Granite Real Estate Investment Trust (GRP.U) 2006 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the MI Developments Inc. third quarter results conference call. At this time, all participants are in a listen-only mode. Following today's presentation, instructions will be given for the question-and-answer session. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded today, Thursday, November 9, 2006.

I would now like to turn the conference over to John Simonetti, Chief Executive Officer. Please go ahead, sir.

Thank you. Good morning and welcome to our conference call. With me today are Robert Kunihiro, our recently appointed Chief Financial Officer, and Richard Crofts, our General Counsel. Rob will take you through our third quarter results later in the call.

Our Board of Directors met yesterday and approved our financial results for the third quarter and nine months ended September 30, 2006. In addition, the Board declared a dividend of $0.15 per share for the third quarter payable on or about December 15, 2006, to the shareholders of record at the close of business on November 30, 2006.

This morning, we issued a press release with our 2006 third quarter results. A copy of this press release is posted on our website at www.midevelopments.com.

We wish to caution listeners that this conference call may include forward-looking statements within the meaning of applicable securities legislation. For a description of the risks, uncertainties, material factors and assumptions associated with forward-looking statements, please refer to this morning's press release which includes a discussion of these matters at the end of the text. This press release also includes a reconciliation of the net income of our Real Estate Business to funds from operations.

I would like to begin my formal comments this morning by briefly discussing our litigation with Greenlight Capital. Last week, Greenlight's suppression application against MID and certain of our current former directors and officers was dismissed by Justice Ground of the Ontario Superior Court of Justice. We are certainly very pleased with this outcome and hope that the Court's decision puts this matter behind us.

I'm not going to comment on the reasons for the judgment except to reiterate that from the time of our spinoff from Magna International, we have had a very well-established and clearly articulated operating philosophy and framework, which, among other things, includes a conservative leverage and distribution policy, and a very important, strategic investment in and relationship with Magna Entertainment.

I would also like to add that from time to time, I have had the opportunity to engage in discussions with some of our shareholders on their views about our framework and MEC investment. And for the most part, these discussions have been upfront and constructive.

Going forward, I anticipate that our shareholders will continue to share their views with us, and I hope that such discussions continue to be well-intentioned and productive. Now with that said, I would like to turn my discussion to MEC.

MEC reported third quarter results last week, and I should remind you that MEC's business is seasonal with the third quarter historically having been its least profitable. On the positive side, MEC's third quarter revenues and EBITDA improved over the prior year. On the negative side, however, MEC remains buried with too much debt and interest expense. This is why it's extremely important for MEC to continue to focus on recapitalizing its balance sheet and paying down debt.

MEC introduced its recapitalization plan back in June, 2005, at the same time the MID bridge loan was first made available. And since that time, MEC has made significant progress by selling or agreeing to sell noncore assets with gross proceeds of approximately $370 million. This amount includes the sale of The Meadows racetrack and slot operations in Pennsylvania for $200 million.

MEC anticipates receiving $175 million of The Meadows sale proceeds in mid-November, which are required to be used to repay various debt obligations including MID's bridge loan. Once The Meadows transaction closes, noncore asset sales will have enabled MEC to retire over $250 million of debt.

Now, despite this progress, MEC must continue to focus on strengthening its balance sheet. And on this front, it still has significant work to do. However, from MID's perspective, we still believe in MEC's long-term potential, particularly in the areas of alternative gaming and as MEC's significant holdings of underutilized real estate undergo entitlement changes.

Given the fact that MID currently owns approximately 60% of MEC's equity, with a market value of approximately $300 million, I don't believe it would be prudent or reasonable to expect us to take a sink or swim approach in respect of MEC's recapitalization efforts. As such, we continue to evaluate our relationship with MEC and more specifically, whether and to what extent MID should participate in its ongoing recapitalization efforts. In this respect, I believe that no alternative should be ruled out.

