Q2 2023 Granite Real Estate Investment Trust Earnings Call
Good morning.
Welcome to granite REIT second quarter 2023 result conference call.
Minus conference today is being recorded on Thursday August 10 2023.
Speaking to you on the call. This morning is Kevin Gordon President and Chief Executive Officer.
And Teresa Neto, Chief Financial Officer.
I will now turn the call over now to Teresa networks Goldberg advisories.
Good morning, everyone before we begin today's call I would like to remind you that statements and information made in today's discussion may constitute forward looking statements and forward looking information, including but not limited to expectations regarding future earnings and capital expenditures and that actual results could differ materially from any conclusion forecast.
That's our projection.
These statements and information are based on certain material facts or assumptions reflect management's current expectations and are subject to known and unknown risks and uncertainties. These risks and uncertainties are discussed in granites materials filed with the Canadian Securities administrators, and the U S Securities and Exchange Commission from time to time, including the risk factors section of its annual inferred.
Nation form for 2022 filed on March eight 2023.
<unk> are cautioned not to place undue reliance on any of these forward looking statements and forward looking information the REIT reviews. Its key assumptions regularly and may change its outlook on and on a going forward basis, if necessary granite undertakes no intention or obligation to update or revise its key assumptions any of forward looking statements or forward looking information.
As a result of new information future events or otherwise, except as required by law.
In addition, the remarks. This morning May include financial terms and measures that do not have standardized meaning under international financial reporting standards. Please refer to the condensed combined unaudited financial results and management's discussion and analysis for the three and six month periods ending June 32023 for granite real estate investment Trust and granite REIT, Inc, and other materials.
Filed and the Canadian Securities administrators, and U S Securities and Exchange Commission from time to time for additional relevant information.
I will commence the call as usual with financial highlights and then Kevin will follow with an operational and strategy update.
Granted posted Q2 2023 results below Q1, but overall in line with management's annual forecast and guidance branded reported strong NOI growth offset by higher interest costs and G&A expenses.
That's S O per unit in Q2 was 121, representing a four cent or three 2% decrease from Q1, 'twenty three and slightly below our own internal forecast of $1 23, and is an 11% increase relative to the same quarter in the prior year.
The growth in NOI is derived from acquisitions developments and expansions that came online since the second quarter of 2022 and strong same property NOI growth enhanced by double digit leasing spreads in the U S and inflationary increases in Europe .
Foreign exchange was relatively flat overall compared to Q1 in comparison to the prior year. The euro was 8% stronger than U S dollar, 5% stronger, resulting in a positive seven cent impact of ethical per unit.
Offsetting the favorable Q2, 2023 N O Y relative to Q1 is the impact of higher interest costs, resulting from draws made on granting credit facility during Q2 and lower capitalized interest of approximately <unk> 9 million relative to Q1 as a result of some of the substantial completion of the majority.
We have granted active developments during Q1 and early Q2 as well as incremental foreign exchange losses on the settlement of foreign cash, which can fluctuate quarter over quarter.
In addition, due to the timing of certain activities SFO related G&A expenses were approximately 1 million higher than in Q1.
Granted <unk> on a per unit basis in Q2, 2023 was $1 nine which is nine cents lower relative to Q1, and 5% higher relative to the same quarter last year with the variance is mostly tied to <unk> growth offset by higher capital expenditures leasing costs and tenant allowances incur.
Third due to the timing of leasing turnover and seasonality.
<unk> related capital expenditures leasing costs and tenant allowances incurred in the quarter totaled $4 5 million, which is an increase of $3 4 million and $3 million over Q1 in the prior year respectively.
For 2023, we are estimating <unk> related maintenance cap maintenance capital expenditures leasing costs coming in at $25 million for the year, which is $3 million higher than our forecast provided in Q1.
The $3 million increase relates to a tenant allowance and leasing costs tied to a new lease on a previously vacant space at Grand Nights Novi, Michigan property.
The increase in maintenance capital expenditures tenant allowances and leasing costs relative to the past couple of years is a direct result of the approximately $9 7 million square feet of GLA tuning this year.
Same property NOI for Q2, 2023 was very strong relative to the same quarter last year, increasing seven 7% on a constant currency basis and up 13, 2% with foreign currency effects are included.
Same property NOI was driven primarily by higher than previous year, CPI adjustments positive leasing spreads contractual rent increases across all of granite regions. These renewals in the U S and Canada.
Free rent period in the prior year at our property in the U S and includes the impact of completed expansions in GTA in Indiana.
