Q3 2022 RioCan Real Estate Investment Trust Earnings Call
Thank you and good morning, everyone I am Jennifer <unk> Senior Vice President General Counsel and corporate Secretary of Rio can before we begin I would like to draw your attention to the presentation materials that we will refer to in today's call, which were posted together with the MD&A and financials on <unk> Web site yesterday evening before turning the call over.
I'm required to read the following cautionary statement in talking about our financial and operating performance and in responding to your questions. We may make forward looking statements, including statements concerning <unk> objectives, its strategies to achieve those objectives as well as statements with respect to management's beliefs plans estimates intentions.
And similar statements concerning anticipated future events results circumstances performance or expectations that are not historical fact these statements are based on our current estimates and assumptions and are subject to risks and uncertainties that could cause our actual results to differ materially from the conclusions in these forward looking statements and discussing our financial and.
<unk> performance and in responding to your questions. We will also be referencing certain financial measures that are not generally accepted accounting principle measures GAAP under ifr at <unk>.
These measures do not have any standardized definition prescribed by IRS 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 earnings or comparable metrics determined in accordance with IRS as indicators of Rio <unk> performance liquidity cash flows and profitability Rio.
Management uses these measures to aid in assessing the trusts underlying core performance and provides these additional measures. So that investors may do the same additional information on the material risks that could impact our actual results and the estimates and assumptions we applied in making these forward looking statements together with details on our use of non-GAAP financial measures can be found in the financial state.
<unk> for the period ended September 32022, and management's discussion and analysis related there too as applicable together with Rio <unk>. Most recent annual information form that are all available on our website at www Dot SEDAR Dot Com I will now turn the call over to our President and CEO John <unk>.
Thanks, So much gentlemen, and thank you to everyone for taking the time to join US today and as usual I'm here today with my great colleagues on the senior management team.
Together with the entire 600 person real Cam team, we delivered strong results through the third quarter.
Breath of our quarter reflects our acute focus on the pillars that support our five year plan.
Retail customer centrism intelligent diversification and responsible growth.
Results validate that our portfolio and team continue to thrive with power of this combination and the strength of our balance sheet, our competitive advantages that will provide the resiliency to perform through all economic cycles.
The <unk> team is mindful that we're operating in an environment of volatility and we continue to seek to mitigate risks.
To address this in a moment, but first let me get to our results.
Operationally this was another successful quarter for reoccur.
Our major market necessity based port portfolio demonstrated its quality and its growth potential.
Occupancy is 97, 3% bolstered by our retail occupancy which ended the quarter at 97, 8%.
<unk> per unit of <unk> 44.
Leasing results, which I would say are the purest indicator of the overall health of our commercial portfolio. While they are strong we completed $1 4 million square feet of new and renewal leases, providing an opportunity to mark rents to market. This opportunity has resulted in new and blended leasing spreads of 15, 9% and <unk>.
Seven 9% respectively.
Rent per square foot is $20, maybe sense, representing seven consecutive quarters of increases.
Same property NOI grew by five 1% and we've also continued to fortify our balance sheet, our liquidity stands at $1 6 billion and our $9 billion unencumbered pool of assets provides additional financial capacity and flexibility both of which are critical in uncertain times like these.
We're proud to deliver results in line with and in certain respects superior to pre pandemic metrics. This is because simply stated our portfolio is better now than it's ever been before.
The quality of our income continues to be enhanced through the prudent disposition of lower growth assets.
We are either firm or closed approximately $400 million in dispositions so far this year.
In doing this we improve the profile of our portfolio and at the same time raise capital that's going to be used for accretive NCI be investments or to pay down debt.
The quality of our revenue was further enhanced through our development program, which is establish a cadence of consistent income generation since.
Since 2020, we delivered a combined total of one 4 million square feet of predominantly residential developments in Canada's most covenant markets.
With projects nearing completion this numbers on track to increase to $2 5 million square feet by the end of next year.
This represents over 2500 homes and communities the critically need the suppliers.
In 2022, the trust expects the value of development deliveries, including properties under development and residential inventory to be between 700 $750 million the largest annual volume since inception of our development program.
Year to date the value of development deliveries was $415 million.
It's important to note that fixed costs for our 2023 development projects are already contracted which provides a level of installation from inflation or inflationary pressures and I'm going to speak more about this in a moment, but.
But first I want to acknowledge the advancements we've made with our ESG program. Our ESG initiatives are a significant component of our commitment to responsible growth and enhancement of long term value our standing as an ESG leader in the commercial real estate sector continues to improve Rio.
<unk> is proud to lead the way in integrating ESG best practices in everything we do we continue to progress and it's an honor to be recognized for our ESG achievements.
We've been awarded sector leader status in the 2022 real.
Real estate assessment, and we also received an a rating and top ranking amongst our Canadian peers for public disclosure.
Our operational developments and ESG efforts over the years yield results now and will continue to bolster <unk> success.
Let's take a minute now to explore the current backdrop.
As I've mentioned the environment has numerous headwinds year to date the Canadian economy has shown modest growth. However, there is now little doubt of a pending slowdown due to interest rate hikes and elevated inflation.
While a recessionary environment elevates the risk of tenant failure Rio cans defensive portfolio provides installation with more than 86% of our net rent generated from strong and stable tenants.
These businesses have stable rent paying ability strong covenants and reliable foot traffic. They provide the day to day essentials consumers require in any economic climate.
Of course, there's going to be tenants are experienced distress in this environment. However, the scarcity of quality retail space in areas that are strong demographic profile further protects our operational health.
Let's dive into the supply dynamic now is this dynamic supports both operational growth and NAV stability.
Rio cans assets are located in Canada's major markets in densely populated areas with high average household incomes.
Tenants performed well in these areas due to a high volume of daily foot traffic and also the facilitation of last kilometer delivery the.
The population in these neighborhoods is steadily increasing which further drives demand. So there is little doubt that demand is increasing however from a retail perspective. These areas are also supply constraint and here's why.
