beginning, we are reviewing our capital allocation strategy. And third, we are analyzing the possibility of setting up joint venture partnerships with institutional investors.

We observed a very strong demand for our product, and we want to build a structure where we can arbitrage between the listed and the nonlisted equity. We will take the time to need to address all the relevant points, including the legal structure, the right portfolio structure, tax structures, a lot of other things. At the end of the day, what we want to achieve is a structure similar to the debt side where we can know whether it makes more sense for us given -- at a given time through private or public.

So Page 32 is the summary. Our operating business, including the integration of Deutsche Wohnen is fully on track, and the environment in our residential market remains highly favorable. Not only supply-demand, but also inflation will continue to support asset valuation, and the comparison with the market shows a big gap as our properties are valued conservatively by comparison. At the same time, inflation also drives rental growth with a time delay. There are many cases where we will be able to speed up the scores through index trends as explained, but over the time of higher rent growth -- at the time of higher rent growth will impact all our properties over time.

And third, the cost of capital has increased sustainable in a short amount of time that leads to review our funding sources and capital allocation. As I said, we have to make our business model completely independent on funding by debt or equity. This includes immediate action, as I laid out, and also potential near-term actions that we are currently been working on.

And with this, back to Rene.

[Rene Hoffmann, executive]

Thank you very much, Rolf and Philip, and I will hand it back to Martin as the operator to kindly open the Q&A for us.

[Operator]

[Operator Instructions] We have the first question. It's from Charles Boissier of UBS.

[Charles Boissier, analyst]

Four questions from my side. The first 1 is on capital allocation. You mentioned the use of proceeds from JV partnerships could include share buyback and/or investment program. You also mentioned no incremental debt. So to clarify, right now, you're not at the stage to consider reducing debt. And still, if I may, on capital allocation...

[Rolf Buch, executive]

Can we go question by question? Can we go question by question?

[Charles Boissier, analyst]

Yes. Sure, sure. Sure, of course. Of course.

[Philip Grosse, executive]

Yes. On that point, Charles, the simple answer is yes. We are calibrating our business in a way that we can source all investment requirements by what is remaining from Group FFO post dividend plus recurring sales. So for the time being, no reduction in debt. If we move along with the JV structure, if we move along to free up equity, we will discuss at the appropriate point in time what to do with the proceeds. But one point is clear to the extent we lose EBITDA, we also will proportionately reduce debt.

[Rolf Buch, executive]

Charles, only one add to this. We have a very clear view that during the year '22, values will go up, not to use the word significant. So it does not make sense for us to sell assets now on a hurry and put the money on the bank account. We are fully refinanced for the year '22. We might also expect disposal of the healthcare assets. So that's why we have to make sure that we do not have too much cash on the bank account. So also in this context, it is not our position to be in a hurry and to reduce portfolios, and then have too much cash on the balance sheet.

[Charles Boissier, analyst]

Sure. And the second bullet point, review of capital allocation strategy. Is that the separate point from JV partnerships? And what exactly does it refer to?

[Rolf Buch, executive]

So In the IPO and since the IPO, we had a portfolio strategy dividing saying there's buildings where we can do upgrade buildings, optimize apartments, and then we had the famous noncore, which were actually buildings which we said, okay, we are not the best owner. I think the capital allocation strategy is actually answering a little bit the same. We have today in our portfolio assets where we are not the best owner, because our cost of equity is more expensive than others. And in the same context, we have assets in our portfolio where we are probably the best operator, but not the best owner.

So this leads to this JV structure. But there might be also assets which are just better to be sold. And we have to define also what we are going to do with the money which we are realizing by selling the assets, which means there might be a share buyback. But this is in competition to speed up our investment program on existing assets. So I think this is what we have to redefine and then we are coming actually probably for '23 with a new version. And a part of it to free cash is the JV structure, but this is not the only one.

[Charles Boissier, analyst]

Similarly, on prices, obviously, you sound very confident. So I will not challenge you. You mentioned a few times prices going up even maybe significantly in 2022. Just on the transition to index rents, where you provided more disclosure today. Would that lead a change in values assumption as well for your portfolio just because the indexation isn't completely different than in the past?

[Rolf Buch, executive]

So this depends on the assumption of inflation. So if you assume an inflation of 5%, of course, you are right. But this depends on the assumption of inflation. But to be also very clear and to make it, again, a clear point, it is not always the best for every property to change to index rent. If you have a Mietspiegel increase -- a foreseeable Mietspiegel increase of 11%, it is probably better to write the Mietspiegel and later to switch. Or if you have modernization potential, as Philip described, you are riding the modernization, which gives you an 8% yield. And then after the full modernization is finished, to switch to index rents. The only case where it is simple is if we have a new construction, which are higher than the Mietspiegel, there you immediately start with index rents.

