Morguard North American Residential Real Estate Investment Trust (MNARF) CEO Rai Sahi on Q2 2022 Results – Earnings Call Transcript
Morguard North American Residential Real Estate Investment Trust (OTC:MNARF) Q2 2022 Earnings Conference Call July 28, 2022 3:00 PM ET
Paul Miatello – SVP
Rai Sahi – Chairman and CEO
Christopher Newman – CFO
John Talano – SVP, U.S.
Angela Sahi – EVP for Canada
Beverley Flynn – SVP and General Counsel
Conference Call Participants
Lorne Kalmar – TD
Jimmy Shan – RBC Capital Markets
Good afternoon, ladies and gentlemen, and welcome to the Morguard North American Residential REIT Second Quarter Conference Call. [Operator Instructions] This call is being recorded on Thursday, July 28, 2022.
I would now like to turn the conference over to Paul Miatello. Please go ahead.
Thank you very much and thanks everybody for joining us today for the second quarter results conference call for Morguard North American Residential REIT. Again I’m Paul Miatello, Senior Vice President of the REIT, and with us on the call today, we’ve got Rai Sahi, Chairman, and Chief Executive Officer, Chris Newman, our Chief Financial Officer, John Talano, Senior Vice President, U.S., Angela Sahi, Executive Vice President for Canada, and Beverley Flynn, Senior Vice President, and General Counsel.
So with those quick introductions out of the way, I will turn it over to Chris to give us a brief overview of the results, and then we’ll turn it back to the operator for a Q&A session. Chris?
Okay. Thank you, Paul.
As is customary, I’ll provide some comments on the REIT’s financial position and performance. In terms of our financial position, the REIT completed the second quarter of 2022 with total assets amounting to $3.9 billion higher compared to $3.5 billion as at December 31, 2021. This resulted from a fair value increase on the REIT’s income-producing properties of approximately $355 million.
The value increase is a result of cap rate compression realized on most of our U.S. portfolio during the first quarter as well as an increase in underwritten NOI in both the U.S. and Canadian properties. During the second quarter, the REIT sold the property located in Atlanta, Georgia, comprising 292 suites for net proceeds of $66.2 million after closing costs and the repayment of mortgages payable secured by the property.
In addition, the REIT entered into agreements to sell two properties, one located in Louisiana and the other located in Florida, expected to provide additional net proceeds of $114.9 million after the repayment of mortgages payable secured by the properties. So, we’d expect to close the sale of these properties during the third quarter.
Subsequent to quarter end, the REIT announced that is entered into a binding agreement to acquire a multi-suite residential property comprising 350 suites located in Chicago, Illinois, for a purchase price of CAD171.4 million.
The acquisition is expected to close during the third quarter of 2022, the dispositions are consistent with management strategy to dispose of certain assets where values are benefiting from strong market demand and to focus on opportunities to acquire properties located in urban centers and major suburban markets in Canada and the United States.
To add, the REIT is pursuing a tax-deferred exchange under Internal Revenue Code Section 1031 in connection with its U.S. property dispositions under a 1031 Exchange subject to certain conditions, the REIT will be able to defer tax payable upon the acquisition of a replacement property.
The REIT finished the second quarter with $40.9 million of cash on hand and $60 million advance to Morguard Corporation, under $100 million revolving credit facility providing the REIT with $160 million available under the credit facility. The REIT completed the second quarter with $1.1 billion of long-term debt obligations and during the quarter, the REIT completed the refiling of a property located in West Palm Beach, Florida in the amount of $19.5 million at an interest rate of 3.8% for a term of 10 years.
The maturing mortgage amounted to $11.7 million was open and pre-payable at no penalty before its scheduled maturity on August 1, 2022 which had an interest rate of 3.96%, and as at June 30, 2022, the REIT’s overall weighted average term to maturity was 4.6 years, a decrease from five years at December 31, 2021, and the weighted average interest rate remained unchanged at 3.31%. The REIT’s debt to gross book value ratio improved to 35.6%, at June 30, 2022 down compared to 40.2% at December 31, 2021.
And turning to the income statement. net income was $166.5 million for the three months ended June 30, 2022, compared to $20.3 million in 2021. This $146.2 million increase in net income was primarily due to a higher fair value gain on real estate properties of $77.1 million relative to the gain recorded during 2021, a fair value – a higher fair value gain on Class B LP units $76.8 million reflecting a decrease in the REIT’s unit price during the second quarter and was partly offset by an increase in deferred income tax expense of $18.6 million correlating with the increase in fair value on the REIT’s U.S. properties.
