Good morning, and welcome to H&R Real Estate Investment Trust 2023 second quarter earnings conference call. Before beginning the call, H&R would like to remind listeners that certain statements, which may include predictions, conclusions, forecasts, or projections in the remarks that follow, may contain forward-looking information, which reflect the current expectations of management regarding future events and performance, and speak only as of today's date. Forward-looking information requires management to make assumptions or rely on certain material factors and is subject to inherent risks and uncertainties, and actual results could differ materially from the statements in the forward-looking information.
In discussing H&R's financial and operating performance, and in responding to your questions, we may reference certain financial measures which do not have a meaning recognized or standardized under, under IFRS or Canadian generally accepted accounting principles, and are therefore unlikely to be comparable to similar measures presented by other reporting issuers. Non-GAAP measures should not be considered as alternatives to net income or comparable metrics determined in accordance with IFRS as indicators of H&R's performance, liquidity, cash flows, and profit- profitability. H&R's management uses these measures to aid in assessing the REIT's underlying performance and provides these additional measures so that investors can do the same.
Additional information about the material factors, assumptions, risks, and uncertainties that could cause actual results to differ materially from the statements and the forward-looking information, and the material factors or assumptions that may have been applied in making such statements, together with details on H&R's use of non-GAAP financial measures, are described in more detail in H&R's public filings, which can be found on H&R's website and www.sedar.com. I would now like to introduce Mr. Thomas Hofstetter, Chief Executive Officer of H&R REIT. Please go ahead, Mr. Hofstetter.
Good morning. I'd like to thank everyone for joining us today to discuss our second quarter financial and operating results and strategy. With me today on the call are Larry Froom, our Chief Financial Officer, and Emily Watson, Chief Operating Officer from our Lantower Residential Division. Year to date, our portfolio team are producing strong financial and operating results across all our property classes. Residential continues to see strong rental rate growth. Our well-located office properties with long-weighted average lease terms remain 98.7% leased. Industrial properties located in key markets remain in high demand as we realize continued rental rate growth, and our high-quality grocery anchors and single-tenant retail property portfolio are performing well, providing essential services to their respective communities.
Given the line of sight we have into our current disposition pipeline and the demand we are seeing for our properties, we are reiterating our intent to sell approximately CAD 600 million of non-core assets this year, of which CAD 387 million has been sold to date. On April 1, 2020, we closed on the successful disposition of 160 Elgin for CAD 277 million, H&R's only Ottawa office property, comprising 973,000 sq ft in downtown Ottawa. Given the considerable headwinds in the public and private real estate markets, we are very pleased to have executed this transaction. This one property represented 16% of our Canadian office portfolio and reduces our total office exposure, excluding rezoning properties, to 20% on a fair value basis.
We also sold four Quebec retail properties for CAD 68 million, allocating net proceeds to repay debt and repurchase units on our NCIB. During the first 6 months of the year, they repurchased and canceled 2.8 million units at a weighted average price of CAD 10.26 per unit, representing an approximate 51.2% discount to NAV per unit. We intend to continue to buy back units through the NCIB, with proceeds from future dispositions of non-core assets. As a result of our disciplined capital allocation approach, we have augmented our growth profile meaningfully, achieving double-digit growth in same property NOI since the announcement of our repositioning strategy, increased our allocation to residential and industrial investment properties from 23% and 8% respectively in Q2 2021, to 39% and 16%, a total of 55% as of Q2 this year.
Over this time period, our office exposure, excluding the rezoning portfolio, has declined from 38 to 20%. Coinciding with this progress is an improvement to our liquidity position and balance sheet metrics. On that, I'll hand it over to Larry.
Thank you, Tom. Good morning, everyone. I'll start on the operating results. In my comments to follow, references to growth and increases in operating results are in reference to the 3 months ended June 30, 2023, compared to the 3 months ended June 30, 2022. H&R same property net operating income on a cash basis increased by 11.7%. Breaking the growth down between our segments, Lantower, our residential division, led the way with a 22.9% increase or a 15.6% increase in U.S. dollars. Emily will provide more details on this growth shortly. Industrial same property NOI on a cash basis increased by 18.6%, driven by rent increases for new and renewing tenants.
Occupancy in the industrial segment increased to 98.4% as of June 30th, 2023. Office same property NOI on a cash basis increased by 2.1%. This increase was largely attributable to the strengthening US dollar. For the 6 months ended June 30th, 2023, same property NOI from the office portfolio increased by 4.5% compared to the same period in 2022. Now, office properties are in strong urban centers with a weighted average lease term of 7.1 years and leased to strong creditworthy tenants, with 81.1% of office revenue coming from tenants with investment-grade ratings....
