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Good morning, ladies and gentlemen. Welcome to Dream Office REIT First Quarter 2018 Conference Call for Friday, May 11, 2018. During this call, management of Dream Office REIT may make statements containing forward-looking information within the meaning of applicable securities legislation. Forward-looking information is based on a number of assumptions and is subject to a number of risk and uncertainties, many of which are beyond Dream Office REIT's control, that could cause actual results to differ materially from those that are disclosed in or implied by such forward-looking information. Additional information about these assumptions and risk and uncertainties is contained at Dream Office REIT's filings with securities regulators, including its latest annual information form and MD&A. These filings are also available on Dream Office REIT's website at www.dreamofficereit.ca. [Operator Instructions] Your host for today will be Mr. Michael Cooper, Chair and CEO of Dream Office REIT. Mr. Cooper, please go ahead.
Thank you, and I'd like to thank everybody for participating. We're in that awkward time where we have first quarter results and the Annual Meeting. This year, what we're doing is we're having the Annual Meeting for all of our companies next Thursday. I think it's going to be a great day. I think we'll have a lot of information. The purpose of today's call, we're going to try to keep to updating on the financial statements and answer your questions because we want to make sure that next Thursday is a great day, where we're going to talk a lot about what we're going to do with the business. So with that, I'm just going to turn over to Rajeev. And then afterwards, we're happy to answer your questions.
Thanks, Michael, and good morning, everyone. Our NAV per unit is up 7.5% year-over-year and just under $24 a unit at the end of Q1, in line with our [ 7 recently ] -- where we traded at yesterday. With valuations flat in the quarter, given most of our office properties were recently appraised at year-end, the NAV uplift in the quarter was really driven by retained cash flow and our share of income from our 26% interest in Dream Industrial REIT, which recorded significant fair value gains from its Ontario and Quebec portfolios during the quarter.Our FFO per unit in the quarter also benefited by about $0.07 from what I disclosed on the last call about lease termination fees at 700 DLG, which would otherwise have been down about $0.01 versus Q4, driven by NOI declines from no -- known vacates in our noncore markets and about 11,000 square feet of tenant defaults in Toronto. Our comparative NOI was down about 1.1% quarter-over-quarter. But excluding some of those known vacates and those defaults, NOI growth would have been slightly positive. Despite the short-term cash flow reduction, the defaults really provide us an opportunity to improve covenant, rate and term. We've already addressed over half of the 11,000 square feet of tenant defaults in the quarter at rents 16% higher than what was previously paid with the remainder set aside for our retail repositioning at Adelaide Place. We believe Adelaide Place is an excellent example for a quality retail tenant that will complement the asset's revitalization strategy. After excluding the significant lease termination fees during the quarter, our FFO per unit is expected to be relatively flat next quarter with the previously mentioned vacancy of Bell at 700 DLG offset by a lower unit count. This week, we closed on our $240 million SIB, shrinking the float from 75 million to 65 million units, providing for future growth in NAV to have a greater positive impact on a per-unit basis. Following the SIB, our pro forma leverage is temporarily at 48%, which will reduce as capital from future dispositions if used to reduce debt. Additionally, with the recent amendments to our operating lines, where we have increased availability and term, we have over $400 million of available liquidity today, which is more than sufficient to repay the $140 million of unsecured debentures maturing this June.Our operating performance continues to be muted by our weaker assets and major vacancies with 2019 being the year we see operating performance stabilizing and improving. Toronto and the GTA comprise almost 70% of our property value today and will become an increasingly significant contributor to our results over the upcoming quarters as we continue to execute on dispositions, concentrating our capital in Toronto and reducing our exposure to other markets. Toronto represents the bulk of where we are spending our time and effort as strong office demand provides us the confidence to focus our human and investment capital to drive long-term value.And with that, I'll turn it back over to Michael.
Thank you, Rajeev. At this time, we'll be happy to answer any of your questions.
[Operator Instructions] And our first question comes from Sam Damiani from TD Securities.
