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Thank you for standing by. This is the conference operator. Welcome to the Melcor REIT Fourth Quarter and Full Year 2020 Results Conference Call. [Operator Instructions] And the conference is being recorded. [Operator Instructions]I would now like to turn the conference over to Mr. Darin Rayburn, President and CEO. Please go ahead.
Thank you, Charice, and good morning, everyone. I'm here in Edmonton with Naomi Stefura, our Chief Financial Officer, and we're appropriately socially distanced in our Boardroom. It is our privilege to report to you, our unitholders, on the Melcor REIT 2020 results. It's hard to believe it was 1 year ago today that the first diagnosis of COVID-19 in Alberta was announced. To say 2020 was a year of extreme personal and professional hardships for so many would be an understatement. But here we are.1 year ago, we were entering into a rabbit hole, not knowing where it would take us. Now we sit with optimism and hope as we see potential end in sight.I would now like to turn the meeting over to Naomi to review our financial results for 2020. Naomi, please go ahead.
Thank you, Darin. If you have not reviewed the materials related to this call, including the management discussion and analysis and the financial statements, they are available on the Investor Relations section of our website at melcorreit.ca and on sedar.com. Our goal is to keep our remarks to a brief high-level review of the year and then open up the call for your questions.First, certain statements made during this call may be forward-looking. For a complete discussion of items that may cause actual results to differ, please refer to the Business Environment and Risks section of our MD&A.Second, we report our financial results in Canadian dollars and in accordance with IFRS. We supplement our financial reporting with nonstandard measures, including funds from operations, adjusted funds from operations, adjusted cash flow from operations and net operating income. We believe these measures are important in evaluating our performance but caution listeners that they may not be comparable to similar measures presented by other companies. These nonstandard measures are defined and reconciled in our MD&A.I will now walk everyone through some of the financial highlights of our results for the year ended December 31, 2020. And what a year it was. Our portfolio performed consistently with growth of 5% for rental revenue and growth of 3% in net operating income compared to 2019. This growth was driven by portfolio GLA growth, most of which took place late in 2019.FFO for the year was down 1%, and ACFO was consistent compared to 2019. Fourth quarter FFO and ACFO was significantly impacted by the recovery of previously recorded bad debt expense as well as proceeds from Melcor's participation in the Canada Emergency Wage Subsidy program. As such, the fourth quarter operating expenses should not be seen as a representation of operating expenses going forward.Distributions made during the year ended December 31, 2020, represents a payout ratio of approximately 69% of ACFO compared to 102% in 2019. The decrease in the payout ratio was most significantly impacted by the decrease in the distribution paid for the months of April through December of 2020. Subsequent to year-end, the Board increased the monthly distribution for January through March of 2021 by 17% to $0.035 per unit.The REIT's portfolio of valuation remained stable in the fourth quarter, following a full revaluation of the portfolio by our external valuation professionals in the second quarter. Approximately 89% of the portfolio realized a valuation write-down during the year, with losses ranging from 1% to 17%. The revaluations resulted in fair value losses of $62.75 million for the year.We completed CECRA applications on behalf of 79 tenants, representing approximately 8% of the REIT's billed rents for the program period at a net cost of $710,000 for the 12 months ended December 31, 2020. During 2020, we also recorded $1.04 million in bad debt expense unrelated to the CECRA program as our expected credit losses have increased in the current environment.As at December 31, we had $3.74 million in cash and approximately $25 million in additional capacity under our revolving credit facility. Creating this additional room on our credit facility was a conscious effort by management and the Board throughout 2020 to ensure sufficient cash availability during the COVID-19 crisis.During the year, we refinanced 4 secured debts, providing gross proceeds of $32.89 million at a rate of 2.8%, retiring $15.2 million in maturing debt. Additional proceeds were primarily due to refinancing of 2 phases of Leduc Common and Edmonton area retail center, which had a maturing loan value -- maturing loan-to-value of 29%.Early in 2020, the Board suspended buybacks under our NCIB program and canceled our automatic share purchase plan to conserve cash at the height of the first wave of COVID-19. The Board has determined that the NCIB will be reactivated when our trading blackout ends. We also intend to renew the NCIB at its expiration at the end of March 2021.I will now turn the call over to Darin, who will speak to our portfolio's operations and performance.
