Good afternoon, ladies and gentlemen. My name is Leonie and I'll be your conference operator today. At this time, I would like to welcome everyone to Artis REIT's first quarter 2019 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 this time, simply press star then the number 1 on your telephone keypad. If you would like to withdraw your question, simply press star followed by 2. Thank you. Today's discussion may include forward-looking statements, which include statements that are not statements of historical facts and statements regarding Artis REIT's future financial performance and its execution of 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 on 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 now like to turn the meeting over to Mr. Armin Martens. Mr. Martens, please go ahead.
Thank you, moderator. Good day, everyone, and welcome to our Q1 2019 conference call. Again, my name is Armin Martens. I'm the CEO of Artis REIT. With me on this call is Jim Green, our CFO, Kim Riley, our SVP of investments, Jaclyn Koenig, SVP accounting, as well as Heather Nikkel, Vice President of Investor Relations. Again, thanks for joining us. I'll start again, as in the past, I'll ask Jim Green to review our financial highlights and I'll wrap up with some market commentary and we'll open the lines for questions. Go ahead, Jim.
Thanks, Armin, and good afternoon, everyone. As I'm sure the majority of people on this call are aware, our third quarter earnings press release back in November of 2018 announced a series of new initiatives for the REIT. As this was a relatively quiet quarter and I expect most callers would prefer to spend time on those status update on those initiatives, I'm going to keep my comments on the financial operating results fairly short, but happy to answer questions if anybody has detailed questions later. Artis is and remains a diversified commercial REIT with assets in the five Canadian provinces and six U.S. states. Based on our Q1 NOI, the REIT was 53.7% weighted in Canada and 46.3% in the U.S.
On an asset class basis, it's 53.1% in office, 20.1% in retail and 26.8% in industrial. We do continue to have a presence in the Calgary office market, although it's becoming a small component of our operations. For Q1, it's down to 6.1% of our NOI, and I'm kind of pleased to say that our MD&A usually discusses our top 5 segments, and Calgary office is no longer one of our top 5 segments. Nice to see that shrinking to a manageable level. Looking at that Calgary office, because it's always a very difficult market, we have relatively small exposure to our current tenant maturities in the near future. We only have roughly 112,000 feet that will mature in 2019 and only 48,000 feet of space in 2020.
Artis does continue to be active in both new developments and redevelopment of our existing properties. We currently have approximately CAD 202 million invested to date in projects currently under development. During the quarter, we invested, of that, CAD 50 million was invested into the development projects this quarter. As detailed in our MD&A, it's several different development projects underway, including a new residential and mixed-use tower in Winnipeg at 300 Main Street, and new industrial space in Houston, Phoenix and Denver. As detailed in the MD&A, we also have several development projects in the planning stages where we have not actively started construction, these projects are progressing well through the development stages. We've been able to maintain the strength of our balance sheet.
Debt to GBV is up slightly this quarter to 51.7% compared to 50.6% at December of last year. The main driver of the increase in debt to GBV has been timing of the purchases for our planned unit buyback compared to the asset sales, and I'll discuss the asset sales in a little more detail in a minute. We anticipate bringing that debt to GBV back under 50% as the asset sales are completed. Our EBIT interest coverages remain over 3 times despite carrying a bit higher debt at the present time. The unit buyback is definitely having an impact and FFO came in at CAD 0.34 this quarter, up from CAD 0.33 last year. Might be only a penny, but I'm pretty happy to talk about an increase in FFO because it's been a while since we got to do that.
Very pleased to see the impact happening and increases in FFO. AFFO for the quarter was CAD 0.25, actually up a penny from last quarter as well, but unchanged from Q1 of 2018. Payout ratios are a very conservative 41.2% of FFO and 56.0% of AFFO. Coming back to those initiatives, specifically in November 1st of 2018, we announced the series of new initiatives aimed at increasing cash flow and increasing unit values, and improving the focus and quality of the portfolio. The distribution was reset to CAD 0.54 annually, resulting in a much more conservative payout ratio and freeing up cash to fund our development pipeline. The plan announced also included non-core asset sales of between CAD 800 million-CAD 1 billion, this process is well underway.
