U.S. Markets open in 3 hrs 4 mins

Edited Transcript of ERF.AX earnings conference call or presentation 19-Aug-19 1:00am GMT

Full Year 2019 Elanor Retail Property Fund Earnings Call

SYDNEY Sep 9, 2019 (Thomson StreetEvents) -- Edited Transcript of Elanor Retail Property Fund earnings conference call or presentation Monday, August 19, 2019 at 1:00:00am GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Glenn Norman Willis

Elanor Retail Property Fund - MD, CEO & Director of Elanor Funds Management Limited - Manager

* Michael Baliva

Elanor Retail Property Fund - Co-Head of Real Estate & Fund Manager of Elanor Funds Management Limited - Manager

* Paul Siviour

Elanor Retail Property Fund - COO of Elanor Funds Management Limited - Manager

================================================================================

Conference Call Participants

================================================================================

* Edward Day

Moelis Australia Securities Pty Ltd, Research Division - Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for standing by, and welcome to the Elanor Retail Property Fund. (Operator Instructions) Please be advised that this conference is being recorded.

I would now like to hand the conference over to your speaker today to Mr. Glenn Willis. Thank you. Please go ahead.

--------------------------------------------------------------------------------

Glenn Norman Willis, Elanor Retail Property Fund - MD, CEO & Director of Elanor Funds Management Limited - Manager [2]

--------------------------------------------------------------------------------

Thank you very much, and good morning, ladies and gentlemen, and welcome to the Elanor Retail Property Fund results presentation call. I have with me here today members of the leadership team of Elanor business group, including Michael Baliva, who's Co-Head of Real Estate and Fund Manager for the retail fund, Elanor Retail Property Fund; and Matt Healy, who is Head of Retail. I'll look forward to handing you over to Michael shortly.

But in the first instance, I'd like to provide a brief overview of the year that was. And just to state the key ambition for us as manager of this fund is to deliver investors an investment in a retail property fund that in turn delivers strong risk-adjusted returns. And further to that, we strive to grow security holder value, NTA per security as the other overarching objective as manager of this fund.

Over the course of the year, we are pleased -- I'm particularly pleased with the team's efforts in growing NTA value. Indeed, since 2016 when the fund has listed, the NTA's $1.25. It now is around $1.53, so a reasonable growth in NTA per security in a sector that has its challenges, of which we are very, very cognizant of.

The key achievement over the half have been in the main assets, the major assets in the fund. Being the Tweed Mall assets and the Auburn Central asset, those 2 assets constituting about 60% of the fund. And I'll let -- Mike will take you through what's been achieved in terms of executing the strategic and operational initiatives in those 2 assets and more broadly across the fund.

Whilst core earnings is down on a comparative period, the comparative core earnings, taking into account the downtime at Tweed Mall for the introduction of ALDI which will reshape that shopping center in a significant way and also adjusting for the performance fee that's been accrued from the listing date back in November 2016 to now. So we put that comparative core earnings and there's a modest increase in the comparative core earnings on a period-on-period basis.

I'm mostly pleased with the continued growth in net asset value for the fund. The portfolio average cap rate of 6.7%. We believe it is very fair, and Michael will take you through that in his overview of the fund. And particularly when you consider the cap rate for the noncore assets in that fund.

Gearing at 38.8% is going pretty good in the range of 30% to 40%, which is a target gearing range for this fund.

So we just go to Page 6 of the presentation. As I mentioned before, we have the key objectives of delivering a strong risk-adjusted return for investors in this fund and also grow net asset value, NTA for security holders in this fund. That is a -- they are our overarching objectives, and we continue to strive to do that. And Michael and the team have achieved significant -- have made significant achievements over the course of the year.

So we stake there in terms of our fund's strategy and investment philosophy that we invest in retail properties. We active -- actively asset management, which is a very key point of the way we manage the fund. We put ourselves out to be very active asset managers and striving to add value through the strategic repositioning of the assets within that fund.