Just on the balance sheet with levered now 48%, obviously, it's going to go down, but longer term, as more capital gets invested into developments, where do you see leverage comfortably sitting 1 year or 2 from now?
It's a great question. I think there's 2 parts to it. As we sell more assets, we'll bring it back down most likely to around 40%. On the development side, that's a couple years out. And I think there, what happens is we have enough equity into the properties to we develop without -- we don't need any more money. We can borrow money up on a cost-complete basis to finish the project. The question becomes, how much value creation is there? So if we got a property like 250 Dundas, that's $40 million. I'm making this up. Let's say we borrow another $160 million. That'll add a lot of debt but at the value -- the underlying value goes to $100 million, then that might go up by 150 or 200 basis points. So a lot of it has to do with how much value creation there is. But the development is going to be relatively slow, so I don't think it's going to be a significant amount.
That makes sense. I understand that. So -- but just for 2019, the numbers have been moving around a lot, obviously, the last of couple years. But for 2019, we're kind of counting on more of a steady state, and just in terms of forecasting there, just what leverage -- what sort of net disposition activity should we expect for the balance of this year, I guess, if there's any guidance you can give there.
Yes. It would really be down about -- we'd expect to be down about 300 basis points-or-so, maybe 44% after we deal our dispositions.
Okay. Second question, and maybe touching on stuff maybe you want to save for next week, but when you look at the project at 250 Dundas West and future projects like it, I mean, how do you think about return on capital? And how much do you take into account the property's current value in its current state? What sort of return are you expecting over a 5-year period if you started to -- demolish it and then a redevelopment today?
Yes. I mean, look, I think that a lot of things are moving in the market right now. Planning is really unpredictable, but residential rental is probably worth somewhere between $150 and $200 a foot. That's what the density is worth. So I would look at it based on what our average value is today, what the valuation becomes when you achieve your zoning and then how much increase do you get executing on it. So yes, we include full land costs, full market value of what we have now. And that's the reason why we've been getting the share count down is so that we can divide that gain by a smaller amount of shares. But in that one, I don't know, it's about 500,000 square feet, 130,000 of it is commercial. Commercial might be worth, what, $100 a foot. So you got $100 -- that's $13 million. And then you got another -- something like 370,000 at $150 will be another 50 -- but I think it's about $70 million -- just the zoning will take you from $40 million to $70 million.
And just to be clear, your intention -- sorry.
I beg your pardon?
Go ahead.
Everything is net asset value. That's what the return that we look at is.
Okay, okay. That makes sense. That answers the question. And just to be clear here, I think the plan is -- with this one and future projects is to make the application, get the zoning approvals and actually execute on the redevelopment as opposed to just sort of selling the rights.
100%. We don't consider that.
Okay. I don't want to hog the puck, but I'll just ask one more. Obviously, the staff at Dream Unlimited has been involved in 250 with the application and everything. How are the economics going to be shared? And what's the arrangement with this and future projects with Dream Unlimited?
We're working on that. In fact, we're kind of specializing between the companies. So effectively, 100% of the profit from any development of Dream Office's properties will go to Dream Office. [ We'll profit on this ], but Dream Office will get 100% of the profit.
[Operator Instructions] We have Sam Damiani.
It's just us. We can have a private call, if you want. So you spoke about, obviously, the value from excess density. Does your IFRS right now include any component on any property for any value over and above the existing improved properties?
Yes. Sam, it's Rajeev. No, everything right now is valued basically using an income methodology as an office use.
And what would be the rules under IFRS for when such value could be rolled into the balance sheet? For example, [ 250, do you think... ]
Yes. I'd say once -- I'd say, probably, the nearest opportunity we have to do that would really be if we got an application approved. That's probably the trigger event for us.
All right, yes. And that's, I guess, what, 1 year away or whatever.
I suspect it's longer. It's an estimated 2 years.
Right, okay. And then Eglinton and Birchmount, you've done a temporary lease there, and I don't know how long it is.
No, no, no. That's a 15-year lease. That's a long-term lease.