As you may have noted, at March 31, we had already moved CAD 518 million of properties into the held-for-sale, and we anticipate most of those will sell over the next 2 quarters. In the Subsequent Events section, you'll note 1 is already closed, and further properties have been added to the group of held-for-sale, bringing it up in excess of CAD 800 million. Well along the line of our targeted between CAD 800 million and CAD 1 billion of asset sales. That was sort of a 2-to-3-year target, so we should be well ahead of schedule on getting that done. The initiatives also included using a portion of the sales proceeds to buy back our units using our NCIB, we started this immediately after the announcement last November.
From last November when we announced it to March 31, we had purchased 9.1 million units at a cost of just under CAD 94 million. We used our line of credit to fund these purchases and plan on repaying the line as the assets are sold. Unit purchases have continued in April and May using the maximum amount available under our NCIB. In our opinion, the plan to buy back units is also on track and ahead of schedule. I'll just touch on 2 more highlights and then pass it back to Armin. Debt to GBV, I think I covered in my opening comments, so nothing further. Unencumbered assets, the REIT has. We paid off 1 additional secured mortgage this quarter, bringing the unencumbered asset pool up to CAD 1.9 billion. We have fairly good liquidity.
We have a CAD 700 million unsecured revolving credit facility and 2 non-revolving unsecured credit facilities for a further CAD 300 million. The non-revolving facilities are drawn in full with swaps placed to fix the interest rates. Same property this quarter we were very pleased with, a positive 5.1% in CAD, and translating that back to functional currency or the mixed dollars of CAD/U.S., it was still a nice positive 2.9%. We also present a stabilized same property calculation, which eliminates the properties planned for disposition or repurposing, as well as the entire Calgary office sector. On this basis, growth was 3.3% in functional currency and up to 5.7% once FX was factored in. Industrial segment continues to show the strongest performance, with 3.4% growth in Canada and 10.1% growth in the U.S. Other comments would be the net asset value.
We report our investment properties at fair value under IFRS, accordingly can calculate a net asset value per trust unit. Simple calculation of taking the equity on the balance sheet, less the equity held by preferred unit holders, dividing by the number of common units outstanding at the quarter. The net asset value per trust unit came in interestingly enough at CAD 15.55, which is exactly unchanged from last quarter. Although there were a number of movements in both directions. Specifically, foreign exchange, the Canadian dollar strengthened a little bit during the quarter from where it was at year-end, so there was a decrease in NAV of roughly CAD 0.16 from foreign exchange conversions. The distributions were worked out based on the units outstanding at the end of the quarter, a reduction in net asset value of roughly CAD 0.16 as well.
Comprehensive income in excess of the fair values on foreign exchange and financial instruments, kind of the non-cash items, was a CAD 0.34 positive. We had a gain from the preferred units we canceled, roughly CAD 0.02, and roughly CAD 0.18 on gain from the NCIB on the common trust units. A whole bunch of things moving that NAV in both directions, and it still comes in at the exact same number as Q4. I think that's about it. We ended the quarter with pretty good liquidity. We had CAD 51 million of cash on hand and CAD 190 million undrawn on our line of credit. Several events detailed in the subsequent events note, which we believe continue to reflect the strategy of intelligent recycling of capital. Plan to focus on the strong balance sheet and the overall quality of the portfolio.
That pretty much completes my financial review. I'm going to turn it back to Armin for some further discussion. Thanks.
Okay. Thanks, Jim. Folks, on balance, you can see we feel we're off to a very good start this year. We're working hard on all fronts and feel we're getting good traction and making good progress for our unit holders. Again, you know, we call some key strategic initiatives that we announced in Q3 last year, and we're pleased to report that things are going well on all fronts. First of all, the distribution has, of course, been reset to a stabilized AFFO per share ratio of under 60%. This is, in fact, the lowest payout ratio in the REIT sector. Given our earnings profile, we feel this is quite a bulletproof payout ratio right now. Our unit buyback program is of course an active and successful, and three-year target was to buy just 23.5 million units at an average price of CAD 11.50.
