H&R Real Estate Investment Trust

Good morning and welcome to H&R Real Estate Investment Trust 2024 First Quarter Earnings Conference call. Before beginning the call, H&R would like to remind listeners that certain statements, which may include predictions, conclusions, forecasts, or projections in the remarks that follow may contain forward-looking information, which reflects the current expectations of management regarding future events and performance and speak only as of today's date. Forward-looking information requires management to make assumptions or rely on certain material factors and is subject to inherent risk and uncertainties, and actual results could differ materially from the statements in the forward-looking information. In discussing H&R's financial and operating performance and in responding to your questions, we may reference certain financial measures which do not have a meaning recognized or standardized under IFRS or Canadian Generally Accepted Accounting Principles and are therefore unlikely to be comparable to similar measures presented by other reporting issuers. Non-GAAP measures should not be considered as alternatives to net income or comparable metrics determined in accordance with IFRS as indicators of Asian Arts performance, liquidity, cash flows, and profitability. Asian Arts Management uses these measures to aid in assessing the REIT's underlying performance and provides this additional measure so that investors can do the same. Additional information about the material factors, assumptions, risks, and uncertainties that could cause actual results to differ materially from the statements in the forward-looking information and the material factors or assumptions that may have been applied in making such statements. Together with people's and H&R's use of non-GAAP financial measures, are described in more details in AsianR's public filings, which can be found on AsianR's website and www.cedarplus.com. I would now like to introduce Mr. Tom Hofstadter, Chief Executive Officer of AsianRV. Please go ahead.

Good morning, and thank you all for joining us today to discuss our first quarter results. With me on the call are Larry Thrum, our Chief Financial Officer, and Emily Watson, Chief Operating Officer of our Land Tower Division. This year to date, properties and properties under contract to be sold total $411.7 million. This is in addition to the $2.5 billion of property sales and $2.4 billion of assets spun out between the announcement of the plan and the end of last year. As of March 31st, 2024, the residential and industrial segments comprise 62% of our total real estate portfolio, And as at March 31st, 2024, our total office portfolio comprised 23% of total real estate assets. After the sales, of course, tell us we will be left with 18 office properties with a total value of $2.2 billion. Based on our current unit price of $9.30 compared to our NAV per unit of $21.05, it's as if the market is giving us zero value for these properties. highlighting the value inherent in our unit price. Average terms of maturity in our office leases are 6.6 years. 81.2% of our office tenants have investment grade ratings, underscoring the quality and location of our properties. And six of our office properties can be redeveloped into residential properties with a significant increase to the current square footage. We will continue to realize value through the sale of our office properties and execution of our strategic plan. And with that, I'll turn the call over to Tom for an update on our results.

Thank you, Tom. Good morning, everyone. My comments to follow, references to growth and increases in operating results are in reference to the three months ended March 31st, 2024 compared to the three months ended March 31st, 2023. H&R same property net operating income on a cash basis increased by 1.4%. Breaking the growth down between our segments, Land Tower, our residential division had a 3.2% increase and Emily will provide more details on this shortly. Industrial same property NOI on a cash basis increased by 5.1% driven by rent increases for new and renewed tenants as well as an increase in occupancy. The tenants at our two new industrial developments in Mississauga, totaling 336,000 square feet, have taken possession and their rent-free fixturing period will end in Q2 and Q3 2024 respectively. The average rent of $8.57 per square foot on our Canadian industrial portfolio is well below market rent, which bodes well for our industrial portfolio. continuing to deliver strong results. Office same property NOI on a cash basis decreased by 3.7%. This decrease was largely attributable to a decrease in occupancy at our properties slated for future development including 3777 Kingsway in Burnaby, BC which is under contract to be sold. Our office properties on strong urban centres with a weighted average lease term of approximately six and a half years and lease to strong credit worthy tenants with 81.2% of office revenue coming from tenants with investment grade ratings. Last year, H&R received a lease termination payment of $3.4 million from a tenant at one of their office properties, 6900 Moritz Drive in Mississauga. In Q1 2024, this property was transferred from investment property to properties under development. The former 105,000 square foot office property is being converted into a brand new 122,000 square foot industrial building. Construction of the new building has just begun. Lastly, retail spent property NOI on a cash basis increased by 5.7%, primarily driven by increased occupancy at River Landing. Q1 2024's FFO was 29.7 cents per unit compared to 31 cents per unit in Q1 of 2023. H&R's cash distributions of $0.15 per unit for the quarter resulted in an SFO payout ratio of 50.5% and an AFFO payout ratio of 61%. Net asset value per unit at March 31, 2024 was $21.05 per unit, an increase from $20.75 at the end of 2023. Debt to total assets at the rich proportion of share at March 31st, 2024 was 44.5% and liquidity at March 31st, 2024 was in excess of 800 million with an unencumbered property pool of approximately $4.3 billion. Our unencumbered assets to unsecured debt coverage ratio was 2.2 times at March 31st, 2024. Looking at our debt stack, we only have $243 million of mortgages due in 2024. $111 million of those are secured by properties which we have under contract to be sold and the balance will be refinanced or repaid from the proceeds from our assets held for sale. With that, I will now turn the call over to Emily.

