Thank you for standing by, welcome to the Precinct Properties Full Year Results 2018 conference call. All participants are in a listen-only mode. There will be a presentation, followed by a question and answer session. If you do wish to ask a question, you will need to press the star key followed by the number 1 on your telephone keypad. Thank you. I would now like to hand the conference over to Mr. Scott Pritchard, CEO. Thank you. Please go ahead.
Thanks, Jody, good morning everyone, welcome to the 2018 annual result briefing for Precinct Properties. I'm joined today by George Crawford, Precinct's Chief Operating Officer, Richard Hilder, Precinct's Chief Financial Officer. The 2018 financial year has been another good one for the business. We've enhanced the portfolio, we've sold assets to recycle capital, we've progressed our developments, we've sourced non-bank debt to strengthen the balance sheet, importantly, we've grown earnings and dividends for shareholders. The program for today's call is outlined on page two of the presentation. I will shortly provide an overview of the highlights of the results 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 the financial result before George provides an overview of our commitment today to our next major development, One Queen Street.
Following that, I will provide an update on Commercial Bay and Bowen Campus, as well as covering Precinct's view of our markets before George covers in detail the performance on page two of the presentation. I will 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 the financial result before George provides an overview of our commitment today to our next major development, One Queen Street. Following that, I will provide an update on Commercial Bay and Bowen Campus, as well as covering Precinct's view of our markets before George covers in detail the performance of the investment portfolio. As usual, we'll be delighted to answer your questions on conclusion of the call. Moving to the highlights page.
Undoubtedly, the major highlight for the business is recording a net profit after tax of NZD 254.9 million. This significant profit has been helped by the revaluation gain of NZD 209 million, which has led to our NTA per share increasing to NZD 1.40, an increase of over 12%. Perhaps most pleasingly, we are continuing to drive meaningful growth in our operating income at the same time as transforming the portfolio into a higher quality set of assets. Our operating earnings have increased by around 2.5%, with earnings per share increasing to NZD 0.0632 per share, which was in line with guidance. In addition to the financial result, we have sold NZD 191 million of assets in the period, with the sale of 50% of the ANZ Centre and the disposal of 10 Brandon Street in Wellington. These sales have strengthened the balance sheet and reduced gearing to below 20%.
While we're on the balance sheet, in the period we have raised NZD 250 million of non-bank debt and have, post balance date, refinanced a NZD 760 million debt facility. Finally, we have recorded total portfolio occupancy of 99%, demonstrating the strength of the occupier markets that we are in. Today, we are excited to announce that we are committing to Precinct's next major development, One Queen Street. This development further enhances the Commercial Bay area and provides a further dynamic use to this precinct, bringing the waterfront to life. George will talk in more detail about One Queen Street in just a moment. Turning to page four, major themes. Before we get into the detail of the result presentation, we thought it may be useful for us to outline what we see as the major themes which surround and influence the Precinct business.
Firstly, our view that city centers will continue to outperform. Underpinned by a growing resident population and a higher relative contribution to New Zealand's GDP, Auckland City Centre is attracting more people to work, live, and play. While Wellington remains as New Zealand's capital city, Precinct continues to see Auckland as New Zealand's gateway city, offering significant opportunities as the city evolves to meet the demands of Greater Auckland. Secondly, working-age population growth. We have, as a business, monitored the growth and trends in working-age population for a number of years and believe it provides a very good proxy for future city center office demand. By our analysis, we expect continued growth and demand for city center office space in Auckland, with an expected 10,000 new workers anticipated in the city center over the next four to five years. This gives us good confidence in the occupier market in Auckland.
Thirdly, the challenges that we are all seeing in the construction market, which are driving considerable increases in the replacement cost of assets. We expect that this will underpin market values and importantly, limit supply. Given the inability for feasible office development to occur, our expectation is that there will be insufficient supply to meet anticipated demand for the period of 2021 to 2023. Finally, activity levels in Auckland will continue to remain elevated. While we acknowledge that business confidence is lower, if inquiry for space within our portfolio is a proxy for confidence, we are continuing to see elevated inquiry for additional space, as activity levels within Auckland demand more workers and more space requirements. Ancillary benefits such as tourism and leisure are also beneficial to Precinct's overall strategy. Turning to page five.
Last year we articulated our refined strategy, which was summarized into three distinct pillars comprising our people, operational excellence, and developing the future. This year, as outlined in more detail in our annual report, we have further progressed our strategy with a renewed focus on sustainability. This is summarized on the right-hand side of the slide. In addition, we have outlined here the progress made with regard to our three pillars. Firstly, we continue to invest heavily in our team and the culture of the business. Focusing on career advancement and job enrichment remains an ongoing area of attention. Additionally, the increased focus on growing our employee base to be more diverse is proving valuable in terms of challenging traditional thought processes. Operational excellence has been maintained with a strong portfolio performance, well-considered capital management, and an increasing level of Green Star rated buildings.
Our development portfolio has further advanced in the period, with Commercial Bay obtaining further occupiers and advancing its construction. Bowen Campus remains on program and on budget, while One Queen Street is now our next focus, with construction set to commence in early 2020, re-energizing the existing asset, which is undoubtedly located in the best position in Auckland City. I'd now like to hand over to Richard to take you through the financial result.
