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Edited Transcript of TERRA13.MX earnings conference call or presentation 28-Feb-19 4:00pm GMT

Q4 2018 CI Banco SA Institucion de Banca Multiple FF/00939 Earnings Call

MEXICO, D.F. Mar 8, 2019 (Thomson StreetEvents) -- Edited Transcript of CI Banco SA Institucion de Banca Multiple FF/00939 earnings conference call or presentation Thursday, February 28, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Alberto Castillo Chretin

Fibra Terrafina - Chairman & CEO

* Carlos Gomez Espinosa

Fibra Terrafina - CFO

* Francisco Martinez

Fibra Terrafina - IR Officer

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Conference Call Participants

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* Alan Macias

BofA Merrill Lynch, Research Division - Analyst

* Francisco Chávez Martínez

BBVA Corporate and Investment Bank, Research Division - Chief Analyst

* Luis Eugenio Saldaña Flores

GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Analyst

* Marimar Torreblanca

UBS Investment Bank, Research Division - Director & Product Mngr for LatAm

* Pablo Ordóñez

Itaú Corretora de Valores S.A., Research Division - Research Analyst

* Roberto Waissmann

Banco Bradesco BBI S.A., Research Division - Research Analyst

* Wilfredo Jorel Guilloty

Morgan Stanley, Research Division - Equity Analyst

* Maria Barona

i-advize Corporate Communications Inc. - Co-Founder and MD

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Presentation

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Operator [1]

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Good morning. My name is Chris, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Terrafina Earnings Conference Call. (Operator Instructions) Thank you for your attention.

I will now turn the call over to Maria Barona of i-advize. Please go ahead.

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Maria Barona, i-advize Corporate Communications Inc. - Co-Founder and MD [2]

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Thank you, Chris. And welcome to Terrafina's Fourth Quarter and 2018 Year-End Conference Call. I'm Maria Barona from i-advize Corporate Communications. Today, we're pleased to have with us from Terrafina, Mr. Alberto Chretin, Chief Executive Officer; Mr. Carlos Gomez, Chief Financial Officer; and Mr. Francisco Martinez, Investor Relations Officer. Mr. Chretin will be taking us through the company overview and operating review, and Mr. Gomez will review the financials.

Before we begin, we'd like to refer you to the forward-looking statements as per the note in the quarterly report. Any information expressed or implied during the call may include forward-looking statements, which could involve certain risks or uncertainties. Terms such as estimate, project, plan, believe, expect, anticipate, intend and similar such expressions may identify such statements. Listeners are cautioned that forward-looking statements made during the call or by the company's management may change based on various important factors not under the control of the company. These comments represent the company's judgment at the time of this call. The company disclaims, however, any intent or obligation to update these forward-looking statements.

Thank you for your attention. At this point, I will turn the call over to Mr. Chretin for his opening remarks.

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [3]

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Thank you, Maria. Good day, everyone, and thank you all for joining us today. Terrafina concluded 2018, a year that was both challenging and rewarding, and we achieved strong results operationally as well as financially.

Manufacturing-for-export activity remained solid throughout the year, supported by the industrial sector and specifically for Terrafina, by new tenants who continue to demonstrate the confidence and trust in Mexico and our workers with the ongoing commitment to bringing and keeping the operations here. Terrafina strives to be a part of this dynamic and to be a key player with strong relationship that exists between multinational companies and the manufacturing-for-export sector in Mexico.

Throughout 2018, Terrafina delivered on its objectives. Our goal is to continue working toward these objectives throughout 2019 and onward by strengthening our portfolio in a manner that is both profitable and financially sound.

Let's look back at 2018, a period in which the company reached record high operational and financial results while at the same time, we consolidate the acquisitions that took place toward the end of 2017 and the beginning of 2018. As a result, Terrafina finds itself in solid footing within industrial real estate sector with a strong position in terms of our portfolio, reflecting a 95% occupancy rate and a high renewal rate of 90%. This is further evidence of the success of our business model, which is based and anticipated in fulfilling our tenants' growth needs.

The average leasing rate experienced a mode of stable growth during 2018 to reach $5.15 per square foot per year compared to $5.04 per square foot per year for 2017. Leasing activity attained a record high of 9 million square feet, which represented a 42.5% increase compared to 2017.

