Cls Holdings Usa Inc

Good morning to everyone and welcome to CLS Holdings PLC Half Year Results 2024 presentation and Q&A. I'm Fredrik Vidlund, Chief Executive, and next to me is our CFO, Andrew Kirkman. Today we will present the results of the first six months of the year and give you an update on the portfolio and how we are delivering on what we set out to do at the beginning of the year. But first, let me start with an overview of the period. We had strong leasing momentum in the first six months of the year and excluding the large SN lease in June 2023, we did 23% more leases by value and with new leases signed at 5.9% above ERVs. Our net rental income was up 5.9% as a result of higher income from indexation, stronger performance from our hotel and student operation, and the net retention of part of the deposit from the previously failed sale of Westminster Tower. Excluding Westminster Tower, net rental income was up 3.1%. Our underlying vacancy was down to 10.8%, while the total vacancy increased to 13.2% from completed developments. We are on track with our sales programme and sold properties for £61 million in H1, with a further £160 million planned for H2. We also successfully completed on six refinancings or extensions for £137 million in H1, leaving four financings for £49 million left to do in 2024. Valuations were down 4.1% in local currency from further yield expansion. Whilst it's hard to definitely say that this is the bottom, we are certainly getting closer. And our performance is better than the general office market for our three countries. I'll come back with more on this later. APRA EPS was down 7.7% from increasing financing costs, offsetting the healthy growth in net rents. We are, however, expecting financing costs to have peaked, and the proposed interim dividend is maintained at 2.6 pence per share. On the next slide, I would like to give more details on our leasing activities. The leasing activities started to pick up in the second half of 2023, and this has continued in 2024. On the left-hand side, you can see that we signed 58 leases at 5.9% ahead of ERV. Compared to the same period last year, that is up 23% by value, but more importantly, at higher average lease sizes as occupiers are increasingly prepared to enter into larger and longer leases. Like-for-like contracted rent grew 1.9% in the period, while the headline ERV in the portfolio was down 1.5%. This requires a bit more explanation. ERVs in Germany grew 0.5% and France was essentially flat. In the UK, like-for-like ERVs were down 3.3%, but up 1.5%, excluding New Printing and Square, where we took the decision earlier this year to delay the redevelopment. In conclusion, adjusted group ERVs grew 0.8% in the first six months of 2024, which is the same run rate as full year 2023. Our underlying vacancy fell 0.2% to 10.8%, but when adding the recently completed developments, our reported vacancy increased to 13.2%, as can be seen on the right-hand side of the slide. This was due to the completion of the fourth to sixth floors at Prescott Street in London and the three floors at Fronte Park in Lyon. On slide six, we have highlighted more details around the largest leases we signed in a period. One interesting fact to note is that of the nine largest new deals, six are with IT companies who require the highest quality offices and fit out, which we are providing. It's also worth noting that the IT segment is now our second largest segment of the government in terms of tenant industry. I'm also very pleased to highlight, as we announced this morning, that we have signed our first lease at Artesian, Prescott Street, and we are delighted to welcome Médecins Sans Frontieres UK as our first tenant, having signed a 10-year lease. There are several other discussions ongoing for Artesian, so watch this space. On page seven, I would like to go through the valuations in more detail. Overall, valuations continued to reduce and fell 4.1% in local currency in the first six months. The main driver was, unsurprisingly, yield expansion. In the UK, valuations were down 4.4% since year-end, and equivalent yields were up 28-29 basis points. As we highlighted a year in 2023, it is worth noting that Spring Gardens, which has a shortening lease with NCA, is valued as an office investment and not just yet as a development opportunity, contributed 1.5% to the UK decline. So the rest of the UK was down 2.9%. We did have valuation uplift for some of our properties, so this is not a consistent picture. In Germany, valuations were down 3.6% from equivalent yields increasing 14 basis points. The reductions were evenly spread across most cities and properties, and so was the ERV growth of 0.5%. In France, valuations were down 5% from yields moving out 12 basis points, while ERVs were marginally down at 0.1%. Our Paris property is reduced in value by 4%, while Lyon was down 6.7%. So, where does this leave us? The rate of decline is slowing, and we have seen some properties starting to increase in value. Interest rate cuts have materialized, with both the ECB and Bank of England lowering rates. Investment activity is still low, but there was more activity in H1, and particularly in Q2. The net initial yield on the portfolio has risen from 4.5% in June 2022 to 5.7% now. This expansion means that we are again close to our target of 200 basis points above our current financing costs. So while it's always hard to predict the future, it appears that the valuations are starting to bottoming out. On the next slide, I would like to give an update on our sales program. We are making good progress on our sales program to reduce debt and closed on three sales in H1 and one sale in early August for a total of 61 million pounds. In the UK, we completed the sale of Westminster Tower to London Square Developments for 40.8 million. In addition, we completed the sale of Aquius II in Birmingham for 3 million. And as a result, the UK portfolio is now based entirely in London and the southeast of England. In France, we completed a disposal of Quator in Paris for €11.3 million. In Germany, we completed a sale of Hansa Strass in Dortmund for €9 million in early August. In aggregate, the four properties had a net initial yield of 3.3% and sold for a total of €61 million, which was in line with 2023 book values. We are targeting a further 160 million of sales in the second half, including our spring new student property, which has generated significant interest in the market. This is less than the 270 million we talked about in our full year 2023 presentation, as whilst we're having several ongoing discussions, we expect that some will slip into 2025, as we are a disciplined seller, not a forced seller. I will now hand you over to Andrew for more details on the financials and our occupiers.

