Stoneweg Europe Stapled Trust (SET) Earnings Call Transcript

Good afternoon, and welcome to the Stoneweg European REIT's First Quarter 2025 Update Call. We will begin with a presentation by the Stoneweg European REIT management team followed by Q&A. [Operator Instructions] Now I will hand across to the CEO of the Manager of the Stoneweg European REIT, Simon Garing. Simon, over to you.

Thanks, Kiara. Good afternoon, and thank you to everyone for joining us today for the business update. The photo montage of our assets on Page 3 highlights the selection of the portfolio, typically Grade A office buildings as well as large well-located Logistics and Light Industrial properties. These range from core to value-adding profile, demonstrating our resilient barbell approach to portfolio construction with over 100 assets. We continue to execute on our stated investment strategy of pivoting towards the Logistics/Light Industrial and data center sectors, now making up 56% of the portfolio, up from just 32% 4 years ago. We are focused on core Western European markets and the Nordics, which now together represent 86% and a growing part of our current portfolio. As a reminder, almost 95% of SERT's portfolio is held under freehold title with nearly all leases featuring inflation-linked rent escalations, supporting steady annual income. So we are pleased to report a successful first quarter, strengthening SERT's operational and capital position despite the challenging global backdrop. We recently concluded 3 major office lease renewals of almost 60,000 square meters at overall higher rents with only around 10% space returned, which is almost all leased already. 8 of our top 10 tenants are now secured beyond 2030, delivering the longest WALE in our history. Over the past few months, the treasury and finance team has also been busy, handling over EUR 900 million in debt transactions. A key highlight was the EUR 500 million green bond issued in January this year. Integration with our new sponsor, Stoneweg Icona, is largely complete. The Stoneweg Icona Group has been well received with meetings of over 150 investors and press on a recent roadshow to Singapore and Hong Kong. This support has been thanks to their strong European track record and deep capital access. The included press release is attached here on this slide provide some good insights for you if you didn't get a chance to meet with [ Jaume or Max ]. We are actively taking strategic steps within SERT's portfolio to unlock value, generate alpha and catalyze positive unit price performance to continue to close the gap to NAV. The new 20-year NN lease and agreement to redevelop Haagse Poort announced yesterday is another example of that. We are also rigorously assessing the sponsor's logistics and data centers pipeline for meaningful and value-accretive opportunities. The proposed stapling of a new business trust to the REIT at today's EGM will enhance tax efficiency and provide future strategic flexibility. Finally, the unit buyback program has been well received with over 1.5 million units already repurchased over the last month, demonstrating the Board's confidence in SERT's investment proposition during the current market volatility. Page 5 presents the high-level scorecard for the quarter. I'm pleased to highlight the indicative DPU this quarter is slightly higher compared to the last quarter. It is also only 3.7% lower than PCP as we have now largely absorbed the refinancing of all our old legacy debt when rates were negative all those years ago. Confirming our office value-add strategy, the accretive returns from our Nervesa21 Milan project are now driving higher NPI growth. We've just reported a strong 7.4% like-for-like NPI growth across the whole portfolio as a result. And our leasing pipeline is very encouraging in both key parts of the portfolio as we look to bring the occupancy back up. I'll now hand over to Shane to run through in more details. Thank you, Shane.