I would like to point out that only 404,000 sq ft of leases expire in our office portfolio during the remainder of 2023, which is approximately 7% of the total square footage of our office portfolio. Included in these 2023 expiries is 105,000 sq ft at 6900 Maritz Drive in the GTA, which now expires in December 2023. H&R received a termination payment of CAD 856,000 in Q1 2023, and will receive an additional CAD 2.5 million in Q3. H&R is preparing a site plan application for submission to the City of Mississauga for a new single-story, 122,000 sq ft industrial building to replace the 105,000 sq ft office building. Site plan approval is expected by Q4 of this year.
In addition, 86,000 sq ft shown as expiring in 2023, was for the Tampa office property that was subsequently sold in August for $13.3 million. Lastly, retail same property NOI on a cash basis increased by 9.1%, primarily driven by increased occupancy at River Landing and the strengthening of the US dollar. Q2 2023's FFO was $0.297 per unit, compared to $0.284 per unit in Q2 2022. A 4.6% increase, driven by strong operational performance across all segments and aided by the US dollar. FFO for the six months ended June 30th, 2023, was $0.61 per unit, compared to $0.56 per unit in Q2 of 2022, an 8% increase.
We are proud of our FFO growth despite current headwinds, headwinds of higher interest rates facing all real estate classes and the current headwinds facing the office sector. Commencing in January 2023, H&R's monthly cash distributions increased to CAD 0.05 per unit or CAD 0.60 per annum, an 11% increase over the 2022 distribution, excluding the special distribution in December. H&R's Q2 2023 payout ratios remained healthy at 51% of FFO and 61% of AFFO, notwithstanding the increase in distributions. Net asset value per unit as at June 30, 2023, was CAD 21.04 per unit, a decrease from CAD 21.95 at March 31, 2023.
2.8 million units were repurchased during Q2 at an average price of CAD 10.26 per unit, for a total of CAD 29.2 million. The following overall weighted average cap rates were used in deriving the fair values of our investment properties. 4.49% overall for the residential properties, which was split between Sunbelt properties at an average cap rate of 4.75% and Gateway Cities at 4.08%. 5.28% for industrial properties, 6.35% for retail properties, 7.36% for our U.S. office properties, 4.81% for our eight Canadian office properties, which are advancing through the rezoning and intensification process to be converted to predominantly residential properties.
These 8 properties comprise 30% of our office portfolio, and 7.24% for the remaining 10 Canadian office properties. The increase in cap rates used to value our properties resulted in a downward fair value adjustment of CAD 274 million for Q2 2023 at the REIT's proportionate share. As at June 30th, our office portfolio of 23 properties comprised 24.8% of total real estate assets. Page 14 of our Management's Discussion and Analysis shows the percentage allocations across all segments. Debt to total assets at June 30th, 2023, was 44.8%, compared to 44% at the end of 2022, and liquidity at June 30th, 2023, was in excess of CAD 900 million.
In summary, we are very pleased with our Q2 results and confident that our high-quality properties and strong balance sheet will continue producing good results for the remainder of the year. With that, I will turn the call over to Emily.
Good morning, everyone. I'm delighted to join you today in delivering our second quarter highlights from our multifamily platform, as well as discuss some operational updates. Market conditions continue to be favorable in terms of employment, wage growth, and positive migration trends. We continue to deliver solid operating results with same asset revenue growth, excluding Jackson Park from our portfolio, and US dollars increased by 10.5%. Including Jackson Park, 13.7% for the second quarter. When excluding Jackson Park, same asset net operating income from our portfolio in US dollars increased by 8.3% for the 3 months ending on June 30, 2023, compared to the respective 2022 period. Including Jackson Park, same property operating income from our portfolio in US dollars increased by 15.6%. We mentioned reports of elevated supply last quarter.
However, we believe our institutional product will continue to perform well despite the short-term headwinds. By way of example, our multifamily portfolio ended the second quarter at 94.1 and remains stable today...For context, our move-outs due to home purchase dropped 19.8% in the second quarter of 2022 to 13.7 in the second quarter of 2023. Additionally, our rent-to-income ratio is still hovering around 20%, with retention around 50%, underscoring the continued positive fundamentals for Sunbelt multifamily. With strong investment interest in the small number of deals that are being marketed, we expect cap rates to remain low, relatively speaking, for the institutional quality assets in the Sunbelt. While interest rates have induced cap rate movement, capital flows, which are a primary component of cap rates, are still very much interested in a heavy Sunbelt multifamily allocation.
Based on our recent third-party appraisals and a few recent Sunbelt sales comps, we believe raising our internal FMV cap rates by 25 basis points to 4.75% is appropriate and supported. On the development front, Lantower West Love in Dallas, Texas, is still on schedule and on budget and recently dried in the roof on turns 1 through 3. Exterior windows and doors are currently being installed, along with exterior sheathing and waterproofing being installed for a considerable portion of the development. In Dallas, Texas, Lantower Midtown is on schedule and on budget and recently completed concrete work, including the parking garage. Framing has commenced and currently is on level 2 of the first turn.