Thank you, Frederick, and good morning both to those in the room and to everyone dialling in. This morning I'm going to run you through our first half financial results, our successful refinancing activity that we have so far executed in 2024, and the progress that we made with completing the remaining 2024 refinancings, as well as the status discussions for 2025 refinancings. And finally, our occupiers on our indexing leases. On this slide is a picture of our recently refurbished office at Park Avenue in Lyon, which is an exemplar of the increased quality of our portfolio. I was lucky enough to be there in last month and it looks absolutely fantastic. Slide 10 sets out several key financial metrics for the business, which I'll run through in more detail over the following slides. In summary, CLS continues to deliver good underlying performance against a challenging but improving market. This market has led to a reduction in valuations, a strengthening of sterling against the Euro, and an expected increase in finance costs. As a result, EPRA NTA was down 10.1%, EPRA EPS was down 7.7%, with the proposed interim dividend maintained at 2.6 pence per share. Overall, these resulted in a total accounting return of minus 8%. The balance sheet remained strong with over 80% of debt fixed or capped, an interest cost of 3.81%. And now for some more detail around these numbers and the drivers behind them. Turning to the next slide, I've set out some more detail on our positive rental income performance, which was outweighed by higher financing costs, resulting in lower EPRA earnings. As rate cuts come through alongside increased occupancy, this should lead to higher earnings. As Frederick has already touched on, the occupational market remains healthy, which helps CLS to drive a 5.9% increase in net rental income. The principal movements, which are highlighted in the graph on the left, are as follows. Firstly, of the increases, a positive benefit from leases and renewals signed ahead of expiries. A £1 million increase from the more than 50% of our leases, which are index linked. A £0.7 million increase from our fully occupied student accommodation on our hotel, which is seeing record average daily room rates. And there was a £2.6 million increase from dilapidations and the net deposit received from the failed sale of Westminster Tower. These were partly offset by the negative impact of disposals made and the strengthening of sterling over the Euro in the period. On the right-hand side, this £3.3 million increase in net rental income translates into a 0.8 pence per share increase in earnings, as well as a positive benefit from other, including a lower tax charge and lower FX movements. However, this was more than offset by higher finance income, with our interest costs increasing by 58 basis points compared to last year, and slightly higher expenses from inflation increases and higher vacancy from recent refurbishments. The waterfall chart in slide 12 sets out the main components of the movement in net tangible assets, with NTA decreasing by 10.1% or 25.6 pence per share. Going through the components of the movement from opening to closing the NTN order, we have EPRA earnings of 4.8 pence, which I've just walked through. The final 2023 dividend paid in April of 5.3 pence per share. The valuation decrease of 4.1 pence, 4.1% or 20.7 pence, with decrease in all countries, albeit these were lower than the market. Sterling strengthened by 2.3% against the Euro in the period, resulting in a 3.1 pence decrease. This is a decrease in the value of our properties in Germany and France, partly offset by the natural hedge of the associated Euro debt. And lastly, other of 1.2 pence is made up of small movements on several items. Slide 13 sets out the movement in CLS's liquid resources during the first half of 2024. Overall, our cash position remains at the same strong level with nearly 70 million of cash and 50 million pounds of undrawn facilities. Cash was basically unchanged in the first half with the proceeds from sale used to make some loan repayments. The most significant repayment being the 20 million pound Westminster Tower loan from the receipt of the first half of the Westminster Tower proceeds in June with the remaining 20 million pounds to be