Good morning. My name is Marie. I will be your conference operator today. At this time, I would like to welcome everyone to CT REIT's Q2 2020 earnings results conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during that time, simply press star, then the number one on your telephone keypad. To withdraw your question, please press the pound key. The speakers on the call today are Ken Silver, Chief Executive Officer of CT REIT; Lesley Gibson, Chief Financial Officer of CT REIT; and Kevin Salsberg, Chief Operating Officer of CT REIT. Today's discussion may include forward-looking statements. Such statements are based on management assumption and belief.
These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Please see CT REIT public filings for a discussion and these risk factors, which are included in their 2019 MD&A and AIF, which has been found on CT REIT website and on SEDAR. I would now like to turn the meeting over to Ken Silver, Chief Executive Officer of CT REIT. Please go ahead, sir.
Thank you, operator. Good morning, everyone. Thank you all for joining us for CT REIT's second quarter 2020 investor conference call. For the past five months or so, we have all been living with the implications and consequences of the global pandemic on public health, the economy, and society at large. It's an understatement to say it has been a challenging time, and we've all been dealing with circumstances we could hardly have imagined. Like the stages of grief, I'm sure we have all experienced at various points some degree of denial, anger, and depression over this time. At this point, with a vaccine still only on the horizon, we are learning to accept the situation and how to live with the virus. Like all of you, the management team at CT REIT has been dealing with the twists and turns of this crisis.
Our initial focus was on the health and safety of our employees, our tenants, and our tenants' customers and employees. Preserving liquidity was also an immediate priority. As the impact of government restrictions was felt by our smaller and more vulnerable tenants, we engaged with them to understand how we could help them survive the crisis, even before the federal government announced the CECRA program, which we are participating in. While we couldn't have imagined a global pandemic and the toll it would take, we have long managed CT REIT in a conservative fashion, pursuing a low-risk growth strategy, building a strong balance sheet, and steadily improving our credit metrics. Our strategic advantage has always been our relationship with Canadian Tire, one of the strongest and most resilient brands in Canada. Like many of you, we have moved from immediate crisis management to managing the new normal.
We will continue to run the REIT in a conservative manner and are looking to the future. We have better visibility to the consequences of the pandemic on our business and are pleased with, but not surprised by our solid results. While significant risks remain in the external environment, we are cautiously moving forward. We are planning for the future and open to making new investments but are in no rush to do so. Our resilience, our strong balance sheet, and liquidity, coupled with our positive results, have given our board the confidence to declare a 2% increase in our distribution effective with the September payment. It strikes the appropriate balance of prudence and optimism required in these challenging times. With that, I'll turn things over to Kevin and Lesley to discuss our Q2 results in more detail. Kevin?
Thanks, Ken, and good morning, everyone. As disclosed in our press release, in the second quarter, CT REIT completed the expansion of three existing Canadian Tire stores in Kincardine, Ontario; Rouyn-Noranda, Quebec; and Yarmouth, Nova Scotia, as well as the redevelopment of a multi-tenant property that includes a newly built Canadian Tire store in Niagara Falls, Ontario. In total, CT REIT invested approximately CAD 36 million in these previously announced projects, which added 288,000 sq ft of incremental GLA in the quarter. On a year-to-date basis, CT REIT has invested approximately CAD 79 million in previously announced projects and added 438,000 sq ft of incremental GLA. At the end of the second quarter, CT REIT had 15 properties that were at various stages of development.
These projects represent a total committed investment of approximately CAD 187 million upon completion, CAD 57 million of which has already been spent to date, and a total incremental gross leasable area of 780,000 sq ft, nearly 94% of which has been pre-leased. Over the next 12 months, the REIT anticipates spending roughly CAD 54 million on these development projects. As of June 30th, 2020, CT REIT's occupancy rate was 99.3%, which was slightly above the occupancy level of 98.7% as of Q2 2019. We continue to closely monitor our portfolio and engage with our tenants regarding the state and health of their businesses. With respect to the impact of the COVID-19 pandemic on our property operations in the quarter, tenants representing approximately 98.5% of annual base minimum rent fulfilled their July 1st financial obligations to the REIT, compared to 97.7% for June 1st, 96.5% for May 1st, and 97.8% for April 1st.