We are progressing through different phases of design, drawing, and permitting on the remainder of our Sunbelt development pipeline and expect to receive more building approvals as we progress through the year. On the operational front, as we approach normal seasonal performance and patterns following historical high growth, it makes it paramount to focus on improving efficiencies and expanding NOI margins. Consistently identifying best practices is one of my primary goals and a major part of my leadership strategy. Let me share some of our value add initiatives. Our SmartRent platform is deployed across almost 90% of our portfolio and provides efficiencies to our on-site teams, such as electronic locks, leak detection, and the ability to control thermostats in vacant units. Additionally, it generates an approximately 30% return on investment in amenity revenue. We've installed over 1,200 in-unit washers and dryers, which yield over 55%.
Dog yards, yards are a popular amenity and have installed over 120, with an anticipated 40% return on investment. In summary, the Lantower platform continues to achieve positive results and progress, and I'd like to say thank you to the Lantower team for their commitment in helping facilitate H&R's repositioning plan while delivering top-tier results. With that, I'll pass along the conversation back to Tom.
Operator, you can now open the call for questions.
Thank you. Ladies and gentlemen, we will now begin the question-and-answer session. Should you have a question, please press the star followed by 1 on your touch-tone phone. You will hear a 3-tone prompt acknowledging your request. If you are using a speakerphone, please lift the handset before pressing any keys. One moment, please, for your first question. First question comes from Jimmy Shan from RBC Capital Markets. Please go ahead.
Yeah, thanks. First question would be on, just on the Lantower business. Can you talk to what sort of lease spreads you're seeing on new and existing leases, and how you see that trending, in the back half, back half of the year?
Hey, Jimmy, good question. You know, going into Q1 and Q2, we had much bigger spreads on from a renewal front. In Q3, we're really coming off of the anniversary dates of the really higher leases. The first half of the year, we came into the year about 5% of loss lease spread, with it really, probably a 7% or 8% renewal increase. The second half, I expect that to be closer in the 2%-3% range for the renewal, because we're really closer to that spread for our new releases within a 3% range. I, you know, I would expect 2%-3% in Q2 and Q3.
Okay. What about on the new lease?
New leases, I expect to be flat. You know, if it, you know, maybe one, maybe 1%-2%. With the construction pipeline in our, in our markets in Q2, Q3, and Q4, I expect those to be relatively flat.
Okay. You also mentioned seeing a few deals in the U.S. Sunbelt that would support your cap rate. Can you share what, what some of, what those, some of those deals are?
Yeah. There's 1 Dallas and 1 Tampa. I mean, the volume is really down, as, as I'm sure you've read, you know, really truly 70% down as far as the transaction volume. We did have a deal trade and a Tampa deal trade, that we watched at a 4.7 range.
Okay. Maybe, maybe turning to the office and anything. The, on the, the Eglinton property sale, I did notice that the VTB was extended. Kind of any, any thoughts there? Like, you feeling pretty good about them coming up with the dollars?
Yeah, Hi, Jimmy. We've seen the term sheets already, we're pretty confident that it's imminent, that it'll happen this quarter.
Okay. Then maybe in generally, in terms of office financing, Tom, you had mentioned before, you know, to get a deal done, the banks aren't there really for financing. Can, how, how is that environment like? Has it changed at all? Is it improving at all? What, what are you seeing?
I don't think it's improving. I think it's the other way around. I think it's getting worse. I think banks are, are putting pens down almost, this United States and Canada. The what you're seeing in both countries is you're seeing to move real estate, and you, you can see the last Atria deal is a good example of that. The sellers, the vendors, are providing financing to facilitate the deal. It solves the problem of the, the question mark in getting the financing and plus the rate, which has also been very volatile. I think the answer is it's really, really difficult to get. Only the best sponsors are gonna get. As you well know, United States is a non-recourse world, and therefore, it's, it's basically pens down.
The transactions I'm seeing in both countries are vendor takebacks right now.
Okay. Okay, sorry, then maybe lastly, just on the office rezoning. Looks like you made some progress. Are there any assets that you think would be in a, you'd be in a position to start thinking about selling? You know, and then maybe relating to that, like, I'm thinking about the Wynford Drive deal you did with Oaks, Oak Street. Like, can you replicate a deal like that with some of the assets that you're currently working on?
I didn't quite understand the question. It sounds like it was twofold.
Yeah.
The Winford deal is a credit tenant lease deal. It's, it's not a rezoning issue. It could be rezoning for the new buyer. We have the option to purchase it back, and that. The reason we put in that option is for exactly that reason. If in the, during the term of the extended lease term, the next 12 years, the rezoning takes place, and there's higher value, that's why we preserve ourselves, the self, our self the right to buy it back. Our buyers of that transaction were in the credit lease business than on the residential business. For the most part, that, that type of a transaction is saleable if, again, it depends on the whether you.
