Slate Office REIT (OTC:SLTTF) Q2 2022 Earnings Conference Call August 4, 2022 9:00 AM ET
CompanyParticipants
Steve Hodgson – CEO
Charles Peach – CFO
Lindsay Stiles – COO
Paul Wolanski – SVP, National Sales and IR
Conference Call Participants
Sairam Srinivas – Cormark Securities
Scott Fromson – CIBC
Jenny Ma – BMO Capital Markets
Jas Cumberbatch – TD Securities
George Huang – Raymond James
Anthony Bogdan – National Bank Financial
Operator
Good morning, ladies and gentlemen, and welcome to the Slate Office REIT Second Quarter 2022 Financial Results Conference Call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. [Operator Instructions]. This call is being recorded on Thursday August 4, 2022.
I would now like to turn the conference over to Paul Wolanski, Senior Vice President, National Sales and Investor Relations. Please go ahead.
Paul Wolanski
Thank you, operator, and good morning, everyone. Welcome to the Q2 2022 conference call for Slate Office REIT. I am joined this morning by Steve Hodgson, Chief Executive Officer; Lindsay Stiles, Chief Operating Officer; and Charles Peach, Chief Financial Officer.
Before getting started, I would like to remind participants that our discussion today may contain forward-looking statements, and therefore, we ask you to review the disclaimers regarding forward-looking statements, as well as non-IFRS measures, both of which can be found in management’s discussion and analysis. You can visit Slate Office REIT’s website to access all of the REIT’s financial disclosure, including our Q2 2022 investor update, which is available now.
I will now hand over the call to Steve Hodgson for opening remarks.
Steve Hodgson
Thank you, Paul, and good morning, everyone. Recent global macroeconomic pressures have challenged the performance of public equity markets, with real estate securities being no exception. Across the board, REIT trading prices have significantly diverged from their underlying real estate values. However, even against this backdrop, Slate Office REIT’s operational performance continues to trend positively. Our core operations remain stable, and we’ve seen positive leasing momentum and AFFO growth. Our conviction in the office sector remains strong. We know that physical workspaces enable collaboration, culture, and innovation. The tenants we are focused on recognize this as well.
This quarter, we completed approximately 240,000 square feet of leasing at a rental rate spread of 25.2%. This positive rental rate spread demonstrates that well-operated, well-located, and high-quality real estate, remains in demand, and tenants who recognize the value of the office, are willing to pay for it. We are well positioned to capitalize on mispriced investment opportunities arising from this market, and we will continue to position the portfolio to provide stable income and value creation to our unitholders.
I will now hand it over to Charles for some additional highlights.
Charles Peach
Thank you, Steve. In the second quarter of 2022, the REIT paid a distribution yield of 8.6%, and over the first six months of the year, has provided an AFFO payout ratio of 78.9%. Loan-to-value was reduced to 59%, while FFO, Core-FFO, and AFFO per unit, all increased from the first quarter. The REIT had a full three months of income from the 23-asset Irish portfolio that was acquired in the first quarter this year. The acquisition was enhanced by the completion and letting of the life sciences development facility in Athlone, an extension of the Irish portfolio’s financing facility to five years. There are further investment opportunities being evaluated for addition to this portfolio.
I will now hand over for questions.
Question-and-Answer Session
Operator
[Operator Instructions] First question comes from Sairam Srinivas from Cormark Securities. Please go ahead.
Sairam Srinivas
Thank you, operator. Good morning, guys, and Lindsay. Congratulations on a good quarter. These are some fascinating numbers, and just looking through that, and just from a modeling point of view, when can we expect this to actually reflect on earnings?
Steve Hodgson
Pardon me. Affect the earnings, is that what you said, Sai?
Sairam Srinivas
Yes.