So it's a component which was not relevant in the past because it was always less advantageous to go to index rents if you're assuming an inflation environment of 1% or 1.5% because every Mietspiegel will beat the 1% to 1.5% inflation. But in the moment, if you are coming in an inflation environment of 5%, the world is changing. And this is what we have to figure out asset by asset. But you know us, we will find a technical way to do it industrialized and not by human beings.

[Charles Boissier, analyst]

Okay. Third, on your investment programs, as you are cutting portfolio investments to EUR 1 billion and shifting from hold to sell, I would deduce your portfolio will contain a fewer new builds. So does that mean the CO2 reduction target you guided just at yearend for the next 3 years, the 31.6 kilogram, is that still sustainable? And if so, would that mean that basically your current plan is still that you would catch up with investments again post 2022?

[Rolf Buch, executive]

No. To be very clear, this has no meaningful impact. If you are selling on a EUR 100 billion portfolio, EUR 900 million, this has nothing -- no impact on the CO2 emission. The majority of the CO2 emission is done by the investment program and upgrade building, which we will not touch. So the decision to do less new construction on our balance sheet does not impact at all our CO2 targets.

[Charles Boissier, analyst]

Okay. Okay, clear. And then lastly, my first question on the elections. So not the federal one, which, of course, have passed, but I was wondering if you have any views on the debate on the housing in your largest region, North Rhine-Westphalia, where the regional election is taking place in 2 weeks, I think. And because I think traditionally, North Rhine-Westphalia was always quite a moderate region in terms of regulation.

[Rolf Buch, executive]

Yes. But I think we -- to be very clear, we have a good relation to both parties, which will be there, so I don't care. But to be also very clear, in the moment, we have a perfect storm here in Germany. The reduction of the new construction will go dramatically down. We are not the only 1 who is shifting. There are still a lot of people who will buy it, but the people who are able to construct, material is missing, labor is missing. So the 400,000 new construction, don't quote me, but the government can forget it.

And in the same time, we see refugees and the refugees need apartment because this is women with children, so you cannot put them in a refugee home. So any government in Germany or in North Rhine-Westphalia, they have to do something. Otherwise, we are running in a big crisis, which is good for us. Because this will push values. So I see a complete alignment with all parties at the moment. The conflict between government and resi industry is done.

[Operator]

The next question is by Marc Mozzi, Bank of America.

[Marc Louis Mozzi, analyst]

Following up on what Charles just mentioned on just capital allocation. Can I have your thoughts about why, number one, you're only considering just JVs for the disposal of your portfolio? What are the underlying reasons? And then why not selling 100% as you've been targeting at the time of the IPO of Deutsche Wohnen for the remaining 30,000 units, which we've never heard about anymore. So number one, why JV is not 100% disposals? Is there any tax consequences here we should take into account? And number two, why...

[Rolf Buch, executive]

Can we go question by question? Or is it -- because then we...

[Marc Louis Mozzi, analyst]

It's a related one. It's -- the idea is, why not selling assets 100% to pay down debt? Because if I look at your marginal cost of debt right now for the next 10 years, it's 3.3% on the bond market, i.e., it's cheaper to pay down debt for -- to prevent refinancing, EUR 3 billion to EUR 4 billion every year than to keep cash on your balance sheet, as you said, and even considering share buyback, which actually makes no sense to me, better to pay down debt at this price. Just having your thought on that? And that's the first question.

[Rolf Buch, executive]

So first of all, I think I have not refused on the concept of selling just assets. The JV is, for me, a more intelligent way to sell assets, because then we keep a margin for the asset and property management. But we are not excluding the straight sale of assets. And I completely agree if our marginal cost of debt, if we have to renew debt, this probably might be an option to sell properties and to not refinance. But the condition is that you need to have a refinancing event. And for '22, we nearly have no refinancing event.

And as I mentioned, in '23 there might be some disposals coming from healthcare business, for example. So I don't know how many refinancing events we will see in '23. That's why we are doing the asset allocation strategy where we define which part of our portfolio is first to be sold. And then if we have a need for cash, of course, the selling is competing with renewing debt. But at this time, on to the moment.