Thank you. Good morning, everyone. As noted by Scott, 2018 has been a good year for Precinct, and this is reflected in the financial performance for the year. A revaluation gain of almost NZD 209 million contributed to a net profit after tax of NZD 254.9 million. Importantly, net profit before tax for the period was up 7.4%. The completion of Wynyard Stage 1, Auckland rental growth, and improved Wellington occupancy resulted in net property income increasing by NZD 4.9 million. Offsetting this increase was a higher tax expense for the period of NZD 6.3 million. This expense was higher than previous guidance due to lower level of leasing fees and fewer fixtures and fittings disposed of in the period. These deductions will now likely fall in the FY 2019 year. The revaluation gain was partly offset by other non-operating items.
The fair value loss in financial instruments was largely due to a fall in the New Zealand dollar swap curve. The deferred tax expense of NZD 17 million related to a change in the estimate for determining the provision for deferred tax consequences of a sale. The provision now better reflects the net sale price allocation process that occurs at sale. Slide eight provides a breakdown of net property income. After allowing for development activity and a foregone income at HSBC House and No. 1 The Terrace Podia, net property income on a like-to-like basis was 3% higher. In Wellington, average occupancy in the period increased 4% to 98%. This improvement led to Wellington's net property income increasing by almost 3%. We continue to experience net property income growth in Auckland. This reflects under-renting in the portfolio, but also a strong occupier market and demand for quality space.
As slide nine shows, it has been five years since we fully transitioned our dividend policy to a sustainable AFFO-based policy. Over that time, funds from operations payout ratio has averaged 84%, and we have retained around NZD 63 million. These funds have been used for maintenance CapEx and leasing costs across our investment portfolio. Importantly, our AFFO payout ratio over the same period has averaged around 101%. FY 2018 AFFO increased 6.8% to NZD 0.058 per share. This was due in part to the completion of Wynyard Stage 1 and a lower level of maintenance CapEx. We continue to see dividend and AFFO growth, given our sustainable dividend policy, a supportive strategy, strong market, and an under-rented portfolio. Turning to slide 10. The revaluation gain resulted from affirming in cap rates supported by recent sales, together with development profit recognition.
The investment portfolio experienced a revaluation gain nearly entirely in Auckland of NZD 108 million. In Wellington, gross rentals and cap rates improved. This, however, was offset by additional operating expenses, mainly insurance premiums and rates. The increase in premiums reflected an increase in the Fire and Emergency Levy, higher replacement costs, and an increase in market pricing. Across the development portfolio, NZD 100 million of unrealized development profit was recognized, reflecting construction and leasing progress to date. Excluding the One Queen Street development announced today, there remains around NZD 120 million of unrecognized development profit, the majority of which should be recognized in FY 2019. Overall, the revaluation gain increased Precinct's portfolio value to NZD 2.5 billion and was the key contributor for the 12.9% uplift in Precinct NTA per share. Slide 11 and 12 provide an overview of our capital management position.
Borrowings over the year increased by NZD 300 million as we progressed our development at Commercial Bay and Bowen Campus. Associated with this increase, we undertook several capital management initiatives. The convertible note and bond issue in the first half of the year increased our total facilities by NZD 1.18 billion and increased the proportion of non-bank funding to 36%. Despite borrowings increasing, year-end gearing remains unchanged from a year earlier at 25%, due to the exclusion of the convertible note and the strong revaluation gain. Our weighted average debt cost fell in the period as we continued to draw on borrowings to fund our developments. Hedging sits within policy, and we remain comfortable with our current position. As Slide 12 demonstrates, we continue to take a proactive approach to capital management. The NZD 250 million of non-bank funding secured in the period provides important tenor in funding diversity.
Post-balance date, we successfully refinanced NZD 460 million of bank debt, which was due to expire in November 2020. The refinance extends our weighted facility expiry to 4.1 years and provides for a more laddered profile. Overall, we have capacity and liquidity to fund all our developments in progress. The sale of 10 Brandon Street and the 50% interest in the ANZ Centre will provide funding to deliver future developments, with the sales reducing our pro forma gearing at June to around 19%. The part sale of ANZ Centre was achieved at a 12% premium to book value. This reflected both the strong interest in the asset and a preference by potential purchasers to enter a long-term relationship with Precinct. The sale takes the value of assets sold by Precinct since 2012 to around NZD 500 million.
In line with our strategy, this has reweighted the portfolio to Auckland and enabled us to recycle capital out of assets like ANZ Centre and into higher-yielding development opportunities. Finally, earnings and dividend for 2019 are expected to increase to around NZD 0.066 per share. Leasing momentum, construction progress, and today's announcement of One Queen Street provide us confidence with our earnings outlook. Consistent with our dividend policy, we anticipate growing the dividend for the 2019 year by 3.4% to NZD 0.06 per share. I would now like to hand over to George to take you through the One Queen Street development.
Thanks, Richard. We are very excited to be announcing a major investment today with the redevelopment of One Queen Street. One Queen Street is Auckland's finest address. The building has a unique position on Auckland's waterfront and in the heart of Commercial Bay. It's ideally suited for conversion to a complementary mix of luxury hotel and office uses with an iconic rooftop hospitality offer. The hotel will be known as the InterContinental Auckland, and we are delighted to have secured such a strong brand with local, regional, and international recognition. The hotel will be operated by IHG under a 15-year management contract with Precinct as owner. This means that the hotel net profit will be Precinct's investment return. Sitting above the hotel will be seven premium office floors with incredible views over Auckland Harbor. With just 8,700 sq m, the office represents a fairly exclusive opportunity.