received in September. As previously highlighted, following two years of much higher levels of investment to improve the quality of the portfolio, capital expenditures dropped to our more usual level with fuller expenditure of 25 to 30 million pounds expected. Lastly, cash from operations remained strong and was used to cover the payment of dividends, interest, tax and other costs. Interest cover at two times remained comfortable. Financing is a key part of CLS's business model and is a positive differentiator compared to peers. Therefore, I've included two slides in this presentation. The first slide, slide 14, summarizes CLS's financing strategy and some of our key metrics. The key points can be grouped into three categories. In terms of strategy, CLS uses secured non-recourse SBV financing with many different lenders and maintains over £100 million of cash under all facilities. There are no group loan-to-value or interest cover covenants. LTV increased to 50.3% from valuation declines, despite net debt being down by £40 million in the first half. LTV will reduce below 50% when the remaining £20.4 million Westminster Tower proceeds are received in September, and we are forecasting to achieve 45% LTV at year-end from further sales, with more reduction targeted in future. And finally, our cost of debt increased to 3.81%, but is expected to remain stable or slightly reduced by year-end. Going forwards, our cost of debt is forecast to decline as we benefit from lower rates on our floating rate debt and recently refinanced short-term extensions. As an example, the cost of debt maturing in 2025 is 5.17%. Slide 17 summarises our refinancings completed in the first half and our focus for the rest of the year. The chart in the left-hand corner shows the position at the start of the year and the current position. In summary, we've completed over 70% of refinancings for the year, which started at nearly £200 million and is now down to below £50 million. Discussions are well advanced for the remaining four loans across three banks for £49 million, and we are confident they will be executed before expiry. The other focus for 2024 is to advance conversations for the debt expiring in 2025. We now have £377 million expiring across 12 loans across all of our three countries, which are £22 million each on average, excluding amortisation. Even though most of the expires are not until the fourth quarter of 2025, we've already started discussions on 80% of the loans and we will look at a variety of maturities to re-profile our loans more evenly going forwards. My penultimate slide, slide 16, is a familiar slide which illustrates our high quality and diversified tenant base across our three markets. The three points to highlight are, firstly, our properties remain strongly multi-let, with 735 tenants equating to an average of nearly nine tenants per building. Secondly, while there are no changes in the names of the top 15 tenants, there is a slight reordering following Honda taking out a longer lease, but for slightly less space. However, the more significant change is the 20% increase in IT tenants, which are now our second largest tenant category. IT companies are attracted by the higher quality of our offices and our offer of plug and play and flexible fully fitted space. And finally, our proportion of government tenants and major companies has increased by 4% to now account for two thirds of our tenant base, which is reflected in our continued rent collection of 99%. My final slide summarises the resilience of our income, with over 50% of rent being index linked. As noted, this indexation was one of the key drivers of the increase in net rental income. The amount of indexation and how it works does vary by country. Most UK leases are not index linked, but benefit from upward only rent reviews. However, Spring Gardens had a 3.3% rent increase mid-year 2024 due to the rent being linked to RPIX. In Germany, 57% of our leases are CPI linked, which rose by 3.9%. In addition, a further 17% of our German leases have contractual stepped increases. And lastly, in France, all leases are index linked. In the first half, we saw an inflation increase of 3.2%, and we expect a further increase in the second half. And with that, I'll hand back to Frederick.