[Philip Grosse, executive]

Marc, let me add. 100% disposal is triggering real estate transfer tax and an asset deal is triggering deferred taxes. So there is a lot of tax leakage and the JV structure is the far smarter thing to do. And just on one hint to refinancing costs. Here, we are currently in a situation that the secured banking market is far more attractive than the unsecured bond market. As in the banking market, we continue to talk about spreads in between 80 to 90 basis points for a 10-year tenor. So your 3.3% cost of debt are slightly overstated, more in the region of 2.5%, 2.6%.

[Marc Louis Mozzi, analyst]

Yes. Well, looking at Bloomberg, this is the price, but I'm not...

[Rolf Buch, executive]

But Marc, again, and I think you have seen in our answers that is -- it has to be structured properly, because -- for example, if you have a new build, which we just put in our balance sheet, which is probably in 1 legal entity, in this case, you don't have real estate transfer tax if you sell the legal entity. And of course, you have not deferred taxes, because it's just recently in our balance sheet. So that's why we have to sort the portfolio under this new parameter. That's why I'm happy that we have some time, because refinancing is not the question of the next 12 months. So we will use this time to sort the portfolio to find which packets can be sold without JV, which packets is better to be sold with JV and which should not be sold, and then we will see. And then we will see where the market is going.

[Marc Louis Mozzi, analyst]

But still, it's interesting that in June 2021, when you launched a bid on Deutsche Wohnen, you were mentioning up to 45,000 units for to-sell and now we are kind of restarting from scratch to reconsider disposal.

[Rolf Buch, executive]

To be very clear, we have announced 45,000. We sold 15,000 and we would -- as you know, we'll know here we have a clear vision on the healthcare portfolio. So more or less the magnitude of selling is done, right? If you add these 2 together, it's equal on the announcement which we have done in the presentation, more or less.

[Marc Louis Mozzi, analyst]

Yes. [indiscernible] to me, that's fine. Can I have a view on what has been the EUR 1.1 billion of depreciation and amortization you had in Q1, which actually you're having a loss in Q1. What is this?

[Philip Grosse, executive]

Yes, this is the brief notion I've given on the slide on EPRA NTA. We have been able to impair the remaining real estate-related goodwill. And that is simply a function that the risk-free rate in the model increased. So our cost of capital increased. And given that the headroom is very sensitive to changes in the WACC, we had an impairment with that. We are actually done, because if I look at the remaining goodwill, which is assigned towards the value-add business predominantly and partly the development business here, there is far less sensitivity on weighted average cost of capital. I think only if we see increases in between 200 to 300 basis points, it starts to kick in.

So for me, a good thing because I think you know my view, real estate-related goodwill, I don't want to see in the balance sheet for good reason. The definition on EPRA NTA has changed versus previous EPRA NAV to account for that fact.

[Marc Louis Mozzi, analyst]

Okay. And another question on your cash generation or cash outflow. If I move from development to hold to development to sell, anyway in development to sell, I still have a working capital -- a change in working capital consumption here. So you're going to still have the need for cash until you're going to be able to sell those assets? Or can you be in a position to presell those assets in block and then just -- and to use that funding to build those assets?

[Philip Grosse, executive]

Yes. Look, Marc, in principle, you can do that, you can do forward sales and you basically fund development of that. That usually comes at a price point. Now if I look at the investment volume we have targeted for this year by shifting development to hold into the development to sell segment, it's EUR 1.5 billion. That is fully funded. So there is no need to compromise on the margin. And obviously, we only undertake developments if we have a clear perspective on attractive yields and gross margins we can achieve. If that for whatever reason will not be the case any longer, we simply stop it.

[Rolf Buch, executive]

But Marc, to be very clear, today, we are talking about development to sell. We are normally talking about condo sales of the development. Of course, the switch to-hold to-sell includes in the future, we will do development in block sales. Because these are blocks which were built to be actually operated by Vonovia as a rental building. But you have seen in the slide, what I learned is there's investors out there, which are happy with an IRR of 5%, 6%, 7%. We deliver with our buildings IRR on -- double-digit IRRs, as you can see in the same slide. So we see no issue to get people ready to buy this.

[Marc Louis Mozzi, analyst]

Fair enough. And my final question is, how does this reallocation of capital to build for sale from development impact your expectation for midterm rental growth? Because part of your rental growth expected in the future was based on this development to hold.

[Philip Grosse, executive]

Yes, fair question. It's not a topic for 2022, because the investment-driven rental growth from new construction is basically the full year effect of developments we have taken on our balance sheet last year or beginning of this year. I think mathematically, it's some 10 basis points of rental growth, which it will cost us, but you've seen our guidance, which we have actually slightly increased in the wording. So we will compensate for that. But for 2023, if we were to continue, a part of the rental growth is basically sacrificed for the advantage of monetizing on attractive gross margins.

