Thank you for standing by and welcome to the Precinct Properties 2022 Full Year Results Conference Call. All participants are in a listen-only mode. There will be a presentation followed by a question-and-answer session. If you wish to ask a question, you will need to press the star key followed by the number one on your telephone keypad. I would now like to hand the conference over to Mr. Scott Pritchard, Chief Executive Officer. Please go ahead.
Thanks, Ashley, and good morning, everyone, and welcome to the 2022 Annual Result Briefing for Precinct Properties. I'm joined today by George Crawford, Precinct Deputy CEO, and Richard Hilder, Precinct's Chief Financial Officer. Like previous years, the 2022 financial year has presented many challenges with considerable amounts of time in lockdown, especially for the Auckland-based team and the Auckland assets. This has led to considerable uncertainty with regards to city centers, office-based workers, and the lack of international visitors. Despite these challenges, we are very proud of the performance of the business, the performance of the people, and the decisions made during the year to support those occupiers within the business who we believe needed support in order to survive over the last couple of years. The program for today's call is outlined on page 2 of the presentation.
I'll shortly provide an overview of the highlights of the result before touching on some major themes and reviewing Precinct's progress relative to our strategy. I'll then hand over to Richard, who will cover off the financial result, before George provides an overview of our markets, our operational performance, and our development activities. Following that, I'll provide some concluding comments, and as usual, we will be delighted to answer any questions that you have at the conclusion of the call. Moving to the highlights page, we are delighted with our progress this year to establish a partnership with GIC, the Singaporean Sovereign Wealth Fund. As announced today, Defence House may not be included as one of the seed assets, and we're currently in discussions regarding alternative opportunities. We continue to anticipate growing this partnership to around NZD 1 billion in total value.
Pleasingly, our operating income has grown significantly in the period, reflecting the savings from internalization and demonstrating resilience in our property incomes. We have also recorded a pleasing comprehensive profit of NZD 108.8 million following a modest revaluation gain of NZD 19 million for the year. Perhaps most pleasing is the strength in our AFFO, despite providing significant support to retailers at Commercial Bay, which Rich will touch on a little later. Our annual dividend of NZD 0.067 per share demonstrates a 3.1% increase over the prior period and reflects a 103% payout ratio after the extent of rental support provided. Our development activities remain highly active, with the completion of Waring Taylor Street in Wellington and significant advancement of Bowen Campus Stage 2 in Wellington.
The Deloitte Centre continues to progress well, and we commenced work for Wynyard Quarter Stage 3 and are currently advancing discussions on a range of development opportunities currently. Also pleasing is our operating performance, where occupancy has been maintained at 99%, and our rental growth recorded on new leasing has demonstrated the strength of the office market. We have completed a significant 34,000 square meters of leasing during the last 12 months, which is consistent with a record year last year and is materially above our annual average, which further demonstrates the interest that businesses have in occupying high-quality office space. Turning to page 4 in our strategy, as outlined in February, following the decision to internalise, our strategy has been refined to now include the ability to partner with direct investors, offering the opportunity for joint investment into our assets and into development opportunities.
This has been advanced during the year with the establishment of our partnership with GIC, and we expect to progress this partnership in the next 12 months. We have also been very focused on our people. With a constrained labor market and a lack of talent given the elevated levels of activity, we have taken a proactive approach to ensure our Precinct and our Generator teams are fully engaged with the business. In terms of operational performance, we are delighted with the positive reversion being achieved on our leasing activities, with a 13.5% average uplift on new leasing achieved in the last 12 months. We've also committed to a sustainable debt program and committed a few weeks ago to the World Green Building Council Net Zero Carbon Initiative by 2030.
We've also advanced our development activities with the completion of Waring Taylor Street in the period and the commitment to start Wynyard Quarter Stage 3 during the year. We're excited about the opportunities in the market and are currently considering further opportunities to add value for our shareholders and for our capital partners. Page 6 sets out a summary of the key themes which we are observing in our markets. Undoubtedly, for us, the opportunity to partner with direct investors is exciting, and it allows Precinct the opportunity to participate in a wider set of opportunities. We expect to advance our partnership with GIC, and we'll also look to grow our partnership base during the next 12 months. The rising interest rate environment has raised question marks around valuations and the potential for valuations to come under pressure due to these higher rates.