Thank you Larry and good morning everyone. Today, I'm excited to share our first quarter performance for our multifamily platform, highlighting significant operational achievements and providing insights into our future strategies. We've seen same-store revenue growth this quarter align perfectly with our expectations. Our multifamily platform continues to benefit from strong demand as evidenced by stable resident retention and positive traffic trends. While new supply is at a 30-year high, 100,000 units were absorbed in Q1, marking a 20-year high and showcasing the economic backdrop of a continued job and wage growth. Furthermore, our diversification across both Sunbelt and Gateway cities has served us well in driving solid results. Our operational efficiency shines through our financial metrics. we achieved the same asset revenue growth in U.S. dollars increasing by 1.5% for the first quarter and same asset net operating income from our portfolio in U.S. dollars increasing by 3.2% for the three months ending on March 31, 2024, compared to the respective 2023 period. Occupancy ended the quarter at 94.4%. We continue to see positive signs of demand with Q1 resident retention at 54% and 94% occupancy in the Sun Belt and our gateway cities achieving 74% retention and 97% occupancy. Move outs to home purchase continue to trend in historical lows at 9% of total move outs and rent to income levels remain affordable at approximately 19%, excluding Jackson Park, allowing for future headroom and rental growth. We've included additional disclosures on page 8 of the MD&A, which includes occupancy and average monthly rent per unit by region. The first quarter passed without a decrease in interest rates, which continued to stagnate transaction velocity. Nonetheless, based on recent sales comparisons in the Sun Belt and a recent third-party appraisal, we are maintaining our fair market value capitalization rate at 5% for our Sun Belt portfolio. We anticipate these valuations to remain attractive for institutional quality assets in our target markets. Turning to development, our Land Tower West Flood project in Dallas achieved its first temporary certificate of occupancy on schedule with 75 units in early April. In addition to these units, we opened the leasing center and the majority of the property amenities on April 15th, and with over 30 leases to date, we are encouraged by the leasing in the first full month of lease-up. We are looking forward to entering the summer leasing season with this best-in-class development. Prospective renter feedback has been extremely favorable, with our co-working spaces and cold brew on tap ranking as the crowd favorite. At Landtower Midtown, also in Dallas, Construction has progressed well with the development now 100% framed and the first turn of units finishing cabinets, flooring, and countertops. We plan to commence lease-up at Midtown this summer. On the Real Estate Development Trust number one front, the investor interest to invest alongside LandTower's existing development pipeline was highlighted by accelerated fundraising results. We feel this construct will create value for H&R shareholders as well as our Reddit investors, while maintaining financial flexibility and taking advantage of favorable depressed Sunbelt supply pipeline in the upcoming years. Landtower Sunrise, a 330-unit development in the Orlando market, and Landtower Bayside, a 271-unit development in the Tampa market, are progressing as expected. We expect these developments to reach completion in early to mid-2026, which we believe to be an excellent time to deliver units. We look forward to providing updates on these developments in the coming quarters. In conclusion, LandTower's platform has demonstrated remarkable resilience and performance, outpacing many of our peers. While we navigate some near-term supply challenges, our focus on innovative practices and enhancing NOI margins through strategic initiatives continues to yield positive results. I want to extend my gratitude to our incredible team whose dedication to excellence and innovation has been pivotal in achieving these outcomes. And with that, I'll turn the conversation back to Tom. Thank you for your continued support and trust in our vision.

Thanks, Emily. And operator, please open the call for questions.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by one. You will hear a prompt that your hand has been raised. Should you wish to decline from the polling process, please press star followed by two. And if you're using a speakerphone, please leave the handset before pressing any keys. Our first question comes from the line of Sam Damiani from TD Collin. Please go ahead.