It's a general question, not specific to our portfolio, but it's, it'll really be the present value of the cash flow and some residual. In underwriting that, and, generically, not, again, not applicable to our portfolio, since we've gone through COVID and post-COVID, and very few leases were long-term leases were signed over the past, call it, three, four years, the lease, the duration of the lease terms that are remaining for most landlords' portfolios are not long enough to facilitate a transaction whereby you're buying it at the present value of the cash flow plus the residual, because there's not enough term left for the most part. H&R does have a longer duration, as you well know, than I would say, almost all other landlords all throughout their portfolio.
It still is makes it difficult to sell it, predicated on the present value of that. It's very hard to underwrite what the terminal value will be, because we have very little visibility into what the lease rates are going to be or what the market is gonna look like, you know, 5, 10 years down the road.
Okay. Sorry, but on, on the assets that you currently rezone, like 145 Wellington, on those ones, I guess you can't sell that as a credit, and then with development upside down the road to the same, to, like, the credit buyers, right?
Yeah.
Is that what you're saying?
Yeah, that's not a credit buyer lease, because those are i n every one of our, our assets, we're talking about Front Street, 125 Wellington, 55 Yonge Street, 69 Yonge, Bouchard, all of those deals are predicated in getting the, converting into residential, really on expiry of the tenant. In our case, since we're so laden with long-term leases to single tenants, in other words, they don't have. It's not a multi-tenant building with a whole bunch of 2,000 to 4,000 square footer tenants, which, which makes it very difficult to convert to residential down the road. We're looking to the expiry of the major tenants, at which point in time, rezoning will be completed, and you can go put it, sell it, or develop it as residential.
At this point in time, until the rezoning is completed, it would not make sense to sell those assets.
Okay. Okay, that's it for me. Thanks.
Thank you.
Thank you. The next question comes from Sam Damiani at TD Cowen. Please go ahead.
Thank you. Thank you, good morning. First question, maybe back to you, Emily, on Lantower. Just with the dynamics you're expecting in the second half, we did see occupancy come down a bit in Q2. Do you see that continuing in the back half of the year? Is what you're seeing, sort of the softness, more a result of the increased supply, weaker demand, or a combination of both?
Definitely not demand. We are seeing an increase in demand actually over 2022, that's good for the strong fundamentals. The supply is going to be some headwinds, really between now and what I think the end of 2024. We had 50,000 units deliver year to date, in, just in our markets, in our Sunbelt markets that we operate in, and went head-to-head with about a little over 6,500 of them. They only absorbed 30,000 in the first half of the year. Going into the second half of the year, we have 55,000 that are anticipated to be delivered. That will go head-to-head about 9,000 of those.
We strategically really kind of traded, occupancy in the first half of the year to get the renewal increases while we could, because we knew the second half was gonna have a little choppier waters going forward. I do anticipate really getting our occupancy up in 95 and then trying to increase our retention to 60% over the 50% where we have, just to be able to have a hunker down effect, if you will, between now and the end of 2024 and kind of ride out any headwinds that might come our way.
Oh, that's great. That's very helpful. Thank you. Maybe one for you, Larry, just on the, on the debt stack with the weighted average maturity now under 3 years, is there any plan or a path to terming out the REIT's overall debt over the next 2 years?
Morning, Sam. The reason our debt maturity has shortened quite quickly is because we've been selling assets and paying off the debt. If you're not refinancing back at 5 and 10 years, then everything is going to be just, you know, you're not getting that weighted back, back end of that financing, and everything is just coming due a lot sooner. There's no plan to refinance everything. We'll do it year by year as it goes, depending on how the proceeds from our sale. Proceeds that come in will be used to just keep our debt levels the same on debt to assets and debt to EBITDA metrics.
From what we have in the pipeline of what's coming up, you know, there's just a CAD 350 million unsecured debenture in January 2024, and that's the really big maturity that we have, that we'll be looking to refinance probably towards the end of the year. Other than that, it's short mortgages, which are all low loan to values, and we're pretty confident, we'll have no problem, refinancing them or using our lines of credit, which are in excess of CAD 900 million, to pay some of those, some of that debt back in the short term, until proceeds are available from sale of properties.
Okay, great. Thank you. Last one for me is just on the office occupancy. Based on your comments, at the, at the outset, do you see occupancy remaining stable through the balance of the year in the office segment?
We have a very small lease rollover schedule through the end of 2024, really. There's a couple of floors here or there, but nothing significant. The answer to your question is, it should remain stable.
Great. Thank you. I'll turn it back.
Thank you. The next question comes from Mario Saric at Scotiabank. Please go ahead.
Hi, good morning. Just coming back to Lantower and more of a clarification question for Emily. The new lease spreads and the renewal spreads for Q2 specifically, would they be similar to the 7%-8% renewal and kind of flat 2% from you, that you highlighted for the first half of the year?
Yes, basically. The renewals were 7.9, I believe. Like, you know, and I expect them, in fact, August, I think we, we got 6%. They're still probably in that 5% range for the beginning of Q3, and then I expect the 2%, 3% for September through the end of the year.