Now turning to our Real Estate Business, during the third quarter, two expansion projects came onstream, which added 100,000 square feet to our rental portfolio with annual rents of approximately $800,000. No new projects were started during the third quarter, and at the end of the quarter, we had two ongoing projects for Magna, one in each of the U.S. and the Czech Republic. Once completed, these projects will add 60,000 square feet with a budgeted cost of approximately $6 million.

Subsequent to the quarter end, we have started two new projects for Magna for a total of 36,000 square feet, with a budgeted cost of approximately $11 million. I should add that one of these expansion projects includes the former Anotech facility in the Greater Toronto area, which was rationalized by Magna's Decoma Group. At the time Decoma vacated this facility, there was approximately nine years left on the initial lease term and we continue to collect our rent.

This facility has now been taken over by Magna's Cosma division, and we negotiated an additional 6-year extension to the initial lease term, given the additional investment we were asked to make in this facility. We were able to find Cosma a new home and relieve Decoma of their ongoing rent obligations for this vacated facility.

At the end of the day, a win-win situation for both of them and also a good result for MID. This transaction is a great example of how MID works with the various Magna groups in order to provide them with the flexibility in their automotive operations.

Now, I should add that our development work with Magna has slowed considerably over the past year. This is evident from the relatively small amount of Magna development projects ongoing in Q3. This is, in part, due to the state of the automotive industry in general.

Magna reported a 40% year-over-year decrease in third quarter income, net income earlier this week. Clearly they face their own challenges, more so in North America where their largest OEM customers have significantly reduced vehicle production levels, particularly on their light truck programs.

But I will also add that our Magna business and relationship has been impacted by the Greenlight litigation and the very broad remedies that were sought. In my view, even though we have received the judgment, I believe it will take some time to see if this matter is truly behind us. And until that time, I expect that we will need to work hard to strengthen our relationship with Magna.

And on this front, I am pleased that Don Cameron has joined our executive management team as Chief Operating Officer. Don has over 36 years of experience in the real estate industry, and we look forward to drawing on that experience to assist our construction group with our Magna business and overall Magna relationship.

Equally important, Don brings us valuable operating experience as we seek to expand and diversify our Real Estate Business to potentially include one or more of the following -- industrial developments with parties other than Magna; residential and other commercial developments on lands owned by MID; and finally, residential and other commercial developments in respect of the significant tracks of valuable real estate owned by MEC. These could include developments which MEC will use in its car racing and alternative gaming businesses, and could be pursued either alone or with joint venture partners.

This concludes my formal remarks and I will now turn the conference call over to Rob.

Thanks, John, and good morning, everyone. Before I begin, I would like to remind you that my discussion this morning will focus only on the results of MID's Real Estate Business. Also, amounts in today's presentation are in U.S. dollars unless otherwise noted.

Annualized lease payments at the end of the third quarter were $158.2 million representing an increase of 9% from the beginning of the year. On a sequential basis, annualized lease payments increased marginally from $158 million at the end of the second quarter.

Completed projects onstream and contractual rent increases in the quarter added $800,000 and $200,000 respectively, which were partially offset by a $300,000 reduction relating to the disposal of two income-producing properties, and a $400,000 reduction due to foreign exchange as the Euro weakened against the U.S. dollar at September 30, relative to the previous quarter end.

Our Funds From Operations, or FFO, for the third quarter was $35 million, representing an increase of $3 million or 9% over the third quarter of 2005. FFO per share was $0.72 on a fully diluted basis, representing an increase of 9% or $0.06 per share over the prior year.

Notably, FFO for the third quarter of 2005 included a $3.1 million current tax recovery resulting from accelerated tax depreciation claims for prior years. Excluding this item, the FFO for the third quarter of 2006 represents an increase of 21% or $0.12 per share over the third quarter of 2005.

On a sequential basis, FFO decreased by $1.1 million or 3%. Increased revenues and lower cash taxes increased FFO by $1.3 million and $1 million respectively. However, these increases were more than offset by higher G&A expenses and net interest expense of $3.3 million and $100,000 respectively.