Thank you. Good morning, everyone. Maybe, Emily, just to start off with LandTower, what would be your updated views on the trends in the supply in your markets? When do you think they're going to taper off meaningfully? Any different views on that versus last quarter?

Hi, Sam. Thanks for the question. No, actually, that really hasn't changed. We delivered, you know, as you know, 100,000 units just in our market in 2023, and it will edge that a little bit more in 2024. So far, the demand side of the equation, I don't think it's enough fanfare, frankly, in the headlines, but with wage growth and starting to see the migrations kind of be the same levels as it has before. I think 25, it's going to drop off pretty significantly. Again, 26 is really going to set for a banner year. I think 25 will still probably be absorbing some of the overhang of 24, but I would see 26 being set up to 6%, 7% rent growth just because we'll still have a supply shortage of all the folks that are coming to the Sunbelt States.

That's helpful. And just given the success of the Reddit, would you think about maybe starting construction on more projects in the near term? And if so, would you buy us to do, you know, another Reddit deal or do it more on balance sheets?

Well, I think we're always open to opportunity. So given the strength of the appetite that we saw so quickly, you know, probably a better question for Tom. But I'd say, yes, we wouldn't pass on an opportunity to continue to develop at the attractive rate.

Yeah, Sam, when things change and things get better, that the market will let us use our capital to grow, then obviously we'll do it on our own balance sheet. But until then, we continue using the red formula going forward.

Okay, thank you. And last one for me, just on the Mezloan conversion to ownership in Brooklyn, how big was that Mezloan? And also with the remaining Mezloans, is there any sort of high level description you can give about the underlying properties?

Good morning, Sam. I believe that Mezloan on Brooklyn was about 40 million US dollars. And the rest of the MES loans, you wanted a bit of an update on what our current plans are on the rest of the MES loans?

Looking to get a sense of what types of underlying properties are behind that pool of MES loans.

It's mostly the same. It's mostly land in the U.S.

Yeah, it's a number of immaterial properties. As standard, this was converted for 1031 reasons, so we wouldn't convert otherwise. What we really do is parking our 1031, if you look at it that way. When we find a replacement, when the market wants us to find a replacement, which again, at this point in time, we're not spending cash, then we look ahead to exit and wait for something. At this stage of the game, we're just deferring our tax, so to speak, by parking the 1031.

I should just also add, there are a couple of ones that are not based on that, and those are like the one we just did for the sale of 160 Elgin. We had a B2B of $30 million on that property sold. Yeah, they're not really material.

This was the most material, and this is just deferring our tax.

Gotcha. And just lastly, on the MES loans, or I guess former MES loans, Any update on the cove on the the Jersey side?

That's the one over there, my guess is that will be converted to equity with 8020 split will have 80 to 20. But the timing on that will probably happen in 2024. Thank you.

Again, if you would like to ask the question, please press star one. Thank you. Our next question comes from the line of Jimmy Shen from RBC Capital Markets. Please go ahead.

Thanks. So maybe just a clarification on the MES loan you're referring to. This is not relating to the Brooklyn asset or the development site that you bought, or is that something different?

It's relating to the Brooklyn asset, correct?

It is. Okay. Yeah. Okay. All right. Go ahead. Any update on Echo portfolio and how you're thinking about the potential of selling your LP interest in that business?

Yeah, we're making progress. I'm more optimistic that it'll happen. I don't have a date on that, but we're getting the feeling that it is a liquid portfolio as far as the quality goes. It's safe. It's fully leased, 98% leased. 54% of it is to the Giant Eagle chain. It's desirable. The value of that is in and around a 7, 7-ish, 7, 7.5. So because it's the same product as Publix would have in Florida, and Publix would trade at a 5, and this will trade at a 7, 7.5, because it's Ohio, Pennsylvania, I think it will be desirable. The markets will be looking for this, and I think we will be able to make an exit within the next 12 months.

Okay. Is it on the market today?

No. Okay. It's being underwritten, but it's not on the market at this point in time.

Okay. Maybe just a few modeling-type questions, Larry. So the net proceeds from the TELUS Tower and the course key, how do we model the use of proceeds in order?

I think the basis would be to just model a repayment of debt.

Repayment of debt, okay. All right, and the straight line was $5 million in the quarter. I think it maybe has something to do with the Medivale assets, and I guess how do we model that one? Does it run off once the free rent goes away? What does that number look like?