As a result, these floors have attracted strong interest from occupiers ahead of us launching the project, we have already signed a heads of agreement on commercial terms with an occupier for 3,700 sq m of this space. Moving to page 16, the development increases the overall lettable area of the building by around 2,200 sq m. This is made possible by a more efficient use of space for plant, which creates an additional office floor, a relocation of the second core and fire exit, as well as an extended floor plate over the upper office levels. The office component will be accessed through its own dedicated lobby, which is in a similar position to the current lobby off Queen Street. The expanded floor plate and relocation of the fire stairs provides for a highly efficient 1,260 sq m plate with a full-height glazed façade.
The hotel entry will be located on the corner of Queen Street and Quay Street, this is shown on the next slide. With level 1 housing the lobby, meeting suites, and hotel food and beverage, as well as having a direct connection into Commercial Bay retail. The hotel rooms and suites will be located over levels 3 to 13. There are a number of current occupiers of One Queen Street who will be relocating into other Precinct buildings following completion of Commercial Bay. This will see us commence construction in the first half of 2020 following those relocations, we expect the hotel to open in early 2022, followed by the office and rooftop bar completing in mid-2022. We have agreed a fixed price contract with LT McGuinness.
They are well-known to us from their work on the redevelopment of Bowen Campus and also bring their relevant experience as an apartment builder. Moving to page 17, the project will be fully funded from existing debt facilities, after taking into account the sale of a 50% interest in ANZ Centre, our committed gearing will sit at around 34%. The return metrics are attractive in our view, with an expected stabilized yield on cost of around 7%. Importantly, this represents accretion to earnings per share of around 20 basis points when compared with the sale of the ANZ Centre. The value on completion is expected to be around NZD 342 million, which will generate a 15% profit on cost. Moving to page 18.
While we acknowledge that exposure to hotel investment and returns is a new step for Precinct, we believe that the unique waterfront location and integration with Commercial Bay will ensure its success. The addition of several hundred hotel guests to the Precinct each day will be another driver of demand for the retail and food and beverage offer at Commercial Bay, and will be highly complementary to the demand patterns from our on-site office population. We see the InterContinental Auckland as being the number one preferred location for tourists and corporate travelers alike. Turning to the hotel market on page nineteen. It has been well-publicized that the market has experienced very strong growth and demand over the last five years, and this has translated to growth in room rates of over 50% through that period.
The growth has largely come from international visitor arrivals, which have grown by 7.5% year-over-year over the last five years and now sit at around 3.7 million per annum. These are forecast to continue to grow from current levels to around five million per annum by 2024. The strong growth in room rates has seen a supply response, with a number of hotels currently under construction and several other new projects mooted. Research shows that based on demand projections underpinned by growth in visitor arrivals and the convention center, there is still expected to be a shortfall of some 1,000 rooms even after delivery of the current supply pipeline. Additionally, we are of the view that the current construction market challenges and the continuation of escalation in build costs will mean not all of the announced hotels will end up being built.
We are therefore confident that the InterContinental Auckland will be met with strong demand and will perform well. I'll now hand back to Scott.
Thanks, George. Turning to section three, development. On page 22, we move to Commercial Bay. Commercial Bay has benefited once again from a significant lift in its completed valuation, having achieved further leasing success. The expected profit on completion is now forecast to be NZD 283 million, representing a profit on cost of more than 40%. During the year, we have lifted our retail commitments to 76% of the available space. This is a major movement and demonstrates the significant demand that we are receiving. We are delighted with the composition and mix of retailers and very pleased that we will be bringing some new entrants to the New Zealand market. We have also lifted our total commitment in the office building, which I'll discuss in more detail shortly. From a management perspective and having regard to our long-term earnings pathway, we retain a strict focus on our yield on cost.
This has been maintained at 7.5% and is a key contributor to our expected growth in earnings over the short to medium term. Pleasingly, the leasing transactions completed in the period remain consistent with feasibility and have assisted in seeing the value on completion for this development now exceed NZD 1 billion. Over the page, we provide some more detail on the retail leasing to date. With the anchors now secured, the focus has turned to specialty leasing, in particular, fashion and food and beverage. We have secured a range of high-quality retailers across both fashion and food and beverage and are really pleased with the retailer mix. Aucklanders and visitors alike will shortly get their first glimpse of how great Commercial Bay is going to be, with the first stage of retail opening on the 30th of August this month.
H&M will be opening their 3,800 sq m store, which will be offering for the first time in New Zealand, H&M's entire range, including men's, women's, kids and homeware. Turning to page 24. We have lifted our office commitments to 78% in the period, with all new occupiers sourced from outside of Precinct's portfolio. All leasing in the period has been completed on terms which are consistent with our valuation and feasibility. With this progress in the period, there now remains just 6,000 sq m left to lease after our decision to proceed with two floors of fitted-out small suites. The decision to proceed with a small suite offer follows significant investigation into this segment of the market.
As outlined on the bottom of page 24, leasing of space in the 0 to 400 sq m range generally makes up the majority of the space leased in the Auckland market. Precinct has traditionally not participated in this market. With an efficient floor plate and confidence, Precinct believes a small suite offer will be complementary and value accretive to the wider portfolio. Turning to program. As outlined in February at our interim result, throughout the project, Precinct has used an independent program expert, an RCP, to provide us with advice regarding the progress on site and the expected completion dates. Pleasingly, our main contractor, Fletcher Construction, has now engaged fully with our team to determine the current status of the site and consider the program to complete.
