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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning, ladies and gentlemen. Welcome to the Summit REIT Second Quarter 2018 Results Conference Call. Please be advised that this call is being recorded on Thursday, August 9, 2018. I would like to turn the meeting over to Mr. Paul Dykeman, Chief Executive Officer. Please go ahead, Mr. Dykeman.
Good morning, and thank you for joining us today. Joining me here as usual is Ross Drake, our Chief Financial Officer.Before we begin, let me remind everyone that during this conference call, we will make statements containing forward-looking information. This forward-looking information is based on a number of assumptions and subject to a number of known and unknown risks and uncertainties that could cause actual results to differ materially from those disclosed or implied. I direct you to our earnings release, MD&A and other security filings for additional information about these assumptions, risks and uncertainties.Our growth and strong performance continued in the second quarter of 2018 as acquisitions completed over the prior 12 months made a significant contribution to our results, augmented by our very solid organic growth driven by strong occupancies and increasing monthly rents. As a result, all of our key performance benchmarks were up significantly compared to last year. And Ross will shortly provide you with more detail on the very strong results for the second quarter and the first 6 months of 2018.Over the last 12 months, we've acquired a total of 29 properties for a total purchase price of $461 million. This portfolio growth was funded by equity offerings in June and December last year, as well on June 15 of this year, raising net proceeds of approximately $220 million and $209 million in new and assumed debt financings.We're also pleased that for the first time, we were able to utilize units to partially fund an acquisition in this year's second quarter. The fact is that the vendor took back 3.3 million Class B units, roughly $29 million in value, and it's a real testament to our ongoing future.The portfolio stands at 92 properties, including the acquisitions in Calgary and Oshawa that we announced subsequent to the quarter-end, all totaling 10.1 million square feet of gross leasable area. Total assets again, including these recent acquisitions, will grow to approximately $1.3 billion, an increase of $303 million from the end of 2017.Our focus on the vibrant greater Toronto and Greater Montreal market continues. And today, approximately 62% of the portfolio is well located in the GTA, with another 20% in the Montreal region. This focus allows us to capitalize on very strong fundamentals in both those markets. They're experiencing low availability and vacancy rates with absorption outpacing new supply as well as capturing increasing operating efficiencies, economies of scale as our portfolio continues to grow.Our same property NOI in the GTA and Montreal markets has been very strong so far this year, with the GTA up 5.6% and Montreal rising 6.7% for first 6 months of 2018. In addition, our lease renewals so far this year in the GTA have rents at 15% higher than the expiring rents. We believe these solid rental increases will continue on a go-forward basis.The strong fundamentals in our 2 key markets, Toronto and Montreal, also contributed to $90 million fair value gain in our portfolio at June 30, and that represents $1.31 per unit. So significant NAV appreciation.We're also very pleased with the performance of our entry into the data center market. As you know, last December, we further strengthened and diversified our asset base with establishing a joint venture with -- relationship with Urbacon, one of Canada's most experienced developer and manager of data center properties.Our first transaction with Urbacon was purchasing a 50% interest in a brand-new data center in the GTA, which we call DC1. And we provided a mezzanine loan related to a completed power center in the downtown Montreal. And with that, the mezzanine loan, we have the option to convert it to a 50% ownership once the property is stabilized.And we also extended a working capital loan to begin construction on an additional data center in the GTA. And we are currently in discussions relating to the development of additional data centers. Looking ahead, we do think the data center program will represent roughly between 10% and 15% of our assets on our balance sheet.In June, we were pleased to have the tenant in DC1, our first data center property, take up the remaining 50% space in the building effective October this year. Once they're fully in occupancy, we expect to see a very solid increase in our yield to comfortably over 10%. And this is another reason for the significant increase in NAV. We had this property appraised based on this expansion, and we're recording a $37 million appraisal increase. And that's in addition to the $5 million that we booked in the first quarter. So year-to-date on the data center, it's a $43 million improvement in NAV.And despite our significant growth over the last 12 months, we continue to maintain a very strong and conservative balance sheet, with low debt and coverage ratios. During the second quarter, we completed the sale of a 75% interest in 4 non-core properties, mostly located outside our target geographic markets. The sale generated $46.4 million in net proceeds, which is being deployed into additional acquisitions in our key markets.The property sales also generated $7.2 million of realized gains, and as a result, we did a special distribution of $0.018 per unit that was paid May 31. And this is a second time we've done this, third time we've had sales of property. It's just our commitment to continue to enhance shareholder value over the long term.In summary, another record year in 2017, and our strong performance continued in the first 6 months of 2018. And we look forward to this continued growth.I'll now turn things over to Ross to go through the operating results in more detail.
