Morguard Real Estate Investment Trust (TSX:MRT.UN) Q4 2022 Earnings Call

0:01 Good afternoon, ladies and gentlemen, and welcome to the Moorgard Read fourth quarter for the year-ended December 31, 2022 conference call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. If at any time during this call you require immediate assistance, please press star zero for the operator. This call is being recorded on Thursday, February 16, 2023. I would now like to turn the conference over to Mr. Andrew Tamlin. Please go ahead, sir.

0:34 Thank you, and good afternoon, everyone. My name is Andrew Tamlin, Chief Financial Officer of Moorgard REIT. Welcome to the Moorgard REIT's fourth quarter 2022 earnings conference call. I am joined this afternoon by John Guinness, Assistant Vice President of Retail Asset Management, Tom Johnson, Vice President of Western Asset Management, and Todd Febo, Vice President of Eastern Asset Management. Thank you all for taking the time to join the call. Before we jump into the call, I would like to point out that our comments will mostly refer to the fourth quarter 2022 MDNA and financial statements, which have been posted to our website. I refer you specifically to the cautionary language at the front of the MDNA, which would also apply to any comments that we would make on the call.

1:24 Overall, we are pleased again with the fourth quarter results, which showed continued improvement in the same asset metrics on a year-over-year basis. Net operating income for the quarter increased 6% to $33.5 million in 2022 due to continued improvements in our enclosed mall portfolio results. Net operating income for the year was flat at $122 million, However, the improved operating results for the full year is offset by the decline in one-time lease cancellation fees in the amount of $2.5 million. FFO for the quarter also increased 6% to $19 million in 2022 as compared to a year ago. Same asset net operating income for the fourth quarter improved 5% from a year ago, buoyed by an almost 10% increase in same asset results for our enclosed mall portfolio.

2:20 This represents the seventh quarter in a row where we've achieved improved same-asset results on a year-over-year basis. For the year, our same-asset net operating income is up 3%, primarily due to a 10% increase for the enclosed malls. Interest expense has increased 6% to $14 million for the quarter on a year-over-year basis. The impact of lower debt and the amount of $25 million on a year-over-year basis has been offset by higher short-term borrowing costs due to the higher interest rate environment that we find ourselves in. For the year, interest expenses rose marginally or one-half of a percent.

3:05 We continue to see interest expense increasing in 2023, notwithstanding our decline in debt. This is due to both an elevated amount of mortgage maturities in the next two years, in addition to the fact that the Trust has approximately 18% of its debt as variable. As mentioned previously, our enclosed mall results continue to rebound from the downturn we saw under COVID. This rebound started in late 2021 with our malls located in Western Canada and has continued throughout 2022 with our Ontario mall. These have translated into increases in percentage rent and specialty leasing opportunities. We are also pleased to add opportunities of discriminating tenants such as Lululemon and Sephora at some of our Western Canada locations with possibly more to come.

3:57 These additions are solid endorsements to both our tenant and customer base. Sales at our malls for the most part have either bounced back or exceeded the pre-COVID levels. This speaks to the trend of folks going back to the mall to do in-person shopping. In general, we found that it was a solid holiday season for our enclosed malls and their tenants. We are pleased with the results from Pine Centre and Prince George British Columbia as well. This mall will have a new Save-On Foods grocery store opening shortly, which has also led to leasing opportunities with discriminating tenants such as Lululemon and Sephora, with potentially more to come. Rent arrears and deferrals continue to decline.

4:43 The receivable balance for tenants has decreased from $9.2 million at the end of last year to $5.4 million at the end of this year. While the uncollectible overdue amounts have been allowed for, there is still cleanup needed to document certain abatements to be granted. The vast majority of these amounts outstanding are from the Ontario malls and stem from pre-2022 arrears. At this point, the amount of bad debt expense that we are seeing is very comparable to pre-COVID levels. During the quarter, we had $113 million fair value loss in our real estate properties as we were required to adjust these assets to fair market value under IFRS. This represented a 25 basis point expansion of cap rates for all enclosed mall retail and office assets in response to market changes and valuation parameters.

