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Edited Transcript of GMG.AX earnings conference call or presentation 22-Aug-19 11:00pm GMT

Full Year 2019 Goodman Group Earnings Call

Sep 11, 2019 (Thomson StreetEvents) -- Edited Transcript of Goodman Group earnings conference call or presentation Thursday, August 22, 2019 at 11:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Gregory Leith Goodman

Goodman Group - Group CEO & Director

* Nick Vrondas

Goodman Group - Group CFO

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Conference Call Participants

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* Darren Leung

Macquarie Research - Analyst

* David Lloyd

Citigroup Inc, Research Division - Director & Analyst

* Grant McCasker

UBS Investment Bank, Research Division - Head of Australian Real Estate Research Team, Executive Director & Equities Analyst of Real Estate

* Ian Randall

Goldman Sachs Group Inc., Research Division - Research Analyst

* Pete Davidson

Pendal Group Limited - Head of Listed Property

* Richard Barry Jones

JP Morgan Chase & Co, Research Division - VP

* Simon Chan

Morgan Stanley, Research Division - VP & Equity Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the Goodman Group full year results. (Operator Instructions) I'd now like to hand the conference over to your first speaker today, Gregory Goodman. Thank you. Please go ahead.

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [2]

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Good morning and welcome to our full year results for FY '19. Nick is with me on the call.

Firstly, turning to Slide 5. Structural changes are continuing to impact our industry. Urbanization, rising consumerism are driving the evolution, and automation of supply chains are required to keep up with consumer expectations. The Goodman portfolio is being deliberately concentrated in consumer-focused locations, and these trends have had a positive impact on Goodman's financial year '19 results.

We generated an operating profit of $942 million; statutory profit of over $1.6 billion; and operating earnings per share, up 10.5%. The NTA is up 15% to $5.34. We're paying a distribution of $0.30 per security for the year, all while maintaining low gearing which is currently 9.7%.

Total assets under management have grown 21% to $46 billion. The quality and location of our portfolio in key urban centers has continued to drive returns, resulting in high occupancy, 98%; 3.3% like-for-like rental growth; and consequently, cap rate compression in our markets.

Valuations for the entire portfolio have increased to $3.8 billion, with developments importantly contributing $620 million of this result. Subsequently, management returns and our partnerships have been strong with an average of 16% over the year and 16.4% over the last 5 years.

Competing demand for e-commerce, data center users and urban renewal continues to put pressure on land use in the markets where we operate, and the barriers to entry are getting higher. The contribution of our development business is growing as increased demand from our customers is giving us confidence to increase development activity.

Both commitments and work in progress have surpassed $4 billion at $4.2 billion and $4.1 billion, respectively. We expect work in progress to reach approximately $5 billion FY '20 as we undertake fewer but larger and high-value projects around the world.

Also importantly, the capital position of our partnerships is very strong at $13.6 billion of available liquidity to cater for the growth in the development activity.

I'll now hand over to Nick to take you through some of the results in a little bit more detail.

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Nick Vrondas, Goodman Group - Group CFO [3]

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Thank you, Greg. Given that we've already discussed the summary highlights, we can turn directly to Slide 10 to look at the income statement. I'm going to first cover the drivers of operating profit, which exclude the usual items at the bottom of the table, which we'll come back to.

Let me say firstly that FX movements have affected the translation of our income and balance sheet, so it's worth calling out the specific impacts as we go. Overall though, the lower Australian dollar had a positive effect on the translation of our foreign-denominated revenues into assets, but it also inflated our foreign expenses and liabilities. These effects offset each other as you'll see in the higher-than-expected borrowing costs and the increase in the Australian dollar translation of our debt and FX hedge liabilities. This is entirely consistent with what has happened in the past and in line with what we expect given our FX hedging strategy.

Looking specifically now at the movement in property investment earnings. The direct property net rental income was down $39 million because of sales effected throughout the course of FY '18. These sales included nearly $350 million of transactions in Australia and around $450 million in other markets, the most significant of which were in Brazil upon the formation of that partnership. The combined weighted average yield on the sales was around 5%.