Thanks, Paul. As Paul mentioned, the significant increase in the size of our property portfolio over the last 12 months had a very positive impact on our results in the first half of 2018. Revenues were up almost 58% for the 6 months ended June 30, the result of the contribution from our acquisitions, continuing near full occupancies and higher monthly rents, partially offset by the sale of the 75% interest in the 4 properties completed on May 17, 2018.Looking ahead, our current 1.5% annual contractual rent increases will contribute to our organic revenue growth going forward. With this growth and our continuing focus on efficient property management, NOI was up just under 60% through the first half of 2018.For the second quarter, revenues rose 51%, generating a 47% increase in NOI compared to last year. We were also pleased to once again generate solid increases in our same property NOI. For the 6 months ended June 30, organic growth was 2.4% with a 1.8% increase in the second quarter. Our main target markets demonstrated very strong performance, as Paul mentioned, with the GTA up 5.6% and Montreal rising 6.7% through the first 6 months of 2018.With the increase in revenue and NOI, our FFO rose a very strong 61% to $19.3 million for the first 6 months of 2018, up from $11.9 million last year. FFO in the second quarter increased 49% to $9.5 million.Again this quarter, our per unit amounts and payout ratios were impacted by the amount and timing of our equity offerings used to finance our growth. On June 15 this year, we issued 13.3 million units in a successful bought-deal offering. And as Paul mentioned, another 3.3 million Class B exchangeable units were issued related to one of our property acquisitions.Together with our equity offerings in June and December last year, these issuances resulted in a 64% and 67% -- 60% increase in the weighted average number of units outstanding through the first 3 and 6 months ended June 30, 2018. We look for a return to accretive growth in FFO and more conservative payout ratios in the coming quarters, as the funds from our recent equity offerings are fully invested.Our proactive and successful leasing programs continued through the first half of 2018, as we completed almost 620,000 square feet of lease renewals and approximately 22,000 square feet of new leases. Our lease renewals start, on average, 7.2% higher than the expiring rent. And as Paul mentioned, our GTA lease renewals were, on average, 15.4% higher than expiring rents. Due to strong demand and low supply, we believe these renewals are just the beginning of this trend. With our strong leasing activity so far this year, we now only have 2.7% of 2018 lease expiries remaining.Our balance sheet and liquidity position remained strong at June 30, with a leverage ratio of only 41.1%, providing an immediate $280 million in acquisition capacity to bring the leverage ratio up to our general target of 52%. Our weighted average effective interest rate was 3.63% at June 30, with a weighted average term to maturity of 4.9 years. Debt service and interest coverage ratios also remained strong and stable at June 30.Total assets rose to over $1.2 billion as of June 30, the result of our accelerated growth as well as the $90 million in fair value gains primarily in our GTA properties and our data center property.Thanks for your time this morning. I'll turn things back to Paul to wrap up.
Thanks, Ross. So looking ahead, we believe the significant increase in the size and the scale of our portfolio will bring significant and lasting benefits to unitholders over the long term.First, the accelerated pace of our portfolio growth will continue to generate very strong and accretive increases as a result -- as we realize the contribution from the new properties that we bought late in the year and in early in 2018. We also expect to continue our pace of accelerated portfolio growth, financed by recent equity offering and recycling of capital generated from our recent property sale. Our pipeline in potential acquisitions remains strong and active. We're evaluating a number of new opportunities that will add to our cash flows in the coming quarters.We're also very pleased with our new partnership with Urbacon. The initial investments in the space are performing very well, and we look forward to transitioning our mezzanine loan in the Montreal facility when that property is stabilized. And as I mentioned before, we have a working capital loan that we've extended to Urbacon so they can get going on further data center properties in the GTA.We also believe our organic growth will continue as we capitalize on the strong fundamentals in the light industrial sector. As Ross mentioned, our properties are essentially fully occupied, and we have built in 1.5% annual contract escalations in our monthly rents. And that adds to the stability and sustainability of our cash flow going forward.But more importantly, we also believe the fundamentals in the target GTA particularly, and Montreal markets, will continue to strengthen. Vacancy is at a premium in both regions, currently at levels that I haven't seen in my entire 30-plus-year career. And as a result, we believe that we will continue to see these continuing escalating monthly rents for the foreseeable future.Finally, we'll continue to leverage our network of joint venture partners to acquire new properties, as well as additional development and redevelopment projects. And we believe we will see more of this innovative growth in coming quarters.In summary, we look forward to another record year in 2018, with our continued strong industrial fundamentals, the best-in-class properties, the experienced and proven management team. We believe we are well-positioned to deliver the increasing value to our unitholders over time.Thank you for a time and attention this morning. And now I'll be pleased to answer any of your questions. Operator?
[Operator Instructions] And the first question is from Brad Sturges from Industrial Alliance Securities.
Maybe starting out with your comments regarding the potential acquisition pipeline you're seeing today. You've had a lot of success, even though it's been a highly competitive market in being able to buy more assets in Toronto. Are you still seeing those type of opportunities that you think you can get across the line in the GTA?
