Good morning, ladies and gentlemen. Welcome to the CAPREIT first quarter 2018 results conference call. I would like to turn the meeting over to Mr. David Mills. Please go ahead, Mr. Mills.
Thank you. Good morning, everyone. 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 CAPREIT's regulatory filings, including our annual information form and MD&A, which can be obtained at sedar.com. I'll now turn things over to David Ehrlich, President and Chief Executive Officer.
Thanks, David. Good morning, everyone. Thank you for joining us today. With me is our Chief Operating Officer, Mark Kenney, and our CFO, Scott Cryer. As you can see from slide four, 2017 was another record year for CAPREIT. All of our key performance benchmarks were up over last year, with continuing strong organic growth. NFFO increased just over 8%, driven once again by solid portfolio growth and strong same property NOI. Importantly, our growth continues to be accretive as NFFO per unit rose 4%, despite strong leverage and the 4% increase in the weighted average number of units outstanding. Our NFFO payout ratio also remained conservative at 70.3%, strengthening once again from last year. Our record performance continues as we go from strength to strength, as you can see in the first quarter of 2018 from slide five.
Revenues were up 8% compared to last year's first quarter due to the positive contribution of acquisitions and continued increases in average monthly rent and stable high occupancies. NOI rose a very strong 11.8% on the higher revenues, lower realty taxes, and reduced utility costs as a percentage of revenues offset by higher R&M costs. NFFO rose almost 11% in the quarter, driven by the growth in revenues and our continuing strong increases in stabilized NOI, generating an accompanying strengthening in our payout ratio. The quarter also demonstrated accretive growth as NFFO per unit was up 7.9%, despite the 2.6% increase in weighted average number of units outstanding, resulting from our March 2018 equity interest offering. I'll now turn things over to Mark to review our strong operational performance in more detail.
Thanks, David. Good morning, everyone, and thanks again for joining us today. Turning to slide seven, you can see that we continue to perform very well from an operational perspective. Occupancy remained strong and stable with our average monthly rents rising in both the apartment and MHC segments of our business. Our ancillary revenues continued to grow up 4.7% to CAD 8.6 million in the quarter. Our NOI margin also strengthened, rising to 60.9% from 58.9% in the prior year's Q1. Slide eight shows that our strong track record of organic growth continued in the first quarter of 2018, driven by increased average monthly rents and higher occupancies across all of our demographic sectors and asset types in our stabilized portfolio. Looking ahead, demand remains robust in the majority of our markets.
We see occupancies remaining stable at these nearly full levels, and we believe our average monthly rents will continue to increase over time. Our turnover and renewal rates are doing very well in the majority of our markets, as shown on slide nine, with solid increases in rents. Looking ahead, the rent guidelines for 2018 have been increased in Ontario and British Columbia. 1.8% in Ontario this year, up from 1.5% in 2017, and 4% in BC, up from 3.7% last year. These guideline increases bode well for continued organic growth through the balance of 2018. On suite turnovers, the average monthly rent increased by 9.6% for quarter one 2018.
For the last 20 years, we have demonstrated a consistent ability to generate what we believe is industry-leading organic growth driven by high stable occupancies, increasing revenues, managing our costs, and with enhanced operating efficiencies resulting from our size and scale. As you can see on slide 10, our track record of organic growth continued in the quarter with same property NOI rising at a very strong 7%. We are confident that we can continue to deliver stable and steady growth in same property NOI going forward. We continue to be pleased with our performance in Dublin, as detailed on slide 11. Since IRES IPO four years ago, we have received a total of asset and property management fees of CAD 15.9 million. For the first quarter of 2018, this strong contribution continued, with fees totaling CAD 1.6 million, up 14% from last year's first quarter.
We expect this steady and stable stream of reoccurring income to continue to grow as IRES builds its presence in the vibrant Dublin market. Our 15.7% retained interest in IRES also continues to generate a solid stream of dividend income amounting to CAD 13.3 million to date since the IRES IPO in April 2014. Our new portfolio in the Netherlands also continues to perform well, as shown on slide 12. We have grown our presence in this strong market to 2,088 suites, and we continue to evaluate further expansion opportunities in the country. Similar to Dublin, we are exporting our proven property management and marketing programs to these new properties. In 2017, we generated CAD 9.3 million in NOI from the portfolio, with a solid CAD 5.2 million in NOI during the first quarter of 2018.
