Good morning, ladies and gentlemen. Welcome to the CAPREIT fourth quarter and year-end results conference call. I would like to turn the meeting over to Mr. David Mills. Please go ahead, Mr. Mills.
Thanks, Donna. Good morning, everybody. Before we begin, let me remind everyone that the following discussion may include comments that constitute forward-looking statements about expected future events and the financial and operating results of CAPREIT. Our actual results may differ materially from these forward-looking statements, as such statements are subject to certain risks and uncertainties. Discussions concerning these risk factors, the forward-looking statements, and the factors and assumptions on which they are based can be found in our regulatory filings, including our annual information form and MD&A, which can be obtained at sedar.com. I'll now turn things over to Mr. Mark Kenney, President and Chief Operating Officer.
Thanks, David. Good morning, everyone, and thank you for joining us today. Joining me today is our Chief Financial Officer, Scott Cryer. We continue to demonstrate the strength of our business with another quarter of exceptional performance, as shown on slide four. Revenues were up 8% compared to last year, driven by the positive contribution from our acquisitions, strong increases in net average monthly rents, and continuing high occupancies. NOI rose a solid 11.6% in the quarter due to the higher revenues as well as lower realty taxes and utility costs as a percentage of operating revenues. FFO rose 15.4% in the quarter, driven by our revenue growth and our continuing strong operating performance. We also maintained our track record of strong accretive growth with NFFO per unit up almost 9%, despite the 6.1% increase in the weighted average units outstanding.
As you can see on slide five, it was another record year for CAPREIT, with strong increases in all of our key performance benchmarks. Revenues were up just under 8%, with NOI up almost 12%. Our proven track record of organic growth also continued with our same property NOI up 8% for the year. Our strong performance continues to be driven by our ability to generate strong increases in net average monthly rents and stable high occupancies. The acquisition of 1,791 suites and sites in 2018 also contributed to our growth and will make a significant full year's contribution in 2019. Additionally, the sale of 900 older, non-core suites has further enhanced the overall quality and average age of our portfolio. The sales realized CAD 81.9 million in cash proceeds that is being recycled into more accretive growth initiatives.
NFFO, the main measure of our performance, rose a significant 15.5% for the year, driven by the growth in revenues and our continuing strong increases in stabilized NOI, generating a very conservative NFFO payout ratio of 65.7%, much improved from the 70.3% last year. This solid payout ratio, supported by what we believe is one of the strongest balance sheets in our business, supports our ability to deliver sustainable and growing monthly cash distributions to our unit holders. In today's environment of economic uncertainty and volatile capital markets, our record of steady and stable income is a distinct advantage for unit holders. Slide six shows the key drivers of growth and why we continue to deliver real value to our unit holders. A rigorous focus on business fundamentals has resulted in 21 years of growth and success. We look forward to this continuing.
A key driver of our continuing ability to generate increases in revenues is our diversified property portfolio. Occupancies were at near full levels at year-end of 98.9%, up from the prior year and maintaining our track record of strong occupancies through all economic cycles. We also continue to generate increases in monthly rents, up 5.7% in 2018 from the prior year, with increases across most of our target markets. Supporting these increased rents were a very solid 11.4% increases on suite turnover in 2018 on 21.5% of the portfolio. Despite rent control legislation in two of our largest markets, we saw 2.2% increases in monthly rents on lease renewals, demonstrating the success of our ability to retain residents and our above-guideline increase applications. Our same property portfolio also performed well in 2018, with organic growth in NOI of 8%.
A key factor in this continuing strong growth rate is our steadily improving NOI margins, which strengthened to 63.5% in 2018, up from 61.5% last year. In summary, 2018 was another very strong year for CAPREIT, and we are confident in our focus on our business and will continue to benefit unit holders for the years to come. On the international front, we continue to be pleased with our performance in Dublin, as detailed in slide seven. Since the IRES IPO over four years ago, we have received a total of CAD 24.5 million in asset and property management fees, with 2018 fees up 18% from the prior year. During the second and fourth quarter of 2018, we increased our ownership position in IRES to 18%, reflecting our confidence that performance in Dublin will remain very strong going forward.
