Covivio (COV) Earnings Call Transcript

Ladies and gentlemen, good day and welcome to the Covivio 2020 Half Year Results Presentation. For your information, this conference is being recorded. At this time, I would like to hand the call over to Christophe Kullmann, CEO. Please go ahead, sir. Your line is open.

Thank you. Good morning, and thank you for all attending this call. I'm here today with Tugdual Millet, Dominique Ozanne and Olivier Estève. Let's start Page 4. I won't really comment on this slide because you all now know these figures, but I just would like to stress 2 points. First, we are facing today an unprecedented crisis with very different impacts. Travel and leisure activities are strongly impacted. At the same time, offices and residential activities are more resilient. Second, what is different today compared to 2009 crisis is that there is no financial crisis. In real estate, there is today a lot of liquidity willing to be invested. In this environment, our diversified business model is trained to get through this crisis. As you see on Page 5, 84% of our portfolio is made of offices and residential and hotels account for 15% of our portfolio. Moving to Page 6. What does it means for our performance in the first half? We summarized here some key figures. Operating performance in hotels has been hit by the crisis, but we were able to keep a good set of results in offices and residential. Our office portfolio -- our portfolio is strong, plus 1% in like-for-like value and plus 15% margin and EUR 400 million new agreements of disposals. We benefit from a healthy debt profile with 41% LTV, 6x ICR and EUR 2 billion of liquidity. Let's now focus on our achievements of the first half. Page 8. First, we succeeded in the takeover of Godewind Immobilien. We now own 89%, and we have fully delisted the company in May. As a reminder, this acquisition enables us to take over 10 core office buildings in the largest German office market for a total price of EUR 1.2 billion. This portfolio has been externally valued at the end of June 3% above the acquisition price. With these acquisitions and our historical exposure in Berlin, we now own a EUR 1.7 billion office portfolio in the top 5 German cities and also a EUR 600 million development pipeline mainly in the city center of Berlin. The German office market is one of the strongest market in Europe, thanks to a vacancy rate of 3.1% at end of June and limited available supply under construction. Let's take a step back on Page 10. During the past few years, we have been very active in Germany. And you can see in this slide how much we transformed our portfolio in 5 years, moving from mainly French portfolio to a European portfolio, growing our exposure to Germany from 17% to 36%. This has been made thanks to EUR 3.5 billion acquisition in residential and in offices. Another key achievement of the first half is the success of our disposal program. I'm on Page 11. We announced in February a target of more than EUR 600 million disposals for 2020. As of end of June, we already signed EUR 400 million of new agreements, and we did it with a 15% average margin on the 2019 appraisal value. It is interesting to stress out that most of those disposals has been negotiated and signed after the start of the lockdown. Let's look at some examples, Page 12, by focusing on offices disposal agreement. They account for 90% of our disposal activity in the first half, and they are very good examples of our different expertise. First, in development, all those assets have been developed between 2013 and 2017. Then in asset management, those assets are led to be corporate at EDF, Vinci, Amundi. Thank to those skills, we have been able to extract 90%, 9-0, value creation versus the development cost and 12% IRR before leverage on average. Some comments about our development pipeline on Page 13. The lockdown has delayed the time line of our project by 3 months on average. It has obviously an impact on rents and property development margin expected for 2020, but the impact on cost is very limited. As a consequence, this does not affect the profitability of our pipeline. We keep a 6% target yield on cost and more than 30% target value creation. As a reminder, on Page 14, we benefit from a high-quality pipeline in offices and residential project. In France, 14 project in Paris, Greater Paris and Lyon; in Milan, 7 projects located in Milan CBD and in 2 dynamic districts to sign on Symbiosis; in Berlin, our project are located in the better districts of the city. Let's now have some word on letting activity. First is in offices, Page 15. Despite letting market frozen by the lockdown, we continue to be active by signing 31,000 square meters of new leases in Paris, Bordeaux, Turin and Munich by renewing 83,000 square meter of lease with an average plus 4.2 years of lease extension and plus 2.2% increase in IFRS rent. It is interesting to notice plus 12% on average on 12,000 square meters of renewals in German offices. On the re-lease side, we have seen some departure of tenants, mostly in Paris and La Défense. In German resi, Page 16, activity continued to be active, thanks to strong market fundamentals. On the letting side, we continue to extract the reversionary potential in North Rhine-Westphalia, Dresden & Leipzig, gaining plus 15% versus previous rent. In Berlin, we continue to privatize existing and new apartment with a very high margin. Moving on Slide 17. Rental collection has been strong in offices and residential this semester despite the environment. This is a perfect illustration of the quality of our tenant base. In offices, 91% of our revenues come from large corporates such as Orange, Dassault Systemes, Fastweb and so on. And paying rent come mostly from ground floor retail in offices and residential buildings and from nonstrategic shopping center in Italy. Let's focus on hotels, Page 18. Our hotel portfolio has been mostly closed during the lockdown. For the hotel in lease, we entered into negotiation with our partner in order to help them getting through this crisis. We already signed an agreement with 8 operators, representing 2/3 of our lease portfolio. They are win-win agreements. Operators need to secure their short-term liquidity when their hotel were closed. We granted them deferred payment or rent-free periods. In exchange of that, we are able to extend lease maturity for 4 years on average. Thanks to those negotiation, our hotel lease portfolio is let for 14.7 years firm on average. Now I'll leave the floor to Tugdual to comment the results in detail.