Yes, absolutely. So I mean, the one we announced, the one in Oshawa, again, that was an off-market deal. The interest there was the participant also wanted to take back LP units, roughly about $9 million worth. So we've been in discussion with him for some time, but he thought that structure that we've -- we did earlier with Orlando was appealing to him. So we were to pick up that property at a very good price per square foot, just around $100. And the GTA East is really, really accelerating the rental growth out there. But we're looking at other properties. There's some sale-leaseback. There's some properties that have pending vacancies. But we're very, very comfortable with the fundamentals that we can take on some re-leasing risks and things like that, so. And the brokers, they keep -- whether you believe them or not, but they believe the -- because the cap rates have compressed so much, there's more people starting to look at the portfolios and say, okay, now's the time. So in case of the sale-leaseback, it's like why not cash in on a good environment to sell and put that money back into our core business. So we'll pick away. Some are going to be marketed deals and some will be off-market like we've done. But pretty steady. We've got several hundred million we're looking at.
Is the pipeline picking up because you are doing the share deals with Orlando and the one in Oshawa? Is that kind of the opportunity you're seeing more of now as a result of those transactions?
No, no. It's just the same numbers. We just know lots of people and we keep talking to them. And eventually, they say okay and we sell. So I do think interest rates are starting to creep up. And I think when people are looking at it, they're going, well, maybe this low cap rate environment may change a little bit over time. But I mean, all of that comes with a very fast accelerating rental growth. And I think that's why there's so many people look at the GTA, and that's why the cap rates have grown. So different people are using different assumptions when they're buying on how much those rents are going to grow. So with all those for us is getting good price per square-foot, relative to where we think replacement cost is.
And last question, just on the flip side for asset sales. I know you've talked about looking at maybe doing further asset sales. Is that something that would be on the near-term radar? Or is that looking further out over the next couple of years?
Dollar -- there's -- like we've said a few times, we have 2 properties in B.C. that we picked up from Proventure. I mean, total -- both of those are 5 million or 6 million -- 3 million or 4 million. Not that much. There's a couple of properties in Edmonton that were smaller that we bought a few years ago that one of them are having trouble leasing. But there's things like that. One of the properties that we've just signed a long-term lease on outside of the GTA, we think, would -- we've still got it. But that's like a $5 million property. So all told, $10 million to $20 million would be the max. And there's no timeline on it, but there's with that much property that we would definitely look at selling if we can get the right price.
For the Western Canadian assets that are vacant, are you still wait -- are you still -- the plan is still to re-lease them first and then look at sale? Or has that thought changed?
Now, the sign has always been for lease or sale. So it doesn't matter to us. So we can sell it, making it to an end user, happy to do that. We want to -- once we do lease it, if that makes it more saleable, then we'll -- once they're leased, we put them on the market. So like the small one in Fort St. John where we signed a 3-year lease, that tenant has an option to buy it, but we've also put that on the market now. So again, it's only a couple million dollars.
The next question is from Troy MacLean from BMO Capital Markets.
For the fair value gain on the data center, would you expect a similar gain on projects in the future? Or was there something special about DC1?
I would expect similar types of outcomes. So who knows as the market matures, but right now, there's not a lot of people doing what we're doing in terms of building these very specialized brand-new data centers. So they're kind of at a premium. So I think we're able to attract the quality of the tenant that we have and get them to sign the kind of leases that they're signing, and we kind of know where the costs are. So I don't see the cost here is much less driven by land values or development charges. It's more about how it's equipped out, and that's not going to change dramatically.
And then the tenant expanded and take the whole building. Is there potential for that tenant to expand into some of the other locations that you and Urbacon are contemplating building?
Yes. So I mean, that will be our hope. So that tenant is an international company that's a big iCloud provider. And we think they have expansion plans. So that would be a great outcome for us to be able to do that. So absolutely, that's part of the thinking.
And then just on the development in the GTA. You bought a couple properties that had excess land that you could either expand existing tenant or build a new -- build a new building. And I know you talked about that in the past. But is development becoming kind of a bigger -- especially in the GTA, becoming like a bigger focus for you, just given where we're at in the market? And would you expect to start anything in kind of the next couple of quarters?
Yes. So I mean, we're really happy that we've got some land. And so we started with the process on both of those properties, looking at what can be built there and getting some preliminary designs. But the first step was talking to the tenants and understanding what they require in terms of expansion or not and what kind of options they're kind of looking at. And then we've been interviewing and talking to brokers in all of those markets to get a sense of what types of space in terms of flex, office, more industrial, ceiling heights, all of the different things. So we're getting that information. The good news is the rents that people are starting to achieve on new building has gone up significantly. So we talk about [ a lot of those ] rentals, but we're more and more comfortable we bought both of those pieces of land at under $1 million an acre, which in today's world is actually a very good number. So when we're pro forma-ing returns, we would have been a little bit lower on rent. So I think we're a little more bullish on both those piece of lands. So it's going to take a few months to do that. We're also looking at other land that might complement 1 of those 2 pieces of land as well. So it might end up turning into a bigger program. But definitely, at this phase, we're at $1.3 billion of assets. This is the phase where we're going to start doing more development. And if we can -- and it's very difficult to find land. But if you can find it adjacent to or attached to properties and can expand, I have no concern whatsoever you're not going to have good success in leasing it at very attractive rates.
So the current rents are high enough to justify the development?