Got it.
The new lease is flat, basically.
Okay. I recall that, like, during COVID, H&R was proactive in, in signing, you know, as many two-year leases, not necessarily as you could, but it was elevated. When you talk about Q3 being a reset quarter, is essentially the benefit of those two-year leases coming off, does it kind of terminate in Q3?
It's really nicely dispersed, actually. It's a great question. We didn't have an overwhelming amount of the percentage of the portfolio, so I don't think you'll see it. you know, overall, I'd say probably 3%-5% of our portfolio took us up on those 2-year leases. they were a little staggered throughout really 2023. we yeah, I don't, I don't anticipate that to really be any significant, headwinds on our, or actually windfall, on being able to capture the loss to lease there.
Got it. Okay, then, just maybe a couple, for Tom. On the disposition, the CAD 600 million target versus roughly about CAD 400 million to date, can you give us some color in terms of, where the incremental CAD 200 or so, is expected to come from, whether it be by geography or by asset class?
Asset class, this would be office. Geography, that'd be too, too telling. We only are 2 assets in the United States. We won't go geography.
Got it. Okay. Just a, a follow-up to Jimmy's question on the capability and kind of the, you know, willingness to sell, let's say, residential density ahead of, you know, all the requirements necessary to start construction. Is that simply, like, structurally, you're not able to do that, or do you feel like you're, you're leaving too much value on the table doing it? That thought in advance.
The latter, we're leaving too much table. Just to qual, just to qualify that point that you made, it's not, till you can start construction, it's till you complete zoning. In other words, there's three components of this. There is getting the zoning done, there is getting the tenants out, therefore, at that point in time, demolishing and going forward, subject to the market, being, right at that time. Once the zoning is done, then the rest is easy. Then, it's just a question of the market conditions and when to, when to maximize pricing. Until the zoning is complete, we'd be leaving too much on the table.
I might add also that at this point in time of the cycle, as I'm sure you're aware, the residential land values are depressed, we would not be selling into this, this market right now. We fully believe that for the properties that we have, the quality of the properties that we have, now would be an inappropriate time to put them on the market. We'd wait till the market recovers.
And.
Got it.
Even though we have some rezoning in place, like on 145 Wellington. The plan is really, we have some office components in that rezoning. It's an office space, and we're going back into the city to try and switch that out into fully residential. Even though we have some zonings in place, we're trying to do better on them, and therefore, not ready to sell them at this time.
Yeah. Okay, that makes sense. Tom, what would you estimate, residential land values are down for your types of assets from peak levels?
Peak levels for downtown Toronto are CAD 325 a foot. Again, it's like everything else, there's not a whole lot clearing. Line of sight, CAD 175. There's been very few trades, don't forget. A lot of it has to do with the size of the deal, and nothing's really going on the market now either. I think that's a fair answer, CAD 325, and you can probably liquidate it at CAD 175. It's not a whole lot different than any other sector out there. There's very little liquidity in the world, so that's why the decision is, even if you could clear at CAD 175, we'll still wait.
We, we believe that there's on the supply-demand side, there will be a shortage of the high-quality residential properties that we're talking about in downtown Toronto. Whether they go back to the office or not, it seems like they wanna live downtown. I do believe that the values will circle back to CAD 275 plus in the not too distant future.
Okay, great. I appreciate the position and the answer. Thanks, guys.
Take care.
Thank you. The next question comes from Matt Kornack at National Bank Financial. Please go ahead.
Good morning, guys. Just to follow up on Jimmy and Mario's question with regards to the office repositioning. Has your sense changed or evolved at all in terms of office replacement and what the city would be able to grant or willing to grant on that front, residential wise?
Yeah, I'm gonna hand that over to Matthew Kingston. He's actually, I don't know what I'm talking about, as you probably figured out by now. This is his world, so why don't I hand it over to him?
Good morning, Matt. Yeah, I think, we have an application at 69 Yonge Street, where we were not replacing office, which is a little different than 145, 55, and 310. I'll say we are feeling a difference. It, it has always been a hard line from the city, you have to replace office. We're starting to actually see some progress, we've seen a few other, examples. KingSett has a property at Bay and Bloor, where they were successful, reducing that number significantly on the office replacement. Reserve Properties at 277 Wellington West similarly was able to reduce, the amount of office replacement. The city is starting to get it.
They're slow, they are parliamentary, in terms of their, their thinking, but we do see an opening, and as such, we're gonna try and see if we can do better.
Remind me, what is the timing to kind of go back? I know you've firmed up the density, which was the important part of it, but what's the timing to go back to the city and go through that process?
Yeah. To that point, 310 Front with the council, we got our approval last week. 55 Yonge, we managed our settlement conditions in Q1. 69 Yonge is headed to council in October with a positive staff report, 145 Wellington was done last August. All 4 of those are quote, unquote, "firmed up" in their approval. For us to go back in, we're gonna attempt to be back in Q4 or Q1 latest, next year.