Having said that, we won't be adding assets to the fund until the -- until our broader cost of capital, if you like, is rectified and better reflects the underlying value of the fund or we won't to be adding assets until we complete our strategic review of the fund with a key ambition to close the gap between NTA and the current security price, and we'll talk more about that a bit later in the presentation.

So Michael, I'll hand it over to you now to take us through the execution of the strategic initiatives in the fund.

--------------------------------------------------------------------------------

Michael Baliva, Elanor Retail Property Fund - Co-Head of Real Estate & Fund Manager of Elanor Funds Management Limited - Manager [3]

--------------------------------------------------------------------------------

Thanks, Glenn. When we look at our strategic initiatives for the fund, really, they are focused on 2 main objectives: one being increasing the NTA of the underlying securities and therefore increasing the value of the assets within the fund. And as Glenn mentioned, we've done a -- we achieved a strong growth since listing, increasing NTA from $1.25 to $1.53. Despite, as we all know, some pretty significant headwinds in the retail investment space.

The other objective we set to achieve is to improve the quality of the earnings of the fund and mostly focus on increasing the earnings from nondiscretionary retail, particularly supermarkets and food and retail services by its retailers and away from discretionary spend and also TDS anchors as well. And you can see from the results of the execution of the strategies by Auburn Central and the Tweed Mall, we are continuing to advance on achieving those objectives.

At Auburn Central, we announced on the 18th of July that we agreed early surrender of Big W lease. The Big W lease was due to expire in June 2024. We successfully negotiated an early surrender of that lease.

We had also surrendered fee that covers the downtime while we reposition that asset into a more nondiscretionary focused asset and our objective is to ensure that the dual supermarket they would set up more appropriate for that market.

In addition to that, we're seeing that under-renting of the Big W space will result in a positive income reversion for that asset in the order of $2 million from the $1 million that Big W is paying on that space. And that rental reversion has resulted in the valuation increase from $82 million to $101.5 million during the period.

We're well above in the repositioning strategy for the asset. We've got the Heads of Agreement with a nondiscretionary retailer where they go through their Board approval process and we expect to be able to confirm that in an initial group in the near future.

At Tweed Mall, pleased to announce that the new ALDI 15-year lease will commence on its opening on Wednesday, this Wednesday, the 21st of August. That's a very significant initiative for the asset. We anticipate very strong increase in center sales and footfall, particularly in the northern part of the mall, which has been up to now a week. The reintroduction of ALDI has really allowed us to remix that more and more introduce a number of non-discretionary food and retail services, retailers to complement the introduction of ALDI. And on Wednesday, that northern mall will be -- will open, fully occupied. So -- and we're pleased with the outcome, despite again challenging conditions in retail recently.

We also have made strong progress on our master planning for the Tweed Mall sites, as we've mentioned earlier. Tweed Mall site has very strategic underlying real estate value, given its favorable planning controls. And as a result of that, we're looking to execute on that.

We've had very favorable feedback from council and as a result, we're looking progress that initiative relatively quickly in the second half. The other pleasing aspect of our important initiatives is that we've significantly bolstered our development and asset management capability. Beside me here is Matt Healy. Matt joined us a few months ago as the Head of Retail and will be critical and focused on working with me and the rest of the asset management team to drive investment performance out of the ERF fund assets.

Turning to Page 8 now. We put in here a bit of sort of a plan of the repositioning area, just to give some context as to how significant is it. It's 7,150 square meters of the Big W space. When we account our space like this, important considerations are loading and retail amenity. And we've been able to achieve that by the existing loading area from Big W, but also the acquisition of an adjoining site, which provide us access from both sides of the Big W box that will facilitate our repositioning and leasing initiatives.

As mentioned earlier, the repositioning project is expected to generate a $2 million increase in the income at a cost of $20 million before generating a 10% yield on investment, significantly ahead of the cost to -- the funding cost for that initiative. And we think that's -- that upside is actually conservative. We expect to outperform that pretty strongly as well.