Late in 2017, we opened our own property management office in the country, which we are confident will lead to enhanced operating efficiencies going forward. I'll now turn things over to Scott for his financial review.
Thanks, Mark. Turning to our balance sheet, we continue to maintain a strong and flexible financial position, as shown on slide 14, with conservative leverage, strong coverage ratios, and a further reduction in our interest costs. On March 15th, we successfully completed a bought deal equity offering, raising gross proceeds of CAD 172.6 million, including the over-allotment option. Debt to GBV hit an all-time low of 41.5%, putting us in a great position for future acquisitions and development. With the proceeds of this successful offering, as of March 31st, 2018, we had approximately CAD 210 million available in borrowing capacity on our various Canadian, U.S., and euro credit facilities. It's also important to note that we have approximately CAD 306 million of our properties not encumbered by mortgages as at March 31st, 2018, providing further flexibility to fund our growth initiatives and investment programs going forward.
Our mortgage profile remains well-balanced, as shown on slide 15. As we approach 2019, our ability to top up on renewal mortgages through to 2026 will provide significant liquidity to fund our acquisitions and development pipeline. Through the balance of 2018, we have approximately CAD 115 million in mortgages maturing, with an average interest rate of 3.08%, and expect to refinance approximately CAD 86 million in principal repayments with new mortgages. As of March 31st, 2018, 97.3% of our current mortgages are CMHC insured, providing us with a large and diverse group of lenders willing to work with us at rates well below conventional financing. On the liquidity front, we remain well-positioned to continue our growth programs, as shown on slide 17. With the completion of our CAD 172 million bought deal equity offering in March, our liquidity position stood at approximately CAD 210 million.
I'll now turn things back to David to wrap up.
Thanks, Scott. As you know, in 2017, we celebrated 20 years of growth and performance since CAPREIT's initial public offering in November of 1997. As you can see on slide 18, our portfolio growth and proven operating programs have generated over two decades of strong and accretive cash flows with conservative payout ratios through all economic cycles. We are highly confident that this track record will continue in the years ahead. We are also extremely confident in our opportunities for new development. We have now identified over 50 sites across Canada, primarily in BC and Ontario, all having strong development potential with a mix of intensification through infill and redevelopment. We have initiated the development approval process on two infill projects within the city of Toronto. Both are completed applications that are now under review by the city. These are prime locations in Toronto.
Additional applications will be initiated in Ontario and BC in the coming months. We believe well in excess of 10,000 net new apartments will be advanced in the near to mid-term. As stated previously, we believe developing these new properties will generate very strong and accretive returns for our unitholders. In many cases, we will also strengthen the value of the existing adjacent properties we own through shared amenities and other realized operating efficiencies. Providing the current market environment for profitable development of purpose-built rental remains strong, as we and most in the market believe. These investment opportunities will continue to represent exciting and accretive value for CAPREIT, will also bring a significant number of new buildings into our portfolio. We very much look forward to keeping you apprised with greater detail in the coming quarters and on our Investor Day in June.
In summary, we continue to remain very confident in our future. We've proven our ability to capitalize on continuing strong fundamentals in the apartment business through all economic cycles. We continue to maintain strong financial position with the flexibility and resources to continue our growth and sustain our monthly distributions over the long term. For the last 20 years, we have demonstrated that our business strategy is succeeding and prospering, we will continue to build on this going forward. Thank you for your time this morning, we'll now be pleased to answer any questions you may have.
Thank you. We'll now take questions from the telephone lines. If you have a question and 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, Jonathan.
Morning.
First on the operations, the 9.6% lift on turnovers. Can you maybe give a little bit of more color on that? I'd assume Toronto and Vancouver were the big drivers in that.
Yeah. There's no question the majority of the effect is coming out of Toronto and Vancouver. What we're really encouraged by is we're seeing strength in all of the markets right now. There's pretty much not a market in Canada right now that we're that fearful of, the whole portfolio's performing well.
