Slate Grocery REIT

TSX:SGR.UN

Earnings Call Transcript

[Operator]

Good morning, ladies and gentlemen, and welcome to Slate Grocery REIT's Fourth Quarter 2024 Financial Results Conference Call. [Operator Instructions] I would now like to turn the conference over to Shivi Agarwal, Manager of Finance. Please go ahead.

[Shivi Agarwal, executive]

Thank you, operator, and good morning, everyone. Welcome to the Q4 2024 Conference Call for Slate Grocery REIT. I'm joined this morning by Blair Welch, Chief Executive Officer; Joe Pleckaitis, Chief Financial Officer; Connor O'Brien, Managing Director; Allen Gordon, Senior Vice President; and Braden Lyons, Vice President.

Before getting started, I would like to remind participants that our discussion today may contain forward-looking statements, and therefore, we ask you to review the disclaimers regarding forward-looking statements as well as non-IFRS measures, both of which can be found in management discussion and analysis. You can visit Slate Grocery REIT's website to access all of the REIT's financial disclosure, including our Q4 2024 investor update, which is now available. I will now hand over the call to Blair Welch for opening remarks.

[Blair Welch, executive]

Thank you, Shivi, and hello, everyone. We are pleased to report strong fourth quarter and year-end financial results for Slate Grocery REIT. Strong leasing activity at high rental spreads over the last several quarters continued to drive net operating income growth for the REIT. Adjusting for completed redevelopments, same-property NOI increased by $6.7 million or 4.3% on a trailing 12-month basis. The REIT completed close to 3 million square feet of total leasing throughout the year at double-digit rental spreads.

New deals were completed at 28% above comparable average in-place rent and non-option renewals at over 14% above expiring rents. Portfolio occupancy remained stable at 94.8%, and we expect our pipeline of new leasing opportunities to support a continued positive trend for occupancy in the coming quarters. In a challenging financing environment, our team financed over $630 million of debt throughout the year at an interest rate spread similar to the maturing debt, highlighting the confidence our lenders have in the REIT's business.

Despite our strong operational performance, the REIT's units are trading at a discount to net asset value, which we believe presents a compelling investment opportunity. Our track record further validates this opportunity. The REIT has been a top-performing retail REIT stock in Canada and the U.S. on a total return basis over the last several years. We continue to have strong conviction in the fundamentals of grocery-anchored real estate.

High construction costs and tight lending conditions continue to limit new retail development. In the fourth quarter, retail construction completions totaled 4 million square feet, marking the lowest quarterly total in more than a decade. The constraints on new supply continue to limit the overall retail availability rate. The resulting competition for limited space and high demand for prime locations continue to give retail landlords pricing power. In our own portfolio, our average in-place rent of $12.65 per square foot remains well below the market average of $23.80, providing significant runway for continued rent increases.

Our focus on fundamentals has always underpinned how we invest and manage our real estate, and we believe favorable fundamentals in the sector, coupled with our below-market rents, will enable the REIT to continue growing revenue and generating long-term value for our unitholders. On behalf of Slate Grocery REIT and the Board, I'd like to thank the investor community for their continued confidence and support. I will now hand it over for questions.

[Operator]

[Operator Instructions] Your first question is from Sairam Srinivas from Cormark Securities.

[Sairam Srinivas, analyst]

I'll start with the leasing schedule ahead. Just looking at 2025, we have about 782,000 square feet of leases expiring of the non-anchored segment, and that forms the majority for the year. What's the outlook there on leasing spreads? And how do you see that kind of filling into the year?

[Blair Welch, executive]

Yes, I'll pass it over to Allen to speak, but we expect, given what I said in the opening remarks, there's not a lot of space, so there's significant pricing power for landlords. But Allen, what are you seeing?

[Allen Gordon, executive]

Yes. We've seen -- we've had 7 straight quarters of double-digit renewal spreads. And so we expect that to continue throughout 2025 as well.

[Sairam Srinivas, analyst]

That's awesome. And guys, so when you look at the leasing spreads come in, and obviously, we are starting to see that slowly come into NOI as well. So the last couple of quarters, we've seen 5% SPNOI growth coming in. As we slowly roll towards Q2, Q3 and Q3, you'll start comping towards some of the year from '24, is that something you expect to kind of maintain as a run rate ahead? Or is that going to normalize over the period of time?

[Blair Welch, executive]

I think as we've discussed, Sai, with you and others, we report our leasing costs and CapEx on a real cash basis when we spend the dollars, that's unlike a lot of our peers that use estimates. So we feel strongly that our NOI will continue to grow with the leasing spreads. There was just a lag to start. But as Allen said, we've had 7 consecutive quarters of double-digit leasing spreads. So you're seeing that in the NOI growth. We expect that sort of growth to continue.

[Sairam Srinivas, analyst]

And how should we be thinking about that gap between the leasing happening and the NOI coming in, in terms of timing?