IFRS net operating income was $42.5 million for the second quarter of 2022, an increase of $5.1 million or 13.6% compared to 2021. The change of foreign exchange rate increased NOI by $1.7 million of the overall $5.1 million variance to last year.
And on the same-property proportionate basis, NOI in the U.S. increased by USD2.5 million or 16% as an increase in revenue from AMR growth net of higher vacancy and an increase in ancillary revenue, partially offset by higher – was partially offset by higher operating expenses.
NOI in Canada increased by $0.7 million or 5.4% mainly due to AMR growth and lower vacancy, partly offset by higher operating expenses and the change in foreign exchange increased NOI by $1.4 million.
Interest expense decreased by $3.1 million for the second quarter of 2022 compared to 2021 primarily due to an increase in non-cash fair value gain on the convertible debentures conversion option of $3.9 million, partially offset by an increase in interest on mortgages of the $0.7 million mainly resulting from additional net mortgage proceeds on the completion of the REIT’s re-financings during the fourth quarter of 2021.
The REIT’s second quarter performance translated into basic FFO of $19.8 million, an increase of $3.7 million or 23% compared to 2021, and on a per unit basis, FFO was $0.35 per unit for the three months ended June 30, 2022, an increase of $0.06 compared to $0.29 per unit in 2021.
The increase in FFO per unit was due to the following, on a same-property proportionate basis in local currency, an increase in NOI from higher AMR growth and lower vacancy, partially offset by an increase in interest expense and trust expenses, had a $0.03 per unit positive impact and the change in foreign exchange had a $0.02 per unit positive impact primarily resulting from an increase in FFO generated from U.S. properties.
As well, an increase from the contribution of the REIT’s development property, which reached stabilization during October 2021, had a $0.01 per unit positive impact, and the disposal of a property during the second quarter of this year had a $0.01 per unit negative impact, and as well an increase in other income, primarily from an increase in interest income on the Morguard facility had a $0.01 per unit positive impact.
The REIT’s FFO payout ratio was 49.7% for the three months ended June 30, 2022, a very conservative level which allows for significant cash retention and operationally, the REIT’s average monthly rent in Canada, increased to $1565 or 3% compared to 2021 reflecting the quality of our Canadian portfolio.
During the second quarter, the Canadian portfolio turned over 8.3% of total suites and achieved 15.1% AMR growth on suite turnover. While in the U.S., same property AMR increased by 13% compared to 2021, having an average monthly rent of USD1631 at the end of June 2022 as the REIT continued its strong performance benefiting from strong market fundamentals across many regions.
The REIT’s overall – the REIT’s occupancy in Canada finished the second quarter of 2022 at 95.2% compared to 91.8% at June 30, 2021, overall occupancy has increased across the portfolio and as anticipated, it will continue to improve to the end of the year. Leasing activity significantly increased as COVID restrictions were lifted, economic conditions improved and as people returned to their normal routine.
Same-property occupancy in the U.S. of 96.5% at June 30, 2022, was slightly lower compared to 96.8% at June 30, 2021, maintaining optimum levels, and during the six months ended June 30, 2022, the REIT’s total CapEx amounted to $10.8 million that included revenue enhancing in suite improvements, common area and external build – exterior building improvements as we also continued to ensure we maintain the structural and overall safety of our properties. And the REIT’s collections of rental income during the six months ended June 30, 2022, continues to be materially in line with historical collection rates.
At this time, I will turn the call back over to the moderator for any questions.
[Operator Instructions] First question comes from Lorne Kalmar at TD. Please go ahead.
Thanks. Good afternoon everybody. On the acquisition side of things, I think even with the Chicago asset, you guys announced there is still some proceeds to be utilized, where are you sort of looking – I’m assuming it’s in the U.S., but are there any market specifically in the U.S. you’re targeting? And what are you sort of seeing in terms of cap rates?
Lorne, it’s Paul here. I mean, by and large, we’re looking to stick within the existing footprint, so all the States and municipalities that were generally and now were not straying too much farther afield, would rather build in the markets that we’re in and where we have management capabilities now, so that’s kind of I guess the first priority of the first filter for acquisitions.
Obviously, it’s the U.S. There’s a lot available, that’s on the screen, but that’s kind of where we’re prioritizing the efforts. In terms of cap rates, I mean the boil obviously has come off interest rates, put a damper on things, there is a little less transaction of volume out there, things are being pulled while vendors sort of wait and see.
