Morguard Real Estate Investment Trust

TSX:MRT.UN

Earnings Call Transcript

[Operator]

Good afternoon, ladies and gentlemen, and welcome to the Morguard Real Estate Investment Trust First Quarter 2020 Results Conference Call. [Operator Instructions] This call is being recorded on May 1, 2020. And now I would like to turn the conference over to Andrew Tamlin. Please go ahead.

[Andrew Tamlin, Chief Financial Officer]

Thank you, and good afternoon, everyone. Just as a point of introduction, my name is Andrew Tamlin, Chief Financial Officer of Morguard REIT. I'm joined this afternoon by John Ginis, Assistant Vice President of Retail Asset Management; Tom Johnston, VP of Western Asset Management; along with Rai Sahi, Chief Executive Officer and Chairman of the Board. Thank you all for taking the time to join the call. Before we jump into the call, I'd like to point out that our comments will mostly refer to the Q1 2020 MD&A and financial statements, which have been posted to our website. I refer you specifically to the cautionary language at the front of the MD&A, which would also apply to any comments that we make on this call. During March 2020, the outbreak of the novel strain of coronavirus has resulted in governments enacting emergency measures to combat the spread of the virus. These measures, which include the implementation of travel bans, self-imposed quarantine periods and physical distancing, have caused an economic slowdown and material disruption to businesses. Governments have reacted with interventions intended to stabilize economic conditions. The duration and the impact of the COVID-19 outbreak is unknown at this time. It is also not possible to reliably estimate the length and the severity of these developments, along with the impact on the financial performance and the financial position of the trust in future periods. Everyone has been impacted by the global efforts to reduce the spread of COVID-19. With the guidance of public health authorities and at the direction of various levels of government, the Morguard Group has implemented measures to help reduce the spread of COVID-19, including intensified cleaning, focusing staff efforts on cleaning high-touch point areas at all of our properties using approved cleaning products; management offices are staffed, but doors are locked; adding additional hand sanitizers to help tenants maintain recommended practices for handwashing; and posted health and safety best practices reminders to increase awareness of the most current guidelines. The trust is actively monitoring the ongoing developments with regards to COVID-19 and is committed to ensuring a health and safety environment, adjusting its service model as necessary. Further, the entire Morguard Group is working to ensure that proper protocols are put in place so that both our office and retail tenants can operate in a safe and effective manner once the government restrictions are lifted. I will have more comments later on the call about the specific impact of COVID-19 on Morguard REIT. The first quarter of 2020 was a quarter with results fairly in line with expectations, albeit down compared to 2019. This was the first quarter where we have seen the impact of the rent forgiveness provided to Obsidian Energy being reflected in the numbers. Obsidian Energy is the sole tenant of Penn West Plaza in Calgary, but had conducted significant subleasing in order to reduce their burden. Their banking syndicate imposed a rent forgiveness arrangement as a condition of their renewal, along with the transfer of the sublease amounts to the trust. These arrangements, as previously disclosed, are expected to reduce net operating income by approximately $575,000 per month or $6.5 million to $7 million on an annual basis. Two of these months were included in the first quarter of 2020. Combined Q1 2020 occupancy rates remain relatively unchanged year-over-year and since year-end at approximately 93%. Same-store NOI for the enclosed regional centers were down about $1 million due to increased vacancies in this asset class. Same-store NOI for all other asset classes combined increased 0.5%. Total net operating income declined $3 million for the first quarter in 2020 due to 3 main reasons: The decline in same-store enclosed regional center NOI; the Obsidian adjustments; and a decline of almost $700,000 in lease cancellation fees from 2019. And now for a quick update on leasing efforts. As of today, we have completed more than half of the 700,000 square feet remaining retail leasing GLA coming up for renewal for the remainder of 2020, with many more conversations taking place to reflect other renewals. Further, almost 2/3 of the 160,000 in-office GLA coming up for renewal has been completed. Of this, approximately 1/2 of the remaining 2020 Alberta renewals are now complete. Turning to financing and liquidity. The trust is in a strong liquidity position at the end of the first quarter with $82 million in liquidity, an increase of $30 million over December 31, 2019. During the quarter, the trust added $40 million in availability to 2 of its line of credits -- 2 of its lines of credit and renewed the third line of credit, which came up for renewal on April 30, 2020. The trust does not have any mortgages maturing in the second quarter of 2020, nor does it have any mortgages secured by enclosed regional centers maturing for the remainder of 2020. In regards to the mortgages maturing in the third and fourth