This remains a potential outcome, and our view is that cap rates will soften moderately due to these higher rates. However, the valuation impact will be mitigated by rising rental rates, which we are seeing in the market. Our strong view is that the higher quality end of the real estate market will fare considerably better during this cycle. The occupier market for prime space continues to perform incredibly well, with strong rental growth and growing demand. We are seeing significant demand for our assets, particularly those located on the waterfront in Auckland or in seismically strong buildings in Wellington. It is clear that businesses are prioritizing their staff and seeking higher quality spaces to attract staff back to the office. This is working in our favor. The construction market remains under significant pressure, with supply chain issues and labor shortages.
Escalation in costs has continued during this year, with indicative pricing 5%-10% higher than this time last year. We anticipate that the residential construction market to further weaken, which may provide some additional labor for the commercial construction market. We are seeing some signs of supply chain issues easing, although this easing, we expect, will take some time to materialize. The city center has continued to be impacted by lockdowns and, more lately, the rise in crime and antisocial behavior in the cities. Workers are returning to the office, which is pleasing, and they are supporting city center retailers. However, the public is yet to return in a meaningful way due to concerns around safety. The first cruise ship that arrived last week in Auckland signals a further tailwind for the city centers, with over 100 cruise ships due to arrive in Auckland from October this year.
Commercial Bay retail has had a challenging 12 months. However, we remain very confident that over time it will perform well, and last week's cruise ship passengers gave us a glimpse of how well this asset will meet the needs of international visitors. I'll have to hand over to Richard to take you through the financial result.
Thank you. Good morning, everyone. Total comprehensive income after tax for the period was NZD 108.8 million. This was down on the comparable period due to last year's revaluation gain. Operating income before income tax rose 14.8% to NZD 95.3 million. A key contributor to this was the material reduction in management expenses following last year's internalization. The overall savings compared to FY 2021, including capitalized costs, was NZD 10 million.
The revaluation movement for the period was NZD 19 million, driven mainly by development profit recognition. As of 30 June, the portfolio value totals NZD 3.7 billion, with Precinct NTA per share at balance date increasing to NZD 1.54. Turning to the next slide, our business has continued to be impacted by COVID and the prolonged lockdowns that occurred during the first half of the financial year. Pleasingly, Precinct's core office portfolio has delivered strong results. Net property income increased marginally to NZD 126 million.
However, this included around NZD 8.3 million of COVID support. Most of this support was provided to retailers and hospitality venues with only a small amount of office-related contractual abatements. After adjusting for this support, normalized property income was 7% higher, which was largely due to improved occupancy at Commercial Bay Tower. Precinct's operating businesses have also been impacted by continued disruptions. While Generator's membership occupancy and revenues have remained strong, the event business was heavily impacted. This contributed to an operating loss of NZD 700,000. Commercial Bay Hospitality recorded a loss for the period of NZD 2 million due to closures, lockdowns, and staffing constraints. Pleasingly, however, the operating performance for both businesses improved in the last quarter of the financial year.
Turning to the next slide, funds from operations for the period was NZD 0.0689 per share, while adjusted funds from operations, or AFFO, which measures our dividend paying capacity, was NZD 0.0651 per share. This was a strong result given the financial impacts of COVID on the business. Normalizing for the support, AFFO would have been around NZD 0.069 per share. The FY 2022 dividend of NZD 0.067 per share was 3.1% higher than the previous year and reflected in AFFO payout ratio of 103%. The following slide provides an overview of our tax expense. Precinct recorded a positive tax position for the financial year of NZD 7 million. The positive position is due to continued development expenditure and the disposal of depreciable assets, primarily relating to One Queen Street.
