Good afternoon, ladies and gentlemen. My name is Sylvie, and I will be your conference operator today. At this time, I would like to welcome everyone to Artis REIT's second quarter 2020 conference call. Note that 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 this time, simply press star then number one on your telephone keypad. If you would like to withdraw your question, please press star followed by two. Today's discussion may include forward-looking statements, which include statements that are not statements of historical fact and statements regarding Artis REIT's future financial performance and its execution or initiatives to deliver unit holder value. Such statements are based on management's assumptions and beliefs.
These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. Please see Artis REIT's public filings for a discussion of these risk factors, which are included in their annual and quarterly filings, which can be found on Artis REIT's website and on SEDAR. Thank you. I would like to turn the meeting over to Mr. Armin Martens. Please go ahead, sir.
Okay. Thank you, moderator. Good day, everyone, and welcome to our Q2 2020 conference call. Again, my name is Armin Martens. I'm the CEO of Artis REIT. And with me on this call is Jim Green, our CFO, Kim Riley, our EVP of Investments, Philip Martens, EVP of U.S. Operations, Jaclyn Koenig, SVP Accounting, and Heather Nikkel, VP of Investor Relations is on the call as well. Again, thanks for joining us, folks. I'll begin, as usual, by asking Jim Green to review some of our financial highlights, and then I'll wrap up with some market commentary, and then we'll open the lines for questions. Go ahead, please, Jim.
Thanks, Armin, good afternoon, everyone. I guess the strange times we talked about last quarter are continuing. However, the economies in both the U.S. and Canada are gradually reopening, and life is getting closer to a new normal despite the ongoing presence of COVID-19 in our economies. For Artis, and I think for most REITs, July and August have seen progressively stronger rent collections than that experienced in April, May, and June. On the Canadian operations, Artis to date has not participated in the CECRA program as proposed by the federal government. However, in both countries, we have been working with our tenants as needed to provide rent deferrals, or in some cases, we've provided rent abatements in exchange for an early renewal or a longer term on the lease.
To the end of June, our rents receivable were approximately CAD 12 million, with a further CAD 4 million due under deferral agreements that have been executed with our tenants. While we feel the majority will ultimately be collected, we did book a reserve of approximately CAD 3 million against these balances, which we feel is adequate to cover any potential rent defaults. For July, we've collected 91.8% of our rents due by July 31st, counting amounts collected in July on prior balances, we've collected 93.1% of the rents due in the second quarter.
Based on that statistic, it sounds like I'm contradicting myself a little bit about July being stronger, but the way we apply payments is if a tenant was in arrears at June 30th and they made a payment during July, we treat that as paying off the oldest arrears first before the July rent shows as being paid. You'll recall the REIT has been working on a planned series of new initiatives, and we're nearing completion of that program, including buying back our units as planned under the NCIB. We're really done that component of the initiatives. However, our ability to sell assets and pay down debt has been impacted by the uncertainty caused by COVID-19. We are, however, starting to see some buyer interest returning, and we expect to see sales activity pick up in Q3 and Q4 this year and into the first half of next year.
As we've stated previously, we plan to use proceeds from further asset sales to pay down debt and further strengthen our balance sheet. Based on our Q2 NOI, the REIT was 47.4% weighted in Canada and 52.6% in the United States. Some of the swing this quarter to be much larger in the U.S. was that all of our retail assets are located in Canada, and this segment has the largest share of the allowance for bad debts. As we move forward, however, we expect the majority of future asset sales will likely be in Canada, and we expect this ratio to continue such that greater than 50% of our income will come from assets in the United States. On an asset- class basis, we are presently 47.5% weighted in office, 17.2% in retail, and 35.3% in industrial.
Artis continues to be active in new developments and redevelopment of our existing properties. We did not start anything new this quarter given the COVID lockdowns, we continued to work on the projects already under development. To June 30th, we have approximately CAD 134 million invested in these projects. During the quarter, there was roughly a further CAD 35 million invested in development projects, we completed one project and transferred it to regular income-producing properties. As detailed in the MD&A, we have several development projects that remain underway, including the mixed-use residential tower at 300 Main in Winnipeg, new industrial space in Houston, a small retail development already fully leased as additional density on one of our retail sites in Winnipeg. Also as detailed in the MD&A, we have several development projects in the planning stages where we've not actively started.