Steve Hodgson
Yes. So, I think in 2023, we’ll start to see some of that traction. A lot of the leasing that we do at this stage in the year, it’s in advance of when the rent starts commencing, because there’s fixturing periods and stuff for the balance of the year. In addition, as we disclosed, SNC-Lavalin vacating 195 The West Mall, sort of offsets some of the gains that we’ve made. When you look at the quarter actually, although we declined slightly in occupancy, if you remove the one-time event of SNC-Lavalin vacating, we’re actually ahead in occupancy everywhere else in the portfolio. So, we’ve been quite pleased with the gains that we’ve made in Atlantic Canada, and the strength of the oil and gas sector there driving demand in Newfoundland, and hopefully, soon to be New Brunswick as well.
Sairam Srinivas
Thanks for the color, Steve. And actually, that’s a great segue to my next question, and that’s basically the occupancy up in the GTA. I know you guys mentioned the SNC during the last quarter’s call, but were there any other tenants that dropped out as well? I think there’s some volatility being found in the east as well.
Steve Hodgson
Yes. so, nothing of note over the last quarter, Sai. I’ll just remind you that there’s an airline industry Air Transat at 191 The West Mall, that we had collected a termination fee from about – I want to say six months ago, and they still have some term, but we’re actively trying to lease that space as well.
Sairam Srinivas
That makes sense. Thanks, Steve. And finally, my last question is on the financing plan. Can you give some color on the refinancing activity for the upcoming maturities?
Charles Peach
Yes. Thanks for that. We keep a close eye on the upcoming maturities. And one of the keys that we look for is we look to ensure that we have a spread that’s appropriate over time and over lenders of what we face in front of us. So, Sai, think about this year, we’ve already had a refinancing of 11% of the portfolio, which was the extension of the Irish facility, which was done over the past quarter. For the remainder of this year, we have 13%, I believe, of our debt to refinance. We are – though that’s on two separate facilities, it gives us the opportunity to take one of those facilities, which is on a floating rate, and potentially convert that to a fixed rate, which helps us from an interest rate risk perspective too. As we are in discussions with lenders on both of those, I won’t go into any further commercial details on those.
For 2023, we have maturities as well within the portfolio. Of those maturities, on the mortgage side, we have five, which are spread throughout the year from April to December. And at the same time, they’re spread between a number of lenders. I mentioned beforehand, we look to have a spread of maturities in lenders as well. So, we have three separate lenders on those. I think we have – the revolver is due for maturity next year as well, and we obviously keep a close eye on where we stand with that and with the syndicate that provides that at the same time too. So, we’re in negotiations on our two debt facilities that are due to mature this year at the moment, and we are well aware of maturities that we have coming up next year. I would say, throughout this, our aim is to ensure we have an appropriate mix of lenders, and at the same time, timings of maturities going forward.
Sairam Srinivas
Thanks for that color, Charles. And just, I mean, I know I said the last question, but I think there’s another thing that just popped into my head, and that’s basically the ECB raising rates just this morning as well. Are you guys seeing activity or any impact of that on the transaction activity in Ireland?
Charles Peach
Not from where we have seen, no. the – I mean, ECB has raised rates from what is a pretty low level to a slightly higher level at the moment. There is an expectation of future raising of rates. We’re not susceptible to the Bank of England changing their rates, which they did about 50 basis points earlier today, as we don’t currently borrow in Sterling. The Euro facility we have at the moment is a three-month floater of Euribor. That, historically has been negative since 2015. And that recently went slightly positive as well. So, that’s one of the exposures that we might look to hedge.
Sairam Srinivas
Awesome. Thanks for that, Charles, and thanks, Steve. I’ll turn it back.
Operator
Thank you. The next question comes from Scott Fromson of CIBC. Please go ahead.
Scott Fromson
Thanks. Good morning, folks. Most of my questions were answered in Sai’s suite of questions, but just wondered, can you provide a little bit more color on the leasing spreads, particularly on the new leases?