The REIT continues to work with tenants facing financial challenges as a result of the pandemic, and where possible, is participating in the Canada Emergency Commercial Rent Assistance, or CECRA program, which provides a 75% rent abatement for qualifying small businesses for the period from April 1st to August 31st, 2020, of which generally two-thirds is paid for by the federal and provincial governments, and one-third is funded by the landlord. We have been working our way through the CECRA process and expect to submit applications for the months of April, May, and June for approximately 100 of our tenants. With respect to the recently announced July and August extensions to the program, we will work with our tenants on a case-by-case basis to determine where participation in these additional months is warranted. Lesley will shortly go into the details of the financial impact related to the CECRA program.
Lastly, aside from the temporary operating restrictions and/or closures in some jurisdictions in the second quarter, all Canadian Tire retail stores returned to full operations as of May 9th, 2020, and there have been no rental interruptions, abatements, or deferrals regarding the REIT's tenancies at these locations. Although we have been spending a large amount of time and effort assisting those of our tenants that currently need help, we are extremely pleased with the strength and reliability of our cash flows, primarily derived from our portfolio of largely investment-grade tenancies. As Ken noted in his earlier comments, this position of strength allows us to patiently wait for the right opportunities as we navigate our way through these unprecedented times. With that, I will turn it over to Lesley for a review of our financial results.
Thanks, Kevin. Good morning, everyone. In light of the backdrop of the pandemic, we are very pleased with the Q2 2020 results, with reported diluted AFFO per unit of CAD 0.256, which increased 2.8%, compared to CAD 0.249 per unit in Q2 2019. Diluted FFO per unit increased by 1% to CAD 0.294 versus CAD 0.291 in Q2 2019. Reported Net Operating Income increased by CAD 2.8 million or 3.1% in the current quarter compared to the prior year. The primary contributor for the increase in NOI growth was the acquisition of income-producing properties and properties under development completed in 2020 and 2019, which contributed approximately CAD 1.3 million. Same-store NOI increased slightly by CAD 600,000, or 0.7%, in Q2 2020 compared to the prior year. Same-property NOI increased by CAD 1.5 million or 1.6% compared to Q2 2019 and was driven by several factors.
Contractual annual rent escalations of 1.5% on average contained within the Canadian Tire store leases, which contributed nearly CAD 1.7 million to NOI growth. Intensifications completed in 2020 and 2019, which contributed roughly CAD 0.8 million, as well as the reduction in the property management expenses, partially offset by the bad debt expense related to the rent relief under the CECRA program and further expected credit losses, together which totaled approximately CAD 1.4 million. Further to what Kevin noted earlier, I would like to take a moment and provide more details on the impact the pandemic has had on our Q2 financial results.
Credit losses of CAD 1.4 million were recognized in the quarter, consisting of CAD 500,000 related to the landlord portion of the CECRA program, CAD 200,000 in abatement of gross rents for tenants who did not qualify for CECRA, an additional CAD 700,000 in additional estimated credit losses related to tenants who have been significantly impacted by the pandemic. From a rent collection perspective, approximately 97.3% of Q2's rent has been collected from tenants. In addition, we anticipate a further CAD 900,000, or 0.7%, of rent to be collected from the government through the CECRA program, which would bring the total rent collection for Q2 to 98.0%. Of the remaining 2%, about 0.6% of the revenue has been deferred, and 0.4% relates to the landlord portion of the CECRA program of the tenant abatements I just mentioned.
Rent collections for the month of July is again extremely strong, with 98.5% of rent having been collected from tenants. With respect to G&A expenses, in Q2 2020, G&A as a percentage of property revenue, excluding fair value adjustments, amounted to 2.0% versus 2.4% for Q2 2019. This decrease was primarily due to the decrease in the service agreement costs as a result of the insourcing and new ERP system implemented in Q2 2019. Now turning to our liquidity and financial condition for the quarter. The interest coverage ratio increased to 3.50 x as of Q2 2020 compared to 3.35 x for the same period in 2019.