Tenants renewals totaled 8 million square feet, representing 88% of total 2018 leasing activity. It is important to note that 3.8 million square feet of this were early renewals, which indicates the importance for our tenants to secure their operations so that they can act adequately prepared for the long-term production goals.

Occupancy and rental rates by region also remained strong. By the end of 2018, the northern region reached 97.5% occupancy at $5.08 per square foot per year. Bajio reached 91.5% occupancy at the rate of $5.21 per square foot per year. And in the central region, occupancy reached 91.8% with a leasing rate of $5.34 per square foot per year.

Terrafina generated $190 million in net operating income, which translated into a 13.9% increase compared to 2017. In the bottom line, AFFO increased by 16.9% to reach $111.1 million during 2018. Annualized distribution per certificate reached USD 0.1407. All of these metrics were in line with our proposed guidance for 2018.

Moving ahead to 2019, we're confident that the solid foundation we have strived to develop continues to support our operational and financial results as Mexican manufacturing activity continues to play an important role in the global investor sector. In Terrafina, we foresee potential investment opportunities arising throughout the region, but we continue to favor job creation, export activity and domestic consumption.

From our perspective, we have seen several requests from our existing tenants for increased pays based on the continued investment in the region, as we previously discussed on the third quarter 2018 conference call. Therefore, our main objective remains focusing on expansions and built-to-suit projects, which will support the portfolio resilience, enhance the future business with our existing tenants now and the long term.

These bring us to our 2019 goals, which include: first, reinforce our operations by keeping occupancy percentage levels in the mid 90s, sustaining stable rental rate levels and maintaining high renewal activity for the 5.6 million square feet of leasing contracts that are due to expire in 2019. Next, prioritizing development of expansions and built-to-suits. Off these, we generate double-digit development yields. There is no expected acquisition activity in the horizon for 2019. Instead, we will focus entirely on development activity. Third, preserving a sound capital structure. Our way is to ensure that Terrafina has sufficient liquidity to cover its operations as well as its development activity. Leverage levels are expected to remain in the range of 38% to 42%.

Furthermore, this concept also includes keeping our share buyback program active in a manner that is disciplined and mutually beneficial for the market as well as the company, as we have been doing since the program began operating in 2018.

Lastly, we have emphasized for a long time now, continue to generate operational efficiencies. This, by working closely with our property managers and our sales advisors in order to identify opportunities and provide greater and positive solutions to our existing tenants in a competitive cost structure. Our talented team comprise of PGIM Real Estate expertise and a property manager model, together, will continue to be vital for our growth. We remain focused on attracting and retaining top tenants that [leases industrial properties] and that contributes to our successful projections.

Moving on to 2019 guidance. We expect operational metrics to remain stable, with occupancy levels remaining in the mid-90s and rental rates adjusted to the U.S. inflation. Moreover, for 2019, we shall identify a higher CapEx need in terms of property improvements as part of our tenant commitments so as to ensure that the assets remain in the best possible shape.

As such, the investment plan established for the coming year consists of a CapEx budget for the full year of USD 0.20 to USD 0.25 per square foot for our total GLA as we aim to strengthen tenant relationships and secure our revenue and analyze innovation. Taking this into account, our respective annualized distribution per share is within the range of USD 0.13 to USD 0.14. Also, as part of our distribution policy, the AFFO payout ratio is at the 100% level. Lastly, since there was a positive net result of 2018, the distribution for the 2019 period will be treated as cash payments.

Thank you for your attention, and I will now turn the call over to our CFO, Carlos Gomez, as he takes us through the financials for the quarter.

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Carlos Gomez Espinosa, Fibra Terrafina - CFO [4]

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Thank you very much, Alberto. And thank you to all participants in the call for joining us today. I will begin with a brief review of our financials for the final quarter and the 12 months period of 2018. Please note that all figures discussed are in U.S. dollars. However, Mexican peso figures are also following the report for your convenience. Additionally, NOI, EBITDA and FFO figures exclude noncash items as well as nonrecurring and transactional-related expenses, the latter of which are only included as part of the AFFO.

To begin, let me discuss 2018 financial highlights compared to last year. Terrafina's rental revenue increased by 14.4% to reach USD 191 million, and on a quarterly basis, rental revenue reached USD 48 million, a 9.6% increase. At the NOI level for 2018, USD 190 million were contributed with a 92.3% NOI margin. And for the quarter, USD 48 million were generated with a 93.3% NOI margin.