Replacement cost for well located retail are well in excess of market values. The implied value of our income producing properties of our current unit price is about $335 per square foot, but cost of constructing new retail in the GTA. For example is in the range of the mid $600 per square foot.
These numbers illuminate two reality, one there's a clear gap between valuations and replacement cost and two it is virtually impossible to buy land and construct new retail without a substantial increase in market rents.
Very little high quality retail has been built in the past decade, and it's only feasible to build new retail on land that is already owned or as part of our high density mixed use development simply put with replacement costs, where they are we're quite certain that very little if any supply of new open air retail centers will be added to the already limit.
Inventory.
This means the quality retail space the kind the REO Ken offers is and will continue to be in short supply.
There's no better indicator of the supply demand constraints the <unk> lease.
<unk> Rio cans leasing results, which I've just highlighted.
This point is further accentuated by our 91% retention rate, which indicates tennant's positive view of the space and level of service that we have Rio can provide.
Retailers are keenly aware that our consumers are creatures of habit.
Our tenants are reluctant to change locations and disrupt established shopping patterns.
Over the cost to move to a new space. If it is in fact available has increased dramatically. These.
These conditions resulted in what we like to call sticky tenants that don't wish to leave Rio can shop incentives, which of course is a favorable favorable condition for the trust.
I can't promise that every tenant will breathe through these headwinds. However, most of ours are constructed to withstand stormy weather.
Now I'm going to address concerns about rising interest rates we're.
We're acutely aware that a prolonged high interest rate environment will negatively impact our <unk> <unk>.
We're adapting to the circumstances pivoting to utilize our large unencumbered asset pool and refinancing with secured mortgages for the lowest cost of debt currently available.
As we previously shared will benefit from our $500 million hedge of the underlying GLC bonds, which significantly drive down the cost of financing and Dennis is going to address. This further now we're not going to have the benefit of those hedges on new financings in 2023, which of course will impact our <unk> results.
<unk> impact will be weighted more towards the end of the year in the second half each.
Even if rates continue to increase the overall impact will be partially offset by numerous positive SFO drivers, including gains from the scheduled sale of condo units, increasing NOI from development deliveries and organic growth from our existing income producing portfolio.
Rising interest rates do pose a potential risk to our valuation.
We're operating in a distorted market that is short of transactions. However, our valuations are supported by third party appraisals and substantiated with available, albeit fluid market data points.
It's important to note the impact of interest rates on capitalization rates is not the only factor that dictates property values. There are numerous factors supporting <unk> net asset value, including solid fundamentals and the favorable supply demand dynamics as I mentioned earlier.
Canada is relative stability of the strength of its growing major markets and the protective attributes of hard assets in general will further enhance the value and demand for assets like ours.
These factors are further complemented by the delivery of our highly valued mixed use developments.
Now understandably, we're asked with increasing frequency about the impacts of record inflation on our development growth engine.
Now as I mentioned, our five year development targets have a level of downside protection with fixed pricing in place for projects that are already underway.
<unk> also has a competitive advantage in our ability to be highly agile when it comes to new project starts.
Our future development sites are typically active retail sites that generate high quality income.
So can we will adjust the timing of new projects. According to the market environment. If the economics of unfavorable we can afford to postpone breaking ground on new projects and still benefit from the in place income.
We've responsibly slowed the commencement of new development starts and will continue to exercise a high degree of discretion as we always do a high degree of scrutiny and judgment and assessing whether cost and revenue conditions are suitable before proceeding with new development.
Now I'm not downplaying the obvious volatility in the macro level environment, but we face these conditions confident that.
We have strategically and responsibly manage every aspect of our business over which we have control our efforts over the years have set Rio cannot for success and our focus remains on the long term.
We remain confident in our growth trajectory and the ongoing demand for our scarce and high quality real estate.
The objectives in our five year plan, we're established with purpose and the conviction that in concert with Rio Ken's. Many differentiating attributes they are achievable in almost any environment.
Underpinned by our strategic pillars, we will continue to leverage opportunities and manage risk to mitigate the impacts of macro conditions and at the same time, we're going to grow responsibly and sustainably. We will continue to support this growth by investing in talent and structuring our team to maximize alignment with our objectives with that delight.
Ill turn the call to Dennis Who's going to take you through our balance sheet and provide insight into how it continues to support the quality of the support our quality and growth Dennis over to you.
Thank you Jonathan and good morning to everyone.
From an operating and financial results perspective, our business continues to perform well against the backdrop of macroeconomic volatility.
We believe that the current macro volatility will pass as it always does while the supply and demand trends that Jonathan mentioned will endure and provide long term tailwind for our business.
Because we take a long term view on our business, we have not changed our strategy that we announced at our Investor day earlier this year.
We may make some tactical adjustments in this environment, we continue to execute on our strategy with a view to creating long term value for unitholders.
When rolling out our strategy, we focused on the key themes of quality and growth.
The quality of <unk> portfolio today based on any objective measure is better than it has ever been.
The portfolio has evolved over the last number of years through a combination of asset sales and development deliveries to date, 93% of the portfolio is in Canada as major markets with the vast majority of assets being opened are necessity based centers or urban transit oriented mixed use properties.
This portfolio is set up to thrive in any environment.
<unk> current period growth and future growth prospects are also better than they have ever been this is attributed to the portfolio quality and providing higher same property NOI growth as well as our near term development deliveries are projects under construction continue to advance with development deliveries between 700 $750 million. This year at a similar amount next year.
We expect the associated <unk> to ramp up through 'twenty, three and 'twenty four.
While we always take a disciplined approach to green lighting construction starts we are being more measured in the current environment at the same time, our team continues to proactively advance our $16 7 million square feet of zone density to shovel ready status. So that we will be positioned to drive growth and value creation for many years to come.