G&A for the quarter with $8 9 million, which was $2 9 million or higher than the same quarter last year and $5 $8 million lower than Q1, the main variance relative to the prior quarter and Q1 is the change in noncash compensation liabilities, which generated an unfavorable $2 1 million.
Fair values swing relative to the same quarter last year, but a favorable $6 $8 million fair value swing relative to Q1, as we recognize fair value gains on these liabilities due to a five 7% decrease in granites unit price during the quarter.
These fair value adjustments do not impact our <unk> metrics stripping out the fair value adjustments as mentioned earlier G&A expenses that impact <unk> were approximately $1 million higher than Q1, which is mostly tied to costs pertaining to the AGM and timing of consulting and travel.
Expenses as well as higher compensation costs directly linked to noncash compensation and the upward valuation of its performance stapled units.
For the remainder of 2023, we expect G&A expenses of approximately $9 5 million per quarter or roughly 7% to seven 5% of revenues, excluding any amounts for fair value adjustments related to noncash compensation liabilities.
On income tax Q2, 2023 current income tax was $2 1 million, which is <unk> 2 million higher than the prior year and <unk> 2 million lower in Q1 the.
The movement in current tax relative to Q2 last year is mostly attributable to the strengthening of the euro relative to the Canadian dollar as olive granted current taxes generated from its European region, as well as slightly higher taxes in the Netherlands, due to depreciation and limitations on certain assets.
The decrease in current tax relative to Q1, 2023 is mostly related to the timing of accruals.
For the remainder of 'twenty three we estimate current tax to run approximately $2 million per quarter, assuming no significant change in the euro FX rate.
Which is slightly lower than the past two quarters due to lower required provisions on tax positions taken going forward.
As with the past few years granted has the potential to recognize the reversal of tax provisions in Q4 relating to tax positions taken on taxation years, which will go statute barred totaling approximately $1 8 million. However, we cannot assess whether these reversals can be realized at this time.
Interest expense was higher in Q2, 'twenty three relative to Q1 by $1 4 million as a result of borrowings made on the credit brands' credit facility to fund development interests on the secured construction loan which was repaid in full late in Q2 and lower capitalized interest by approximately <unk> 9 million.
Due to the substantial completion of the majority of granites developments.
The draws on our credit facility in Q2 were higher than we had anticipated last quarter due to the delay in cash repatriation from Europe that was resolved in July .
For the remainder of 2023, we are assuming no additional draws on our credit facility and that the $400 million debenture maturing November 'twenty, three will be refinanced and swapped to euro at the beginning of Q4 with an estimated interest rate of 475%.
Therefore for the third quarter, we estimate interest expense consistent with Q2, and then interest interest expense will increase to approximately $21 5 million in Q4.
Granted its weighted average cost of debt is currently 227% and is expected to increase modestly to approximately two 6% pro forma the 2023 debenture refinancing.
Looking out to our estimates.
Our 2020 through estimates granted earlier guidance to <unk> remains unchanged, which estimates SFO per unit within a range of $4 90 to 505, but we are currently expecting to be closer to the midpoint of this range.
This still represents an approximately 11% to 14% increase over 'twenty two four <unk> per unit, we are lowering the forecast range by five to $4 25 to $4 40, representing an increase of 5% to 9% over 2022.
The <unk> reduction is entirely due to the increase in forecasted <unk> related capital expenditures discussed earlier due to the leasing of vacant space at our Novi Michigan property.
The foreign currency rates driving the high and low ranges remain unchanged from last quarter for the high end of the range. We are assuming foreign exchange rates of the Canadian dollar to euro of $1 four eight in Canadian dollars to USD 137 on the low end of the range. We are assuming exchange rates of the Canadian dollar to Euro and Canadian.
In dollars to USD of one for two and 1332, respectively.
Lastly, our forecast assumes that approximately 20% of the forecasted stabilized NOI relating to a recently developed properties in Houston Phase, one Nashville, and Indianapolis will be realized mostly throughout Q4.
Granite will provide updates to guidance next quarter as warranted based on new leasing activity executed as well as any changes to foreign exchange assumptions.
The trust balance sheet, comprising a total assets of $9 1 billion at the end of the quarter was negatively impacted by $14 million in fair value losses on granite investment property portfolio in the second quarter and was further compounded by a $142 million of translation losses on granted foreign paid foreign based investment properties.
And that was due to a $2 one and one 8% decrease in spot USD and Euro exchange rates, respectively relative to Q1.
The fair value losses on granite investment property portfolio were primarily or primarily attributable to the expansion in discount in terminal capitalization rates across selective granite markets.
