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 2025 First Quarter Results Conference Call. [Operator Instructions]. This call is being recorded on Thursday, May 1, 2025. I would now like to turn the conference over to Andrew Tamlin. Sir, please go ahead.

[Andrew Tamlin, executive]

Thank you, and good afternoon, My name is Andrew Tamlin, Chief Financial Officer of Morguard REIT. Welcome to Morguard REIT's First Quarter 2025 Conference Call. I am joined this afternoon by John Ginis, Vice President of Retail Asset Management; Tom Johnston, Senior Vice President of Western Management; along with Todd Febbo, Vice President of Eastern Office Management. Thank you all for taking the time to join the call.

Before we jump into the call, I would like to point out that our comments will mostly refer to the first quarter 2025 and 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.

To start with, we knew that 2025 was going to be a challenging year with the market rent resets on the Penn West Plaza space. This was part of the previous head lease expiration on February 1 2025. However, our Q1 results have also been impacted by some retail failures, which I will provide some comments on later on in the call.

Our total net operating income for the quarter declined from $30.9 million last year to $25.7 million in 2025. Approximately $3 million of this $5 million difference is due to the Penn West Plaza lease reset, while $1 million is due to increased bad debt expense and a further $700,000 decline comes from the sale of Heritage Town Center in Q2 '24, which is not an asset of the trust this year.

The decline in income from Penn West Plaza is due to the expiration of the Obsidian head lease on February 1, 2025. This has resulted in a reset of rents for both Penn West Plaza tenants and subtenants to current market rates. The current occupancy of Penn West Plaza is 73% today, but is 80% when factoring in future commitments. Significant inducements of opening free rent and free operating costs to secure tenancies are also impacting Penn West Plaza results for 2025.

Our estimate is that there will be a downturn of approximately $15 million in net operating income for this asset in 2025, with some bounce back to this number in 2026 after these inducements burn off and other lease commitments kick in.

We are pleased with the 80% occupancy level of this building after coming off the single tenant head lease in a market which has seen the lowest occupancy across Canada in recent years. On Friday, March 7, 2025, The Bay filed for creditor protection under the Company's Creditors Arrangement Act or CCAA. The trust has 2 Bay locations, one at Cambridge Center and one at St. Laurent in Ottawa. Currently, The Bay is conducting liquidation sales at all locations, which are expected to conclude in June or July.

Based on current feedback and interest, the trust expects both leases to be disclaimed and to be returned to the landlord. There is approximately $1.5 million in gross income at risk from this tenancy. The trust will be assessing options for these 2 locations, but does not expect to announce any plans this year. Notwithstanding the loss in income, there are a number of positives about the situation, including the relinquishment of their site control, in particular, at St. Laurent.

On January 7, 2025, the Comark Group of Brands, which includes Ricki's, Bootlegger and Cleo announced that they had commenced proceedings under CCAA. The trust has 15 of these locations and was able to keep the tenancies of the vast majority of them. However, the Trust has estimated that this will result in a decline in net operating income of approximately $850,000 on an annual basis from this filing.

Lastly, on January 27, 2025, PV announced that he had commenced proceedings under CCAA as well. The trust has PV location in Airdrie, Alberta, earning approximately $600,000 in gross income. There has been strong interest shown in this space and the trust is considering options for this asset. It is expected that something new will be announced here later this year.

Notwithstanding these 3 situations, we are pleased with the rest of the retail portfolio. Our community strip centers are essentially full at 99% occupancy and enjoyed a 7% same asset increase in net operating income for the first quarter. Our enclosed malls are still in very healthy shape, enjoying positive leasing spreads for the quarter and have earned a 3-year average annual same-asset net operating income growth of 6.5%.

Sales and traffic numbers also continue to be strong. The trust interest expense declined almost $900,000 for the quarter due to a decline in gross debt of $28 million on a year-over-year basis along with a decline in interest rates, primarily short-term or variable rates.

Turning to financing and liquidity. The trust is $87 million in liquidity at the end of the quarter which is up from $81 million at the end of the year. I should also note that our parent, Morguard Corporation has advised the trust of its intention to receive its distribution in units rather than cash for 2025.

As mentioned in previous quarters, the Trust's operating capital reserve increased from $25 million annually to $35 million in 2025 and to account for both higher repair costs as well as leasing costs. This represents $8.750 million per quarter.

Actual spending was approximately $9.5 million which included necessary leasing capital for tenancies at Place Innovation in Quebec and 111 Dunsmuir in Vancouver. During the quarter, the trust renewed or extended 3 mortgages totaling $63 million, lowering the interest rate from an average of 6.5% on these mortgages to an average of 5.5%.