They were always high enough. It's just what kind of yield you're going to get. You're going to get yields better than you could in buying it brand-new, call it, high-quality real estate. But now we're seeing rents on all of our spaces going into the 6s. Now we're starting to touch the 7s, and that's on existing stock. Once you get into the new buildings, 8-pluses is something that's -- that's before you talk -- start looking at maybe you're going to do a little bit higher flex or office, and then you're at 10 or higher. So like the rents have gone up significantly to start to justify more development. But that doesn't mean there's going to be a flood of new development because there's not a lot of people holding land, right? So...
Given your long experience in the market, I was just kind of curious. We've seen rent growth in the GTA was kind of probably below expectations a couple of years ago, given how tight the market is. And now really over the last really 6, 12 months, it's really picked up. Do you think like the rent growth that you've achieved now, like that's kind of sustainable -- or do you -- sustainable? Or do you think it’s going to increase because tenants have fewer options and they just know that everyone is paying higher rents now?
No, this is only going to get better. And I'm very, very comfortable saying that. So we -- I've got more examples of things that we're doing in the balance of the year. All of the renewal rates are somewhere between 10% and 18% increases over the existing. Where we're getting closer to the 10%, then we're getting -- averaging like 3.5% rental increases thereafter to talk to higher numbers. So yes, it's a very, very strong market and we're also looking at stuff in 2019, where we're seeing rental increases close to 20%. So there's nothing in the future. And a few of those tenants, they're wanting to talk to us. One of them -- they don't come up until 2020, and we just signed them up. And they taken additional 50,000 square feet. Another tenant where they don't have an option in those 2 leases, that's 100,000 square feet. That's going to go up by 19% for a 10-year deal. So that's a very, very good outcome. And so when you start to see that in existing, then you know that people are going to be even willing to pay more for brand-new.
And then just on the acquisition market, are you seeing new people or new groups looking to build portfolios in the GTA? Or is it still kind of the same players?
There's everybody. It's a busy market. So you have REITs. You have the pension fund advisers. There's still lots of private equity. There's end users. It's just a very, very competitive market. And we've seen that spill over to Montreal now. There's a portfolio we're looking at, I can't remember if I mentioned it already, but it's like 15 bidders. We didn't even get into the second round. And they went sub 5 cap in Montreal on like a $45 million portfolio. So yes, we're starting to see because people are having difficulty buying in Toronto, some of that cap rate compression happening in Montreal. And actually, a little bit of that is happening in Calgary as well. So it's spreading. At the same time, interest rates are moving the other way. So that's interesting.
So do you think Montoni being more active building maybe in the next 24 months, that could create some opportunities under the JV? Or is that...
Yes, no. We're always talking to him. And he's got lots of projects. But he's doing more than just industrial. So his focus in the last couple of years unfortunately has been more on office-type properties. But there's a few things that we're talking to him about. And hopefully, we'll be able to announce those in the coming months.
The next question is from Matt Logan from RBC Capital Markets.
So just dovetailing on to Troy's question on the fair value marks. Very strong quarter. Can you give us some color on where the fair value marks in the industrial portfolio are coming from?
Yes, Ross can answer, but it's going to be primarily the GTA. We haven't really pushed the cap rates on Montreal. That example I just talked about, I think it was like 4 3/4. I think our -- what's our average cap rate in Montreal? It's still 6.
About 6, yes.
6 something. So there's probably still more room in Montreal. But we're not seeing anything that you could buy in GTA that's above 5 cap anymore. So for us, it's all about that price per square-foot. So we're buying still like we did in Oshawa, $99 per square-foot. The [ more varied stuff ] we bought last December was $99 per square foot. I mean, that's probably 30% to 40% less than, I think, replacement cost is. So...
Our average -- like the average cap rate overall in the portfolio went down about 30 basis points. But that's primarily attributable to GTA, which we're valuing at rate around a 5 cap in that.
And that's netting out. We did write down a couple of properties in Edmonton and B.C. just because of the vacancy and the market conditions out there. But yes, primarily, Toronto now. But we're looking at Montreal. That continues, and we have a few more examples of trades that happened at those kind of lower cap rates, I think there's an argument that Montreal could also show some more fair market value gains as we go forward.
Is it fair to say if the strengthen in the capital markets continues and there's more bidders out there that we could see further cap rate compression even from here?
We've heard some of the buyers out there using extremely aggressive leasing assumptions, like 10% a year for the first 3 years. So if you can wrap your mind around that, you can probably pay whatever kind of cap rate you want. So we are discipline has always been at price per square foot. We found that if we follow that rule, we usually never go wrong because -- and why I'm comfortable with that even more now is that everything is indicating that replacement cost number is just going to accelerate at a number that's significantly above inflation because of the shortage of land, those increasing amount of development charges. We're seeing a very rapidly growing replacement cost number as well. So I don't think it's going to change.
And just on the leasing front, how are you guys making up for your 2019 maturities? Are you seeing a lot of interest in tenants looking to renew early?