The surrender with Big W has been negotiated on the basis that they continue to occupy until Christmas. Obviously, it's an important trading period for DDS retailers. We will get the space back in January of next year and commence the project in February with an expected completion date of the end of 2020, well ahead of the coverage of the lease, I mean the payment, so that has no negative earnings impact for ERF investors during this downtime period of the Big W repositioning.

And we're actively commencing the leasing program and it's fair to say that getting good interest, despite the fact that we now actually have the space backed from us. We're getting so much, particularly from mini-majors. And actually, that initiative will result in a very positive outcome for earnings for the fund.

The other important repositioning initiative is the Tweed Mall-ALDI. As I mentioned earlier, that will open on Wednesday, looking terrific. We are expecting a very strong opening. The marketing campaign that's been launched by ALDI and our management team. It's been very extensive. We've partnered well with ALDI.

It's unusual for ALDI to partner with landlords of a marketing initiative, but we're expecting that to really drive a positive outcome, not just from the day of opening, but throughout the 15-year lease that ALDI has signed up to really drive our ability to reposition the specialty mix in the center. More overall, as stated, we've completed the northern mall. But I think once the increased footfall in the mall is seen, that will also assist them in continuing to drive re-leasing opportunities throughout the rest of the center as well. The Manning Mall target renewal is an initiative we announced in the last period. And that extends a while and help up the cap rate as we reported in the last half.

At this point, I'll hand over to Glenn just to provide an update on the strategic review.

--------------------------------------------------------------------------------

Glenn Norman Willis, Elanor Retail Property Fund - MD, CEO & Director of Elanor Funds Management Limited - Manager [4]

--------------------------------------------------------------------------------

Thanks, Michael. Before I provide an update on the strategic view, on Page 11 of the presentation, we just tabled how we viewed the properties of the fund. We look at the fund in -- as having 2 discrete sets of properties, the value-add assets, which are the Auburn Central and Tweed Mall, both of which we believe will continue to generate high risk-adjusted returns for both assets.

And also the other group of properties being what we call core assets, which are particularly nondiscretionary focus retail properties that deliver strong cash flows for the fund and for the security holders.

If we turn to the update on the strategic review on Page 12, we made it clear that we have an overarching ambition for this fund to have the security value reflect the value -- underlying value of the fund. In other words, we are working to close the gap between the NTA and the current security trade price.

Important in doing so, is executing on the repositioning initiatives that we -- in the value-add assets that Michael has just gone through. But also, we have spent a good amount of time evaluating the potential realization strategies for the value-add asset and the evaluation of the potential realization strategy for the core assets. And in addition to that, we have considered potential realization strategy for these assets being realized, I guess, the discrete sources of capital more appropriate for each particular type of asset, capital more appropriate for the core asset and capital more appropriate for the value-add assets.

So in summary, we are determined to close that gap between NTA and current security price. We've identified a number of options in that regard. And we're looking to execute on the preferred option in the -- what we'd say is a short to medium-term and we add the" if appropriate." We continue to strive to close the gap by delivering performance in the underlying assets of the fund. At the same time, as working at pace to identify the most appropriate strategy to close the gap by way of more specific capital transaction, and we'll be keeping the market informed as we -- as those developments progress.

I'll hand it over to Michael now to look at the assets in more detail and then we'll go through the quarter details coming through around the financials.

--------------------------------------------------------------------------------

Michael Baliva, Elanor Retail Property Fund - Co-Head of Real Estate & Fund Manager of Elanor Funds Management Limited - Manager [5]

--------------------------------------------------------------------------------

Thanks again, Glenn. Page 14 is a slide we prepare on a regular basis and update on a regular basis just to show how we're achieving on the operational and strategic initiatives that we are employing.

And each asset, fair to say, is on track particularly, as Glenn mentioned, the 2 larger assets, which we provide a highlight on earlier in the presentation. But Auburn Central, I guess, as a reminder, we did sell the long-haul second level podium assets over the course of -- we finalized that in the last half, as you may recall. And we reinvested those proceeds into the investment in the Moranbah Fair after we realized $20 million. Key initiative at Auburn Central again is the Big W lease surrender. You may recall that we've been trying to unlock that opportunity for some time. It's pleasing that we've been able to achieve that, consistent with, I guess, Big W strategy for a number of their stores. And the key initiative now is to execute on that repositioning strategy, of which we're well advanced.