In terms of approval, because we've dealt with all the minutiae of what's the absolute height of the building, how much density, what are the setbacks, all the stuff we normally haggle on, it's difficult to say it'll be, you know, significantly less time, but we're hoping by kind of mid-2025, we would have new approvals in place.
That's downtown Toronto. You can talk a little bit to, Bouchard and, and, Burnaby.
For Quebec, it's, it's a refreshing process. At, at Bouchard, we're hoping by the end of this year, we've got new bylaws in place for that property. For Burnaby, which is 3777 Kingsway, we're hoping to have our entitlement finished by Q3 of next year.
Okay. That's, that's helpful. Then I, I can't remember the timing on Prince Andrew, but you were waiting to win the lottery or not win the lottery on a timing basis there. Is there any update at this point as to the land use change?
Matt, you may or may not have heard that announcement on Wednesday, which was not the most flattering announcement regarding our Minister of Municipal Affairs and Housing and his chief of staff. As a result of that, any discussion on Official Plan Amendments has grinded to a halt. We, we believe that we're still progressing well, but the problem is timing. It's not a question of, of the substance of what we want to get done, it's a question of when we can actually get it done. They are.
Got it.
They are kind of. They're in firefighting mode.
Yeah, I can imagine. It was only CAD 2 billion. Just switching gears to the US multifamily side. Just, Emily, is your sense that the markets that you're in is, is where you want to continue to be at this point? I saw you did a small land acquisition. I don't know if it's meant for ultimately owning the rental residential, or if it's, it's meant to be a play on, on kind of getting at value on development in the San Diego area. But do coastal markets fit into kind of your view as to where Lantower wants to be longer term?
I think I'll take that one. Let me just take that one. This is, it's, it's Lantower, not Lantower. We have a joint venture with Ledcor, Qualico. Qualico is from Winnipeg, Ledcor is from Vancouver. We've had a long-term relationship with them. The Ledcor, Qualico, the reason I say it's not Lantower is because it's under the Lantower banners, guidance, not banner. Those are built to be sold, not built to keep.
Okay.
That was a play we entered into a while ago, and had certain conditions on the land, which was achieved. We don't plan to be long, we don't plan to stay in those markets at all. We, we were, sorry, Long Beach, with Shoreline, which is now 90% occupied, would have been on the market if the market would have been stronger and it would have been sold by now. The answer to your question is, it's not long-term. This is all, Qualico, Ledcor, are all meant to be sold. They are experts in that market, and that's why we use their guidance in the West Coast market. Similar to the New York market, which was not our expertise either, and that's managed by the Tishman.
It's not under the Lantower banner either.
Okay. I guess, Tom, do, do you like those markets long-term as rental markets? Would it make sense eventually to go into them, or is the focus gonna be kind of Sunbelt at this point for-
No.
for rental?
Well, they're different buckets. The answer to the question is long-term, Emily's business and Lantower is the Sunbelt, and that's going to be her focus and her strength going forward. To diversify yourself across the country is a big demand from a knowledge base and a capital base. I don't think we have the capital or the knowledge, and to go into those markets. The answer to your question is, at this point in time, it'll only be strategic with taking a one-third position or something like that, where we see value and where we made a lot of money in the past. I don't think Lantower is going to head into those markets.
Not because those, those markets are, are good or bad, it's just you can't be everywhere.
Okay, fair enough. Thanks.
Thank you. The next question comes from Sumayya Syed at CIBC. Please go ahead.
Thanks. Good morning. Just gonna touch on capital allocation first. Obviously, buybacks have resumed in the quarter, and you've also acquired some future development lands in the U.S. Just wondering, how do you prioritize allocating capital as you get proceeds from your future asset sales?
Good morning, Sumayya, and welcome back.
Thank you.
Proceeds will be first used to repay debt to keep our, as I said before, our debt-to-asset ratio in line. Our debt-to-equity ratio in line. The balance will be divided either between the developments that we have on the go, that we already have on the go. We have not committed to any further developments other than the ones under, currently under construction. Besides that, then will be used to pay back to buy back units. That is kind of the order.
Just to, just give you clarification, the two land deals that you're looking at were not because strategically we decided we want to buy land. Those were entered into a couple of years ago, and there were certain milestones in which we put down a hard deposit, and the vendor had to go ahead and achieve the milestones of zoning, which they did. Today, not because of value or anything else, they're good pieces of property, but we would not allocate capital, specifically answering your question, to further acquisitions of land, today, post COVID, to where we are in the world today. Again, those were entered into a couple of years ago.
Okay, that's clear. Just, more of a housekeeping question for Larry. On the capitalized interest in the quarter, would that be a good run rate for the balance of the year?
Sumayya, yes, the capitalized interest should more or less continue on the same pace as we had it in Q2.
Okay, thanks. I'll turn it back.
Thank you.