Cornerstone income, on the other hand, grew by $26 million compared to FY '18. Part of the growth was due to FX which accounted for $9 million of the increase. $11 million of the growth, however, was driven by rental increases. In recent years, income from our cornerstone investments has been constrained by asset sales program, but this impact is moderating. Our partnerships sold $2.5 billion in FY '18 and $1.5 billion this year. To offset this, they invested $3.6 billion in FY '18 and $4.4 billion this year. These investments have been principally into developments that we intend to hold for the long term.

The net effect of the capital transactions and development completions was to add $6 million to income this year. This represents our share of the net incremental return from investment.

We're building out sites we procured over several years, and we are selectively acquiring new sites that may be improved in the years to come. As a result, the group contributed nearly $400 million of new equity to our partnerships in FY '18 and around $900 million this year. This represents our share of the equity deployed alongside our investment partners.

Of the $900 million deployed this year, around half was into development-specific partnerships and the other half was to fund the development activity within our predominantly core partnerships. The average yield on this new equity was around 4% based on the latest valuations and considering the growing allocation of capital to development. With rental growth and income generation from developments, we expect our cornerstone earnings to continue to grow from here.

Management revenue grew by $153 million compared to last year. FX was responsible for $13 million of this increase, and growth in assets under management accounted for $26 million of the increase. Performance fees contributed over $200 million this year. As a result, total management revenue was around 1.2% of AUM, which we believe will be achieved again in FY '20. So with growing AUM and the strong performance of our partnerships, there's scope for further revenue growth in this segment in the coming year.

Development revenue is up $19 million, and FX contributed $18 million. To understand the underlying drivers, though, we need to understand a few things. On the plus side, we saw an increase in our development volume, and project margins remained strong. On the other hand, the increase in the proportion of development done within partnership and the effect of larger, longer-dated projects have offset the benefit from the growth in WIP.

These larger projects will take longer to work through, so they'll be in WIP for longer. The average time in WIP has increased to 14 months. Going forward, we expect it will increase to over 15 months as the WIP grows to $5 billion. This will equate to an annualized run rate of around $4 billion of work done.

Accordingly, the timing of revenue recognition will also be spread over a longer period, particularly the profits on sale and the development performance fees. Whilst this reduces short-term revenue, it gives greater visibility in future periods. The last half was the beginning of this transition period as we started more of the larger projects.

The other factor contributing to change in composition and timing of income recognition was the rising portion of work done in partnerships. This has increased to 80%. As a result, we continue to see a significant and growing portion of the development gains appear below the line in our valuation result, which means they're excluded from our operating profit.

Given the strengths of other parts of the business, we've been able to plan for and absorb the effects of this transition and still maintain a competitive rate of earnings growth overall. We expect development income to remain relatively stable in the near term, but there is scope for growth in coming periods given the current strategy and the increase in our activity levels.

With respect to overheads, we're benefiting from the consolidation of our operations. On the face of it, overheads were up $18 million, but a large part of this was due to the FX translation, which accounted for $7 million. Our underlying expense growth was minimal given the stability of the business and the effectiveness of our remuneration strategy. Our aim here is to continue to keep fixed costs relatively stable and instead to use variable, performance-based pay to incentivize and align our people.

Our borrowing costs have been relatively flat. FX and market rate movements resulted in an increase of $29 million in borrowing costs compared to last year, which directly offset the translation benefit to income we discussed earlier. Offsetting this was the reduction in borrowing costs resulting from our liability management program of FY '18 and the repayment of high coupon bonds and loans this year. We also had a slight reduction in the amount of capitalized interest compared to last year. Our current weighted average cost of debt is around 2%, so we expect our borrowing costs to remain relatively stable, absent further material movement in foreign exchange markets.

As expected, our tax expense was up. Apart from the FX translation impact of $3 million, the increase was due to profit growth.

Looking now at the items excluded from operating profit at the bottom of the table. We had nearly $900 million revaluation gains in the year, which represents the group's share of the $3.8 billion of gains across the entire portfolio of assets under management. We've seen a rising contribution to revaluations from the development work done in partnerships, which contributed $0.6 billion of the total revaluation gain. The group's share of this was $220 million.

Another customary area of difference between operating and statutory profit is the fair value adjustments to part of our foreign liabilities and hedges, which were up $17 million overall. The FX component of this loss was a loss of $64 million, which should be looked at in the context of the gain in the foreign currency translation reserve.

As usual, we exclude the accounting cost of the long-term incentive plan, but we include the tested units in denominator when calculating our operating EPS. The growth in the accounting expense was primarily driven by the increase in our security price. The number of performance rights outstanding has been relatively stable.