Some of these are virtually ready to go as soon as the COVID-19 situation seems to have stabilized. Our balance sheet remains relatively consistent with debt- to- GBV on a proportionate share basis at 52.5% this quarter versus 52.3% at year-end. One thing I don't usually touch on, but I will this quarter, is that Artis has a fairly significant portion of our debt maturing in the next 12 months, with CAD 564 million of mortgage debt in addition to an unsecured debenture for CAD 250 million. Roughly CAD 33 million of the mortgage debt will be repaid just by the regular scheduled principal repayments, and we've already renewed approximately CAD 80 million of the mortgages, or roughly 33% of the amount that falls due in 2020. We are not anticipating any difficulty in refinancing the rest. The mortgage debt is spread across approximately 20 properties.
Our NOI this quarter was CAD 70.2 million, compared to CAD 71.9 million last quarter. It's a drop of CAD 1.7 million created primarily by almost CAD 3 million as a provision against doubtful accounts and some lower parking revenue as some of our tenants work from home. They can't necessarily cancel the leases, but they can stop paying for parking if they choose to on a month-by-month basis. That was partially offset. We were almost a CAD 1 million gain on foreign exchange due to higher rates during the quarter. Other than the bad debt allowance, we had positive same-property income that also contributed to the NOI. Despite the drop in NOI, FFO for the quarter was up to CAD 49.4 million from CAD 46.4 million last quarter, with the CAD 1.7 million drop in NOI being substantially more than offset by lower interest expenses on our debt as well as reduced corporate expenses.
FFO on a per unit basis came in at CAD 0.36 this quarter compared with CAD 0.33 last quarter and was flat unchanged at CAD 0.36 from the same quarter last year. We had a little bit of new disclosure this quarter breaking out our FFO from each asset class, just using the percentage of NOI as a method of allocation. On this basis, we earned CAD 0.17 of FFO from our office portfolios, CAD 0.13 from industrial, and CAD 0.06 from retail. AFFO for the quarter was CAD 0.27. Again, up from Q1 but flat to Q2 of 2019. Our payout ratios for the quarter are a very conservative 38.9% of FFO and 51.9% of AFFO. Results from operations on a same-property basis were down to a - 2% this quarter.
You may recall in prior quarters we had presented a stabilized same-property calculation which eliminated properties planned for disposition and also backed out the Calgary office portfolio. We were planning on just eliminating the stabilized result this quarter, but as a major factor in the negative same-property result was the allowance booked for doubtful accounts. We did present the number excluding the allowance, and that would have resulted in positive same-property growth of 1.2%. The industrial segment continues to be the strongest performance in both countries, with 6.1% growth in Canada and 3.3% growth in the United States. On the income-producing property portfolio, we are valued on our balance sheet at fair value, and this quarter continued to be a little bit challenging to determine fair value because there has not been a lot of asset sales recently.
However, there's no hard evidence that cap rates, discount rates, or market rents have moved substantially during the quarter. You may recall that we recorded a fairly substantial reduction in value at the end of Q1, which we felt was adequate coverage, and at the end of Q2, we did not feel any significant further adjustment was warranted. We actually wound up with an increase being booked with the main driver of the increase being the industrial segment led by the Ontario industrial properties, where the increase in value is largely driven by increasing rental rates.
As we report those investment properties at fair value, we are able to calculate a net asset value per trust unit on an IFRS basis, and our calculation just uses the equity on our balance sheet less the equity held by the unit holders and then divided by the number of common units outstanding at the end of the quarter. Net asset value per trust unit on that basis was CAD 15.40 this quarter compared to CAD 15.52 last quarter. A net decline of CAD 0.12 due to several factors, the largest of which was foreign exchange, which on a standalone basis would have decreased our NAV by CAD 0.42. Other financial instruments, which consist mainly of the debt swaps, contributed a further CAD 0.03 drop in the fall in interest rates. Our distributions for the quarter were CAD 0.17.