Okay. 15-year lease, okay. So that sort of suggests that either that project has kind of been shelved for now or there's a portion of the site that you still want to redevelop...
No, what happened is -- the city requires that if you have an employment site and then you do residential, you keep a significant -- a substantial amount of commercial. So as part of that development, in any event, we would be required to have commercial space. So the main building there is what was leased, and that would stay through development. What's important about this one is this is like in that Golden Mile secondary plan. The other owners are Kingsett, Choice, SmartCentres, RioCan and us. This is a 15-acre site. The commercial will probably be on an acre-or-so. And we're going to start our planning on that one probably this summer, but we'll be looking for a lot of density. And what's great about that lease, what makes it so -- the reason why I like Andrew Reial so much is that, that lease means there's no cash required on that site so that we can go about planning for the best outcome with no cash drawn. And then as we get that stuff rezoned and get underway, it'll be a good benefit to the company without having to have like -- I guess we were looking at something in excess of $2 million of losses every year it took us, so that lease is a real great strategic thing because the light rail transit is opening in about 18 to 24 months, and it's stopping right at Birchmount. And I suspect we're sort of right in line to know what we're doing when it opens and get the full benefit of having public transportation right there.
Okay. And maybe just on Adelaide Place, not overly material in the grand scheme of the whole company, but I mean, you talked about a revitalization of the retail. I wondered if you could give a little more color as just what you envision there.
Look, we're going to try to do more to animate all of our buildings, particularly in downtown Toronto. There's a lot of space in Adelaide Place that isn't used. It's a very prominent location. So I mean, we're rethinking that whole ground floor now, and we're working on a number of ideas that are kind of battling for pole position. So we'll show you when we got it, but I think we could have extra space there. I think we can generate a lot more revenue and create a space that our customers are quite comfortable in.
Our next question comes from Matt Kornack from National Bank Financial.
Just quickly, in terms of the bridge to get to the turnaround on NOI, it sounds like the big positive is Q4 when you have your University Ave lease come on. But are you expecting sort of a negative quarter into Q2 and then a turnaround in 2018 on just rent steps, et cetera?
That's right. Yes, Matt, you got it right. Bell at DLG impact in Q2. And really, Q4 is when you got the IO lease at 438 University coming online.
Okay. And then I saw, and it's probably -- you're probably happy with this, but First Tower's no longer part of the portfolio. Just wondering, do you see further sales in Calgary at this point? It looks like you've got term on a lot of the existing ones so you can probably stay there for a while. But also, have you seen any improvement in the leasing environment there as oil ticks up? I know it's still early days, but any sense on that?
The call was going so well, Matt. You are right. There was no tear shed when First Tower was sold. I don't know -- I don't think Calgary's going that well, but I think oil's up. And I think you could see some further sales, but we haven't made up our minds.
Okay, fair enough. And then last question from me with regards to the balance sheet. You've got credit facility availability. Do you anticipate the divestitures being used to repay your unsecured debenture that matures? Or will it be drawn on the credit facility in the near term and then followed up -- paid down with...
Yes. I mean, I sort of look at -- a little bit fungible, right, so depending on timing of dispositions. Right now, we're drawn on the lines. So for the credit facility at this juncture, that would be the primary source of paying off the June $140 million. So it's a debt for debt, right. And then dispositions will pay back the credit facility over time.
And then, I guess, one quick follow-up on that then. The dispositions, is it still the noncore markets that you'd be potentially looking to? And you spoke to your Dundas Street property. I mean, would you, at some point, get the zoning and sell those types of buildings? Or what's the view there?
Okay. So firstly, we have properties that we're working on now that are our noncore properties are part of our ongoing plan. Our board told us to never call it a strategic plan again, so it's not that. So we're continuing with that. And then we'll use that to pay down debt. With regards to development properties, I think that our view is the real upside is to actually do those development ourselves and get the development profit plus the growth in income once they're complete.
Our following question comes from Mike Markidis from Desjardins.
Again, not trying to steal thunder from next week's AGM.