Steve Hodgson
Yes, for sure. I think the extension of the building in Athlone, Ireland, with the life science tenant, was a big driver of the increase in rental spreads on new leasing. And so, if you remove the impact of that, we’re still overall, from a leasing spreads perspective, in the high single digits. So, that did have a pretty big impact, but at the same time, it’ll have an immediate impact to our earnings as well, and we’re quite pleased that it’s a long-term lease with a life science tenant.
Scott Fromson
Thanks, Steve. And just as a follow-up question or a different question, I guess, on capital recycling, do you have any planned dispositions to augment your capital position?
Steve Hodgson
Yes. so, as we messaged at the time of the Ireland acquisition, we have been working on about $100 million of dispositions in Canada. We’ve made great progress on that, and I expect that to occur in the third quarter.
Scott Fromson
Great. Thanks, Steve. I’ll turn it over.
Operator
Thank you. The next question comes from Jenny Ma of BMO Capital Markets. Please go ahead.
Jenny Ma
Thanks, and good morning. Steve, you mentioned the potential dispositions in Canada for Q3. I’m wondering, from your vantage point, you had talked about some opportunities to acquire assets at pretty good values, but how do you think about those opportunities, where they might be, and whether or not buying back stock is in the mix in terms of capital allocation?
Steve Hodgson
Absolutely. I mean, that’s a question we discuss with our Board quite often. I think from an – my overall statement, maybe I’ll step back for a second first is, on the acquisition front, we don’t expect – in the markets in which we operate, we don’t expect a lot of transaction volume for the balance of the year, just given, I think groups are still in price discovery mode, and there’s some volatility. Where we see some opportunities is just some smaller bolt-on acquisitions that are complementary to our existing portfolio, whether that be an asset that might be in one of the business parks that we hold assets in in Ireland, or something in the life science sort of space elsewhere. So, that’s kind of what we’re focused on, and it would be a recycling of capital. And I think what we’re working through with our board is the pros and cons of those kind of small, strategic acquisitions versus buying back our own stock, which we agree is cheap right now. We don’t view that as a strategy. We view that as a tactic, but I think our ultimate strategy is growth because it has many benefits in terms of diversification and getting to a lower cost of capital. But we do see the value when the stock’s trading at such a discount.
Jenny Ma
Great. I just want to turn back to the debt stack. What kind of indicative rates are you seeing for some of the near-term mortgage maturities? And could you comment on what the loan-to-values would be for the 2022 and 2023 maturities on the mortgages?
Charles Peach
Thanks, Jenny. I think what we’ve been looking to do we’d be looking to keep the loan-to-value broadly similar on those particular loans to where it stands at the moment. Depending – they are different assets, but I think one of the keys to remember is that the assets that we are looking to refinance over the next couple of years, are assets which are backed by the solid cash flows from the solid tenants who have continued to support those throughout the pandemic, and so on as well. So, they are supportive. At to the absolute rate, I’d rather not answer that question, given we are in negotiations on some of our facilities at the moment. I think post-that, I’ll be happy to talk more on number.
Steve Hodgson
Yes. maybe just a bit of color on the two assets that are – the two mortgages that are refinancing this year, one is in Chicago, our building that’s anchored on a long-term lease with CIBC. The other is anchored by a 10-year lease with the federal government in Toronto. So, we feel confident. We’ve demonstrated throughout the pandemic where we’ve done a considerable amount of refinancing, that the banks are very supportive of us as a sponsor, not only as SOT, but also as Slate Asset Management. So, we do, quite frankly, expect that there’ll be some rate impacts given the current environment and the benchmark rates moving, but we think we’ll be on a relatively good stand.
Jenny Ma
Okay. So, would you say the LTVs would be similar to that 60% level where the portfolio leverage metric is?
Steve Hodgson
Correct.
Jenny Ma
Great. And how are you thinking about the floating rate debt exposure? Because I think at this point, and this is a broad comment for everyone, not just for Slate Office, but perhaps fixing it today is not necessarily worthwhile. So, with the kind of floating exposure you have, is it just something you’re going to, I guess, navigate through until we maybe get to a more favorable environment? Or is it something you’re still considering taking down, just given the interest rate uncertainty going forward?