quarters, the trust does not expect to repay any of them. Further, there is some significant up financing potential at its 77 Bloor Street West property, whose mortgage comes due on September 1 and has a current loan-to-value of approximately 10%. The trust is curtailing discretionary operating capital for 2020 in order to ensure that capital is preserved. Other work has been postponed due to government orders. Consequently, it is expected that the PCME or operating capital expenditures for 2020 will be less than normal, approximately 1/2 to 2/3. In 2019, the trust commenced the redevelopment of the former Sears premises in Pine Centre, in Prince George, British Columbia. The new wing consists of approximately 76,000 square feet of redeveloped GLA and will be anchored by Winners HomeSense slated to open in spring of 2020. Other retailers that are now open include a BC Cannabis store. The finalization of some of the remnant space is expected to take until early 2021. This project will also feature an additional retailer, complemented by small bay CRU situated along a common area mall corridor. Approximately 65% of the space under redevelopment is committed, and the total cost of this project will be approximately $17 million. This work has continued and was not subject to any government delays in relation to COVID-19. In light of the economic uncertainty around COVID-19, the trust has put a moratorium on approval of any other further development plans in the near term. The trust revalues its properties every quarter in accordance with IFRS. Fair value adjustments for the first quarter of 2020 was a loss of $121 million. The majority of this loss came from the retail sector and specifically the enclosed regional center asset class. As part of our retail fair value adjustments, on average, the cap rates for the enclosed regional centers were increased 25 basis points, along with consideration for income adjustments as well. The $24 million fair value loss for the office segment was primarily due to the rent reduction process for Obsidian. Looking at collections. The trust has collected 65% of its April rent. Specifically, the trust collected 91% of its office rent and 45% of its retail rent. The risk profile of the retail collections is mitigated by the fact that approximately 1/3 of the retail NOI comes from strip malls, which are typically grocery anchored. For tenants that did not pay their April rent, each situation is being reviewed on a case-by-case basis. The trust is open to working with its small business tenants in order to find deferral solutions that make sense. At this point, it is too early to comment on the impact of the amounts uncollected that we'll have on NOI, FFO, cash flows and valuations. The trust acknowledges the initiative by the federal and provincial governments in order to help with rent relief for small business tenants. However, at this point, we are looking to better understand this program before commenting publicly on its potential impact for the trust. As of today, the amount of deferral arrangements that have been agreed to are minimal. For the most part, tenants are reluctant to agree to these arrangements without understanding when the government restrictions will be lifted. However, the fact that Manitoba and Saskatchewan, both provinces where the trust operates enclosed regional centers, are opening their economy again is a positive sign. As a response to the decline in collections, there has been a deferral of discretionary capital spending. Also available deferrals of sales taxes, payroll taxes, property taxes and utility payments offered by the various levels of government have been acted upon. In addition, the trust level general and administrative expenses have been scrutinized for saving opportunities. Opportunities for government parallel assistance are being reviewed as well. Turning to our distribution. Given the current economic outlook and the uncertainty around collections and cash flow in the short term, the Board of Trustees, after a prudent review of the trust's distribution policy, has concluded that a decrease in the monthly cash distribution is appropriate. The Board of Trustees has determined that it will decrease the trust's annualized distribution of $0.96 down to $0.48, decrease of 1/2. This decrease will be effective for the May 2020 distribution payable in June 2020. The resulting retained cash flow will allow the trust enhance cash flow flexibility and put the trust in a strong position to meet the cash flow needs of its continuing development program and other capital priorities that will improve the value and the quality of its portfolio. Wrapping up. While the economy and, by extension, some of the REITs assets are going through their challenges, we remain positive about a number of aspects of our business. Most of our enclosed malls remain dominant in their area. This fact will still remain once the new normal is achieved. Also, approximately 1/3 of our retail NOI comes from our strip portfolio, which has a strong grocery anchor presence. Lastly, approximately 1/4 of our office collections come from government tenants. At the end of the day, the real estate has always proven to be resilient. We continue to be positive about our business and the objective of building value for our unitholders. We look forward to continuing to execute our strategy, and thank you for your continued support. We will now open the floor to questions.