Tweed Mall, ALDI will open again on Wednesday, and we're progressing well with our master planning and our staging of the repositioning of the site more generally.

Manning Mall, we've -- again, we've renewed -- we've completed renewal back in November of last year for a new 5-year term based on an occupancy cost view. And we continue to work with a fast food mini-major to introduce their menu at the center. And we continue to negotiate with the major tenants to ensure that continues to be an opportunity to continue to progress.

Gladstone Square, you will note later that we've written that asset down. We've -- occupancy has come down in that asset due to challenging market, typically. But it has rebounded in our view, and we're saying nothing more about it. In Gladstone, we're seeing some investment there. And we're seeing strong Woolworths sales but leasing is being -- has proven challenging. And as a result, we've tried to write it down. We meant to investment some capital into that asset to improve its performance as well. In fact, Woolworths sales' strong and the WALE, to the Woolworths, stood to them at [36].

Moranbah Fair, we completed the introduction of some kiddie play area in it which received very strong feedback from our community. And as a result, we're seeing really strong interest from office and specialty retail and leasing inquiry. We'll occupy that and we're bringing that asset down as well with a view to divesting it despite the fact that it's got leased until 2025, within the appropriate time to be really considering divestment of that asset.

In Northway Plaza, we're making good progress on the development potential of pad sites and that will be an important focus for this next 6 months to strive to achieve that operational site as well.

As we noted earlier, this portfolio is really split into -- we see it as 2 larger assets, the Auburn Central and Tweed Mall, representing about 60% of the portfolio and the balance of the asset. While still providing strong cash flow, more passive in their investment horizon.

Turning to Page 16. We've got 4 sub-regional assets and 3 neighborhood shopping centers. But certainly, Auburn Central. We'll cover neighborhood shopping center once we post the surrender of Big W early next year. So that will be reclassified to that double supermarket neighborhood shopping center. And again, we'll continue to look to rewrite towards more food-based non-DDS, nondiscretionary-focused assets as we continue to progress with the strategic initiatives.

On Page 17, the asset summary. Key points to note there. Auburn Central, the WALE for that asset has come down as a result of the early surrender of the Big W lease. It's now only 6 months to go till that expire now, which obviously brings the WALE from 4 years for 3 years.

The Tweed asset replaced, if you see, leased to ALDI now, that will also -- that will insist in securing further tenure for other assets, other retailers as well. The weighted average cap rate for those 2 assets is 6.25% and the balance of the portfolios weighted average cap rate is 7.5%, which I think compares very, very favorably to where the market is seeing assets trade, particularly in the neighborhood shopping center space.

In terms of valuation portfolio movement, as mentioned earlier, the valuation of Auburn Central has increased to 1 and 1.5 as a result of unlocking the redevelopment potential at Big W. The cap rate has remained unchanged at 6%. The increase in values' entirely attributable to the increase in the market rate potential for the Big W space, less the cost to complete the works.

The Tweed Mall, that increased from 96.2% to 101.3%. It is purely as a result of the capital expenditure during the period. That asset hasn't been revalued at this stage. That's just the capitalization of the cost of the works.

And as I mentioned earlier, the Glenorchy Plaza and Gladstone assets have been written down, but we've also written up Moranbah Fair from $25.7 million to $26.3 million as a result of increased strong inquiry and income from that asset. All 3 tightening the capitalization rate with Northway Plaza remaining more unchanged other than for some capital expenditure.

In terms of realty value of ERF compared to peers, our weighted average cap rate for the portfolio is 6.7%. But as I mentioned earlier, between Auburn assets, weighted average cap rate is 6.25%, reflecting a -- I guess a more value-add nature of those assets. Whereas the core assets being the remainder of the portfolio is largely neighborhood style shopping centers, weighted average cap rates for those assets is 7.5%, which compares better, we believe, to the peers there.