[Rolf Buch, executive]

And Marc, as you have seen and I have spent a lot of pages, our view is that rental growth and our existing portfolio will go up by index rent, but also by the normal mix figure. So this will be most probably overcompensated without giving you a guidance for '23.

[Operator]

The next question is by Andres Toome of Green Street.

[Andres Toome, analyst]

I had a question about the Mietspiegel prints you provided on Slide 8. I'm just wondering because you do have a fairly long list of conditions in the footnote in terms of how much you can actually push through for rent increases. I'm just wondering how much you think out of those prints you can actually push through to tenants? And also a question around [ capping screens ], which I think was recently reduced, but you do still have that as 50% listed there.

[Rolf Buch, executive]

No, it's -- first point is not on use. It's still in the planning. And at the moment, in the high inflation environment, we have to come -- to get rid of all these caps, which are fixed, right? So also the [ EUR 2 and EUR 3 ] cap for modernization in a high inflation environment, this is not realistic anymore. And this is the same as a percentage cap, because if you have an inflation of 7% and 8% and this compares to what I have said, you cannot have a cap of 12. So this is not a law, and I don't think that it will become a law.

The second -- the first question, of course, is very detailed. It depends on building to building and then city by city. So I cannot -- I just don't have the data on this, because it will be a long list.

[Andres Toome, analyst]

Fair enough. But in terms of just thinking through kind of the run rate, organic growth just stemming from the market or the Mietspiegel kind of component, which has been now running at somewhere around low 1% per annum for the last couple of years, where do you see that going when you also think about the presentation you made about Mietspiegel going higher in your view?

[Rolf Buch, executive]

So if you look -- I cannot give you the figure, which is probably -- that's why we are not giving a new guidance for the rental growth. But if you look on this page, you are seeing that because the Mietspiegel actually comes out -- or this Mietspiegel came out every 2 years. So you are seeing that more or less the old Mietspiegel refer to this 1% to 1.5%, right? So because you have to divide it by 2. While the new ones are significantly higher. So with all the caveat, and I cannot really say, but you have a feeling how much speed up in the organic rental growth is happening in these cities.

These cities, of course, only reflect a short -- a small portion of our portfolio. The big new Mietspiegel are coming next year for Dortmund, Kiel, Berlin. These are the big new Mietspiegel for our big portfolios, which will come out next year. And we are not unhappy that they are coming out next year, because then we have seen 1 year of inflation already.

[Andres Toome, analyst]

Understood, yes. And can you remind what's the situation in Berlin so far. You've made some promises to be quite tempered with rent increases. How much of that Mietspiegel can you actually push through?

[Rolf Buch, executive]

I mean this is just a question of time, right? We said that we limit the rental growth for the next 2 years on 1% in average. But if the Mietspiegel came in, then it's probably just we are not increasing rent in '23, but in '24. So the rent increase is not forgiven. It's just coming in later. For the long-term perspective, so that caveat comes to values or the long-term cash flow profile, this agreement, which we made doesn't impact our business at all.

[Andres Toome, analyst]

Understood. And maybe just also the data you presented on Slide 6 about kind of the higher inflation period in the 70s. You do have their rents running quite a lot ahead of inflation actually. I was just wondering, can you give any sort of indication about what was the market environment back then as it kind of relates to regulation, what were rents less regulated at the time, just allowing more rent [ growth to pursue ].

[Rolf Buch, executive]

It was -- at this time, it was even more. It was nonprofit companies providing this rent. The whole sector was nonprofit regime. The legislation has not massive. So of course, it has changed, but the system of Mietspiegel was the same. This was partly also social rent regulated by a different system. But in the end, it was -- it is not that this slide is completely different from the regime that we are seeing today.

[Andres Toome, analyst]

Okay. And my final question relates to recurring sales. You've increased the guidance a little bit there. I'm just wondering, you do kind of highlight that there is quite a big stock of units that's already kind of gone through the legal process, I guess as it pertains to just being able to sell those single units. Just wondering, is there any restriction from your end not to sell more units per annum and maybe to increase it even further?

[Rolf Buch, executive]

So to be very clear, there is some technical restrictions, because there's just a lot of work to be done. So we have to hire more people, which is theoretically possible. So we can do, but this takes a little bit some time to get people at the moment in Germany. It's difficult because with labor shortage all over the place. But this is, of course, theoretically right. Our thinking is more we are defining actually our upgrade building and optimize apartment programs. We know how much cash we need to finance these 2, and this defines actually the speed of the disposal.