Thank you, ladies and gentlemen. As a reminder, should you have any questions, please press Star One. Next question comes from Jenny Ma at BMO Capital Markets. Please go ahead.
Thanks. Good morning, everyone.
Good morning.
I wanted to ask about your Caledon lands. I know you just mentioned in the last question that you haven't committed to any future developments, what would you need to see, what triggers do you need for any development there to commence? If you were to start today, do you think you'd be able to replicate the kind of yields you got on the Meadowvale developments?
Hi, Jenny, it's Matthew Kingston. In terms of getting the ability to proceed, we're currently tied up because of the 413 and 410 extension. There's a sort of moratorium on all our lands that we, we have remaining, except for three acres of land. We, we wouldn't proceed with those three acres because we'd want it to be a much bigger piece. Once this moratorium lifts, we would have a bigger contiguous piece to develop. We're just sitting on those, those three excess acres for now. In terms of the balance lands, we are in active discussions with the MTO and the region to say that we believe they are at a point where they're starting to scope down their corridor.
We are exploring the options of expropriation and trying to see if we can get the land, at least partially sold now that they're starting to finalize their plans for the highway. We're also exploring possibilities of temporary servicing or servicing solutions that would allow us to break free. There's a, there's a planning context because of the highway, which is holding us up, and there's a servicing context, which is linked to the planning one. We're, we're investigating a number of different options to go.
With respect to the deal, I'll pass that back to Tom.
Yeah, in relative terms, the Mississauga lands are infill, much more so than the Caledon lands, and the returns are higher. The, the, the build- we, we bought our lands in the Mississauga, and the future ones that we'll be doing on, on Slate Drive and on Mississauga Road are at a very, very, very, very, low price, and that's why the yields are so high. The rental rates are very high because it's infill. Caledon is strong. I think there's a lot of development that's gonna occur in Caledon. I don't think you're gonna see the same type of returns, though.
Okay, it sounds like it's gonna be a while before you can commence on anything in Caledon.
Correct. Yeah.
I appreciate the color on the land values for res development. Can you comment on what you're seeing on the industrial development side in the GTA?
Land values? Is that your question?
Yeah. Yes.
Oh, they're, yeah, they've softened. You know, I'll hand it over to Matt, back to Matt again, since, you know, I'm on vacation, as soon as we're finished here, Jenny, I'm out of here.
Hi. Hi, Jenny. I, I think, we're seeing it softening a bit. I think, we're, we're lucky with our location, so we're, we're more focused on 6,900 red, 520 Slate, Meadowvale. I, I think, we, we see price coming down about 10%, maybe. Again, there aren't a ton of trades to back things up. The residential land price Tom was referring to earlier, we think it's down about 40%. Relatively speaking, the industrial price is, is not quite as soft right now. It's, it's definitely leveling off or softening.
Let me just qualify that for a second, though. The big trades in industrial, the milestones are $3.5 million, $3 million, $3.2 million an acre. It's hard to answer your question, have they softened a whole lot? Because there's almost no trades with 100, 100 acre blocks. It's not that they're not available if you want to pry it loose, it's just no one's buying it.
Yeah.
They have softened. I don't think there's evidence to any great extent of what they have softened to. The $4.2 million or the $4 million per acre. Let's talk about the 160 McNab that ultimately we want to rezone. That's. Well, actually, it, it is rezoned, it is zoned, but ultimately that may be prices. That was at $4.2 million, 8, it's 8-13 acres. The prices have not come off much on this. Infill is still very, very strong.
Yeah.
Large blocks, 200 acres, you're not seeing the trades, institutions such as the HOOPP of the world and the, the big pension funds, they've, Oxford, et cetera. They've already land bank quite a bit of it. You're seeing almost no trades right now.
Okay. Turning to the, the res land that you were talking about, I'm gonna ask you to speculate a bit, but I'll attempt the question anyway. The decline has been obviously bigger than you've seen it for industrial. What do you think needs to shift for the land values to recover back to that 275 that you had mentioned earlier? Is it about construction costs? You know, for interest rates, do they just need to stabilize around current levels, or do they need to go down substantially for you to see that? What's your view on how we get those land values back and any sense of timing?
Jenny, I think definitely sales are the thing that need to drive it. We are seeing very low new home sales. We're seeing low new home sales because the demand is down, because interest rates are so high. I don't think there's a panacea. I don't think it's a single thing that's gonna solve the issue. Definitely interest rates, I think, are the most important.
Mm-hmm.
Construction costs on the early work things, where you're not buying a manufactured product, so you're not a plumber buying a toilet or a, you know, a kitchen manufacturer. On the shoring, earthwork, upfront works, we are seeing a softening, including formwork, which is one of our biggest divisions. We're starting to see formwork prices, which were $21-$22 a foot, call it four months ago, are now getting quoted in the high 17s, low 18s. That's a function of the work not starting over the last 12-18 months, and that's not changing over the next 6-12 months.
Mm-hmm.