[Operator]

[Operator Instructions] Your first question comes from Jonathan Kelcher from TD Securities.

[Jonathan Kelcher, Analyst]

First question is just on, do you guys have any sense of what your May collections will look like?

[Andrew Tamlin, Chief Financial Officer]

John, do you want to take that, John?

[John Ginis, Director of Asset Management]

I can speak, Jonathan, with respect to retail. I mean, again, Andrew noted as part of his opening remarks that we collected 45% of -- from our retail tenant base. It'd be hard for us to speculate at this point May. We'll know in the next few days whether we were able to achieve that parameter or better. But I don't want to speculate as to what we think it's going to be.

[Jonathan Kelcher, Analyst]

Okay. So have any -- do you know of any, for sure, that paid in April that will not be paying in May, that have come to you and asked for deferrals or whatever?

[John Ginis, Director of Asset Management]

I don't want to name names. There are some who have paid in April that have indicated that they most likely will not pay this month.

[Jonathan Kelcher, Analyst]

Okay. So it'd be fair to say that it will probably be slightly lower than April?

[John Ginis, Director of Asset Management]

If you took a conservative approach, perhaps, but again, I don't want to comment until we actually see the collections.

[Jonathan Kelcher, Analyst]

Okay. Fair enough. Secondly, just on the development spend, I know you curtailed a lot. What do you expect to spend over the balance of 2020?

[Andrew Tamlin, Chief Financial Officer]

That's all disclosed in the financials, Jonathan.

[Jonathan Kelcher, Analyst]

$15 million, $16 million or so? If I recall.

[Andrew Tamlin, Chief Financial Officer]

Yes. Some of that will dribble into 2021. I would say -- just off the top of my head, I would say 3/4 of the amounts that we've disclosed would be within 2020 and maybe 1/4 of it would be in kind of the first quarter or half of 2021.

[Jonathan Kelcher, Analyst]

Okay. And I noticed the Good Life at The Centre is not in the disclosure anymore. Is that postponed? Or did that go away?

[John Ginis, Director of Asset Management]

Sorry, the Good Life at The Centre, what do you mean?

[Jonathan Kelcher, Analyst]

I believe it's -- or is it done, I remember not reading this stuff around.

[John Ginis, Director of Asset Management]

Sorry...

[Andrew Tamlin, Chief Financial Officer]

You mean the Cineplex maybe?

[Jonathan Kelcher, Analyst]

Maybe. You know what, I'll talk to you guys offline on that one. And the last -- and this is more, I guess, a high-level question. Outside of Alberta, which is going to face its own challenges, what do you guys think the long-term impact will be on office demand post-COVID?

[Tom Johnston, Vice President of Property Management]

Jonathan, it's Tom Johnston in Vancouver. So I think outside of Alberta, so the key markets in Western Canada then outside would be, obviously, Winnipeg and Vancouver and to a lesser extent, Victoria. I see Vancouver as being very resilient. We have an extremely low vacancy rate in the city. And there was more demand coming just prior to the COVID crisis occurring. So fairly optimistic on BC in general. And Winnipeg is small little market with a good diverse group of tenants and a lot of them are smaller in orientation and insurance related. So I think, Winnipeg will see an uptick in that market, but I don't think it will be a disaster, maybe it goes up 5 to 10 points.

[Jonathan Kelcher, Analyst]

I guess eventually head back to work in offices. Have you guys had any discussions with your tenants in terms of reconfiguring space for people to go back?

[Andrew Tamlin, Chief Financial Officer]

Actually, I hear -- sorry, go ahead, John.

[John Ginis, Director of Asset Management]

Okay. We have started to talk to all our tenants and working with them to plan out how they plan on bringing their employees back and what we have to do with the -- their space and also the common area space for safe distancing and the welfare of everybody. So those discussions are ongoing with all the tenants now.

