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Edited Transcript of FABG.ST earnings conference call or presentation 7-Jul-17 9:00am GMT

Thomson Reuters StreetEvents

Q2 2017 Fabege AB Earnings Call

Solna Aug 13, 2017 (Thomson StreetEvents) -- Edited Transcript of Fabege AB earnings conference call or presentation Friday, July 7, 2017 at 9:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Åsa Bergström

Fabege AB (publ) - CFO, EVP and Board Secretary

* Christian Hermelin

Fabege AB (publ) - CEO and President

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Conference Call Participants

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* Niclas Hoglund

Nordea Markets, Research Division - Senior Analyst, Construction and Real Estate

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Presentation

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Operator [1]

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Ladies and gentlemen, welcome to the Fabege AB Q2 Report 2017. Today, I am pleased to present CEO, Christian Hermelin; and CFO, Åsa Bergström. (Operator Instructions)

Speakers, please begin your meeting.

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Christian Hermelin, Fabege AB (publ) - CEO and President [2]

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Welcome to Fabege's Quarterly Report. Please turn to Page 2. The rental market in Stockholm remains strong. And thanks to our attractive portfolio and highly capable organization, we also are able to present another fantastic report today.

Earnings from Property Management for the first 6 months were stronger than ever before. We also see that income is continuing to increase as a result of rising rents, with rental increases in renegotiations ending up at 27%. The net lettings was also strong in the first half of the year, and this suggests continued good income growth. And projects are resulting in value growth. Our profit margins for the first half of the year was 54%.

And now over to Åsa, who will present our figures more in details.

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Åsa Bergström, Fabege AB (publ) - CFO, EVP and Board Secretary [3]

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Thank you, Christian. The first half of the year has gone well with growing rental income, continued low interest expenses and sustained value growth. Rental income totaled SEK 1.1 billion. Growth is coming from completed projects, now generating rental income and higher rent levels having an effect on the income statement. Growth in identical portfolios totaled 8%. The surplus ratio was 72%. This is 2 percentage points better than in the previous year and in line with our expectations, both for the first 6 months and for the full year target of 73%.

Administrative expenses are on par with the previous year. Interest expenses are lower than last year in absolute terms. The total volume of borrowing is higher, but on the other hand, an increased share of capital market financing and the fact that old expensive interest swaps have expired, have resulted in a lower average interest rate for the period.

The average interest expense at the end of the quarter was 2.23% compared to 2.64% at the end of the year. Earnings in associated companies totaled minus SEK 54 million and relate to the capital contributions to Arenabolaget for the period. The recurring deficit in Arenabolaget is in line with the budget, but the change in operator has resulted in a number of one-off costs totaling more than SEK 25 million extra in the second quarter. In total, earnings from Property Management increased by around 10% in comparison with last year, up to SEK 449 million.

The Selfoss 1 property in Kista was sold during the second quarter to co-owned Selfoss Invest. The sale had no accounting effect. No further sales were made in the first half of the year. Growth in value continued, with unrealized changes in value of SEK 1.9 billion corresponding to a value growth of just over 4%. Values in the project portfolio rose by SEK 654 million, producing a return on invested capital during the half year of 54%.

Value in the investment portfolio was driven principally by increases in rents, but also by somewhat lower yield requirements. The average yield in the portfolio is now 4.45% compared to 4.53% at the year-end. The value in the derivative portfolio continued to decrease in the second quarter, and the deficit value decreased by SEK 156 million in the first 6 months. And deferred tax is estimated at 22% on current earnings.

Please turn to Page 5. The balance sheet has continued to strengthen in line with the favorable trend in earnings. Visible equity is now SEK 147 per share. And the long-term net asset value, EPRA NAV, is SEK 173. The equity ratio was 45%, and the loan-to-value ratio was 46%. We have a higher rate of investment, but we also have high value creation. And there has been a continued increase in value in the investment property portfolio. In view of the strong market and the greater potential [fall] with increased changes in value, the current loan-to-value ratio appears comfortable.