Thanks, Simon. I'm pleased to report this quarter that net property income was 2.4% higher than the prior period, mainly due to higher income from certain assets such as Nervesa21 that Simon mentioned, following the completion of its development. There was also a benefit from a write-back in bad debt provisions where 2 tenants in France ended up paying rent after it was earlier considered doubtful. And this compared to a provision for doubtful debts that was made in the first quarter last year. As Simon just mentioned, NPI on a like-for-like basis was 7.4% higher than the prior period with the logistics light industrial sector outperforming by 9.6%, office up by 4.2% and SERT's other sector was actually 19% higher due to a higher turnover rent received in the Starhotels Grand Milan. Net interest cost was up 18% due to a higher all-in interest rate following the green bond issuance in January. And this was partially offset by lower interest expense on the floating rate borrowings due to lower short-term interest rates of the 3-month Euribor and the Euro STR. Overall, the average all-in interest rate for the first quarter was 3.66% compared to 3.13% in the first quarter last year. And as Simon mentioned, the indicative DPU was 3.7% below the first quarter last year and that's mainly due to those higher interest costs, partially offset by the higher NPI. Moving now on to the balance sheet, which remains in a very sound position following the bond issuance in January. Current liabilities dropped significantly following the bond issuance. The balance sheet now reflects stabilization with total assets of EUR 2.3 billion following the largely completed asset sales program over the past 2 years. A unit buyback program commenced in March and by the end of the month, nearly 340,000 units had been acquired. In April, further buybacks occurred, bringing the total number of units bought back to 1.5 million. The net asset value was EUR 1.98 per unit, which was slightly lower due to the 6-month distribution paid at the end of March. And NAV on an EPRA basis, which excludes deferred tax provisions, was EUR 2.12 per unit. SERT's debt profile is stronger than ever. SERT's weighted average debt expiry is now over 4 years and the nearest maturity is only in late 2026. The new 6-year green bond was nearly 5x oversubscribed, attracting over 100 institutional investors. And this overwhelming response just weeks under the new Stoneweg brand reinforces investor confidence and affirms the sponsor's positive impact on SERT. Recently, we have reset some hedges, resulting in the level of fixed cover extending to 73% in 2027, while still allowing us to take advantage of reducing interest rates. I will explain more about this on the next slide. Additionally, with over EUR 240 million in undrawn RCF and cash available, we are well positioned to pursue the next phase of organic and inorganic growth, leveraging opportunities at the bottom of the European commercial real estate cycle. As I just mentioned, we have reset our interest rate hedges with new collar transactions featuring a cap and a floor. This allows us to pay -- only pay a maximum interest rate at the cap level while benefiting from interest rates falling towards the floor. As you can see in the chart, SERT's cap rates on EUR 310 million of notional debt are lower than today's 3-month Euribor, capped at an average of 1.6%. One hedge is capped at 1.75% on EUR 150 million of notional debt and on another EUR 160 million notional debt is capped at only 1.45%. SERT's interest expense will benefit if ECB cuts rates further towards 1%, where the lowest floor is set. Alternatively, inflation comes back into the system and ECB rates rise, then SERT is 89% protected. Credit metrics have remained comfortably within the bond and loan facility covenants and within credit rating agencies' metrics for investment-grade rating. Although net gearing is a little high at 41.7%, we will continue to focus on bringing it back down within the long-term policy range of 35% to 40%. We have some small non-strategic asset sales in progress, while valuations may improve on the back of our value-adding asset management initiatives and falling interest rates. Interest coverage ratio on a trailing 12-month basis is 3.3x, calculated using the definition from our EMTN program. Using the MAS definition, which includes coupons on perpetuals and amortized debt establishment costs, the ICR is lower at 2.9x, but still considerably higher than the MAS limit of 1.5x. With the hedging and bond transactions completed, SERT's all-in interest rate at 31st of March is 4.16%. Now moving on to asset management. The quality of SERT's portfolio and the strength of Stoneweg on-the-ground team delivered almost 37,000 square meters of leasing in the first quarter this year, which provides SERT with a long WALE that enhances cash flow visibility. The logistics WALE is now 5.2 years and the office at 5.1 years. As expected, total portfolio occupancy temporarily dipped to 92% in the first quarter of '25 from 93.5% at the end of last year due to a few key factors. The primary reason was SERT's largest tenant, NN Group, vacating 6,000 square meters in Haagse Poort as part of their office space optimization. Importantly, this move is linked to a much larger commitment that we are excited to announce a cooperation agreement with NN Group for a 20-year lease renewal over 28,500 square meters, which I will talk about more later. Polish office occupancy fell slightly to 78% due to UBS vacating 5,000 square