Watch the Q3 – 2024 CFO Address To Unitholder
Transcript
00:19 — Wayne Byrd:
Hi, I’m Wayne Byrd, Chief Financial Officer at Skyline Group of Companies, and I’m excited to share our fiscal Q3 2024 report with you today.
Traditionally shared by our Fund Presidents or the VP of Sales, I’m pleased to offer a detailed perspective of the financial outlook across all our funds and the current trends that will continue to influence fund performance in the months ahead.
Despite various economic and policy changes, Skyline’s funds provided another quarter of strong yields and unit value growth for our investors.
From a macro viewpoint, Q3 2024 marked a key turning point in the interest rate cycle, [with] central bank rate cuts positively impacting asset prices and reducing costs for borrowers. Despite the Bank of Canada’s benchmark lending rate remaining high relative to long-term averages, the two rate cuts during Q3 following the jumbo cut in October signaled a clear shift towards more supportive conditions for acquisitions, dispositions, and investment within the fund’s portfolios.
With further cuts anticipated in December and into 2025, the environment is becoming increasingly favourable for our funds’ debt laddering strategies, cash flow growth, new acquisition pipeline, and higher net asset values (NAV) over time.
Even without the full impact of recent interest rate changes, management was able to increase the unit value of two of our funds in Q3 in a challenging environment, due to the strength of our asset portfolio, ongoing cost control initiatives, and overall operational discipline.
On July 1, Skyline Clean Energy Fund’s Board of Trustees approved a 3% increase in unit value for the fund’s Class A, Class F, and Class I units from $16.49 to $16.98, and subsequent to Q3, the Clean Energy Fund Board approved another increase, raising the unit value from $16.98 to $17.20. Launched in 2018, the fund’s portfolio now comprises 82 clean energy assets totaling 91.48 megawatts of direct current (MW/DC) in size.
And on July 11, Skyline’s Industrial REIT, specializing in industrial warehousing, distribution, and logistics real estate, announced a 1.1% increase in unit value for all classes of units from $22.50 to $22.75 per unit.
With improving economic fundamentals projected in Canada through 2026, we believe our funds are well-positioned to continue delivering unit value growth for the long term.
Now, join me as I dive into the Q3 2024 highlights for each of our specific funds.
All right. To start things off, let’s take a look at the performance of Skyline Apartment REIT. Our portfolio’s fair value reached over $5.16 billion, marking a 2.7% increase sequentially and 6.8% rise year over year. The fund’s portfolio value rose despite a reduction of properties owned from 243 to 240 on the year, driven by value-enhancing capital expenditure improvements on certain properties and positive appraisal valuations.
Funds from operations (FFO) came in at $24.9 million, surpassing the quarterly average 2024 forecast of $23.67 million, while net operating income (NOI) of $55 million also exceeded projections compared to our average quarterly 2024 forecast of $52.6 million. Q3 NOI margin stood at 58.08%, comfortably above the annual forecast of 55.35%, reflecting our continued ability in generating returns and extracting efficiencies from fixed operating costs.
One of the most exciting highlights is our $360 mark-to-market gap on in-place rents, which, if fully captured, has the potential to boost unit value by approximately $23 over time, representing an 80.7% increase over the current value of $28.50. With a current 20% annual turnover rate, we expect to capture most of this unrealized value over the next eight to ten years, if current trends hold.
And indeed, I am pleased to announce that subsequent to the quarter end, on November 19, the board announced a 3.5% unit value increase from $28.50 to $29.50, reflecting positive performance, growth, and our strategic initiatives that have enhanced the fund’s overall value.
Overall, with a 6.83% annualized 1-year return, it was another consistent quarter for the fund. And with a 3.5% unit value increase, this will trend the -year return to 10.52% by the end of this year. Our ongoing record shows consistent unit value growth since inception without ever missing a distribution or yielding a negative return over nearly two decades.
Okay, switching gears over to Skyline Industrial REIT. The portfolio’s fair value stood at $1.78 billion, a slight dip of 0.49% sequentially due to the divestment of a Cambridge (Ontario) property, but a 23.1% increase year over year, reflecting current market conditions and the acquisition of several new industrial assets over the past 12 months. The fund achieved a material increase in average annual rent in place, reaching $9.28 per square foot, up 5% sequentially and 13% year over year.
The portfolio is currently 20% to 25% below market rates on average, providing strong potential for rent increases as leases are renewed. This strong rise in average annual rent in place has allowed base rental income to reach record levels, increasing 5% sequentially and 30% year over year, while the occupancy rate remained at a very strong level of 98.9%.
Turning to net operating income (NOI), the fund generated $24.25 million in Q3, which met our quarterly budget estimate of $24.1 million. NOI margin exceeded 70% and slightly above our 2024 forecast of 69%.
On the leverage side, total debt to fair value ratio is currently 53.3%, comfortably within our declaration of trust limit of 70% and below our conservative internal target of 60%. This ratio provides ample flexibility for potential portfolio expansion as accretive opportunities arise. As well, with 24% of scheduled mortgage maturities due in 2025, we are very well-positioned to capitalize on favourable refinancing conditions amid the current trend of declining interest rates, which we expect to continue into the first half of 2025.