Offsetting those three reductions was a gain of CAD 0.34 from our income for the quarter, plus a CAD 0.09 gain from the fair value adjustment and a CAD 0.07 gain due to the purchases under our NCIB. Artis ended the quarter with CAD 40 million of cash on hand and CAD 172 million undrawn on our line of credit. Based on what we know today, we feel that's more than adequate liquidity to get us through the remainder of the COVID-19 crisis, and we look forward to more normal times. That completes the financial review for now. I'm happy to answer questions later, but I'll pass it back to Armin for a bit more discussion first. Keep well, everybody.
Okay. Thanks, Jim. Folks, this has been a volatile and unprecedented year, of course, as you know. As it applies to Artis, we feel that the worst is already behind us. We really do. Artis is performing very well this year. We continue to make good progress on all key strategic fronts and are delivering strong performance metrics for our unit holders. Our rental increase, our same property NOI, our AFFO and AFFO per unit are all solid numbers. Our rent collections are good and already improving. Watch for more monthly updates from us in August and September as we move forward that will demonstrate an improving trend. We're in great shape and things are looking up.
Looking ahead, given our very conservative payout ratio of AFFO for 52% and the progress we've made on our strategic initiatives, debt reduction is and will be a top priority for us. As Jim mentioned, falling floating interest rates are a natural boost to our earnings, which we think is structural and will remain with us long term. Lower for longer or lower for even longer is clearly the new normal for interest rates. It is our view that liquidity and availability of credit will continue to improve as we get to the other side of this shutdown. All of this, of course, will be good for real estate at REIT valuations.
Our property disposition program slowed during Q2, of course. Looking ahead for this year, we anticipate selling at least another CAD 200 million of property by year-end and another CAD 200 million during the first half of next year. CAD 400 million of properties during the next 12 months, all retail and office properties. Again, at prices consistent with our IFRS NAV of CAD 15.40. Again, used for debt reduction. I might add that we already have over CAD 20 million of properties under contract or LOI for sale and another CAD 100 million under discussion with paper being traded. Nobody need be concerned about our ability to get this done and pay down our debt. Nobody should even be surprised to see us get all CAD 400 million done by the end of this year.
When I say done by the end of this year, I mean either closed or at least unconditional. We see good momentum, good traction in our disposition program now coming back for us. It's important to note, of course, that as our financial metrics improve, so does our portfolio of properties. We're continuing to reduce our office and retail weighting and increasing our ownership of industrial properties. We're streamlining and high-grading our portfolio as well as reducing the number of secondary markets we're in. One could say this is basically a private equity model that we're implementing to maximize unit holder value, it's just that we're also minimizing debt in the process. On balance, our overall portfolio is performing well.
Again, we own almost CAD 2 billion of industrial properties which have a very good track record and continue to deliver solid organic growth on both sides of the border. Our industrial development pipeline is on track to deliver excellent results as well. Stay tuned for more good news on this front as we move to expand our industrial development pipeline with institutional joint venture partners this year and into the very near future. As a little fun fact, we don't disclose it as well as we could or should, but in the past five years, Artis has in fact developed over $200 million of new generation industrial properties that generated an IRR for us, an average IRR of over 30%. So we feel good about that asset class. We have a very good track record in developing new generation industrial, and we'll continue to grow that.
Now, in terms of our retail properties, it's important to note that they represent just 17% of our total NOI, and they're all open-air service sector strip malls. Of that retail component, we estimate that approximately 80% of our tenants are selling products or services that are essential, in quotations if you will, essential in the sense that the shopping has to be done primarily in person, not online. Folks, by now you've noticed that Artis is not your grandmother's diversified REIT anymore. All right? We're not your typical diversified REIT anymore, and we feel we really should not be compared to diversified REITs anymore. At an 83% weighting, Artis is now an office and industrial REIT with just some retail on the side, which is very resilient retail. As mentioned, we'll be continuing to shrink both our retail and office weighting whilst growing our industrial. Sorry.
Just to go back a little bit in history, we've done a lot of heavy lifting in the last three years to transform and improve Artis. In the last three years alone, we've reduced our Alberta weighting from 36%- 16%. Our Calgary office from 15% down to 2%. Our retail is down from 26%- 17%. It's all in the last three years. Office down from 51%- 48%, and industrial is up from 23%- 35% and climbing. Again, a lot of heavy lifting the past three years. If you look at our investor presentations, we're targeting by the end of next year to be at 10% retail, to be at 50% industrial, that's 50%, and 40% office. We'll get there. We'll get there.