Our retained interest also continues to generate a solid stream of dividend income, amounting to CAD 16.3 million to date since the IRES IPO in 2014. Turning to slide eight. During 2018, we significantly expanded the size and scale of our Netherlands portfolio, generating a very strong CAD 23.8 million in NOI for the year. On December 11th, 2018, we announced our intention to sell our Netherlands portfolio to European Residential REIT, creating Canada's first REIT focused solely on the European multi-residential market. The proposed purchase will be CAD 634 million, satisfied by cash, shares in ERES, and the assumption of mortgages. Once completed, CAPREIT will own approximately a significant majority of ERES, and we will continue to generate a growing base of fee revenues for our asset and property management services. We expect this transaction will close sometime in the first quarter of this year.
I'll now turn things over to Scott for his financial review.
Thanks, Mark. Turning to our balance sheet on slide 10, we continue to maintain a strong and flexible financial position with a conservative leverage, strong coverage ratios, and a historically low interest cost on our mortgage portfolio. Debt to GDV was at an all-time low of under 40%, putting us in a great position for future acquisitions and developments. At year-end, we had approximately CAD 66 million available on our acquisitions and operating facility, excluding the temporary bridge facility. Subsequent to year-end, we closed on an equity raise with gross proceeds of CAD 287.8 million, which was used to partially pay the acquisition and operating facility, puts us in a good position for future growth.
As Mark mentioned, the strong liquidity position is after the purchase of 1,791 suites and sites during the year for CAD 504 million, and the sale of 900 older non-core suites for cash proceeds of CAD 81.9 million. Our mortgage portfolio remains well-balanced, as shown on slide 11. Looking ahead, our ability to top up on renewal mortgages through 2026 will provide significant liquidity to fund our acquisitions and development pipeline. In 2019, we have CAD 287 million in mortgages maturing with an average in-place interest rate of 3.46%. We expect to refinance approximately CAD 120 million in principal repayments with new mortgages. At year-end, 97.5% of our current Canadian mortgages are CMHC-insured, providing us with a large and diverse group of lenders willing to work with us at rates below conventional financing.
It's also important to note that 100% of our mortgages are on fixed interest rate basis, shielding us from anticipated rate increases in the future. Finally, you can see that we have approximately CAD 420 million of our properties non-encumbered by mortgages at year-end, providing further flexibility to fund our growth and investment programs going forward. Over the long term, we intend to maintain these unencumbered investment properties with an aggregate fair value in the range of CAD 180 million-CAD 250 million, expect to have subsequent financing on acquisitions which are currently unencumbered for approximately CAD 130 million. On the liquidity front, again, we remain well-positioned to continue our growth programs, as shown on slide 12. Our liquidity position on our credit facility stood at approximately CAD 66 million at year-end, excluding this temporary bridge.
With the closing of our equity offering, the strong liquidity position provides us the resources and flexibility to fund future growth. I'll now turn things back to Mark to wrap up.
Thanks, Scott. Looking ahead, we have defined three strategic objectives that we are confident will continue to build our future and build value for our unit holders. We will continue to invest in our operating platform and our people, capitalizing on the significant talent and expertise at CAPREIT. We will maintain our focus on resident satisfaction, building on our reputation as Canada's landlord of choice in our chosen markets. We will continue to strengthen the value and potential of our property portfolio through a number of initiatives that reduce its average age and enhance the stability and potential for continued revenue increases going forward. Turning to slide 15, we believe we have one of the best operating platforms and best teams in the business. We will continue to invest in the latest technologies that allow our people to drive efficiencies and control costs.
