Granite Real Estate Investment Trust (GRP.U) 2011 Q4 法說會逐字稿

Good morning, ladies and gentlemen. And welcome to the conference call of MI Developments Inc. Speaking to you on the call this morning are Tom Heslip, Chief Executive Officer, and Mike Forsayeth, Chief Financial Officer.

Before we begin today's call, I would like to remind you that the statements made in today's discussion may constitute forward-looking statements and that actual results could differ materially from any conclusions, forecasts or projections. These statements are based on certain material facts or assumptions and reflect management's current expectations. And are subject to known and unknown risks and uncertainties. These risks and uncertainties are discussed in the Company's material filed with the Canadian securities administrators and the US Securities and Exchange Commission from time to time, including the Risk Factors section of its Management's Discussion and Analysis for fiscal 2011 filed on Friday, March 9, 2012. Readers are cautioned not to place undue reliance on any of these forward-looking statements. The Company undertakes no intention or obligation to update or revise any of these forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

In addition, the remarks this morning may contain non-GAAP financial measures. Please refer to our fiscal 2011 financial results and other materials filed with the Canadian securities administrators and Securities and Exchange Commission from time to time for additional relevant information.

I would now like to turn the call over to Tom Heslip.

Thank you, Operator, and good morning everyone. My name is Tom Heslip, and I'm CEO of MI Developments. And joining me on the call today are the members of the senior executive team of our Company, including Mike Forsayeth, our CFO; Jen Tindale, Executive Vice President and General Counsel; Lorne Kumar, our newly-appointed Executive Vice President, Real Estate Portfolio and Asset Management; and John De Aragon, who recently joined us as Executive Vice President Real Estate Investment. This team which we now have in place represents the necessary senior leadership of the Company as we go forward on all aspects of our strategic plan.

As Mike Forsayeth will discuss in more detail, our 2011 financial results were positive. And our Q4 earnings reinforced that several of the necessary steps have been taken towards achieving many of the objectives set out mid-way through 2011. Prior to turning the call over to Mike, and as this is my first earnings call as CEO, I think it's important to update all of you on the current activities related to our strategic plan and on important steps taken in the first two months of 2012 and my first 10 weeks since joining the Company.

As many of you know, 2011 was a transformative year for MI Developments Inc. It was a year in which a series of key events took place, including in late December with my becoming CEO, replacing Bill Lenehan who had, together with strategic guidance and direction from our Board, successfully completed the development of the new strategic plan upon which we will build. The strategic plan announced on October 25, 2011, forms the platform and directives upon which we will go forward. And the Company's 2011 results demonstrate both stability, as well as positioning to build value for MI Developments and for its shareholders. To date and throughout 2011, the Company's focus will be on ensuring that the underlying actions, plans and details are in place or underway on each of the major components outlined in the plan.

While the components that were outlined in that plan in October are to some extent interdependent, it is success with our existing portfolio of assets, and fortifying our relationship with Magna International Inc. and its operating subsidiaries who form our largest tenant base, which will be the catalyst for future diversification of our asset base, our tenant, and for the overall success of the Company. This has been and will remain our key focus in 2012.

As many of you are aware, the plan and announcement comprise five main components. The quarterly dividend. The conversion to a REIT. The Magna relationship. Diversification. And increasing leverage in a prudent manner. Let me update you on each and in turn provide you with a better picture of our current priorities.

Item one, increasing the dividend to $0.50 per quarter is now in place. Item two, conversion to a REIT is a process that is fully underway. It involves multiple jurisdictions, and indeed is a very comprehensive process. One that is moving well but is likely to take the most part of this year. Our target is to complete the REIT conversion for the commencement of fiscal 2013. The conversion will involve a plan of arrangement, court and shareholders approval. Mike will have further comment on this during his remarks.

Items three, four and five, including fortifying MID's relationship with Magna, diversifying increasing revenues from new tenants and new properties, and increasing leverage to 40% to 50% of total capital, are connected and form our main focus and priorities. To achieve success on these items we are focusing on extending and expanding lease terms with Magna and its operating subsidiaries, building up our asset management and acquisition capabilities, and establishing a clear and new identity as a first-class international real estate Company.