Just turning to Page 20, this seeks to demonstrate, I guess, the underlying earnings. As I mentioned earlier, what we need to continue to strive towards is to reduce the weighting of our earnings towards nondiscretionary spend. And Big W currently represents 8% of the earnings following the lease surrender, that'll reduce significantly and reposition it more towards the nondiscretionary part of the investor set, the recap set.

On Page 21, the lease expiry profile now reflects, in FY '20, the surrender of the lease expiry of Big W in this financial period. FY '20 is the expiry of the target at Tweed. And the -- in FY '22, reflects the lease expiries of Coles in IGA, Coles in Tweed so -- and IGA in Northway Plaza.

In terms of comparable sales, we're seeing very strong growth in sales. It was mainly driven by a strong outperformance of the Woolworths supermarkets in our portfolio, showing a 7.8% growth. That outperformance is a number of things. It doesn't -- without any necessarily impacting Coles.

But last year, Woolworths sales were negatively impacted by the plastic bags. That was the first supermarket to introduce the banning plastic bags. That negatively impacted their sales. But also invested quite significantly in price discounting, which has shown some pretty strong improvement in their sales. And again, this last quarter, the lines in promotion is also achieving very, very strong favorable performance for them.

And again, last year I think Coles were on the forefront -- at the forefront there with their minis promotion. So net-net, the bounce back for Woolworths in this financial year has been quite strong.

The other point to note is that the data that we're getting for Woolworths reflects 53-week period whereas last year, it was a 52-week period. But in all, we're seeing strong outperformance from Woolworths in our portfolio without necessarily impacting Coles sales as a result. I guess a varying number of factors, but translating and coming through in the performance of that portfolio.

I'll now hand over to Paul just to run through the details on the financials.

--------------------------------------------------------------------------------

Paul Siviour, Elanor Retail Property Fund - COO of Elanor Funds Management Limited - Manager [6]

--------------------------------------------------------------------------------

Thank you, Michael. Just referring to the profit loss on Page 24 of the presentation for the year to 30 June '19, the fund recorded a net profit of $20.0 million, that incorporated fair value incremental adjustments of almost $8.8 million that comprises the $19.5 million uplift in Auburn. The previously reported reduction in value of Manning as of December as part of the renewal of the title lease and the relatively small adjustments to Glenorchy and Moranbah Fair up and also Gladstone that Michael referred to.

Also included in that number is a $3.3 million fair value decrement in respect of the fair value of our fixed rate hedges. That is a direct result of the fact that the swap rates 5-year and 3-year swap rates have declined by circa 1.5% over the year. Obviously, that's not a loss at all.

I'll refer to a few comments on debt in a moment in relation to that. The other adjustments to net profit to arrive at core earnings are straightforward and consistent with prior years, producing a core earnings number of 12.175, which is $0.094 per security and at a distribution payout ratio, $0.0898 for the year.

The balance sheet shows our net tangible asset position of $1.53 per security 30 June 2019. Interest-bearing debt at balance date was $130.4 million, which reflects a gearing ratio of 38.8%. I referred already to the unrealized loss on the mark-to-market of our interest rate derivatives and that's incorporated of course on the liabilities side of our balance sheet here and under the heading, Derivative Financial Investments.

Our debt and capital management on Page 26, we do have available facilities to assist with some of the repositioning that's in play. Our gearing is below our range of 30% to 42% and our percentage of debt that's fixed is also -- is at the bottom end of our range of our capital management policy there, 82.5%.

Obviously, we alert to recent decline in interest rates and we'll make further decisions in respect of hedging in due course. There's been pleasing movements in all of the other metrics in respect of our debt. The weighted average cost of debt has declined from 4% to 3.91%. At the end of this year, the average debt maturity has improved from 2.1 to 3.2 and our swap to maturity hedge has improved from 2.3 to 3.1. The debt of the fund is very much within and very comfortable relative to our key covenants.

Glenn, I'll pass back to you for some comments on strategy and outlook.