Thank you, Naomi. And a shout-out to you and your team for helping us navigate through the ever-changing tenant government assistance programs and the reporting and disclosure requirements for a publicly traded real estate company.As the early COVID-19 situation was unfolding, our operations team focused on taking care of our ecosystem: our tenants, suppliers, our staff and all our stakeholders. Our tenants are also partners that we work with, restaurants we eat at, retail shops we support, consultants we rely on, companies our friends and families work with, service providers who support our communities. They pay us rent. We support their business in the ways we can. We move quickly to respond to their needs with intentional actions to manage through the crisis.Our first focus was on cash conservation that Naomi spoke about, so that we'd be able to support our tenants as their businesses were impacted. We immediately did the things that would shore up our cash position. We cut our distribution that was half, took advantage of all deferrals that we could in mortgages, utilities, et cetera. We temporarily suspended our normal course issuer bid. We deferred all unnecessary capital spending maintenance plans, not only to conserve cash, but to limit unnecessary activity to partly contain the spread. We were both applauded and criticized for these same decisions.We continue to focus on leasing and relationships with our tenants who are the very heart of the Melcor REIT. Our tenant retention rate in 2020 ended at 83%, and we leased 87,000 square feet to new tenants. Between new leases and renewals, we leased 56% more space based on gross leasable area than we did in 2019 without experiencing significant rate reductions.At year-end, the occupancy rate ended at 88%, exactly where it started, thanks to the efforts of our leasing team. For the REIT operations team, we focused on taking care of safety, messaging and protocols to keep clients, employees and visitors safe. We work with many of our tenants, helping figure out how to apply for the government CECRA program, how to figure out how to move their businesses forward and navigate these times. Our teams acted with conviction, with resiliency and with dedicated service to our tenants.Throughout all the quick chaos, throughout all the concern and worry, we saw tremendous growth in our people. They stepped up. They took on new challenges and helped that were necessary with bravery and commitment. Our tenants noticed, and we're appreciative. No one could have predicted where this year would go. And so on behalf of the trustees, the unitholders, we express our extreme gratitude to the REIT team responsible for exceeding our expectations; for building even stronger relationships with tenants; for keeping COVID cases contained, and in fact, we had fewer than 10 notifications of possible infections throughout our entire portfolio; for leasing space over Zoom and virtual tours; and for proving that we could do more than just survive a year like 2020.From an asset productivity perspective, our same-asset NOI was up 3% in the quarter due to timing of our operating costs. But the full year same-asset NOI was down 6% over 2019 due to $1.75 million in bad debts recorded in 2020 that Naomi spoke about.However, if you exclude the bad debt, same-asset NOI is only down 2%. Now we don't typically celebrate a reduction in same-asset NOI. I'll tell you what, though, after the year we had, considering where we've been and where I think we're going, it feels pretty good.Throughout 2020, we solidified time and again the reasons we are the landlord of choice for so many of our clients. I'm extremely proud of our team's execution on all fronts in what continues to be a challenging market.The Melcor REIT is also committed to corporate sustainability, in environmental practice, social responsibility, governance and as stewards in the areas where we operate. Attaining best practice in all aspects of our business is our constant aspiration. Our property management practices are designed to improve operating efficiency and reduce costs, while at the same time, increasing client satisfaction and thus increased retention rates.Our capital spending strategy focused on equipment upgrades and maintenance initiatives that will reduce energy consumption in our properties. Some examples of our environmental best practices are upgrading to LED lights, motion-sensing lights that turn off, active recycling programs. We also engage specialists to monitor and analyze our energy usage and identify potential improvements. Of the benchmarked properties from 2012 to 2020, we realized reduced electricity consumption of 21%, decrease in natural gas consumption of 4% and reduced equivalent greenhouse gas reduction by 32%.One of our buildings achieved ENERGY STAR certification in early 2020, recognizing the top 25% most efficient office buildings in Canada. We continue to track our other office buildings for this qualification.We demonstrate social responsibility through our relationships with tenants and the communities where we operate. Our commitment to be the landlord of choice is much more than a slogan. It's lived by every team member. The REIT's asset and property manager, Melcor Developments Ltd., is committed to fostering a diverse, inclusive and safe