Thank you, Andrew. And on the following slides, I would like to present some of the projects we are working on, including our plans for spring gardens with Citadel Place, which is the name we intend to use for the development. First, though, I'm happy to share, present more details around two projects in Germany and one in France. So starting with Bismarckstrasse in Berlin, This is a property located close to Tiergarten in central Berlin that we have owned since 2006. It had been let on longer leases, with one of the tenants having the right to extend on current terms. This has finally ended and we can now refurbish the building and re-let at current ERVs, which will be a significant uplift. We're planning to start the 14 million euro renovation in September, and leasing discussions are ongoing. Unlevered profit is targeted to be above 20% on cost. At the BRICS in Essen, we have signed a 30-year lease with the city of Essen. As part of the agreement, we're investing 20 million euro to substantially improve the building, including its energy efficiency and sustainability credentials. The works will start imminently and complete in three stages during 2025. Unleveled profit as well is targeted to be above 20% on cost. And finally, at Debussy in Paris, we're converting an old office building into service departments, which will be operated by Edgar Sweets on a 12-year lease. Structured as a base rent and a variable tied to turnover. Unleveled profit on the 12 million euro cost is above 15% on base rent, but much higher if forecast variable rent is achieved. For all three of these refurbishment, we will seek development finance and discussions with banks are advanced with one term sheet already signed. And now on to Citadel Place at Spring Gardens. So first starting with some background. This is the largest property in our portfolio. It's a two and a half acre site in Zone 1 in London and the property is let to the NCA until February 2026. This site represents an exciting opportunity to regenerate the area by developing a mixed-use scheme that would primarily include residential and student accommodation. This is opposite our previously mixed-use development at Spring Muse in Vauxhall. We're working closely with Lambeth Council on delivering the planning application, and the first public consultation was held in July this year. Our target is to submit the planning application in early 2025. This is a large development with gross development value between 300 to 400 million pound. And our intention is to partner with the residential developer once planning has progressed further. As with previous CLS developments, we are targeting 15 to 20% profit on cost. Now next, turning to this next slide, I will provide an update on our sustainability program and the progress we are making. So on slide 21, our work to deliver on our net zero carbon pathway is continuing and we have completed a further 13 projects this year with many more in progress. We expect to have spent about 17 million pounds by the end of 2024 as part of our overall net zero carbon plan to invest 65 million between 2021 and 2030. This is paying off. In the first six months, we had a decrease in like-for-like energy consumption of 4.3%, which is above our target of 3% annual reduction. We're also working on the UK EPC ratings to ensure that we are fully compliant with expected regulatory requirements in 2030, and over half our UK buildings are already EPCB or higher. There's more information in the appendix. Let's now move to the summary and outlook section from page 23. So starting with the UK on the left side of the slide, the political backdrop in the UK has significantly stabilized, which is seen as positive, and it is pretty clear that the recovery is further ahead than Europe with higher economic growth and activity. We're seeing good leasing demand, but there are large differences between demand for good and bad stock, and overall market vacancy has increased slightly. In Germany, lettings to government and Mittelstand companies, which is a particular strength for CLS, are continuing to perform well, while the larger German companies are cautious as economic recovery is fragile, which impacts sentiment. Rental growth is evident across the board and is likely to continue due to limited new construction. Market vacancy for its top seven cities is 6.1% and has also been trending up recently. In France, the political situation has not improved despite the positive Olympic effect on activity, although we continue to see good demand for small to medium-sized floorplates, which bodes well for our French portfolio. Office supply impacts will increase in the next 18 months, but we are also seeing more conversions of office buildings to residential, and one example being our own Debussy project. Market vacancy in Paris is similar to London at 9%, while Lyon is now at 5.7%, with restrictive policies for new developments. Moving on to slide 24. So our main operating focus continues to be on reducing vacancy, especially in the UK, and letting our recent refurbishment and developments. We have signed leases at both Artesian at Prescott Street and Decode in Vauxhall. We have several promising discussions ongoing. With over 50% of our portfolio being index linked, this also drives uplift in the current environment. The walk on the slide starts with our contracted rent of 111.7 million pounds. The 16.2 million represents the value of current space which is being marketed. The 4.7 million of over-rented space that we now have is an effect of recent indexations, which has driven rent above ERV, although a large part is spring garden, which is less relevant as it is a redevelopment opportunity. Also, as previously described, we have been writing leases above ERVs, and so we expect ERVs to start to catch up. But overall, this means that we have an opportunity to drive rents to 123.2 million. In addition, we have a further 8.2 million of ERV in current refurbishments that takes the potential to 131.4 million. So in summary, capturing the upside from leasing activity represents a huge opportunity for us that will drive near-term upside. And over time, we have some great projects that will be delivering beyond 2026. So on slide 25, the final slide, I would like to leave you with a few key takeaways. So we are maintaining strong leasing momentum and driving occupancy, and that's a key objective for us. We saw good growth in the first half of 2024, and both Artesian and Decode did their first lettings recently. We have a disciplined approach to property sales to reduce LTV and expect to close over 160 million in the second half of the year. We are progressing refinancing in line with improved interest rate outlook and only have 49 million left to refinance in 2024. We are investing in our net zero carbon pathway with good momentum and outcome so far. And there are considerable opportunities in the portfolio. We have started to progress, among other things, Citadel Place at Spring Gardens. So with that, I would like to finish today's presentation. Thank you all for listening. We will now open up for questions.

