Watch the Retail REIT – Fund President Q4 2023 Update
Transcript
Ray Punn: [00:00:55]
I’m pleased to provide you with Skyline Retail REIT’s update for quarter four 2023. Joining me here today is Gord Driedger and Craig Leslie. Thank you both for joining me today.
Gordon Driedger: [00:01:04]
Pleasure.
Ray Punn: [00:01:05]
Let’s get right into it. Can you walk our investors through the Retail REIT’s summary for quarter four?
Gordon Driedger: [00:01:10]
I just wanted to take a minute to introduce Craig Leslie. He’s a new face to some of you. Some of you may have met him already. Craig heads up our asset management team for the REIT. Um, all aspects of the REIT really have have been working with Craig almost for a year now. So welcome Craig to this video. And um, so why don’t you take us through the quarter.
Craig Leslie: [00:01:33]
Yeah, sure. Okay. So the Q4 results, they continued in a similar positive vein to the previous three. It’s worthwhile, I think, going into why that is and what we’re expecting from the new year ahead of us. With hopefully a mild downturn anticipated, we expect consumers to be increasingly pragmatic in their spending. Big ticket discretionary items are off the table, and wallets are really going to be opened primarily for the essentials. In other words, exactly the type of environment our retailers will thrive in.
Gordon Driedger: [00:02:08]
We’ve covered this a number of times, but less than 2% of our portfolio is made up of what we call discretionary goods. So that’s fashion. That’s shoes. Things that people don’t necessarily need to buy on a daily basis. And so the vast majority of our income is based on the essentials. And that’s really put us in a good, uh, good stead for the types of assets that we own.
Craig Leslie: [00:02:31]
Another hugely important factor to consider here is the historically high immigration in the country, seeing at the moment, and it has an impact on our retailers. Immigration acts as a buffer to reduce household spending, which we’re expecting to see this year, by expanding the consumer base. In effect, while individually, people may be spending less, in aggregate because there’s more people, there’s more people buying those services and needing essential retail.
Gordon Driedger: [00:03:02]
I think what’s interesting about the last few months, and certainly everybody understands that we’re achieving record levels of immigration. What the federal government has begun to realize is that we can’t necessarily and maybe should not necessarily bring all those newcomers to Canada to Canada’s largest markets. So they’ve begun programs to kind of disseminate those newcomers to different markets, smaller markets, and these are the kind of markets that we’ve been really specializing in since the inception of the REIT.
Craig Leslie: [00:03:36]
I guess going back to that slowdown in spending as well for a moment. It’s also worth noting, I think, that approximately half of that slowdown in spending we saw towards the tail end of last year, I think the banks, I think CIBC’s research attributed half of that to people actually increasing their savings rate. So it’s not being spent, but it’s being saved. And what it’s being saved for is the essentials, which is only going to benefit our retailers.
Craig Leslie: [00:04:01]
So while there may be a reduction in both consumer confidence and household spending this year, essential retail has always proven to be resilient in this type of economic climate, given its nature is just that, its essential retail.
Ray Punn: [00:04:14]
So what does this mean for our assets specifically?
Craig Leslie: [00:04:17]
Well, although transactional volumes are down, essential retail appears to be fairly priced at the moment. Our independently appraised values have remained stable over 2023, a situation supported by the limited dispositions we’ve undertaken this year where the achieved pricing has generally reflected our appraised value.
Craig Leslie: [00:04:39]
Another concern, I guess that’s been top of mind for everyone in recent years is inflation. Although inflation rates hikes have been successful, I think in bringing this down, it remains, inflation remains, higher than target. What does this mean for our net operating income? In essence, not much. We have net leases with all of our tenants. So when operating costs go up, that doesn’t erode our value. That doesn’t erode our revenue. It, what it does is just we pass those costs directly onto the tenant. And as ever, it’s real estate really does act as a hedge against inflation.
Gordon Driedger: [00:05:19]
We, along with our partners, the commercial management, the property management folks within Skyline work very hard to minimize the extent of and the inflation associated with controllable costs. We’re talking about snow clearing and other things that matter to the tenant. Yes, we are able to pass those those costs onto the tenants but we work very hard to minimize them. And I think on average those costs are at or below the inflation rate. So there, you know, we’re working very hard to minimize those costs to our tenants.