A few remarks now regarding the balance sheet on Slide 11. The increase in wholly-owned stabilized properties since June 2018 was driven almost entirely by revaluation gains with minimal cash-based movement. Our cornerstone investments in partnerships, other than those with a principal focus on development, were up by around $850 million. FX translation accounted for $200 million of the increase, and $650 million came through the revaluation gains. We did invest $450 million of cash into the partnerships, which was principally for development activities. This is not included in the partnership cornerstones in the balance sheet table as it is allocated as part of the $2.99 billion of development holdings.

As we indicated at the half year, greater activity levels in development are resulting in increasing capital allocation to that segment. Compared to June 2018, our development holdings overall have increased by $1 billion.

Our directly held capital is relatively flat at around $1 billion, but our share of the capital investment for development within partnerships is up by $1 billion. Within that increase, around $450 million was a result of net cash investment into development partnerships and $450 million was the increased allocation from other partnerships that I mentioned earlier. The remainder was primarily a result of FX translation and fair value gains.

You'll see that our cash position decreased over the year. This is partly due to the repayment of loans, including the remaining Sterling bonds and the debt in Brazil, which accounted for over $0.2 billion. To offset this, the FX movements resulted in increase of over $100 million in the Australian dollar value of the remaining bonds. The FX translation of the debt contributed around 100 basis points of the increase to gearing over the year.

As outlined earlier, we used $900 million of cash to invest in our partnerships, but we also got the benefit of some $400 million in retained earnings. The net effect of these items explains the movement in gearing for the year, which was broadly in line with our expectations.

Slide 12 highlights our capital position. As we said before, we'll operate our gearing within a range of 0% to 25%, with a level to be set with reference to the expected mix of activities. As a result, we will maintain low leverage for the foreseeable future.

In keeping with this, we reviewed our distribution policy in December 2018. At that time, we announced our target payout ratio to be in the low 50% range, which means that we intend to pay $0.30 per security in FY '20. This will enable us to sustainably fund our proportionate interest in the assets we are developing and help us to continue to deliver competitive rates of EPS growth with low financial leverage.

That's all for me. Thanks, Greg.

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [4]

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Thanks, Nick. That was very comprehensive.

This year, we comprehensively reviewed our sustainability approach and performance to balance the needs of all our stakeholders. Our resulting 2030 sustainable strategy builds on the momentum we've built to date while taking our proactive approach.

Sustainability is underpinned by long-term thinking, just like our business, so we have clear and specific targets under 3 strategic pillars. They represent the key ESG priorities of Goodman and our stakeholders and align the group's purpose, which focuses on making space for our stakeholders' greatest ambitions. It's this long-term approach that drives our decision-making as we are now seeing the benefits of decisions we made 5 to 10 years ago. And we're taking steps to benefit our business and the stakeholders in the future.

And finally, turning to Slide 19. The outlook for our business is strong. The deliberate end concentration of our portfolio in urban logistics centers is a critical factor, which will support our customer supply chain evolution over the next 5 to 10 years, generate importantly resilient cash flows and also provide opportunity for higher and better uses in the long term.

Our customers' needs continue to grow, and we have the specialist management and infrastructure to meet this growing demand. We continue to incrementally acquire sites in high barrier to entry markets around the world and redevelop existing infill sites to ensure our customers have high-quality facilities in these key and very important locations close to the growing consumer.

While the market environment for industrial real estate looks strong, we remain conservative and prudent in managing our capital for the long term. We will continue to maintain low leverage. We'll deploy our capital efficiently within partnerships and look to drive sustainable growth over the very long term. And in finishing for FY '20, we forecast operating profit of $1.40 billion, operating EPS of $0.563, up 9% on FY '19, and a distribution of $0.30 per security.

Thank you very much, and Nick and I will now take some questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Darren Leung from Macquarie.

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Darren Leung, Macquarie Research - Analyst [2]

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And just a quick one around development. So I recall 6 months ago, there was a comment just around keeping the payout ratio lower to retain capital for restocking, and you obviously mentioned that development capital has increased by about $1 billion on balance sheet. How should I think about how much development capacity has to bend through across the platform more importantly in the next few years please?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [3]

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Look, good question. I think we sort of guided that development activity will go through $5 billion during this year, and I think that's a pretty good guide. I think also 80% of development is done in partnerships over a very large capital base. And I think you'll see from the presentation that a lot of unrealized obviously development gains of about $620 million go into the valuation portion of the balance sheet as well. So I think that's also important to note.