I must highlight that our development program is fully funded our conservative <unk> payout ratio of 57% for the quarter is well within our target range of 55% to 65% and allows us to retain capital to fund growth. In addition, we expect to receive over $800 million in proceeds from currently under construction.
Condo projects over the next four years.
With these cash flows combined with project level construction financing, we have no requirement to sell assets or issue equity to fund our development program.
As Jonathan mentioned our results for the quarter are very strong.
We are reaffirming our <unk> unit per unit guidance of $1 68 to $1 71 per unit and expect to finish the year towards the higher end of that range.
Our guidance is supported by strong same property NOI growth of 5% year to date or 3% adjusted for the impact of the provision and other items as well as one 2% growth from development deliveries.
The contribution from development deliveries is noteworthy as it highlights the near term nature of our pipeline.
And as part of our five year targets are expected to provide 2% to 4% of our NOI growth in future years.
With respect our development spending guidance of $425 million to $475 million, we expect to be at the low end of that range due to timing of expenditures that will be shifted slightly into early 2023.
Regarding our five year plan, which includes the years, where in 2022 to 2026, we continue to standby the metrics that we laid out at our Investor day, given the strength of our business fundamentals at the same time, we acknowledge that there is greater risk to those metrics metrics over the next year or two given the higher interest rate environment and warnings of an impending recession we.
We'll provide formal 2023 guidance next quarter with our Q4 results.
Our net income for the quarter was $3 2 million compared to $137 6 million in the prior year quarter. This decrease was mainly due to a fair value loss of investment properties of $118 8 million driven by a higher weighted average cap rate, partially offset by higher NOI, which brings us evaluations.
While transactional evidence is sparse we continue to take a conservative approach to our balance sheet values year to date, we have reversed fair value gains that we took in 2021 with cap rate increases focused on the lower end of the quality spectrum of our portfolio at this point, our cumulative write downs of over $500 million are in line with where we were at the depth.
So the pandemic.
Weighted average cap rate at the end of the quarter was 537% expanded four basis points and eight basis points versus the last quarter and year end 2021, respectively.
The impact of higher cap rate assumption, sometimes intermodal was partially offset by the sale of higher cap rate assets as part of our strategy to continuous continuously improve portfolio quality.
One way to highlight the impact of this improved portfolio is to look back at our portfolio in Q3 of 2018 at that time, our weighted average cap rate was 551, while our percentage of major market assets was only 84% of our annual annualized rep today, our major market assets stand at 93% and we have completed nine residential rental bill.
Throughout the development program.
When we compare this to our weighted average cap rate today of 537% and would appear on the surface that we have simply tightened cap rate assumptions. However.
Our cap rate reduction over these years was the result of portfolio enhancement through combination of asset dispositions and development deliveries holding our 2018 portfolio constant or cap rate today, it would be 575% 38 basis points higher than our reported cap rate.
We continue to see real time transactional evidence within our portfolio given that we had a solar or are under contract to sell $394 $4 million worth of assets. This year. These sales are at values that are aligned to our IRS values on average.
A good example of trades, you're seeing is our Abbotsford power center in BC and asset that went firm this quarter.
This Lowe's anchored center without near term development potential that will be sold at a cap rate of 5.0% to 2% to a private buyer. This is just one transaction, but it highlights the value that is being ascribed to quality assets by buyers who are taking a long term view.
It also underscores a significant area of focus these days, which is the gap between private and public market values. Let me provide you our views on the private market side of the equation.
And private transactions that we enter underwrite or see through our negotiations cap rates are an output of the valuation model not an input as buyers typically utilize an IRR model that incorporates long term views on cash flow, often 10 years or more.
And these cash flow model interest expense as one line item, which is certainly under pressure today, but revenue is the largest line item.
Consequently growth in revenues driven by fundamentals can have a very significant impact on value.
With a value determined through an IRR model buyer.
Buyers can then calculate a cap rate as a check against comparable assets or portfolios of assets, which is a segue to discuss Rio can value at a unit price level given.
Given the current macro uncertainty investors have turned their attention to implied cap rates compared to historic spread versus the benchmark such as the 10 year Canadian bond rate.
While these spreads provide a useful tool for comparison, they do not provide a full picture of <unk> today.
This comes back to quality and growth as noted REO, Ken has evolved over time, the quality of our portfolio. The growth, we have delivered and our future growth trajectory or the best they have ever been all else being equal improvements in quality and growth should result in tighter spreads going forward.
I'll conclude my remarks, with some comments on our balance sheet strength and flexibility.
As mentioned, we have $1 6 billion of available liquidity at the end of the quarter. We continued to prioritize this strong liquidity position even more so during these uncertain times.
Debt to EBITDA for the quarter was nine three times, a further decrease compared to the last quarter.
As we report debt to EBITDA on a trailing four quarter basis. We expect this not just to increase slightly in the fourth quarter as a large number of condo gains from Q4 2021 or rolling out of the calculation.
We expect this metric to improve in 2023 as EBITDA from developments continues to ramp up over the course of that year.
In October we repaid our $300 million series one debentures. Upon maturity. These were refinanced using $296 million of seven year secured mortgages with an all in rate of 367%, including the benefit of $250 million of GSV hedges.
For the balance of 2022, we have minimal financing activities remaining looking ahead, we are working to finalize the MHC financing for two of our recently stabilized residential rental properties and are currently planning for 2023 financing activities.
Finally as of quarter end, our mortgage and loan receivables totaled $243 million.
Our mortgage and loan portfolio balances remained relatively stable in 2022, the weighted average interest rate on our loan book has increased to 809% from 574% as at year end 2021. The increase in related interest income has served as a partial hedge offsetting higher interest costs on our debt with that.
I will conclude my remarks and pass to the operator for questions.
Thank you.
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Our first question comes from Mark Rothschild from Canaccord. Please go ahead.
Thanks, Dan and good morning, everyone.
Maybe starting with the same property guidance.
I assume that it includes.
Pandemic related items and maybe you can just talk about.
