Edited Transcript of GOZ.AX earnings conference call or presentation 24-Feb-20 11:30pm GMT

I’ll now hand over to Michael to provide an update on our property portfolio.

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Michael Green, Growthpoint Properties Australia – CIO [3]

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Thanks, Tim. I’ll start on Slide 7 with an update of our key office markets, Sydney, Melbourne and Brisbane, which represent just below 90% of our office portfolio. As I’m sure many of you are aware, most of our office properties are located in metropolitan markets or on the fringe of CBDs. These are areas that have become increasingly attractive to tenants over the past couple of years as companies want to offer campus-style workplaces to their employees, with a broad range of amenities. This demand has been supported by governments, who have invested in infrastructure and transport mix.

The metro markets in Sydney and Melbourne continued to perform very strongly over the half. Sydney metro markets, in particular, are performing well. Vacancy rates remain low in most markets, and as a result, we’ve seen above average base and effective rent growth. In Melbourne, vacancy rates have remained stable despite increased supply, and we are seeing rent growth in some fringe markets. The office market in Brisbane continues to strengthen. Vacancy rates declined over the half, and we’re seeing property prices increase as investors are looking outside of Melbourne and Sydney compared to prior years.

Turning to the industrial market on Slide 8. Demand for well-located industrial properties continues to increase, fueled by the growth in e-commerce. Businesses are focused on being in the right location, near population centers and transport links due to their desire to achieve fast, efficient delivery. This is translating to increasing industrial land values in core East Coast markets. Appetite to acquire Australian office and industrial property remains very strong, and yields across both sectors have turned over the half.

Turning to Slide 9, our property portfolio highlights. It has been another strong half for property valuations, with the value of the property portfolio up 5%. The growth in valuations was driven primarily through assets where we’ve added value, either through leasing or development. Fundamentals of the business remain strong. We’ve maintained a high occupancy rate at 98% and a weighted average rent review of 3.3%. The biggest positive is the increase in the weighted average lease expiry from 5 years to 6.4 years, and this has been driven through our leasing success.

We agreed 27 new leases or renewals, representing 15% of total portfolio income for 111,000 square meters during the half, as you can see on Slide 10. We are particularly pleased to see an increase in tenant retention, 95% for the half. We actively engage with our tenants throughout their lease to understand their needs, and where possible, we come up with solutions that work for both sides when leases are up for renewal. A great example of this is the New South Wales Police Force, which I’ll turn to in a moment. Since the end of the half, we’ve had an additional 25,000 square meters of leasing success. As a result, we only have 2% of lease expiries remaining in financial year ’20.

Turning to Slide 11, which provides an overview of the new lease agreements with New South Wales Police. We acquired the New South Wales Police headquarters 2014 for $241 million. We had spent the preceding 12 months studying the Parramatta office market, and we had identified several themes that we believe will underpin its long-term value. We were encouraged by the multiple government-supported infrastructure project that were mooted and underway and strong population growth in Western Sydney. We could see that the decentralization strategy of the New South Wales state government was leading to several large corporate tenants also wanting to establish a strong presence at Parramatta market, which is what we believe was the final step in establishing Parramatta as Sydney’s second CBD. We also recognized that the building itself was a critical part of the Police’s infrastructure.

Since acquiring the property, we’ve had monthly meetings with the Police’s representatives. And via these regular catchups, we were made aware that the Police wanted to make some changes to their fit out to meet their future operational needs. As a result, we agreed to renegotiate their lease last year, which wasn’t due to expire until 2024. We’ve been able to drive a mutually beneficial solution where Growthpoint locked in a 25-year lease, moving at near-term expiry for the group and securing a significant long-term growing income stream, and the Police are able to begin modifying their accommodation. The new lease agreement has driven a large increase to the property’s value. It’s now valued at $421 million — $420 million, 19% higher than its 2019 book value at June, and 74% higher than its purchase price.

Turning to Slide 12. Across our portfolio, we are looking for opportunities to operate in a more efficient way to reduce our environmental footprint. During the half, we invested in several initiatives, including installing solar panels at 75 Dorcas Street in South Melbourne. By installing these panels, we would expect to reduce greenhouse gas emissions by the same amount as would be achieved if we planted 560 trees per annum. I’m particularly pleased that 100 Skyring Terrace was awarded a 6-star NABERS rating, the highest level possible. There are only 31 properties across Australia which have achieved this rating, and we now have 2 in our portfolio.