work environment. Melcor places people at the heart of its strategy, and 1 of its 3 core values is to empower and care for the exceptional team.Melcor's human capital strategy emphasizes health and wellness. The benefits available to employees for psychological services were doubled in 2020. We're encouraging managers to check in on the mental and emotion well-being of staff, and that was a top-down focus throughout the year and continues throughout 2021.Being invested in the communities where we do business is also an important part of who we are. As we pursue excellence in our business, we also want the communities where we do business to be the best they can be. We give where we live to build strong communities. Our giving and involvement focuses on key pillars of strong communities: education, health, youth, sports, public gathering places such as libraries, and social programs that lend helping hands to those in need.From a diversity and inclusion lens, of the Melcor management team that oversees leases and manages the REIT portfolio, 44% are female and 27% are visible minorities. A diverse and an inclusive team fosters more innovation, better intentional collaboration and decision-making with a greater scope of experiences and perspectives. Our focus on relationships extends to our service providers as well. The majority of our service providers are local, and many are small businesses that support our local economies.We're also committed to effective corporate governance practice as a core component of our operating philosophy. Strong governance practices form the foundation of a sustainable company and long-term value creation for unitholders. The REIT's Board of Trustees reviews our corporate governance practices annually to better align the REIT with industry best practices. Some examples of our effective corporate government practices include the majority of our trustees are independents. We appoint an independent lead trustee. All arrangements from Melcor require approval by a majority of the independent trustees, providing independent oversight on all transactions to represent the interest of minority unitholders.The audit and governance committees are both comprised of 100% independent trustees. 1/3 of the REIT's independent trustees is female, and 1/2 of the REIT's executive team is also female.In 2020, we reviewed our practices and the steps taken in our response to COVID-19 as potential impact on the REIT. Our trustees concluded that our duty of care with respect to protecting the assets, earnings and distributions of the REIT was handled in a responsible manner.We remain focused on securing sustainability until we have greater certainty on COVID-19's impact on our business. And in early 2021, Melcor REIT formally established an independent committee to examine the agreements between Melcor Developments and the REIT and other matters as directed by the Board.Okay. So 2020 is now in our rearview mirror. What's next? Well, we stick to the fundamentals of real estate. We are after all bricks-and-mortar real estate people. We will work with our tenants, get the most of our assets and continue to look for opportunities. We'll pivot towards the new normal, whatever that eventually may look like.We're not going to risk long-term sustainability for short-term profit. Listen, we understand as investors, it's about distributions. And the distribution cut that Naomi mentioned that we did in 2020 is something that we support and was well deserved. We're also very happy to increase our distribution, and stay tuned for further discussions in the future.Let's get our tenants back to work and open and then figure out where we go. Once we get through our COVID recovery, we need to find ways to continue to grow and to provide sustainable, consistent returns for all our unitholders. With a diversified portfolio, proven management team and a history of adapting through challenging times, we remain well positioned to continue to manage through this time.In closing, I'd like to express my appreciation for our trustees. Thank you for your ongoing support, guidance and wisdom, and particularly over the last 12 months. We're also incredibly grateful to Melcor Developments operation, leasing and administration finance teams for their commitment, their passion, their dedication and exceptional work they do every day to take care of our tenants and to manage our properties. I'm extremely proud of our team's response to the unforeseen challenges created by the onset of COVID-19.To our tenants and clients, thank you for your business. We commit to continue to work together to respond to the crisis and find ways through so we can all move forward. Finally, I thank our unitholders for your ongoing support and trust in the REIT and our business. Yes, the road has been bumpy and the past year particularly difficult. But we appreciate your notes of support, your questions, your suggestions as we all navigate through these unprecedented times together to do our best to make the right decisions for everyone. We are, after all, an ecosystem that relies on one another, and we strive to take actions that support our unitholders and tenants for the launch of success at each and every one of us.We are now happy to take your questions. Charice, can you please open up the phone line?