Tax expense for the next year is expected to remain low, mainly due to deductible CapEx and disposal of depreciable assets at One Willis. Moving to capital management, during the period we elected to convert the convertible note to equity, secured a new NZD 300 million bank debt facility, and issued a NZD 175 million green bond. These initiatives take total committed funding to NZD 1.6 billion, with the weighted average term to expiry of four years. As of June, gearing was 34%, well below our banking covenant of 50%. Proceeds from the investment partnership will initially be used to repay bank debt and will reduce pro forma gearing. As noted by Scott, we continue to explore further third-party capital initiatives. As a result of the strategy, it is anticipated that funding requirements will move off balance sheet through either passive or more active platforms.
Consistent with the changing interest rate environment, our weighted average interest rate has increased to 4% as of 30 June. Committed development cash flows have been partially hedged by forward swap agreements, with average hedging over the next three years of around 50%. Average hedging for FY 2023 will be around 65%, assuming the sale of Defence House does not proceed. Turning to ESG, we have made considerable progress in the period, demonstrated by the establishment of the Board ESG Committee, another strong GRESB score, and most recently, Precinct's commitment to Net Zero Carbon.
This commitment is to minimize total emissions, both operational and embodied, over an asset's life cycle. Precinct has for several years offset emissions relating to construction. However, this commitment goes further and will see the business focus on more sustainable design and products to minimize upfront emissions. A recent example of this is the Flowers Building in Wynyard.
This building utilizes cross-laminated timber for its structure, resulting in whole lifecycle emissions being around 35% lower than a traditional development. This commitment has also seen Precinct lift its ESG targets. We are now targeting that the energy efficiency performance of our portfolio meet a minimum four-star NABERSNZ rating, meaning an excellence level by 2030. This commitment should see us reduce our operating emissions by around 50%. Finally, turning to dividend guidance, we've announced today an FY 2023 dividend of no less than NZD 0.067 per share. Despite rising interest rates, we have a well-positioned portfolio and a strategy that gives us confidence in our earnings outlook. An improving operating environment, growth in third-party capital, and attractive development returns should all underpin earnings accretion. Thank you. I will now hand over to George.
Thanks, Richard. Good morning, all. Turning to section 2, our markets. In summary, the office occupier markets are in strong shape, and the city center retail market has the best forward outlook it has had for the last two years. Across both Auckland and Wellington, office leasing demand for the right buildings and locations has continued to be strong, with occupiers being increasingly decisive as their future workspace needs become more certain. This trend is benefiting both the traditional leasing and flexible space sectors. There's no doubt that the uncertainties of lockdowns over the last two years have taken their toll on retailers, and this is now compounded by the staffing crisis. We are proud of the support we've provided to retailers over this period, and we believe this positions us well to benefit from an improving city center retail environment.
The return of overseas visitors has been eagerly awaited by our retailers, and there was a real sense of excitement in Commercial Bay with the arrival of the first cruise ship last week. The recovery path will continue to have challenges, but we're very pleased to be looking forward. Looking more closely at the Auckland office market on page 17, the two-tier market we've been calling out for the last 18 months is persisting. This is seen most clearly in the chart on the bottom left-hand side, with next to no vacancy on the waterfront while the rest of the CBD is seeing increasing vacancy levels. On page 18, the Wellington occupier market continues to be very strong across the board, with very low levels of vacancy, particularly in the government precinct.
Turning to the investment market, the last six months have seen a high level of volatility as interest rates increased significantly before settling at more moderate or at higher levels. In our view, the office investment market has reacted in quite a balanced way, with higher interest rates offset by recognition of the positives around more certain occupier demand and risks from working from home diminishing, as well as signed evidence for market rental growth. As set out on page 19, this is reflected in our portfolio revaluations, which recorded an overall gain of NZD 19.3 million despite cap rate softening by, on average, 10 basis points. At this point, we don't see the signs of financial distress that would be required to drive values materially lower.
Turning to section 3, it's pleasing to report that the strength in the occupier market is translating to strong rental growth in both portfolio and development leasing for ourselves. Across the 11,000 square meters of new portfolio leases completed in the period, we've seen a 13.5% increase compared to the previous contract rent. This equates to a CAGR of around 5%. Moving to page 22, overall our portfolio metrics remain in very good shape, with a manageable lease expiry profile, a weighted average lease term of 7.1 years, and occupancy of 99%. Across the next 12 months, we have around 12% of the portfolio up for market rent review as well as 5% expiring. With our portfolio now 6.3% under-rented, this provides opportunity to secure further growth in our rentals.