Yes, no. [ We're actually ] having fun. So there's one tenant -- I think I mentioned it last quarter. The one tenant was paying 5 1/4. Another one was paying 5.30. One of them has an option to renew, and one of them didn't. And we basically went to both tenants said okay, bid on the space. And they come back at 5.75 or 5.80. We're like, no, no, no. And so now we got one tenant that had the option to renew is renewing at 20% above -- and their lease doesn't come due until 2020. So yes, they're trying to get it -- so they're doing a 20% increase on a 10-year deal and they're taking the other 50,000 square feet at a 20% increase over where that rent was. And so that's 100,000 square feet there. There's another tenant next year, 150,000 square feet, doesn't know exactly what they're doing, wants to sign a 1-year deal. We proposed a rent that's 22% higher than last year and spending no money. We've got one property that's coming up with a vacancy. We'd love for the tenant -- they bought another building. We'd love for the tenant to move out. He's paying $6. It's a standalone building. We think we can lease that at somewhere between 20% and 25% higher than that existing rent. So yes, lots of good news. Next year there's a few properties in Montreal which -- we'll get to test it, but both of those rents are, I think, below 5. So again, I don't think the rental growth in Montreal is stronger. But there's still -- we're still seeing nice increases there as well. So yes, we're -- if you had more renewals coming up, that's good. But we even got a tenant that's out 4 years and is talking to us. And we're happy to do short-term renewals now because we think rents are only going up in most cases. So there's a few properties that are not exactly in the GTA. They're in other Ontario. So we're not going to expect the same kind of level there. So we'll do what we can to keep every tenant in place. But I think these kind of occupancy levels and these kinds of rental growth are here to stay now for the next foreseeable future.
The next question is from Chris Couprie from CIBC.
A question on the data center segment. The net rental income declined sequentially. Just wondering if you could comment on that. And DC2, how's leasing going? I think that Urbacon has broken ground there. Is it completely on spec? Or is there indications of leasing? And Montreal as well, I may have missed it in your opening remarks, if you can -- any color on what tenant interest is like at that property.
Sure. I'll let Ross answer the hard question, the NOI.
The net rental income. It's a gross lease. So the operating costs are not smooth throughout the year. So we had slightly higher operating cost in the second quarter in that, just due to the timing of certain things in that. And we're not amortizing anything in that. So by the end of the year, I think we'll get back to what we achieved in the first quarter in that. So that's basically...
So a full year type of margin would be what?
I'll have to get back. I don't have that off the top of my head. I'll have to get back to you on that.
What are some of the OpEx, operating cost that are seasonally higher in 2Q?
Well, it's -- again, I don't have it right here in front of me, but it's just -- if they're getting somebody in to test some equipment in that, they're just expensing instead.
So they're -- we're going through an expansion phase with the tenants. So there is -- we're spending significant quantities of materials. But as part of that, it's coordinating things with the tenants. So there's extra security and construction people managing the construction site. And like as Ross mentioned, a lot of these systems, as they get installed, need to get tested along the way. So the costs are getting -- everything will stabilize to a more -- the fourth quarter should be a good test of where it's going to be going forward. But between now and then, it's going to be a little choppy up and down. But again, for us, the yield on cost is safely above 10% once the October comes. And then the answer to the other 2 questions you asked. We've talked to lots of people about the Montreal, but there's no one signed on right now. But we're still looking. Some tenants have talked about doing the entire building, which obviously would be our preference. But we could lease it out on a floor-by-floor basis for the 9 stories. But again, we're in a loan position, so we're accruing an accretive interest yield while we wait. And DC2, the plan would be to build that on spec. But it's built in phases. So the first component of construction, which Urbacon has started, is what we call the power shell. So it's getting the power to the site, getting your walls up in your ceiling and all of that. But then there's nothing layered on for the specific tenant. So you don't want to spend that money because you don't know what the tenant is going to require. So that cost is not overly expensive, but what it does save you, it's about 18 months. So by the time you get the property zoned, permits and you built a power shell, then to do the upfit, like we're doing on DC1, it's about 6 months -- 4- to 6-month project, though we're kind of getting ahead of -- without spending the big, big dollars, you're kind of 18 months ahead of any competition. So you're ready to deliver an active data center within 4 to 6 months. So that's kind of what we found, is that you have to see it. The tenants want to see what it looks like. Now they can tour the DC1 and they can say, okay, it's going to look like that. But now they can see that it's real. And we can show and demonstrate that there's 10 megawatts of power ready to be plugged in and go. So that's the plan there.
Okay. And just there's a little bit of -- on the working capital loan that was extended in the quarter to Urbacon. How much was extended in the quarter?
There was -- on the working capital loans?
Yes.
$7 million. So I mean, we're a little more -- a little better capitalized than our partner is. So we're helping fund an extra portion of the expansion cost and by -- instead of the 50-50 basis, and we expect the majority of that to come back when we put the permanent financing in place. So we're talking to different lenders about...
It was about $10 million to $12 million that was extended in the quarter between the...
But it was between -- but it wasn't all working capital loan. That was -- there were some mezza -- oh, no.
Working capital, yes.