This engagement has been highly beneficial for the project as it gives us, as the developer and owner, the confidence that the new program to complete is achievable, having discussed openly where the risks and opportunities lie. The revised program will see the retail center opening in September 2019 and the new PwC Tower opening in December 2019. Importantly, Precinct remains comfortable with the provisions of its construction contract, which protect it from potential losses which are borne about from delay caused by the main contract. It is not expected that these delays will affect our total project cost, as liquidated damages will effectively mitigate the impact of the delay. Turning to Bowen Campus on page 26. The Bowen Campus development continues to progress in line with its budget and its program.
In the period, the Crown have determined that the New Zealand Defence Force will take on a head lease of the Bowen State Building for a period of 18 years. Pleasingly, the development profit for this project has increased to 18%, following an increase in the project's value on completion to NZD 240 million. The yield on cost has reduced slightly to now sit at around 7%, following a material increase in insurance premiums and an increase in rates for the site. It is anticipated that the Charles Fergusson Tower will be complete in December this year, while the Bowen State Building will complete during 2019. Turning to page 27 and focusing on Wynyard Quarter. Precinct has secured development rights over certain land in the Wynyard Quarter, which offers us the opportunity to develop office buildings when we wish to develop them.
With the first stage of development now complete, Precinct is focused on the second stage, which consists of an 8,000 sq m building. We are buoyed by the demand we have received in the Generator space within our first stage, which is now recording occupancy of well over 70%, giving us confidence that any future development will attract good demand from similar occupiers from within the innovation precinct. Following stage 2, there is a further two sites which offer another 22,000 sq m of space, which we expect to develop over the next five to six years. Page 28 sets out the latest design for the remaining land at Bowen Campus. This land consists of around 4,000 sq m and will allow development of up to 20,000 sq m of office space.
We're excited about what this land and these latest designs can offer both the corporate market and government occupiers. The buildings have been designed to offer a very high seismically resilient building with dampers installed to withstand significant seismic events. Page 29 provides a useful summary of Precinct's development activities. Allowing for the inclusion of One Queen Street, the development portfolio now offers a blended profit on cost of 35% and a blended yield on cost of 7.3%. As stated at our interim results, as a business, we have adopted targeted returns for future developments of 15% profitability and a 7% yield on cost. As demonstrated with One Queen Street redevelopment, we believe returns set at these levels provide shareholders with meaningful returns for the associated risk of development. Excuse me. Turning to page 31, where we provide an update on the markets we are operating within.
The Auckland city center economy is continuing to demonstrate significant growth, as outlined in the chart on the top right-hand side. Auckland city center GDP growth has been on average above 4% for the past eight years, resulting in higher employment growth and generally leading to higher population growth. Of the employment growth that has occurred, 60% of it occurred in industries related to the city center. This is demonstrated in the CBD employment change chart, highlighting that over the past eight years, the city center has benefited from significant growth across a range of sectors. The next few slides set out our views of the demand and supply outlook for Auckland's office occupier market.
As outlined at the start of the presentation, we believe that with significant headwinds for office developments and considering further demand for space, there could well be a supply shortage in three to five years' time. Auckland is benefiting from significant growth in resident population, with recent evidence demonstrating that the growth to date has been several years ahead of predictions. Further, it is forecast that there will be a further 30,000 inner-city residents in Auckland over the next 10 years. Consistent with this trend, it is expected that the working-age population will also grow by up to 50% over the next 20 years.
In the short term, it is our view that over the next three to five years, we will see a further 10,000 workers in Auckland City Center as the elevated level of activity will require more workers, leading to demand for at least another 100,000 square meters of space. From a supply perspective, on page 33, we have highlighted what we believe to be the main impediments to new supply materializing. Most obvious is the continued pressure on the construction industry. The construction industry is facing severe capacity issues, which is leading to significant cost escalation and an inappropriate level of risk for developers. To illustrate this point, we have set out on the following page where we see potential supply coming from. We have compared our view to that of CBRE, who we believe to be the most conservative of market commentators currently.
Of interest on this slide is the anticipated withdrawals from the Auckland office market forecast over the same corresponding period. Again, it is our view that there will be more than 40,000 square meters of stock withdrawn from the market between now and 2022. Therefore, it is our expectation that there will only be around 11,000 square meters of supply per annum over the next five years. The following page sets out absorption and density levels for the Auckland office market to provide some useful reference points. As outlined on average, over the past 20 years, the Auckland office market has achieved 23,000 square meters of absorption, while in the past six to seven years, we have seen increased density levels also achieved. It is Precinct's view that the majority of the consolidation from increased density ratios has already occurred.
To summarize our views of the current supply-demand dynamic, page 36 sets out our view that the Auckland office market could well be undersupplied in 2021 to 2023, as we continue to see good growth in demand but limited new supply due to construction cost escalation and projects which are simply not feasible. Now turning to Wellington. Wellington remains as New Zealand's capital city. While it doesn't have, in our view, the same characteristics of the Auckland market, it is evident that there is a supply-demand imbalance, as well as growing demand from the Crown. Our focus in this market remains on our Bowen Campus land, which we believe is well-positioned to meet the needs of the government or corporate occupiers. I'll now hand over to George to take you through the investment portfolio.