We made good progress on our development projects during the half. As you can see on Slide 13, we have one development project to be completed each year over the next 3 years. We expect that these projects will deliver attractive returns above what we could achieve if we would acquire similar properties in the market. Gepps Cross, our redevelopment of the Woolworths distribution center, is on track to finish at the beginning FY ’21. Upon completion, the lease will be reset for 15 years, and project costs will be rentalized at 6.75%.

We’ve just reached practical completion at Botanicca 3, approximately 2 months ahead of schedule and below budget, as highlighted on Slide 14. Botanicca 3 is an A-grade office building in Richmond, 3 kilometers east to Melbourne CBD and next door to the David Jones and Country Road headquarters. By redeveloping this site, we’ve made a development profit of $36 million. And when fully leased, the value of the property will increase to $200 million. Leasing has been a tad slow. During the half, we have noticed that many businesses have been reluctant to leave their existing premises, which has been beneficial for the majority of our portfolio and contributed to our high occupancy rate, but it has made it a little more challenging at Botanicca 3. The building is looking fantastic, and we’ve seen an increase in inquiries in 2020. We now anticipate that the building will be leased progressively over the next 12 to 18 months.

We’ve made good progress on our site in Broadmeadows. This is a 250,000 square meter site, which was previously occupied by Woolworths. On Slide 15 you can see the draft of the master plan, and subject to the necessary approvals, we will progressively construct 5 individual warehouses with a total lettable area of 120,000 square meters. It is anticipated that the majority of the buildings will be constructed with flexibility in mind to enable them to be split into smaller warehouses where demand dictates. Our plan is to build and lease these warehouses progressively so that the site begins generating income in financial year ’22. We have lodged a town planning application permit for the first phase of the development, 13,000 square meter warehouse on the vacant lots in the southeastern corner of the site. Subject to approvals, we would anticipate commencing construction of this warehouse by the end of the calendar year.

I’ll now hand over to Dion to take you through the financials.

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Dion Andrews, Growthpoint Properties Australia – CFO [4]

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Thanks, Michael. Turning to Slide 17 and an overview of our results. As you can see, we’ve had another strong half. Our net property income increased by 9.2% driven by an increased contribution from recently acquired assets, including a logistics warehouse in Melbourne’s West and 100 Skyring Terrace in Newstead, Queensland, along with the annual rent increase. These positive contributions more than offset lost income from assets we sold last year. Net finance expenses have decreased due to lower borrowings and a reduced cost of debt, which I’ll provide more detail on over the next couple of slides.

Income tax expenses were higher this half as Botanicca 3 approached completion. Growthpoint is the development manager for this project and earning profits in the company as a result. As practical completion has now been achieved on this project, tax expense will reduce substantially in the second half of FY ’20, and we would not expect to have significant tax expense in FY ’21. FFO increased by 11.8% due to the increase in net property income and a reduction in finance costs. There was a smaller increase in FFO per security due to a higher number of securities on issue.

As you may remember, we successfully completed an oversubscribed equity raising of $173 million in July. With gearing now below the bottom of our target range, we’re looking for further opportunities to deploy that capital, which will be accretive to FFO. Our distribution for the half is $0.118, up 3.5% on the prior corresponding period. This comprises of a distribution of $0.108 per unit and a fully franked dividend of $0.01 per share. The fully franked dividend represents the profits from Growthpoint being the development manager for Botanicca 3.

Turning now to Slide 18. As of 31 December, our gearing was 31.4%, 291 basis points below 30 June, and 360 basis points below the bottom of our target range. The reduction in gearing was driven primarily by the equity raising and strong valuations. We can deploy approximately $231 million of our uncommitted debt headroom at a cost of around 1.6% per annum and still remain below the bottom of our target range, which would provide upside to our FY ’20 guidance.

Turning to Slide 19. We successfully refinanced 3 facilities during the half, totaling $250 million of debt or just under 15% of our debt book. These refinancings led to lower interest rates and extended tenants, and we now have no near-term expiry. As a result of these extensions, we’ve been able to bring down our average weighted interest rate to 3.7%. We’ll continue to work on reducing the cost of debt further in the second half as debt capital markets continue to provide compelling prices.

I’ll now hand back to Tim to provide an update on our outlook.

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [5]

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Thank you, Michael and Dion. And turning to the outlook on Slide 21. We are very aware of the economic environment in which we operate. It’s no secret that the Australian economy is being characterized by a period of slower growth, and consumer and business confidence are below historical averages. However, long-term bond rates and interest rates are low, which is a positive for A-rate valuations and the cost of debt going forward. Against this backdrop, the group has continued to deliver good results through its investment in our $4.2 billion property portfolio, and we are confident that this will continue. The fundamentals of our business are strong. We only have exposure to the office and industrial markets, attractive growing sectors of the property market. We have a high occupancy rate, a long weighted average lease expiry, good quality government and corporate tenants, and a high proportion of fixed annual rent reviews. Together, these trait allow us to accurately forecast cash flows.