For example, our in-suite turnover tablet solution allows our site staff to maximize revenue by reducing vacancy and proactively managing repair and maintenance activities to lease a suite faster. Our new tablet-based operations manager checklist creates an efficient system for on-site inspection of common areas, consolidating a wide range of tasks, procedures, paperwork, and approvals. We are also investing in new risk management solutions in a number of areas to help us better manage our future. As a testament to the engagement of our people, we have been chosen as one of Canada's Best Employers for six years in a row. Slide 16 describes some of the initiatives we are employing to drive resident satisfaction. By strengthening our market reputation as the landlord of choice in our markets, we keep our buildings full and maximize revenue growth.
New solutions are being developed to enhance our residents' experience, including an online leasing system for prospective renters to complete leases online. Current residents will also be able to reserve CAPREIT services. The portal will allow us to tailor personalized messages for residents, and data from the portal will be accessed by new analysis software that tracks leases and resident service requests through a new centralized building management system. All of these initiatives will maintain our proven hands-on approach to property management, one that has driven our growth and our success for more than 21 years. Another key objective, as detailed on slide 17, is to modernize our property portfolio and diversify its average age. We are recently finding newer properties that are a good addition to our portfolio. Most of our Canadian acquisitions in 2018 were recently constructed, are modern, and very attractive.
We are selling older, non-core properties, recycling this capital into more accretive growth opportunities. Our development and intensification programs will further drive modernization as we accretively build new suites on our own properties. Over the long term, we believe we can add in excess of 10,000 new rental suites, primarily in the very strong markets of Toronto and Vancouver, where demand remains strong, and average monthly rents support the profitable investment of buildings. We currently have applications in for two development sites in Toronto and approved building permits in Montreal, which combined will add 318 suites to the portfolio when completed. In January, we held our company-wide strategic review, explaining and engaging all of our people in our long-term goals. We concluded our meeting with the messages on slide 18 that sum up our objectives going forward.
To be the best place to work for our people, to be the best place to live for our residents, and to be the best place to invest for our unitholders. We have met these goals for the last 21 years, and we are confident our growth and success will continue. We continue to look forward to keeping you updated on our progress. We were also very pleased to announce a distribution increase of 3.8%, effective with the March payment. It signals our confidence in CAPREIT's future and our commitment to enhance unitholder value. We would now be pleased to answer any questions that you may have.
Thank you. We'll now take questions from the telephone lines. If you have a question and you're using a speakerphone, please lift your handset before making your selection. If you have a question, please press star one on your telephone keypad. To cancel the question, please press the pound sign. Please press star one at this time if you have a question. There will be a brief pause while participants register. Thank you for your patience. The first question is from Jonathan Kelcher from TD Securities. Please go ahead.
Thanks. Good morning.
Morning.
Morning, Jonathan.
First question, just on the turnover. It's been trending down. Where do you think that goes for 2019?
If you're referring to the churn rate.
Yeah
I think we're at a point now where I think we're going to see the bottom. As more market rents get populated into the rent roll, you'll get a little bit more churn. We continue to see rising rents in all of the markets. I think we're near the bottom right now. We're in uncharted territory, to be honest, and never seen a situation where it gets much lower than this.
20% would be a sort of good number?
Yeah.
Okay. On the lift on the turnovers, based on what you are seeing in current market rents, I guess two parts. One, it is kind of accelerated into Q4 at just over 14%.
The full year, 11.5. Do you think that is a sustainable number for next year? Well, for this year, 2019.
We are not signaling any change in trend at this point. There is nothing to indicate in the market that anything has changed.
Okay. Then just secondly, on the ERES transaction, I guess longer term, are you looking to do something similar to what you have in place at IRES in terms of ownership and everything else, really?
I think we like our healthy ownership position in ERES . We remain very committed to the Netherlands, and we'd like to see our ownership position stay at this level, if not grow. We're there for the long term, and we love the asset class there, and we think this is a great structure.
Okay. Then, I guess the acquisitions that you have now that you've recently done in the Netherlands, you're just warehousing those for ERES for when it's up and running?