Thanks, Scott. Our investment portfolio remains in good shape. We have continued to see available space in both Auckland and Wellington being met by solid leasing demand. This is enabling us to drive some good growth and contracted rents across new leasing and capture under renting in the portfolio. The two significant expiries within the portfolio are IAG at 1 Willis Street in Wellington, who moved to new premises in May, and QBE, who expire later this year at the AMP Centre in Auckland. Pleasingly, we have a good leasing success across both of these expiries. At Aon Centre, we have now leased three of the expiring floors, with a further two being marketed for lease and currently under refurbishment. The leasing there has been achieved at an 18% uplift to previous contract rents.
As well as that, all the new leases are net leases, while the expiring lease was gross. At AMP Centre, two of three floors are now leased, with terms agreed on the balance. This has been achieved at an average uplift of 17% from passing rental levels. On page 40, looking across the portfolio, the strength in leasing is also clear. Wellington has had an average uplift of 15% on previous contract. Auckland has averaged 8%. However, this has been somewhat subdued by short-term retentions to keep holding income at 1 Queen Street prior to commencing redevelopment. Moving through to page 41, the AMP Centre provides a good case study of how we are looking to actively manage assets to drive stronger returns. AMP Centre benefits from a very strong location whilst being at a competitive price point.
As mentioned already, QBE expire later this year, and there has been a significant amount of leasing transactions totaling 8,600 sq m in the building over the last year. These have added significant value as well as improving amenity. Key transactions include the New Zealand Transport Agency, who have signed a new lease across two floors as a relocation from 1 Queen Street. Kindercare have also committed to significantly expand the childcare facility, which will cater to growing demand as Commercial Bay comes online. Three years ago, the fully leased rent roll for the AMP Centre sat at NZD 8.3 million. Today, that has lifted to NZD 9 million, and with new leasing that we have committed, this will further increase to NZD 10.5 million over the next couple of years, which is a significant uplift of 26.5%.
At the same time, we've continued to reinvest in this asset, both in terms of mechanical services, planned new end-of-trip facilities, and capital works to support new leasing, such as the Kindercare facility. The returns from this are strong, and if we compare the growth in contract rents across this period, this will represent a yield on cost of 14%. This is inclusive of all maintenance capital expenditure items. Page 43 provides an overview of our lease expiry profile, which is in good shape for the next 12 months. We have already made good progress across the larger expiries, which are noted on the right-hand side. For the following 12 months after June 2020, this includes the expiry of occupiers relocating to Commercial Bay from the ANZ Centre. This will be a major focus of leasing activity over the next 12 months.
Moving to page 43, this provides a summary of the leasing progress across our development assets since we committed to Commercial Bay in 2015, shows the extent of leasing completed. Three years ago, we had around 30,000 square meters in total of uncommitted office space. Since then, we have completed over 20,000 square meters of leasing deals. If we take account of the new space at 1 Queen Street and the leasing commitment we have agreed there, the remaining office space we have to lease now sits at around 11,800 square meters. For both Commercial Bay and 1 Queen Street, we are confident around demand for the remaining space. Moving now to Generator on page 44. We continue to see strong interest from a range of occupiers in the Generator offer. The reasons vary.
Smaller businesses are increasingly drawn to the ability to access prime office space with a level of amenity that's usually reserved for larger businesses with significant premises. Added to this is a high level of service, the opportunity to be part of a community, as well as flexibility to accommodate growth without needing significant capital investment. For many businesses, they're finding this compelling, This is ranging from startups Local smaller businesses who are relocating from standalone offices global, mainly technology businesses, who want a managed local presence. Still relatively small, Generator has been on a steep growth path during the last year, from one location to three, less than 3,000 square meters to around 13,000 square meters. Our largest new site is at Grid AKL in Wynyard Quarter, which has an innovation and technology focus.
In 10 months, this has gone from launch to now sit at over 80% contracted occupancy across more than 6,600 square meters of space. Our newest site is at Britomart Place, which launched in June, has already secured close to 60% contracted occupancy. Both of these sites have performed ahead of expectations. During the trading-up period, all of the costs are expensed. This has resulted in a NZD 2.3 million loss recorded for the period. Over the next 12 months, our focus is on stabilizing these new sites that we've launched driving good levels of occupancy. This should see the business overall become profitable, on a financial year basis, achieve break even provide a strong platform for growth.
Importantly for Precinct, the Generator business is giving us exposure to a market sector of growing businesses new entrants that we previously had little exposure to, helping us form relationships with these businesses, which will have expanding future property needs. I will now hand back to Scott to conclude.
Thanks, George. Precinct has a well-defined strategy, which is focused on investing in city centers and being active. We believe the results announced today demonstrate that the strategy is working well. Our markets are supportive, and we see more opportunity as supply-demand dynamics support those investors who have access to capital and have capability. In terms of the outlook, we believe that Precinct is well-positioned to create further shareholder value and develop high-quality real estate in strategic locations. The balance sheet is well-positioned, and we are continuing to take a long-term view about our business. We are delighted to provide earnings and dividend guidance, which is consistent with our previously published long-term earnings pathway. Thanks, everybody, and we're happy to take questions.
Thank you. If you do wish to ask a question, please press the star key then one on your telephone and wait for your name to be announced. If you wish to cancel your question request, please press the star key then two. If you are on a speakerphone, please pick up the handset to ask your question. Thank you. Your first question comes from Joshua Dale from Craigs Investment Partners. Go ahead. Thank you.
Good morning, guys. Congratulations on the strong result. Just a few questions from me. Firstly, on No. 1 Queen Street, total project cost of NZD 298 million. Does this include the NZD 91 million value of the tower in its current state?