In the first 10 weeks since I have been with MI Developments, the focus has been on the details, including our people, our properties, Magna and our diversification strategy. This has been and will continue to be done, to some extent both sequentially and simultaneously, in order to be able to successfully execute on the strategic plan.

With regard to our people, we have put in place an organization structure and senior leadership team that allows us to be both a proactive and responsive landlord and property owner, as well as growth through expansion and acquisition. We have structured the Company such that our three main groups, global real estate, finance, and legal and corporate affairs, are integrated and aligned to best execute on our existing portfolio, on expansions and new acquisitions.

As mentioned, during the early stage of 2012 we established a five-person senior team to oversee and lead this integration. And we've been able to put this in place by retaining the best of our people with significant MID experience, while adding new and additional strength in each of the groups. We have done this while maintaining on a recurring run rate basis our overall employee levels, but with a structure that reflects a real estate company able to address all aspects of the current portfolio and tenant base, as well as source, underwrite and incorporate portfolio expansions and new acquisitions.

In the near term this new structure slightly exceeds the run rate G&A target of 10% or less of property revenues. However, in a reasonable time frame, we expect the target of 10% or less to be achievable, as this structure allows us, without adding further G&A, to execute on three crucial fronts that enhance revenues, while holding G&A in place. It allows us to proactively and more professionally manage our properties. It allows us to enhance and be responsive to our largest tenants, Magna and its operating subsidiaries, as well as all other tenants. And it allows us to actively grow and diversify our property portfolio and rental revenues.

With regard to our properties, we have underway a very extensive full review and planning session process on all 105 properties in our portfolio. Our near-term objective and priority being to develop a clear and achievable business plan and strategy for each and every asset, while simultaneously mapping out an action plan and mutually agreeable lease strategy with Magna and its operating subsidiaries on the 91 properties they occupy.

With regard to our Magna relationship, the terms fortify, strengthen, enhance have all been used in regard to our relationship objective with Magna and its operating subsidiaries. Put simply, MI Developments is now positioned to go forward with a true arms-length and professional landlord-tenant relationship. Both sides recognize the new relationship, and both sides see it as an opportunity on a number of fronts.

The portfolio and lease profile going forward will require addressing investment in the properties, lease renewals and extensions, ongoing management and services. We are discussing an overall approach that strives to resolve the near-term expiries, factoring long-term expiries and resolutions. This could include investment in the properties by MI Developments as an owner and landlord, as part of stabilizing and growing our property revenue base, and expenditures in the properties by Magna's tenants under its current and future lease obligations. This process is underway and will be ongoing over the coming months.

As a recent example that we are on a good track, we have resolved or are near resolution on all of our 2012 lease expirations. On another positive note, we recently reached a general agreement and approval on the expansion of our Clinton, Tennessee property, an expansion that results in MID investing in the property, expanding it significantly, increasing overall lease revenues by nearly two times, and extending, in conjunction with the expansion, the overall lease from a 2017 expiry to a 2027 expiration date on a property which, after expansion, will comprise nearly 470,00 square feet.

The resolution of the 2013 lease expiries, all expiring in the second half of 2013, in conjunction with the potential overall MID Magna strategy that would factor in longer-term leases, potential property expansions, sales and acquisitions, possibly even property swaps with Magna and its operating subsidiaries, is our highest priority.

As to diversification, growth and diversification through new acquisitions and JVs, along with selected sales of existing assets, is an essential component of our strategic plan. We recognize the need to balance the timing of this with the need to ensure our existing portfolio is in the best possible go-forward position. We are not projecting timing on our new acquisitions, but simply reiterating our recognition of its strategic importance in a very favorable balance sheet position we have that can facilitate growth through acquisitions.

In part, the outcome of our Magna discussions, and the game plan as previously referred to, will provide additional direction on the overall strategy for diversification. Capital allocation, product type, geographical and financial parameters will all be clearer as we work through the overall strategy on our existing properties and leases. Most important, we now have both the people and the structure in place to execute. We are presently active in developing pipeline ideas, nurturing investment and intermediary relationships.

As to increasing leverage, quite simply the combination of our Magna tenanted properties and lease strategy, together with new acquisition opportunities, will drive our goal of reaching 40% to 50% leverage in a prudent but advantageous manner.