So look, it's going to be robust. As Nick pointed out, this is going to be longer in WIP because the projects are larger, more complex, more valuable. And our critical infrastructure for a lot of our big customers around the world, and it's fair to say now, we almost think of what we're doing is infrastructure for our customers for the next 10 and 20 years. A lot of things we're doing in 20 years, investments that are going in the warehouses are in the hundreds of millions, not by sales but from the customers' investment in the warehouses. So I think it's bigger, it's more purposeful in regard to having the right people to do it, and the barriers to entry in our industry are getting higher. So you need capital, and you need infrastructure and you need people.

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Darren Leung, Macquarie Research - Analyst [4]

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Perhaps as an extension on that, appreciate the projects. I see they're more complex, but just noticed the yield on cost for WIP is now 6.6. At March, [it used to be] 7.1. How do we think about the end cap rates for these projects in a static bond yield and cap rate environment, please?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [5]

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Well, you can probably answer the question yourself around the bond yields. It's incredibly low, isn't it? And so I think we've got to keep that in mind and look at whether that's a long-term trend or there's an aberration in the market. But at the moment, it certainly looks, when we look at 10-year bonds and 30-year bonds around the world, long term.

I think we're working towards very similar and actually probably, in many cases, higher returns in regard to margins. The 6.6 is skewed a little bit on geography. You'd see these a fair bit pumped through in Asia in the numbers as well, so that includes Japan and obviously Hong Kong. So geographies around that number. But in the main, margin's very strong and some pretty exciting developments being undertaken around the world.

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Darren Leung, Macquarie Research - Analyst [6]

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Understand. And perhaps the second one, in terms of Nick's comment around visibility given the development pipeline. I noticed a few of the slides at the back in terms of remuneration framework and vesting of the LTIPs. Why do you think 6% to 9% was the right number here in terms of the vesting hurdle? I'm just keen to get all pieces behind that, please.

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [7]

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Look, that's something the rem committee and the Board has obviously looked at. It's something that I won't speak a lot about because I think there's other people you should be talking to about that, and that's really the remuneration committee. But the range of 6% to 9% was considered to be sensible in the world we're in. And I think you'll find the aggregation of where the rewards vest 25% at 6% and 100% at 9% is pretty clear where management will be aiming. So -- but it's a long term -- it's a 3-year number that we're working to, which is an enhancement on last year when it was a year-by-year target set. So we felt -- well, the rem committee felt it was the appropriate approach to take in regard to incentivizing the remuneration for the team for the very long term.

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Darren Leung, Macquarie Research - Analyst [8]

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Okay. And perhaps the final one for me, just in terms of EPRA NAREIT inclusion. There's been a bit of noise in the market just around potential removal or staying in that index. Can you please provide a bit of color as to the process here?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [9]

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Now really, look, it's not our process. We just carry on and grow our business, and we'll keep doing that for all our stakeholders over the next year 5, 10 years. And I think indexes will come and go.

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Darren Leung, Macquarie Research - Analyst [10]

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But in terms of disclosure around operating cost of the vehicle, so is there a way to think about how much should be allocated towards management development or investment?

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Nick Vrondas, Goodman Group - Group CFO [11]

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Darren, it's Nick here. Just we really have struggled with that, actually, in the last couple of years because the attribution of expenses between development and management has become increasingly blurred. And so -- and we really, I suppose, struggled to substantiate a reliable means by which to do that. So what we present to you is the consolidated costs, and you can look at it relative to the revenues from both of those segments combined and look at the overall ratio. But to do an attribution between development and management is not reliable, so we really can't do that.

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Operator [12]

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Our next question comes from Simon Chan from Morgan Stanley.

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Simon Chan, Morgan Stanley, Research Division - VP & Equity Analyst [13]

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We're in a low -- record low interest rate environment at the moment. Just wondering, have your partners had discussions with you guys about perhaps changing some form of a -- changing your return metrics or return hurdles, et cetera?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [14]

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The good law that says an average return for the year of 16% is clearly pretty good in the world we live in. I think we're talking about partners around the world daily, monthly, quarterly. And yes, look, everyone's looking at where long-term risk-free rates are around the world. I don't think anyone's really come to the conclusion on what it should look like in the longer term.