Okay. If you look at the portfolio now, what would you think the delta is between in-place rents and current market rents?
Yeah, it's difficult to say, because as we hit these market rents, we're seeing a bit of a slowdown in turnover. It's very difficult to say, Jonathan.
Okay. Just turning to development, really, I guess, from a high level here. Has the board laid out how much development that you guys would be comfortable doing at any one time on your balance sheet?
No. We're in a process, which has been ongoing, of developing or analyzing the opportunities, and then we'll roll into developing a strategy, which may be different for different sites and so forth. That's the next step for us.
Okay. Do you have any minimum hurdle rates or unlevered yield targets that you'd be aiming for?
No, it's really site specific, Jonathan. Much goes into this. If you have a common garage, for example, that you can take advantage of on infill, that's a big advantage. If somebody can do partial condo on a site and you keep the rental, that's another proposition. Every situation is quite unique, and in fact, based on the site parameters and what's already built there in some cases or what you're infilling with.
Okay. Just on the two applications that you have in now, what would be your best guess on when you'd begin construction?
It's a little hard to know. As you know, with the changes with the OMB and so forth with the city, it's a little unclear how long that will take. I wouldn't want to comment until things settle down a little bit, we see how other applications progress. They're not very aggressive in the sense that they kind of match what's already there in the neighborhoods and so forth, so they shouldn't be controversial.
Okay. Would you think you're in the ground this year, or is it more of a 2019 or 2020 timing?
We're optimistic about, call it the end of 2019, and I think a conservative guess would be early 2020.
Okay. Thanks. I'll turn it back.
Thank you. The next question is from Mike Markidis from Desjardins. Please go ahead.
Hi. Thanks, everybody. Mark, I think last call you'd alluded to, or in 2017, you guys had higher R&M costs, and that you were expecting that to normalize somewhat this year. It seems like the verbiage still suggests that you're still seeing a higher year-over-year figure. Could you maybe just elaborate on what you saw in the quarter and how you expect that to trend over the rest of the year?
Yeah, I think that we had given an indication of stabilizing in R&M. We see that happening this year. You've got to remember, R&M does always remain a discretionary number to a certain extent, and we've been tailing off some of our CapEx spend and really doing more maintenance type of work. Our guidance around what we're going to give and do this year remains the same.
Okay.
CAD 950 a unit is what we're targeting.
With the amount that you incurred in 1Q, I understand it's probably maybe a little bit seasonal, would that differ too much from the 950? Is that going to continue to trend down throughout the year? You think you're kind of at a level now where it'll be consistent?
Yeah. Again, I think Q1 run rate, if you annualize it, was close to 1,000. We're still planning that 950 level. I think Q1 of last year was a little bit lighter.
Okay
Sticking to that CAD 950 figure is probably the right move.
About 1,000 this quarter. That's really helpful. Thank you. Just the G&A for the second quarter, you guys had about CAD 2 million of non-routine expenses. Don't need the details, curious, are you expecting that to abate going forward? Or will we see another couple of quarters of elevated G&A?
Again, we're cautious to say non-recurring. Obviously, we continue to try and optimize our business. That was represented in this quarter as well. We did have a significant amount of expenses related specifically to Netherlands and set up and whatnot that all hit in Q1. Those are definitely lumpy that we wouldn't expect going forward.
Okay
if you strip that out, it's a pretty good run rate. The nature of our business is we will have non-routine type of lumpy G&A continuing going forward.
Okay. Last one for me before I turn it back, just on the investment income and how that all flows through to FFO. I know there was an accounting change. I haven't had a chance to study it necessarily. It seems like the contribution when you include the, I guess it would be add back, usually when you have a fair value change, it's a deduction from FFO, was higher this quarter. How should we think about that going forward, Scott?