[Blair Welch, executive]

You're going to love this answer, but it depends. I think it really is -- there's a difference between leasing timing on a renewal. There's difference in the leasing timing for a larger tenant to a smaller tenant. But I would say it's anywhere from 30 days to 12 months. But I think it gets blended. I think the last quarter, we did over 90 leases again. So I think that there's a lot of leasing that gets done. So it really just depends, Sai. But how we performed in the last 7 quarters, we expect to continue that sort of -- those sort of numbers.

[Sairam Srinivas, analyst]

That makes sense, Blair. And maybe just shifting gears towards transaction activity. I think this probably marks the third or fourth year now for the North American real estate fund investing in the REIT assets. How are you guys thinking about growth from that perspective? And how is the fund thinking -- like considering the vacancy in the market and what you have said so far in terms of fundamentals, how is the transaction outlook looking there?

[Blair Welch, executive]

Yes. Well, I'll talk specifically about that, and I'll pass it off to Connor to really kind of comment on what we're seeing in the market from a pipeline perspective. I think the team showed that we can refinance $630 million of debt in the market. I would say a lot of our peers or other real estate asset classes haven't been able to do that.

I think even given our IFRS cap rate to current market pricing, we have positive leverage, and we're achieving kind of mid-single-digit NOI growth. So the fundamentals are strong. And again, I'll let Connor talk about the pipeline. As it relates to private investors, as you know, we're significant grocery owners in Europe as well. And I would say private institutional investors are very interested in owning U.S. assets that generate U.S. dollars, given the current situation. So we would anticipate more interest in the space, but it's -- people are still trying to figure out what that looks like, but there is demand from investors for U.S. dollar investments and Slate Grocery is one of those things.

[Connor O'Brien, executive]

In terms of the transaction pipeline, we have had a muted transaction environment over the last 24 months, but expect that to pick up in 2025. CBRE is forecasting about $10 billion of open-air retail transactions this year. So if that comes to fruition, we'll certainly see an uptick in 2025. From Slate's perspective, we're going to continue to remain disciplined and selective with the acquisitions we'll target, and we're going to look towards acquiring strong performing grocers at positive leverage day 1 with under market rents that we can grow NOI over time.

[Operator]

[Operator Instructions] And your next question is from Brad Sturges from Raymond James.

[Bradley Sturges, analyst]

Just maybe to follow on the question around transaction and potential for capital deployment through acquisitions. Just based on where the balance sheet is today and kind of post all the refinancing activity, how do you think about your capacity to pursue acquisitions at the moment? Like where would you be comfortable pushing leverage in the short term if you saw an interesting opportunity? Or what kind of guidance would you give around capacity at the moment?

[Blair Welch, executive]

Yes. I think we'll be selective, and I think we really more focus on can we buy cheap in-place rents, as Connor said, to grow NOI over the long term. And I think we showed that during COVID and right after on buying some larger deals at low occupancy and the team has done a great job of executing the strategy, and it's really created a lot of income growth for the entire REIT.

So you know we're creative at Slate Asset Management. We recognize that we have a discount from where we trade. So we talk to the Board all the time about capital allocation. We are currently underwriting literally billions of grocery deals and retail deals in the U.S., but we'll be thoughtful and disciplined on how we do that. Do I think there's going to be some deals to do this year? Yes, but we're sensitive and making sure we do the right deals for the unitholders that create long-term value. And that's -- we think about that all the time, and we'll be careful, but we want to buy good real estate and then we think we can.

[Bradley Sturges, analyst]

Okay. Makes sense. And maybe just going back to leasing, and you talked about the momentum you're seeing on the new leasing front that could translate into positive elements to occupancy. Just you're running kind of at 95% occupied now. Do you see more upside on occupancy here today? Or do you think you're kind of running at stabilized levels?

[Blair Welch, executive]

Yes. I mean I'll pass it off to Allen and Connor, but do I think it could go up a bit? Yes. But do I think long-term averages are like 94% to 96% or whatever that is? Yes, it's going to bounce around there. But it's a pretty tight market. I think we could have some uptick in occupancy, but really, the growth is going to come from moving our in-place market rents to closer to market.

So that's how we look at the business. We think it's a very defensive play because how cheap our rents are. But it's -- I think occupancy is in the range of market norms. Could we see more? Yes, but then you're probably going to see it go to 94% as tenants roll or whatever, like -- so I would say it's in that zone, Brad, but we're going to see more growth from growing the rents.

[Bradley Sturges, analyst]

And just on that, in terms of your lease expiry schedule, is there anything notable that you're expecting to get back in terms of space in terms of nonrenewals or nothing material at this point?

[Allen Gordon, executive]

No, Brad, I won't say anything material. We already -- in 2024, we addressed all of our grocer renewals, which was 8, and we have 4 grocers renewing and 2025, of which we've already started preliminary discussions with all of them.

[Bradley Sturges, analyst]

Okay. Last question, just on the current tax expense, just it came in a little bit higher than expected, looking for maybe guidance for 2025 on that line item?

[Joseph Pleckaitis, executive]

Yes. Brad, this is Joe. Yes, current income tax, we had a bit of movement there. Really, this is just due to finalizing our state tax filings for the year. But I would say throughout the year for last year, you'd use that as a proxy moving forward.