[Tom Johnston, Vice President of Property Management]

Yes, I would just add to that, in general, depending on the sector that the tenant is in, you'll see different results as it relates to how they will utilize our office space. Certainly, there will be -- tenants are going to be more and more responsible for their internal protocols in their office. And I think the various provincial health authorities will dictate about what social distancing and how it's going to look like moving forward for the first few months.

[Operator]

[Operator Instructions] The next question comes from Jenny Ma from BMO Capital Markets.

[Jenny Ma, Analyst]

Wondering about the lease renewal at Dunsmuir. Can you give us color on the timing of when it takes effect?

[Tom Johnston, Vice President of Property Management]

Jenny, Tom Johnston in Vancouver. So there's 2 tenants in that asset, Stantec and Wood Engineering. So the Stantec renewal has been completed. So it will be January 1, 2021, commencement date for roughly 75,000 square feet. The second main tenant in the asset is Wood Engineering that we basically completed the renewal. All we're negotiating is the rent review on that tenant. So they're approximately 130,000 square feet. So basically, both tenants have renewed. We saw the rent for Stantec go up by about $6 a foot, which is great. And where we are with Wood is that rent review will have to take place 90 days prior to their expiry, which is December 31, 2020. And so we're not -- we'll see where the rents go in Vancouver. I think there'll be a slight uptick from where they are today, but I think that will play itself out in the next few months. Does that answer your question?

[Jenny Ma, Analyst]

Yes, it does. Moving over to Petroleum Plaza. Wondering if you can give us a sense of what the market rent might be, sort of what the roll down you expect? And then also, do you expect 100% of that space to be renewed? Or would there be any changes to the footprint?

[Tom Johnston, Vice President of Property Management]

Me, again. So I don't -- we're very confident that the Alberta government will renew on the entire building. They have really very key ministries that are in that asset, energy, et cetera. So we've had dialogue with the infrastructure, which handles the real estate needs of the government, and it's all been very positive. And so I would -- we're confident, very confident they'll renew 100%. As it relates to rental rates, they're at, I believe, $27 a foot today. We're seeing rental rates probably in that government sector in Edmonton, more in line with the $17 to $19 range with inducements, I think, is where we're at. We don't have any paperwork going back and forth. The province was -- sort of, the ball is in their court to get back to us at this point in time.

[Jenny Ma, Analyst]

Okay. That's quite helpful. And then just one more question on the, sticking to the office sector, is on 77 Bloor Street West. I would presume just given the location of that asset that you would look to maximize the upfront financing opportunity? And if that's the case, maybe give us a sense of how much you might expect to pull from that asset on that renewal?

[Andrew Tamlin, Chief Financial Officer]

Jenny, it's Andrew here. So yes, that is definitely in our plans. We would probably target to have something in the loan-to-value range of probably 50% to 55%, give or take. So yes, that seems to be kind of the threshold that we would normally target, 60% at the most.

[Jenny Ma, Analyst]

And that would be based on the March 31 value?

[Andrew Tamlin, Chief Financial Officer]

Yes.

[Jenny Ma, Analyst]

Okay. Great. And then moving on to, I guess, is a general question, but more pertinent for retail, probably is. I know it's still a little bit murky as far as the details of how the CECRA is going to be executed. But within the portfolio, how -- what's the proportion of your tenant base do you think would fall into the qualifying bucket?

[John Ginis, Director of Asset Management]

Jenny, it's John. It's really too early to comment on the efficacy or the effectiveness of this program because there's more questions and answers, to be perfectly frank. So to answer the question, as it relates to what proportion of tenants qualify, it's hard at this point because at the end of the day, there's just way too much uncertainty regarding whether certain tenants qualify, what are the criteria, whether it has to be a blanket approach or we can do it on an individual tenant-by-tenant basis. So right now, it's -- I -- we're reticent to comment on the program.

[Jenny Ma, Analyst]

Okay. So maybe I'll ask my question a different way. Let's put aside the program. Just trying to get a sense of how -- what proportion of the tenant base is sort of the smaller mom-and-pop type of businesses that may have some operating issues in the program side, but if you can give us a sense of how much of your portfolio would be constituted by those type of tenants?