To date, we're already about halfway there. However, at an average price of CAD 10.35. Needless to say this, we're pleased with our progress, and it's highly accretive to be buying back at the price we are right now, and this also again puts us well ahead of plan. Property dispositions, this program's making good progress. Our target is to sell CAD 800 to CAD 1 billion of non-core properties over the next three years. A lot of wood to chop here, but we've done it before and we are doing it again. Thus far, about 20 listing agreements have been signed, five properties sold for about CAD 200 million, seven more under conditional contract for about CAD 330 million, and active negotiations taking place on several more properties.
We're confident of being able to sell over CAD 600 million of properties this year alone, on time and on price to correspond with our IFRS NAV of over CAD 15, which again, would put us well ahead of plan. Nobody should be surprised if we do even better and finish it all by the end of this year, at least in principle. Meanwhile, our portfolio is performing well. Our earnings profile is improving. The office markets that we're in are somewhat inconsistent, but this is the year, folks. This is the year that our Calgary office portfolio will stabilize and begin contributing to our organic growth, even if it's just a little. Meanwhile, our retail industrial portfolios have a very good track record and continue to deliver organic growth, and our industrial development pipeline is on track to deliver good results as well.
We invite you to look again at our MD&A investor presentations for more information here. Looking ahead, we will continue to work hard to keep our buildings full whilst bringing the rents up to market, and consistently streamlining and improving our real estate portfolio. To be clear, the integrity of our balance sheet, our credit rating with implementing our new strategic initiatives is of utmost importance to us. Now, a brief word about the special committee that we announced has been formed. The board has formed a special committee of five independent trustees, to review and consider strategic alternatives in addition to the initiatives that we're implementing now. Again, it's all about maximizing unit holder value. If you look at our improved earnings profile and our portfolio, we have almost CAD 2 billion of great industrial properties.
We've got CAD 1 billion of well-performing retail properties, about CAD 3 billion of stabilized office properties. You look at these sectors, we're trading at a multiple of 10 or 11 times AFFO compared to industrial REITs trading at 16x, office 17x, retail 14x. We're not even close to a multiple of one of the asset classes we own. This mispricing is not only silly, it's also annoying. The board is going to work hard, and the management team will of course, work hard to narrow the gap between our current price and our true value. That's enough on that front. Again, that's our report for this quarter, folks. We're pleased with the results and the progress we're making on all fronts, and of course, confident in our outlook. I'll now ask the moderator, Leonie, to take over and field your questions.
Thank you. Ladies and gentlemen, should you have a question, please press star followed by one on your touchtone phone. If you're using a speakerphone, please lift your handset before pressing any keys. One moment, please, for your first question. Your first question is from Jonathan Kelcher from TD Securities. Jonathan, please go ahead.
Thanks. Good afternoon.
Hey, Jon.
First question, just on the special committee. Was that formed in response to anything in particular, or is that more of on a proactive basis?
A combination. In principle, proactive. We announced our distribution cut and our new initiatives in Q3 last year. We were trading in the CAD 11 range then. Even though we've been buying back our units, Jonathan, at a rate of three times the value of our distribution cut, we're still trading below where we were when we first cut. That's just not good. We've been monitoring that. We're surprised it even went down. That's one thing, one consideration. The other consideration is, yes, there have been some inbound calls and interest expressed in the REIT, it behooves the board to be proactive and stay in front of that kind of activity.
Okay. Are you negotiating anything right now?
No.
Okay.
No, we're not happy to announce on that front. The board has not yet engaged financial advisors. They'll be going through that process. That'll take 30-60 days. I think at Q2, you'll hear a lot more about the steps being taken. We are not negotiating with anybody right now.