5:40 Combined with earlier 2022 adjustments, we've recorded a $149 million fair value loss for the year as compared to $61 million last year. The REITs PCME or operating and leasing capital reserve was established to be $25 million for the year, which is back to normal levels. We spent approximately $22 million of this, with contractor and other delays being the primary reason why the full amount was not spent. We do expect to be more active in operating capital spending in both 2023 and 2024 as we catch up on delayed projects and look at higher leasing volumes, which may result in higher level of necessary leasing capital. Our overall occupancy level is at 91% at December 31st.

6:28 remains consistent with a year ago. This has only changed slightly from the start of the pandemic, which was 93%. This speaks to the fact that in most cases, we've been able to keep tenancy at our quality assets. I do note that we have a single tenant industrial asset for which the tenant did not renew in the fourth quarter. We are working to find a new tenant for this asset. And now for an update on our leasing efforts. In 2023, there's approximately 475,000 square foot in retail GLA coming due. We do expect that every retail tenant larger than 5,000 square feet to renew their space. There is also approximately 385,000 square feet in office space coming due.

7:15 And we feel good about the vast majority of this space as well. I do note that there is 13,000 square feet in Ottawa that will be vacated and a further 19,000 square feet at 77 Bloor which will be vacated. We see no issue with the 62,000 square feet of industrial space renewing in 2023. Leasing discussions for retail opportunities have definitely picked up in the last year as both current and prospective tenants now have a better handle on what to expect going forward. This has led to numerous conversations about various opportunities at our properties across the country. Office leasing discussions, on the other hand, while gaining some momentum, are still somewhat muted as tenants are still trying to figure out what their office needs will be like over the long term in a post-COVID world.

8:08 Management has had continued ongoing discussions with the provincial government tenant at Petroleum Plaza in Edmonton, which came up for renewal on December 31, 2020, and is now in overhauled. While they have verbally told us that they expect to renew, they have unfortunately still been focused on the response to the pandemic and other initiatives, which has taken priority. At this point, we are looking at 2023 in order to get this completed. Our experience is similar to other landlords who have the provincial government as tenants. I do note that this space has remained occupied over this entire timeframe. Turning to financing and liquidity, the Trust has $122 million in liquidity at the end of the fourth quarter and $345 million in unencumbered assets. These numbers have changed from $185 million and $315 million a year ago.

9:06 Looking specifically at mortgage renewals, we had $44 million in mortgage paydowns in the fourth quarter, most of which related to a $35 million $35 million pay down associated with the Penn West Plaza renewal. The trust is continuing with the Save on Foods development job at Pine Center which entails the re-tenanting of the former Lowe's premises into a new 38,850 square foot Save on Foods grocery store. Construction efforts are now mostly complete. We expect to be able to turn it over to the tenant early in the second quarter. The addition of grocery further complements the strong anchor tenant profile in this mall and has advanced leasing discussions with some discriminatory tenants looking to come into this marketplace.

9:58 Last quarter, the Trust announced it had reached an agreement with TeamTown to convert the empty home outfitter space at Heritage Town Centre in Calgary into a 34,000 square foot retail store focusing on sporting goods. This project will cost approximately $3 million from a landlord perspective and will be completed in the first quarter of 2023. Wrapping up, we are pleased at the resiliency of our assets and the improved results and activity levels from our enclosed mall and retail segment. While there is still room to grow to get back to pre-COVID levels, we have seen positive results in the last year. We are looking forward to continued positive leasing conversations for our assets. Most of our enclosed malls remain dominant in their geographical area, and our strip malls, which are largely grocery-anchored, have performed well.

10:52 Beyond our retail assets, we have high-quality office buildings in Canada's largest markets, with a high degree of government office tenants. We continue to be positive about our business and the objective of building value for our unit holders. We look forward to continuing to execute our strategy, and thank you for your continued support. We will now open the floor to questions. Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press the star followed by the one on your touch-tone phone. You will hear a three-tone prompt acknowledging your request. Questions will be taken in the order received. Should you wish to cancel your request, please press the star followed by the two.