EBITDA levels improved by 13.7% compared to 2017, reaching USD 170.9 million and USD 42.8 million for the fourth quarter. Terrafina continued to strengthen its EBITDA margin, reaching 83.1% in 2018 and also 83.1% in the fourth quarter of 2018.

Financial costs were USD 52.2 million, a 3.1% increase compared to 2017. This was mainly due to higher interest rates in the U.S. compared to 2017.

With regards to the AFFO levels, USD 122.5 million were generated in 2018 with an FFO margin of 60%. Finally, AFFO levels reached USD 111.1 million with an AFFO margin of 54%.

Total distribution per certificate were USD 0.1407 per certificate for the entire year and a 9.7% dividend yield considering the average price of MXN 27.71 per certificate.

On the balance sheet, as of December 31, 2018, Terrafina has a cash position of USD 79.1 million. Also, Terrafina had USD 250 million in its revolving credit facility, which is [conveniently light] while still remains within our loan-to-value limits.

With reference to total debt, Terrafina has USD 993 million in debt by the end of 2018. And concluded the year, we had only 40.1% LTV and 3.2x debt service coverage ratio, which is in full compliance with the loan covenants.

Also, we began our certificate buyback activity during the fourth quarter, reducing the amount of our outstanding certificates to 790,602,803 certificates at the end of 2018. As Alberto mentioned, the goal is to continue using our buyback program in a disciplined manner as we identify opportunities during the year.

Thank you for your time and attention. At this point, I will ask the operator to open the line for the question-and-answer session.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question comes from Alan Macias from Bank of America.

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Alan Macias, BofA Merrill Lynch, Research Division - Analyst [2]

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Just one question, a clarification on your 2019 dividends per share guidance? Was it $0.13 to $0.14? Is that correct?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [3]

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That is correct. $0.13 to $0.14 per certificate. That is correct.

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Alan Macias, BofA Merrill Lynch, Research Division - Analyst [4]

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Okay. So that's pretty much the same level as last year, right?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [5]

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That is correct.

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Alan Macias, BofA Merrill Lynch, Research Division - Analyst [6]

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Okay. And just second question, if I may, regarding leasing activity during the first 2 months of this year. Have you seen strong leasing activity? Or has it slowed down a bit?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [7]

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No. Yes, the leasing activity continues to be very active. We have not received any information from any of our tenants about either reducing their space or any plans to -- not to renew. At this point, we have, as I mentioned, about 5.6 million square feet of contracts that are actually going to expire, and we are actively working with them to renew, and we expect to have a very high renewal rate as we had in 2018.

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Operator [8]

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Our next question comes from Eugenio Saldaña.

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Luis Eugenio Saldaña Flores, GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Analyst [9]

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I would like more color, [if you] referred from your tenants. How has the new tax provision for the frontier work on them and it has pushed up the interest in real estate over there? And the second one is in light of the recent news of strikes in Matamoros, do you fear those strikes could spread to other frontier cities? Or have you heard anything?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [10]

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Thank you, Eugenio. Yes, well, first of all, on the new taxing for the border, the maquiladoras are not eligible to benefit from the taxes -- from the new taxes announced by the federal government because there is one provision that said that if any company has -- already enjoys a preferred treatment on the taxes, you should know, they will not be eligible. So really, the benefit from maquiladoras is -- that there's no benefit for them on the tax -- on the new tax order.

On the second question, yes, we -- of course, we are aware of the issue of the union activity in Matamoros and that it is -- we hear also that it may spread to other cities within Tamaulipas. And we're monitoring that very closely. We have had meetings with INDEX, which is the National Council of Maquiladora Associations. They are aware of the situation and that they are in contact also with other associations throughout the border trying to anticipate any potential problems. But so far, the spread of this problem had been to Matamoros and other cities around Tamaulipas. I think it's important to know that we at Terrafina, we do not have any properties in Matamoros or any of the cities that have been talking about -- having this problem.

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Operator [11]

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And our next question comes from Marimar Torreblanca from UBS.