In terms of the $1.3 million increase in revenues, interest and other income from Magna Entertainment contributed $800,000 while rental revenues contributed $500,000 to the overall increase. The increase in rental revenues was due to projects onstream, which added $400,000; contractual rent increases, which added $100,000; and changes in foreign exchange rates, which added $200,000. These additions were partially offset by our straightline rent adjustment and other items, which in the aggregate reduced revenues by $200,000.

The increase in G&A expense from the second quarter of $3.3 million is primarily due to a $2.4 million expense in the third quarter for advisory and other costs incurred in connection with the Company's evaluation of certain transactions that ultimately were not undertaken. In addition, G&A expenses in the second quarter were net of a $700,000 recovery of costs incurred in association with the Company's defense against the Greenlight litigation under the Company's insurance policy.

Net interest expense as compared to the previous quarter increased only marginally due to a $100,000 reduction in interest income due to lower cash on hand. And finally, cash taxes are lower because of the Company's decrease in earnings compared to the second quarter, resulting largely from the increase in G&A expenses previously mentioned.

In terms of our tax provision for the third quarter of 2006, we reported a total tax provision of $4.5 million for an effective tax rate of 15.8% compared to our effective tax rate for the third quarter of 2005 of 18.3%. The decrease in the year-over-year effective tax rate is due to the mix of the Company's taxable earnings in the different countries in which we operate.

On a year-to-date basis, FFO was $19.4 million higher than last year and $104.2 million or $2.16 per share on a fully diluted basis compared to FFO of $84.8 million or $1.76 per share on a fully diluted basis for the nine months ended September 30, 2005.

This represents a year-to-date increase in FFO of 23%. Excluding the $3.1 million current tax recovery in 2005 discussed previously, the year-to-date FFO for 2006 represents an increase of $22.5 million or 27% over the prior-year period. On a per-share basis, the increase is $0.47.

The increase in year-to-date FFO was primarily due to higher revenues and lower G&A expenses, which increased the FFO by $27.3 million and $100,000 respectively. These increases were partially offset by $3.3 million of increased net interest expense and $1.6 million more of cash taxes because of the Company's increased earnings.

Turning to our balance sheet, our loans receivable from MEC at September 30, 2006, amounted to $271.2 million including $100.4 million under the bridge loan and $170.8 million under the project financing. This represents an increase of $10.1 million since the end of the second quarter of 2006.

The net increase during the third quarter consists of advances under the bridge loan and project financing facilities of $500,000 and $7.2 million respectively, and $4.6 million of capitalized interest on the project financing facilities. These increases were partially offset by a $1.6 million repayment of capitalized interest required under the cash suite provisions of the Remington Park project financing and a $600,000 reduction in the amount of accrued interest under the bridge loan due to the timing of interest payments.

Looking at our cash flows, our cash balance increased by $17.2 million since June 30, 2006, to $83.9 million at the end of the third quarter. Sources of cash during the third quarter amounted to $38.7 million including $33 million of cash from operations; $1.6 million cash suite payment I mentioned previously; $3.1 million of proceeds on disposal of the two real estate properties discussed earlier; and $1 million of other items.

Cash used during the third quarter amounted to $21.5 million including $7.7 million of advances under the loan facilities to MEC; $6.6 million of capital expenditures; and $7.2 million of dividend payments.

This concludes my formal remarks. Operator? Please open the line for questions.

(OPERATOR INSTRUCTIONS). Peter Sklar, BMO Capital Markets.

John, a few questions. With the litigation apparently over with Greenlight, have you had any discussions with them since the Judge made his ruling? Have they approached you?

No, they haven't.

In the SG&A number, just getting into some of the detail, jumped up -- you gave a couple of explanations. There was the $2.4 million advisory fee and as well, I believe you said there was offset by a recovery on the Greenlight litigation. It was kind of a net effect of about $1.7 million. Is that -- is it kind of take the current quarters' SG&A and net out those unusual items, is that kind of the run rate?