[Operator Instructions] The first question comes from Kyle Stanley with Desjardins.
So just looking at occupancy for a second. It was down a little bit sequentially. And I'm just wondering how much of that was related to the short-term leasing that was done in the third quarter rolling off or just maybe if you can elaborate a bit on that.
Yes. Just so I understand the question, Kyle, when you thought it was down, you mean throughout the year?
Well, I think -- so I think last quarter, it was just above 88%. And then I think at year-end, it was just below?
Yes. So to your question about the short-term leasing, just generally speaking, from a high level, we're seeing more short-term leasing during COVID. We're seeing especially sort of the second half of the year.So I don't have that number in front of me, Kyle. Naomi and I will definitely get back to you on specifically. But the answer to your question is that the short-term leasing didn't make up a significant amount of the occupancy maintenance.
Okay. Okay. Great. And then just looking -- so in 2021, you have about 10% of your leases maturing. The bulk of that looks to be in Northern Alberta. So I'm just wondering how your conversations are going so far. And then are there any leases there that you're somewhat worried about?
Sure. Okay. Well, if you look at the top 25 tenants by square footage that make up a portion of that 10%, we've already completed renewals with 10 of them; we are in active conversations and papers exchanging on 8; the other ones, we're continuing working through.So from a general 2021 renewal perspective right now, we're feeling very positive about it. We're not seeing significant rental reductions in retail. We are seeing some rental reductions in office in Northern Alberta.So generally speaking, to date, we are tracking ahead of where we were to date last year. And I'll remind everyone, today last year, we still weren't fully aware of what COVID was. The latter started pretty good as well.
Okay. Great. And then Naomi made -- or mentioned this earlier, but I'm just wondering how much of the emergency worker subsidy contributed to the lower OpEx? Or just maybe put another way, like what was the extent of onetime items included in your NOI this quarter?
Yes. So approximately $300,000, I guess, of subsidy was booked in Q4. So that would be anomalous, for sure. And then there was another sort of approximate $350,000 reversal of a bad debt we have recorded in a previous quarter that we actually collected, surprisingly and happily, in Q4. So I guess, in combination, those 2 items are affecting OpEx in Q4.
Okay. Okay. That makes sense. And then I guess just last one for me, just with regards to any transactions in your core markets. I mean it doesn't look like there's much product trading hands. But I'm just wondering what your views are maybe on the lease potential external growth in 2021? Or will the focus really just remain on operating the leasing portfolio?
No. Our stated focus after March of 2020 was focus on operations. And while that continues in 2021, we have a history of acquisitions in the past.Kyle, the markets are very different even between Calgary and Edmonton, Kelowna, Regina. We're seeing a lot more industrial properties being listed in Northern Alberta, and that's just a recent thing.So my answer to you, Kyle, is like we're always looking. I mean, truthfully, with our unit price low, it makes it a little more challenging to find an accretive deal, but it doesn't mean we've stopped looking. So stay tuned for that.
The next question comes from Jenny Ma with BMO Capital Markets.
Darin, could you give us an update on some news from last -- in late last year, when you had an investor make some requests of the Board and of management? And I know you formed a meeting and issued a press release on some of the ways you're going to approach governance. But could you let us know if you're still in discussions with that investor? Or has that issue been more or less resolved?
Sure. Thanks, Jenny. It's an important question. I mean, first and foremost, let's be completely frank. All unitholders have a voice. They have that right. They're investors. I'm a unitholder. I have a voice. Everyone does, too. So what Jenny was referring, to everyone who doesn't know, is in December -- November, December, there was some correspondence in a press release from an investor, who, again, was asking about our strategy, our governance, the rest of it.I can tell you that on December 4, which was the annual strategic planning and budgeting session for the trustees, these specific items were addressed. And then a press release was released on the 8th. And the press release basically just said, we understand concerns. We think that it was an odd year. We're comfortable with the governance we have in place, but we need to do a better job expressing and explaining to these people that governance, which is what I tried to do in my speech today. We've done on that.So it wouldn't be fair to say that, Jenny, it's over because I don't think, as a company, it should ever be over. Independent unitholders always have a voice and have the ability to push that voice. As far as this specific instance, we hope that we've addressed some of the concerns and continue to work forward to address more.