[Operator]

Your next question is from Pammi Bir from RBC Capital Markets.

[Pammi Bir, analyst]

Just coming back to the comments around acquisitions and being thoughtful in terms of how you allocate capital. What is the thinking around perhaps recycling out of some assets into higher quality assets, given the strength in the market?

[Blair Welch, executive]

All of our assets are high quality, come on. No, I think the team has consistently shown that we have been -- we've always been doing dispositions, and we have cycled out of assets that are non-grocery that we would have bought in portfolios to get at grocery. We've cycled out of assets where we think we can't grow rents anymore, and we've done our business plan. So we have continually done that, and I think you'll see that happen again this year.

So is that range -- you guys can correct me, is it range from like $30 million to $100 million a year over the last couple of years of what we kind of trade. And we do reinvest that capital and how we do that either through redevelopment of assets to add to net operating income, that will continue, Pammi. But we feel our portfolio is in really good shape, and it is a high-quality grocery-anchored portfolio because we've been kind of doing that strategy for the last several years.

[Pammi Bir, analyst]

Okay. And is there anything currently listed for sale at the moment or not yet?

[Connor O'Brien, executive]

Nothing currently listed. We do have a couple of assets that we've kind of earmarked as part of 2025 dispositions. These are kind of nonstrategic non-grocery-anchored assets with the debt maturity towards year-end. So we will look to kind of strategically sell those and maximize proceeds and currently are in the preliminary discussions with trying to start those processes.

[Pammi Bir, analyst]

Got it. Just one last one for me. In terms of the interest costs this quarter, was there anything onetime-ish whether it had to do with any of the refinancing that was done in October? Just curious as to whether there were some charges that would not sort of carry forward.

[Joseph Pleckaitis, executive]

Yes. Pammi, this is Joe. That's exactly right. So on the refis, we had some existing financing charges on those mortgages get fully written off. So we did have some doubling of financing charges this quarter. So you'll see that come down slightly moving forward.

[Pammi Bir, analyst]

And sorry, Joe, what was -- do you have a rough estimate of what that figure was, the charges that were, I guess, doubling up?

[Joseph Pleckaitis, executive]

Yes. So that was about $150,000 this quarter.

[Operator]

Your next question is from Sumayya Syed from CIBC.

[Sumayya Hussain, analyst]

Just the one for me. There was a note in the MD&A about bad debt being higher year-on-year on specific tenant bankruptcies. Just looking for any more color there, if it was a specific category? And what does your watch list look like at this point in time?

[Blair Welch, executive]

I'll pass it to the team. Sumayya, good to hear from you. I think I would like the guys to talk about how opportunistic we've been on bankruptcies and how we see it as an opportunity. So it's a moment in time. So I think that's a really important story to that.

[Connor O'Brien, executive]

Yes. I think because we focus on under market rents, these bankruptcy process really create opportunity on the upside, may have a short-term hit in cash flows, but the ability to mark these rents to market through new leasing certainly occurs. We saw that through the Big Lots bankruptcy process towards the end of last year. We opportunistically acquired one of those locations and are -- have advanced discussions with multiple tenants for that particular space.

More recently, you've seen Party City go through the bankruptcy auction process. That was extremely well received by the retail tenant community. Our 2 locations, one we opportunistically acquired and are in advanced discussions with a particular tenant on re-leasing that space in the short term. And the other Party City location was acquired by another tenant, which will lead to no downtime and that tenant kind of taking that space immediately. So a great outcome. But realistically, these bankruptcy proceedings are really an opportunity in the medium to long term.

[Blair Welch, executive]

So just to make it clear for everyone because it's a great question and Connor's answer is excellent. The market is so tight, retailers are buying the leases from bankrupt retailers. We actually have bought some ourselves to get our own space back to mark the rents to market. But we have had competition from other retailers to buy the leases, so there's no downtime to us. That's kind of how tight the market is. So there is some bad debt expense, and I'm happy to have Joe talk about it, but it's really a moment in time type thing.

[Joseph Pleckaitis, executive]

Yes. And just to add, we assess our allowance on a tenant-by-tenant basis quarterly. So many times, this will also fluctuate based on conversations with tenants or announcements of bankruptcies in the news. But I would say it's often ebbs and flows. You have some higher quarters and some softer quarters thereafter. But when you look at bad debt as a percentage of revenue, I think we're 0.5%. So from a collection standpoint, we're still very strong.

[Sumayya Hussain, analyst]

Okay. So it sounds like not to expect a material notable impacted occupancy, but there remains upside from higher rents on the space you guys just got.

[Joseph Pleckaitis, executive]

Yes, that's correct.

[Operator]

There are no further questions at this time. I will now hand the call back to Shivi Agarwal for the closing remarks.

[Shivi Agarwal, executive]

Thank you, everyone, for joining the Q4 2024 conference call for Slate Grocery REIT. Have a great day.

[Operator]

Thank you. Ladies and gentlemen, the conference has now ended. Thank you all for joining. You may all disconnect your lines.