First of all, we had the -- call it a onetime charge -- of $2.4 million in Q3. The insurance recovery was prior quarter. But I think if you look at our run rate, we're always tracking anywhere between $4 million and $4.5 million per quarter.

Because that would give you about 4.5 if you net out the --

Yes.

On that $2.4 million, can you talk a little bit about what that transaction related to? And was it a transaction related to Magna Entertainment?

You know what, I'm not going to say anything about that. We're always looking at transactions. I think any company does that. But I really don't want to get into the details of what that was.

And then on your comments about with respect to your Magna Entertainment investment, that no alternative should be ruled out. Now, can you talk about what the range of alternatives are that you're looking at? I assume it's project financing, equity investment, potential privatization. Are you looking at everything across the spectrum?

I think looking at MEC they clearly still have a ways to go to achieve sound financial footing. At the end of the day we are the controlling shareholder and we own 60% of the equity and really, we just can't sit back and do nothing. So to answer your question, I think management, the Special Committee of the Board are reviewing many alternatives, some of which you've indicated, in respect of what our involvement is going to be in terms of helping them with their recap efforts. But I think the list could potentially include debt, it could include equity. It could include other things and it could include things that you've mentioned. So, I don't think we can just rule out anything. I think the prudent thing to do is to look at everything and see what makes sense.

What's the current balance of the bridge loan?

Current balance of the bridge loan -- the bridge loan was increased by $19 million, I think about a month ago, and I think the current balance right now sits at about $110 million.

And under your agreement with them, when they realize the proceeds on The Meadows notes, are they obligated to repay the entire bridge?

Right now, yes. They are required to pay the bridge down in full.

And so when you're looking at all of your alternatives, you're saying all alternatives should not be ruled -- is it possible that you could negotiate something there where they're not obligated to repay the bridge and the bridge could remain in place?

Like I said, everything is possible. We just have to really assess what we think MEC's cash needs are in the next month or two. They're coming up to their most profitable quarter, which is the first quarter with Santa Anita and Gulfstream running up again. So I think they're coming up a little bit of a cash crunch which I'm sure they'll deal with. So we might have to do something there, but again, we have to sit back and reassess that and then take management's recommendation to the Special Committee, who will review that with their financial advisers and independent legal advice as well.

And lastly, Magna International on their conference call this week indicated that there's going to be a drift in terms of their footprint outside of Canada in northeastern United States into lower-cost jurisdictions. Have there been any other indications from them regarding further plant closures? Even if you haven't had any discussions, what's your sense of that? Does management anticipate further plant closures for Magna International? Is this something that you're taking into account in your planning?

Of course, we certainly always take that [into] account in our planning and particularly in terms of what business we want to take on and where those plans are located. This quarter, there was one additional plant that came up with a small facility about 26,000 square feet in the Michigan area, which we will deal with, but we haven't had detailed discussions with Magna in the last little while that makes us think there's a lot more plants that we own that need to be rationalized. Obviously, things could change.

Things are always in flux, but I think you're right when you say that when you look at their manufacturing footprint, they are clearly looking to move in areas with lower-cost. And we are cognizant of that as we decide what business we are taking on going forward.

Sam Damiani, TD Newcrest/Waterhouse Securities.

Just on that last topic, what kind of infrastructure does MID have in place to facilitate and help Magna grow its platform in Asia?

Asia -- we've looked at that -- this question has come up in a call before. We have looked at it and I wouldn't say right now we have people on the ground in Asia helping Magna out. My view with Asia is first I've got to [tread] carefully moving in there. It's difficult to move capital in and it's difficult to move capital out and they do have some restrictions in terms of how you can own your real estate there.

Notwithstanding that, not only is Magna growing in Asia, but they're also growing in other areas of the world where I think we would feel more comfortable being more like Eastern Europe. So I think there's opportunities in kind of these new areas of the world. It's a matter of when does it make sense for us, if at all, to move into Asia. But notwithstanding that, I think there are other areas of the world that we can participate in, including Mexico.