Charles Peach
I think we always have to consider whether we would take it down really at any point. It’s whether we actually execute on that. If I look at our floating rate compared – our unhedged floating rates at the moment, it’s split broadly 50/50 between exposure to Canadian floating rates and to Euro floating rates. If I look at the exposure that we have from Canadian floating rates, it’s essentially up across a number of different assets. So, part of that might be driven by what our plan is for those particular assets from a refinancing perspective for what work we might have to do there.
I think on the European side of things, considering we have a single facility there, which we’ve recently extended out to five years, and that’s backed by a solid group of income-producing assets, I think if we were to look to hedge out some of our interest rate risk, that would be the more favorable direction for us to go. It’s something we look at frequently from a pricing perspective and also to see how it fits in with the REIT strategy as well. For example, however, though, if you were to take the European facility and were to hedge that in its entirety, that would change it from being, I believe, 79.9% fixed or hedged-to-fix, to 90%.
Jenny Ma
Okay, great. Last question for me. It says in your MD&A that the parking revenue was up about $200,000 year-over-year, which is nice to see. But I’m wondering how parking revenue is tracking below full potential, meaning, if we get back to let’s say pre-pandemic levels, how much room there might be on the parking revenue front.
Steve Hodgson
Good question, Jenny. We don’t know the answer off the top of our heads. We’d have to get back to you on a subsequent call.
Jenny Ma
Sure. I’d appreciate that, and that’s all for me. Thank you.
Operator
Thank you. [Operator instructions]. The next question comes from Jas Cumberbatch of TD. Please go ahead.
Jas Cumberbatch
Hi. Good morning. Just on for Jonathan Kelcher. Most of my questions have been answered, but I just have a couple here. Just firstly, the asset that you have for sale in Toronto, I don’t know if you have any color on the timing and the cap rate for the asset that you have for sale?
Steve Hodgson
Yes. Like – as we said in the last quarter call, it’s just shy of $100 million of assets, kind of in the mid-six cap rate range. When we’re buying in Ireland at north of a seven of assets that are longer term leases, with better credit, with less capital required in the buildings, and overall less sort of tenant risk, that’s the kind of trade we’re making.
Jas Cumberbatch
Okay. And then, I’m sorry if I maybe missed this. Got cut off earlier, but where do you expect occupancy to be by the end of the year?
Steve Hodgson
I would say pretty flat at this point. Any new leasing that we do would not probably materialize until the following year.
Jas Cumberbatch
Okay. And then lastly, I know you said transactions in the market are obviously very limited right now, but of the transactions that you’ve seen, have you seen any movement in cap rates, or what’s the general sentiment out there?
Steve Hodgson
Yes, that’s the thing, there’s just not a lot of data points. We made the decision to keep our IFRS values essentially where they were last quarter. In conjunction with our audit team and our Board, we felt that was prudent. We just haven’t seen data points. As I mentioned, I think it’s an interesting market now. Everyone’s sort of waiting to see what happens in terms of things trading. Of course, we always have the view that IFRS value should be a willing-seller, willing-buyer. So, we’re not going to focus on distressed situations, but we just haven’t seen a lot of willing-seller, willing-buyer situations to point to.
Jas Cumberbatch
Okay. Thanks. That’s it for me. I’ll turn it back.
Operator
Thank you. The next question comes from George Huang of Raymond James. Please go ahead.
George Huang
Good morning, team, and thank you for taking the question. I want to dig in a bit on what exactly drove the lease termination income in the Chicago portfolio. Any color there you could provide would be very helpful.
Steve Hodgson
Yes. That was a tenant that elected to terminate their space in which we had notice, and we’ve already got an adjacent tenant that is looking to take that space over. So, we collect the termination income in advance. So, it’s when they give notice, which is typically six to 12 months out, and then we have time to lease the space to someone else. In this case, it was a change in ownership for that tenant. They decided to consolidate, and it just so happened the adjacent tenant wanted to take over that space. So, it’s kind of a good situation.