Hi morning, Tim Leckie from Pameo Librem. Thanks for the presentation. I think there's some analysts on holiday, so I'll ask three to start off if that's okay, just to get it going. Just on the artesian letting, I noticed in the release there wasn't a rate. Could you perhaps talk about the other flaws then and what the current asking price per square foot is or where you see the market rent at the remaining space there? And then perhaps any comments you could provide on the tone of interest, viewings, et cetera. More anecdotal from Marcus, strength of demand, is it picking up into year end? And then maybe for the second question, just on the Citadel Place, GDV, 300, 400 million. You mentioned bringing in a resi partner. There's some mixed use. perhaps, I know it's early days, but talk options or routes to realize value, how you're thinking about it at this stage. Is it one for retention or sale? Can you part sale? Does the mixed use make it difficult? Just perhaps some more clarity on the strategy around realizing value there. And the third one would be just any color on the disposals and are you seeing a pickup in investment volumes and what are your agents saying around that?

Right. Do you want to start with the disposals and I'll take the other two? All right, that's fine.

And Tim, thank you for three questions. Yes, it's good to know that at least you're asking questions if everyone else is on holiday.

Yeah, that's all right.

So disposals are going well. I mean, clearly we've sold more in the first half this year than we sold last year, and we're getting book value. We are still trying to sell 270, but as we said, we think we might only complete 220 this year. And why is that? I mean, Frederick touched on, you know, we're a disciplined seller. We're not a forced seller. So we are going to wait until we get the right prices. Clearly, the biggest sale that we've got for the rest of the year, I mean, it's no secret, it's going to be over 100 million, is for Spring New Student. And we're pretty confident about that. It is an excellent building and there is a lot of interest for it.

Thank you, Andrew. I'm talking about Artesian. Obviously, first of all, thrilled to have done our first lease in the property. The rental level, as you would expect, varies between ground to the top floors, but on average for the building, it's 59 pounds a square foot. The good thing is that the area has changed dramatically. There's been very little new supply down there. So we're seeing a lot more interest now. In hindsight, you could say we probably were six months too early in terms of delivering it. But yeah, as I said, we're very happy with what we're seeing at the moment. And we are expecting to achieve ERVs, as I said, on average 59 pounds a square foot. In terms of Citadel Place or Spring Gardens, It's a great opportunity, and at this stage we obviously want to keep all our options open. The first priority is to secure a planning permission. But as we said in the presentation, it is very likely, given the size of it, that we will team up with someone to deliver this. But I guess the option for us would be you could either exit the site completely or you could sell part of it or you could do some sort of joint venture where you would stay in there. And I must say the last option is quite attractive because it would also diversify our portfolio a bit into other commercial properties. But it's a little bit early to make a final decision on that. Absolutely. I think that's the key message. And as we get closer to February 26, we will be updating more. So I think you could expect more when we publish our full year results for this year on where we are on this.

Any other questions? Just in terms of the earnings dipping this year, that was quite visible from the, sorry, excuse me. That was quite visible from the full year with the communication around the increased finance rate. Just fall in, sorry. Gravity is playing tricks. So I think the earnings for the first half, you do have the sequential decline, but from the messaging, the forward path looks quite positive. The costs and even admin, is it fair to say admin costs have probably peaked with?

We've got some inflation in there, so whether they've peaked, we're definitely keeping a lid on them. I mean, the point you're picking up is the important one. We think we can drive rental and then on the vice versa, financing costs do look to have peaked. Clearly, as Frederick touched on, rate cuts from the Bank of England and the ECB. So that's very positive. We've got some higher cost debt rolling off in the next year or two. So again, that's positive from our perspective. So yes, we would like to therefore hope and think that we can see a positive on both those lines.