How that relates to the Q4 number which it appears to me to be a material slowdown from what you've done early in the year. So is that just being conservative or is there something maybe I'm missing.
No I think it's just more of the way we presented it so in our scorecard in front of our MD&A, we talk about 3% to 4% same property NOI and we gave ourselves a green circle for that that Green circle means it's on track and in fact should be slightly higher than that including the <unk>.
It'll be higher than the range of clean the provision.
<unk>.
Okay, Great and then just on that looking into 2023, the leasing spreads seem to be pretty consistent within the range. So.
Would it be fair to assume that comparable internal growth is likely in the next year as well.
Yes, I think Thats what were seeing from our same property NOI perspective.
<unk> today.
We do see things performing quite well and expect to remain.
In that longer term target range that we've laid out so we're not seeing any changes on the ground today and leasing remained strong demand remained strong.
Mark as you know we did give some cautionary language.
Given this environment.
It's a difficult time to do a budget right now given the range of potential outcomes with with recession et cetera, but.
At this point everything remained strong on the ground and.
Our portfolio is set up to perform.
Okay, Great and then just on development.
To your comment on IRR somehow the rents have moved as well not just interest expense costs, but.
How have returns on development projects moved with inflationary pressures.
Rising interest expense.
Factoring in that you can probably get better rents than maybe a year ago as well.
Yes.
Mark it's Jonathan.
Returns have generally stayed fairly stable in that as much as costs have gone up over the years and this isn't just.
Sort of post Covid inflationary phenomenon costs have been going up fairly significantly and construction, particularly in the GTA now for a number of years. Thanks.
Thankfully revenues have been going up and reasonable lockstep, so I'd say that that would be the output and the going in yield has stayed fairly consistent throughout the throughout the course of the last few years, what obviously, we look at it as we've stated is not necessarily just the going in yield, but rather an IRR.
Output and with.
With the would be I think the.
The improving outlook for multi res as well as commercial properties that we that we're building.
Even though interest rates have gone up there are other factors that will still allow us to surpass some of the hurdles that we've set internally but of course, it's becomes a little more difficult with interest rates being where they are.
The only thing I would add there mark is that just based on where we are in our development cycle as Jonathan mentioned earlier, where our current projects are costs are locked in and were moving forward. There. Our next wave of major projects really kicks in and starts off in earnest in the second half of 'twenty three or at least that's how we laid it out in our investor.
But as we mentioned we have the ability to hold off on those projects and assess.
Whether the market rents have have continued to move.
In a direction required to to offset the rising.
Other costs, whether it would be interest expense or capital. So we continue to advance the ball get those to shovel ready at some point in the middle of 'twenty. Three we will have decisions to make on on some of our next wave of large projects.
None of which really impacts our five year plan, none of which are petrified.
Holding income is not as we've said many times, it's not land that we bought that we will have a drag of cost we have productive retail centers on those sites. So if we have to take a disciplined approach to weight, we have the ability to do so.
Okay, great. Thanks, so much guys.
Thanks Mark.
Thank you. Our next question comes from Mario <unk> from Scotia Bank. Please go ahead.
Hi, good morning.
I wanted to start on the operational side.
The basis point quarter over quarter increase in occupancy was pretty impressive.
Can you provide any color on specific tenants or very least kind of tenant category, that's driving that expansion.
I can start and then hand, it over to John Valentine to provide any further commentary, but I think it really is just the continuation of the growth of those strong and stable tenants, we're seeing it from various different elements within our tenant base.
Already exists within our tenant base.
Certainly seeing growth in grocery pharma and discounts, including the <unk> banners dollar Ram et cetera, and then we're also seeing in this kind of environment.
I would say a significant return to service providers, whether they are nail salons hair salons or medical uses.
<unk> definitely net growers of space and certainly looking to occupy more and more of our existing space. John any further color that yes. The only thing I'd add and you spoke to adhere comments earlier. Jonathan is there is an apparent lack of supply right now in the market we have the trunnell ICSC almost.
A month ago and really the theme from the retailers was they are many are looking to expand store count there's not a ton of space I would say, it's both on the box side, the 20% to 25000 square foot side, but also on the smaller cities with 1500 to 2000 square foot units there is a real.
All hunger for these and Theres not a lot of new supply out there so.
As far as actual.
Categories, I think Jonathan spoke to the model.
Central personal services I think is where we saw a real bump over the quarter.
What can we continue to do deals.
Okay, and then just in terms of disclosure methodology can you just remind us.
The 16% new lease spread.
The tenant that comprise the 50 basis point uptick in in place occupancy.
The rent that they are paying in relation to where the data.
Before would that be included in the 16% maybe.
Verify that pools.
Yes, it's.
It's part of it.
Okay.
Maybe shifting gears to the world.
In your opinion, how important do you think it is for the physical occupancy.
Within within the office component.
Office occupancy, reaching leased office all can see how important do you think that is in terms of completing the retail.
I think the well represents a beacon of downtown West it's going to be drawing from.
So many different components of the city of Toronto as well as some tourist.
To Toronto.
Of course, the bill pay and occupants in either the office or residential components are going to add to the list of visitors there, but certainly there is not a significant amount of reliance on those occupants and so we really do believe that given its scale given its dynamic setup and given the lack of <unk>.
Other offerings in the downtown West corridor.
Given how great. This asset is coming together that we will be drawing from far and wide not just the constituents within the eight acres that constitutes the well.
Okay, and then just sticking to the low in terms of life for us value amongst us specific numbers, but.
What would you say the percentage of the total expected accretion.
From the development that you've already booked into your valuation today.
At this tougher question right now than it probably was six months ago, we've taken a pretty cautious approach there we have not.
Kris the value other than capital spent.
Since year end.
I would say at.
At last year, a year and year end 2021, we did have some buffer in the discount rate at them risk buffer in there that I would've expected to unwind.
This year.
At this point, we have held the value add is.
Two its very difficult to prognosticate.
How that kind of plays out over the next over the next coming months tomorrow to be honest.