Yeah, thanks, Josh. Appreciate that. Yeah, NZD 298 million includes all ingoing costs.
Okay, thanks. Just on the heads of agreement on the 3,700 square meters of office space at number 1 Queen. Are these from current tenants or from outside the portfolio?
No, that is from outside the portfolio too.
Great. Last question from me on your FY 2019 guidance of NZD 0.066 per share. What are you assuming for the timing of settlement of the sale of 50% of the ANZ Centre there? Because I noticed it's still subject to OIO approval.
Hey, Josh. Richard here. We're expecting it to be October, November, is the anticipated settlement date.
Great. Thanks very much, guys.
Thanks, Josh.
Thanks, Josh.
Thank you. The next question is from Hayden Strickett from Forsyth Barr. Go ahead. Thank you.
Hi. Good morning, guys. Hey, a couple of questions from me. Firstly on the insurance, could you just provide a little bit of color around when you reset that back in May in terms of how much that's lifted across Wellington and Auckland? Secondly, around the market rents. I'm trying to reconcile the valuations with the comment around being 6.4% under-rented at a portfolio level. Looking at the level of cap rate compression across the valuation sort of suggests the net effect of rents and the valuations were pretty close to flat. The under-renting in the portfolio has also increased, which seems a little bit inconsistent.
Hey, Hayden. I'll start off on insurance. I'll hand over for the other question. There's a slide at the back in the appendix that splits out the increase. Overall, there was about a 36% increase in insurance for the year. Broadly speaking, a third of that related to the fire service levy change. Another third of it related to an increase in the replacement costs for the business. Replacement costs for insurance purposes rose from overall about 16%, that was a reflection of essentially the construction cost escalation that we've seen. The last aspect was the change in market pricing. As you'd expect, most of that increase was in Wellington for the increase in market pricing. That's the market that's been impacted most significantly.
Thanks, Richard.
Hey, Hayden. George here. I'll answer your second question around the valuation market rentals. For Wellington, the average uplift there in the market rentals was around 4.5%, at a gross level, that did have an offset of increased operating costs, mainly from higher insurance, as Richard has just covered. Within Auckland, there's a range of movements, but sort of 1.5%-2% range. That would have been flatter at the more premium end, and A grade with a little bit more growth. That's reflected in our under-renting position.
Sure. Just to clarify that the 6.4% under-rented at a portfolio level is net effective.
Yeah, that's correct.
Yeah, that's right. Okay, cool. No, that's helpful. Just last one from me. Just on One Queen Street, following Josh's questions. Can you provide any color in terms of the breakdown of that yield between the office, and the hotel component?
I can answer that in terms of the cap rate, which probably gives you a sense. The yield from the cap rate on the hotel sits at 6.625%, and on the office component sits at 5.125%. The yield from the hotel is stronger, and that sort of represents the risk, the value risk put on hotel returns, and hence the differential to the office.
Okay, cool. No, that's helpful. Hey, thanks for your comments, guys. That's all from me.
Thank you.
Thanks, Hayden.
Thank you. The next question is from Matt Goodson from Salt Funds. Go ahead. Thank you.
Morning, everybody. Just a couple of questions from me. Firstly, the liquidated damages for late delivery. Is that an agreed position or is that still subject to, potentially, to litigation? Secondly, if you could just maybe talk a little bit more about the return on investment from converting a couple of floors to suites. Just a little surprising, given it's something that's not normally done in far older buildings. Third question, just the solidity of the leases, of the leasing to date, given there's obviously been some publicity about some parties desiring to pull out. If you could comment on those three things, please.
Yeah, sure. Thanks, Matt. In terms of the LDs, very typical within construction contracts, that the amount of LDs is already agreed, and it's effectively formulaic. It can be subject to challenge when variations are made. The construction company can seek extensions of time if there are changes made, which are late or which are outside of the scope of the original contract. Our view, based on the number of claims that we've already received and settled to date and the progress that we're making through the contract, is that the LD that's already been agreed as a party to the contract that we entered into a couple of years ago, will be more than sufficient to cover our losses, in terms of lost income.
Okay, all right.
Whether they'll be subject to litigation in the future, yeah, they could be. We're certainly not at that stage.
Okay.
In terms of the ROI for small suites, I think what we're identifying in the market, perhaps we've seen some of this through our exposure with Generator, is that there definitely seems to be a lot of growth in that SME market, but also individuals or small groups of people that want to co-locate together and be in their own fitted out office. It's a part of the market that we haven't really participated in previously. The returns that we would be looking to achieve here would include the capital that's invested and would be targeting to be in excess of the baseline returns that we're already achieving in terms of commercial base. We've seen good demand. We've seen it done really well in the market here. We've seen it emerge as quite a strong trend in some other bigger markets. We quite like the opportunity.
We're looking pretty closely at that and expect that we'll go ahead with it. Your third question was around leasing and some parties that may not want to go ahead. We had one party that we are in a legal process with them. At this stage, they are beginning to perform and meet the obligations of their leases, which is principally around the putting in place bank guarantees, and they are undertaking that, I'm told. We don't have any material concerns there.
Okay, great. Thank you.
Thanks, Matt.
Thank you. The next question is from Tony Sherlock from Morningstar. Go ahead. Thank you.
Morning, gents. Just a quick further question on the suites. Can you describe the typical leases that apply to suites versus, I suppose, a standard larger corporate floor plate? I suppose, what the major differences are?