Our balance sheet and capital structure is in a healthy position. This enables us to invest in the existing property portfolio and fund future acquisitions to deliver growth. Over the medium term, we are focusing underlying FFO and distribution growth. Earnings growth will be supported by our development projects, which we expect to progressively complete over the next few years as well as acquisitions. And finally, we are in the early stages of exploring new income streams that would complement our existing business and utilize our management’s expertise. These may include co-ownership models and funds management. We also have more appetite for buying assets where we see some development upside, replicating the success we’ve had at Botanicca 3. Just to reiterate, we are undertaking a preliminary review of different options and no decisions have been made.

As I mentioned earlier, we reaffirm the group’s financial year ’20 distribution guidance of $0.238 per security, which represents a DPS yield of around 5.5% on last night’s close. All in all, the business is in a strong position, and I am confident that we will continue to create long-term sustainable value for our securityholders.

We will now open up the call for questions. Thank you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We’ll take our first question today from the line of Darren Leung from Macquarie.

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Darren Leung, Macquarie Research – Analyst [2]

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Just a quick one. In terms of the update on Botanicca, how confident are you in terms of their leasing outcomes in the 7.5% to 8.5% yield? Any risk that you don’t achieve the lower end of this?

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Michael Green, Growthpoint Properties Australia – CIO [3]

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Darren, Michael here. No, we’re confident in that. We’ve recently restated that our target rentals are definitely within the band that we expect to hit. So we remain confident in those figures.

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Operator [4]

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We’ll take our next question from the line of Ben Brayshaw from JPMorgan.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [5]

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Just a couple of questions on Broadmeadows and perhaps this first one is for Dion. Would you be able to just confirm, please, whether there will be a termination payment booked in the second half of FY ’20 and approximately what that number will likely be?

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Dion Andrews, Growthpoint Properties Australia – CFO [6]

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Yes, Ben. There certainly will be a termination payment. In fact, we’ve already received it. It’s a surrender fee of 1 year’s rent equivalent to $7 million.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [7]

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Okay. And on the redevelopment or the planned scheme that you touched on, 120,000 square meters of gross lettable area comprised of multiple warehouses, are you able to give some feedback on your expectations around incremental yield on cost? So in other words, given the current book value, plus the anticipated CapEx, where do you anticipate that the asset will be in so far as the yield on book value plus forecast expenditure?

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [8]

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Thanks, Ben. It’s Tim here. Yes, we’re in preliminary stages, so we haven’t got all the costings in or the approvals and so forth. So we haven’t determined that. And as soon as we have that updated information, have Board approval and have planning approval, we’ll be able to update the market.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [9]

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Okay. So would you be looking to capitalize interest on Broadmeadows throughout the construction period?

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Dion Andrews, Growthpoint Properties Australia – CFO [10]

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Ben, Dion here. Yes. Once the tendered development, we will start to capitalize the interest on that development.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [11]

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And that would just be on — sorry, just to confirm that, that would just be on the incremental CapEx? Is that correct?

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Dion Andrews, Growthpoint Properties Australia – CFO [12]

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Yes. We’ll determine the correct accounting. But yes, it should just be on the incremental spend when into development.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [13]

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And finally, Tim, you mentioned in the call that you’d be looking to, I suppose, explore new revenue streams. You called out funds management. Where do you see opportunities in that space, perhaps going forward, please?

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [14]

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Yes. Once again, it’s early. I mean we look at our business as a whole, and we have a very strong office portfolio, industrial portfolio. We have a mandate to invest in retail. We still think retail investment will be a good strategy at this point. And we’re just casting NOI further to what income streams may be, and so we’re investigating funds management. And that sort of strategy is yet to be determined, but we’ll possibly look at some of our existing assets, co-ownership models and so forth.

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Benjamin J. Brayshaw, JP Morgan Chase & Co, Research Division – Analyst [15]

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Would you consider acquisition of a funds management platform? Or would your, I suppose, preference be to build that organically?

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [16]

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As I said, we’re just forming our views at this stage. So I couldn’t comment on either strategy that you mentioned.

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Operator [17]

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(Operator Instructions) We’ll take our next question from the line of Stuart McLean from Macquarie.