Gordon Driedger: [00:05:54]
So just on the interest rate point, as we know, we tend to like to ladder our mortgage renewals, you know, no more than 20% a year. And in 2024, we actually have substantially less than that coming due for renewal. And it’s something less than 10%. And that is a, that’s a very good position to be in because rates are still relatively high. We’re expecting them to moderate, expecting them to come down. And as we, as the year progresses, with relatively few mortgage renewals, we’ll be in a really good position for 2025 and beyond to take advantage of what we believe to be lower interest rates in those years.
Ray Punn: [00:06:35]
Thanks for sharing that. Craig, can you speak a little bit on the leasing side?
Craig Leslie: [00:06:39]
Sure. Yeah, mostly good news, to be honest. Demand for space pretty much uniformly remains strong in the face of low vacancy across the country. In terms of vacancy rates, we’ve seen overall essential retail vacancy in recent years has actually fallen substantially, sitting around about 4% now, just over.
Craig Leslie: [00:07:03]
Something I’d like to highlight, I think really in terms of Skyline is, while that’s the general rate for assets such as ours, Skyline at the moment is sitting at a vacancy rate, when you include the committed retail, so new deals that haven’t taken occupation yet, we’re actually sitting at a vacancy rate of 1.3%, which really does, I think it bears comparison with the very best in the industry. We anticipate this situation continuing as subdued development continues.
Craig Leslie: [00:07:37]
So there’s no new supply coming onto the market. Generally because of elevated construction costs. There’s some, supply demand imbalance is perfectly illustrated in both tenant retention rates and our rental growth, the latter of which we’ve seen substantial increases over the last 12 months. Our average increase across the whole of 2023, at least renewal, was 8%. We’re expecting that in 2024 to tick up another couple of percentage points to round about 10%. It really does represent excellent rental growth given retail tenants, generally they sign longer term deals, often with increases through the term, this should really translate into strong, stable growth over the long term.
Gordon Driedger: [00:08:26]
I just want to go back to the development piece. We’ve talked about it in prior quarters. A lot of the development that we’ve undertaken is now coming on online, in other words, tenants are taking possession and either have opened or will be opening in this quarter. High-quality income from really good tenants, you know, the LCBO, the Rexall, Starbucks, relatively low risk in the sense that these developments are fully leased before commencing construction. Fully costed, so we’re not building on spec. And it’s another way for us to grow income on our existing properties.
Gordon Driedger: [00:09:08]
In addition to rental growth from existing tenants, we’re adding high-quality revenue stream from development and we never make commitments on those until such time as they are fully leased and fully costed. So, you know, in the scheme of development, you know, development is very high cost these days, construction costs have come off a little bit but still quite high, these are relatively low-risk investments because we know our revenue stream and our cost going into the development.
Ray Punn: [00:09:41]
Thank you both. So let’s close this out. Let’s look at 2024 and moving forward. What does that look like?
Craig Leslie: [00:09:46]
I think, I guess firstly it’s important to understand that not all retail is created equal. Distinction should be made between the headlines and the news of the failing retailers you see, and the type of essential retailers that are occupying our assets. Those retailers that have been failing are just simply not in our portfolio to any significant degree just purely because they’re not essential.
Craig Leslie: [00:10:10]
Otherwise, I think demand is strong for space. Vacancy is low. With the demand-supply imbalance, it’s resulting in strong rental growth. Essential retail is going to be insulated from reduced consumer confidence as households first turn off the taps on discretionary spending. With continued high immigration, creating a larger consumer base that’s going to further expand the need for essential retail.
Craig Leslie: [00:10:36]
Demographic trends are also reflecting an increasing willingness to move away from the major urban centers. Post-pandemic, people are looking for smaller markets with improved housing affordability, reduced commute times, and sometimes a perceived better quality of life. We have many assets in such smaller markets where suburban essential retail is thriving.
Craig Leslie: [00:10:59]
So I guess in summary, I think Skyline Retail REIT is in excellent shape to prime to take advantage of any future economic headwinds that we see given its focus on essential retail.
Ray Punn: [00:11:11]
Well, Gord and Craig, thank you for joining me today. Skyline Retail REIT is currently open for new investment. If you have any questions, please contact Skyline Wealth Management. Thank you for watching.