Thank you for standing by. This is the Chorus Call conference operator. Welcome to the Brookfield Property Partners LP 2014 Second Quarter Earnings Conference Call and Webcast. As a reminder, all participants are in listen-only mode, and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. (Operator Instructions)
At this time, I would like to turn the conference over to Matthew Cherry, Vice President, Investor Relations and Communications for Brookfield Property Partners. Please go ahead.
Matthew Cherry – Vice President, Investor Relations and Communications
Good afternoon. Before we begin our presentation, let me caution you that our discussion will include forward-looking statements. These statements that relate to future results and results are based on our current expectations. Our actual results in future periods may differ materially from those currently expected because of a number of risks, uncertainties and assumptions. The risks, uncertainties and assumptions that we believe are material are outlined in our news release issued this morning.
With that, I’ll turn the call over to Chief Executive Officer, Ric Clark.
Ric Clark – Chief Executive Officer
Thank you, Matt, and good afternoon to everyone on the call. Thank you for joining our second quarter earnings call. With me are John Stinebaugh, our Chief Financial Officer; and Brian Kingston, President and Chief Investment Officer of BPY. Old news to most by now, but for new followers of Brookfield Property Partners in early June, we completed our merger with Brookfield Office Properties, firmly establishing BPY as the leading global owner and operator of high quality real-estate. The second quarter was the first that reflects the performance of our combined companies and for those investors and analysts who used to follow BPO and are joining us as a result of this transaction, we welcome your participation on our call and appreciate your continued interest and support.
I’d start the call by saying, we’re excited about the prospects and opportunities we are seeing in the global real-estate markets right now. Given the scale and scope of our portfolio, we have many levers at our disposal that we can pull to drive future growth. In addition to originating new opportunistic investments, our global operating platforms continue to work to create value within our owned assets by capitalizing on improved market conditions and by advancing our substantial pipeline of office, retail multifamily, and industrial development and redevelopment projects currently underway in high value markets.
Over the last several quarter, we have seen signs within all of our property sectors that Businesses have begun to shift their focus from cost cutting initiatives to do Business development and expansion. For example, within our office division, leasing of office space and gateway markets such as New York City and London has gained considerable momentum and we’re beginning to see increasing levels of space absorption in these markets. Our retail properties continue to perform well particularly in high end malls well-located urban street retail. There is acceleration and demand across market for industrial space and occupancy levels and demand remain high in the multifamily sector as well.
At the same time, investment activity and asset valuations in the most dynamic real-estate markets are at or above level. We haven’t seen since 2007. As a proxy for fixed income, institutional investors are targeting best-in-class low-risk property investments such as those that we owned causing property values to a lift replacement cost in many markets. BPY has been capitalizing on these dynamics in multiple ways. For example, at Brookfield Place New York, we signed 2.7 million square feet of leases within the last 12 months, increasing the leased portion of the complex from 59% to 88% in the process.
In addition, we’ve signed leases for 50% of the nearly 240,000 square feet of supporting retail space that we have been redeveloping and have leases out for signature for another 40%. With these leases completed, we expect to generate an incremental $115 million of annual NOI by 2016. Only fully leased, we’re projecting Brookfield Place New York to more than fully replace the $116 million of NOI that was lost upon the expiry of the Merrill Lynch lease. I know many of you had concerns about the future of lower Manhattan and how Brookfield Place might fair bear going forward based on our recent performance and the unabated and healthy leasing demand that we are experiencing and the strong investor interest in this market, our excitement over the past years is starting to look a bit conservative.
We’ve also been capitalizing on current market dynamics by tapping into investment demand, selling mature and non-strategic assets, using the proceeds for more accretive investments or to pay down debt. We expanded a significant amount of effort during the economic downturn entitling in readying our development projects for launch. In the process, we have been able to execute over 2 million square feet of pre-leased commitments, paving the way for us to commence approximately $5 billion of active development or redevelopment project that will come online in the 2016 to 2018 timeframe.
Staying ahead of the pack when it comes to development is important and we wanted to be in a position to be a first mover on our projects. We believe we have been able to achieve this. Upon stabilization, these projects are projected to generate incremental NOI for the company of approximately $375 million, yielding an initial return on cost of 7.5% in generating considerable additional value for unit holders.