Okay. Great. With respect to the distribution, I know there was a bump for this quarter. I'm just wondering how we should think about the distribution going forward. Is it -- should we take the Q1 distribution and sort of anchor in that number and it gets revised every quarter? Or is it more like every quarter is sort of a clear slate and you rethink the distribution every single quarter without really thinking about where is that currently?
Sure. Fair question, Jenny. What we see today, I would take the first quarter and smooth that out through the year. Again, I'm hoping that's wrong. I'm hoping that people get open, people spend money, things are fine. And I know that we're actively discussing these with our trustees. But as it stands right now, until we see the full effect of what 2020 did to our tenants, you will see consistency at this point. And let's see what the future brings us.
Okay. So I guess, is it fair to assume that the distribution is up for review every quarter until we're pass COVID and when you can explicitly state that we feel we are back to a mostly steady state and we can sort of rely on this distribution level? Like do you expect to give us that kind of communication when the time comes?
Yes. Absolutely, Jenny. And we talked about this with our trustees in our meeting yesterday, that it's top of mind for everyone. And so we, as management, have been instructed to keep our trustees on a monthly basis -- they'll be discussing it accordingly, but on a monthly basis, updating them on how we're doing coming out of this. And we will definitely be communicating on a quarterly basis to the market.
Okay. Great. And then there was a reference to an office deal that you did for 17,000 square feet that was short term in nature and growth in op cost only. Can you give us a little bit more color on maybe where that was, what the situation was and if that's characteristic of some of the other short-term leases that you've done?
Yes. Jenny, I just want to make sure -- we've had a couple of them, too. So I'm going to go off the top of my head because I don't have that list in front of me. But let me just talk about generally for short-term leases. In June and July, when we were concerned about occupancy, there was more of a push towards short-term leases. We're getting away from that now as well.So I'll get back to you on specifics, Jenny, because I don't remember, honestly, what exact tenant that one is. But having said that, that is not a trend. We have not changed our strategy to go towards short-term gross leases. We still think there's an opportunity. And we're seeing in our renewal discussions now that as the economy opens back up and tenants want to go back to work, they're thinking longer term. So we're looking at 5- and 10-year deals again.So again, just to be clear, definitely get back to you on that specific lease. But I want everyone to understand that, that is not our new leasing strategy, to do short-term gross lease deals.
Right. Yes, that's definitely understandable given the circumstances we went through last year. But I guess when you say short term, are they sort of month-to-month open-ended? Or are they kind of in 6-month increments? In other words, like should we expect some of these to start burning off about now or in a year's time? Or is it really just open-ended?
Yes. No, we were not doing open-ended because, in most cases, there is some cash component required, whether it's carpet or paint or something required. So our goal in 2020 was not to spend money unless we have certainty of income. So again, the short-term leases would not be just on a month-to-month basis, except for the odd smaller deal.Thank you for the question, Jenny. And I will get back to you on that specific deal. I apologize about that.
[Operator Instructions] The next question comes from Matt Logan with RBC Capital Markets.
Darin, in terms of your leasing velocity, it seems like things are progressing positively in the first few months of 2021. Based on the current environment, do you think the new leasing will be sufficient to backfill any space that's given up this year in terms of gross rent?
Based on our first 2 months of leasing, I would say yes. Now the unknown is the clients who are hanging on, waiting for the Alberta economy to open up in 3 weeks. And if that's pushed out another couple of months, I think all bets are off. But from what we know today based on our existing clients and for what we know today based on the new leasing that we've done that's coming into effect in 2021, we will more than just hang on where we are. And in fact, we should be ahead.
That would be fantastic if the world just opens up.