When we say we're going to sell CAD 400 million of real estate at our NAV and use the money to pay down our debts, we will. When we say we'll hit these targets in asset class allocation, we will, or we'll even do better. As I said, a lot of heavy lifting is behind us, and we feel like we're going downhill now. This pandemic was a serious distraction, in our case, given the nature of our portfolio being office and industrial primarily, the worst is behind us. In any event, that's enough about us. That's our report for this quarter, folks. It was a good quarter for sure. We feel we're going to end the year well, we'll have a very good year this year, next year will be an even better year.
Now I'll turn the floor over, the mic over to the moderator and open the lines for questions.
Thank you, sir. Ladies and gentlemen, as stated, if you do have a question, please press star followed by one on your touch-tone phone. You will hear a three-tone prompt acknowledging your request. If you would like to withdraw your question, simply press star followed by two. If you're using a speakerphone, we do ask that you please lift the handset before pressing any keys. Please go ahead and press star one now if you do have any questions. Your first question will be from Jonathan Kelcher at TD Securities. Please go ahead.
Thanks. Good afternoon. Armin, can you maybe, I guess in your prepared remarks there, you kind of hinted at maybe some sort of JV development fund or something like that. Can you maybe expand on that a little bit?
Yes. We're targeting a fund of USD 100 million in U.S. equity that in turn can be levered to develop USD 300 million of new generation industrial. We've got at the beginning of our pipeline already tied up in terms of properties, a large and new industrial development in Phoenix and another smaller one in Minneapolis to get the ball rolling. There's two ways to skin the cat, Jonathan. One way or another, we're getting a lot of interest from institutional equity partners. An easy way out is for us to just do one joint venture at a time as we move forward with our pipeline. In a perfect world, we'd like to have the fund established in advance and committed. Either way, we'll be moving ahead with names. You'll recognize the names when we have the deal done for joint venture, new generation industrial in Phoenix.
The reason we're doing this, in a perfect world, we'd like to use our own capital, own 100%, but right now, all of our positive cash flow is being used to pay down debt as we sell our buildings, to pay down debt, improve the balance sheet, which will give us a better price multiple. In parallel with that, we don't want to stop doing industrial development deals. We would be the GP. It would be a 90/10 deal, 10% equity from Artis, 90% from the JV partner. We'll get an asset management fee, we'll get an override on the leasing, and we'll get a promote structure as well, which will juice up our IRR a lot. Does that help you?
Yeah, that is helpful. Thanks. Then, just switching gears a little bit. Jim, you talked about having a lot of mortgage debt coming due the next 12 months. What sort of rates are you seeing right now?
The spreads have definitely gone up in both Canada and the U.S., but with the declines in both BA rates and LIBOR rates, I think the all-in coupon to the borrower, we would be pretty close to our expiring rates. Call it five-year debt, still sub 3%, and you get out to 10-year debt, it might be a little over 3%.
Would you be looking to fix more of that?
On some properties, yes. If it's a property that we plan to hold long-term, we would look to place a longer-term piece of debt on.
Fixed rate still, right?
We either fixed rate or protected by a swap, yes.
Okay. That works for me. I'll turn it back. Thanks.
Thank you. As a reminder, ladies and gentlemen, if you do have a question, please press star followed by one on your touch-tone phone at this time. Your next question will be from Matt Logan at RBC. Please go ahead.
Thank you, and good afternoon. Armin, looking through the Q2 bad debts, can you give us a little bit of color on the operating performance of your Canadian office assets and how those compare to your office properties in the U.S.?
You got the data there, Jim? You have the breakdown? We'll not leave net showings in there. I think we're a little bit shyer on the Canadian side than the U.S. side. What have we got there?
Correct. The allowance for doubtful accounts is larger in the Canadian office than in the U.S. office. The biggest piece, of course, is the retail allowance, but total office allowance is roughly CAD 850,000 .
Yeah.
Yeah.
It's a tough one to call. In the last 90 days, tenants, it was a little easier to renew a lease, I guess, if a tenant was forced to renew. To do a new lease was challenging. It was spotty. I know in Toronto at our Concorde Corporate Centre place there, we got some good leasing done in the last 90 days, actually. Made some good progress. Other situations, tenants would just not make any decisions. We do the virtual tours and all that, but they're not making many decisions. Specifically, regarding the tenants, we can't really tell you which tenants there might be a challenge.