Additional events from my first 10 weeks here. The transformation of MI Developments also means that other things, important things, and actions, must be taken. Perhaps not actions that would be described by all as strategic, they are still, nevertheless, important. During our second quarter, we expect to move forward under a new name and a new location.

We anticipate relocating our offices mid-way through Q2, and we will have a new name subject of to shareholder approval at our upcoming annual general and special meeting of shareholders. All of this is in line with a company with a strong foundation in place, a true arms-length independent and professional relationship with all of our tenants, including Magna, its operating subsidiaries, and other important non-Magna-related tenants, of course, with an overall new outlook for the future.

As a new CEO of MI Developments Inc. I'm grateful for the work completed by so many people through 2011 who undertook the necessary steps which have positioned the Company to go forward in 2012. The new strategic plan lays out the road map to go forward. There are details to attend to in order to maximize the potential for success on all components of the plan. We're pleased with the financial results from our most recent quarter. And the 2011 results, and in putting this road map in place, together with ongoing execution on the details, MI Developments is poised for a strong 2012.

With that, I'll turn it over to Mike Forsayeth to go through in detail our 2011 results.

Great. Thanks, Tom.

As in prior calls, my comments will focus on the quarter and less so on the year-to-date, given the obvious significant changes that have occurred following the June 30 plan of arrangement transaction. Also, as a point of reference, and, frankly, to reiterate a bit of the obvious, our real estate business, consisting of 105 income-producing properties, is reported in our financial statements as the Continuing Operations of the Company, whereas the results of the lands held for development and the racing and gaming business that was transferred to Frank Stronach and his family in consideration for the elimination of MID's dual-class share capital structure on June 30, are reported in our financial statements as Discontinued Operations.

Since the end of the second quarter, there have been no adjustments to those results. And I will not be making any comments with respect to any of our results from Discontinued Operations.

The key take-away from our Q4 results is that we're on track. Although we took non-cash impairments on two properties, both antiquated and relatively obsolete properties located in Europe, it was a strong quarter for the Company. As you know, under US GAAP we are only able to report the outcome of valuations that are less than net book value, and therefore we must take a write-down when the cumulative evidence compels us to do so. In the future, as we consider transitioning to IFRS, this will no longer be the case.

Before I get into the details of the quarter's results, let me highlight and give some additional color on a couple of other matters that are covered in our public documents, as I know they are of particular interest to many of our shareholders. Firstly the timing of our conversion to a REIT. As mentioned by Tom, and as set out in our MD&A, our current time line is to have the conversion complete for January 1, 2013.

As we said on other calls, we are in nine different countries, five of which are significant revenue contributors. The corporate reorganizations required are complex, and as previously discussed, will have some expensive implementation costs, which we will identify as we move through the future quarters. There is no question that the one-time costs associated with this investment will be well worth the positive cash flow annuity of the resulting tax reduction. Accordingly we expect the payback to be very short. These costs will not only include legal and tax advice but could also include things like land transfer tax as we get the right assets in the right buckets, so-to-speak.

The REIT conversion process will require a court-approved plan of arrangement, certain consents, including obtaining shareholder approval, and we are currently anticipating holding a special meeting of shareholders this fall to request that approval. Together with our advisors we are working through the various implementation issues in the relevant jurisdictions. And can report that, to date, we have not encountered any show-stoppers. And will continue to report and update you on our progress over the course of the year.

Secondly, we're looking at making some additional changes to our financial reporting, all of which are in support of our evolution towards becoming a Canadian REIT. The first is a currency change as it relates to our financial reporting. Beginning in the first quarter of fiscal 2012, we will continue to report under US GAAP, but our reporting currency will be the Canadian dollar, not the US dollar. Although this is not an economic hedge, with 34% of our revenues, almost 90% of our G&A, and all of our common shares, debenture, principal and interest payments currently denominated in Canadian dollars, this change will reduce our reporting risk as it relates to foreign currency.

In addition, we're considering moving away from US GAAP to report our results under IFRS. This, as most of you know, is a significant and also not cheap undertaking by the Company. We don't see this happening this fiscal year but we are investigating the opportunity, and we are initiating the necessary preparatory steps and processes to enable this conversion. These costs include conducting complete detailed property reviews and assessments, including appraisals on all of our 105 properties. This work will not only support the numbers needed for our opening balance sheet under IFRS, but also support our asset-by-asset Business plans that Tom just referred to.