I think it really comes down to the strength of your cash flows, and that's the way we look at our business. So forgetting about the hurdle rates at this point in time and the cap rates, we're looking at the structural trends going around the world in our industry in particular. We're watching the consumer and their ability to spend, and we're watching the consumer on how they like to spend. And I think the underlying trend line for us and all our partners around the world, which is undeniable, is the growth in the e-commerce as a part of total retail sales.

We watch the strength of the cash flow and the growth of that cash flow around our markets in the world. And that's driving us then to buy what we buy, where we buy it. And I think the cap rate ultimately has got them out working in the financial markets and where the risk-free rates are, but you got to bet at the moment. If the trend line around risk-free rates around the world is where it is currently and your 30-year bonds in Europe are sort of negative and even in the U.S., I think you got a couple of percent or more, 2.2%. You got to bet cap rates, if you can maintain and grow a strong cash flow, are going to tighten, and that's certainly our view.

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Simon Chan, Morgan Stanley, Research Division - VP & Equity Analyst [15]

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And just my last question. With all the trade war and all the kerfuffle going on around the world, has that changed -- I guess, one, have you seen the impact of that in terms of customer inquiries? And has that changed your view on speculative elements, et cetera?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [16]

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Look, once again, we're looking at the ground at the consumer and how they're behaving, what they're doing. It doesn't seem to be impacting how they're trending towards buying online, and I think there's a -- some of our customers' quarterly numbers were out recently and saw a lot of growth coming through in the lifestyle change in regard to how you live and how you work. So if anything, we're just more determined to be buying where we are buying around the big cities in the infill locations and doing the value-add and development. So it probably makes us more determined because we think there's still a long-term trend line that takes us through for the next 10 years in regard to the way people want to live and the way they want to shop.

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Operator [17]

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Our next question comes from Richard Jones from JPMorgan.

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Richard Barry Jones, JP Morgan Chase & Co, Research Division - VP [18]

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A few questions, if I may. Performance fees came in at $204 million. I think, Nick, you're guiding sort of $140 million, $150 million, so just interested in what was the key driver of that unexpected result there.

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Nick Vrondas, Goodman Group - Group CFO [19]

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Yes, Rich, I think -- I don't think we gave specific numbers there. I think we did say that it will be more than double in the second half. So -- but the drivers of the performance fees have been the cumulative compounding effect of our performance over the benchmark over a number of years. So -- and it's a range of -- there's a range of partnerships. I think 5 or 6 partnerships contributed to the $200 million this year.

Really the important thing is the outlook for it. And I think what we're saying and what I've tried to communicate there is that we think that in the coming year, 120 basis points will be applicable, at least, and it could be even a bit higher. And AUM is growing. So we see performance fees growing from here in the coming year.

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Richard Barry Jones, JP Morgan Chase & Co, Research Division - VP [20]

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So on my quick calc, it worked out to about 52 basis points of the average FUM. Is that kind of close to where you expect the cap would be on performance fees in any one year?

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Nick Vrondas, Goodman Group - Group CFO [21]

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Yes. I think it's a little bit less than 52. But yes, I mean I think we've said in the past that around that sort of level is for many of the partnerships a cap but not for all of them. And in some cases, you've got multiyear sort of benchmarks as well. So I think again what I'll say is that in the coming year, what we see through half a dozen partnerships, we expect that the total MER will be -- or fee versus average AUM will be at least 120 basis points.

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Richard Barry Jones, JP Morgan Chase & Co, Research Division - VP [22]

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Can I ask how far out you can see that circa 50 basis points of performance fees?

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Nick Vrondas, Goodman Group - Group CFO [23]

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We can see when the calculation dates are. What we're not doing is giving forecast beyond 1 year. In the volatile world that what we live in, we're not going to guide beyond 1 year.

What we have said in the past, though, Rich, as you might recall, and I think for everyone on the call and people looking at the company, we've said that you really got to form your own view on that sort of thing in terms of what your expectations are about AUM growth, the drivers of growth and where you think cap rates are going to finish and rental growth in the long run. You know that the range of potential performance fees could be 0 to that sort of 50 basis point type number, which means that the AUM could range between 80 and 120 through the cycle long term. And so when you're looking at future maintainable earnings and you're looking at long-term income, you got to take your view on where you think in that range is -- it's going to be in the long run.