meters in the Green Office in Krakow, plus a few smaller non-renewals. Turning now to the Logistics and Light Industrial sector, where portfolio occupancy remained steady at 94%. Occupancy in the Danish portfolio improved. This was driven by an 8.1% occupancy gain in Smorumnedre and new leases across other Danish assets. Occupancy in the French portfolio declined slightly following 8,000 square meters of terminations at Parc des Docks. Space at this place -- this asset is highly sought after and we are confident of reletting these areas at higher rents. Occupancy across the other countries remained unchanged with the Dutch portfolio near full occupancy at 99.6% and both the U.K. and Italian portfolios fully occupied. We maintain good visibility on our leasing pipeline and remain confident in further improving occupancy over the remainder of the year. We achieved positive rent reversion of 4.9% across the Logistics and Light Industrial portfolio, reflecting sustained low vacancies despite the softer economic growth. As shown in the top chart, rent growth remains within normal bands over the past 5 years. The portfolio continues to be under-rented with the valuer estimating passing rents to be 7.2% below market levels. The Logistics and Light Industrial sub portfolios have continued to track closely over the past 4 years in terms of rent reversion and occupancy with performance influenced by the timing of developments and acquisitions of value-add assets. Encouragingly, we are starting to see manufacturers take on proportionately more space than the logistics companies. In the first quarter of '25, we signed 24,000 square meters of new or renewed leases in this sector. Overall, we are on target to lift occupancy in this sector to 95% during this year. The key leases signed in the quarter in the Logistics and Light Industrial sector were a 3.5-year lease renewal over 5,000 square meters in Fabriksparken in Denmark at a 1.4% positive rent reversion. And there were multiple leases signed and renewals in Veemarkt in Amsterdam in the Netherlands. We also signed a 10-year new lease over 3,400 square meters with an 8.4% rent reversion in Parc du Landy in France. Turning now to the Office sector. Overall portfolio occupancy declined to 85.7%, mainly due to the Nationale-Nederlanden space optimization mentioned earlier which lowered Dutch occupancy to 92%. And we're in the final stages of securing a new 10-year lease at higher rents for all of this space. Occupancy declined marginally in Italy, France and Poland due to lease expiries such as UBS mentioned earlier. A positive highlight is Motorola's 7-year lease renewal at their data center and AI facility in Green Office in Krakow, which will be included in the second quarter statistics. Pleasingly, in Finland, occupancy rose for the first time since 2023, up to 71%. And despite vacancies, the yields remain strong at over 8%, so we are not pressured to sell. Office leasing activity in Q1 totaled 13,000 square meters with a slightly negative reversion of minus 0.6%. The biggest lease renewal signed was with tenant Coolblue in Central Plaza, Rotterdam at a positive 1.4% rent reversion for 5.5 years, though the weaker Finnish office lease renewals were signed at negative rent reversions in order to mitigate the higher vacancy risk. The office portfolio also remains 7% under-rented and we continue to lease vacant space on longer terms and at higher rents to strengthen the portfolio. SERT's office portfolio is larger future-proofed, benefiting from structural trends like the tenant flight to quality and energy efficiency. We discussed earlier Haagse Poort in the Hague, where we reached a major milestone by signing a cooperation agreement with NN Group for a 20-year lease renewal over 28,500 square meters at significantly higher rents. The agreement also includes a EUR 60 million upgrade plan for the premises, subject to final approvals. The rendering on this page shows the new atrium and foyer with warm collaborative spaces, a key design element for NN Group. European office markets remain significantly undersupplied in Grade A ESG-certified assets with high EPC ratings or BREEAM certification. CBRE estimates that only 20% of the European office stock meets tenant demand compared to 84% of SERT's office assets being rated BREEAM or LEED, very good, gold or better. And Nervesa21 in Milan was recently awarded 91 LEED points by the Italy Green Building Council, making it the second highest rated green building in Italy. We are pleased to report a 6.6% yield on cost for Nervesa21 including the value of the old building, delivering a modest uplift to NAV. Looking ahead, we have over EUR 200 million of short- to medium-term development and AEI opportunities across the portfolio. Three key projects to highlight are in Slovakia at Nove Mesto ONE, we are adding 5,300 square meters for an existing light industrial tenant with delivery expected by June this year. At Spennymoor in the U.K., a new 15-year lease over almost 47,000 square meters of space with Thorn Lighting includes the development of a 5,000 square meter adjacent warehouse and installation of rooftop solar panels with a 2-megawatt capacity. In Amsterdam, we're making good progress at De Ruijterkade, securing an agreement with the municipality to move into the public consultation phase ahead of building approvals. This project could potentially commence in the second half of this year -- of 2026, apologies. I will now hand back to Simon for economic and market commentary and outlook.