As a result of this detailed appraisal process, you should be aware that over the course of the year instances may arise where certain of our assets may show indications of impairment. And because we are currently reporting under US GAAP we'll have to report those impairments accordingly. That said, based on our own current impairment analysis we have no such indications at this time. As the year progresses, we'll continue to update you on our thinking and costs incurred as it relates to IFRS over the course of the year.

Another significant matter is that future dividends, beyond the one just declared, will be paid in Canadian dollars. Again, this aligns with our home currency and our Canadian REIT conversion objectives.

With all that as background, I'll now turn to the fourth-quarter operating results of our Business. First of all, when looking at our Q4 results relative to Q3, it's important to recognize that the average foreign exchange risk for the Canadian dollar and the Euro depreciated 4% and 5%, respectively, relative to the US dollar during the quarter. As compared to the same quarter a year ago, both the Canadian dollar and the Euro depreciated 1% relative to the US.

After taking a $13 million or $0.28 per share after-tax non-cash impairment charge in the fourth quarter, on an as reported basis our quarterly net income was $3.5 million, and our funds from operations, or FFO, was $14.3 million. That's $0.08 per share and $0.30 per share, respectively.

In addition to the impairment charge as set out in our MD&A, our fourth-quarter G&A includes approximately $4.1 million of expenses that are not representative of our run rate. These include $2 million of employment, termination and recruiting costs. And $2.1 million of costs associated with the strategic plan process. And also includes some of the preliminary REIT conversion assessment costs. Without these costs, our run rate for the quarter would be approximately $5.5 million. And when you combine that with the run rate of our G&A of $4.8 million I referred to in the Q3 call, you get an annualized G&A run rate in the $20 million to $21 million range, which we believe is a representative annual amount.

As Tom mentioned, this expense level would be currently higher than our targeted range outlined in our strategic plan of 8% to 10% of lease revenue, but it is also the level required to manage and grow our business, and, therefore, can support a much higher revenue base. Adjusting for income taxes for the impact of the additional G&A expenses and the impairment charge, our taxes for the quarter would have been a little over $5 million, or in the 21% effective tax range. If you were to adjust our Q4 results for the impairments, G&A adjustments and related tax impacts, our net income and FFO would be $19.5 million, $0.42 per share, and $30.3 million or $0.65 per share, respectively.

To address the other components of our income, I'd first like to speak to revenue. Revenue for the quarter increased by $1.7 million, or 4% over the year. Contractual rent adjustments, revenue from completed projects, renewals and re-leasing, added $2 million to the quarterly rent roll, dwarfing the impact of the 1% depreciation in the Canadian dollar and Euro relative to the US. G&A expenses we've already talked about.

With respect to property operating costs, approximately 40% of the costs incurred in the quarter relate to our vacant properties. And the majority of the balance relates to structural repairs and structural maintenance expenses of our income-producing properties. There is nothing of significance to mention in relation to our interest expense, depreciation or FX gains or losses. And overall we're pleased with the quarter's results and the improvements made and stability of the revenue streams.

Turning to the results for the year as a whole, excluding interest income earned from MEC of $1.8 million in the prior year, rental revenues increased by $10.8 million to $182.9 million, or 6% over the fiscal 2010 level. Almost 60% of that increase is attributable to foreign exchange, as the Canadian dollar and the Euro appreciated 4% and 5%, respectively, relative to the US dollar.

The remainder of the increase relates mainly to contractual rent increases and incremental rent from completed building and improvement projects and facility expansions. G&A expenses for the year were $47.7 million or $3.8 million higher than a year ago. Again, as stated in prior calls, these periods are not comparable, nor are they indicative of the future run rate of the Business going forward. Both numbers contain a lot of noise, and our focus is on the future run rate and the level required to run this Business and execute the strategic plan.

Although property and operating expenses increased by $300,000, there's nothing unusual in the numbers, which are always driven by the level of activity. As I mentioned earlier, approximately 40% of these costs relate to our vacant properties. As with the quarter, there's nothing of significance in the interest expense, depreciation or FX gains and losses to report.