There's lots of thunder. We're going to [ call it Thunders ] Thursday.
Lots of thunder. All right. Great. Thunder Thursday. That sounds good. With respect to the sequencing, is there any other -- I mean, 250 Dundas has been -- application has been submitted. It sounds like your preliminarily pending on Birchmount, but that will start soon. Would that be the next big one in terms of a potential application being submitted? Or is there anything else that might come before that?
So what we're really focused on now is we want to get the application in on 250 Dundas for some specific planning reasons when we got it in, so that was a rush. On Eglinton and Birchmount, it's got some different planning issues and opportunities, so there's no rush on that. But we will get to it this summer. We are working on -- which will take even longer. 212 came with our neighbor. We're looking at how to build something really special there because that's an insane site. And then the other one is 357 Bay. We're looking to doing an intense redevelopment of it but keeping the skin, keeping the whole building weighted on exterior. And I think that within the next 3 to 6 months, we'll have details on what we're doing there. So those are the 4 buildings that we're really focused on.
Okay. Do you see yourselves -- I mean, it sounded like you're not going to sell any of the air rights on the potential intensification. Do you guys see yourselves bringing in any partners to effect the redevelopments or intensifications on the site?
I don't think so. I mean, that's -- it's an odd question in that we have no intention at this point of doing it. One of the great things about Dream Unlimited doing $500 million of development a year for like the last 20 years or something, we have a lot of this skill. So I don't think we would bring a partner in because they can develop it. So I told you, at 212 King, we would partner on that one only because we need the neighbor's land, and they need ours. So that one is a really strategic reason. Other than that, I think our plan at this point is to develop on our own.
Okay. And last one, and this might be a little bit more of a boring question for Michael. But Rajeev, just as these -- you start to invest -- as you start to invest capital in -- the preliminary capital in the preplanning stages and the development submissions, have you started to put together some sort of like -- I guess, are you capitalizing interest at this juncture, number one? And apologies because I haven't had a chance to dig through the MD&A yet. And then, secondly, are you seeing yourself putting together some sort of property under development disclosure to help people in your MD&A?
Yes. So first question, interest, no, we haven't capitalized a penny as yet. The second, yes, we need to think through how we're going to, let's call it, enhance our MD&A to give that disclosure. We haven't done anything yet. Stay tuned.
Our following question comes from Mario Saric from Scotiabank.
Maybe just one quick question for Rajeev. So you talked about kind of pro forma leverage on a debt to fair value basis. After the $200 million of assets are sold, what would be -- the pro forma debt to EBITDA be?
Yes. So assume 50% leverage on that -- I don't know, say, 45%.
So 45% LTV on the $200 million?
No. I said, on the $200 million, assume 50%, so you get $100 million of capital. You reduce the -- I haven't done the math, but assume 50% loan to value on the $200 million.
Okay. And then, again, maybe this may come out on Thursday, but just want to -- when I sit back and think big picture, you've done a very good job of transforming the company over the past 2 years. The market has reflected that. You sold a big part of the company. You've really shrunk the size of the company, really focusing on core assets with long-term growth potential. You're focusing a bit more on development. There isn't a ton of leasing risk in the story over the next couple years. And then the development, while the process takes a long time, really, is kind of 2, 3 years onward in terms of execution on the construction side. So for Michael, like how do you spend your time with Dream Office in the next couple years? Like where do you focus your time?
Come to Thunder Thursday. No, honestly, on Thursday, we're going to talk a lot about how we're looking at our assets. Rajeev gets this call. He will not be speaking at the Annual. It's all going to be about qualitative things. So I think we'll show you the kind of stuff we plan on doing to our buildings.
Okay. I'll be there on Thursday.
Thank you, Mario.
We have no further questions at this time. I'd like to turn the call over to Mr. Cooper for final remarks.
Thanks, everybody. I think that it's a pleasure to have a new name for our Annual Meeting day. And I hope you guys will all come by. We have 5 companies reporting. It's going to be a real chance to get to know our whole business. Thank you.
Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.