Please turn to Page 7. The financing market, both in banking and capital markets, continue to appear stable. We have continued to expand our financing via the capital market. In the second quarter, we issued SEK 500 million under our own MTN program; and in July, we issued a further SEK 200 million via SFF. We have gradually achieved better levels. The combination of lower margins and the fact that the bond market does not have a STIBOR floor means that capital market financing is currently highly competitive. There has been significant interest in our bonds in general and in green bonds, in particular, and all the bond issues that we have made during the first half of this year have been oversubscribed.

Including the commercial paper program, capital market financing at year -- at the end of the quarter accounted for 40% of outstanding loans. The aim is to further increase the percentage of bond loans. We are continuing to issue only green bonds, and the green financing has now grown to account for 24% of total outstanding loans. We also want to make more out of our bank. We also want to make more of our bank financing green as banks can offer green financing and as we certify our properties.

A number of old expensive interest swaps matured during the first 6 months. The new swaps that we have entered into have been taken out at much lower levels. 54% of the loan portfolio was fixed through interest rate swaps at the end of the quarter. Unutilized facilities at the end of the quarter totaled SEK 2.1 billion. We are getting positive signals from both banks and the capital market that we are confident that we can take both -- that we can both refinance existing loans and take out new loans as and when the need arises.

And now, please, over to Page 8. A working paper was issued at the end of March proposing to amend tax on property transactions. A few weeks ago, the Swedish Ministry of Finance issued a proposal to amend corporate taxation. If implemented, both proposals will have an adverse impact on the property sector. Both proposals are now out for referral. I believe it is positive that there is no coordination on this issue, particularly as the inquiry itself found that the property sector is not undertaxed in relation to other sectors. Hopefully, it will now become clear that implementing both these proposals would result in the sector being overtaxed and that they will hamper future investments.

For Fabege, the tax rate cut to 20%, combined with restrictions on interest deduction, will initially have a positive effect due to the low current market rates. However, rising market rates will substantially increase the negative effect, assuming cash flow remains generally the same. The proposal to have a deduction against carryforward losses will impact liquidity as Fabege will pay a certain amount of income tax. Furthermore, there will be a positive nonrecurring accounting effect when the deferred tax liability is measured at the new tax rate.

The packaging inquiry proposal and effect on Fabege are entirely dependent on future property sales. There is a provision in the balance sheet for deferred tax on properties, which amounted to roughly SEK 4.5 billion at the year-end. Full application would increase the deferred tax liability by an additional SEK 1.3 billion based on the current tax rate of 22%. However, in accounting terms, this liability would not be activated until the properties to which it relates are divested. The proposal regarding changes to the change of stamp duty means that the deferred stamp duty of 2% will most likely have a direct negative impact on property valuations. For Fabege, this effect corresponds to 2% of the current property value, currently around SEK 1 billion.

And now back to Christian to hear how the business is developing.

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Christian Hermelin, Fabege AB (publ) - CEO and President [4]

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Thank you, Åsa, and please turn to Page 9. The blue line in this chart represents the real average CBD rents. We can clearly see it shows a strong increase, although it has not yet reached previous record levels. The green line shows vacancies. And as long as vacancies are under 5% to 6%, which they clearly are at the present, rents usually always increase. Given the current relatively stable supply and strong demand, we are far from seeing vacancies exceed 5% to 6%, which means that we can expect to see rents continue to rise.

Please turn to Page 10. A good indicator of the strength in the market is the rental increase in our renegotiations. Renegotiated rents in the first half of the year increased by 27%. Net lettings are a high priority for us this year as we want to add new projects to replace all the projects that we -- will be completed in 2018. SEK 86 million in net lettings and 3 newly started projects in the first half of this year are a good start towards achieving this aim.

Please turn to Page 12. We did not make any transaction in the past quarter either. Over the past quarter, we externally valued around 50% of the portfolio. And the strong property market in Stockholm generated value growth of SEK 1,156,000,000 over the quarter, producing a total increase in value of around 4% in the first half of the year.