[John Ginis, Director of Asset Management]

Yes. No. I mean, again, I wish I had an answer for you. I don't have -- we're actually working on that as we speak in so far as let's use the threshold that's noted in that program, the $50,000 in terms of annualized rent that they paid. But I don't want to -- so if you wanted the answer to that question offline, perhaps we can have a discussion. But again, the program in itself, we deem that there's a lot of flaws in it and -- whether it gets adopted or changed? It's not -- I can't comment on -- I can't answer your question fully at this time.

[Jenny Ma, Analyst]

Okay. That's fine. I have one more question in terms of the IFRS markdown on the retail portfolio. So the commentary says that there was consideration given to the tenants that didn't pay in April. Maybe you could share with us some more color on what the thought process was? Is it because there's some tenants that you think will be -- or some rent that you think would be permanently impaired, and that's why that factored into the markdown, given that April wasn't that long ago? Just trying to understand how that factored into the markdown for retail.

[Andrew Tamlin, Chief Financial Officer]

I can take that, John. That's fine. It's Andrew. So there was a couple of things that we considered in relation to valuation. So obviously, cap rates and also at that point, it was clear there is going to be a shortfall in rents for enclosed malls. So without really getting into specifics, there were certain considerations made and -- as part of the valuations in light of that. So that's all that comment really means, is that it was just a consideration as part of that process. And it wasn't done in isolation.

[Operator]

The next question comes from Pammi Bir from RBC Capital Markets.

[Pammi Bir, Analyst]

Just maybe following up on Jenny's question with respect to the valuation. I am curious, just with respect to retail, the 25 basis point increase in cap rates. Just curious how you went about determining that? Could it have been higher? Or just some color on how that figure was derived?

[Andrew Tamlin, Chief Financial Officer]

It was really an effort done by our valuations group. There was consultation made with other valuation professionals. There was consultation with our auditors. There was just a review done. It's -- there was some judgment applied to it. So it's tough to really definitively say, well, where -- the specific reason why it was landed at 25 versus another number. But all those factors came into play.

[Pammi Bir, Analyst]

And I guess, just to be clear, that was just a point in time, like Q1 end.

[Andrew Tamlin, Chief Financial Officer]

That's right. Yes. That was a month ago now, too, right?

[Pammi Bir, Analyst]

Right, yes. Maybe just lastly for me, I think most of my questions were answered. Just without -- you don't have to name tenants, but can you talk about the types of perhaps discussions that you are having with some of your larger tenants in retail around perhaps the outlook for some forward rent relief or concession you might be considering? I'm just trying to think about what the landscape could look like over the next 12 months or so?

[John Ginis, Director of Asset Management]

Pammi, it's John. I'll speak in generalities here because, again, I don't want to name tenants, but every situation is different. And whether it's a large national tenant across the country, regional and/or local tenants, these conversations differ. Everyone is capitalized differently. And accordingly, to be perfectly frank, most conversations have been okay. Andrew touched on a little bit during his comments to reflect that we're working on deferral arrangements. And -- but we don't know the extent to which what we're dealing with until we know the pandemic ends. Certain provinces have started to announce a process of relieving or relaxing their restrictions, allowing business to reopen. Again, Manitoba and Saskatchewan will be cases of point. So my hope is by next month, we'll have some more clarity in so far as what, when and where tenants are allowed to reopen. And then we'll be in a better position to assess, okay, what the game plan is with respect to our dealings with each specific tenant. But again, I want to reiterate, every conversation is different.

[Pammi Bir, Analyst]

I see. So in terms of the deferrals that were arranged with the duration of perhaps the number of months of deferral, did they vary by tenant? Or are they, call it, most like 60-day type arrangements?

[John Ginis, Director of Asset Management]

They can vary.

[Pammi Bir, Analyst]

Okay, vary. And then what sort of -- and I was just going to say, sorry, what repayment period are you asking tenants for the amounts that have been deferred?

[John Ginis, Director of Asset Management]

Again, it's all over the map, Pammi. So I mean, in some cases, we expect to get repaid in short order upon reopening. In other cases, it's more elongated.

[Operator]

There are no further questions, you may proceed.

[Andrew Tamlin, Chief Financial Officer]

Okay. Thanks, everybody, for joining, and have a good rest of the day, and stay safe.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and we ask that you please disconnect your lines.