Its environment.
Okay.
And then the last one for Dennis assuming.
Assets under contract close.
Would you rank reallocation priorities taking into consideration the current unit price.
Our balance sheet and your kind of six month development needs.
Okay.
So the way we've thought about it is we have we do have pad development obligations that we have to meet and we do have targets with respect to the balance sheet. So we prioritize those.
Those are highly important for our long term.
Our long term objectives.
Where we have utilized our CIP program to buy back stock has been when we've had outperformance from an asset sale perspective, you saw us do that in Q4 last year and Q2 this year.
So the incremental dollar that's that's coming in from asset sales today.
The highest and best use appears to be.
Buy back our stock at these prices.
But just to reiterate that suddenly if we outperform on the asset sales otherwise again. It is a combination of fulfilling our obligations and our development pipeline, which as we've stated before are largely taken care of through retained earnings and project level financing, but then of course paying down debt is another priority that we're very much focused on.
If there is incremental like sort of bonus dollars over and above our business plan from from sales then yes, it's hard to ignore the accretive nature of the <unk> program.
Got it and what's the mission of outperformance on on Brazil.
That is dollar volume contribute pull out the sales of the valuation is achieved.
On the.
Dollar value.
Yes, its really its dollar value.
And our business plan the sale of.
Right.
I can't give you precise numbers, but it seems that if we end up what I can say is that if we end up closing on all of the assets that are transactions, where there are contracts in place firm or still conditional we will outperform on that dollar value.
Perfect. Thanks, guys.
Thanks Maria.
Yes.
Thank you.
Question comes from Sam Damiani TD Securities. Please go ahead.
Thank you and good morning, everyone just to clarify one of the questions from.
Maybe 510 minutes ago, you have some projects that are teed up to potentially commence next year late next year, but if they were pushed back or postponed or delayed or whatever you said it wouldn't wouldn't impact. Your five year plan is that because those were long term projects that were never going to get completed before 2026 or was there. Some other reason why.
Those delays wouldn't impact the five year plan.
Sadly, even with the enhancements of the sort of zoning regime that were just introduced in the last couple of weeks Sam building anything of substance.
The communities, where we build is taking somewhere between four three to five years, so largely outside of the scope of that five year plan that we had set out at our Investor day. So that's exactly the right answer.
Okay.
Okay, and just a point of clarification, Dennis just want to make sure I didn't miss or misinterpret, what you Might've said.
2023, and no guidance is coming out for in February but did you say that <unk> would increase because of what you know so far or was your commentary just more that things underway would help increase that fulfilled in 2023.
Well, what I would say I won't go so far as to provide any guidance, but we do have development deliveries that will ramp up over the course of.
Over the course of this year and next so that will contribute to increased <unk> and we do have.
Ongoing even if we just take today's leasing year to date leasing spreads are tomorrow's NOI. So looking at what we have in place today at a pretty conservative view on that.
For all forward would also increase <unk>, but we have to acknowledge that there are headwinds headwinds being interest expense and headwinds being a recession, which as Jonathan alluded to there are always are there could be some tenants.
That have issues in that in that period of time. So we have to have EBIT cautious, but we have certainly in terms of our building blocks of growth.
Same property NOI growth.
Development deliveries those remain intact.
Okay.
Great and just on the $800 million.
In excess of $800 million figure that you mentioned would come back in four years time from condo projects.
That net of the remaining cost to complete on those projects is like does that is that a.
Net benefit to the balance sheet based on today's invested capital.
It's a gross number.
So if we think about.
We talked about spending $4 million to $500 million a year.
<unk> development inside over the coming years, assuming that all projects proceed as we laid out in Investor day, which again.
The activity to determine right now.
We would spend that money, but we would also have $800 million coming back over that period of time as well and so when we think about how we lay out our financing plan for the development program, we have $150 million and growing per year and retained cash flow.
Given our distribution policy gross that up for project level financing puts us at about $400 million.
And then we require I'd say about $100 million of incremental capital from from asset sales or condo proceeds.
Over the course of.
Of that period of time as well.
So what we're what we're messaging is given the size of the condo proceeds coming back to US we don't need to sell assets unless we feel that valuations are attractive and there's other uses for that capital, but just to fund our development program were fully funded on this space.
Okay understood. Thank you and I'll turn it back thank you.
Thanks, Tim.
Thank you. Our next question comes from Jenny Mall from BMO capital markets. Jenny. Please go ahead.
Thanks, and good morning.
I wanted to ask about the capitalization of interest coming off your near term development projects and how to think about the capitalized interest cadence for the next couple of years as the well comes online.
Net it against any incremental developments you have like for the well in particular in that.
More of a face on a building by building approach, so directionally and maybe perhaps.
Percentage wise, maybe give some guidance on how the capitalization of interest flow through in the next couple of years.
Yes, so I'll start with just a bit of a methodology for the well because you are right. It is a phased approach.
Some of our smaller development projects that may bring that project online and kind of one one kind of at one time from pop to IBP. In this case, we are phasing it in in the office side, we're actually facing it.
Tenant by tenant as they they have rent commencement.
We will transfer the.
Color block at floors.
The residential side it will be basically at <unk> given the size of that building and then the retail will come on in phases as well, although the phasing that's pretty tight gather build outs are long.
So thats, how thats sort of our methodology perspective. So it is a space of the D capitalization, it's spread over the course of 2023. So when we look at 2023 on an overall basis, given our spending profile and that phased sort of transfer.
Capitalized interest should be relatively flat to 2022, 2024, I'm going to defer the answer to that question, a little bit and I apologize that we're in the midst of our business planning right now.
The impact.
The impact of that will come back to you how much do we actually spend on development in 2024.
Those projects that we'd be looking to launch.
Kind of mid to late 'twenty, three depending on the timing of those launches it would impact the 2024.
Capital expenditures, so that what's tablet.
The impact is that.
With that said.
We're not spending on those capital.