Well, the free rent on Medivale after the fixed-term period will drop off, and that will be replaced by actual cash rents. So overall, on an FFO, it won't make a difference because FFO takes both rent and rent smoothing into account. So FFO will be the same. FFO will be higher because it will be rent instead of non-cash rent.

Okay. So out of that $5 million, roughly, it would be like a couple of million from those, or...?

Well, you could model it. I think the easy way to model it is just take the high team's rent on those properties within the square footage and that would probably be the NOI coming from those properties. High team rent on the square footage would be the best way.

Okay. Sorry, lastly, the Brampton industrial sale where the tenant exercised the option, do you have a lot of assets that are structured that way? Were they able to buy, I guess they were able to buy at a certain

I wouldn't say a lot of assets, but we have Chunky. We have two other assets that have that option by the tenant where we expect because of the increase in values of the building and land that the tenant will be exercising their option. That won't happen for another couple of years though.

Just a note on that. When that does happen and a tenant in those isolated circumstances does have an option We kept our fair market value, our IFRS value as a purchase option even if the IFRS market value may be higher.

Great. Understood. Okay. Thank you.

Thanks. Our next question comes from the line of Sumaya Syed from CIBC. Please go ahead.

Thanks. Good morning. Firstly, on 69 Young, so now you have the amendment to convert it to residential. Just wondering what would be maybe the construction cost per square footage for an asset like that today?

Good morning, Samaya. It's Matt Kingston. The construction cost for 69 Young is a bit higher than standard. it probably is going to be somewhere $100 to $150 a square foot higher than a traditional project, just because of the heritage nature of it and the fact that it's a retention project, so it has an inherent premium.

Okay, that's helpful. And then I guess switching to the balance sheet, that too, but that took up a little bit. I'm just wondering, Larry, where do you expect that to settle over the course of the year?

With the proceeds that we're going to be getting from CORIT that happens post-March 31st and the pilot that will be used to pay back debt, you should see that drop again. But overall, that's a short-term drop, and I think you should expect to see it stabilize at around 9.2, 9.3 times.

Okay. And also just wanted to confirm that the decline in occupancy in office that was primarily all related to Kingsway.

Primarily related to Kingsway, but not solely related to Kingsway. There were other jobs in occupancy. Some tenants did vacate some other properties. We had a 30,000. Square Foot Tenants, I believe, is one of our other properties to be redeveloped. But it was mostly, most of it came from Kingsway.

Okay, great. Thank you.

Our next question comes from the line of Phil Millsabot from Scotiabank. Please go ahead.

Hey, good morning. So we noticed that we haven't done any buybacks over the last two quarters, and following the recent announcement of the dispositions, how do you view the appeal to restart NCID versus paying down debt?

We're open to the NCID, but at this point in time, we're protecting our balance sheet, so we don't expect to be engaging in the NCID.

All right. Makes sense. Thank you. My next question is related to the the new land tower, the new disclosures on the natural portfolio. So is it possible to provide a little bit more color on the leasing spreads that you're seeing right now?

Sure. What in particular questions do you have in between renewals or?

Yeah, like the new renewals, new leasing spreads, marked markets.

Sure. You know, we're pretty stable. We had about a 60% basis points improvement over Q4, which is really seasonality. And Q2 is off to a much better start. Actually, we're seeing flat. So Q1 was down around 2% of our lease spreads, but flat for Q2. So we're getting a little bit closer into our leasing peak season and moving into kind of where we see the height of our traffic. So I expect that to really be about the same in Q2, Q3. About the same deliveries every single quarter. There's some volatility there, but it's pretty stable across the four quarters. So, you know, come back down in maybe Q4, but Q2 and Q3, I expect them to be pretty flat.

Okay, it makes sense. And thank you for this. My last question is related to the residential portfolio too, and also the whole portfolio. So we just wanted to know if it's possible to give us your expectations on SPNY goals for this year.

Larry, we haven't given any guidance, and we want to kind of stay away from giving guidance. We know some other issues have been caught giving guidance and all sorts of troubles, and we just don't want to go there. Sorry.

All right. No worries. Thanks, Larry. Appreciate it. That's it for me. I'll turn it back. Thank you.

There are no questions at this time. Mr. Tom Hofstadter, please go ahead.

Thanks, everybody, for joining us. Have a great day.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.