The increase in interest coverage ratio is due to both the decrease in the interest expense and an increase in NOI in the current quarter compared to 2019. As mentioned during our Q1 earnings call, CT REIT reset the rate on five series of Class C LP Units totaling CAD 252 million for a five-year term at 2.37%, commencing May 31st, 2020. Our weighted average interest rate decreased to 3.87% as of June 30th as a result of the reset. The REIT has no further debt maturities until the second quarter of 2021. We believe that we are well-positioned to manage through these unprecedented times and pleased with the strength of our balance sheet, our conservative 77.3% AFFO payout ratio, a low debt to gross book value of 42%, and approximately CAD 320 million available through our committed credit facilities and cash on hand.
CT REIT's assets, with an IFRS value of approximately CAD 6 billion, are 97% unencumbered. In addition, as of June 30th, 2020, book value per unit was CAD 14.67, which is slightly higher than our Q1 2020 value of CAD 14.60, and the 2019 year-end value of CAD 14.61, as net income exceeded distributions. Included in our net income in Q2 was a CAD 5 million fair value decrease, which brings our year-to-date fair value decrease to CAD 29 million. The decrease in fair value is a result of slight increases in the overall capitalization rates that were made across our portfolio. The strong covenants in our largely investment-grade portfolio and our high level of rent collection throughout the pandemic continues to support the underlying property cash flows and results in valuations.
We continue to monitor the market for data points related to similar essential needs net lease retail assets, we will make further adjustments if necessary, based on comparable transactions if and when deal volumes return to more normalized levels. With that, I will turn things back to you, Ken.
Thank you, Lesley. I know it's a busy time for many of our listeners. I'll turn the call back to the operator now for any questions.
Thank you. At this time, I would like to remind everyone, in order to ask a question, please press star then the number one on your telephone keypad. We ask that you please pick up the handset or step close to your speakerphone system when asking your question to provide maximum audio clarity. We'll pause just for a moment to compile the Q&A roster. The first question is from Sam Damiani from TD Securities. Please go ahead. Your line is now open.
Thank you. Good morning, everyone. Congratulations on a solid quarter, and great to see the distribution increase, particularly through this time of great uncertainty.
Thanks.
Absolutely. When we just look at the quarter, it was interesting in a couple of ways, one of which was the fact that no new investments were announced this quarter, and I think this is the first time the REIT has had that since the IPO seven years ago. Wonder if you could just tell us what that says and, if you're thinking about Canadian Tire and its real estate strategy perhaps changing, given the acceleration of trends that we've seen over the last five months. Do you see the REIT sort of changing in the way it relies on Canadian Tire for growth going forward?
Sam, let me kick things off. It's Ken. I wouldn't read too much into what you've observed. To the extent that obviously with the disruption of the pandemic, basically all real estate transactions have kind of ground to a halt. Liquidity was at a premium, or at least a focus on liquidity in the short term. Of course, the team has been heavily involved in working with tenants and managing the way through the CECRA program. That there's been a pause in the investment activity, I think would simply be to be expected as a result of all this disruption. I don't imagine or expect that there would be any material ongoing changes, at least in the sources of growth we see. I can't comment right at the moment in terms of quantums, or make any predictions.
In terms of the sources of growth, whether from Canadian Tire or elsewhere, I don't see any fundamental changes.
Okay. That's helpful. Just on the leasing market. Obviously, it slowed down quickly in the spring. Kevin, are you seeing any evidence of resumed activity, tenant interest when you look at leasing up some of the spaces in the developments that are still vacant?
Not really, Sam. I think everybody is still fundamentally on pause. A couple of groups out there nosing around with longer-term projects. Most of the lease activity we've been doing has been on the renewal front, where tenants who are comfortable and obviously managing their way through this are extending their leases. On the industrial side, obviously, we have 11 Dufferin. We have a short-term tenancy in there that's coming to an end. There's actually been a pickup in showings and lease activity there. We don't have anything specific to report, mostly end users or 3PLs that are still looking for space. Yeah, just as a broad comment on retail leasing, I think it's still quite slow right now.