Yeah, that's correct. We'll close out the CAD 630 million, which was the portfolio up to Q3 of this year, and then all the new acquisitions, ERES will have the optionality to take those in at predetermined prices based on just their own growth prospects and the ability to raise capital.
Okay, thanks. I will turn it back.
Thank you. Once again, please press star one if you have a question. The next question is from Matt Kornack from National Bank Financial. Please go ahead.
Morning, guys.
Morning.
Just had a few questions on some of the Q4 numbers, Scott. There were some changes, in particular, in other revenues and in op costs that were pretty significant. I do not know if that is accounting or if you saw something specific there.
Yeah. Maybe we could take it offline, and you can point out specifically what you're looking at. In NOI, there was definitely some non-controlling interest. We took out our partner, Rubens, that was basically providing asset management services right out of the gate and co-invested in the property in the Netherlands. We've kind of dissolved that relationship. A big chunk of that NOI change was related to that non-controlling interest.
Okay.
Yeah.
Is there any impact on your numbers in 2019 from IFRS 16, I believe it is? I know some of your peers are changing their reporting.
Yeah, there will be. I wouldn't call them very significant relative to our portfolio size. It's really focused around our land leases, mostly in Calgary, and one in Vancouver. There's four in total. From a FFO point of view, that should all be normalized given the REALPAC white paper changes. We're just looking at what to do with the NOI impact. We'll conclude on that, and there may be, I'll call it, a non-GAAP version of NOI. We're just trying to conclude on that, but that should normalize it.
Okay. Fair enough. I guess the last accounting question here. With regards to the Netherlands spin-out, it'll be fully consolidated with the non-controlling interest. For your reporting standard, at least in the near term, there shouldn't be too much difference because you own as much as you do.
Absolutely, yeah. We can't really give a specific number of where we'll end up because I think it's going to depend on how quickly we could go to the market and how we contribute assets. We expect to be at a very high percentage ownership out of the gate and consolidate fully.
Okay. Fair value gains. There was.
Yeah
pretty significant write-up of assets in this quarter, catching up essentially with the Street now. I don't think that materially is out of where we see things.
Yeah.
It's approximately half-half NOI growth and a little bit more NOI growth, and then cap rate compression. Just wondering, thoughts on further cap rate compression from here on out. I know Blackstone has been participating in the Canadian market now. Do you think that drives cap rates even lower?
Yeah. I think our valuations are kind of middle of the road. There's definitely been some transactions we saw, especially in Q3 and 4, that have pushed them quite low. I think, a tempered interest rate environment coupled with the last eight quarters of top-line growth and seeing increases in the turnover list has really changed the dynamic. It's hard to say what the long-term sustainable side is, but we're definitely not being aggressive in our cap rate relative to some of the transactions we're seeing.
There continues to be very limited product available in the marketplace and continues to be a lineup of people that are interested in multifamily. Again, no change. If anything, as Scott said, perhaps even more mildly compressing cap rates due to some interest rate moderating we've seen.
I know in Canada, capital gains are an issue, and you can't really defer them. Do you see any incumbent owners of Canadian multifamily potentially looking to exit that would provide an opportunity for you guys to scale further, or is it just still very limited?
That was an active part of the business plan, Matt, as you know, a couple of years ago. Not really.
Yeah.
A family portfolio can come to market out of the blue, but it's not a trend of any sort anymore. It's more sporadic and very difficult to predict. There was a recent family portfolio that came to market in Oshawa that was, again, going to set record valuation.
That's good. Last minor question here. On the mortgage side, I think you had a CAD 50 million up financing on a CAD 5 million mortgage. Was that just something that was a low LTV to begin with or was there something else there? How do you see up financing for the next year in terms of how much you'll get out of the portfolio?
Yeah. I think the CMHC is getting a little bit more in line with valuations. It's always hard to predict what our total LTV will be. We think we have a significant upside on those top-ups, given where fair values have gone. We've really been doing 10-year money for the last 10 years. We're starting to come up to properties which are pretty low LTV. I think our overall mortgage portfolio is 34% leverage. Yeah, some significant upside on that. Overall, I think rates have come back in after spiking a little bit there. Less of a potential headwind as it was maybe even six months to a year ago.