Thanks, Shane. So looking at the macro picture, while Europe remains vulnerable to short-term U.S. tariff and trade tensions, the longer-term impact may have some positive repercussions within Europe. U.S. policies are encouraging Europe to pursue its own structural reforms, boosting long-term economic resilience and growth in onshoring, both particularly positive for industrial and logistic assets. Oxford Economics recently downgraded Eurozone growth forecasts to 0.8% for this year and 1% for next year following these new tariffs that were announced. However, from 2027 onwards, they have significantly upgraded their growth forecast, especially in Germany, where a EUR 1 trillion infrastructure and defense investment package is expected to take effect. So longer term, this is positive for asset pricing. European stock markets and the strength of the euro recently underpinned our confidence. We hear a lot about European companies onshoring the supply chains post-COVID. U.S. tariff announcements are just accelerating this trend and the data is starting to reflect this. As shown on Page 25, new Green Street research highlights that manufacturing and light industrial sectors now account for 25% of all warehouse and industrial space take-up, up from around 15% in 2020. As an example, as European aerospace and defense manufacturers ramp up production, Green Street data shows this sector has already increased its leasing volumes, a clear sign of how heightened geopolitical uncertainty is now feeding through into this demand. SERT is well positioned to benefit with around half of the portfolio suited to light industrial use. Turning to logistics fundamentals on Page 26, we can see that CBRE expects that occupational outlook will improve from here on, subject to levels of consumption activity and impact from tariffs. Rental growth is expected to moderate slightly, but still outpace inflation as vacancies reduce after the recent supply response to the '21 and '22 abnormally high uptake that space is being absorbed now. Looking at the office sector on Page 27, we know job creation is closely correlated with occupier demand and GDP growth. CBRE also forecasts job growth across key European cities will average around 1% per annum over the next 5 years, as shown on the left-hand chart. The right-hand chart here shows this is expected to drive a 3% decline in vacancies across Europe, given limited new supply. The small dashes on this chart represent the current vacancy rates in each city, while the columns show the expected overall reduction in the vacancies over that time line. Amsterdam is one of the markets forecast to see the largest vacancy decline over this period, which supports the outlook for our major project, which is in the heart of Amsterdam. So turning to Page 28. CBRE expects prime office rents to keep up and outpace inflation in many of the Western European key city markets, our focus. In aggregate, Central European office markets are expected to trend on par with inflation with higher vacancies and potential for supply. So turning to Page 30. I will leave you with some key strategic takeaways. SERT is trading on a yield of approximately 9%, underpinned by a strengthening euro currency and a 25% discount to NAV. We continue to view SERT's investment proposition as compelling, reflected in the Board's decision to commence a unit buyback during the current heightened market volatility. Our confidence is reinforced by the good support that we received from our investors. They recognize the upside potential within the portfolio, underpinned by declining euro interest rates and an excellent track record in active asset management, develop and AEI enhancements and disciplined capital management. The manager is now largely integrated with our new sponsor, Stoneweg Icona Global Platform and benefiting from their successful European experience and access to deep capital pools. We are actively taking strategic steps within the portfolio to unlock value, generate alpha and capitalize positive unit price performance to close the gap to NAV. The new 20-year NN lease and agreement to redevelop Haagse Poort announced yesterday is another example of this. We are also rigorously assessing the sponsor's logistics and data centers pipeline for meaningful and value-accretive opportunities. We are preparing to adopt the proposed staple REIT business trust structure for greater flexibility and tax efficiency while maintaining our existing policies on gearing and distribution payout ratios. Maintaining our investment-grade credit ratings is very important in this context for us. We continue to closely monitor global trade dynamics and assess the potential impact on real estate fundamentals. Our focus remains on delivering sustainable risk-adjusted returns across market cycles. So thank you for your attention today and ongoing support and investment. I'll now hand back to Kiara, the moderator and open up for questions.