In response to continued rising interest rates, partially offset by fair market rent increases across the GTA and selected the U S and European markets as well as the renewal of one industrial property in Germany, and the appreciation of land values at Grant's development properties and land held for development in Branford, Ontario and.
The stabilization of four properties under development in the U S, which were completed and transferred to income producing properties.
Leon in the second quarter of 2023.
The trust overall weighted average cap rate of five 9% on in place NOI increased eight basis points from the end of Q1 and has increased 59 basis points since the same quarter last year.
Total net leverage as of June 32023 was 32% and net debt to EBITDA was seven six.
<unk> six times, which has improved from Q1 and Q4 as a result of the completion and stabilization of the majority of grants development properties.
Granite continues to expect its debt to EBITDA decreased to low seven times by the end of this year and to improve thereafter into 2024 as the EBITDA from completed development comes online.
The Trust's current liquidity remains at 1 billion, representing cash on hand of approximately $120 million and the Undrawn operating line of $910 million as of today granted has $87 million or euro $59 million drawn under the credit facility and there are $2 $7 million in let us let.
<unk> of credit outstanding.
Now I'll turn over the call to Kevin.
Thanks Theresa good morning, everyone. Thank you for joining our Q2 call as usual <unk> and I are joined by more tumor and Michael repairs.
I would concur with <unk> characterization of our results being more or less in line with our internal expectations when accounting for FX and some timing related issues in the quarter.
I will be brief in my formal comments as usual and as before I will provide an update on our current development pipeline.
She program and our leasing program year to date.
Then provide an overview of the leasing and investment market fundamentals, we're seeing across our business before taking your questions.
Beginning with development activity in the quarter, we achieved substantial completion of our development projects in Lebanon suburb of Nashville, Tennessee, comprising roughly 500000 feet over three buildings on April six.
And to date, we have executed two leases totaling approximately 180000 feet.
At rates, roughly 30% above or original underwriting and 6% ahead of budget for 2023.
We also completed the build to suit development over 220000 square foot property in Bolling Brook, a suburb of Chicago on April 12, and as you can see the building is fully leased for 12 year term.
Our current construction pipeline includes two projects in Branford and Ajax Firstly, the 410000 square foot build to suit project for <unk> continues to progress on schedule with substantial completion expected in the first quarter of 2024.
Similarly, the 50000 square foot expansion of our existing property and Ajax is underway with substantial completion scheduled also for Q1 of next year.
I'd like to note that as disclosed in the MD&A are projected Unlevered return for the small expansion project has been reduced considerably to five 6% due to a combination of higher construction costs additional scope and the incorporation of some major base building improvements in the expansion project.
As per our MD&A, we are in the approval process for the next phase of our brand for development, which will include a single 730000 square foot building to.
To enable us to efficiently respond to suitable build to suit opportunities that may arise in the market, but we currently do not have any plans to commence with the construction of the building on a speculative basis.
As mentioned previously.
Collectively these projects and stabilization and are expected to contribute strongly to NOI and cash flow growth in future quarters and.
And all are expected to achieve green building certification in accordance with our published Green Bond framework.
In addition to the projects just discussed we have 160 acres of land remaining for development across Branford, Houston in Columbus, which can accommodate up to two 4 million square feet of space once constructed.
As outlined in our MD&A six lease maturities, representing just over one 9 million square feet that occurred in the quarter were renewed at an increased average increase of 15%.
However, keep in mind that that included the expiration of a termination right by a tenant in the U S and the renewal of the Magna facility in Germany.
Excluding those two properties the average rent increased by 23% on average.
As of this call. We have also executed renewals on 735000 square feet of subsequent 2023 Expiries in 2024 maturities at a weighted average increase in rent of 34%.
Included in the numbers I just mentioned are extensions on 645000 square feet of Magna leases across three properties one located in the GTA and two in Austria at an estimated average increase in rent of roughly 22%.
As a reminder, we do not anticipate any leasing costs or capex associated with these renewals.
We are also finalizing lease extensions on another $1 1 million square feet of 2024 maturities, which when combined with our renewals to date would represent over 70% of our $9 7 million square feet in overall maturities in 2024.
At this point, we expect to achieve an average increase of 20% to 22% on the outstanding maturities in 2024.
As Teresa mentioned.
Same property NOI increased by seven 7% in the quarter on a constant currency basis within expectations.
Same property NOI was positive across all of our geographies. Once again led by our portfolios in the U S and Germany, driven by strong renewal spreads in North America development stabilization and strong CPI increases year to date in Europe .
We expect same property NOI growth to moderate slightly in Q3, and Q4 and will likely come in at the lower end of our range of guidance our Q1.