--------------------------------------------------------------------------------

Glenn Norman Willis, Elanor Retail Property Fund - MD, CEO & Director of Elanor Funds Management Limited - Manager [7]

--------------------------------------------------------------------------------

Thanks, Paul. As we saw in Page 28, Slide 28 of our pack here, we firmly believe that ERF, the fund is well positioned to enhance value for security holders. Michael and Matt and the team have a strong capability to execute on our strategy. In the first instance, to reposition the assets to nondiscretionary retailers, away from the more discretionary retailers and discount department stores, which Michael has spoken about. And more generally, actively asset manage the portfolio to generate improved operational performance and returns.

Furthermore to that, we are working at pace to execute on the key strategic initiatives across the portfolio, which pleasingly there are several -- as again, as we've spoken about, which we believe will further improve the value of the fund.

Over the last 30 months, the team has improved NTA from $1.25 to $1.53. We believe that we will continue to grow NTA, but notwithstanding that, we're also acutely focused on a strategy to close the gap between the current security price and the NTA of the fund and I spoke about the broader strategy and approach that we have in doing so.

And as we say here, we continue to evaluate a range of capital management and strategic transaction opportunities to close that gap. And so we're focused on that, on closing that gap. And we, at the same time, continue to be acutely focused on growing value, growing NTA and improving the cash flows of the assets within ERF. So against that background, we look forward to fielding questions should be there any questions.

I'll hand over to the operator now.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our next questionnaire is from Edward Day from Moelis Australia.

--------------------------------------------------------------------------------

Edward Day, Moelis Australia Securities Pty Ltd, Research Division - Research Analyst [2]

--------------------------------------------------------------------------------

Just one for me. Michael, on Slide 21, the lease expiry profile. Can you talk in a little bit more about detail around the major expiries and particularly your expectations for each of those and whether there are just options...

--------------------------------------------------------------------------------

Michael Baliva, Elanor Retail Property Fund - Co-Head of Real Estate & Fund Manager of Elanor Funds Management Limited - Manager [3]

--------------------------------------------------------------------------------

They are all -- each of those retailers do have options ahead, Ed. So Big W is (inaudible) that will be exiting, as we know. Part target is due to exercise their option next month, and Coles and IGA is -- they're back in the next year, in October 21.

--------------------------------------------------------------------------------

Edward Day, Moelis Australia Securities Pty Ltd, Research Division - Research Analyst [4]

--------------------------------------------------------------------------------

And your expectation is that all those options will get exercised?

--------------------------------------------------------------------------------

Michael Baliva, Elanor Retail Property Fund - Co-Head of Real Estate & Fund Manager of Elanor Funds Management Limited - Manager [5]

--------------------------------------------------------------------------------

Uncertain on target, but our strategy, our repositioning strategy for the asset countenance is either a scenario whether they do or do not exercise their option.

--------------------------------------------------------------------------------

Operator [6]

--------------------------------------------------------------------------------

(Operator Instructions) Our next question is from Paul Turnbull, who's a private investor. (Operator Instructions) There's no more further questions at this time. I'd like to hand the call back to the speaker for any closing remarks. Please go ahead.

--------------------------------------------------------------------------------

Glenn Norman Willis, Elanor Retail Property Fund - MD, CEO & Director of Elanor Funds Management Limited - Manager [7]

--------------------------------------------------------------------------------

Thank you very much. And again, thank you, all, for attending this call -- joining this call and for your interest in the Elanor Retail Property Fund, and I'd like to take this opportunity to thank Michael and his team for their efforts in growing value for security holders in this fund. We are acutely aware of the challenges that prevail in the retail sector of the broader real estate asset class. That to us presents opportunities as well. And we're certainly looking to exploit all the opportunities that are at hand in our assets within the fund. And Mark and his team are doing a good job at that and are striving to build not just the security holder value, but improve the cash flows and income nature of the assets within the fund.

Thank you, again, and we look forward to speaking again in 6 months' time. Thank you.

--------------------------------------------------------------------------------

Operator [8]

--------------------------------------------------------------------------------

Ladies and gentlemen, that does conclude the call for today. Thank you all for participating. You may all disconnect. Good bye.