Thank you Simon. We will now begin the Q&A session. [Operator Instructions] Our first question comes from Brian who asks, leveraging ratio has been increasing and fair value of investment properties has been declining over the years. One, will this affect AEI plans for the portfolio? Two, what's the outlook for Finland and Poland? Are you carrying amount of Finland and Poland portfolio expected to recover?

Thank you, Brian, for the questions. So firstly, we are not alone. We're not immune to the interest rate cycle. So from 2022, when we saw a substantial reversal from the negative interest rates to ECB and others lifting rates 400 basis points over that very short period of time, that was clearly going to have an impact on valuations and therefore, on leverage. So we were very proactive at the beginning of that down cycle to commence selling and we've sold now about EUR 280 million worth of assets at around a 12% premium to the values at the time to help mitigate that down cycle. And so while our leverage has increased slightly, it's still within the Board policy range of 35% to 40% with a ceiling at 45%. As we mentioned last year, with the ECB starting to cut rates and again, only last month, they further cut rates. So we're now down to around 2.25% at the ECB level. We're starting to see valuations increase, which will have the reverse effect on LTVs. So that's the LTV side of the debt covenant equation. The second, which the rating agents and the bond investors also look at is interest cover. And even with the mark-to-market or the transition to more normal interest rates that we've taken that medicine over the last 6 months, our ICR cover is still a very healthy 3.3x. So we're generating a lot of cash off our assets well in excess of the interest costs that we now have transitioned to. And that leads to, I guess, the next question around some of our weaker performing assets where perhaps we've not been able to offset with alpha generation, particularly in Finland. Yes, the Finnish portfolio has taken a proportionately larger hit. But as Shane mentioned in his prepared remarks, even down at the 74%, 75% occupancy level, at the current valuation, that portfolio is still yielding 8% even with 25% vacancy. So we're thinking that we're now pretty close to very trough valuations for those weaker assets and they're now generating quite high levels of cash flow as a result of that.

Our next question comes from Christie who asks, what should we expect for your finance costs ongoing -- sorry, going forward? Can you please share the proportion of, one, your tenants that are exporters vulnerable to the ongoing geopolitical trade tensions; and two, tenants that will benefit from the onshore and defense or infrastructure investments trend in Europe, please?

Okay. I'll take the first one. Thanks for the question, Christie. So yes, the outlook for interest rates, I mean, the main exposure to us is the short end. So we recently did the 6-year bond that gives us a fixed interest rate all the way through to 2031. We have another debt facility that is -- has a fixed rate for 5 years. And we have the hedges in place for about EUR 310 million that I spoke about earlier. So this really sort of underpins the average rate. I think Simon mentioned before about the fact that the bond issuance has sort of reset the overall debt structure and interest cost so that at 4.16%, there's -- it's probably fair to say there's more downside possibility than upside possibility from here because the 3-month Euribor is 2.2% at the moment. And we benefit with the hedges that we have over EUR 300 million of debt down to 1.75%. So at 1.75%, we are capped at that level on one hedge for EUR 150 million and at 1.45% on another hedge. So we will benefit once -- or if the 3-month Euribor goes below those cap levels. And then we have the -- just the remaining part currently 11%, which is floating, which will also benefit from the reduction in the 3-month Euribor. So it's more likely the 4.16% comes down a little bit than goes up from here. It's really been rebased.

The conclusion there is in the last 2 years, we've gone from our legacy debt when interest rates were negative. So we had an average cost of debt of around 1.7% to now at 4%. So that transition that some REITs have undertaken, we're part of that camp. So we've reset all of our debt effectively at today's more normal rate environment. So the risk profile of the REIT has dramatically reduced with this new debt reset and with the longer duration of debt. In terms of the answer to your second question, our top 10 tenants, which account for 23% of the income, none of them are exporters. We have about a 4.5% exposure to the automotive industry to tenants such as Stellantis or suppliers in the supply chain of car manufacturing in Germany, Slovakia and Czech. So just under 5% would be exposed to the automotive industry. So one of the benefits of this portfolio is it is made up of 1,000 leases, 105 assets, it's very resilient. The largest building is only 7% of value and we've just secured that with this new National Inland lease, along with all of the other leases in that building that were completed last year. So we're in very good shape, as Shane showed the write-back of doubtful debts as tenants continue to be very up to speed with their debt -- up with their rental payments. So we're in good shape within the existing portfolio. And I guess that's why the Board has sent the signal through the unit buyback program that we're very confident both on the income side and on the debt side. 95% of our tenants are either government tenants, semi-government tenants or MNCs with very good credit ratings.