And finally, I’m pleased to reiterate that our Board of Trustees has previously approved a 1.1% increase in the unit value for all classes of units, raising the value from $22.50 to $22.75. Combined with our stable distribution schedule, the industrial fund Class A units have produced an annualized return of 6.6% and 14.8% since inception, and with the distribution increase, this will trend the 1-year return to 6.61% by end of year.
Now, on to Skyline Retail REIT’s fund performance. In the third quarter, our portfolio fair value stands at $1.61 billion. Year over year, portfolio fair value decreased 1.75%, driven by a net disposition of six non-core assets over the past 12 months, as part of the REIT’s strategy of realizing gains from select non-core assets within the bottom tier of the portfolio, with the aim of reinvesting in more financially accretive asset management opportunities elsewhere in the portfolio.
The sharpening of focus on core assets has been rewarded as occupancy rate, base rental income, and average annual in-place rent all finished the quarter strong at 97.3%, $8.31 million and $19.47 per square foot, respectively.
NOI reached $23.91 million, surpassing our average quarterly 2024 forecast of $22.54 million. Additionally, NOI operating margin improved by 20 basis points from 63.9% to 64.1% sequentially, marking a trailing 12-month high and comfortably exceeding our full-year 2024 forecast of 62.6%.
Our leasing spreads—the difference between the expiring rent and the new rent agreed [upon] when a tenant renews their lease—reached 15.72% in Q3, a market-leading performance, underlining the strength of demand from tenants amid the continuation of limited space availability in the outdoor retail sector as a whole.
Looking ahead, we are well-positioned to benefit from a favourable interest rate environment, with approximately 28.8% of the fund’s mortgages set to mature in 2025. This timing aligns with ongoing prime rate declines, presenting an ideal opportunity to refinance our mortgage debt on favourable terms.
Overall, by focusing on essentials-based retail centres in smaller markets, the portfolio captures the same strong tenant base seen in strip malls and larger cities, but acquirable at a higher capitalization rate, which means a lower acquisition cost relative to income.
And now, Skyline Clean Energy Fund. With over $390 million in assets under management, Skyline Clean Energy Fund continued its momentum in Q3 with a 3% increase in unit value on July 1, followed by an additional $0.22 increase from $16.98 to $17.20 on October 1. This has brought the fund’s 1-year return to 10.02% after the second unit value increase.
In Q3, the solar portfolio operated at 97.5% of budgeted revenue, with above-budget performance in September that continued into October. The year-to-date 2024 solar revenue is at 99.5% of budget, and this upward momentum is expected to continue as the asset management team has put considerable effort into corrective maintenance activities.
These activities, combined with new direct current (DC) electrical systems analysis being undertaken on the solar portfolio, will further boost performance and positively impact asset optimization projects in 2025.
On the biogas side, the team has been focused on securing new feedstock contracts for both the Elmira (Ontario) and Lethbridge (Alberta) plants. We are expecting to see an increase in tonnes of organic waste processed at both facilities in late 2024 and into 2025 as these contracts start to come online.
Looking at Lethbridge with the depackaging line capex (capital expenditure) projects that took place in Q2 of this year, we are expecting to see the fruits of our labour in 2025 with tonnages and revenues above our initial projections.
Also on the biogas side of the portfolio, the team continues to progress its renewable natural gas expansion project in Elmira and lobby the government to expand the investment tax credit to include biogas projects. If successful, we can expect to see 20% to 30% in savings on the Elmira project and future projects. We will keep investors updated on any policy changes.
With this, let’s examine how our Skyline group of funds have returned on a 1-year and 10-year basis compared to different asset classes and inflation.
As at end of Q3 2024, the trailing 12-month, 1-year returns:
- Skyline Apartment REIT, Class A: 6.83%.
- Skyline Industrial REIT, Class A: 6.6%.
- Skyline Retail REIT, Class A: 6.6%.
- Skyline Clean Energy Fund, Class A: 10.02%.
- Canadian Public REITs: 23.81%.
- Canadian bonds: 9.52%.
- Canadian equities: 22.82%.
- Inflation: 2.72%.
Now, looking at our 10-year annualized returns for Class A:
- Skyline Apartment REIT: 14.2%.
- Skyline Industrial REIT: 16.3%.
- Skyline Retail REIT: 12.35%.
- Skyline Clean Energy Fund: 8.93%.
- Canadian Public REITs: 7.71%.
- Canadian bonds: 2.1%.
- Canadian equities: 8.66%.
- Inflation: 2.56%.
As we approach celebrating 26 years in business, we’re as committed as ever to delivering strong yield and unit value growth for our investors while also creating first-class spaces and services for our tenants. We’re equally proud of our tradition of community stewardship, actively working to support the well-being, sustainability, and affordability of the communities we serve. The commitment to our values continues to serve us well, no matter the market conditions or challenges that come our way.
Thank you again for joining us today. We look forward to providing continuous and timely updates in the future.