Those capital development, we will have more capital to pay down debt and will be taking on less construction financing. So there's a bit of a natural offset there as well.
Yes.
So for 2024, I mean, even if you do spend that full amount on development that you expect to I think with the with the well continuing to stabilize.
Net net probably capitalized interest is still net declines in 2024 versus 2023 is that fair to say.
Yes, I think Thats fair.
And with the offset being obviously that the NOI from those projects will be.
Delivering.
Full bore at that point as well.
Of course, okay.
When youre looking at your let's say medium term development pipeline.
Just wondering you talked about a lot of your current cost being fixed, but when you're talking about contracting or potentially starting new projects.
Our contractors willing to give you a fixed price contract.
These days or.
Are they are they hedging themselves more or are they even willing to put a number down on paper. What are you seeing when you think about some of your near term projects that haven't started yet.
So I'm going to hand that one over to Andrew Duncan Jenny who is closer to that than all of us.
Thanks for your question.
Yes short answer is yes.
We are undertaking a project prior to your tier starting it whether it's predicated on asset or condo sales or leases in place.
On the retail side prior to putting a shovel in the ground typically the goal is to get at least 70% of your cost on the hard cost side contracted.
And that will include all your trades youre dealing with.
These trades are used to that that requirement.
There are some supply only trades that might provide escalators in our materials cost, but thats a small portion of the contract and as you move through the project you'll contract that last 30% over the next year or two of the project, but again those items are are less subject to inflation and a more commodity base.
So typically we would want to see at least 60%, 70% cost certainty on on a hard cost total prior to proceeding with the project and those heavy negotiations start before you put a shovel in the ground because obviously thats, where we have the most leverage.
Okay, So youre, saying that the contractors are still willing to play.
I have some numbers down on paper for you.
Yes.
I think on the range of what you're expecting.
Listen Thats an ongoing.
As an ongoing debate back and forth in terms of where escalation lies in what the market is it's a very fluid market right now in terms of construction cost. There is a combination of a couple of factors. The later later trades like the drywall guys.
Electrical guys, but the folks that are all the way through the project.
Those individuals might still be very busy, whereas we're seeing the front end trades like the demo contractors in the exploration contractors in some of the farm workers are starting to get their book not as busy over the next couple of years. So we're seeing a little more flexibility in that pricing.
But again, we're our fingers on the pulse in terms of what's going on in the market and we're very cognizant of what those trades are doing with getting to your point absolutely prior to starting jobs sub trade contractors have to provide fixed prices.
And are doing so.
Okay great.
Great.
So moving on to valuation the cap rates nudged up a little bit.
I apologize if I missed this but did you disclose the range of what the cap rate adjustments.
The assets that were adjusted was could.
Could you provide that information.
We did not we did focus our write downs in the.
Secondary market in closed mall kind of end of the spectrum as we have been over the last loss of island and so Thats why we are.
Pretty focused.
Okay.
And then maybe it's a bit early for this but when you think about.
Potential tenants tenants running into trouble sort of in that January post holiday periods.
2021, and 'twenty two have been a bit quieter on that front being that they were flushed out in 2020, but.
Are you seeing on the ground now that might inform what we could expect for 2022 or what's the how to you on that.
I mean right now this is the this is the problem everyone expects me to say absolutely we're seeing some cracks, but right now to be honest with you across the portfolio. We're not seeing any I mean, there is obviously going to be we've got 6000 or somewhere around 6000, tenancies and not all of them are going to be.
Exceptionally successful at this point, but we're certainly on balance seeing strength in the vast majority of sectors that we have in our shopping environments. Oliver did you see any.
Any change or any reason to dispute that conclusion.
Okay.
From the expert itself so.
Yes, Jamie.
It's a weird time in which we're going into and so it's hard to predict right now on the ground.
And as John Ballantyne had alluded to earlier certainly as the indication from ICSC, which is I would say the largest leasing conference that we attend all signs point to growth or <unk> stability.
But of course, there is always going to be some small shops.
That will feel the pain of.
Drawn in spending but also keeping in mind like demographic profiles of Rio can shopping centers in this environment. It is high I mean, it is higher than it's ever been both in population and a five kilometer radius as well as household income and so even if some service providers and some small restaurants are going to feel the pain of the constraints.
A recessionary environment I think the ones in Rio can shopping centers by and large are going to have a bit of a protection against them because the demographics are generally quite high in the constituent to chop there.
Okay.
Just wanted to specifically.
Our Kansas retailers, something that you worry about maybe remind us roughly how many stores you have in your network.
Yes.
Candidates retail John so.
They are they were a concern for us for sure I mean, we knew that the market was let's call it oversold when.
Introduced in Ontario, and other parts of Canada earlier, this decade, and we sort of protected ourselves in two regards one we got significant security deposits and we also didn't put in any capital into good stores. We've made made the tenants pay for there.
Their store fit out and to by and large we dealt with sort of the national candidate as providers of the larger candidates providers. There has been some fallout already from the store count that we had and I expect going into 2023 of those are probably some more we've all seen in neighborhoods that there is a saturation of this use and I suspect that's not sustainable.
Hannibal, but in terms of REO gains overall balance sheet and tenant profile. It's a rounding error I would say John anything to add to that I.
I agree, it's probably less than 75000 square feet across our entire portfolio very small shop space, which there is demand for so.
We're not concerned about agenda.
Okay, great. Thank you very much I'll turn it back.
Thanks, Jeremy.
Yes.
Thank you.
Next question comes from <unk> <unk> from National Bank Financial Please go ahead.
Hi, good morning, everybody.
Hey Pal.
Just wondering if we could start with just your thoughts and comments on me.
Housing plan rolled out last week.
Well I think it was a huge step in the right direction and I think I'm quite proud to say that it was a collaborative effort amongst industry and government, we participated quite substantially and I don't know Andrew and his development team have a lot to add to their within their conversations.