Please turn to Page 13. Value increases in the first quarter, as shown in the pie chart on the right, were due to relatively equal contributions from the project portfolio, rising rents and falling yield requirements. Change in value in the second quarter, as you see on the left, were as expected, principally due to increase in value in our projects and rising rents. And we expect this trend to continue, which means that we will -- we should see significant value growth from our projects' operations and rising rents, while the effect on value from falling yields is gradually decreasing.

Please turn to Page 15. Let's now turn to our project portfolio, which is continuing to create values. During the quarter, we have added 2 new projects. We now have around 222,000 square meters under production. Including these new projects, we estimate that the project investment for the year will be at least SEK 2.6 billion.

Our lot projects continue to offer significant potential owing to the approximately 40,000 square meters of lettable space. In those buildings being completed over the next 12 months, vacancies are currently very low, around 2%. And we believe that we will find customers for these vacant 40,000 square meters as they are located in modern buildings in attractive areas with rail transport connections, which is what customers are looking for today.

Please turn to Page 16. This slide shows the project we have started on part of the Båtturen 2 property in Hammarby Sjöstad. The building is fully let for 8 years to a company called Goodbye Kansas, an internationally renowned company in special effects and animation for the gaming and film industry.

Please turn to Page 17. This slide shows the project we have started on part of Lagern 2 property in Råsunda. This space is fully let for 20 years to the City of Solna to be an upper secondary school, a preschool and supported housing.

Please turn to Page 18. And now a little information about Friends Arena. Our increased focus and the constructive cooperation with our new operator, AEG, have enabled us to identify good business opportunities with more events and more areas of use for the arena. We are already seeing positive results with the AEG as the operator, which we believe will be reflected in the arena's financial performance over the next few years.

Please turn to Page 19. As a result of completed projects and rising rents, we already now know that revenues is rising by around 10% for this year. And 2018 is set to be even better as the project volumes that will be completed by then to just more than 100,000 square meters.

Please turn to Page 20. Viewed over time, the demand for our properties in Stockholm is very strong. We have what the customers want, and we have a great potential in Sweden's best project portfolio. We also have an organization that is constantly evolving and almost always deliver beyond expectations. Therefore, we continue to be optimistic for the future.

That was our presentation, and we are ready for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our question comes from Niclas Hoglund from Nordea.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst, Construction and Real Estate [2]

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Just a couple of questions on the rental environment. In the report, you were talking about the 27% renegotiation of rents, although you also highlight that one of these or [1.1 1] rent is for a little bit of a longer maturity. But could you elaborate on the sort of the underlying run rate, if you exclude this sort of one-off rental renegotiation, what's the current level?

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Christian Hermelin, Fabege AB (publ) - CEO and President [3]

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Yes, Christian here. If you exclude the bigger renegotiation, we still end up for about 20%. So a normal renegotiation today is between 20% and 25%. And of course, you have sometimes lower and sometimes higher, but the normal level is 20% to 25%. And we don't see that the increase in rent is slowing down. If it's anything, it's stronger today than a few quarters ago.

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Niclas Hoglund, Nordea Markets, Research Division - Senior Analyst, Construction and Real Estate [4]

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And just a follow-up on that note, could you talk a little bit more of Arenastaden, the current run rate and what levels you're aiming for? You previously talked about around 3,000 per square meters as of the current run rate and more towards the 4,500. Could you elaborate a little bit more on those numbers?

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Christian Hermelin, Fabege AB (publ) - CEO and President [5]

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Yes. 4,500 is a long-term goal, and we believe that Arenastaden, its quality should be in the middle of the CBD rents and the prime suburbs' rents. And it has been 1 year ago when we said it first time, around 4,500. Today, it's maybe a little bit higher. And we still believe it's possible that we will reach this in the long term. It's a 5-year goal. And today, we clearly see increasing rents in Arenastaden. And especially in new letting, when we're talking to tenants about spaces for the future, we are today clearly about 3,000 in Arenastaden.

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Operator [6]

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And as there are no further questions registered, I will hand the call back to the speakers. Please go ahead.

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Christian Hermelin, Fabege AB (publ) - CEO and President [7]

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Okay, then I thanks all listener and to your questions. And from Fabege, we wish you a good summer. Thank you.