It would be, Matt. It's really fantastic. And I agree, my friend.
In terms of the recoveries, how should we be thinking about those as a percentage of OpEx? That was around 92% in 2018 and '19 but slipped to about 85% of OpEx last year on some lower occupancy. Any color on how we should be thinking about that would be appreciated.
Yes. We see that increasing, and I'll tell you why. It's just a matter of volume, again, based on leasing and renewals. With the lens right now, and this is not intended to be a forward-looking statement, but what we know -- again, we see more activity, and we see new income that's going to come into our portfolio over the next 4 to 5 months as these leases take effect. So as occupancy increases early in the year, that should have a positive effect on that ratio and raise the recovery percentage.
So I guess, even if the gross rents might be a little bit lower, having more occupancy should help recoveries and therefore the top line?
Correct.
Excellent. And so I guess, maybe big picture, you talked about rethinking a few of the relationships with Melcor Developments or at least reassessing them. Could you give us a sense for what that might entail?
Sure. Well, I mean, there are property management and asset management agreements that are in place right now. They were set up at IPO. They were marketed at IPO, and we received some comments from some investors that question and thought that perhaps they weren't to market. So part of that independent trustee committee that was set up is to review our existing agreements, what's out there in the market. We want to make sure we're being fair. And when we started this in 2013, we were very vocal about the fairness side of it.So again, it's those recoveries that will determine what goes forward. As it stands right now, likely, we don't see any changes, but it is under review by the independent committee.
Appreciate the color. And maybe just one last big-picture question for me. What would your top 3 priorities be for 2021?
Cash and tenants, cash and tenants, cash and tenants. Actually, I will put some more thought into that, Matt, because it's a really valuable question. We can sit here and say, "Oh, 2020 was crazy. We did what we could." But honestly, we've now been doing this for a year. Everyone's gotten better. Everyone's sort of figuring out how this works. So what our priority is -- before we were just trying to get our tenants out and keep them safe and all that kind of stuff. Now we're really working with our tenants to help them get back and opening. So we need to make sure that, that 88% occupancy doesn't go down for some unforeseen vacancies. So first priority is getting our tenants back and set up, making sure the assets are functional and clean and that our tenants feel safe. Because we all know for those that haven't been in the office, when they go back, the first thing they're thinking about now is your handling system and the washrooms. And so that's a real big priority. But that's not a full 2021. I see that being hopefully no longer than about 3 or 4 months as the vaccines come into play. So that's one of the priorities.Again, the second priority is in some of our markets, it's not all bad, like we're seeing some increases. Some of our retail has gone up in value. We're seeing the Alberta entrepreneurial spirit come back in, and people are spending money. Benjamin Tal reminded everyone the other day, there's about $90 billion in excess savings in Canada right now that's sitting in the bank. And I just look at my 28-year-old daughter who can't wait to get out and spend her money. And I think that will bode well even for the Alberta tenants. So again, we want to give people that opportunity.Beyond that, we are still a REIT. We have a fiduciary duty to pay distributions to our unitholders. We need to figure out a way to grow those. We stated in 2013 -- I don't need to make much of excuses on where we are in 2021, but the reality is that still hasn't changed. And so that's the priority. And then again, beyond that, it's just about the long-term sustainability.So that was a much longer answer than I expected to give you, Matt. But hopefully, that gives you a little focus on where we're coming from the C-suite for the Melcor REIT.
This concludes the question-and-answer session. I would like to turn the conference back over to Mr. Darin Rayburn for any closing remarks.
Well, thank you, again, everyone. I guess I could go on for how long the year has been and what it's been like, but the reality is we're in 2021 now. So we are looking forward, not back. All that we can hope is that everyone on this call stays safe, stays healthy. And let's start talking about the positive things that are coming out of this and not the negative things we've been dwelling on.So everyone, have a good day. Have a good weekend. Thank you for your interest in the Melcor REIT. Please don't hesitate to share your thoughts, comments, questions, concerns because we are as aligned as everyone in trying to keep this successful for all of our unitholders. Thanks, everyone. Good day.
This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.