Through various industry lobby organizations as well as direct conversations with the government and I think the outcome is really favorable because it doesn't take an absolute genius to determine that there is a supply crisis, particularly in markets like Toronto. So I think what they're doing is giving developers the ability to to bill.
More and fairly quickly.
Look it's been a frustrating process for Rio Canada is a willing enable provider of housing both affordable and market in the last five years to go through all the hoops and hurdles that we've gone through to get limited product in the ground I can only imagine how difficult that is for <unk>.
For groups that are less sophisticated and less well capitalized and REO camp and I think what the government has done is a very good step in the right direction to enhance the ability to build Andrew I, just said a mouthful I don't know if you have anything to add to that John I think you.
He said I wholeheartedly agree.
I think I'm very complementary there'll be very complementary to the current provincial government in terms of their willingness to work with industry except feedback.
Lot of the policies and Theres, a lot of them and the new build 23.
Come from direct discussions and consultations with the industry, which I am very complimentary of I think I'll add that what we're doing as a result of this.
Digging into the interpretation of legislation that we've had all municipal orders look at and then having our development group. We look at all our performance that we're running continually to understand the impact of these changes and also looking at some of the projects that are earlier in the development cycle in terms of our entitlement on square footage and zoning to understand if it is.
Worth revisiting those and trying to maximize the amount of density we can achieve so overall I agree with John's comments, it's a great step in the right direction and I'm hopeful theres more to come.
Okay.
And then just on the weekend living platform, you've got 2000 units constructed.
<unk> rebuilding its got stabilized this past quarter. It looks like the last two that are in active lease up though.
Probably take maybe one or two more quarters to get there as well.
What are you sort of see the from from its first 10 buildings.
What's the run rate NOI.
NOI that we should be expecting to see once you are fully leased up.
I mean, it's a rolling pipeline right that we've got new additions kind of delivered over the next year.
Over the next five years.
So the run rate is going to continue to change because we're going to continue to add product to it. So I don't think I have any of that scientific.
I don't know that answer John you have any better better answers fatality like our marketing and what do you mean.
Yes, I think existing developmental ramp up into the mid to high Thirty's I've actually looked at Andrew a little bit as well and then we added about $30 million $30 million right.
Gradually stabilized basis was probably comes in bi and 24 months.
So that would be kind of on our existing asset base.
Development is ramping up and then we did lay out the target of $55 million to $60 million by the end of our five year plan right. So I better answer than mine.
Sure Yes.
What I'd add to that we also set out a target of $20 million of residential NOI.
We've done one of those acquisitions of securities purchased attached to that acquisition and markets evolve and we continue to underwrite opportunities in the market to continue to achieve that goal over the next three or four years.
Okay.
And then just on that strategy.
What's your thinking in terms of like do you try and length of term in this market.
Or do you maybe keep it shorter.
Banking on the fact that maybe rates start to pull back if.
If we do sort of enter into some kind of downturn ehrhart.
What's the thinking around just longer term with that strategy.
Well, it's a balanced and always with one eye on our debt ladder. So even if we.
Whether we like to go shorter long, we always want to slot in the appropriate amount. So we have a balanced renewal schedule each year.
But right now.
We are.
Kind of hedging in the middle we're not doing a lot of 10 year debt in this market and we're not doing.
We are looking at some short term bank debt, but by and large we're kind of looking in the middle ground here of about five years, but as I said always keeping one eye on our on our debt ladder, yeah, and I think it depends on the type of debt as well as an update jonathan's play and as we look at.
So what we did in the summer.
In terms of a seven year mortgages, which was lengthening our debt lateral we had typically before this last six months I would say looking into seven to 10 range.
But we do have room in our ladder to fit in kind of in years 3456.
Some incremental debt as well without kind of.
Having too much coming due as Jonathan said zone.
At this point, we're looking at our funding plan for next year as I said in my comments were done for 2022.
And we're trying to understand all the different options.
What I would say is that the.
The spread of different pricing by different type of debt is.
Significantly wider than it was obviously at this time last year.
All of the different forms of debt, we would look at it we're probably closer in the 25 basis points.
Spreads kind of difference today, that's probably as wide as 200 basis points, depending of yield all the way from CMA Sea financing.
Unsecured debenture financing.
We are trying to keep our options open, but tactically, we would consider shorter and shorter term at this time.
Our long term strategy of extending our maturity ladder is everything.
Okay, and then just lastly, thinking about tenant risk.
If I've done my math correctly here I think you guys.
There tends to be maybe about 1 million a little bit more than that every year.
If revenue.
You have to deal with in terms of tenant failures.
Can you give me an idea of like what has there been like a bad year and what would like a bad year look like.
In terms of the hit on revenue if there were tenant failures target.
Okay.
Remember that one.
We provide year yes.
That was an anomaly, but that was that was that was 4% of our revenue at that given time.
I mean look the bad year was also 2020.
<unk> was also anomalous so I think the normal run rate that we see in let's say at stabilized year or reasonably normal environment.
I think 1 million $2 million.
Half of it was about 800 to a $1 million a year when we looked at the five years before the pandemic. It was about $1 million of $801 million a year of write offs, which again is a $1 billion of revenue is that pretty low number and again keeping in mind that our portfolio has improved and the resiliency of our tenant of our tenant list has also improved.
I think thats, a good run rate to use.
And that also includes Alberta tell which again if you look at recessionary environments. I think they have had their share of it and I think that run rate is kind of like pro rata, it's been pretty stable for even our Alberta portfolio, which I think is largely indicative of the rest of our portfolio.
Okay, that's great. Thanks Alan.
No problem take aircraft.
Thank you. Our next question comes from Tammi <unk> with RBC capital. Please go ahead.
Thanks, Good morning, just.
Coming back to capital allocation I'm, just curious, how perhaps distribution increases with fit into the equation.
You talked about debt reduction and development.
Possibly the <unk>. So I'm just curious how you're thinking about that perhaps for next year.
Hello, Pommy good to see you are <unk>.