Thank you. My last question, perhaps for you, Lesley, just looking at the CAD 300 million credit facility with Canadian Tire that was arranged, I think, late last year. Could you just remind us what the purpose of that is, and why you don't include it in your liquidity availability?
Sam, it is an uncommitted facility with Canadian Tire, from our perspective, that's why it's not included in the liquidity calculation. It would be at their discretion when we were looking for money, whether they had any or whether they said yes or no. That is why it's not included. Really the reason for doing it, and yes, it was done in Q4 last year, was really looking at just having other sources of financial flexibility within the corporation and being able to borrow from different sources should we need that at various times during the year.
Thank you very much. I'll turn it back.
Thank you. The next question is from Himanshu Gupta from Scotiabank. Please go ahead. Your line is now open.
Thank you and good morning.
Good morning.
Just to follow up on the overall market activity. Have you seen any changes in pricing or expectations for standalone retail properties versus multi-tenant properties in the last few months? Do you think the risk premium is likely to change differently on these two type of properties?
Hi, Himanshu. It's Kevin. Similar to the leasing market, the investment market for the most part is still frozen. There have not been a lot of trades. A couple deals that were started pre-COVID that closed more recently, haven't seen a lot that's been sourced, negotiated, and closed through the course of the crisis. I think generally there's no data, we're not seeing real significant moves in any direction for any type of asset. I think fundamentally we believe the market will be kind of bifurcated into risk assets and non-risk assets, people are going to pay as much, if not more, for the non-risk asset, of which we think essential needs retail fits into that category. I think generally we feel pretty good about how the valuations are going to stack up for what is really the majority of our portfolio.
Obviously, it's really hard to price and predict cash flows as it relates to larger multi-tenant retail assets on a go-forward basis. I think if you're going to see some price softness, that could be where it develops over time.
Got you. On rent collection, the CECRA program has been extended for August as well. In case it was not extended, do you think the tenants are now in the position to pay, which had otherwise taken benefit from this program?
I think things are improving. As we said in our prepared remarks, we're now viewing the participation for July and August on a case-by-case basis, meaning not everybody that we agreed to throw into the program for the first three months, we will continue to submit on their behalf. Business is resuming. Some tenants are coming back stronger and better than others. Some are just at the early stages of the reopening too. I think really overall, it remains to be seen, but I think, generally we're seeing the health and financial resources of our tenant base improve as wider reopenings start to occur.
Sure. Maybe just final question from me on distribution. Great to see the 2% increase. It was slightly lower than the 4% increases in the last two years. Given that the payout ratio continues to be very low, would you revisit your distribution policy in the coming quarters or just being more conservative given the circumstances?
Hi, Himanshu, it's Ken. As you know, distributions are declared on a monthly basis. The board has ample opportunity to review the business and to determine the appropriate distribution rate. Obviously it depends on circumstances. I couldn't rule anything in or out with respect to what might be coming. I think the board's decision to raise the distribution at this point by the 2% is clearly viewed by the board as being both prudent and a positive reflection of the resiliency and predictability of the REIT's results.
Sure. Thank you. Great color and I'll turn it back. Thank you, guys.
Thank you.
Thank you. The next question is from Tal Woolley from National Bank. Please go ahead. Your line is now open.
Hi. Good morning, everybody.
Good morning, Tal.
Let's maybe start on the financial side. Given that all-in financing costs have gone in the favor of borrowers over the last few months, do you envision trying to maybe refinance more of your debt a little bit more aggressively here? Just given that the rate environment is favorable. I don't know if potentially paying some penalties to lock in those future rates might make sense. Maybe you can just walk through how that math stands in your books.
Hi, Tal. It's Lesley. Thanks, Tal. We do look at that all the time, and obviously with rates at sort of all-time lows, that's definitely somewhere we're looking at. When we look at our next scheduled maturity, which is in Q2 2021, the sort of 2.1% coupon is still lower than current market rates. For us, it's still costly to do that. We do look at what we could do that and compare it to where rates are going to be. I think our still view and what we're seeing is that we still think the current low-rate environment will continue for the foreseeable, at least short-term future. We do look at that, but I think at this point in time, we're not yet rushing out to refinance those early, although that is something that we do take a look at every time the rates do ebb and flow.