Moving through to section four, it's pleasing to report on a healthy and high-quality development portfolio, with six projects underway and at varying stages of completion and leasing. Our portfolio currently totals NZD 1 billion in value and is forecast to deliver around 20% return on costs on completion. As outlined on page 25, it has been a busy year with the completion of redevelopment and successful opening of Generator Wellington at 30 Waring Taylor Street, strong leasing success at One Queen Street and 40 Bowen, and the commencement of construction at Wynyard stage three. Moving to page 26, at Bowen campus, we're looking forward to the completion of 40 Bowen in around two months' time. 44 Bowen also continues to progress well, with the site installation well underway.
These projects were committed to in 2020 in what were uncertain times, and it's pleasing to see them nearing completion with very strong financial metrics to deliver a 6.6% yield on cost and almost fully leased. On page 27, One Queen Street, to be known as the Deloitte Centre, also continues to progress well. The site installation to the hotel levels is now giving a sense of the impact that the completed building will have on the Auckland waterfront. The reopening of international hotel markets is also encouraging for the performance of this asset on completion. On page 28, the focus for the third stage of Wynyard has been on launching the leasing opportunity to the market. It has been very well received, with a high level of interest in securing premium-grade accommodation in this location, and we are in negotiations with potential occupiers.
Finally, while our current pipeline of projects is progressing well, we are keen to take advantage of the strength in occupier markets to secure future projects. We're conscious of the rising interest rate environment and construction cost escalation, and the need to ensure that returns are appropriate and will endure through the cycle. In this environment, however, we believe that there are good development opportunities to be found. Thank you, and I'll hand back to Scott.
Thanks, George. Turning to the final slide, there remains little doubt that the economy is facing some headwinds with rising interest rates and a constrained labor market. Despite widespread demand for goods and services, the labor market is acting as a significant inhibitor for economic growth. This uncertainty is evident globally, and this rapid rise in inflation is leading to material increases in interest rates. In this environment, real estate valuations can come under pressure from softening cap rates. Despite this, we continue to see very strong demand for high-quality assets and very strong rental growth. It is our view that the extent of impact from softening cap rates will be determined by the ability to attract rental growth. Precinct is well placed in this regard, with growing demand, strong rental growth, and an increasing set of transaction and development opportunities to add value during this cycle.
While the uncertainty and volatility might be concerning for some, we remain very optimistic about the position of Precinct and the opportunities that this market will present. Finally, as Richard outlined, we have guided today to an FY 2023 dividend of no less than NZD 0.067 per share. This reflects the impact that rising interest rates has on our AFFO, but gives us confidence that over the long term we can continue to grow our AFFO and our dividends for our shareholders. Thanks, everyone. Really appreciate your support and very happy to take any questions that you might have.
Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star two. If you're on a speakerphone, please pick up the handset to ask your question. Your first question comes from Arie Dekker with Jarden. Please go ahead.
Morning, guys. Yes, first question's just sort of looking to FY 2023 and the normalization out of sort of various COVID impacts. I guess across the support, you've called out NZD 8 million in FY 2022, and then I guess also Generator hospitality where you said you've seen more encouraging signs in fourth quarter. I guess just specifically, presumably no contractual abatements are sort of ongoing into FY 2023. What sort of level of support are you currently still carrying through?
Yeah, good day, Arie. Thanks for that, Scott, here. We're not carrying any further support in terms of the provision of abatements or rental relief from here.
Okay, great. Where we sit today and for what we sort of know in terms of hopefully no more lockdowns and that sort of thing, we should expect that NZD 8 million to completely reverse out.
Yep, that's right.
On Generator, I mean, is an EBITDA profit sort of in the low single-digit NZD millions what you're looking for in FY 2023 and somewhere around break-even for hospitality? Is that sort of a reasonable expectation?
Yeah, I mean, we'd like to think that's an expectation and kind of early signs giving us confidence around that.