Your CMHC-insured spreads have remained pretty consistent regardless of where the underlying has moved.
Yeah. They definitely popped up for a while there, but they've seemed to have settled back into a longer-term average of the 100 basis points. Slightly below that in a lot of cases. They moved around, especially with the banks. We continue to find that 100 basis point or less financing with some of the other non-bank institutions.
Okay, great. Thanks, guys.
Thank you. Your next question is from Michael Markidis from Desjardins. Please go ahead.
Hi. Thanks. Good morning, guys.
Good morning.
Just on IRES, can you guys remind me what the term of the management agreement is, and whether or not it's been renewed or what the plan would be there, or what the probable outcome might be?
Yeah. It is coming up. Basically, I think it's about under two years now, and we have to get into a negotiation on that, obviously, well in advance of the end of the contract. That's something that we'll be discussing probably within the next 12 months to try and come to a new common ground on what that asset management agreement looks like.
IRES board and CEO have been very vocal attributing the success of IRES to our management. It's been a very good relationship.
Okay. Moving on to a different topic here. Davisville and Wellesley, appreciate that you're still going through the machinations of the approval process with the city. Presuming that you guys do get approval on those from the city within a reasonable, i.e., I don't know, 12-month timeframe, just given where construction costs and development charges are heading, does the math work on those projects at this juncture, or is it foregone conclusion that you'll start, or is it still a question mark?
Well, it's one of these situations. You're right about changes to construction costs. There's a big volume of condos that are coming to market that have all of the trades tied up right now. We do have an ability to continue to push on density there, our time would be better spent pushing on the density and waiting out the bubble of busy trades. It is a slower game than we're certainly used to, but we're going to focus on the density. There's another chance there to get a little more density.
Okay. Had the privilege of attending a FRPO luncheon yesterday, Tony Irwin sort of laid out a four-point plan to address the supply crisis in Ontario on apartments. One of the things that he had sort of brought up was potentially requesting the government to move to a CPI plus 2%, or I guess, rent control regime, for lack of a better terminology. I guess, Mark, you're pretty connected with FRPO, or you have been historically. Do you get a sense that there's any real dialogue between the government and FRPO on that, and do you think the prospects of that coming through is somewhat realistic?
As a prior chair of FRPO, I can tell you that this current government is serious about coming up with policy that will draw people into the marketplace. It's still politics, they've made the change. They made the initial change with removing that guideline business on new construction units. Still affordability issues here, I would expect to see the government be cooperative with our industry as much as possible. That's definitely been the new tone out of this current government.
Okay. Just last question from me. I guess some of your peers and then private investors have certainly turned to Montreal more for acquisition opportunities over the last, call it, 12 months. Just curious how you guys view the acquisition environment in Montreal these days relative to other markets in Canada that you're looking at.
It is competitive. There's also a lot of supply there, too. As one of the largest apartment owners in the province of Quebec and as one of the largest owners of apartments in Montreal, we continue to love the market, but we're just being selective. The opportunities that we're seeing, again, are around new construction, and we're bidding, and we're exercising patience. It's a market we remain very interested in.
Okay. That's great. I'll turn it back. Thank you.
Thank you. Once again, please press star one at this time if you have a question. The next question is from Brad Sturges from Industrial Alliance. Please go ahead.
Hi there. Just a couple quick questions from me. Just on the ERES transaction, I guess there's still the shareholder vote on their side still to do. Are there any other hurdles left at this stage to complete before the close of the transaction?
No. Really, the vote is the gating item. I think we're in pretty good condition outside of that around typical tax structuring and consents and whatnot. There's always a little bit of risk in those, we seem to be pretty advanced and in pretty good shape that way.
Okay. Then, in terms of asset sales, you completed a few last year. How do you see that playing out this year compared to last year?