Any sort of change in terms of, because you still have some outstanding intercompany debt with Tire. You could envision a scenario here where maybe Tire would prefer for you to refinance with the public market as opposed to refinancing with them, just because maybe they want to keep a little bit more capital for themselves. Any change in sort of how you expect to see that play out going forward?
I think with the debt with Canadian Tire, the Class Cs, it will really depend on what Canadian Tire's use of proceeds and what they're looking for. Obviously, they know that this is one of their points of financial flexibility that they have if they're looking for additional cash in any way. They definitely have that in their toolkit and fully consider that in all their different options. I think it really will just come down to when those debt are rolling, what the use is for CTC.
Okay. Just lastly, on the potential for mixed-use development in the portfolio. I don't want to put words directly in your mouth, but maybe I could characterize it as you guys as a management team have maybe been a bit more circumspect about the financial returns on that in the market pre-pandemic. We're five, six months in, I realize everything's up in the air, but do you see a mix of factors changing here that might cause you to be a little bit more predisposed to pursuing more mixed-use development going forward? Or does it still kind of feel the same to you?
Tal, it's Ken. It's not fundamentally different, and it's also not quite the same. Practically, the higher value sites in our portfolio are subject to long-term Canadian Tire leases. Obviously, we could work something out with Canadian Tire, as others have done with their anchor tenants. It's not a high-priority activity for us at the moment. We are certainly assessing redevelopment opportunities within our portfolio. I would say it remains a longer-term value creation opportunity for the REIT, and obviously dependent on a number of different circumstances, including ongoing relative valuations for real estate, development risk, the tenants' preferences, et cetera. It is something that's on the radar screen, for sure.
Okay. Just lastly, with Canadian Tire, for their distribution network, does the company feel like they have all of the proper space needed to service their e-commerce needs at this point? If not, is that something that you could envision the REIT playing a role in helping to develop going forward?
Tal, obviously, I can't speak for Canadian Tire in terms of how they're managing their supply chain.
Yeah
I think you could expect that we're in close contact with them on any of their network requirements, whether it's retail or distribution. Given everything that's happened in the last five months or so, no doubt they're reviewing their long-term requirements in all respects. We would expect to be involved in those conversations.
Okay, that's great. Thanks very much, everybody.
Thank you.
Thank you. The next question is from Jenny Ma from BMO Capital Markets. Please go ahead. The line's now open.
Thank you. Good morning, everyone.
Good morning.
Congratulations on a solid quarter.
Thank you.
Just wanted to ask for a little bit more color on the distribution and the timing, because I know CT REIT has been on an annual increase trajectory, and this is the second one that's going to be passed through this year. Could you share what was behind it? Is it really a signal to investors about the strength of CT's cash flows? If that's the case, does it suggest that there is still potentially more distribution increases to be considered next year, or do you really view this hike as sort of a pull forward of what you may have considered for 2021?
Jenny, it's Ken. I think with respect to the timing, firstly, there was no. The fact that we had announced previous distribution increases at the same time was really, frankly more coincidence than something that particular or meaningful in and of itself. As I said earlier, the board reviews its distribution policy and the business on an ongoing basis. I'd say the timing with respect to this one is, clearly it feels like we've all kind of gone through the first wave of the pandemic. We've seen what the implications are on our business, and it seemed like an appropriate time, or the board felt it was an appropriate time, to signal its confidence in the REIT's cash flows. What might come in subsequent quarters or over the next year or so is obviously unpredictable in many different ways.
I wouldn't read anything specific one way or the other into either the timing of the distribution increase. With respect to the quantum of the distribution increase, obviously, it's at a rate that the Board felt was appropriately cautious or prudent at this time.
Okay. I can appreciate that, still a good news event nevertheless. Moving towards the CECRA and bad debts for this quarter, I'm just wondering if you could share some color on some of the constituents of the bad debt, what the tenant profile was. Was it concentrated amongst a few of the maybe larger tenants, or was it more widespread? Then any color on what you might expect for Q3 would be great.