In addition, the 2012 fiscal results reflect the Q2 2011 impairment charge of $2.8 million taken on a commercial office building. The only other point is that both years reflect some unusual nonrecurring items related to the MEC transferred assets and income taxes. All of which are thoroughly discussed in our last report and are outlined in our financials and MD&A.

Lastly, there are a few additional financial metrics and matters that I'd like to highlight. Our annualized lease payments at the end of the 2011 have increased by $3 million from the end of 2010. On a constant dollar basis contractual rent adjustments and rents from projects that have come onstream have added $6.7 million to our annual lease payments. While the decline in the Canadian dollar and the Euro of 2% and 3%, respectively, reduced those positive developments by about $4 million.

In fiscal 2011 we invested $50.3 million in CapEx to enhance our future revenue stream. $42.3 million of this relates to nine projects for Magna tenants. For MID this is the highest level of CapEx the Company has invested with Magna in the last five years. The remaining $8 million relates to two projects for non-Magna tenants.

We entered into a new multi-currency facility in February of this year. And we're comfortably on side with all of our debenture covenants. And at the end of Q4 we had $56 million of cash in the bank. We also announced a normal course issuer bid in the fourth quarter but to date we've not been active.

In closing, as Tom mentioned, 2011 has been a transformative year for MID. We're pleased with the foundation laid, our progress to date, and operating results of the last two quarters. There remains much work to be done and we're looking forward to it. Finally I'd like to thank all of our people for their contribution and their efforts that helped make this a very successful quarter.

With that I'll turn it back to Tom.

With that, we'll open it up to questions.

(Operator Instructions). Mike Markidis from RBC Capital Markets.

Just a quick question on the write-downs. I know the properties were relatively small. Perhaps you could just give us a sense of what the NOI or ALP impact would be for these two properties on a non-renewal.

Mike, it's Mike Forsayeth. The ALP on those is, the combination, about $4 million in total on an annual basis.

Okay. And it seems that the write-down was spurred by your commentary with respect to a non-indication on 2013 renewal. Now, what about with respect to the rest of the 2013 lease maturities? Have you gone through all those properties? Or is it possible that we could still see another write-down or other write-downs coming through in 2012?

Mike, it's Tom Heslip. Two things. One is that with respect to the two assets in Europe, we had clear indication of the tenant's interest in wrapping things up. Although I would add that there are still some discussions about them holding on in the premises a little bit longer, perhaps another year to two years. That being said, those are the ones that really we've identified in 2013 expiries that we felt needed addressing the impairment. Which is more a function of really the underlying property value. These are very old, antiquated, non-reusable assets. And so we really had to look at it from a residual land value.

We will have a small number of properties where we anticipate in 2013 they don't renew. But overall, that doesn't necessarily look like we'd have an impairment. To be honest, with respect to 2013, there's approximately 29 leases, none of which expire within 18 months. They all have an 18- to 22-month expiry from today. The fact that we're in discussions already on these is very encouraging, because in the past this wouldn't have been done. So overall there will be some assets that are likely to be vacated but a very small number relative to the 29. The two in Europe, more than anything, is just the underlying land value and building value necessitated at the impairment.

Okay. Tom, your commentary with respect to the remaining 2013 lease maturities, you actually seemed quite enthusiastic. And with respect to the prospects for renewal with Magna specifically. What sort of time line should we be thinking about in terms of coming to a resolution? And then following up on that point, what would be your sense? Are we looking at a continuation of rent roll-downs as we've been seeing with a couple of the properties in 2011? Or would you be able to maintain the income level as a whole or perhaps even increase it?

Two things. One is of course we would never really comment on lease negotiations because that doesn't do us or either side any benefit to comment. But we of course are pretty optimistic. There is no consistent pattern to the rent renewal rates. What there is, is an overall portfolio with built-in step-ups. So what we're seeing in our projections is decent stability to the NOI. Notwithstanding in some cases we will have rent drops. So overall, there will be some slippage in probability on the 2013 specific leases. But when you combine it with the overall portfolio NOI looks good.

Okay. Just with respect to the NCIB, you guys have noted that you haven't been active as of yet. What are your thoughts there? You're trading at an implied cap rate of, call it, 9%-plus. At what level do you think you would get more active or become active?