We are gonna see construction costs come down. That'll help us. Interest rates have got to come down too, though, or else it's. You know, the investors right now, they're basically anything over $700,000 is not moving. It's kind of a hard stop in terms of an end price.
Okay.
You see people getting smaller and smaller with product. Our average unit sizes were 650 last year. They're 550 now. We cannot get any smaller. Literally, we are at the code minimum. That is no longer a lever we can pull. We can't say just make them smaller. It has to be a function of the hard costs coming down, interest rates softening. Those are the things that are gonna help us.
Finally, don't forget, right across North America, it's the banks that have to, you know, be comfortable lending again. If you're not, one of the biggest banks in Canada, sorry, one of the biggest borrowers in Canada, you're not gonna have access to bank financing. In the United States, if you are the biggest borrower, you're still not gonna have access to bank financing.
Yeah.
That's how tight it is down there.
Yeah.
All, all these, stars have to align.
And we're seeing a lot of polygamy in our world. We're seeing a lot of people partnering up, 1 partner, 2 partners. there's a lot of, of dilution of positions right now, not a lot of sales, whether on new home sales or land sales right now.
Okay. That's very helpful. Thanks. Lastly, for me, the unsecured debenture coming due. Larry, can you share with us what kind of pricing or spreads you're seeing for that, how it compares versus secure debt, and whether or not you'd be inclined to maybe tap secure debt versus unsecured, given where interest rates have moved?
Hey, Jenny. I think to do a refinancing today of our unsecured debenture would cost us around 6.5%, call it, in that ballpark. To do a secured financing would probably be 50 basis cheaper, around 6%. What are we thinking? Now, we when it comes to renew, we'll see what our proceeds are from certain sales. You know, we may not pre-finance all, and we may have some proceeds and only end up pre-financing CAD 250 of the CAD 350 or something like that. That, that, that is the game plan for now.
It's really the same game plan as before. We always pay the premium to get unsecured debt, to get the flexibility of being able to sell properties without having to be encumbered. Since our, our plan is to still continue to sell properties, I don't think we want to put on secured debt and encumber the properties. We will still, even across 50 basis points more, continue with the unsecured world.
Okay, great. Thank you very much.
Thanks.
Thanks, Jenny.
Thank you. The next question comes from Eric Brown at Sun Life Capital. Please go ahead.
Hello. Just 2 questions on my end. First, on the retail portfolio, as you think about moving towards your target portfolio composition, what trends are you seeing on the disposition, and what are you expecting going forward?
Our retail is very much grocery anchored, but it's not grocery anchored strip centers. It's primarily single tenant. Our Giant Eagle/ ECHO portfolio, which is predominantly Giant Eagle stores, single stores, not malls, not strip malls, and GetGo, which are gas bars, together with convenience stores. They're long-term leased, leased to with visibility to a very strong tenant. In Canada, our portfolio is leased to the Metros, the Sobeys, again, grocery, Shoppers, et cetera. Those are very liquid. It's easy to sell them. We're not in a rush to sell them. They're good cash flow. There's a wide range of buyers, more so on the retail investor rather than institutional investor that we can sell. We're pacing our sales, and right now our focus is still on office.
We haven't really pulled the trigger to sell any of the retail at this point in time.
Thanks. That's useful. Then lastly, just further color on the capital allocation and payment of debt. Is there a specific debt to EBITDA level you're targeting?
Yeah. We're currently at 9.5, I believe, as our debt to EBITDA, 9.4, 9.5 in that range. We want to try and keep it around there. We definitely don't want to go over 9.8, would be our maximum, maximum. The range that we're currently in is where we'd like to keep it.
Thank you.
Thank you.
Thank you. Thank you. The next question is a follow-up from Mario Saric at Scotiabank. Please go ahead.
Hi. Sorry, one more, one more quick one on my end. The planned conversion of the office to industrial in Mississauga, what, what types of returns should we think about on the incremental capital on that?
You're talking about, Merit. Which one, which project? Merit Drive?
That's right.
Merit. You put it in the Merit at its current, the value of the land, which is the value of the building upon demolition, is the value of the land. If you put the land at the current market, then you're going to be looking probably in the range around 5.5.
Perfect. Okay, interesting. Thank you.
That's probably going to be 123,000 sq ft, 40 feet high. We've just been negotiating with ourselves as to the height, but it'll probably be state-of-the-art. It could well be for studio space as well. It may have a higher use than conventional office. Again, it'll be high cube space, and at 123,000 sq ft, there's not a lot of that in Toronto.
Got it.
Mario, just, and if you're talking about margin on a cost basis, the yield will be around 12%.
Got it. Okay.
From a development perspective and an ROI perspective, we think it's accretive.
Makes sense. Okay, thanks.
Thanks.
Thank you. There are no further questions. I will now turn the call back over for closing comments.
Thank you, everyone. Have a great weekend.
Ladies and gentlemen, this concludes our conference call for today. We thank you for participating, and we ask that you please disconnect.