I think what we said at our Investor day, and while we continue to standby is of course. This is a board decision, but management does view this as a direct correlation to where our payout ratio is and as long as we can maintain our target range of 55% to 65%, we would like to give back to our unit whole.
As a sustainable increase in dividends year over year.
And it's not in the scheme of things a substantial amount of cash in order to do that so as long as we can do it without being parallels to the other objectives that we have which is of course, bringing down our net debt to EBITDA numbers as well as of course <unk> growth then that is something.
We would like to continue to do on a sustainable basis going forward.
Yes.
Got it and then just in terms of what's actually in the properties that are held for sale are in the pipeline.
Yesterday, what can you share just in terms of the mix there in the.
The appetite seems fairly healthy, but I'm just curious what you can say about maybe how the investor appetite might be shifting.
In the recent weeks or last month or so.
Sure I can break it down into two categories land in income producing retail assets with respect to land I would have to say that the land market has slowed substantially theres not a lot of demand as there was last year or even earlier. This year for fourth density on land plays right now which is fine we didn't really have any reliance on.
Selling any of our density over the next couple of years.
With respect to income producing properties well that's the interesting one I do think there is a disconnect right now between public and private valuations and from what we're seeing for the types of assets Ryokan owns theres still a significant interest from.
Net worth local and sometimes.
Regional buyers and we have been approached in many occasions on an off market basis to acquire some of our assets some of which will engage some of which we won't but we have been quite surprised that even in this let's say tricky environment. There is still a fairly sizable interest in acquiring assets of the type of Rio Tinto.
Got it and Jonathan just your comment on land.
When you say the appetite is.
Slow does that.
Land that you do have in that bucket is it is it already done for residential density or is it not selling yet.
I think its own yes, yes, it's predominantly what we're talking about is would be zoned land that could be condo developments for example, and this will be when we look at some of the sales you've done over the last couple of years, we got paid substantially for this excess designee.
The reality is the condo market has slowed down with the interest rate environment will be interesting to see how quickly that rebounds, but in terms of selling zoned residential land right now.
It's.
It's not a great time.
Okay, and then just given your comments on the <unk> development program and thinking about next year.
You see.
The impact on perhaps that $500 million annual target for development spending and just which projects would you consider perhaps shelving.
Yeah.
So first of all show I mean, what we do is simply pause on certain projects I think shelving feasible harsh and permanent but next year. Most of that committed capital is on projects that are already underway I would say some of it is discretionary but not a significant amount of it and the ones that we're pausing on.
Again really we have.
14 million square feet of zoned density in our pipeline and it grows day by day, which means we can sort of pick off of a large shelf of potential assets to commence on and we go through this process constantly as to which ones. We would want to commence and in this environment <unk> as we've said, we're just going to.
I mean, not that we're never we're always judicious, but we're going to be I would say there is a higher degree of scrutiny around green lighting of project and really that scrutiny is around whether or not we hurdle from an IRR basis, which given the enhanced cost of debt is more difficult now than it was before.
So I think in terms of about 400 million.
Give or take spend not a lot of that is respecting new projects. It's mostly committed projects what I would say Jonathan last year right 2023 expect us to spend in the range from 2024 is when the spending could come down.
Just added that those decisions to slow down projects that haven't been made.
We have a number of projects that are in that are zones that are in that of course as you know there is zoning is just one step in the process. We have tenants to deal with we have the site plan approval and we have all the other construction draws et cetera. Our team continues to advance the ball on that but really what we're looking at it.
<unk> points in sort of the middle of 'twenty three to kick off projects that in our five year plan that we had an investor day would have had some spending starting in sort of late 'twenty three and into 'twenty four.
So we can continue to monitor the market.
As Andrew mentioned on the construction cost side, what we see there while we see continuously study the revenue market for both.
Residential rental and condo and make those decisions at that point in time. So we have a lot of flexibility and a lot of optionality as we head into the middle of 2023 in the meantime, we create value by advancing those projects to shovel ready status.
Great. Thanks for the color.
Last one coming back to the tenant discussion.
Any update at all with respect to any possible closures from bed Bath <unk> beyond the <unk>.
You can see any on the any Canadian any Canadian sites on the list initially, but just curious if there's any update there.
No update at this point, none in our portfolio.
Great. Thanks, very much I'll turn it back.
Thanks Bonnie.
Thank you.
Our final question comes from Dean Wilkinson from CIBC.
Please go ahead.
Thank you good morning, everyone.
Out of respect for everyones time, I'll just keep this to one question.
The issue of replacement cost.
You build that 650 per square foot ex land. So you put land in there you might be pushing towards 800 Bucks.
I would suggest.
New build might be a three cap.
Jonathan have you ever seen the economics that tight and do you think that this is a permanent impairment to the new supply of retail real estate in Canada.
As far as permanent for long time, I have not seen them. This tightened my brief 20, some odd year career in the real it's always closer to 30.
Okay.
And I think that in terms of the Permian well I don't know I don't know what the catalyst is to dramatically reduce those costs and remember those are in the GTA not everywhere, but.
As Andrew alluded to we're starting to see some softness in the trades and I think.
Good healthy recession, not that any recession is good but a healthy recession might alleviate the pressures on the cost side.
And that might bring things a little more a little more of an equilibrium into the equation, but right now I'm not sure that that catalyst is immediate so for at least the medium term I don't think there's much of a change in those dynamics.
Which simply means that our existing portfolio continues to gain value and continues to be a very very.
Coveted.
Asset class in space for tenants to be up.
Scarcity premium alright, that's it thanks guys.
Thanks, a lot and have a great day.
I'm showing no further questions at this time I would now like to turn the conference back to off price.
And CEO Jonathan <unk>.
Thanks, very much Lauren and thank you everyone for coming to our call today, and we look forward to more great quarters have thanks.
Yes.
Sure.
This concludes today's call. Thank you for joining you may now disconnect your lines.
Okay.