Okay. And then maybe just switching gears on market fundamentals. So development activity just in the GTA has picked up sequentially. Any sense for how much of it is spec versus build to suit? And then just on land prices, have they -- I know they -- we've seen a nice jump in land prices in the last kind of, call it, year or 2. Have land price sales been a little more stable in, call it, the last 3 to 6 months?
Yes. So I think most of the building that's going on starts as spec, but I don't think it's spec for volume because in Orlando's case, I think they built 4 million square feet last year. I'm not sure exactly what they have on the books for this year. But by the time it was completed last year, it was already filled, most of it from the tenants in their portfolio expanding. We know most of the other developers that are building are -- it's all spec. We used to call it [ would build Summit ] in these kind of environments. We call it building inventory because it's really not spec. There's no -- we know exactly what the cost is going to be. The only thing you don't know is the rental rate and what's the fit-up, and that's the only thing. And I think I mentioned in one of the last calls. I -- to get where the availability rate is from where it is now to what I would say is the standard market condition, which is 5%, we need about 50 million square feet of industrial development, which there just isn't that much industrial land ready to go. So I don't think the market's going to catch up. So I think we're going to be in this condition of low availability for quite some time. And that's going to continue to push land prices. So there hasn't been a lot of land trades, but there's definitely pressure everywhere. And as I mentioned, it's starting to move. And we're seeing it particularly in the East where there's more development and more land starting to trade down. Whitby, Pickering, Oshawa, all those areas have really picked up quite nicely.
So if you were to do a development today, I think we talked a little bit last time on some of the rough underwriting criteria. Have you gone through your portfolio at all and identified any more potential sites?
It's really going to be tenant-driven other than the 2. So we have 2 parcels of land that are independent of buildings, the 5 acres in survey road and then the 7.5 acres down in Burlington. So we're in the early stages of getting those 2 sites ready to go. The rest of it where we have expansion capability has to be tenant-driven. So that cold storage building we bought from Orlando, that tenant can expand by 40,000 square feet. So we're talking to them. Do you want expand now? Do you want to expand in our new building that will be across your parking lot? So most of the land that we have is going to be tenant-driven.
[Operator Instructions] And the next question is from Matt Kornack from National Bank Financial.
Sorry, if I'm not your favorite person this morning but...
Why? Why? Why could that be?
You've done incredibly well. So the markets rewarded you. Just a few quick questions. One, can you just walk through the mechanics on the fair value adjustment on the data center? Just wondering if there is a yield compression that you're assuming there, if it's all rent driven at the end of the day on the expansion?
Yes, no. It's all rent driven. So we actually have that property appraised. Just getting ready to do our long-term financing. So because of the specialized nature of those type of properties, I think we quoted in here, we saw it at like 6 3/4 cap rate but it's actually 7 cap on income. The 6 and 3/4 assumes some vacancy. So that's almost 200 basis points higher than what you would expect for a normal industrial building. So yes, it's not cap rate compression. It's just all on NOI that we expect.
So the yield on cost is around 10% and then [ the next is 7? ]
I didn't say that. And I'm not going to tell you what yield on cost is. It's a competitive secret. So it's north of 10. And that's why you guys can try to figure out the math. But you're taking on extra risk here. There's extra complications in these kind of properties. But the incremental revenue from the data center, you don't have the same incremental cost. So we already have the 24/7 security. We have the 24/7 maintenance people on staff. A lot of those costs are fixed. So the rent is doubling because the tenant is doubling in size, but the costs don't double. So your NOI growth on the second half is much more accretive than the first half. And the idea here is to build up several data centers. And we do believe at some point, you will create a bit of a portfolio premium, or that's an option down the road. Most of the U.S. data center REITs are trading between 5 and 5 -- implied cap rates 5 and 5.5. In Canada, there's just -- there's not the liquidity right now.
Presumably, we'll have to increase our CapEx assumption a little bit on the FFO. Have we -- have you made any adjustments as of yet on that front? Or do you take a bit of reserve eventually? Or how do we look at it?
So eventually, I think is the right thing. So through our new diligence and what we've looked at, it's really the maintenance cost is not dramatic in the early years. And when I say early years, the first 5 to 7 years because most of your major equipment is under warranties. You have -- we have a certain amount of CapEx already built in to constantly test and fix little things as they occur. Your big CapEx in the data center is replacement of your UPS batteries. That could happen anywhere from year 6 to 8. But each time you do that, they're becoming cheaper and they're becoming longer lasting and stuff like that. If you own a data center through the whole 15 years that the tenant here, yes, your CapEx will increase. But for Summit's exposure in the short term, it's not going to -- there's not going to be an increase in CapEx. So if you look at -- with the margin, we're over 70% now. And when I looked at the long-term comps in the U.S., REITs are somewhere between 55% and 60%. So your margins will go down in that business if you have an aging and older portfolio. But our thought is you're going to have -- as you keep building them, you'll have some that are 2 years old, some that are brand new, some that are 5 years old. So that CapEx kind of gets spread out over a larger group of properties.
Fair enough. And then just with regards to next year, is the composition of your maturities similar to your portfolio proportionally being in -- more in the GTA versus Montreal? Or can you update...