Yeah, Tony, it's George here. The main differences would be the lease term would typically be a 3-year term, whereas 6-9 years would be more typical for larger occupiers. We also would aim to keep that as a simpler, more user-friendly type document. The other difference in terms of how that space would be leased is that it's less of a rate per square meter, and more of a monthly cost is how that market tends to think about the space.
Just on the, I suppose, the bank guarantees around the lease. If some of these smaller co-working, I'm looking at the covenant risk, how much protection do you get for that full 3-year rental stream? Do you get a full 3-year bank guarantee over that, or?
No, you typically would be not providing much in the way of incentive in those cases. You would have a level of guarantee, but it wouldn't be for the full period. It would probably be for, say, a six-month period. It's obviously a different guarantee risk, but it's a different sort of leasing profile as well, and you're not making that investment. You would expect that when you do a fit-out of that space, that it will be there for multiple occupiers over its life.
When you do your research on how those assets behave in a less than buoyant market, what was the behavior of some of the tenants? If vacancy opened up in other parts of a larger city, and you said this is more common elsewhere, do tenants exit early, or do they stay and then move at the end of the term?
Well, as in any portfolio, you'll have a range of quality of covenants. The difference that you'd have if you've got, say, two floors of this type of space, you may have one or two that fall over in a tougher time, but you then have a small level of vacancy. If you have a single occupier on two floors and they fall over, then all of that space vacant. It's a different risk profile, and there are although sort of mitigants to the covenant risk by the spread that you have.
I know that there was a question asked earlier by Matt. How much of an ROI premium is there for the suites versus standard corporate or larger corporate?
Hey, Tony. Richard here. I think the key target that we seek at the moment is meeting the feasibility benchmarks that we have within our baseline feasibility. We'd like to be able to beat that by 10% if we could.
Okay, 10% profit or?
Just a final point on it is that we have a weighted average lease term across the portfolio of around 8.7 years. Having some additional space that's on shorter terms isn't something that concerns us.
Okay. Just on that, there was a comment earlier on, I suppose the market commentators have probably been off to absorb some predictions. What were the main areas that, I suppose, analysts and the like were underestimating?
Well, we are confident in our markets that we're operating in. I think we have seen quite a divergence in views around the strength of the occupier market in Auckland. It's been really interesting, and it's certainly been interesting from some of our, Invesco, for example, who's our new partner on the ANZ Centre, they couldn't get their head around some of the commentary that was being provided in the market. We see really good growth, and that's evidenced by just the sheer amount of activity that's going on in Auckland, let alone the fact that the economy is actually performing pretty well. We think this thematic around density going to one to eight blanket across the whole market is just not going to play out.
Our stock can't support it, for starters, secondly, the average size of your occupier in Auckland is less than a single floor plate. If you're trying to shave 10% off your floor plate, you're talking about taking it from 900 sq m to 810. Those benefits in a workforce where you're trying to attract talent, it's just not playing out that way. We're fortunate enough, I suppose, to have a pretty large portfolio where we can test and understand and analyze just the extent of demand and whether density ratios are in fact going to levels which some people see, but we just don't see. I think that piece has been quite important. The second thing, though, is that we see demand being quite strong, and again, another example of that is our exposure in Generator.
We have effectively launched in the last seven or eight months, 10,000 sq m between Wynyard Quarter and Britomart Place of completely speculative space or uncommitted space. In Wynyard Quarter, we're now above 80%, and at Britomart, we're already above 60%, notwithstanding it was launched literally two and a half months ago. We're in conversations with occupiers on a daily basis. We're seeing these things playing out. We see good demand, we see it carrying on for some time.
I suppose the angle I was looking at was on which sub-sectors, if it's healthcare, education, financial services. I can see professional services was the top category on that slide.
Yeah, I think we've also seen general admin and supportive services being really strong, too, which kind of makes sense when you've got activity levels elevated in the way that they are. That chart, I can't recall what page it's on, sets out where the demand has come from. Generally, yeah, look, professional services, admin and supportive services as well as financial and insurance services.
Okay, that's fine. Thank you very much.
Thanks, Tony.
Thank you. Your next question is from Nick Mar from Macquarie Group. Go ahead. Thank you.
Morning, guys. Just a few. Can you talk me through the construction contract for Number One Queen, how it can be a 50% fixed price contract?
We've agreed fixed prices with 50% of the subcontractors. We'll work through between now and the rest of the year, to progress the remainder and move it to 100% fixed price contract.
Is it that the construction, the main contractor, is taking a different risk here than they usually would? Or is this just, it takes time to get to 100% on the whole contract?
I think it's a bit of both. Generally, when you head into a fixed price contract, you will have a portion of the contract that's either a series of provisional sums, which are estimates from your QS. In a situation where you progress your design really considerably, you can obtain 100% fixed price up front. In this instance, particularly with the concerns in the market and allocation of risk and the stage that you are at in terms of design, there's generally a managed approach in terms of how you get to ultimately a fixed price contract. 50% at this stage feels good for us given how far advanced we are in terms of design. We're working through the balance of those trades. Our estimates for the balance remain good, and we're comfortable with those.
That's great. On construction costs, one area we've seen a lot of inflation has been around fit-out costs. Have you had any feedback from the tenants, particularly those going to Commercial Bay, about affordability of that fit-out and what they're having to stump up with and whether or not you guys can help them more on those?