Yeah. There's two things. One is an investment we have, an equity investment-
in Canada. As a result of an IFRS change, that goes through the P&L, and it didn't before. We're just normalizing that back to how it would've been treated for 2017. Really no change from that point of view, and that income is very consistent. We have our Netherlands. We have a non-controlling interest, which effectively gets fair valued. We're adding back the impact of the fair value piece. That's consistent with our IRES pickup, where we add back the fair value bump as a result of investment property. We're really, in all instances, just eliminating that unrealized fair value gain, comparable to what we do with our investment property.
Right. I think in prior quarters, it was kind of every other quarter that the IRES piece was getting a fair value change.
Right.
The adjustment we're seeing this quarter, is that strictly related to the Canadian investment?
To the Netherlands and to the Canadian investment income.
It relates to both. Okay.
Yeah. Because the Netherlands component, we mark-to-market, what we'll call the liability on that, the non-controlling interest every quarter.
Is that breakdown between the two in the MD&A or not? I haven't had a chance to dig through it.
Yeah, it should be.
Okay, great. That's it for me. Thanks very much.
Thank you. The next question is from Mario Saric from Scotiabank. Please go ahead.
Hi, good morning.
Morning.
Morning, Mario.
Just wanted to kind of come back to the R&M question and then maybe broadly speaking, the margins. Your margin was up pretty strong year-over-year in Q1, kind of offsetting the reduction in the same property NOI margin in Q4. About 160-170 basis points. I know timing plays a role into it and whatnot, but can you maybe talk about what is driving the kind of fluctuations in the year-over-year margin changes in the past couple of quarters?
As it relates specific to R&M, again, we're making good business decisions. If we feel that investing in maintenance is a good business decision, we'll do that. That's actually proven itself out to be the right strategy. As Scott said earlier, if we look at sort of the run rate based on how we see the spend rolling out over the year, we are comfortable with that CAD 950 number, and we will update as we go. Again, it's always done around good business decisions and a good use of cash.
Really that top-line growth has been so strong, and we've been able to maintain through our energy efficiencies and kind of hedged commodity pricing on utilities. We've been able to maintain that fairly flat, as well as our realty taxes. That definitely has some movement in the margin, but we see it as positive moving forward, given that top-line growth and stability of everything else.
I guess in the disclosure, in the geographic kind of dispersion breakdown, you kind of talked about lower utility costs, but in a couple of provinces like Ontario, Quebec, I think B.C. as well, lower wages were referenced in terms of the year-over-year improvement in the margin or the same property NOI. Just wondering what would be driving the wage efficiency that you're seeing in those markets, given that they're fairly tight labor supply markets.
It's what Scott alluded to earlier. Continuously seeking efficiencies in the portfolio. We're clearly seeing that with the slowdown in turnover, our staffing requirements are different, and we're clearly seeing that our CapEx investment in the buildings is paying off with lower maintenance requirements. Our crews are diminished. That is, I think, just a reality of the maturity of the portfolio now.
Okay. I guess maybe a broader question on the margin. As you look out, your 2017 margin was 61.5% or so. As you look out into 2018, how should we think about the broader margin growth this year? Can you expect further margin expansion, flat-ish? It sounds like the margin has room to go higher year-over-year, any color on that'd be great.
I think everyone's hitting on the topics. I think you're seeing a positive trend around wages. You're seeing a positive trend around R&M, you're seeing a positive trend around our revenues, and that's all leading to better margins. We continue to remain optimistic that we'll find efficiencies in the portfolio and produce good results.
Okay. No, that's good. Just maybe somewhat of a related question just on CapEx. Your budget for 2018 was unchanged at just under CAD 190 million. The budget for building improvements came up a little bit, offset by a decline in the in-suites, which I guess makes sense given the natural strength that you're seeing in the market. I'm just curious in terms of what's driving the expected increase in the building improvement quarter-over-quarter, and then I guess through 2021, we saw a bit of an increase as well.
Yeah. We did end up with some carryover items on the building structural side towards the end of 2017. We had a lot going on, we also wanted to plan that work for early this year. I wouldn't read too much into that. It's primarily a carryover from 2017. On the in-suite improvements, I think the theme remains consistent. We're seeing in our strongest markets that we don't need to do the level of renovation that we were once doing. We're watching our cash carefully and how we invest that cash. In some cases, just doing basic maintenance is a far better use of cash than doing full renovations. We're going to watch that closely, we like the trend in in-suite spend as well.