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Stuart McLean, Macquarie Research – Research Analyst [18]

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It’s Stuart here. Darren’s line is just having some issues. Just 2 further questions here. Firstly, just on guidance, you acquired an asset in September at Truganina. Just curious as to why that didn’t impact guidance for FY ’20.

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Dion Andrews, Growthpoint Properties Australia – CFO [19]

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Yes, sure, I can take that one. Listen, our guidance is still set at at least $0.254 with a smaller asset. And as you recall, when we raised our equity of $173 million, we were anticipating a $50 million acquisition. That asset actually fell out of — after we’d agreed due diligence and agreed the price, that transaction didn’t proceed, yet we did manage to buy a $40 million asset. So that explains no change to the guidance.

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Stuart McLean, Macquarie Research – Research Analyst [20]

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Okay. So it largely offset each other?

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Dion Andrews, Growthpoint Properties Australia – CFO [21]

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Correct.

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Stuart McLean, Macquarie Research – Research Analyst [22]

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And then just in the media, there are reports of an office complex out at Macquarie Park that Growthpoint was potentially interested in there. Can you just talk about if that is still live? And then secondly, just on the timing of deployment of proceeds from here.

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [23]

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It’s Tim here. I haven’t seen that. I think also…

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Dion Andrews, Growthpoint Properties Australia – CFO [24]

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We’re thinking that it relates to The Glasshouse.

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [25]

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The Glasshouse. I think I think…

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Dion Andrews, Growthpoint Properties Australia – CFO [26]

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Charter Hall bought it.

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [27]

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I think there was an asset sale in Macquarie Park that Charter Hall purchased some time ago. So I think that property has been purchased. So I think that sort of satisfies that. As far as deploying some of our capital, we — yes, we are looking at opportunities continually. And we would — if there was a right opportunity, we would deploy that capital immediately. So yes.

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Stuart McLean, Macquarie Research – Research Analyst [28]

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Is there anything that’s currently on market that you’re looking at, at this stage? Or do you think we’ll need to continue to be patient there?

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Michael Green, Growthpoint Properties Australia – CIO [29]

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There’s limited stock on the market at the moment. So we’re looking at a few options off market. But the market is the market, and we’ll just be patient.

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Operator [30]

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We have a further question from the line of Darren Leung from Macquarie. We’ll move on. (Operator Instructions)

And we have another question queued from the line of Edward Day from Moelis Australia.

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Edward Day, Moelis Australia Securities Pty Ltd, Research Division – Research Analyst [31]

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Just a little bit more on Botanicca. Just wondering if you can give some insight into the sort of the types of inquiry you’ve had. And just given current challenges, whether you see that abating in the near term.

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Michael Green, Growthpoint Properties Australia – CIO [32]

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Sure. I mean we’ve had inquiry from a variety of different sources, I suppose. We’ve had from the health care groups, the aged care groups, we’ve had some IT groups looking at it, got some engineers looking at it, governments, retailers. So almost the whole spectrum. We, unfortunately, had a couple of transactions that we expected, leases that we expected to sort of go through at the back end of last year that just fell over the last hurdle and ended up re-signing their current premises. So we’ve got a number of other tenants that we’re dealing with at the moment. And we, as I mentioned on the call, we expect it to be leased up in the next 12 to 18 months.

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Edward Day, Moelis Australia Securities Pty Ltd, Research Division – Research Analyst [33]

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Sure. And then just on your like-for-like NPI growth for industrial, that was a bit less than 1%. Is there anything in particular that dragged there? And where would you expect that, I guess, over the next 12 months?

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [34]

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Yes, it was a little lower, really down to some vacancy that we had, a certain business stream on one of our properties during the half and one of our assets out at the Melbourne Airport resetting its rent-up for 15 years of rent growth.

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Edward Day, Moelis Australia Securities Pty Ltd, Research Division – Research Analyst [35]

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And going forward to the next 12 months?

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [36]

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We don’t provide like-for-like guidance. But if we can fill those vacancies and now that reversion has gone through, hopefully, we can improve from that below 1% level.

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Operator [37]

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(Operator Instructions) It appears there are no further questions at this time. I would now like to hand the conference back to today’s presenters. Please continue.

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Timothy James Collyer, Growthpoint Properties Australia – MD & Director [38]

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I’d just like to wrap up by saying thank you, and we will be in contact with you all over the coming days as we complete our results marketing. So thank you very much for attending the conference this morning. Thank you.

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Operator [39]

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Thanks. Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may all now disconnect.