Earnings Call: Q2 2024

Apr 15, 2024

Summary

15th-period DPU rose 3.2% to ¥8,083, extending a streak of 11 periods of growth. Asset replacement is expected to improve yields and generate disposal gains, while rent revisions and a 14-property pipeline support continued growth.

Welcome to Mitsubishi Estate Logistics REIT Investment Corporation's financial presentation for the 15th fiscal period ended February 2024. I am Ken Takanashi from Mitsubishi Jisho Investment Advisors. I will explain in line with the presentation material. There are four points I want to highlight. The first is on the financial results. We achieved 11 consecutive periods of increase in revenue, profits, and DPU, mainly due to the contribution from assets acquired in the 15th fiscal period and internal growth. DPU increased 3.2% from the previous period to JPY 8,083. Second is our very first strategic asset replacement. We intend to sell a property in Sendai, Miyagi, for a total of JPY 10 billion over two fiscal periods, as the property has a relatively low yield after depreciation and repair costs are expected to increase due to the property's age of 15 years. On the other hand, we will acquire a property in Ichinomiya, Aichi, at JPY 5.8 billion, which has a relatively high yield after depreciation through MJIA's sourced pipeline. With this, we will use gain on sales as returns over the next two fiscal periods, contributing to raise the basis of distribution amount. Furthermore, we will be able to improve profitability and quality of our portfolio even in a difficult market environment where our investment unit price has been weak. Remaining proceeds from the disposal will be used for future growth, buyback, and others, considering the external factors for the future. The third is continuous hybrid internal growth. Our portfolio is expected to continue to maintain high occupancy rate and achieve rent increase for the 13th consecutive fiscal periods. In the 15th fiscal period, we achieved rent increase of 5.4% for all tenants with contract expiry. For the next fiscal period, the 16th, we are assuming rent hike of about 6%, looking at the contracts we have already concluded as of now. As such, strong hybrid internal growth is continuing, and we have expectations that it will continue to contribute to DPU increase in the future. Last of all, for ESG, we have received A List as the highest rating of CDP Climate Change Program, which we are participating for the first time. We also advanced ahead to perform quantitative analysis after TCFD qualitative analysis. Page four is on the DPU trend and its forecasts. In the 15th fiscal period, DPU landed at JPY 8,083, up JPY 251 from the previous fiscal period, thanks to increase in revenue contribution from two properties acquired in September 2023 and NOI increase due to internal growth of existing properties. In the 16th and the 17th periods, we are expecting an increase in DPU associated with gain on sales. For stabilized DPU, excluding temporary earnings fluctuations, we are expecting an increase of 4.6% to JPY 8,196 due to the acquisition of two properties utilizing LTV last year, continued internal growth, and the effect of asset replacement. Please take a look at page six. This is a slide on changing market circumstances and our growth strategies. First, in the logistics property transaction market, cap rate remains low despite rising interest rates. In our external growth strategy, we will build up a high-quality pipeline through hybrid strategy and promote property acquisitions utilizing bridge scheme, capturing good opportunities. We will also continue to improve our portfolio quality, including property disposal at a favorable timing. For logistics property rental market, supply is expected to peak out in 2023 due to the surge in construction costs, and supply and demand balance is expected to improve. As for internal growth strategy, we will aim for continuous upward rent revision, exceeding inflation rate, and pursue further internal growth through MJIA's unique initiatives, such as a shift to LED and possibly installing solar panels for self-consumption. Lastly, regarding the financing environment, although the negative interest rate has been lifted, the BOJ is taking an accommodative stance for the time being, and we believe a sharp rise in interest rate is unlikely. On the other hand, we need to monitor the development closely as anticipation of a rate cut in the U.S. and other countries at an early timing this year is receding. We intend to control costs while maintaining stability by targeting a fixed rate ratio at a minimum of 85%, with some mix of floating interest rates. We will utilize cash on hand obtained through proceeds from the disposal of the property this time, and also continue to finance, taking into consideration the capital cost. Please go to page 7. I will explain about asset replacement of MJ Logipark Sendai 1 and MJ Logipark Ichinomiya 1. We are planning to dispose of Sendai, taking advantage of this good timing in the market. We plan to sell this property over two fiscal periods at JPY 10 billion, 27% higher than the appraisal value. On the other hand, we plan to acquire Ichinomiya at JPY 5.8 billion, which is a 14% discount versus the appraisal value. Effects of the replacement are, the first, improvement in profitability. Comparing the two properties, the building