And I would say you’re seeing pricing adjustments that maybe translate into 25 bps, 5% to 10% of purchase price, you’re seeing some adjustments now and so you’re seeing good suburban three story, kind of walk-up product, in – around the depending on agent quality, of course, but 4.5% to 5% and you’re seeing more of the urban stuff, still at 4.25% to 4.75%, so that’s generally the range where we’re seeing stuff.
Okay. And any…
No huge distress or anything at this point. We are – there’ a few broken deals and financing rates are kind of backing up, but we’re not seeing huge price adjustments at this point. Is there any sort like – is the, I guess, decreasing or now maybe even inverted delta between interest rates and cap rates sort of impact
At? So how does I guess that impact the acquisition program for you guys?
Yes. I mean, look, we’ve taken our foot off the gas pedal. We’re very happy with the Chicago property, obviously MRG in the Morguard Group in general, We’ve got a good site’s footprint in Chicago. So we’re very happy to have that one tied up. The way I would characterize, we’re taking our foot off the gas pedal and just sort of waiting to see how things play out. Like I said, there’s no doubt pricing has changed but vendor volumes have changed as well.
So we’re just – we’re keeping a close eye on all the markets we want to be in. So it’s impacting the timing with which we want to move forward and we’re just sort of waiting for some of the dust to settle a little bit.
Fair enough. And the Chicago asset thing was about 490-ish a door or in that range. So obviously on the higher end probably newer. Is that sort of what you’re looking at going forward? Are you guys more agnostic in terms of age and quality?
Obviously, no. No, I mean I would say that we’re looking to buy newer product. We’re taking the opportunity here to dispose of some properties that are a little bit older, 20, 25 years old and wood frame kind of product with some CapEx coming down the pipe and looking to trade up, in the sense that we’re looking for newer product, urban versus suburban, we’ve got a good mix.
So we’re a little more agnostic and we don’t have like huge exposure except for Chicago to really dense downtown type environments, so we’ve got good management capabilities on kind of both sides of it. So we will continue to screen for properties that are consistent, kind of with the existing portfolio, and then the one thing I just wanted to like check you on. you said USD480 a unit, I mean like this one in Chicago is like USD380 a unit –
Oh, sorry, I was talking – yes, I said it in Canadian. You’re right. You’re absolutely right. Fair enough.
As long as you give us credit for the rents in Canadian dollars, then we are good.
And then I know you guys have a pretty decent presence in Chicago and Morguard Corp does as well, you get some synergies there. What do you guys really see in that market? Is there – are they getting sort of that similar bump that we’ve seen in the New York’s and San Francisco’s, and Toronto’s in the recent months?
Yes. Maybe, I’ll turn that one over to John Talano to talk about Chicago.
Sure. And are you – you’re talking about rent specifically?
Yes, yes, because I think they’re holding them pretty well.
Yes. I would say Chicago lagged the Southern portfolio but we’re absolutely getting those rents now and in Chicago in general at the properties, we are seeing rental increases between 12% and 18% and we’re getting them. So it’s – definitely coming back strong.
Okay. And then maybe one last one I have you John, what have you been seeing sort of post Q2 in terms of rent increases in the States? Any slowdowns or…
What I would say – yes, I would say, in the Southern market, the Atlanta’s and Florida’s, I think where we pushed really aggressively and in those markets, we’re seeing a slowing of the growth, we are not seeing the – we’re not seeing anything negative by any stretch of imagination. It’s just – I think we peaked in terms of velocity of growth. It is slowing down, but we’re also cognizant of our community in our residents and we are trying to make sure that we’re thoughtful about the folks that are in our buildings and who we’re trying to keep.
So we are definitely not as aggressive as some U.S. landlords out there, but I think they’re pushing people out and pushing people to a point where they can’t afford rent. So we’re trying to be very cognizant and thoughtful about that and we are still increasing but I would say it’s starting – those major increases are starting to flow but our renewals are already out 90 days and those are coming in strong as well. So it all looks good.
Thank you. Next question comes from [indiscernible] an Investor. Please go ahead.
Hi, there. One for the CFO. I just wonder what’s the IFRS NAV at the end of the quarter?
The IFRS NAV is just approximately $37, that’s slightly up over last quarter due to our fair value gain increase.
Sure. And do you guys ever think of what would make the public units trade close to that NAV?
Yes. We think about that all the time. Definitely, it’s – part of it is our structure of our entity here And you know, there’s not a lot of I guess a lot of the analysts, we will give full credit for relationship with Morguard but definitely, there is room to grow and management is thinking of all the different things we can do in promoting the units and – or anything else to add, Paul.