Forecast guidance for 2023 same property NOI growth at six 5% to seven 5% as we re lease our current availabilities.
Vacancy increased to three 7% from two 2% last quarter due to the addition of 630000 square foot space in Louisville as was expected and the addition of roughly 500000 feet of new development space in Nashville, a 180000 square feet of space.
Of which has been since been leased as mentioned earlier and Im happy to answer specific questions on leasing following my comments.
We have now published our corporate ESG Pulsar report for 2022.
And as you will see we have made significant progress in a number of key initiatives of our program, including significant reductions in energy and ghd emissions intensity within our portfolio.
Additionally, as at December 31 of 2022, we had achieved operational or new construction Green building certification on roughly 24% of our portfolio.
And we have achieved green building certification on an additional 21 properties totaling 11 3 million square feet. So far this year.
We have made a number of improvements to the report and I invite all of you to review it at your convenience as posted on the sustainability section of our website.
As you can see from our disclosure and as mentioned, we adjusted cap rates and discount rates further, but only slightly in the quarter.
As transactional data suggests that pricing has begun to firm up broadly across our markets in the U S and Europe more so I think that we anticipated.
Excluding FX movements, the roughly $210 million in negative fair value adjustments associated with TCR and discount rate adjustments year to date.
It has been partially offset by a $116 million and gains from a combination of development stabilization and increase in value, resulting from the long term renewal of three properties in Austria, and one in Germany, and an increase in the fair market value of our land for development in Branford.
As for general market update I would once again characterize leasing activity in the second quarter broadly as lower than in the past two years, which was exceptional but in line with 2019 or pre COVID-19 levels.
Notably our markets represented the top eight markets in the U S for net absorption totaling just under 46 million square feet.
With Dallas once again, leading the country at $9 2 million square feet of net absorption.
Net absorption also turned positive in the GTA in Q2 of 2 million square feet, but still well below the 10 year quarterly average similar to the Netherlands and Germany.
Availability rose in most of our markets in North America, as new supply outpaced demand in the quarter.
We do expect this trend to continue for the next two to three quarters.
As the backlog of current projects are delivered however, we projected availability will begin to fall in early 2024 as I said on our first quarter call as the pace of new starts has already begun to decelerate acutely from past quarters and a number of planned deliveries this year are being delayed.
And most of our markets, we are witnessing a drop of 40% to 75% in new starts from Q2 versus.
Versus Q2 of 2022.
As for rents the data suggests the market rents increased roughly 5% on average over the first quarter across our U S markets.
With the <unk> 78 to 81 corridor in Louisville, leading the way at a staggering, 19% and 11% respectively quarter over quarter.
Quarter over quarter rent growth in the Netherlands, and Germany came in at six 7% and five 9% respectively.
So although demand has reverted to pre COVID-19 levels the spread to market on our in place rents continued to widen in the quarter.
And a substantial contraction in news and new starts we believe should should support continued rent growth over the near to medium term.
Correspondingly, although the delayed completion of our developments in Indianapolis in Nashville to the second quarter of this year May result in a longer stabilization period. The expected rents today are frankly, much higher than they were at underwriting and even one year ago.
With respect to investment market conditions transaction volumes remained lower year over year, but are beginning to recover.
Particularly in the U S and the Netherlands.
And data suggests the prices have begun to stabilize.
Logistics clearly continues to be one of the preferred sector destinations for investor capital flows appear to be improving with private equity funds save obviously for the $3 billion U S per largest acquisition of the Blackstone portfolio remaining is the most active buyers both in North America and Europe .
In closing I think that Teresa outlined our financial performance very well save for my minor timing issues FX movement, and as mentioned noncash compensation for value adjustments. Our results were in line with our expectations for the quarter as our Indianapolis Nashville developments reached substantial completion.
And the associated costs, such as interest TMI et cetera are now being expensed.
In addition, I realize that the drop in occupancy to 96, 3% was.
Noticeable but it was in line with our expectations. Given the addition of vacancy in the short term from the delivery of the Nashville in Indianapolis developments and the expected turnover of 600000 square feet in Louisville and in no way does it alter our trajectory.
Looking forward as Teresa mentioned, we are maintaining our <unk> guidance for 2023 and that is based on our projections for <unk>.
Effects and leasing activity for the remainder of the year.
I will repeat one stabilize the new developments will of course be a strong driver of NOI and cash flow growth for us in future quarters.
I will now turn the mic over for questions.
Thank you very much.
As a reminder, if you'd like to register your question. Please press star one by the four on your telephone.
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Your request.
Question has been asked after drug administration postal one follow up on this.
One moment please for our first question.
