BTB Real Estate Investment Trust

TSX:BTB.UN

Earnings Call Transcript

[Operator]

Good morning ladies and gentlemen. My name is Sylvie, and I will be a conference facilitator today. At this time, I would like to welcome everyone to the BTB Real Estate Investment Trust's 2018 Second Quarter Ended June 30, 2018 Financial Results Conference Call. [Operator Instructions] Before turning the meeting over to management, please be advised that some of the statements that may be made during this call may be forward-looking in nature. Such statements involve known and unknown risks and uncertainties that may cause the actual results of BTB Real Estate Investment Trust to be materially different from those expressed or implied by such forward-looking statements. The risks, uncertainties and other factors that could influence actual results are described in BTB Real Estate Investment Trust's Management Discussion and Analysis of financial results and its Annual Information Form which were filed on SEDAR and on the BTB's website at www.btbreit.com. I would like to remind everyone that this conference is being recorded. Thank you. I will now turn the conference over to Mr. Michel Léonard, President and Chief Executive Officer; and Mr. Benoît Cyr, Vice President and Chief Financial Officer. Mr. Léonard, you may now begin.

[Michel Léonard, President, CEO & Trustee]

Thank you very much. Good morning, everybody. Right now, we will report on Q2 2018 as stated earlier. Regarding our results, we have -- we saw an increase in -- of 13% in rental income, 12% in NOI and an 8% increase in cash FFO and 11% increase in cash AFFO, basically outlining the fact that our new acquisitions are panning out in a better fashion as our previous acquisitions. Regarding the percentage of FFO, it went up to 93.8% and AFFO went up to 101% for the cumulative period of 2018, the first 2 quarters, and that is as a result of a surprise bankruptcy of Pharmetics, that have caused an increase of 8% on both fronts. Pharmetics, I'll just delve into the details of Pharmetics. Unbeknownst to us, when we learned of the death of Mr. and Mrs. Sherman in Toronto, where they were killed in their home, unbeknownst to us that we felt that it was going to touch us. Well, Pharmetics was recently purchased by a subsidiary of Sherfam, which is the -- we understand to be the holding company of the Sherman family of Toronto. And as a result of this, the estate decided to freeze all capital to certain subsidiaries. And Pharmetics was in the midst, following the acquisition by Sherfam, was in the midst of retooling and, as a result, had difficulty operating without the cash that was promised. And as a result they had to protect themselves and file for bankruptcy. They were renting from us 132,000 square feet of space. And bankruptcy, as I mentioned earlier, had a negative effect on our results, and Benoît will talk a little bit more about that. And we anticipate that this effect will continue into the third quarter. And however, we did accept an offer to purchase this property by a third-party buyer and they are under due diligence. And their due diligence process should end around August 31. And if we're satisfied with the conditions of their due diligence, then the property could be sold by September 30, 2018. Also, we have an offer to lease for 50% of this property that is obviously conditional upon us not selling the property. And the condition has to be waived by the same date, which is August 31, of this year. So we feel that -- regarding this property, we feel reasonably certain that, in the fourth quarter, we won't be affected by it. We also saw our mortgage debt ratio go down to 56% and our overall debt ratio down again to 61%. And we continue to have a decrease in occupancy rate as a result of Philips leaving an industrial property in Cornwall. Regarding our strategic repositioning, as you remember, we sold 4 properties in the first quarter for a total consideration of $12.4 million. We have properties that were part of the selling process during the second quarter. We're currently waiting to close the Chemin Chambly property. The conditions have been waived and the closing is scheduled for next week. We've received an offer to purchase for all our properties located in the city of Sherbrooke, Québec and are under due diligence for that as well. We received an offer for our Antonio Barbeau property, are under due diligence and we sold the property located in Thetford Mines. And I remind you that this property was fully vacant at the time of the sale. We're still waiting for offers on our Saguenay property on 85 St. Charles. But 85 St. Charles, given the leasing velocity for this property and the cluster of 3 buildings that we have there, we were reconsidering selling this property and looking to renovate -- possibly renovate this property during the course of 2019 in order to keep it on a long-term basis. The Magog property that was offered for sale, we didn't get any traction. However, we have good leasing activity. We're negotiating for an additional 10,000-square-foot user for the industrial space. We're still waiting to put on the market Henri-Bourassa property and the Turgeon property. And by completing the sale of all these properties that I've listed, our asset repositioning will be completed. Lease renewals. So far this year, we've renewed 225,000 square feet, and our retention rate for the second quarter was 35%, when we saw an increase in the renewal rate for renewals by 3.5% in Q2. As well, we leased, so far this year, 191,000 square feet to new tenants. Reports on the leasing of problematic buildings, Complexe de Léry and Three Rivers, we had some traction, not substantial but we do have some traction. King Street West, which was a property that is 70-some-percent occupied is part of the offer that -- the offer to purchase that we did receive for the Sherbrooke properties. Saguenay, we don't have any lease completion. And Complexe Lebourgneuf Phase 1 in Québec City, we have great velocity and we feel that, by the end of the year, we are going to be past the 92% occupancy mark. The Cornwall property at 725 Boundary Road, where we saw, as mentioned earlier, Philips leaving 90,000 square feet. There is substantial activity in that market, and we feel confident that we may be able to land a good tenant for this property. Regarding our acquisitions. We did complete the acquisition of a 25% residual interest in the Complexe Lebourgneuf Phase II in Québec City. And one event of note, it was our first transaction that was completed in units -- by issuance of units of BTB. We did purchased property located on Ste-Catherine and Crescent, and this is the property, where we will move our head office in the fall. And last week, we completed the acquisition of a retail center in Lévis, Québec in close proximity to Carrefour Saint-Romuald, the property that we had previously acquired in November 2017, giving us a great cluster for this area. We did issue an order to complete these 2 transactions. We did issue Trust units, 6,250,000 units, that includes the overallotment option, at $4.60 per unit. And the proceeds that we did receive were $27.6 million net of costs. With this summary, I'd like to delve into more details with Benoît, then he is going to take you through our results for Q2.