The trust is approximately 17% of its debt is variable at the end of the quarter, which has increased slightly from 15% at the end of the year. The trust continues to focus on payments to debt, which has declined by more than $100 million over the last 4 years.

Looking at our accounting for real estate properties during the quarter, we had $21 million in fair value losses due primarily to some increases in regional office cap rates and fair value adjustments in our enclosed malls due to the pending bay failure.

Overall occupancy level of 87.7% at the end of the quarter, has decreased from 91.2% at the end of the year due to the increased vacancy at Penn West Plaza, resulting from the expiration of the Obsidian head lease on the 1st of February. As previously mentioned, we are now embarking on a strategic merchandising program for St. Laurent, which will see the addition of 2 nationally recognized brand names being added to the tenant roster, along with expansion plans for other tenants on the existing rent roll.

The current budgeted capital commitment in $6.4 million and includes tenants such as Sephora and H&M, which are all expected to be opened before Christmas. We are anticipating some future phasing beyond this spend as we look to ensure a stable sustainable and traffic-generating mix of tenants to this asset.

Management set continued ongoing discussions with the provincial government tenant at Petroleum Plaza and Edmonton, which came up for renewal on December 31, 2020, and is still an overhaul. While we had recently had some better back and forth discussions, this is still going slowly. And at this point, there is still no resolution to report.

Wrapping up, we recognize that 2025 has and will continue to be a tough year, but we are expecting the downturn to be short. We are especially pleased with the leasing efforts at Penn West Plaza to be able to have our most impactful office asset committed to an occupancy of 80% in this tough marketplace.

Also, we believe that both The Bay and PV retail failures will have a positive outcome for the long term. We are looking forward to continued positive leasing conversations for all of our assets. Most of our enclosed malls remain dominant in their geographical area and our strip malls, which are largely grocery-anchored, have performed steady.

Beyond our retail assets, we have high-quality office buildings in Canada's largest markets with a high degree of government office tenants. We continue to be positive about our business and the objective of building value for our 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 the line of Jonathan Kelcher from TD Cowen.

[Jonathan Kelcher, analyst]

First question, just I guess I'll start at the St. Laurent Centre. As you said, you guys have started in on a remerchandising program. Does The Bay closing and you guys eventually getting that space back change any of your near-term plans there?

[John Ginis, executive]

Jonathan, John Ginis responding to your question. Our merchandising plan was approved 5 years ago at a Board level, and we've had ongoing discussions since then culminating into transactions that were now -- we're under construction. And Andy said in his comments, we hope to have some of these kinds operational before Christmas. So the direct answer is no.

The Bay's closure does not affect that program. We are looking to add phasing to our merchandising program based on conversations we're continuing to have that are -- the situation with The Bay, but our hope is will not have an implication on those discussions, but the first phase of our program should not be implicated at all.

[Jonathan Kelcher, analyst]

Okay. Can you maybe getting The Bay site back and them not having -- and you guys getting the site control back that maybe help the subsequent phases as we go forward over the next few years?

[John Ginis, executive]

Right. So getting a Bay store back, particularly St. Laurent, that's over 160,000 square feet on 2 levels as Andrew said in his opening remarks, it's more than simply just the income being generated from the box. It's the site controls, as you know, Jonathan, that create more longer-term opportunities of what we can do with the site in aggregate. That's more of a question that we'll figure out over time.

In the short term, I think what we want to do is to kind of mitigate our exposure, find ways and means to generate income out of the space. But we're obviously starting a longer-term operational thought process of what we do with the box, but also what we do with our site given the fact that these leasehold constraints are now gone.

[Jonathan Kelcher, analyst]

Okay. And then -- and what are your sort of near-term and medium-term thoughts on Cambridge, the Cambridge site for The Bay?

[John Ginis, executive]

So the situation in Cambridge is a little bit different from the one in Ottawa in so far as smaller mall, but that base store has pretty good frontage on Hespeler Road, which is a major commercial corridor for that city. Older box so would require some more material reinvestment I think in the short term, we'd like to become exposure so that there's not a -- so we mix our co-tenancy implications associated with their vacancy. That would be the short-term impact.

Longer term, looking at a redevelopment of the space, do we get full utility out of it? Probably not because that box is 134,000 square feet on 2 levels in single-level mall. So longer term, it requires a bigger thought process in terms of what we do with the excess real estate.

[Jonathan Kelcher, analyst]

Might you just demolish that? Would that be a thought?