Yeah. Look, construction costs, generally, there's no question that they are continuing to rise. Whether it's fit-out or more general construction, it doesn't really differentiate materials and labor. We have had some discussions with some of the occupiers that are moving into not just Commercial Bay, but also into our existing PwC Tower or some of our other spaces where fit-out costs are elevated. Look, we haven't had to help anyone out in terms of funding those. Generally, when a business is facing a decision as to whether they stay put or relocate, they are considering costs to fit out be it in their existing premises or in their new premises. The cost there generally is kind of neutral.
Yeah. Just on the lease tails, you generally have six months lease tail buyout for some of the tenants moving into Commercial Bay. Given that the new completion date's December, are you guys and your tenants feeling comfortable with that level of certainty?
Yeah, we are. We still have quite a bit of headroom before we start getting close to some of the expiries for those parties that are coming from outside of the portfolio. Perhaps when we first contracted to them, we actually felt like that period of time was too long. As things have prevailed and the construction market's gotten harder and harder, it's playing out that it's very helpful for us that we've got some decent headroom between when we think we'll finish Commercial Bay in December next year and when some of those leases expire. We don't have any major concern there.
Yeah. No, that's cool. Just lastly, what's your expected timeframe for the new hotel to ramp up to give you a 7% stabilized yield?
Yeah. It's an interesting question, Nick, because at the moment, we're seeing new hotels open and trade fully from day one. We think we will have strong demand because of our location, we hope that that would be the case. Look, it depends on what the market is like when we open in 2022, how long that takes. You typically would expect that to happen over the first couple of years.
Great. Thanks, guys.
Thanks, Nick.
Thank you. The next question is from Shane Solly from Harbour Asset Management. Go ahead. Thank you.
Good morning, guys. Just a couple of quick questions, they're pretty basic ones. To start with, just interested in what your thoughts are on net operating income growth, given you've outlined a pretty firm market. Can you talk about rental growth? Can you talk about incentives, a bit of a guide on tenant incentives? Be useful to understand maintenance, CapEx, a guide on that. Then finally from me, can you just talk about management expense ratio, please?
Hi, Shane. George here. I'll try to tackle some of those to start with. Look, in terms of rental growth across the portfolio, Auckland stabilized assets I've talked about some really strong leasing that we've seen on space that's become vacant against contract, which has been double digit. Going forward, look, I think we'll continue to see 2%-3% growth coming through. Where we have expiring leases and then capturing some of the current under renting in the portfolio, I think we'll continue to see some of that stronger contracted growth appearing. In terms of incentives, Auckland stabilized portfolio, we are sort of very modest levels of incentives, up to maybe around half a month per year of lease term. It's a bit more than that on Commercial Bay leasing. Still sort of, through the stabilized portfolio, very modest.
Depending on the occupier, in some cases, we're just doing a net rent deal and don't have any incentive involved. In Wellington, we are seeing good top-line growth, but as we already talked about, that OpEx growth from insurance has hurt us this year. We would hope that that would start to moderate in the next couple of years, which might help the net rent growth. We're seeing strong demand for available space. There is just so much space taken out of the market down there. Across our One Willis Street and Dimension Data House assets, we're seeing good levels of demand and achieving rental outcomes which are, again, double digit against what was previous passing.
In terms of your question around the MER, it's in the annual report. It has fallen in the year as the total portfolio value's got larger, and there's more capture of the lower base fee amount.
Maintenance CapEx.
On your question on maintenance CapEx, I think that goes to a lot about the assets that we've sold that were quite hungry, and a lot of maintenance CapEx that was spent on those assets. In the period kind of 2012 through 2014, there was a lot of catch-up maintenance that had to be spent. I think as we transition more to a newer portfolio, that maintenance CapEx will come down to where we've guided previously.
Okay, thanks, guys.
We don't actually have the MER at hand.
No, that's fine. I appreciate the detail. I'll go and hunt it down. Thank you.
Thank you. The next question is from Jonathan Davis from ACC. Go ahead. Thank you.
Morning, Scott and team.
Morning.
Thanks for the update on that AMP Centre. How much of that NZD 15.4 of CapEx is still to be spent?
I don't know the exact number, but it's a good portion of it, because it relates to leasing which we have secured. We have some CapEx, albeit, I would say, if I had to make a guess, probably less than five, but around that level.
Okay. Just digging into the yield on that One Queen Street a bit more, what is the sort of underlying occupancy estimate and average room rate assumption that you've got in that yield?
Yeah. Look, I won't go into the detail of the exact assumptions around room rate and occupancy. Generally, a stabilized level of occupancy sits in the 80% range. The room rates that we are assuming are based on what is currently being achieved for the top hotels in the current market. We think our offer will sit better than what's currently in the market, and that gives us comfort around those levels.
Was that kind of north of NZD 300?
Yes, it is. It would be in that three-plus range.
Okay. That's it from me. Thanks.
Thanks, Jonathan.
Thank you. Once again, if you do wish to ask a question, please press the star key then one on your phone and wait for your name to be announced. Thank you. There are no further questions at this time. I'll now hand back to Mr. Pritchard for any closing remarks.
Thanks, Jodie. Look, once again, I'd just like to thank everyone for dialing into the call. Some great questions. We're really pleased with our result. We're really pleased with your support and if you have any other questions at any stage, please feel free to give us a call. Thanks, everybody.
Thank you very much. That does conclude our conference for today. Thank you all for participating. You may now disconnect.