[Benoît Cyr, VP & CFO]

Good morning. Thank you, Michel. I'm pleased to present and discuss with you today our 2018 second quarter financial results. We've sold, as mentioned, 4 properties since the beginning of the year but none during this quarter. On May 30, we acquired the 25% residual interest in Complexe Lebourgneuf Phase II in Québec City for $7.5 million. The net consideration of $2.5 million after a summation of the mortgage debt was paid through issuance of approximately 532,000 Class B units at a price of $4.68. At the end of June, our portfolio consisted of 71 properties, 5.4 million square feet of rentable area and having a market value of approximately $754 million. Also as mentioned, we bought -- we purchased 2 property after the end of the quarter. On July 11, a property corner of Ste-Catherine Street West in Montréal and Crescent Street, downtown Montréal, for $25.2 million, where we will move shortly our head office. And last week, we acquired a retail center in Lévis, south shore of Québec City, for $42.6 million, where Walmart is the anchor tenant. And on July 20, we sold a property under development in Thetford Mines, Québec for $475,000. So as of today, we own 72 properties, close to 5.6 million square feet and a market value of $820 million. As previously mentioned, the following numbers were negatively impacted by the bankruptcy of Pharmetics. Our NOI was affected by $422,000, $0.09 for our per unit distributable income FFO and AFFO and about 8% for our payout ratios. Even so, for the quarter, rental revenues were up 13% or $2.4 million compared to the same in 2017. Increase is mostly due to the recent acquisitions we did in Q3 and Q4 of 2017. We've recorded an increase in our operating expenses of 14.7% or $1.2 million between the second quarter of '17 and the second quarter of '18. And again, recent acquisitions and the impact of Pharmetics' bankruptcy explain this increase. The NOI is up 12% for the quarter compared to the same in 2017 and is now at 54.0% as percentage of revenues. Financial expenses are up from $4.5 million to $5.3 million or approximately 18% for the quarter, mostly due to new mortgage loans on properties recently acquired and to the use of our lines of credit. We accounted a fair value increase of $277,000 of our swaps at the end of June. This increase of value is recorded as a reduction of financial expenses and is due to recent increases of interest rates in Canada. The average weighted contractual rate of interest on our mortgage loan is at 3.82%, 3 basis points higher as at the end of Q2 '17. And the weighted average term of our portfolio -- mortgage loan portfolio is 6 years, 6 months more as a year ago. Our administrative expenses are at $1.2 million for the quarter, approximately the same as last year. But we've accounted $100,000 for our unit-based compensation plan. To appraise our portfolio, at the end of each quarter, we use the capitalized NOI method. We use cap rates received from external charter evaluators and experts. We have estimated that the value of our real estate portfolio recorded in the balance sheet at the end of June '18 adequately represented its fair market value and that no material adjustment was required. The weighted average cap rate of our portfolio is at 7.03% at the end of June '18 compared to 7.20% a year ago. We present a net income or $4.6 million for the quarter, $0.093 per unit compared to $4.4 million in Q2 '17 or $0.103 per unit. The same property portfolio for the quarter shows small decreases in its revenues, NOI and net property income. Without Pharmetics' bankruptcy, rental income would have been up by 1.2% and NOI and net property income after financing charges would have been stable compared to Q2 '17. Our distributions increased from $4.5 million last year to $5.4 million this year, including 12.9% of our distributions in units under our DRIP. This increase of $1 million is due to the last 2 unit issuance, 1 in last October and the recent one in June, 6.2 million units for a net proceed of $27.2 million. Also we issued, in May, 532,000 Class B LP units. Our distributable income for the quarter amounted to $5.5 million, $0.111 per unit compared to $5.0 million or $0.117 per unit in Q2 '17. Our distribution payout ratio for the quarter stood at 94.6% from 89.8% in '17. The FFO reached approximately $5.3 million for the quarter compared to $4.9 million in the last year. $0.106 per unit this quarter compared to $0.115 last year. And the payout ratio stood at 99.1% from 91.3% last year. Finally, the AFFO amounted to $4.9 million, $0.099 per unit for this quarter, from $4.5 million and $0.105 last year. The AFFO payout ratio stood at 106.1% from 100% in 2017. Again, these per unit indicators have been affected by close to $0.01 per unit and payout ratios by approximately 8% for the quarter following the Pharmetics bankruptcy. Our balance sheet represents investment properties at fair market value amounting $754 million compared to $751 million last December. We had $10 million in cash, and other assets amounted $14.5 million. We spent approximately $968,000 in recoverable and nonrecoverable CapEx during the quarter. We spent $0.5 million in TI's to meet specific needs of our clients as well as commissions to broker. The non-recoverable portion of our CapEx is at $367,000 compared to a reserve of $416,000 in our AFFO calculation. Mortgage loan -- mortgage loans payable amounted $428 million at the end of June, the same as at the end of last December. Our LTV ratio is now at 56.0% compared to 57.7% in June '17 and 56.5% in last December. We have 2 series of debentures outstanding for a net book value of $48.4 million. The Series E is now redeemable at their principal amount. They mature only in March 2020, and for now, it's not our intention to redeem them. At the end of June, our 2 lines of credit were fully reimbursed following our unit issuance. We still have $24 million of mortgage loans coming to maturity in 2018 and we will have $62 million of maturity in 2019. We have started discussion with lenders to evaluate best rates and term scenarios and [ sold ] to [ refining ] these loans at the best conditions. As you know, in June -- on June 19, we issued 6.25 million units including the overallotment option at a price of $4.60. The net proceeds were used to temporarily reimburse our lines of credit. In July, we used $7 million of our cash and $15 million of our acquisition line to purchase 2 properties. As of to-date, following these acquisition and their financing, our balance sheet shows investment properties at approximately $821 million, cash position at around $3 million and mortgage loans at approximately $472 million, and we used our acquisition line for $12 million. That's all for my section. I would like to thank you for your attention. And now I'll turn back the conference to the facilitator for questions from analysts.