Good morning, everyone. So before moving to the financial results, let's share some comments on our revenue during this first half. Page 21. Group share revenue amounted to EUR 302.3 million during this first half. In the positive territory, we have decent growth on offices in France, Italy and Germany and plus 2.9% growth on residential. On the negative side, our hotel activity posted minus 50% decrease, which leads overall to minus 7.5% and 1.9% for office and resi only. Regarding offices first, on Page 22. Overall, the main part of our revenue base delivered 1.4% like-for-like rental growth with occupancy standing at high level. If France performance has been mainly driven by indexation and other effect being offset, mainly positive reversion and decreasing occupancy. In Italy, the performance has been strong mostly in Milan, where we benefited from stronger reversion during this first half and also a bit of indexation. Last, on German offices, an increasing business line that we are now reporting as is, has benefited from plus 2.8%. The Godewind portfolio acquired early this year is not included in those figures. Occupancy on this portfolio is now at 79% as we have come to a financial agreement with WeWork early in July in order to cancel the lease of 21,000 square meter in Düsseldorf. This decision was based on the outcome of this negotiation and our confidence to improve the overall rent role of this asset. Page 23. German resi portfolio continues to deliver attractive rental growth with plus 2.9% increase during this first half. Berlin performance is progressively reducing with the implementation of the new regulation, but the other part of the portfolio is progressing very well with plus 3.6% during this first half. The appeal versus this new Berlin regulation is organizing in front of the Federal Constitutional Court. An interesting news came recently from Bavaria, where the constitutional court confirmed that, that was a federal competency and not a local one. Finally, Page 24. The hotel activity has been strongly impacted during this first half with minus 50.5% like-for-like performance. The portfolio has been differently impacted depending on jurisdiction and revenue structure. First, on variable leases, which are mostly economic hotel in France let to Accor. It's minus 67% decrease versus 2019 with no progressive reopening starting mid-June. Second, our operating hotels with management contracts that are mostly in Germany. And for the remaining part in France, it's 78% decrease versus 2019. Third, the portfolio in the U.K. fully led to IHG. This is where the impact is the strongest due to a longer and stricter lockdown period and reopening phase that is not yet certain. Due to this unprecedented situation, the MAC clause that we have in our lease fully applies, and we should not perceive any rent this year. Last, on the remaining part of our portfolio, consequently, mostly other hotels led to BNB, NH and other Spanish hotel operators. In Europe, we have posted slight decrease in like-for-like, minus 1.9%, mix of incentive granted and change of hotel operator occurring during this period with some months dedicated to rebranding. Now on the financial results. Page 26. Our portfolio has proven to be resilient with plus 1% like-for-like value growth during this first half. This is mostly driven by development pipeline that continues to boost office performance and German resi, where both yield compression and rental growth contribute to the 4.2% increase. Last, on hotels, values show a decrease of 3.1% during this first half, mostly driven by the important drop on revenue expected in 2020 and partially mitigated by the longer leases we obtained in the negotiation. And the most important decrease has been on the U.K. portfolio and the operating properties. Moving to Page 27. The scrip dividend this year has been chosen by 82% of our shareholders, which leads to EUR 343 million of capital increase aiming at financing the investment program and specifically the Godewind acquisition. Those share issued at EUR 47.8 represent around 8% increase of the total shares of Covivio. And for those who choose this option, they obtain 34% performance in 2 months. On the debt side, Page 28, the metrics have not changed significantly. LTV stands at 41%, close to our objective to be below 40%. This target will be achieved within the next 18 months without new equity. Cost of debt keep on decreasing during this first half with a steady debt maturity and no major refinancing before 2024, thanks to the recent bond issuance made in May. Our EPRA NAV, Page 29, increased by 7% over 1 year, thanks to the dividend in share and the performance on the asset revaluation. In euro per share, the NAV came from EUR 100.6 end of June '19 to EUR 99.8, mostly due to the dividend in share that has roughly 4% dilutive impact for those who have not taken it. Then moving on the P&L, Page 30. We have, for this first half 2020, EPRA earnings of EUR 192.4 million versus EUR 219.7 million in 2019. This represents a decrease of 12.4% versus 2019. We have described on this slide the 4 main explanation of this evolution. First, the impact of our asset rotation strategy. That means that during first half, the revenue from new buildings and develop -- that has been developed or new acquisition has not completely offset the impact of the disposal plan. Second, the positive contribution from our office and resi portfolio, which posted decent rental growth during this first half. Third, the positive effect of the last 12 months decreased in the financial cost. And last, what we have estimated as the impact of the COVID crisis, which is mainly coming from 2 effects in H1, the hotels and the rental provision. Finally, based on this analysis and our best estimate so far of what could be the performance of second half, we have done, as announced in April when we withdrew our initial guidance, a new guidance for 2020. This is based on few hypotheses: first, on hotels, the performance in H2 will be similar to H1; second, on provision for unpaid rent, an important part has been booked on the Q2 rents mostly on retail, but we should have additional provision in H2; third, on offices, due to the strong decrease in the take-up in Europe, we will suffer from increased vacancy and delays on letting activity versus what we initially forecast, and fourth and last, the lockdown on delays in the development activity has postponed some rents on the pipeline and development fees. Those 4 explanations lead us to estimate that EPRA earnings for 2020 should amount to around EUR 380 million, which means EUR 4.15 per share. I will now let Christophe conclude on more longer-term views.