[John Ginis, executive]

Quite possibly, but it's got great frontage fronting Hespeler Road, as I said earlier. You need an anchor to do something on that end of the shop lease notwithstanding. But also you have covenants in some of the other leases, whereby you simply just can't have that as a vacant parcel. So there's a demolition in the cards, perhaps, but something that we'll evaluate in the coming months in terms of options, considerations.

[Jonathan Kelcher, analyst]

Yes. Certainly, still early days. And then just switching to Penn West, 80% occupancy, that's very good. How do the rents compare to the previous rents?

[Tom Johnston, executive]

Do you want me to take that, Andrew?

[Andrew Tamlin, executive]

Yes, sure.

[Tom Johnston, executive]

It's Tom Johnston in Vancouver. Well, obviously, the old -- basically, the Obsidian rents were in the low 30s. So we're coming off those market high rents in Calgary. Now the more or less the deals that we're doing, some of them on the, call it, sublease rollovers and new deals. We're more or less seeing rents now in that $16 to $20 range.

Some we're seeing now, a couple of smaller deals that we've done are pushing $21. So we've seen good growth in the rental rates in the past 18 months. So if you even turn the clock back, 18 months or so to some of the first sublease renewal extensions we were doing. There were more in that $14, $15 range. But I would say now, $16, $17 as high as $21.

[Jonathan Kelcher, analyst]

Nice. And what sort of -- like how much -- how long?

[Tom Johnston, executive]

All over the board. We have new tenants coming in that are 5- to 10-year deals on the extensions for shorter term. They're literally all over the board.

[Jonathan Kelcher, analyst]

Okay. And do you think you have to put any capital into that property to sort of add amenities and stuff like that?

[Tom Johnston, executive]

So I would argue that's one of the tricks I've done so well. We have really state-of-the-art amenities. We put a little bit of money into the fitness facility lately with new equipment and some cosmetic upgrades to that. We have a fantastic conference facility that we improved about a year ago. So our basic tenant amenities are excellent and in really good shape.

[Andrew Tamlin, executive]

I would just highlight before you go, Jonathan, that the net effective rents at Penn West Plaza are more in the $5 to $10 range. So after you consider some of the free rent inducements that I mentioned, I just didn't want to lose that aspect of it.

[Operator]

[Operator Instructions] Your next question is from the line of Steve Mikan, Private Investor.

[Unknown Analyst]

I just had a question about the development that's for Coquitlam and also Saint Laurent and where those are standing right now.

[Andrew Tamlin, executive]

So I can make a couple of comments on that, Steve. So for Coquitlam, we started that process back in 2021. It's been a very arduous process for us. There's been a number of resubmissions. There's a few parcels of land at that site that we're sorting out from a permission standpoint. So there's just notwithstanding you think this would be easy to do. There's just a lot of friction at the council level. You've got some counselors that have their own agenda as well. So we are getting close.

We've had some in-person meetings there. We've expressed our frustrations. We've got another in-person meeting coming up, and we expect to have this resolved for this year. In relation to St. Laurent, it's ongoing as well. The plan -- there is a site plan submission that was made back in November of 2024. There is a resubmission made just about a few weeks ago. So at this point, we're just working with the staff on any comments, and we're kind of expecting approval there for early next year.

[Unknown Analyst]

And like -- so with that, the St. Laurent property, would that represent the best kind of -- or maybe the most prioritized property to maybe add value, build value in the REIT? Or are there other things?

[Andrew Tamlin, executive]

No. Those would be 2 of the premier sites to add value, certainly from a residential standpoint.

[Unknown Analyst]

The other question I had add was on debt ratio and it seems to be going above your -- I think you preferred rate is 55%. I'm just wondering what strategies you have. It sounds like the parent has foregone dividend payments and has taken the trip. But is there any other strategy to try and get that down?

[Andrew Tamlin, executive]

It's a little bit high, but it's not outside of the rain is alarming. So we're just being mindful of developments that we're looking at and approving. And potentially looking at some options of asset sales down the road as well. But there's various options on the table for that.

[Unknown Analyst]

Yes. So I mean you would have to use these options just for example, you wanted to develop that salon potentially sell some properties.

[Andrew Tamlin, executive]

Potentially, yes, or find a partner as well. There would be that option.

[Operator]

There are no further questions at this time. I'd like to turn the call over to Andrew Tamlin, for closing comments. Sir, please go ahead.

[Andrew Tamlin, executive]

Thank you, everybody, for joining the call, and we'll look forward to talking to everybody next time. Thank you, and have a good day.

[Operator]

This concludes today's conference call. Thank you very much for your participation. You may now disconnect.