[Operator]

[Operator Instructions] And your first question will be from Stephane Boire at Echelon Wealth.

[Stephane Boire, Real Estate Analyst]

So regarding the Pharmetics property, could you just give us a ballpark of the expected sale price or even the cap rate at the moment?

[Michel Léonard, President, CEO & Trustee]

Well, I can -- what I can tell you is that we have purchased the property for $11,250,000. And the purchase price that was agreed was $11,750,000. So we're looking to obviously create a profit in this. And this property had a mortgage as at June 30 of close to $6 million. Hence we will glean from the sale of the property net cash of roughly $5.5 million, $5.6 million.

[Stephane Boire, Real Estate Analyst]

Great. And also could you just give us the rationale behind selling the property instead of releasing it? I mean, I know that you have a potential tenant, but what's the rationale between the two?

[Michel Léonard, President, CEO & Trustee]

I think that the basis for the sale is that we -- given our redeployment of capital and the fact that, all of a sudden, we would have 132,000 square feet of a property for lease, I think that the market in Laval, where it is situated, and the prominence that it has on the highway, I think that it's a fantastic property for leasing. However, the elements of risk have been weighted in the form of saying, do we want to be 1 year vacant or 1 year 50% vacant, and what is it that we want? And the drain that it's causing in our results, whether it be on the net operating income basis, AFFO, FFO and occupancy rate, I think that the short-term aspect of weathering the storm outweighs the long-term aspect of creating more value with this property. And it has -- if Michel Léonard were the owner -- the only owner of this property and was faced with this event of bankruptcy, Michel Léonard, personally, the owner of this property, would not sell the property. But Michel Léonard, the President of BTB weighting the risks elements and weighing the effect of these risks on our results, short term, have basically skewed the decision towards the sale of the property.