And we'll get to our first question on the line from Sam Damiani with TD.
Yes.
Thank you and good morning, everyone.
Thank you for the <unk>.
Overview, both <unk> and Kevin that was very very helpful.
Just getting on to I guess, the topic of the availabilities in the in the current portfolio. Kevin you alluded to I Wonder if you can just give us a little more color on how I guess.
Discussions are going on in Louisville, and industrial any other larger sort of availabilities in the portfolio today and the timing on getting the occupancy back toward 99%.
Yes, happy to Sam and there are different availabilities, obviously from market to market Louisville 600000 square feet. Just became just became vacant and I would characterize the sort of level of activity being strong, but not for the full 630000 feet and I think.
<unk> on the location and the quality buildings that we have.
We're looking at opportunities and the right prospects with a building. So we've seen more activity in the two to 400000 foot range of prospects and as of now we think it would be better to wait for the single tenant for that building. So that's how we're approaching I think non availability Nashville, a number of prospects.
Across all three buildings I believe of different sizes.
So I think that that is going quite well and I think we have a strong prospect for probably I would characterize as about 150 to 180000 feet of prospects there Indianapolis more activity on the smaller building to 300000 square foot building than the seven we have one prospect.
For the larger building, but that's very early discussions and I would say that there's two to three.
Decent prospects because the smaller building again early days.
But we're looking at both.
Multi tenant in the smaller building more single tenant and us with larger one to all of the buildings that we developed and frankly acquire a sham.
We prioritize the ability to demise the buildings. So all of our buildings can accommodate multiple tenants. We're just trying to find that sweet spot to maximize returns and long term value of the property and what makes what makes sense and despite the increase in vacancy and I have already seen some negative comments around it.
I think we've earned the right to be patient to find the right tenant.
That's going to maximize the value of the long term value of the asset and so we're being somewhat selective I'm not suggesting that were turning away tenants that would be a gross mischaracterization, but we are being selective in how we would divide of any of our buildings. So it has to be the right tenant the right credit the right rent.
Frankly.
Based on the premium location of these assets and has to fit for us. So that's how it's going on the on the availability side.
That answers your question.
That is helpful.
<unk> occupancy rate of 96, 3%.
It doesn't necessarily reflect some leases that would be commencing post quarter end is there sort of meaningful spread between what you reported and what would be a committed occupancy rate at the at this time.
No I think it would be best just to wait till the next quarter.
We certainly don't want to put the cart the cart before the horse.
And also pointing out that we are in the middle of the summer. So we've already seen activity begin to pick back up after a slow July so I think it would be better for us just to have a more meaningful conversation on this on our next call in Q3.
Okay and last one from me just on the transaction market, which certainly was interesting to hear.
Here, our sense of it stabilizing.
As the market sort of evolves over the next six to 12 months.
C capital location, becoming more compelling and if so do you see acquisitions, becoming Inc.
Incrementally more compelling versus development sort of a reversal of last couple of years.
I'm not sure we see anything that's really compelling for US right now in terms of like as I said, we were a bit surprised by the strengthening in pricing.
I think particularly based on a few deals in Europe .
Four at market.
Assets and newer assets sort of core pricing has really come in a little more tightly than we thought so from that perspective, I don't think we see anything that's truly compelling to us.
In terms of.
Our use of capital.
I think we have enough in front of us for the next six months I don't forecast as being in the market.
By the end of the year I think 2024 were quite optimistic.
Optimistic that market conditions will improve.
From a I wouldn't see I don't know.
Say leasing perspective, because I think we're in a strong leasing market right now, but I think 2024 will be a strong leasing market, but I also think it will be a more compelling market for us from an investment perspective, and hopefully from a cost of capital perspective, as well, we always have to keep that in mind. So I think it's going to be from a capital.
Allocation investment perspective, Sam its going to be relatively quiet second half of the year.
Thank you and I'll turn it back.
Thank you very much.
Our next question on the line.
<unk> Gupta with Scotiabank go right ahead.
Thank you and good morning.
And Kevin Thanks for the color on the vacancies how big are by the way.
So just you know on the screen blind in your proposal in property NOI growth guidance.
Backfill in Baltimore.
Hello Marcos vacancies.
Sorry can you repeat that himanshu.
Kevin a question is I mean, you obviously put out official guidance in same property NOI growth guidance as well.
So do you expect like you know you Louie.
Louisville will continue but will be back by the year end.
In that guidance and also our Indianapolis.
Sorry, Lisa.
Are you, saying I mentioned that you're asking is are we assuming that the indeed lease up and the Louisville lease up are in the guidance for the.
<unk> is that what you're asking.