Thanks, Tugdual. And before answering your questions, some comments on the potential future for us. What are our perspective? First, I have to say, our purpose doesn't change and is even today more relevant: to build or redevelop new buildings, to foster links between users in our building and bring them well-being. Today, this is key for our tenant and end users. But there are obviously things that need to change or to evolve. On Page 34, you see what we will do in the coming months. Let me go more into details in the next slide. First, Page 35, in offices. We will accelerate mature disposals on top of what we have already done in the first semester. Our target is to sell EUR 400 million of mature office assets in the next 12 months. At the same time, we will continue to invest on development projects in the CBD of Paris, Milan or Berlin, creating spaces fully fitted to our end-user needs. Regarding our development pipeline and focusing on residential in France, Page 36. As you already know, we have strong expertise in residential in Germany, but also in France. In 2018, we created a dedicated residential development team in France in order to maximize the value of our buildings by transforming obsolete office buildings into residential to be sold. 130,000 square meter has been identified in location short of supply in residential such as Greater Paris, Bordeaux, Nantes and Nice. As of today, 3 projects are committed, the picture are on the slide, and are already fully presold. Hotels is facing a steep crisis, but people will always want to travel and to meet. It will be progressive, but activity will come back. We will buy in September 8 prime hotels in the heart of top European destination as announced a few months ago. Last but not least, on Page 37. Being more digital, offering more services and flexibility are trends we had already identified before the crisis. During our Capital Market Day last year, we had presented you those trends and our digital and service strategy. This crisis is accelerating those trends. This leads us to intensify our strategy. Wellio is a good example of that. Today, we have 5 sites open with a good track record. We will continue to offer in some of our new buildings this service. The next opening will be in Milan in September, a few steps for the Duomo. It is already booked at more than 50%. So now we are available to answer your questions.

[Operator Instructions] Our first question will come from Christopher Fremantle of Morgan Stanley.

I just had a few questions. The first is on the Godewind transaction. Can you just confirm whether the valuer that you have used is different to the one that Godewind previously used? And what the components of any change in valuation are there, please? That's the first question. The second question is just if you could give a little bit more detail on the WeWork transaction that you referenced some detail on whether that was planned and what your plans are for that vacancy, please? And then thirdly, I wanted to ask you about the decline in hotel valuations, which seems relatively light given how far the income has fallen. I appreciate that the income is likely to return, but can you just give us some more clarity about what your valuer is assuming and how that valuation decline has not been more extreme, please?

Thank you, Chris, for the 3 questions. On Godewind, yes, we changed the appraisal value. It's CBRE that made the appraisal. If I will -- I need to check, but I think this is the case. So it's really a new appraisal that was looking in detail in this portfolio and the valuation was made also taken into account the fact that WeWork was not in the Herzog-Terrassen asset. On this WeWork question, we signed with them a financial agreement in July, which was, I have to say, in the benefit of the 2 parties. WeWork asked for the agreement to be confidential. That's why we'll not be able to give you completely the details on this transaction. Herzog-Terrassen is a very good quality building in the CBD of Düsseldorf submarket, where only today 8,000 square meters are available. So we are confident to be able to find in the coming months new tenants. And that's -- on this point, perhaps, I'll let Dominique to answer directly the question on the appraisal on the hotels asset.