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Marimar Torreblanca, UBS Investment Bank, Research Division - Director & Product Mngr for LatAm [12]

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I have 2 questions. The first one is if you can give us a bit more color on the increase on your TIs this quarter. Was there anything in particular during the quarter that drove it? Or do you think this is a level that we probably will see going forward?

And then second question, which is kind of related, has to do with your CapEx guidance. Does your CapEx guidance include the recurring CapEx, TIs and leasing commissions? Or is it just recurring CapEx and TIs?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [13]

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Thank you, Marimar. Well, first, in terms of the TIs, let me say that the -- we are -- we made a budget, a very detailed budget for 2019 as we do every year. In 2019, it's a year in which we won't invest additional expenses, basically, on issues like -- and I'll give you some examples, like air conditioning. We have a large tenant that -- this is the year when we have to repair some of our air conditioning. We are going to be doing some repairing of our campus and one of our large tenants also. We're doing somewhere -- CapEx also on some tenants to repair some fences and some expansions that are happening during 2019. Also, we have some -- in 2019, we have started some conversation with some tenants on the last quarter of 2018. But in order for us to deploy these expenses, we had to be in agreement with our tenants, and some of them were deferred to 2019. And that's why the guidance that we've given will be between $0.20 and $0.25 per square foot on the entire portfolio. And we gave a very [big question mark]. I think it's quite possible that we go to -- on 1 year, we go to a $0.20, to a $0.25 or close to $0.25, and we may come back again to closer to $0.20 per square foot per year this quarter for the entire portfolio.

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Marimar Torreblanca, UBS Investment Bank, Research Division - Director & Product Mngr for LatAm [14]

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Okay. So that doesn't include leasing commissions then, right?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [15]

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No, it doesn't include leasing commissions.

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Francisco Martinez, Fibra Terrafina - IR Officer [16]

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In concern to your second question, just to confirm that, yes, what we are forecasting for 2019, it's for recurring CapEx.

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Operator [17]

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And our next question comes from Roberto Waissmann from Bradesco BBI.

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Roberto Waissmann, Banco Bradesco BBI S.A., Research Division - Research Analyst [18]

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My first question is regarding rent per square meter growth. Despite the all-time high leasing activity for the year, you were a little less aggressive on prices because the rent per square foot was up 2% in nominal terms, which means that's flat in real terms. What should we expect for lease price growth for this year?

And my second question is regarding the GLA expectation growth for this year and how this could be divided into development, acquisition or expansion.

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [19]

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Okay, let me see, if I understood the question well. When we talk about growth. We expect the annualized growth to be according to the U.S. inflation. And directly the global respect also is based exclusively on expansions and built-to-suits that we have -- that we may have on the land that we own.

And the expansions had very much to do with the request on our tenants. We already have a pipeline of potential expansions based on the information of our tenants and that -- so we expect that, that is going to be in the range of about $80 million in the next 18 to 24 months. And for this year, we expect something mendable of about $30 million.

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Francisco Martinez, Fibra Terrafina - IR Officer [20]

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And Roberto, could you just repeat your second question?

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Roberto Waissmann, Banco Bradesco BBI S.A., Research Division - Research Analyst [21]

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Maria, my second question was regarding the GLA, that's it.

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Operator [22]

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(Operator Instructions) Our next question comes from Pablo Ordóñez from Itaú.

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Pablo Ordóñez, Itaú Corretora de Valores S.A., Research Division - Research Analyst [23]

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I've got a couple of questions from my side. Can you give us more color on the different regional dynamics? It seems like the central region occupancy decreased a bit quarter-over-quarter. Are you seeing opportunities for this year in the logistics sector for this year? And also, regarding the Bajio region, occupancy continues to lag the north region. What should we expect for this year? And could it catch up with the northern region? And second question on your guidance. What is implied payout in expected distribution? And do you expect to continue with your policy to distribute 100% of your AFFO?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [24]

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Yes. Well, first of all, yes, we -- at this point, we said that we received a distribution policy of 100% of the AFFO. In terms of the markets, yes, we see that the Bajio market has slowed down as compared to the growth of the north and that we have identified some properties in San Luis Potosi and Silao that had been empty for quite some time. We have specific business plans for each one of these properties and basic information that we get in the market opposite from our property managers, and we do expect a recovery of that. However, because of the current situation in some of the other [known] companies, they've been saying that the occurring of some positions, and some of these are [surely] potential tenants. But we also feel that the market in the north continues to be very, very strong. We have -- this last quarter, we had -- we renewed all the expirations that we had during the last quarter with the exception of one. And that one was in the central market. And we already have a couple of properties for that space. So we continue to see the various dynamics to market, and indeed, the [Brazilian] one that we expect to recover during the first half of this year.