That's exactly what else can thank you.
Trying to think well from a <unk> perspective, there is some contribution both from Louisville and from very late and from Indianapolis from our same property NOI perspective, only Louisville would impact us and again, it's not a large contribution we're not anticipating a large contra.
Abuse of the same property NOI from Louisville and 2023.
Okay, Okay fair enough.
And then on the one 5 million square feet, leaving the U S down in the quarter.
I think <unk> said was 19%.
Was it in line with your expectations or what are you expecting even higher rate.
So that's the lease term for the 19%.
In line with market.
Definitely in line with expectations dementia absolutely.
Thank you.
Onto a much let me let me just clarify this because I've seen some.
I've seen some things written that there seems to be more confusion.
When we have.
Is it a true mark to market I'm not sure that it is when we have the lease in place.
The Mark where the in place rents are truly $30, 40% below market, but the tenants, but the renewal increases set.
Our mark to market as we disclose it.
Is the renewal increase is the terms of the lease.
And so when we look at that when you look at it and you say, 19% that's based on what we're actually achieving on our renewal increases and that does include some contractual limitations, whereas it may not reflect the true mark to market on the rents.
What it does reflect is.
If we can get at the fair market value or the fair market rent then it would and what we achieve but it really is based on what we achieve on renewal and not necessarily a theoretical mark to market.
Okay. Thanks for that clarification.
And then just on 2024 lease Expiries and I think it looks like Youre, saying, 70% are always done almost there. So do you have a sense of what could we be.
Same store NOI growth next year.
Well it is always similar to this year as well.
Yeah.
<unk> to be similar I think we were expecting you to be as strong as we sit here today, but just to clarify I mentioned $1 1 million, we're finalizing the lease everything looks good but we don't have we do not have signed renewals yet for that so assuming that the successful and we assume that it will be obviously, we'd be at roughly 73.
Sent.
And yes, we expect same property NOI to be consistent with this year.
Awesome. Thank you and just last question.
Fertility, so a $400 million debentures.
Did you mention Youre doing euro swapping add $4 75, and is that like secured financing on you've been assets no. No. They are not security, it's all unsecured, but we just based on where swap rates are today.
We're estimating as high that's within my forecast is at $4 75 swap euro.
Fixed rate.
But they remain always unsecured.
Yes.
Okay awesome. Thank you so much out of them.
Thanks.
Thank you. Our next question on the line from the line of Matt <unk> with National Bank of Canada.
Hey, guys.
With regards to development spend.
You haven't been kind of replacing.
Projects have rolled off are you less inclined to put additional capital into the ground at this point.
Yes.
Subsequent to that.
Do you lease some of the existing space in the development that has been delivered would you then look to deploy more proceeds into development.
Well I think we're certainly in a wait and see approach even in brands I think we have the opportunity to move forward that potentially be in the ground at the end of this year, but I think it makes more sense roes to be patient if theres a build to suit opportunity in brand through we will take it.
So for now I think we're taking a wait and see until 2024 at the earliest I think I mentioned on either the Q4 call. The Q1 call that we were looking at potentially moving forward with the next phase in Houston as well because we're very close to full stabilization of the first two phases, there, but again I think.
It being a strong market I think it makes more sense to us, particularly in Houston, given we're not really sure what you're going to build we can build in excess of a million feet in a single building or multiple buildings I think it makes more sense for us to continue to monitor the market.
And wait until at least 2024 and decide what we want to do so for now we're not planning to move forward with any additional development.
Okay. Thanks, and then.
I guess with regards to your commentary around sort of pricing firming and more incremental demand from investors.
Is has that changed your thought process around capital recycling at this point and at this point is there a place that you.
Wanted to direct funds to relative to your existing portfolio exposure are you happy with where you are at this point.
Pardon me, we'll always look at opportunities we continue to look at opportunities in the GTA, but I think for now one of the things I would say about.
Capital allocations and prices firm up I think the pro largest acquisition of the Blackstone portfolio was very interesting. There was a very two was there was a very tight cap rate.
And I think 55% and our portfolio was in our markets.
So I think that that was a very interesting data point and I think one of the comments that was made I don't want to put words in anybody's mouth. One of the comments was made by prolonged was below replacement cost.
So there's also this.
There's a lot of pressure on costs not just on land, which is which is somewhat malleable, but construction costs are higher and they're not falling.
And so the economic rents continue to rise and it puts pressure on new supply et cetera, and we have to take that into account. If there are opportunities in our markets and we have liquidity.
Adequate liquidity in our opinion it may make more sense to buy stabilized assets, we will see and I think thats been consistent with our message all along.