What we have right now is the option in place. And we recognize it has benefits under the right timing. So we look at what is our acquisition pipeline, what is our capital usage on existing portfolio, what is the benefits of acting on the NCIB now rather than later. If we were sitting on capital to redeploy it's attractive. It's not as attractive as it would have been five months ago. It becomes less so as other people see the underlying value in our Company. So it's an option. It's one we take serious. But I don't want to comment on acting on it until we really know that that's what would happen.

Okay. One just house cleaning item before I turn it back. Mike, just on the write-down, the $3.3 million tax recovery, was that all cash taxes or was it all deferred or a mix of both?

It's all deferred. Future tax liability on that piece.

Okay. That's great. Thanks. I'll turn it back.

(Operator Instructions). Sam Damiani from TD Securities.

Just on the 2013 expiries, is it basically the same group of properties that were disclosed in the prospectus nine years ago?

Pretty much, yes.

Pretty much. Okay. So no material changes?

Not that I'm aware of.

Okay. And on the contractual rent step-ups that occur from time to time, is there any unusual concentration of them occurring in the next year or two?

Concentration in terms of those leases with CPI adjustments already in place?

Yes. Like some leases you see the bumps on a cash basis every five years or so.

The concentration -- there isn't a concentration. If one was to say is there a Europe orientation or concentration. No, it's spread in the US, Canada and Europe. And across the board it's pretty favorable. That goes to my point about some market rental renewals in 2013 where there will be a bit of slippage is actually more than offset by some pretty significant CPI adjustment upwards. And again, not concentrated in any region.

My question was more, in aggregate, is there an unusually high number of contractual step-ups, CPI adjustments, either this year or next year. And it sounds like next year you're saying there is a pretty big amount of that overall?

Sam, it's Mike. From the accounting side, you have to build all those in based on the revenue recognition. So if there's a contractual obligation for CPI, even though from an absolute cash perspective, you still have to take it into account year by year.

I understand that with a straight line rent but I'm trying to focus on just the cash rent. Is that going to take a step up in any unusually high manner, either this year or next year as a result of (multiple speakers)?

No.

Okay. But nonetheless, your comment about next year, with the lease expiries, you're seeing contractual -- the CPI adjustments offsetting the impact of leases not renewed?

That's what we're seeing. I want to be clear. We have work to do to complete 2013 renewals. And it's going to take us some time. But what is clear are the adjustments upwards on those leases in place. And right now the way we look at it, it does more than offset any potential slippage in 2013 leases.

Okay. That's good to hear. And just over to the projects, you spent $40 million-plus on projects with Magna last year. What sort of yields are you seeing on cost on the projects you did last year and expect to do in the coming year?

I'll let Mike respond, as well, but I want to really highlight with that question that one of the most interesting things about our Company and unique characteristics is these type of projects have a dual benefit. We look at it both in terms of the new capital invested and the return on that capital. But it almost, or at least in many cases, also involves looking at the overall lease in place where we can get an overall extension. So on the one hand, the capital investment has a direct return on it. On the other hand, or equally powerful, is the overall extension of the lease. That's why I highlighted the Clinton, Tennessee transaction because of the really significant dual benefits. In terms of yields, I think you'd see that the yields, on a rental revenue basis relative to the expansion, tend to be in line with where we are right now on a cap rate basis, or an implied cap rate basis on our portfolio. They're not diverging in any significant way away from that. I would call it neither accretive nor dilutive.

I hear you. Okay. That's very helpful. And just finally, in the property statistics page that you've put on your website, I notice one change was the disclosure of low utilization properties versus utilized properties. And that's been stopped and now you're just disclosing utilized and vacant. Is there any reason why you made the decision to reduce that disclosure?

No particular reason, Sam. I'll take a look at that but I think it was there's not any really differentiation. Nothing comes immediately to mind. I thought it was consistent with the one we did at the end of the third quarter.

Okay. That's it from me. Thank you.

I'm showing that there are no further questions from the phone lines at this time.

In that case, I want to thank my team that's here. It's a great team and I'm looking forward to many of you meeting the whole team in the coming weeks. We'll be a little more active out there, getting to see people. And I appreciate everybody dialing in today.

Thank you. Ladies and gentlemen, that does conclude the conference call for today. We thank you all for your participation and we ask that you please disconnect your lines. Thank you everyone and have a good day.