George Huang
Thanks for that. And my follow-up would be a question on net effective rent growth and your expectations for the rest of the year. What’s your expectation in terms of being able to capture the 7% gap between your current in-place rents and the market rents?
Steve Hodgson
Yes. So, that’s the – that gap is for the entire portfolio over the next 12 months. I believe the expiries are about 6% below market. So, that would be our expectation. I think we have opportunities to overachieve that in certain areas. For those of the analysts that attended our property tours in Ireland, you would have seen where we got space back on rollover of tenants, and were able to reposition those suites into a higher category of energy ratings. This is actually a market where there’s a direct quantifiable benefit to ESG initiatives, because there’s an energy rating in which if you can get to a higher level, it directly garners a higher rent. And so, we’re doing that in two instances in our gateway assets in Ireland on the East Wall, as well as our City West Business Park buildings. That’s where we’ll outperform that number by a considerable amount in certain case.
George Huang
Thanks for that. And just one final question for me. You kind of touched on Atlantic Canada, and the recovery the economy is seeing there. Is there any more granularity you can provide on occupancy recovery from the current about 75% level, absent any planned dispositions?
Steve Hodgson
Yes. Like, so the leasing that we did in the quarter, we did 38,000 square feet of new leasing in Atlantic Canada. The bulk of that was in Newfoundland, and one fairly large deal in Saint John, New Brunswick. So, that’s nice to see because those have, quite frankly, been somewhat stagnant with the way the oil and gas sector was performing. But there’s projects kicking off, offshore drilling projects. Obviously, the commodity price is helpful to support those projects. It’s a clean way of driving energy. It’s priced off a different index. Things are really picking up there, and it doesn’t take – it’s not like we have hundreds of thousands of square feet. We can do make – we can do small deals every quarter and make quite a bit of ground. So, I’m optimistic that by the end of next year, we’ll be kind of getting above 80% in that Newfoundland portfolio, and start to see the recovery in rents as well as a result.
George Huang
Fantastic. That’s all for me today. I’ll turn it back.
Operator
Thank you. The next question comes from Anthony Bogdan of National Bank.
Anthony Bogdan
Hey, guys. To get back to the leasing spreads in Ireland, are you expecting future leasing deals to continue to yield higher spreads, or will they be closer to the rest of the portfolio?
Steve Hodgson
Well, I think what we were saying was that the expiries that we have over the next 12 months, we’ve calculated to be about 6% below market, but that’s on a current state basis. And what I was saying is that there are opportunities – for those that were on the tour in Ireland, would have directly seen some of these opportunities where we’re repositioning buildings or units to a higher standard of energy rating and as a result, of a – and a higher quality. And as we know, tenants are looking for quality right now and willing to pay for it. So, that’s where we can outperform that rental growth projection in Ireland.
Anthony Bogdan
Got you. Thanks. And just one more question for me. Have you seen any change in office utilization or foot traffic in Q2?
Lindsay Stiles
Yes. So, I would say, specific to the GTA, we saw tenants like TD and CIBC formally implement their back to the office strategy. So, that certainly increased occupancy just generally. For our portfolio specifically, ex summer vacations, certainly occupancy – or utilization more specifically, was up, consistent to the increases we’ve seen in prior quarters, so Q1 versus Q2. But as I think we’ve messaged previously, we expect a more significant increase in September. A lot of companies are holding off on their official back to the office launch until September when kids are back in school.
Anthony Bogdan
Great. Thanks.
Operator
Thank you. There are no further questions at this time. Please continue.
Paul Wolanski
Thank you, everyone, for joining the Q2 2022 conference call for Slate Office REIT. Have a great day.
Operator
Thank you. Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation, and ask that you please disconnect your lines.
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