John Stinebaugh – Chief Financial Officer
Thanks, Ric. As a reminder, my remarks will focus on fully diluted FFO, which is equal to FFO inclusive of the contribution from our GGP warrants assuming their net settle. In addition, I’ll discuss pro forma results for all period to prior to the spin-off of BPY in April of last year. For the quarter, we reported strong results, the fully diluted FFO of $217 million or $0.32 per unit versus a $129 million or $0.028 per unit in 2013. The significant increase in fully diluted FFO was primarily due to the completion of our merger with Brookfield Office Properties which closed in June and our incremental investment in GGP in November of last year.
We also realized a gain on a debt investment partially offset by transaction cost associated with the BPO merger and other non-recurring expenses. Net income to unit holders was $892 million versus $277 million in the prior year, as we benefited from greater fair value gains this year in addition to the sizable investment that we made in the last 12 months, $715 million of the fair value gains were attributable to stronger offer markets in U.S. most notably in New York, Los Angeles and Houston, the continued success of our office and retail leasing at Brookfield Place New York and leasing momentum at Five Manhattan West had significantly higher rates in originally anticipated as Ric will discuss later.
In addition, our retail operations reported $175 million of fair value gains that were primarily due to depreciation of our investment in GGP warrants and stronger market conditions. Turning to our segments, our office platform generated fully diluted FFO of $170 million in the first quarter compared with $89 million in 2013. The largest contributors to the positive variance were our increased ownership of BPO to an average of 94% in the current period versus 49% in the prior year and the realized gain on our debt investment in Colonial.
Beginning in the fourth quarter of last year, we invested $320 million in debt of this Spanish office company at a 12% discount to face value. With institutional partners, our strategy was to lead a recapitalization whereby we would convert our debt into a significant equity stake in this highly leveraged company. As a result of a significant influx of risk capital to Southern Europe since the beginning of the year, valuations increased to levels at which we did not think we would be able to earn our targeted return.
Upon the close of a recapitalization by competing consortium, our par plus accrued interest was repaid triggering a gain of $43 million. During the quarter, our retail platform generates fully diluted FFO of $112 million compared with $67 million in the prior year. The majority of this increase was a result of our increased ownership in GGP which now stands at 33% on a fully diluted basis compared to 24% a year ago. The balance of the increase is attributable to our retail platforms’ same-store NOI growth of 5.2% driven by an increase in same-store occupancy from 94.7% to 95.2% in the current year and suite-to-suite spreads on new leases of over 14%.
Our industrial segment generates fully diluted FFO of $3 million for the quarter which compares to negative $1 million in the prior year as a result of the acquisitions of Gazeley and IDI in the second and fourth quarters of 2013 respectively. Our multi-family and hotel segment earned fully diluted FFO of $18 million for the quarter compared to $14 million in the prior year. The acquisition of 7,000 multi-family units over the last 12 months was the largest contributor to the increase.
During the quarter, we successfully completed the refinancing of $2.2 billion of debt at the Atlantis, which was the largest near-term maturity in our debt portfolio. We issued $1.75 billion of CMBS debt. The balance of the existing debt was repaid with proceeds from the sale of one of Atlantis non-core assets in an equity investment.
Turning to our consolidated balance sheet, our investment properties are valued at $36.5 billion at June 30, which is a 7% increase compared to the six months prior. The increase is primarily attributable to the previously mentioned valuation gains as well as capital spend on our assets. Compared to year end, equity kind of investments were essentially flat. We finished the quarter with a debt balance of $23.6 billion and partnership capital of $18.3 billion, both of which increased mainly due to the merger with BPO. Our consolidated debt to capitalization was 48.9% at period end and our partnership capital increased from 25.23 at the end of last year to 25.69 on a per unit basis as a result of the net income earned during the first six months of 2014 offset by modest dilution from the BPO transaction.
During the quarter, we were very active from a treasury standpoint executing $2.8 billion of refinancing with an average interest rate of 4.63% and average term of five years. Due to the appreciation in value of our properties, we were able to repatriate $431 million of capital while maintaining our leverage metrics. In addition, we closed the sale of 14 assets during the quarter yielding net proceeds of $610 million. We closed the quarter with corporate liquidity of $1.4 billion.
And now I’ll turn the call back over to Ric.
Ric Clark – Chief Executive Officer
Thank you, John. Moving to a review of our sector operations, within our office division in the last six months, we’ve made substantial headway leasing space, particularly in downtown Manhattan. Globally, we leased 2.6 million square feet in Q2 of which, $1.1 million square feet was downtown. More specifically, one of our most successful projects recently has been Brookfield Place New York. In June, we commissioned the first phase of our retail redevelopment project, the Hudson Eats food hall, which opened to great media attention or high volume of foot traffic and very strong sales per foot. The entire project will be completed by the summer of 2015 and our lineup of retailers is first class.