We're willing to look at new developments, if we feel.
The returns are compelling.
But we're also willing to switch a little bit and focus more on.
Stabilized assets.
If we feel that they are truly below replacement costs and offer better returns.
Okay that makes sense and then.
I mean, you made an interesting comment you guys have been at 99% occupancy.
I don't know if we should view, 99% occupancy of the stabilized occupancy figure for any real estate portfolio, but as you think out like is the goal to get back to that or is there always going to be kind of a bit of.
The vacancy and I'm glad you mentioned it because I think some people have been critical with 99 being too high and all we care about is occupancy I would kind of tend to agree with that I think the nature of our portfolio is very stable. We have newer assets. We have major tenants Magna is a.
<unk> stable tenants so.
If a normal portfolio logistics portfolio was 97%, we should probably be 98% to 99, just based on the stability characteristics of our portfolio that being said occupancy is not a driver for us. It really is growing NOI and net effective rents that that's really a driver and.
So do we need to be 99% absolutely not.
Will we kind of shake out probably more than as I said more than 98% range, just because of the nature of our portfolio.
And really you're absolutely right I think 99% plus is just an arbitrary number and.
Very hard to attain over a long period of time.
Fair enough.
We lost a small detail from Teresa I don't know if you have it.
In front of you, but do you know the same property NOI, what it would've been including and excluding kind of the expansion activity. Yeah. So excluding the expansion at six 8% for the quarter.
And then the six 5% guidance that I should know this but thats in functional currency not currency adjusted or is it currency adjusted.
No that's constant currency.
Correct Yeah.
Okay. Thanks, so much.
Thank you very much.
Our next question on the line from the line of Carl Stanley with Desjardin capital markets go right ahead.
Thanks, Good morning, everyone.
Maybe just going back to kind of a leasing environment I'm just wondering in your discussions with tenants now as you're kind of working through the leasing.
Maybe what's changed are you seeing them negotiate more obviously there they are aware of kind of the dynamics at play in the market, but I'm just curious on how your discussions have maybe changed in the last maybe six months or so relative to what we saw on the.
Covid frenzy, and then just specifically with kind of your leasing in the U S. What would you be getting in terms of contractual rent escalation.
Well number one I think for the negotiations or discussions that we use that we've been involved with the financial terms seem to be intact. We haven't had anyone pushed back for more free rent or more ti and Brent as you've seen in beginning to climb put in perspective, just looking at the statistics.
We had five markets in the U S that had stronger rent growth in Toronto and two of them were actually almost double the rent growth and troll Dallas was 40% for example, I think Louisville was 30, something Indianapolis was 30.
Right so.
So I think we're in a very strong position as a landlord on the rent side I think what we've seen though is.
The sort of hesitancy at the corporate level to make financial commitments and I talked about this in the Q1 call and we're certainly seeing a continuation of that deals are taking longer because companies are.
Just a little more uncertain about economic conditions in that makes sense, but there hasn't really been a pushback on the economic terms of the deal I would say and we were just I hope I mentioned in my formal comments.
When we look at Nashville, I think we underwrote.
I want to say $6 rents five six dollar rents were achieving 725 plus.
Right now so from a timing perspective, maybe it's really maybe the delay in deliveries has not been positive for us, but it's certainly helped us from a from a yield perspective and from a rent perspective I think the second question is what Escalations are we achieving what would you say anything anything sort of.
Yeah, roughly 4%.
Okay, so fairly consistent with what youre kind of seeing in the GTA that makes sense I think your commentary obviously is.
It is interesting about the rent growth being higher and some of those U S markets, namely Dallas and Louisville, Indianapolis like you mentioned.
What would you say is driving that right now.
Historically, maybe the rent growth in kind of the Midwest and the southern areas of the U S had not been quite as strong as what you were seeing out of the coastal but we've obviously seen that shift a little bit so in your view.
What is really contributing to that.
Well I think to be fair a lot of the <unk>.
Net absorption that we've seen is newer product that's coming online. So I think number one most of the leasing that we've seen has been in newer product I think I didn't look at it this quarter, but in Q1 I think it was over 80% of all leasing was in newer product. So certainly I think what we're seeing is that sort of rent premium.
For newer products.
Another trend I would say that we're just starting to notices tenants are now.
Actively enquiring on sustainability features in the building, which is a good thing for us because we're way ahead of the curve there in terms of the characteristics of our buildings. So that's another trend that we're seeing where they are looking for that to the degree that they will pay for it not quite sure, but it seems that theres a little more openness to.
Paying a higher rent.
On building set our modern like ours and how those have those characteristics.