Jenny, it's Lesley speaking. The CECRA program, it wouldn't be very many of the larger tenants. Many of those didn't meet the criteria for the CECRA program. I would suggest it was more of the franchisees, perhaps in fast food. It was independent owner/operator businesses, restaurants, service businesses. Those type of ones were probably the most impacted in our portfolio. Those more represent the 100 tenants that we had, more so than any of the larger tenants that we had.
Hi, Lesley. Sorry, maybe I wasn't clear. I was referring to the bad debt and the credit losses, the CAD 0.9 million.
Oh, apologize. I thought you were talking about the CECRA. The bad debt, I would say it's a mix. Looking at the people that were probably not in the CECRA program, we do have a number of other tenants across the portfolio, I would say probably more concentrated on the mid-market fashion in our enclosed retail portfolio and a few of those assets that were harder hit but would not qualify for the CECRA program.
Okay. Are the credit losses related to stores that have permanently closed?
No. The number of the credit losses reflect our view of the collectibility of some of the arrears.
Okay.
Many of their stores, obviously, as Kevin mentioned, are operating or are now back to operations. Some of them we still haven't dealt with yet.
Okay. On the CECRA program, has CT finished and submitted all the applications on behalf of your tenants right now?
We're really focused. We've submitted the vast majority, not quite all of them, for the April, May and June period. As you may have read, the CECRA programs, the requirements for the amount of documentation, specific and changing documentation. We're gathering the last few pieces from a few individual tenants to complete the applications. The vast majority of the applications have already been submitted. There's just a few left to go for Q2.
Okay. When we're thinking about the extension to July and August, I know, I think it was Kevin who mentioned that you're looking at it on a case-by-case basis, but as a rough proportion of what was extended for Q2, can you comment on what that might be? Is it maybe half of the tenants may qualify for an extension into July and August? Anything would be helpful.
Hey, Jenny, it's Kevin. I would say in terms of rough order of magnitude, I would say slightly less than half.
Okay
of the initial tenant group.
Great. That's very helpful. Thank you very much. I'll turn it back.
Thank you. Once again, please press star one on your telephone keypad if you have a question or comment. We have a question from Pammi Bir from RBC Capital Markets. Please go ahead. Your line is now open.
Thanks, and good morning. Can you maybe just comment on what you're seeing from an acquisition perspective, the types of opportunities that are out there, and are you seeing anything in terms of, or much in terms of distress at all?
Hey, Pammi, it's Kevin. In terms of distress, no, not anything significant that I've seen to date. As we said in our remarks, we're being patient for two reasons. One, there's just not a lot out there to go after right now, quite frankly. Also, it's got to be the right opportunity. I think vendors and buyers are still far apart on their expectations in terms of pricing. That bid-ask spread is still wide. I think just in a general sense, the opportunities, we haven't seen too much come our way just yet. I do expect in the back half of the year, hopefully the market will loosen up a little, and there'll be a little bit more volume on both marketed deals and off-market opportunities.
Got it. Thanks, Kevin. Maybe just thinking ahead to next year, coming back to, I guess, one of the earlier questions. If we look at your development schedule, it does taper off a fair bit for 2021 in terms of completions. In terms of your discussions with Canadian Tire and maybe some of the opportunities that they might be looking at in terms of expansions or redevelopments, do you see 2021 sort of ticking back up to perhaps higher levels or more normal levels?
Pammi, it's Ken. I would say that, again, I couldn't direct you to a quantum of investment. However, we basically are collectively on pause. I don't expect that to continue. We will see a resumption of what I would call normal course business activities from a real estate perspective with Canadian Tire in due course.
Got it. Just last one, maybe coming back to the short-term lease at 11 Dufferin. Can you just remind us what the estimated impact of that coming off would be for Q3 on a run rate basis?
Pammi, I don't have that to hand. I'll have to get back to you on that one, sorry.
Okay. Thanks very much. I'll turn it back.
Thank you. As there are no further questions at this time, I will turn the call over to Ken Silver, CEO, for any closing remarks.
Thank you, operator, and thank you all for joining us today. We look forward to sharing with you our third quarter results expected the first week of November. Thank you.
Thank you. This concludes today's call. You may now disconnect your lines at this time. We thank you for your participation.