[Operator]

The next question is by Sander Bunck of Barclays.

[Sander Bunck, analyst]

I have 2 questions. I'll go one by one. The first one, I was just trying to get a bit of a better understanding how the valuation process currently works? Because obviously, you provide some very compelling arguments for why you believe that values will continue to go up and probably for the very foreseeable future. But on the other hand, you yourself citing an increased cost of capital and basically switching off from development or acquiring for yourself, basically indicating that, to some extent, the market is a bit too expensive for your liking. And I'm sure if that's -- this is for you, then that may be the case for others as well.

So I'm just trying to kind of understand how the valuers look at both the arguments in both case. And related to that, does it basically mean that -- like how relevant is the move in the general [ tenure ] or credit spreads as a result? That would be the first one.

[Rolf Buch, executive]

To be very clear, if you are coming to a long-term investor, which we partly have in our own shareholdership but also some external. So pension funds, private equity, if they see an IRR of 13%, 14%, they are getting nervous, because this is a great investment for them. So that's why they are probably ready to pay for this even that the IRR goes down, which means that the initial yield will go down immediately. But they don't care about the initial yield. This is reality because they have a long-term view.

This is why it was happening. So these assets, if I would be owner of Vonovia myself and not dependent on the capital market, I would buy this asset as much as I could. To be very clear, because on the long run, this is a very attractive option. In the moment, our cost of capital is too expensive. So that's why it doesn't make sense. But there's a lot of capital out there, which is desperate to get it. And to be also very clear, the policy, what I understand from all the insurance companies, is going to shift to resi in Germany. But this is all direct investment.

[Sander Bunck, analyst]

Okay. And basically, what you're implying there as well is that the increase in the general sovereign [ tenure ] has basically like for many buyers like no impact on their underwriting acquisitions? And as a result, yes, it basically will not feed into CBRE's updated valuation? Or am I looking at incorrectly?

[Rolf Buch, executive]

I think these buyers are often buying with equity only, right?

[Sander Bunck, analyst]

Sure. Yes, yes. No, I understand that. Obviously, your relevant -- your benchmark obviously is changing as well.

[Philip Grosse, executive]

Yes. If you look at the 10-year DCF, most of the value is actually in the question how you capitalize the cash flow in year 10. And that is by looking at prices, which are paid by the transaction market. And given that we have long-term investors, who take a fundamentally different view than currently the capital market does on how rent develop and by that, how capital will appreciate, which is another word in saying that there's a high, high discrepancy between net initial yield and IRR, these investors are basing their purchase decision on.

We do not see any changes in the transaction market. And therefore, the rise in interest rates is actually compensated. And for me, it's very logical, because as long as we are in a world in which inflation far exceeds the rises, the increases we have seen in interest rates, that should actually work to the advantage of further capital appreciation. And that is what we see.

[Sander Bunck, analyst]

Sure, sure. Okay. And just also related to that, does the privatization market provide additional support to asset values? I mean, obviously, if you're privatizing there's a huge margin. Is that -- does that provide support for the values? Or do the values not necessarily take that into account?

[Philip Grosse, executive]

It provides support to our organic funding, but how we appraise and how we value our portfolio is based on the institutionalized market. It's not based on the condo market.

[Rolf Buch, executive]

But to be also very clear, why these people are buying these condos, these individual condos like held for prices, which we consider actually very high. It's very simple. They have understood that inflation will make this business -- they have to protect their money against inflation. That's why they are buying assets.

[Sander Bunck, analyst]

Sure, sure. Okay. That's very useful. The second question I had is slightly a more longer-term one. And I'm trying to get a sense or a feeling how earnings growth or group FFO is going to evolve over the next couple of years, basically taking into account, On the one hand, obviously, you have some support from potentially higher rent growth from inflation. On the other hand, there's increased selling activity going on to bring down net debt to EBITDA and maybe less contribution from development to hold.

So I'm trying to understand how to look at earnings growth and how earnings growth of today should basically compare, say, in 5 years' time? Is it basically still this very steady growth profile? Or it's kind of the organic growth that we're seeing from the whole portfolio? Will that, to some extent, be offset by, yes, further sales and potentially some slightly higher financing rates?