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Richard Barry Jones, JP Morgan Chase & Co, Research Division - VP [24]

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Okay. Just one final question. Just again sort of back of the envelope, it looks like about 70% of the growth in EBIT came out of the growth in performance fees. What are the key drivers of operational growth in 2020 in your guidance?

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Nick Vrondas, Goodman Group - Group CFO [25]

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Yes. So again I think as we went through the different segments, so investment earnings are growing and will continue to grow. Management fees will continue to grow. On the development side, we're going through this transition effect. So what I will say is that, eventually, when that normalizes, development earnings will grow over the next couple of years, all other things being equal, of course, and subject to market conditions. So we really got fundamental drivers across all 3 segments that we'll see growth certainly over next year, and we got some tailwinds for the following years.

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Operator [26]

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Our next question comes from Grant McCasker from UBS.

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Grant McCasker, UBS Investment Bank, Research Division - Head of Australian Real Estate Research Team, Executive Director & Equities Analyst of Real Estate [27]

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Greg and Nick, just one question for me on sort of the cash flows and balance sheet. Nick, I just want to clarify, did you say you made $900 million investment into fund development partnerships this period?

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Nick Vrondas, Goodman Group - Group CFO [28]

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Yes. So it's across all the equity investments, but the attribution of what we actually invested in was principally development. And so yes, it's just over $900 million has gone in, and half of it's gone into development-specific partnerships. And the other half has gone into the other partnerships, the core -- essentially core or principally core partnerships but to fund their incremental development activity.

And so when we do attribution of the balance sheet, I think Darren said earlier there's $1 billion of growth on the balance sheet, it's actually not directly on the balance sheet. It's our proportionate share of the development assets within the partnerships. So if you look at our $4 billion development capital allocation at 30 June 2019, half of it's directly owned, and the other half is our proportionate share of the development assets within either the development-specific partnerships or the core plus core partnerships with the development component of those. Does that make sense?

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Grant McCasker, UBS Investment Bank, Research Division - Head of Australian Real Estate Research Team, Executive Director & Equities Analyst of Real Estate [29]

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No, that's clear. Just sort of leading to the second part. So I think you're retaining cash flows of roughly $500 million a year. Is the $900 million, is that just a material step-up in FY '20 -- sorry, in FY'19? Or is that an ongoing number that you think you...

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Nick Vrondas, Goodman Group - Group CFO [30]

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No, no, at this stage -- and we flagged it at the half year that there was going to be a sort of one-off step-up increase of working capital allocation to development that was going to be pretty material. To be fair, some of it happened this side of June where we'd previously thought it would happen in the other side of June. But in the main, we'd already expected this.

I think once you've got that working capital out, it will start to turn over, right? So the long-term funding plan -- I think that was the nub, again, of Darren's question as well, was what's our sources and uses long term. You're absolutely right, Grant, that the payout ratio is targeted to deliver us $500 million of free cash flow each year to reinvest. And if you look at $4 billion of end value of work done or if you look at it on a cost basis because there will be a margin in that and you look at the potential for moderate gearing in the partnerships, that $500 million at the group level should sustainably fund our ongoing work done. So this is a bit of a surge, as we indicated, and it won't be as -- at this point anyway, we're not anticipating it's going to be as material in future.

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Operator [31]

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(Operator Instructions) Our next question comes from David Lloyd from Citi.

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David Lloyd, Citigroup Inc, Research Division - Director & Analyst [32]

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Just a couple of questions for me today. Can you just run through when you're speaking to your customers around the allocations to industrial, where are they positioned versus benchmarks?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [33]

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Do you mean our partners, Lloydie, the investment partners?

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David Lloyd, Citigroup Inc, Research Division - Director & Analyst [34]

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Yes.

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [35]

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Yes. Look, it's fair to say there's certain categories of real estate they're not buying around the world at the moment, and we know what those are. So if you sort of take that very, very large category out, you would expect the allocation of our big partners around the world is more to industrial, more to residential and more to office. And that's what's happening. So effectively at the moment globally, there's more capital than there is opportunity in the -- for them to get into the industrial sector. So that's incredibly strong as you'd expect.