age will be about 13 years younger, and appraisal NOI yield after depreciation is 3.2% for Sendai and 3.8% for Ichinomiya, which will be a 0.6% improvement. The second is realizing gain on disposal. We expect to record gain on sale of JPY 2.7 billion over two fiscal periods. We expect the effect of pushing up DPU per period by approximately JPY 2,700. The third is securing cash on hand. After the asset replacement, cash on hand will be about JPY 3 billion. We will consider flexible ways to utilize it, taking into account the market environment and capital cost. Please go to page 8 for an overview of MJ Logipark Ichinomiya 1, which is scheduled to be acquired on August 1st, 2024. This facility has high competitiveness as it has excellent proximity to Nagoya City, located in a key transportation hub with access to multiple expressways and artery roads, enabling access to a wide area. This property is a development type project based on our proprietary PDP program. By supporting Odakyu Real Estate in the development of logistics facilities, we are able to acquire the property at an attractive appraisal NOI yield of 4.9%. Please go to page 9. I will explain our ongoing effort for external growth. Although it has been difficult to raise capital through public offerings since last year, we are steadily growing towards our asset size target of JPY 300 billion by continuing external growth through the utilization of low LTV and asset replacement, achieving DPU growth. The next page is about our pipeline. Please go to page 10. One PDP property was added to the pipeline in conjunction with this earnings announcement, making the total pipeline to 14 properties with total floor area of around 800,000 sq m. In terms of value, it is approximately JPY 160 billion, and we will utilize these properties to achieve continuous external growth at the appropriate timing and scale while keeping our eyes on the market environment and other factors. Please go to page 11. This is about internal growth strategy. First, rent revision track record in the upper part shows that upward rent revisions were realized for all expirations in the 15th fiscal period, ended February 2024, with 5.4% increase. In the current fiscal period, ending August 2024, negotiations have been completed for approximately 90% of the contract expirations, including those for which contracts have been signed and terms and conditions agreed, and 6% increase is anticipated. This upward trend is still continuing. As shown on the lower right, rent growth contributed to 1% or more of DPU growth per year for the past three years. We have been continuing with strong internal growth. In addition, we have continued to accumulate hybrid internal growth through our own initiatives, such as the increase in rent through the execution of new green lease clauses with tenants, as shown on the lower left. On page 12, I will explain inflation-resistant portfolio with long-term stability. BTS, land, and single tenants, which account for 53% of the portfolio on a leased area basis, are viewed as contributing to stable earnings over the long term, and many of them are long-term contracts with an average remaining period of 10 years or more. Therefore, we aim to respond to inflation by incorporating rent revision clauses while placing emphasis on the stability of the overall portfolio. In addition, multi-tenant properties, which account for 47% of the portfolio, have short contract terms with an average remaining period of three years, and we will aim to increase rent by addressing the rent gap with the market. The bottom row shows a breakdown by remaining contract years on a leased area basis. When rent revision clauses and relatively short-term contracts with five years or less remaining are included, we believe that roughly 70% of the portfolio as a whole is able to cope with inflation, and we will continue to aim for internal growth, taking inflation into consideration. Please go to page 13. I will explain the financial strategy. We continue to leverage the high creditworthiness of Mitsubishi Estate Group to ensure stable financial operations. With an average remaining debt duration of 5.1 years and an average interest rate of 0.56%, we have achieved financing under favorable economic conditions compared to the other J-REIT average and have built a financial structure that is less susceptible to interest rate rises. In addition, as stated below right, spread incentives were granted in the sustainability-linked loan executed in 2022, which has enabled us to reduce interest costs. The LTV at the end of the period was 40.2%, remaining at a low level. As mentioned earlier in our financial strategy, we will maintain a fixed interest rate ratio of at least 85% in consideration of interest rate levels while mixing some floating interest rates to control costs. Please go to page 15. Last of all, I will explain about our ESG initiatives. As described in upper left, we participated in CDP Climate Change Program for the first time. We received the highest rating of A List for its overall evaluation of business strategy, GHG emission reduction efforts, risk management process, and others. In addition, we conducted quantitative impact analysis of TCFD, which is a further advancement of qualitative impact analysis of climate change risks conducted in 2021. This is all from me. Thank you for your attention.