11:39 If you are using a speakerphone, please lift the handset before pressing any keys. One moment, please, for your first question. Your first question comes from Jonathan Culture from TD Securities. Please go ahead.

11:56 Thanks. Good afternoon. First question is just on the enclosed retail portfolio. The same property in Hawaii, strong in the quarter, been strong all year. Maybe give a little bit more color on what drove that and I guess, what are your expectations for that portfolio for 2023? Where do you think you can get occupancy to?

12:21 Do you mind fielding that, John?

12:23 Sure. No problem, Andrew. Hey, Jonathan. Thanks for the question. You're right. Retail has seen a resurgence, particularly in 2022. We didn't really know what to expect starting beginning of the calendar year. coming out of COVID restrictions, particularly here in Ontario. But to answer your question directly, what drove that really is net new demand and our ability to roll up our income that was disproportionately hit during the pandemic in this sector. So we feel very positive, as Andrew said in his opening remarks about the business going forward. There was a lot, a lot of restructuring that ensued in 2020, and we saw the impact of income on the sector accordingly. So we've been very, very diligent in trying to roll some of that back.

13:11 You know, we've dealt a lot with our receivables, as Andrew noted in his remarks as well. So, again, a combination of net new leasing, ability to renew tenants at higher rents as part of the inline CRU component. And so we feel very positive about the business moving forward.

13:35 Okay. And what do you... like you ended the year at 93% or just over 93% occupancy, what would you say is a stabilized number, a number you'd be happy with?

13:48 So in the mall-based portfolio, it's evolving in terms of tenants, particularly the mid-market sector. But our hope is that achieving a 95% stabilized occupancy in the enclosed mall segment is probably something we're looking to achieve. The strip center portfolio is a little bit different. That typically has a higher stabilized occupancy just given the nature of the asset being a needs-based asset portfolio.

14:14 Okay. And then just turning to the balance sheet, you do have a bunch of debt rolling over 2023, 2024. What sort of loan-to-values do you think you can do right now? And what interest rates are you looking at?

14:34 Thanks, Jonathan. So, yes, there are a higher amount of maturities coming up in 2023 and 2024. You know, we're looking at doing loan-to-values in the 50% to 60% range. There's probably not going to be a ton of availability for op financing. There's going to be certain opportunities. We'll be looking at kind of what we can do there. And in relation to your question on interest rates, they're probably going to be in the range of 5% to 6%, hopefully a little bit less than that, but that's kind of what we've been budgeting.

15:22 Okay. So you're saying 50% to 60%, but if I look at your chart, it kind of has the maturing loan to value at 65%. So would that imply some paydowns, some actual paydowns this year?

15:36 There will likely be a net paydown,

15:41 yes. Yeah. Okay, thanks. I'll turn it back. Thank you. Ladies and gentlemen, as a reminder, should you have a question, please press the star followed by the one. Our next question is from Tom Callahan from RBC Capitals. Please go ahead.

16:01 Thanks. Good afternoon. Just a quick follow-up there on the maturities and the debt side of things. Just in terms of fixed versus variable rates, I think you had mentioned, Andrew, now kind of at 18% exposed to variable. That's up quite a bit, quarter over quarter, and I know related to the refinancings there, but Is that something you're comfortable with here in the short term, given interest rates, or are you going to look to kind of fix some of those rates in the coming quarter?

16:29 We'll be monitoring that, Tom. I think that, you know, the thinking on interest rates changes. It's a very fluid environment. So I don't want to kind of make any promises on that. So, you know, we will be monitoring that, and if we think it's appropriate to go fixed on that, then we will. But... You know, it is, you know, it is something that we're monitoring.

16:56 Yeah, understood. That's all for me. Thanks, guys. Once again, ladies and gentlemen, please press star one should you wish to ask a question. There are no further questions at this time. Please proceed, Mr. Tamlin.

17:24 Well, thanks, everybody, for joining the call and looking forward to talking to everybody again next quarter. Thank you. Thank you. Ladies and gentlemen, the conference has now ended. Thank you all for participating. You may all disconnect.