Concerning the valuation on hotel, of course, the decrease seems slow compared to the decrease in revenue. The minus 3% is an average, which takes into account the minus 8% in the U.K., for instance, but also the successful lease negotiation we finalized. Of course, the job of the valuer was not easy considering all the uncertainty we face in the Q2 and the valuation has been confirmed by the appetite in the last month because a lot of new fund raised some equity in the hotel sectors, for example, Brookfield, Primonial, Starwood Capital raised some money in the equity sector. And after we had a lot of transaction, even very recently, which confirm our valuation. After -- if we speak about the hypothesis of the expert, they take into account progressive recovery in 2021 and 2022. And to be more precise, in 2021, they take into account a ramp-up. So it's -- they consider a decrease of 25% in terms of turnover compared to the last year.

Compared to 2019.

Yes. So it's 25% down in 2021 relative to 2019. Is that right?

Yes. Exactly.

Our next question comes from Florent Laroche-Joubert from ODDO.

So I will have 3 questions for you. So first question is to know how confident you are in executing your disposal plan, so EUR 400 million in the next 12 coming months. My second question so -- would be on offices market. So now you operate on maybe 3 offices market. My question would be, if you have to do ranking of this different offices market, so what will be this ranking and why? And so my third question will be on the residential transformation business. So beyond the projects already identified, at what pace do you want to develop this business?

Thank you for this question. And yes, I have to say we are really confident on the execution on the disposal plan because today we have EUR 400 million of new agreements and, as I said, mostly negotiated after the lockdown. Today, we have, I have to say, EUR 300 million of advanced negotiations. So we are really close to finalize this negotiation. So really, today, what we see is really the appetite in the market for stabilized assets and -- with also decent value. You've seen that we were able to dispose in this first half with really important margin compared to the last appraisal value, the asset that we are negotiating in the first half. That's on the first point. On the second point, office market. Today, what -- we are a European company. What we want is to be presented in these 3 main markets that we consider France, Germany and Italy. We have in each on these 3 countries today strong teams that are able to manage asset, but also to create and to develop new buildings. What we want to do in the future in these 3 country is more to continue to grow in the office sector through development, and that's why we will push on the development side now also in Germany as we are doing in France and in Italy. On the transformation business, what is important for us is to have the skills to -- and the capacity to do that. And that's why we want to stress this point during this presentation that we don't wait COVID crisis to start to think on transforming offices in -- obsolete offices into resi. It's something that we already have put in place. We have today a lot of projects of assets that will be -- to imagine that will be vacated from large tenants we have and to be transformed into resi. We have, for example, a big project in Bordeaux, 40,000 square meters that are -- it was a former IBM asset. We have also a large project in Nice, which is today fully -- an office asset fully let to EDF that will be vacated by year-end. And we are currently negotiating with the municipality to obtain the capacity to develop 25,000 square meter of resi. So it's really part of what we will do, and we will continue to do that. I think it's a way to optimize the value of the portfolio we have, and we have the skills.

Our next question comes from Celine Huynh from Barclays.

Actually, I have 2 questions on property values. The first one is, your peers in France recently had his office values adjusted downwards. So you had lower inflation. But your like-for-like growth was positive in French offices. And I appreciate you had some value adjustments from the development pipeline, but if you give -- if you could give a comment on this. Then the second question is your disposal program is on track, and you're selling double-digit above book value, which is a rather positive trend. What is presenting your valuers for taking this into account when they value the rest of the portfolio?

I didn't catch the second questions exactly.

Do you want me to repeat my second question?

No. Okay, I understand. It's clear. Okay. Like-for-like value, what we can say today, first, the disposals demonstrate the valuation because when you have so many disposal because it's not only one asset. So I have to say, different disposals that we have been able to achieve during this first half. We gave some examples in the press release that -- really today that means that there is an appetite. So those assets we have and perhaps, in some part, appraisal was less comfort in the past for the appraisal to up -- to have a good valuation on those assets. What is key for us in the office part is the development part. We have an important part of -- an important pipeline today with a target value creation of more than 30%. You see that -- asset that we disposed will create in total 90% value creation of that since starting of this development. This, to say, development pipeline -- important development pipeline will continue to be a strong support of the evolution of the appraisal value in the future. So that I think for me is the main point. The second point is that we have very important occupancy rate 96% and 98% in Italy today that helps a lot in this period to -- also to support the appraisal value. And the second point was? Okay. What is today in the appraisal value? What we take into account in the figures in June? Most of this agreement are in this valuation, in the figures we gave in terms of plus 1% on average.

Our next question comes from Alvaro Soriano of Bank of America.