Great. Just moving to GIC, can you just sort of talk to the timing of any other assets into that fund? I mean, is that something that if Defence House doesn't go through or even if it did, that we could expect in the first half of 2023? Just sort of secondary to that, are any other capital partnerships being looked at currently for existing assets?
Yeah, Arie, it's George here. Yeah, so in terms of when we would expect settlement to occur on the assets which are awaiting OIO consent, we'd expect that to be in the first half of FY 2023. In terms of further opportunities with GIC or with other parties, the investment environment has obviously been changing, higher interest rates, and that has an impact on return requirements. The sort of offset to that with what we're seeing in terms of occupier demand, that's seeing offshore parties in particular being quite positive on Auckland and Wellington within that sort of broader context. There's a range of ways that, as we set out before, that we could work with other parties. It could be around development opportunities as well as in our stable portfolio. We continue to have those conversations.
Yeah, okay. Yeah, I mean, at this point, clearly, couldn't sort of factor something in sort of in terms of announcing the next sort of development in this area necessarily in the first half of this year.
Look, it could potentially be in this period. It could potentially be beyond this. Across our development opportunities, there are various things that we're working on, and they could come through in the first half, or it could be later.
Sure. Just a final quick one, just on the uncommitted opportunities. I mean, from the commentary, it looks like you're suggesting there's a reasonable, well, quite a high likelihood of committing to 117 Pakenham. Is that fair?
Yeah, I mean, look, we're really encouraged by the amount of inquiry for Wynyard Quarter. There's no doubt that businesses have identified that location, the last waterfront site in the city, large floorplate sites. It's definitely surprised us to the upside in terms of the amount of inquiry that that's attracted. All things going well, we'd like to think in the first half of this financial period that we can get some leasing done, and that might lead to us committing to 117 Pakenham. We're testing the market at the moment around pricing, and we're advancing negotiations in terms of potential leasing. We're encouraged by how that opportunity's playing out at the moment.
Great. Thank you.
Thanks, Arie.
Your next question comes from Nick Mar with Macquarie. Please go ahead.
Morning, guys. Just on the dividend outlook, could you just sort of talk to factors that would see it different to sort of NZD 0.067, which you said is the sort of minimum?
Yeah, good day, Nick. Look, there's a range of things, I guess. I mean, as you know, there's been a huge amount of volatility in rates just in the last two months, let alone the last six months. Certainly, interest rates is a pretty big factor. We're also seeing some early signs of some positive performance out of Generator and the hospitality business, which is encouraging, and that could drive some support. Commercial Bay retail, where we've provided a lot of support, but we still have a fair amount of exposure to turnover provisions within leases and so on, that's going to be a key determinant of our AFFO performance and therefore our dividend in the next 12 months. There's sort of a number of factors within there that have led us to sort of pin our guidance where it is at the moment.
Is the intention that it's back to being around the 100% mark again? Obviously, it was slightly over for FY 2022, and you didn't obviously want to trim the divvy back. Is that sort of a fair assumption for how you're looking at 2023?
Yep, yep, that's fair.
Yep, good. Just in terms of leasing, it's been a strong period. Given where inflation has been, a couple of questions. Are you getting any pushbacks when sort of market reviews are going through? Secondly, are you doing anything different with fixed reviews given a higher inflationary environment in terms of what you might be writing as the fixed provision?
Yeah, I can answer both those. Look, I think generally, a higher inflation environment is seeing more acceptance of market rental increases. While we handle those discussions carefully, we're seeing acceptance of higher market rental rates. I would say also in terms of negotiations where we're looking to secure fixed increases, we're probably securing stronger fixed increases in this environment than we might have done when inflation was running at sort of 1%-2%.
Is that sort of towards the 3%+ mark now, or where are we sitting?
Yeah, absolutely. Around the 3%, yeah.
Might be a little bit of a hard question. You've obviously provided the under-renting figure, but where do you think that your rents sit against, say, a replacement cost scenario for some of the assets in the portfolio? There's obviously some big numbers that the Mansons are trying to get on a couple of their developments, and there's obviously different incentives. Do you think that the under-renting's actually greater if you think about it on that basis?