Okay, no that makes perfect sense and just the last one I thought your comment on pricing in Europe , firming, maybe a little quicker than expected was interesting.
What do you think is driving that and if you've seen.
Any specific buyer or interested party become become more active in the European market lately.
Well.
We said before but private equity there is certainly the sort of need to put money out the door. That's why that's why we believe and I think there is a consensus out there that a lot of this is just private equity funds needing to allocate capital.
Cadillac Fairview through <unk>.
L'oreal.
It's active cbre's active a lot of the open end funds in Germany are back in the market.
So theres a number of them and that's been consistent I think so far this year.
I think that need to allocate capital and the preferred destination, particularly in Europe , I think year to date industrials, 40% to 50% of all investment volume.
So it remains the sort of sector of choice for investors.
Okay that makes sense, maybe I said last question, but just building on that a little bit I mean, obviously historically, there's been discussions of the monetization of some of the magna assets.
Ross I think we discussed earlier in the year just given the lease renewals that was completed do you think transaction market firming in Europe would that make you reevaluate that at a certain point.
Well I mean, we're always we're always open we're always thinking about it I think what we've said is just I don't know if some I don't know if I would characterize the market conditions as being there yet for that.
And just to get back to the comment about why do we think that prices are stabilizing I think the one thing that's interesting to us most interesting to us and I mentioned newer buildings with at market rents or very close to market rents.
With long term leases are trading.
To me well below financing costs in Europe . So we're seeing these types of deals.
Occurring at a four and a half yield when borrowing costs are probably closer to five and a half.
In those markets and I think what that indicates is this sort of deep conviction that market rents or continue we will continue to grow strongly in Europe and the cost basis will make sense in a few years, even if it's not accretive to their financing cost and so that's what we're seeing so in that context, I think that market can.
<unk> continued to improve and if theres a right opportunity for us with.
With grants or any of the other assets we're certainly.
Open to it and we will be prepared for it.
Perfect. That's it for me I'll turn it back thanks very much.
Thank you very much.
And our next question on the lines from the line of <unk> RBC capital markets go right ahead.
Thanks, Good morning, Kevin just maybe sticking with the U S. It sounds like you've made some progress on leasing there.
But frankly.
So again not such a bad thing just given where rents are but overall as we think about next year are there any vacancies coming that youre aware of call. It evident over the next 18 months or so.
Yes, just a few but I'm trying to think I don't think theres anything too.
Chuck is significant to us too chunky.
No I don't think so.
2024, Okay I'll put another let me put it another way I think we're 80, 687% retention. This year I think it would be a similar number for next year I'm looking at Mike and Lorne here I think we'd be similar next year in terms of expectations for retention.
If that helps.
Yes.
And then just maybe coming back to the Louisville vacancy I'm, just curious how does the market rent compared to the prior in place and.
Anything you can share just in terms of what drove that they can see tenant outgrow the space or they're looking for something else or was it financially driven.
Well quick answer there one I think we are anticipating rents by 20%.
Over expiring rents in two the tenant was gamestop.
Okay got it.
Remember this was an expected move out we had talked about this for the past couple of quarters at Gamestop had advisors that they were downsizing obviously.
And so this was completely expected but.
To your question about are they going somewhere else I think I believe they're consolidating in their existing portfolio that would be my my guess.
Okay, and then just last one on the Ajax development. It is a small project overall, but I'm just curious what is there an opportunity to maybe revisit.
The rents there are any discussions with the tenant just given the increase in the cost.
Well this is speculative expansion and I will tell you how we kind of got caught with us when we were.
Moving forward with the brand for a development build to suit obviously, we have time obligations. There. So we ordered steel because we were in a market where the lead time on delivery of steel was up to 12 months. So we made the decision to preorder the steel.
For this expansion at the same time.
And so when we did that.
And we found that pricing came in above and there was no additions to the scope that were some where are you now.
A decision to make and some were imposed on us by by the city.
At that point, we had already ordered the steel and so we are moving ahead with this project and then we decided to incorporate some base building improvements, which are now which are part of this project, which drove up the cost a little more so that's kind of how that happened, but getting the main point is that we have preordered the steel for this in conjunction with the <unk>.
For projects. So it was kind of a unique situation that we found ourselves in there.
Got it thanks, very much I'll turn it back.
Thank you very much.
We seem to have no other questions queuing up I'll turn it back to you for any closing remarks.
Okay, well. Thank you everyone for participating in our call and look forward to speaking with you again in November on our Q3 call.
Good day.
Thank you very much and that does conclude the conference call for today. We thank you for your participation and ask a disconnect your lines how could Dave one.
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