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Pablo Ordóñez, Itaú Corretora de Valores S.A., Research Division - Research Analyst [25]

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Okay. And in the central region, Alberto, do you expect occupancy to recover in this year? And are you seeing any opportunities in the logistics sector?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [26]

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Well, yes. Of course, we do some business with logistics. We do have a couple of properties in Toluca and that they are (inaudible) that. However, in some of these logistics tenants that are potential tenants without (inaudible) insist on pesos-denominated leases, and we are still looking for opportunities to lease that space in pesos. But to answer your question, we are participating actively on the logistics sector. As you know, we have -- over 25% of our portfolio is logistics and distribution, and most of this is already in the central market. However, we insist that some of these potential new tenants will sign contracts in U.S. dollars.

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Operator [27]

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And it looks like we have time for one last question from Jorel Guilloty from Morgan Stanley.

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Wilfredo Jorel Guilloty, Morgan Stanley, Research Division - Equity Analyst [28]

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I have 2 questions. First, fundamentals for the industrial sector as well as your own portfolio showing what seem to be peak metrics with margins, rent, occupancy rate, pattern your highs. That said, if we look at your expectation for dividend growth, which is flattish, it almost seems to imply that you expect flat lease spreads in 2019. Am I interpreting this the right way?

And then the second question I have is among the industries that rent in -- that are representing your portfolio, which is auto, electronic, et cetera, where do you expect to see incremental demand going forward?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [29]

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Yes. Well, yes, in terms of the rent growth, we don't project growth based on rent growth. Within that, with all the leasing contracts had clauses that provide for us the market increases due to the -- based on the U.S. inflation. So that's why our rents continue -- it seems the [IP OR] rent, our average rent per square foot per year has continued to increase relatively slowly but surely, so that's why we foresee that the rent is going to increase at the rate of the U.S. inflation. And what was the second question, please?

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Francisco Martinez, Fibra Terrafina - IR Officer [30]

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Do you expect -- where do you expect incremental demand?

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [31]

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Oh, yes, in demand. We think that our occupancy in our portfolio is very high and that there is -- there may be demand for additional space in the north region as more companies take advantage of manufacturing in Mexico. But right now, the geographical distribution of portfolio is very good. And I think we are more able to capture the opportunities in between many markets in which we operate.

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Wilfredo Jorel Guilloty, Morgan Stanley, Research Division - Equity Analyst [32]

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Yes. I mean, my question was more focused on industries themselves, so between autos and consumer. So if there is a particular industry that you're seeing that can perhaps bring incremental demand in 2019.

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [33]

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Okay, yes. Yes, thank you. Yes, we think that the -- we had some request for expansions of our tenants that are in the aviation sector. I think the aviation sector is one that is going to continue to grow, especially in the north. As you know, we have substantial amount of tenants in Chihuahua that are in the aviation sector. And that is one that continues to grow at a faster pace than the rest of the sectors. So that is one that we anticipate that is going to grow at the faster rate.

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Operator [34]

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And our next -- it looks like we had a last-minute question from Francisco Chávez with BBVA.

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Francisco Chávez Martínez, BBVA Corporate and Investment Bank, Research Division - Chief Analyst [35]

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The question is regarding the expected breakdown of the cash distributions between fiscal result and return of capital for this year.

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [36]

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Yes, Francisco. Well, the way we explained the -- since the middle of the previous year was that the tax losses that Terrafina had, had already been finished. So since now and at least for the first 3 quarters of 2019, we will be distributing tax results.

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Operator [37]

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We are out of time for questions. At this time, I would like to turn the call back over to Mr. Alberto Chretin for his closing remarks.

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Alberto Castillo Chretin, Fibra Terrafina - Chairman & CEO [38]

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Thank you. So thank you all for your attention here today. We look forward to speaking with you all again and keeping you updated of the latest developments at Terrafina. Have a great day.

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Operator [39]

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This does conclude today's program. Thank you for your participation. You may disconnect at any time.