There's a couple -- I'm just looking at our report. There's a couple of big ones in Montreal that we bought. And as I mentioned the rents are both, I think, in the under $5 range. So there's, what, like 350,000 square feet in just those 2 properties. And then there's a few more in Montreal. So yes, it's a little more slanted to Montreal for next year. One of the big ones is expiring where the in place rent is 4.83 on 250,000 square feet. And then the other one that's around 100,000 square feet, it's below 5 as well. I just don't have the exact number in front of me.
And it sounds like you're playing a successful game of chicken on the GTA portfolio. But do you think you'll have to take any transitional vacancy in the GTA portfolio to get the better rents? Because presumably, you have to threaten them when you're...
No, you know what, it's an education process. And you can start to point to other people, but I think you will get some vacancy at some point. But the problem is if you really need to stay in business, you don't have a lot of options once you start to get up -- our average tenant size is at 60,000 square feet. There's just not a lot of spaces around. And so when you start looking and saying I'm paying 5 and I'm going to go to 6, which is a 20% increase, when you start going and saying okay, where can I find another 100,000 square feet somewhere? And you can't. And if you do, it's a new building. And it's going to take 2 years and then you got the cost of moving. It's like, you know what, I can pay $6. So it's starting -- it's taken time and it's a little bit different in Scarborough and it's depending on some properties that would be a little harder to release that we're not going to be quite as aggressive on. So that's why I always say I don't talk specifically about each market rent and the place. It's a tenant by tenant. But clearly, it's a landlord market. One property that I mentioned, that 57,000 square feet next year, the in-place rent is 6. We think it can go easily over 7. We think that tenant is going to leave. But the downtime is going to be -- we'll know about that 6 months in advance. Like the downtime is going to be minimal on that kind of stuff. Now we have couple of vacancies, and that's why our occupancy is down a bit. We bought 3 properties with vacancies, one after quarter-end. But last year, we bought the investor's group portfolio. It's like $60 million -- $66 million. We had 27,000 square feet of vacancy. We bought that at a 5.9 cap, which looks pretty good today. We just leased 12,000 square feet at $11.50 net rent. It's more of a flex building. We're talking to an existing tenant to take the remainder. So that yield -- just leasing up those 2 vacancies takes it like from a 5.9 to a 6.5. The one in Humberline, we've had to go in for a variance and it's taking very, very long. So we're into 9 months trying to get this variance with the city. That's 40,000 -- 44,000 square feet which we can't get access to. We have to put some loading doors in the front of the building. We've already had people knocking on the door, looking at that vacancy. So we bought that at a 5.6 cap. That's going that's -- that's cap rate is going to move almost up to -- or the yield almost up to a 7 once that's done. So we were joking in our meeting yesterday because our -- internally, we think we should be able to get back to 100% before the end of the year. And that Humberline one is probably the one if we -- if the city can move a little faster, we might be pushing it. But otherwise, we have no concerns on where occupancy level is. And it's a fun time to be a landlord in the GTA.
Sure. No, sounds like it. And then last question for me. You're slowly losing peers on the external management front. Any thought now that you're over $1 billion worth of assets as to timing or if you will ever internalize the management platform?
Yes, we have that question quite a bit Matt. And we've clearly been talking about it at the Board. And what we want to do -- and it's something definitely that Lou and I have spoken about. It's something that we would entertain. We think the math -- we wanted to make sure it's accretive and everything works and it's going to be a good outcome for everybody. But we definitely -- with this accelerated growth, I think that discussion is also going to accelerate internally. But we don't want say too much more about it than that, but it is something that is in our mind and something that we need to do.
The next question is from Mike Markidis from Desjardins.
Just curious, I'm not sure I -- I joined the call late. But have you -- you mentioned that you're looking -- you did a valuation on DC1, and that was a big part of your share value gain this quarter. But it sounds like you're preparing to get long-term financing there. Did you talk about the terms and the amount that you're expecting to achieve?
No. Because we're still working on it.
Can you give us ballpark?
No, I'm not going to say anything because it's a unique financing and what we're finding, first of all, it's a big number. So it kind of -- it's either going to be syndicates of banks or a very unique lender. But because there's not a lot of data centers in Canada for lease, most of the data centers in Canada are owned by telcos and some of the big players, there's not a lot of experience in data center financing. So a couple of the groups that we're talking to the most are looking at U.S.-type lending. So we're still kind of working through it. It's a little bit new to us, and the terms vary a lot from interest only to shorter-term amortization matching the lease. So there's some trade-offs there. So we'll know more probably by next quarter. We'll be getting closer to putting that in place. But we're comfortable that we will get it financed and it's just matter of how much money we'll be able to extract on that financing.
Okay. And can you remind me, is there -- did you guys put all cash down on that property? Or is there some funding in place that...
Yes. There's construction debt. It was $50 million and I think is going to be...
About $55 million and then it's gone up in the third quarter.