It's also there's going to be a lot of volatility in the suite improvements. When you budget, you don't know which units are turning over, so it makes that budgeting process extremely challenging. You have to react to market conditions pretty on the fly. We try and provide that guidance, but the reality is, it's very hard to budget what you're going to do in suite improvements given you don't know what units are going to turn, so.
We'll go over this again on the investor day, but many of you have seen the detail that goes into assessing what we're going to do in an apartment when we turn over. As Scott said, we've got several things going in our favor. Strong markets, slowing churn rate, and better technology, and quicker approvals to determine the appropriate scope to do when we do apartment turnover. We're going to continue to push that. We're doing experiments in every market of the payback on renovation versus the payback on maintenance. The payback on maintenance is clearly the winning strategy for now. We've invested so heavily in the portfolio over the last 20 years. We're in a really, really good spot today to do that. This is the value we've been building for shareholders over the last 20 years.
Yeah, no, that makes sense. Okay. My last question is on the development side. Thank you for the disclosure in terms of the potential upside. Of the 50 high-potential redevelopments, how many would you say roughly would require tearing down existing buildings versus intensifying existing excess land?
It's a very site-by-site analysis. For example, we have situations where we have large city blocks in its entirety with townhouses around, with a huge amount of vacant space in the middle. On a site like that, you may go up with a tower while the townhouses are still there, or two towers, and then demolish those as you go. Every site is different, so it's hard to make a general comment.
Okay.
I think you'll see some exciting color on that during our investor day tour in Vancouver.
Right. Okay. In the two applications in Toronto, what would the total number of incremental units be for those two applications?
We're in the stages of pushing for as much density as we can possibly get. We would put it in the neighborhood of 300 to 400 suites.
Okay, great. Thank you.
Thank you. The next question is from Brad Sturges from Industrial Alliance. Please go ahead.
Hi there. Good morning.
Hi, Brad.
Brad.
Just following up on Mario's question, just on the I guess, the opportunity or the highlight that there's strategic options potentially to try and accelerate some of the development opportunity. Would that be through potential acquisitions of more advanced development sites or in discussions with other JV partners that have sites external to the portfolio right now? I guess I'm just looking for a little bit more color on how you could-
Yeah. There could be opportunities there. We essentially sold a site to get a new property, that kind of thing. It primarily, these 50 for sure.
Our greatest opportunity is within our own portfolio.
You're also going to see some, again, on our investor day, some exciting examples of deals that we've had in the works. Our Kings Club property, for example, in Toronto has been a fantastic success. You're going to see some stuff for those of you that come in Vancouver, there has to be a combination of both of working with developers and sites and some properties we're going to be announcing shortly, as well as our own 50 sites. It'll be a mix of both.
Got it. I guess more operationally, obviously, we know how strong Vancouver and Toronto are. I guess, if you look at Montreal, which is a little bit lower rent, a little bit lower margin, but seems to be really starting to pick up steam, I guess, what are the opportunities you're seeing in that market to perhaps see a little bit better NOI growth and margin growth, particularly given, I guess, what you're seeing from a demand and supply perspective in the market right now?
Well, I think we said it earlier, Montreal is doing well for us. The more we look internally and making our own operation efficient, we've got a great presence in Montreal. For those of you that have seen what's going on in Montreal, it's pretty clear that the city's in transition. I think we're in a great position to take advantage of that.
Mm-hmm. Would that be an opportunity to try and add more scale to the market? Are you satisfied, I guess, at this stage at the size of your Montreal portfolio?
We remain optimistic on the opportunities that remain in Montreal. There's not a lot of value-add companies like ourselves that are focused in Montreal. We remain optimistic that deal opportunities will come our way.
Got it. Thank you.
Thank you. There are no further questions at this time. I'd like to turn the meeting back over to Mr. Ehrlich.
Thanks again for your time and attention this morning. If you have any further questions, please don't hesitate to contact us at any time. Thanks again, and have a great day.
Thank you. The conference has now ended. Please disconnect your lines at this time, and thank you for your participation.