Yes. I mean obviously the discounts large, for the most part, we’re doing what we can. We tend to focus on doing right things for the business and the assets, and as the NAV growth comes, we leave it up to the investors to buying and selling the stock to get the trades up. So like Chris said, we’re doing what we can and by and large taking care of the asset base.
Thank you. And John – are you there end?
Yes. Right. We can hear you.
John, Angela, do you want to comment on the Canadian multi-res assets?
Yes. I can say that occupancy as of today’s date is definitely trending upwards, just even in the last month in Q2, the occupancy has actually been very strong in Mississauga, we’re almost approaching 99% already. And really it’s the two properties, the student base properties that have been hindering that back to pre-pandemic occupancy, which are Square 104 and 160 Chapel. So – but even since the quarter, we’re seeing some leases come up for the next couple of months like we have 40 in each of those properties because it is a full return back to school in Ottawa and Edmonton.
So once we absorb that vacancy, I think our portfolio in Canada will be at a much back to revert to pre-pandemic levels, so in terms of just commenting on that and I’m sure people are curious and then even on the expense side, we – historically, we’re back to the expenses that we had prior to the pandemic, these last couple of years we’ve been low, just due to closures and pandemic and things like that. We’ve had to defer some of those things and that’s why we’re kind of picking that back up now, so in terms of expenses being higher since the last couple of weeks, it went back to pre-pandemic.
Paul? is there any? No more questions?
Next question is…
Sorry. Go ahead operator, please.
Thank you. The next question comes from Jimmy Shan at RBC Capital Markets. Please go ahead.
Thanks. Let me just to follow up on the GTA comment. What are you seeing on the rent side of things?
Angela, do you want to comment?
We’re seeing 15% rent growth on turnover, so 15.1%, that was for the quarter, but we’re actually – since then, we’re finding that we’re able to increase by $25 to $50 a month especially since we’ve absorbed so much of the vacancy.
Sorry. I missed that. Did you say $25 to…
$50 and $25 to $50 per month, which…
So, above and beyond the 15% that we’re at.
I see, Okay. And then, maybe just to circle back on the Chicago and maybe the thesis of swapping Florida, Atlanta for Chicago. And so, it sounds like it is about high-grading the asset quality, and guess if it is, then kind of why not high-grade within the Sunbelt markets and maybe just kind of your view on why you chose to allocate to Chicago as opposed to kind of what historically been doing quite well in the Sunbelts, maybe some thoughts around that.
And then if you could just – if you could share what the Chicago asset actually is and the cap rate that you’re able to get.
John Talano, do you want to comment on that?
Sure. Well, I would say that the southern properties that we are putting up for disposition are definitely on the older side. These are actually the two that we are disposing of now in Atlanta and in North Carolina, are ’80s vintage. So this is wood frame stuff that is older that has lot of CapEx that is coming, they also have 8-foot ceilings, popcorn, galley kitchens with old cabinet, a lot of upgrades needed to make them relevant, compared to all the new supply.
On top of that, we’ve pushed rent so aggressively that we were really topping out in those markets, right? So what we’re looking for when we are looking at Chicago, for instance, is not only just the management synergies with the team that I have up there, but the build quality in downtown Chicago, concrete assets, with 9-foot ceiling is vastly different.
At the same time, the rent hadn’t moved nearly as much in Chicago. So there is a lot more room for growth there than I believe we have in Southern market. We also have a tenant base there that is much more sophisticated and educated and incomes are much higher.
So the quality of residents is also significantly improved. On top of that, Chicago has just such an amazing business and industry base comparatively to the markets that we’re selling, well, Atlanta, actually even compared to Atlanta, but definitely compared to Florida and Louisiana. Does that help?
Yes. So if I hear correctly, It’s – you are high-grading the better demos, more diversified. I guess the question is, what about on the pricing side? Are you getting better pricing in Chicago for what you would otherwise get in Atlanta or Florida?
Yes, I would say the cap rates are higher, we’re acquiring at higher cap rate in Chicago and we’re selling absolutely at a lower cap rate in place in the southern markets.
And would that be in that kind of 4% range or higher?
The – well, the in-place cap rates of the properties were sold. I can’t remember exactly, but they were very close to 3% in place and were in the 4.5% range in Chicago.
Okay. Thank you. That makes sense.
[Operator Instructions] No further questions. You may proceed.
Well. Again, thank you everybody for joining us and we look forward to speaking to you next quarter. Thank you.
Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and we ask that you please disconnect your lines.