We can't name tenants, obviously, but the tenants where we were having rent collection problems are generally the ones that have some tie-in to retail. If they were either a head office or servicing the retail sector, then those tenants were struggling a little bit.
Yeah. If you've got a head office of a retail tenant, a retail operator, a head office of a restaurant operator, that's a bit of a challenge. Sometimes tenants just wanted to push back and say, during these unprecedented times, let's be partners in rent reductions. We go back and say, nice try. Let's get back to paying rent unless you can demonstrate. For a good reason, we always help a good tenant. If they don't need help, then they won't get that help. We definitely feel, as we move forward, industrial market's back to pre-COVID-19 times. Industrial market's strong and robust. Office market's not 100%, not back to pre-COVID-19 times yet, but improving. Retail is what it is. It does depend what kind of retail you have.
We definitely feel and see our retail NOI improving, now we think the bottom is behind us with retail.
Would it be fair to say the difference between Canada and the U.S. from an office standpoint might be more tenant-specific as opposed to cultural differences or how the tenants are perceiving the value of office space on one side of the border or the other?
I would say that as well. We're hearing and reading about the trend to more work from home. Larger corporations can afford that, I guess. I think as the dust settles, there won't be as much work from home as we think. There will be more work at home than there used to be. On the other side of that ledger is that tenants will invariably need more space, square feet per employee than they used to need as well. Hopefully that balances out in favor of the landlord over time.
Have you done any notable office leasing on either side of the border since the pandemic began? Or has the leasing mostly been in the industrial portfolio?
Mostly industrial. Done a little bit here in Canada as well. I'm going to let Joanna weigh in a little on all this, any new leasing on the office side. Our next leasing meeting's next week, our next monthly meeting. It's been neutral. It's been fairly neutral on the office on both sides of the border. I know our Concorde Corporate Centre there, that we saw some good improvements there. Down in Vancouver, the Kincaid office, we're getting good momentum there as well. It's a bit spotty, but these are times when people were just caught like deer in the headlight who put their pens down and said, "Let's just wait and see." Now people have got their pens in their hand again and they want to do business again.
Yeah, I could add that we've also ramped up our virtual tours. We've done video of vacant space and been able to post that online, which has also helped with leasing activity. As we were able to ramp that up, you can kind of see the leasing activity pick up as well.
That's a good color. Maybe just changing gears here, the fair value marks during the quarter were about CAD 12 million. Can you tell us what drove those write-ups and tell us if there have been any changes in your valuation inputs from an IFRS standpoint?
No, the valuation approach remains unchanged. We do most of our values on a discounted cash flow basis. What was driving the increases in value were generally rent increases. We didn't change discount or terminal cap rates or original cap rate type assumptions. That's largely what we were seeing from the external appraisers. We get a certain number of external appraisals done each quarter, and then we make sure that our valuation models are mirroring theirs.
Last question from me, just on your disposition program. Last quarter you talked about selling about CAD 100 million-CAD 200 million in 2020 and laid out a 2021 target for about CAD 600 million. Are those plans still largely unchanged? Maybe just an update on where those stand.
Well, we're definitely confident of our ability to sell CAD 200 million by the end of this year and another CAD 200 million by end of first half next year. Again, office and retail. We'll see if we continue because we want to get our debt down to closer to 45% of GBV and our debt-to-EBITDA to 8x . I don't think CAD 400 million gets us quite there. In the second half of next year, you should expect us to continue selling down to do that.
Appreciate the commentary. That's all from me. Thank you.
Yeah.
Thank you. Ladies and gentlemen, as a reminder, if you do have a question, you will need to press star one now. At this time, Mr. Martens, we have no other questions registered, sir. Please proceed.
Busy day for all the analysts then, a busy week. Anyways, Wanda, thank you, moderating. Thank you, everyone who's participated on the call for your interest, looking forward to updated analyst reports next week and for more dialogue as we move forward. Feel free to reach out to us anytime with questions and more information and more dialogue, as we said. Thank you very much. Have a good weekend, everyone.
Thank you, sir. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. At this time, we do ask that you please disconnect your lines.