[Stephane Boire, Real Estate Analyst]

Okay. But it's not -- it's not definitive if you're able to find a tenant for 100%.

[Michel Léonard, President, CEO & Trustee]

Exactly. So basically we're reducing our risks by selling. If they don't wave conditions, then as I mentioned earlier, we do have an offer to lease, and we do have a -- it's a firm offer to lease conditional upon us not selling the property, and as a result, then, we will embark on the process of redevelopment of part of the property in order to secure this tenant, because we obviously don't want to stay vacant for a long time. And it is a property that is subdivisible. So we can have 2 or 3 tenants within this property. So this offer is for 50,000-some-square feet from a very well known corporate user. And so as a result of it, I don't think that -- if ever the decision of our purchaser were not to buy, I think that we're mitigating our damages by leasing this property to this third-party tenant.

[Stephane Boire, Real Estate Analyst]

Okay. Perfect. Makes a lot of sense. And just finally, you touched a little bit on the subject of the acquisition, but could you give us an idea of the -- of your focus at the moment of -- where is your focus in terms of acquisition pipeline at the moment?

[Michel Léonard, President, CEO & Trustee]

We -- what we're seeing in the market is a lot of properties -- the industrial properties are basically the flavor of the month, and they're selling at unprecedented -- the cap rates that we are seeing are extremely low. And as a result, we're having a difficult time of acquiring industrial properties at these cap rates. But we're looking, again, it's on the -- in proximity to the Island of Montréal, close proximity to the Island of Montréal, in the Greater Montréal area, in the Greater Québec City area and the Greater Ottawa area. This is -- by selling our properties in Sherbrooke, I think that we're giving the signal that we're no longer investing in secondary markets. We're investing in primary markets in the province of Québec and Ontario. And this is where we're trying to harvest these properties.

[Operator]

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

[Yashwant Sankpal, Analyst of Real Estate Investment Trust]

So if I understand this correctly, this Pharmetics property, you are able to sell it at your IFRS value?

[Michel Léonard, President, CEO & Trustee]

We're selling it at a higher price than book value, yes -- than appraised value, yes.

[Yashwant Sankpal, Analyst of Real Estate Investment Trust]

Okay. And who is the buyer, like, what does the buyer see that you don't want to see or you are hesitant to see?

[Michel Léonard, President, CEO & Trustee]

Well, I'm not going to release the name of the purchaser, but the purchaser is a business that is going to use this property as a distribution center, office space and distribution center for their goods. They're a Québec-based retailer that needs a warehousing and head office facility that is larger than the one that they are currently operating out of.

[Yashwant Sankpal, Analyst of Real Estate Investment Trust]

So they're a business, they're not a landlord.

[Michel Léonard, President, CEO & Trustee]

No, no. It's a user for its own needs.

[Yashwant Sankpal, Analyst of Real Estate Investment Trust]

Got it. Okay. So in terms of NOI, what -- how should we model your NOI going forward? Given the recently announced acquisitions, what would be a good run rate going forward?

[Benoît Cyr, VP & CFO]

Well, based on the recent acquisition and also based on the discussed disposition of properties that we'll sell, we think a $12 million to $12.9 million per quarter for the next quarters would be a good idea of our going forward NOI.

[Operator]

At this time, there are no further questions. Please go ahead, Mr. Léonard.

[Michel Léonard, President, CEO & Trustee]

Well, thank you very much for participating in our call this morning. As you could glean from our results is that our repositioning is paying off. And as a result, we're generating more money out of our operation. The unforeseen event of Pharmetics, well, I think it's part of doing business in real estate, and we have to deal with these events as they occur. And as I think that you could rationalize that we dealt with the problem relatively quickly and found a way to solve the problem, again, quickly. It is something that was unforeseen. That is basically casting a little bit of a cloud over our Q2, but once the conditions are going to be waived, if they are waived, and I think that we're all going to be able to breathe a little bit better regarding this event. So thank you very much for your interest in BTB. Our results, I think are showing that all the work that has been done over the last few quarters are paying off and we're looking forward to redeploying our capital from the sales that we talked about into much better properties and located within the core areas as we described, as my answer was to Stephane. So with this, have a great day. And we'll see you or hear from you during the next call. Thank you.

[Operator]

Thank you, Mr. Léonard. Ladies and gentlemen, this does conclude the conference call today. You may now disconnect your lines. Enjoy the rest of your day.