[Rolf Buch, executive]

So there's a lot of cash. And just to make sure that we are not misunderstood. What Philip said is the debt-to-EBITDA ratio has to go down. And in the same time, he explained that while EBITDA is growing, this will go -- will be in-built. So what he was not saying is that we are selling assets to get this ratio down. What he said again, if we are selling assets, we are losing EBITDA and then the debt has to go down, right? But we are not saying that we have to sell the assets to get this ratio down. This will get down just technically as explained. And if you look on our...

[Sander Bunck, analyst]

Sure. But you're also talking about JV partners, right?

[Rolf Buch, executive]

Yes. But then, of course, then we have to reduce the debt, but then we also get a lot of equity in, right? So this is a part of the equity that has to be used to pay down debt. But to be also very clear, and this is -- of course, we are not giving you a guidance. But if you look back on the history on our operating model, and this has nothing to do with interest rates and EBIT. Our EBITDA growth is actually relatively stable. So if you look back on the past, this is not varying a lot. It is more or less the growth rate of 8%, 10%. And because I have told you the business model is not changing, megatrends is not changing. The demand patterns are going in our favor. Without giving you guidance, I don't see any reason why this figure should change immediately or massively.

[Sander Bunck, analyst]

Okay. So continue to focus on FFO growth per share going forward because the disposal will not offset any organic growth? Is that basically the messaging?

[Rolf Buch, executive]

I don't get your question, sorry. Can you repeat it?

[Sander Bunck, analyst]

Yes. So just to confirm, like basically the message from you is that even in the kind of over the next 5 years that organic growth will outpace the potential impact from JV partner restructuring and potential higher cost of debt, i.e., FFO per share will still grow, taking into account those -- yes, to potential effects that could dampen some of the FFO growth. Is that basically the point?

[Philip Grosse, executive]

Sander, I think outgrow is kind of wrong notion. But when we free up equity that will not sit on our balance sheet. We will proportionately pay down debt, but there is a remaining equity portion, and it is going to be reinvested. And that is going to be reinvested in a way that it works with our criteria and that is as accretive. And that is whatever the appropriate reinvestment is at the given point in time. It might be, as Rolf said, scaling up our investment program for our existing portfolio, which, as you've seen in the numbers, is generating very attractive initial yields and even more IRRs.

It might be that is our own stock. If that is at the appropriate point in time, the better use of proceeds. So the JV structure is kind of very much linked to the question how to best reinvest the money. If I leave that aside, and look at the business as it stands, then the question on how organically our business is developing is very much a function vis-a-vis the past of how inflation is feeding in, in the top line growth, because this is what has changed, and this is what we spent a considerable amount of time on to hopefully make clear that this is not instantly to be seen, but to be expected over time, given the systematic of how the regulation is working in Germany.

[Rolf Buch, executive]

So to repeat what I have said early on in a phrase, we have spent a lot of time because the concept of inflation is relatively new that inflation is going on this magnitude. And I think what a lot of people are telling us is that we should not expect that inflation is going down very soon. This is at least what we are hearing. So -- and I think this is a new assumption we have to work on. And that's why we have spent so much time on inflation, and we came to the conclusion that inflation is the best what can happen to us.

[Operator]

The next question is by Peter [indiscernible].

[Unknown Analyst]

You briefly touched upon the health portfolio sale. Could you share maybe with us your latest view on this portfolio and how the appetite is in the current market?

[Rolf Buch, executive]

So to be very clear, we here the Vonovia, to be compliant. This is a decision of the Deutsche Wohnen Board. So we are just a shareholder. What I have learned from them is that there's high demand that also they need to do some preparation because it's a significant portfolio, and they have not taken a decision -- formally decision. So I understand that they are in the process of preparing everything that it can be sold. But the decision has to be taken later if all the data are available. I repeat, we as a major shareholder, we think it is a good decision to sell this portfolio.

[Operator]

The next question is by Manuel Martin of ODDO BHF.

[Manuel Martin, analyst]

two questions, one by one. The first one is a bit of a housekeeping question. Could you give us an update maybe on possible supply chain disruptions or supply chain phenomenon in your refurbishment and project development business? That would be the first question.

[Rolf Buch, executive]

To be very clear, supply chain issue or material availability is an issue, people availability is an issue. So both is an issue. Keep in mind that, for example, 60% of the steel used for construction is produced in Ukraine or Russia. And you cannot use steel or you can, but it's too expensive to use the steel produced in Germany, for example. So it is not replaceable.