Okay. Fair enough. Then just, you're up to the CAD 800 million, I guess, and over CAD 800 million in assets held for sale. Couple questions on that. Do the assets held for sale, does that include any of the ones where you were looking to get rezoning done and then you were going to list them? Thinking 415 Yonge and a couple of the others.
The answer is yes, for sure. Yeah. There's great interest in these properties even before we get the rezoning. They're definitely on the table.
Okay. Secondly, how much NOI would be associated with or current NOI would be associated with the assets held for sale?
Maybe we should give you a rough cap rate instead.
Yeah, either or. It's just for follow-up.
I think a really rough calculation here.
Kim will give you the number.
I'm getting a number around 40. Around CAD 40 million of NOI for properties held for sale.
You're talking the whole CAD 850 million?
Yes.
I think if we count the stuff transferred afterwards, it's probably a little higher than that, Kim. I think we're closer to the CAD 48 million range on the entire bucket of properties that have been transferred into held for sale.
Okay, about CAD 48 million.
That would include the stuff that sold post Q1, right?
Correct.
Okay, thanks. I'll turn it back.
Thank you. Ladies and gentlemen, as a reminder, should you have a question, please press star followed by one. Your next question is from Matt Logan from RBC Capital Markets. Matt, please go ahead.
Thank you and good afternoon.
Yes.
You guys are off to a great start with your disposition program. Can you talk a little bit about what your plans are for the proceeds this year when some of those funds start rolling in?
We'll continue maximizing our unit buyback. It's an automatic unit buyback, and when we get opportunities, and we do, we'll look at a block sale cross as well. It's a function of the unit price, how high we're trading, as well as the number of units we've bought back. Next is debt reduction. Our debt first goal is to keep it below 50%, of course, of GBV, and then we want to get closer to 45%. After that, an SIB is not off the table, but with our very conservative payout ratio we have, the next thing is to make sure our debt is on the conservative side as well, and then we'll look at other alternatives.
The SIB, would that be a consideration after you guys get below 50% or after you get below 45%?
I'd say somewhere between 45 and 47, that kind of thing.
Okay. If you manage to sell all of the bucket of held-for-sale assets this year, do you think there would be more as we move into 2020?
Not necessarily. If we get to it, we can go up to about CAD 1 billion. We have to watch our EBITDA and our debt metrics. Maintaining our investment-grade credit rating is still job one for us. We don't want to give that up. I don't see us selling more without a good reason.
I guess lastly, in terms of the cadence of some of the transactions closing, how should we think about that in the balance of 2019?
Sorry.
The speed of how close or quickly you close on that.
Oh, the pace, yeah. Well, for us, deal certainty is number one. If they take a little time closing, it's not the end of the world because we still enjoy the NOI. I think on balance, three quarters. There'll probably be some things closing the following year, right? If you look at the whole package. Closings always take a little longer sometimes, but that's not a problem at all. Once we've got certainty on a deal, a non-refundable money in our pocket, as a minimum, we can continue to move forward with our unit buyback. As the money comes in, we'll use it to pay down debt. It'll be lumpy. There might be a 90-day to even 180-day trail in terms of some closings, but at least we'll have deal certainty.
Of course. Totally makes sense. In terms of your development spending, do you think the CAD 50 million invested this quarter would be a good run rate for the balance of the year?
It'll probably be lower than that. There are some developments. The Phoenix one is now done. One of the ones in Houston is almost done. Tenant will take occupancy in May, I believe. It's in June, I think. Anticipate it'll be a little smaller in Q2 and probably even smaller yet again in Q3.
Well, I appreciate the color. That's all from me. Thank you very much.
Thank you. Your next question is from Matt Kornack from National Bank Financial. Matt, please go ahead.
Hi, guys. Just to follow up on that line of questioning. With regards to the development timing, how much has been spent on those projects that are about to come online, and what was the yield on that investment?
Got a number, Kim?
I don't, off the top of my head. I don't have totals, no.
The development? On industrial, the development yields are coming in north of 7%.
I was going to say, generally hitting a little above a 7% yield on the industrial developments in the U.S.