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David Lloyd, Citigroup Inc, Research Division - Director & Analyst [36]

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How [long you think] it might take them to get to their allocations?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [37]

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Look, I don't think -- some of those allocations that might have been 5%, 6%, David, now are at 20% sort of targets or maybe even 25% targets. So pretty -- a long time.

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David Lloyd, Citigroup Inc, Research Division - Director & Analyst [38]

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Maybe, Nick, just -- can you just -- looking at the guidance, I'm just trying to get a grip on this cornerstone income because it is growing quite quickly as development pipeline ramps up. So if we're to see sort of $3.5 billion worth of completions in the year and an average cornerstone is just 20%, that gives us $700 million. If you put a yield on 5% on that, it gives you an additional $35 million of income. Is there a rough sort of rule on where we think additional income could come from just from the development pipeline?

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Nick Vrondas, Goodman Group - Group CFO [39]

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Yes. I think the only deductions I would make to that would be that there will be some asset sales as well to fund that within the partnerships. Clearly not as significant as they were 2 years ago and 3 years ago, but there'll always be some volume of asset sales, and that will have an offsetting partially dilutive effect on that.

So probably, the best way to look at it actually -- I mean there's 2 ways you can look at it. If you look at it on the look-through basis, it's a net investment number that you're looking at and a spread on the net investment, which might be closer to sort of cash of $1.5 billion to $2 billion a year at a couple hundred basis points and for our share. Or you can just look at the $400 million to $500 million that will be our share of what's stabilizing each year and the incremental yield on that of around, so let's say, 5%. So an annualized basis, that's going to give you something in the 20% to 25% range plus then the underlying growth in rents, which this year was 11, and with a growing book it will probably be a little bit bigger going forward. So I think that adds up to, let's say, north of $35 million, $40 million a year of growth, all other things equal.

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David Lloyd, Citigroup Inc, Research Division - Director & Analyst [40]

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Okay. So just taking that number, the $35 million that you've just given us, and let's just say there's a net uplift of $5 billion of AUM for 2019, at 130 basis points, that gives you an extra $65 million. So that's already $95 million of the $100 million in guidance. So that means that you're basically factoring nothing for development, nothing for direct or anything else that may pop up against the year. So I'm just wondering what -- the guidance number feels like there is still certainly skew to the upside. Would that be fair?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [41]

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No. Look, I think 9% is a good number, Lloydie. I'm not going to debate your math over obviously the call. But look, I think we said -- I said in the outlook statement we're in a very strong position, and we are. I think if you look at the development numbers, you look at the development that's actually going through the partnerships and adding to the value of the partnerships, which then is going to performance fees coming out of the partnerships, right, that's clearly a big part of it.

And also I think we've stated today that 80% of what we're doing in development is going to partnerships. In the future, maybe it's not 80%, maybe it's 70%, maybe more is coming through the P&L from a cash point of view as well. That will change at some point in time. So I wouldn't be sitting here and talking about development being a flat number going forward. It certainly won't be. And if you look at the size and the quality of the book around the world, which I obviously do every day, and you guys get a little look occasionally, it's really, really good. So from our point of view, we've got a very high degree of confidence, Lloydie, making this -- clearly putting $1.40 billion out the other day, so yes.

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Operator [42]

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Our next question comes from Pete Davidson from Pendal Group.

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Pete Davidson, Pendal Group Limited - Head of Listed Property [43]

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If you just look at the yield on cost over the last 3 years, used to be 7.5, 7.2 now 6.6 but the spread to valuation yield is actually increasing. Isn't it?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [44]

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Pete, good question. We're -- but yes, the margins this year are bigger than last year and the year before. And it goes back to the thing I said before. The barriers to entry on a lot of things we're doing in the infill locations, which are a lot more difficult, you need a lot more infrastructure as well in regard to qualified experts to get these things up and down, is giving us more opportunity actually to perform better in a development sense.

And a lot of what we're doing as well is actually refurb-ing our buildings and re-purposing them for the new wave of structural demand from the customers. So we're doing a lot of re-purposing as well as brand new building, which is something we weren't doing probably 4 or 5 years ago. We're doing a number of those actually in Australia at the moment. And particularly in the U.S., there's a lot of re-purposing of really great infill sites back into last mile, last drop. And we've got some of those going on in Europe too currently. So yes, the margin's good -- really good.