Yeah. You never say never, we spent a lot of time really back in 2017 looking at assets that we felt were just non-strategic, didn't have development potential, didn't have good growth prospects, didn't like the CapEx profile. Quite frankly, we dealt with those, and we waited for our price. Never say never, I don't expect to see the same kind of velocity this year unless the right pricing comes along, nothing currently targeted.
Okay, great. Thank you.
Yeah.
Thank you. The next question is from Mario Saric from Scotiabank. Please go ahead.
Hi. Good morning. Many of my questions have been answered, but I had a quick high-level question. I think, Mark Kenney, you mentioned no change in trend in terms of rent bumps on turnover. The market's really strong. Supply, if it does come, in most of the markets, will probably take a couple of years to get there. When you look out today, over the next two, three years, what are the key risks to that rent growth, NOI growth story that you're concentrating on today?
I think at these kind of rates, the risk has to become affordability at some point. That being said, our affordability proposition in the marketplace is quite attractive. I wouldn't see that revealing itself for a couple of years yet. Other than that, it's always a sudden shock to either the economy or government legislation. On the government legislation front, we're looking very good, certainly in a better place than we were from a risk point of view a year or so ago. Things are even leveling out for us in Alberta from an economy point of view. We have called the bottom before, but it's feeling quite stable out there now, and we're in a good place. Really across the portfolio, I can't think of a market that gives us any alarm.
Okay. I guess one side effect with higher rents generally means tenant expectations come up a little bit. How do you look at your platform today? You highlighted some of the initiatives on the technology side that should improve the tenant experience as well as operationally for CAPREIT. How do you look at the platform today in terms of staffing in relation to potentially higher tenant expectations going forward?
Yeah. It's a good question. Today, my first comment is the higher rents go in the, I'll call it the core original portfolio, the better the quality of tenant, and the expectations actually tend to fall off. When you get into new construction and a building full of all-market rents, it is a very different business. It's a very different business on the leasing front, and it's a very different business on the customer service front. Those buildings, despite these tight markets, will experience higher turnover. They're ongoing, active businesses. The difference primarily is the old portfolio was a value add portfolio. The new construction buildings that we're buying and potentially building into the future are a value add through customer service and rent maximization. These technology initiatives will help the core portfolio obviously and give people a much better experience.
It will be an expectation in the new portfolio as we buy new construction assets and build our own. That's why we're getting ready.
Understood. Okay. My last question, just more of a clarification on the IFRS methodology, perhaps for Scott. As I think it was Matt mentioned earlier on, the significant gain this quarter was half rent or half NOI, half rate. When you look at your NOI or your forecast NOI changes, do they factor in, for example, expected no change in trend in terms of rent growth on turnover? Or, for example, if we get into Q1 2018 and you've delivered another, call it, 10%, 11% increase on rent on turnover, do those numbers then inherently move higher?
Yeah. They are forward-looking in that we stabilize the income for the upcoming year. Our budgeting process utilizes actual turnover by property and rent list by property and renewal rates by property. It's a very granular level exercise, and it rolls it for that year. I think what that means is with the lower turnover, as much as the rents are lifting, only so much of it is going into the stabilized NOI. We would expect if the markets continue, our valuations will continue to increase as a result. It's tough because in four quarters, our AMR has gone up from 2.3% change in 2017 Q1 to 4.6% in 2018 Q4. There's been such rapid movement. It's hard to make sure you can build that in.
We think we've been conservative enough in both our cap rates and our NOI assumptions that there should be further growth in the future.
Great. Fair enough. For the portfolio in totality, where would you estimate the in-place versus market rent cap sits today?
Obviously, regionally, it will vary and by building, we're well in excess of 10%.
Okay. Thank you.
Thank you. There are no further questions registered at this time. I'd like to turn the meeting back over to Mr. Kenney.
Thank you very much for attending the call today. We appreciate your ongoing interest in CAPREIT.
Thank you. The conference has now ended. Please disconnect your lines at this time, and thank you for your participation.