So we have issues in all fields. There's dramatic issues in heat pumps and solar collectors. We don't have enough electricians to put the solar collectors on the roof. We don't have enough people who can calculate heat pumps. So it's a massive issue which impacts us less than smaller players because obviously, it is clear that Vonovia can still source these elements easier than somebody, who is much smaller. So this is a scale advantage, but the market is very tight.

[Manuel Martin, analyst]

Okay. I understand. When you...

[Rolf Buch, executive]

We don't have the supply chain issues from China. So this is more Ukraine, and this is available of people. So we are not suffering from the closure of the Chinese ports.

[Manuel Martin, analyst]

Okay. Okay. That's clear. When you say people availability, I was thinking also about -- and that's the second question. I was thinking about your craftsmen organization. Is the number of people working there, is that stable? Or do you see that you're losing people, because of Ukraine workers going to Ukraine or people becoming just old enough to retire. Is there something that you can see in your organization? Or is it still...

[Rolf Buch, executive]

No. No, retirement is not a real issue. We are still a young organization. So this is not the issue. Yes, we see -- this is dramatic. We see a lot of young men going to Ukraine to defend their country, refused to work on our construction places. And then of course, we -- I have a lot of respect of those people. We are able to recruit, to replace these people by new recruitment. It is not easy, and that's why we are -- you probably have heard that we are now recruiting also people outside Europe, because electricity is the same in Colombia and in Germany. So -- but it is an issue. We manage it, but this is an operational issue. But don't be concerned, we will manage it in the future.

[Operator]

The next question is by Jonathan Kownator of Goldman Sachs.

[Jonathan Kownator, analyst]

I wanted to come back to one of the earlier points mentioned about the amount of construction that is taking place currently, the amount of modernization that is taking place currently, and what the government can do to evolve that. You also talk about cap potentially having to evolve, that hard numbers are not appropriate. Where are we following the federal election in the evolution of the thinking from the government into and how are you expecting to roll this into you? What is the timing? Where is the debate? What can the government do to improve the situation currently given also the need to accelerate, probably modernization and new development to reduce energy consumption?

[Rolf Buch, executive]

I think this is all very new. So the government still has to realize that we are coming in an inflation environment with higher cost of capital. So this is just they have to realize it, because they have to realize this and at the same time, a lot of different other things. So to be very clear, this was on our long-term perspective. As you know, today, our average cost for modernization is EUR 1.40 and we have a cap at EUR 3. So we still have a long way to go. But I'm just saying, we have to use the new inflation debate about inflation now to change this because it has to be changed 1 day, either in 5 years or in 10 years, but it has to be changed.

And I think you can take the dynamic to talk about this now, because we have real issues in getting the 400,000 built in Germany. So for example, yesterday -- I don't know if you have seen it, yesterday the association of homeownerships in Bavaria has announced that the members have fully stopped all construction.

[Jonathan Kownator, analyst]

Okay. And so what do you think the government is going to do about it? Can they debate on subsidies? Is that evolving? Is that stalling debate on more rents?

[Rolf Buch, executive]

To be clear, with subsidies, you cannot solve the supply chain issues. And with the subsidies, you cannot solve the issue that you don't have enough people. And with subsidies, you cannot solve the issue that -- so as the speed of solar panels has probably to be tripled or [ four-timed ]. So it is not only a question of subsidy anymore. It's a question of how we can do it. And probably what we see at the moment is that the government is hoping that Vonovia of these figures are actually helping to solve the issues. But we also have limited capacities. We are in a situation -- everybody wants to have cars and the car industry is not able to deliver.

[Operator]

The next question is by Thomas Neuhold of Kepler Cheuvreux.

[Thomas Neuhold, analyst]

The first one is on this inflation debate. Can you give us an update of the plans of the government to limit rent increases to 11% over 3 years in guide markets? Is this still on the agenda?

[Rolf Buch, executive]

It's formally not taken off the agenda, this I can tell you. But of course, the estimates. It doesn't make sense any.

[Thomas Neuhold, analyst]

Okay. And the second question is on the profitability outlook for the Development business. Do you think that house price inflation will be high enough to offset soaring construction costs in the next quarters?

[Rolf Buch, executive]

What I think what you see in the slides is that actually it was -- I was impressed by the slides, as I saw it the first time. It's actually very simple. People are taking the construction cost, put a margin on top of it, and then sell it. What we see is actually the margin stays more or less the same independent on construction cost.

[Thomas Neuhold, analyst]

And do you think that's also going to be the case in the next quarters?