I guess on that, roughly one-third of the debt book is 2025 maturities. At 5.17, you said in the presentation, I know it's subject to change. We're in volatile capital markets. So without holding you to anything, if you had to refinance that today, where would you see that rate?

So without holding me, but you'd just like a number, would you?

Yeah, just as an indication of where the cost line is. Lower than that. Lower than that. Is that all right? I guess so. I've probably pushed my luck enough. Thanks very much.

We have two questions on the webcast. The first is from James Carswell, Peel Hunt, who asks, beyond the 45% LTV target for year end, where do you see LTV settling over the longer term?

So we have a stated LTV target range of 35% to 45%. As you would have seen, LTV has crept up over the last two years. But LTV has crept up simply because of valuation declines. So actually net debt has reduced. So on the vice versa, clearly if we start to get valuation increases, net debt will reduce without us having to do anything. We are clearly taking positive actions at the moment to de-gear. and therefore the sales that we just touched on with Tim will bring us down, we think, to 45% at the year end. That would bring us back into range. I think for us, if valuations are then starting to stabilise, we will look at it and just see whether actually we need to take further actions or not on that basis.

Final question from Miranda Coburn at Berenberg. What do you think a realistic near-term vacancy target is? Do you see any of the 13.2% vacancy as being structural? It feels as if we are at or close to the bottom of the market in the UK, but do you think that we're at the bottom of both the German and French investment markets?

I mean, to start with, if we just add the recent letting in Prescott Street, that would take 0.5% off roughly of that number. So it is quite sensitive to some of the bigger lettings that we have either done or that we're about to do. And I do agree with, it does feel like we are at the bottom and things are starting to improve, certainly in the UK. So I would expect vacancy to start going down quite significantly in the near term in our UK portfolio. And in terms of Germany and France, our portfolio in France is quite specific, that it's small floor plates, which is still very much in demand. It will probably stay around 5-6%, which is what we've had done historically. It's now a little bit higher, but I would expect that to also start to stabilize, especially as we let up the recent developments in the Lyon market, which is very strong. Germany. Probably a similar story there. It's going to be a bit volatile because we do have some bigger expiries towards the end of this year in our German portfolio. But on the other hand, we also have quite a lot of momentum in terms of replacing that. So my answer would be that I would expect that to probably stay roughly where it is at the moment. And as I said again, the UK feels ahead of Germany and France in terms of recovery.

Just two questions on conversion opportunities. First, is there a targeted profit on cost or RR that you hope to achieve on any conversion opportunities? And the second is, are there any potential conversion opportunities that you aren't proceeding with because of capital constraints?

Well, I mean, profit on cost. We are targeting between 15% and 20% profit on cost. And that's what we've done in the past. Perhaps when times are great, you might get 20%. When they're a little bit good, you might get 15%. But that is the range we are targeting. And for the ones that we presented today, they are in that range. Most of them are actually at the slightly higher end of the 15% to 20%. Other opportunities that we could do... think if you look at something like like spring gardens you clearly have a range of various options and pending or how much equity you have available you might take different decisions on that one but so far we've had certainly enough equity to do whatever we want to pursue

The only thing I'd add to that is there are other potential conversion opportunities in the portfolio, but they're not there yet. So we are looking at planning for other PDRs. And as and when those come forward, then yes, we'll take the choices to do we pursue them or do we partner or do we sell them to other people? But yeah, we always look for what can we do to maximise the value of the portfolio.

With the rejuvenations of the hotel and the student housing industries, especially in the UK right now, will we see a pivot towards relying on those industries specifically to offset the decline of local currencies and to help increase the EPRA vacancy rates?

I mean, we are a specialist in commercial properties and our portfolio is primarily offices. I think that will always be the case. But I see no reason why we would not expand and diversify a bit more. And the hotel that we've owned and the student housing and some of the residential conversions we have done have all been very successful. So I would be very open to do more of that going forward. But as I said before, we will still be an office specialist, which is our heritage and what we've done for the last 30 years. Right. There are no more questions here. Can I again just thank everyone for listening? I know it is holiday times, et cetera, but thank you so much for that. And that concludes today's presentation and Q&A. Thank you.