Yes. But it will max out at about $85 million at the end. So yes, it will about $85 million of construction financing. So we expect the long-term financing to take all of that in and release quite a bit of capital beyond that as well. So we're just -- it's just trade-offs on the different terms, interest-only interest rate, any other terms and guarantees and things like that. So it's not a straightforward type of financing. So we're going to need more time to work through that.
Okay. And the $85 million, is that at 50% or 100%?
That's 100%, sorry.
Okay, no problem. And then just in terms of -- you guys have done a great job building your presence in the GTA and expanding the portfolio. The earnings growth has been -- year-over-year has been a little subdued now. With DC1 coming online, do you guys have any thoughts to just sort of maybe take the pedal off the metal for the next quarter or 2 and letting that positive contribution flow through the earnings? Or are you just going to continue going ahead and respond to opportunities as they come about?
Number 2. Yes, the rental growth opportunity is in the GTA. So what we're doing -- you want to manage the accretiveness on the entire REIT. And doing things like we did in the data center, doing things like all those properties I talked about where we're doing -- buying properties with vacancy and leasing up, those are all very, very accretive. But at the same time, we're doing that because we want to continue to be competitive and bid on the Toronto stuff. If you look at the Toronto average properties, that's a 4 3/4 to 5 cap. That in itself isolated is not accretive to our current income. But when we're buying it at $99 a square foot and we think there's above-average rental growth if you're trying to look for total return. So we're trying to do some -- it's a balancing act, and so we want to continue to buy because we only see that continued pressure on replacement costs. So we're trying to do -- use these other value add or development or data centers to provide that accretiveness to help us look at these other opportunities that wouldn't be accretive on day 1.
Okay. Last question for me before I turn it back. Ross, could you maybe help us out in terms of when the expansion of DC1 will kick in from an FFO perspective and then how the straight line rent will look as the tenant fit out or any free rent occurs?
Yes. There's no free rent. It will kick in, in the fourth quarter.
Yes. So October 1, and everything is on track. All the equipment is there. It's being tested now. So we don't anticipate any different. But the 100% rental income should start October 1. And like you said, that's when we'll start to -- it might take a quarter or 2 to kind of get the normalized operating expense number that's going to be a bit more predictable. But like I said, the operating cost won't increase. They won't double because the rent is doubling here. And I think we said that.
Right. It's on the same terms and conditions. So the straight lining rent will just double.
Will just double, right. And there's no free rent. So there's no abnormal timing effect.
Yes.
The next question is from Brad Sturges from Industrial Alliance.
Just a quick follow-up. I guess clearly, the focus in the opportunity with the rent growth is Toronto, and you're seeing better opportunities in Montreal of late. I guess I'm just curious to get your thoughts on Alberta right now in terms of acquisition opportunities or your thoughts on the market in general.
Yes. So it's a tale of 2 cities. So right now, and for the last 18 months, really seeing Calgary turn the corner. So you would say it was at the bottom 2 years ago, and we're seeing vacancies steadily go down. We're actually seeing quite a bit of new development. And rental rates are still firm out there. So because the cost to build out there is reasonable compared to the GTA or Montreal, they're still getting $9, $10, $11 rents. So you can still build a very good yield. So Calgary is a very stabilized market. As a result, I think people have -- the opportunity to buy when the other people weren't buying, I think, is starting to fade. So we bid on a couple of things and now lost out. So before, there was only 1 or 2 bidders. So we've seen 50 basis point cap rate compression over the last 12 months in Calgary. So Calgary, for all intents and purposes, is back. It's stable. We're very comfortable with it. Edmonton is still suffering from the oil and gas industry and the tar sands and all of that. So that market is -- it's a little bit weaker. So I think we just -- I can't predict when that's going to turn around. But we still like Alberta long term. So it's just a matter of finding the right entry point. The properties we tried to buy in the past were low embedded rents and more term to it. But in Calgary, we bought that property with 22,000 square feet of vacancy. We're talking to a tenant now about filling that at a number that's above $10, $10. So it's a healthy market.
Got it. And last question. The one cold storage deal with Orlando, is that a segment that you would look to do more deals in or get more exposure to?
If I can play Lou, the role of Lou, Lou loves cold storage. So he's been talking to cold storage business for 10 years, and we'd love to do more. It's a virtually 100% occupied segment of the industry. All the cold storage tenants that we've spoken to, we bid on the Congebec portfolio, don't know where that ended up. But they were selling 8 or 9 of their properties, sale-leaseback. But there's just not a lot of liquidity in that market. So it's hard to get volume. Kings Head owns a big portfolio. So it's -- but yes, we like that. We're very comfortable with it. We just need a good operator. But essentially, there is 0 vacancy in the cold storage business, and there's under-capacity. So there needs to be more cold storage built. So we'd love -- if we can find them, we'd love to own them. We're very comfortable owning them.
Thank you. There are no further questions registered at this time. I would like to turn the meeting back over to you, Mr. Dykeman.
Okay. Well, thanks, everybody. Lots of great questions today, as usual. And look forward to next quarter and have some more exciting stuff to talk about. Thanks a lot. Bye.
Thank you. The conference has now ended. Please disconnect your lines at this time, and thank you for your participation.