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Pete Davidson, Pendal Group Limited - Head of Listed Property [45]

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Yes. Well, they seem to be improving. So next one is just on the committed level, which a couple of years ago was 64, 64 and now it's 58. So precommits are lower. Is that reflecting longer gestation of the projects? Or are you actively taking more risk or -- because you're using infill sites? Or what's happening there?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [46]

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Pete, it's really locational. So a lot of the infill development we're doing comes out of the ground on a spec basis. Whereas a number of years ago, we're doing a lot more build-to-suits in locations, now we're doing a lot more infill locations, which there is a high degree of spec development but there's a wall of demand behind it, which gives you the confidence to do it. So we're taking a lot more risk, but we're, I think, ultimately in it with a lot, lot better product.

And I think that's the transition of the portfolio over the last 5 years and why we've sold as much as we've sold. And I think it's $15 billion over 5 years or something, maybe more. That -- we've repositioned it to be a pretty cool sort of portfolio around the world. When you look at it on a brick by brick, it's really looking really good.

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Pete Davidson, Pendal Group Limited - Head of Listed Property [47]

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Okay. And just picking up on Richard Jones' question before about performance fees. Is there sort of high watermark in those? And do they reset it? How are they actually being tested? I guess the question is have you got a sort of fairway that's going on where some of the old valuation gain will actually see you forward for a number of years?

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Nick Vrondas, Goodman Group - Group CFO [48]

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Yes, Rich -- Pete, I think each partnership has got its own benchmark, and each of them, frankly, is different. So I'll try to kind of summarize, if I can. There's a range between those that are measured annually and those that are measured over a longer period and a range in between. And some of them have got a cap on how much can be paid in any 1 year, and others don't. But there is excess performance carried forward even from those where there was fees recognized this year, which will emerge, say, next year and potentially year after, again, subject to where cap rates are in, but there is definitely some carried forward outperformance that will carry us through certainly into next year and, all other things equal, will continue in years beyond that.

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Pete Davidson, Pendal Group Limited - Head of Listed Property [49]

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Okay. And generally, just as a percentage across the funds, how many of them have got that kind of structure, i.e., with a high watermark and a carryforward, which is what you're describing roughly?

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Nick Vrondas, Goodman Group - Group CFO [50]

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Just under half. Just under half.

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Operator [51]

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Our next question comes from Ian Randall from Goldman Sachs.

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Ian Randall, Goldman Sachs Group Inc., Research Division - Research Analyst [52]

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Can we talk a bit about Hong Kong? It's about 7% or 8% of your FUM, but it looks like about 10% of WIP, have been growing. Do you have any concerns just around the impact of the current political situation on tenant demand or asset values going forward?

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [53]

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Look, first thing is we're concerned about what's going on in Hong Kong. I think everyone in the world is. I think it's just matter for the record and you've seen that play out in the media. I think the development start or the major one we've made is pre-committed. And so that's all locked and loaded, and that's pretty substantial. We're looking at some other activities at the moment that are pre-committed, which are quite substantial. So I think from that point of view, on the development front, being careful, watchful, but there's no disruption to our program at this point in time.

Generally speaking, with customers, yes, people are concerned. Obviously, people are concerned about what it means to their businesses and what have you and is there further disruption. But are we seeing it present at this stage into vacancies and things of that, no, but we'll see how it goes over the next 12 months. It's a -- that'd be more of the long-term effects of what is occurring at the moment. So we'll look -- we're watchful like the rest of the world, we're careful, prudent. We're very lowly geared, clearly, in that marketplace. We've got a first-class portfolio that is holding up at the moment. I think we're 99% occupied, still are and in really good -- Nick?

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Nick Vrondas, Goodman Group - Group CFO [54]

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I think, Ian, if you look at the impacts of the Occupy Hong Kong disruption that we had a few years ago in retail sales, we're getting hit pretty hard. Our portfolio didn't miss a beat at that point in time. And so not to say that's necessarily going to be the case here, but we're not -- we don't have a delta of one on what's happening on the ground there. So we'll just have to wait and see.

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Operator [55]

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Thank you. There are no further questions. I will hand back to Greg for closing comments.

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Gregory Leith Goodman, Goodman Group - Group CEO & Director [56]

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Thank you very much and good morning.