Yeah, undoubtedly. Undoubtedly, Nick. I mean, replacement costs, the value of the portfolio now is sitting well inside of replacement and sort of a pretty strong signal that our rents are well below replacement. Yeah, under-rented at around 6% to market, and it'd be greater than that to replacement.
Yeah, exactly. Okay, that's really handy. One last question. The NZD 2.3 million of maintenance CapEx, if you look at the Stable Life portfolio, I think there was about NZD 50 million of CapEx, and there's obviously various things that go into that. Can you just talk through how that number's so low, the NZD 2.3 million?
Yeah, the number in the cash flow reflects One Willis redevelopment spend there. There's also spend coming through from the Commercial Bay completion still. Then the last one was the 188 Quay Street work that we did for this building and moving those, getting those floors ready for occupation following the completion of PwC Tower.
Okay, thanks a lot.
Thanks, Nick.
Once again, if you wish to ask a question, please press star one on your telephone. Your next question comes from Shane Solly with Harbour Asset Management. Please go ahead.
Good morning, guys, and thank you for the presentation. I've got a couple of questions, if I may. Firstly, just can you expand a bit on this work-from-home, work-from-office phenomenon, how you're seeing this pan out? What's that meaning for leasing changes?
Yeah, look, I think what we'd say at the moment is that sort of physical occupancy in the Auckland market is probably sitting in the 70%-75% range. I think you'll see that track up as we head into summer because I think there's kind of 5-10 percentage points of that, which is actually just ongoing kind of illness, COVID, and absenteeism rather than workplace flexibility. Businesses are offering greater flexibility, but there is absolutely no doubt in my mind that there is a stronger desire to have more people back in the office, particularly within our portfolio where you've got high-value employees who benefit from being around one another. There's an acknowledgment, a very clear acknowledgment from CEOs within our portfolio that they want more people back in the office to drive productivity. In Wellington, slightly different.
We've got a different type of occupier there, so our physical occupancy's probably a little bit lower.
Thanks very much. Just in terms of what you're seeing in terms of incentives then, given leasing is quite strong, what's the observation in terms of incentives?
Look, in terms of incentives, I would say, I mean, as always, we're focused on net effective rents. We're not seeing elevated levels of incentives on existing buildings, very low, and on developments, typically a month per year of term. We're not generally having to go outside of that.
Thank you. Just picking up on developments in terms of competition for the growth or demand that you're seeing out there, what are you observing in terms of the ability of others to come to market?
I mean, I think it's kind of a two-horse race in Auckland, and it's the same two developers. One of them includes us. I think the market's very clearly demonstrated that's able to absorb that supply that those two developers are introducing into Auckland. There doesn't, or there hasn't been to date, a huge amount of competition because we've had sort of slightly different timeframes for respective projects, which has probably helped. In Wellington, you still have only, again, a very small number of developers. I think this is helping our markets because we're not seeing the same amount of oversupply that you're seeing in other markets globally. In particular, in Sydney and Melbourne, you've got a completely different set of occupier characteristics than what you've got here.
You've got very significant amounts of supply that's recently been completed in those markets, whereas here in Auckland and Wellington, you've got very moderate sort of levels of supply. That's not leading to kind of behaviours where there's significant amounts, from our perspective, incentives being offered around the market. Different developers have different models, but it doesn't mean they're being necessarily to date any more competitive or aggressive than what they might have been previously.
Thank you. Just a final question from me. Are the incentives, interest costs actually being assumed in the guidance you provided? Can you give some clarity or a range?
Yes, we've looked at the forward curve, so pricing the current pricing.
Yeah, thanks very much.
There are no further questions at this time. I'll now hand back to Mr. Pritchard for closing remarks.
All right, thank you.
Thanks, Ashley. Look, I'd just like to thank everyone for your support, for your interest in dialing in this morning. We're really grateful for that. It is an interesting time in the market, but we really do feel like we're well placed to take advantage of it. Thanks again for dialing in. Have a great day.
That does conclude our conference for today. Thank you for participating. You may now disconnect.