You've spent about, I guess, they've ramped up over the last few quarters, and I guess industrial doesn't take too long to build. I guess we should assume sort of CAD 100 million-CAD 200 million with that type of yield over the course of 2019. I know that's a broad range.
I don't think it'll be that much. Denver's half-built right now, and that's 220,000 sq ft. Houston, with phase 2 and 3 are done. We're getting ready to do a build-to-suit for a large credit tenant there of about another 100,000 sq ft. It won't be that much. To Jim's point, Q2 and 3 will be a bit lower. I'm expecting Q4 will be back up as we ramp up another phase in Houston.
Okay, fair enough.
Go ahead
No, sorry. I was going to completely change. If you had something else to add on that.
I was just going to say, it's just hard for us to predict because the timing of the start of another phase, that can vary. Go ahead.
Fair enough. If at some point when you look at your MD&A disclosure, if it's possible to give a sense as to how much has been spent versus cost to complete and yield on the total project, it would just make our lives.
Yeah
A little easier for modeling it. Just a note. With regards to CapEx on the remainder of the portfolio, it seems to have come down. Maybe that's a function of you've sold some assets in areas that were more difficult to lease. What's your view on CapEx for the overall portfolio as well, including leasing costs?
We're budgeting less this year than last year. I think our CapEx budget is down fairly substantially from last year.
Yeah. Part of that is, too, shrinking our office portfolio and in particular, our Calgary office portfolio.
Fair enough. No, that makes sense. In terms of after the pro forma Artis, what does it look like and what's your outlook, I guess, once you've gone through this? What do you want to be? Do you want to be more development-focused? Are you going to be in Western Canada and U.S. entity? Just interested in the overall theme to Artis going forward.
Yeah. At the end of the plan, you'll see us go from 45% U.S. up to 50% or even 55% U.S., just by virtue of the fact that we're selling mainly Canadian properties. In terms of what we're selling, it's office and retail, no industrial at all, and we want to grow industrial on the development side. We don't see ourselves, with our cost of capital, being able to afford to buy industrial, but we can develop slowly but surely a new generation in industrial. Our projects are performing very well, and again, at yields north of 7%. Looking at the end of the plan, you can see us being 55% U.S., 45% Canada. See us being 40% industrial and 15% retail. That brings it down to about 45% office after that. We'd still be diversified in order to maintain the credit rating.
For us to do anything more strategic after that involves the whole REIT or involves big chunks of the REIT portfolios of the REIT, involves rethinking our line of credit and things like that.
Fair enough. Okay. No, that makes sense. Just one quick point of clarification. CAD 48 million on CAD 850 million total sales, about a 5%-6% cap rate on what you've sold or are in the process of selling at this point?
Right. Again, it's still lumpy. Some of these things are coming in below our IFRS NAV and some are coming in above. On balance, the cap rate's going to be in sub-6 on balance, right? That makes it very accretive to be selling these assets.
Yeah. No, that sounds pretty good. Thanks, guys.
Thank you. Ladies and gentlemen, as a reminder, should you have a question, please press star followed by 1. Your next question is from Neil Downey from RBC. Neil, please go ahead.
Thank you. Hello, everyone. Just given the accelerating cadence of the disposition program, are there any tax constraints or any tax factors that we should be cognizant of this year? If the pace of this program even exceeds your CAD 600 million expectation, is tax in any way a governor, like you would consider having to push some sales into 2020?
Just one qualification on that, Neil. As long as we can get the remaining Calgary office buildings done this year, the tax will be.
I see.
Yeah.
Okay.
If the Calgary office moves into next year, then there could be some tax impact this year.
Okay. Thank you.
Thank you. There are no further questions at this time. Please proceed.
Okay. Well, thanks again, everyone, for joining us on this call. We know it's a busy time of the year again, so we wish everybody a happy Friday and a great weekend. We'll talk soon. Bye-bye.
Ladies and gentlemen, this concludes your conference call today. We thank you for participating and ask that you please disconnect your lines.