And just on the interest income there, I wondered if you could just differentiate the number between regular interest income versus fees earned from MEC. I haven't found that in the disclosure. Could you just separate that out for me?

Regular interest income?

Yes. Just interest on the balance of outstanding versus fees that were charged to MEC.

Sure, anything that was charged to MEC is on the topline on the Revenue line. All of the interest income that we earn in our spare cash is netted against our interest expense.

But I mean you're charging interest to MEC and you're also earning the odd fee here and there from them as well. I just wonder if you could differentiate how much of each.

You know what, maybe we can talk about that offline, I just don't have that number handy right now. But I think on the fee side, it's nominal. When I say nominal it could be less than -- it's less than $1 million, the fees.

(OPERATOR INSTRUCTIONS). Himalaya Jain, Scotia Capital.

In the event that the bridge loan is repaid, and I guess it adds to your pretty healthy cash balance, and given that the volume of work relating to Magna is slowing down, what are your plans with that excess cash?

That's a good question, because we've had some preliminary discussions about that and if it's not going to be CapEx, we could consider buying back stock. As you know, we filed our [MCIV] again. Hopefully we can get to a period where we're not blacked out and maybe act on that.

But there are alternatives, one of the alternatives that we have to consider is if that cash, if it all, would have to be used in some way or form in assisting MEC in its recap effort. So, I don't have a clear answer for you today, but those are certainly some of the alternatives we talked about.

And second question. In the past, I guess it was -- there was a feeling that you would get on an ongoing basis about $100 million of development -- new development work from Magna. And on a year-to-date, that number, of course, is not tracking towards that, and looking forward, may be below that previous $100 million number. Is there a new figure or a new guidance number you can tell us on an annual basis what level of acquisitions or developments you might source from Magna?

First of all, let me say we don't really give guidance. We never have. But you're right, we have said if you look historically we've averaged somewhere between $75 million, $100 million a year of Magna work. Year-to-date, I think we've spent $30 million on Magna-related projects. Given what we've gotten to go and a couple of new things that came in subsequent to year-end, that might add another $15 million to $20 million so far, so it will be up to $50 million. But in that $50 million, we've got, I would say, $15 million, $16 million of -- we were fortunate to be able to find a couple of plants that Magna is a tenant of and acquire those facilities from third parties. You take that out then we're -- right now we're $35 million, which is clearly below what we are accustomed to.

As I said in my formal remarks, the state of the auto industry is such that I don't think Magna is looking to put up a lot of plants in the near-term, although they do have programs coming up. That may change a year or two out. I've always said that the amount of work we do with Magna is chunky. It all depends on specific facts and the overall industry.

So although I'm not going to give guidance, I will clearly say the $100 million cap or average we've had probably starting two years ago and prior, is a little lower right now, but it's not to say that it could get up there in the next year or two or three. There's a lot of factors that go into that and right now, the $100 million is just not there.

And then last question, just on that one property that was released to Cosma, the old Decoma facility, was there a change in the rental rate?

No, it was the same rental rate. Cosma -- we're putting in a couple of press fits in there for them so they're really converting that to more of a Cosma-type plant where they can bang out some metal. So they'll be -- we'll collect more rent on that, obviously, because we're sinking in, I think, another $8 million or $9 million in that facility. So, the rental rate stayed the same in all -- except for what we've spent.

And what kind of yield would you be getting on that incremental investment?

I think on the incremental investment, we're north of nine, about 9.25%.

At this time we have no further questions in queue. I would like to turn the conference back to management for any concluding comments. Please go ahead.

Okay, once again, thanks, everybody, for participating in our Q3 call. Clearly we have some short-term issues to deal with, with MEC and even in our core business with Magna International, but as always we'll find a way through that. But we look forward to hearing from you at our Q4 call. Thanks again. Bye.

Thank you. Ladies and gentlemen, this does conclude the MI Developments third quarter results conference. Thank you again for your participation today and you may now disconnect.