[Rolf Buch, executive]

It was the case in the last 50 years. What we see is a high appetite. Look, on the IRRs we have shown in this slide, we have detailed our investment program. Look on the IRRs, you can achieve if you have an assumption of a 6% inflation. What these IRRs and then tell me if people are not ready to pay for it. It doesn't matter if it's 2 percentage points less. It's still a very attractive business. What I need really, we all needed a lot of time to understand what is the impact on inflation on our business.

[Thomas Neuhold, analyst]

Okay. The next question is on your leverage. Can you give us an indication from your point of view, what is a reasonable net debt-to-EBITDA market where you should reach in the medium term?

[Philip Grosse, executive]

What I think is reasonable and that's kind of the short to medium-term target, 15x. That works very well with the rating agencies, also in their definition, plus it allows us to be 100% flexible, essentially, in how we play the debt market, secured versus unsecured, because in the secured market, the equivalent of 15x net debt-to-EBITDA is what you can efficiently finance in the secured banking market. So it's not a lot of movement. And to that respect, also the reiteration of what Rolf said, there's no need to actively delever. The multiple will delever organically as we increase EBITDA.

[Thomas Neuhold, analyst]

Okay. And my last question is on the Adler Group situation. Looking at the bond market, your company specifically spreads widened since the publication of the forensic report about Adler. Can you please share your views on and the implications of the findings in the forensic report and the fact that the auditor issue that this came off opinion on the annual report of Adler?

[Rolf Buch, executive]

So we are not in a position to talk for Adler. So we are just a shareholder. I think we don't have any issues there. But I repeat, we all know that the management of Adler in the past was a disaster. I know Stefan, I know Thomas Zinnöcker. I know that they are doing a good job. They know the business. So I have 100% confidence that the management attitude in Adler is over. So that's it. But I don't see any impact on Vonovia.

[Thomas Neuhold, analyst]

And did you make up your mind already, if you will support the reelection of the current Board members at Adler at the next AGM and/or do you plan to propose to add other persons to the Board of Directors at Adler?

[Rolf Buch, executive]

To be very clear, if I'm a shareholder, and I don't think -- if I would ask you in front that you will answer those questions, so we will not answer the question as well.

[Operator]

The last question is by Marios Pastou of Societe Generale.

[Marios Pastou, analyst]

Just a very quick follow-up on the shift in the build to hold to the build to sell pipeline. I just wanted to check what the flexibility is here. For example, are you able to develop a building in the mindset of a build to hold property? And then at the very last minute, switch this over, is there any implications on things like planning or specification that you need to consider?

And also just on the shift, are we thinking of this shift in terms of the combined Vonovia, Deutsche Wohnen pipeline, because there are some sizable build to hold development that was planned in Deutsche Wohnen's own construction pipeline. So are we now considering this as one and thinking of the shift over to the development to sell category in that respect too?

[Rolf Buch, executive]

So to be very clear, the development to hold was actually a completely new building, which normally as a standard, we are doing it separate unit by unit. So we are building it by individual landlords anyway. But technically, the easiest to sell it is just to sell it to a pension fund, which operates -- as we would operate. Ordinarily, you know we have a service business a bit, which is actually doing the operation. So we are working for a very well-known pension fund where actually they are buying the buildings and then we operate it for them. So no change. So this is easy. This is just a decision and then the next decision is you can structure a forward deal if you need the cash now or you are selling it if the building is finished and rent it out.

So there's different movements where you can sell it, but this is a very liquid market and a high appetite. So this is what we are doing. So you're normally -- if you have a building development to hold, the norm would not be that you sell the individual apartments. So this can be possible, but it's not the normal way than you do it at one sell.

[Marios Pastou, analyst]

Okay. And then just on the pipeline of the separate Deutsche Wohnen construction plans, are we also going to be seeing this combined shift over from develop to sell over to -- sorry, from to hold to sell similar way for that portfolio?

[Philip Grosse, executive]

The formal answer is the business decision of the Deutsche Wohnen management, but I assume they have no different view on the cost of capital implication of that. So another way in saying, I assume, yes.

[Operator]

There are no further questions, and so I'll hand back to Rene.

[Rene Hoffmann, executive]

Thanks, Martin, and thanks, everyone, for joining today. As a reminder, we will report H1 2022 results on August 3. And until then, we'll be doing quite a lot of investor outreach and hope to see many of you in the coming days and weeks. A list of events is on Page 53 of today's presentation and, of course, always online on our website. We're looking forward to continuing this dialogue with you. And of course, as always, please do get in touch with any questions you have. That's it from us for today. Stay happy and healthy, and have a great day, everyone.

[Operator]

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