Also at Brookfield Place New York, we’ve recently announced the execution of three sizable office leases for headquarter space, one for 700,000 square feet with Time Inc. the second for 350,000 square feet with the Bank of New York Mellon, and a third post end of the quarter with Jane Street Capital for $117,000 square feet. Advanced lease negotiations with additional tenants are also underway and we are targeting to move year end occupancy to an excess of 90% at the complex. For those that have participated in the BPO call historically, we’ve reached a sort of end of the year with regards to the commentary about backfilling the Merrill Lynch space.
Essentially at this point we are near complete with the more diverse tenant base who will soon be occupying what is a vibrant multi-faceted urban destination. With the resurgence of demand for office space in New York City, we’re making significant progress on our Manhattan West development project as well. The platform that we have been building high above the rail tracks is now 50% complete and is on target to be fully constructed by this October just a couple of short months away.
We are in essence creating five acres of new land with 5 million square feet of buildable density in the heart of Manhattan’s emerging Westside Hudson Yards precinct. In 2011, we acquired 450 West, 33rd Street, which is a 16 storey, 1.8 million square foot office building situated adjacent to Manhattan West. We’ve commenced the $200 million redevelopment and repositioning program to replace the existing facade with a modern glass exterior.
With this repositioning, we’ve re-branded the building as Five Manhattan West incorporating it into the large scale master plan project. With floor plates at average of 100,000 square feet and 14 foot ceiling heights, this building is an excellent position to accommodate the growing demand for media and technology companies seeking office space outside of the traditional midtown and financial services sector office quarters.
At this building, we’re currently working on several sizable leases and without commenting specifically on rental rates, we’d note that the rates that we are discussing far exceed our original underwriting upon acquiring the building three years ago. We are also in significant discussions with a few promising prospects for the first of two 2.1 million square foot office towers planned for Manhattan West, which could accelerate the active development of this project into next year should we be successful.
The debt markets for well leased core office products remained very robust and during the quarter, we completed a large office refinancing closing on a $900 million debt facility at the Grace Building in Midtown Manhattan, repatriating approximately $560 million of capital in the process. Without going into the weeds on our other U.S. office markets fundamentals in our larger markets such as Houston and LA remained strong and we’re even seeing some positive signs in Washington DC.
Two important leases were executed during the quarter. One was a 123,000 square feet lease with memorial resource development at One Allen Center in Houston and the second was a 112,000 square foot lease with Deloitte at Gas Company Tower in Los Angeles. As some of you may recall, the Gas Company Tower is a legacy MPG building and traditionally represented one of its largest leasing challenges. However, we’re seeing great opportunity at that building given where it is situated in the LA market and the capital program that we’ve commissioned.
Similar to New York, the London office market is strengthened with increased demand and improving fundamentals. We’ve recently launched our 500,000 square foot London Wall development after executing a lease for 60% of the project. Additionally, interest levels for our two other London office development projects, namely Principal Place and 100 Bishopsgate are strong and we hope to be in a position to sign anchor leases shortly to substantially prelease these projects so that we can commence active development, hopefully more on one or both of these projects on next quarter’s call.
Institutional demand remains strong for well located, well leased, high quality office product in London as evidenced by our announced sale of 125, Old Broad Street subsequent to the quarter end. Although, this transaction is not closed yet, we should realize a healthy net gain of approximately £50 million during a relatively short investment hold, another good example of our capital recycling strategy of selling core de-risked office assets at low cap rates and using the proceeds to fund more accretive opportunities or to pay down debt.
We have a sizable investment in Canary Wharf in London which has performed very well for many years. At Canary Wharf, which has a concentrated holding of office retail and development components, we’ve experienced results similar to the balance of our other operations elsewhere. Recently at this project 3,900 apartment units and 2 million square feet of office in associated retail space were approved for development. This will substantially expand the development pipeline at Canary Wharf and with the strong residential market in London, the positive track record of value creation coming from our 22% ownership position in this entity should continue with promise.
The Canadian office market for the quarter remained somewhat uneven amid softer demand and anticipated new supply that will be added to the inventory over the next three years. That said, our portfolio remains well leased at 94.5% with an average remaining lease term of over eight years. In Canada, we have two major development projects underway, which are rapidly progressing and stand at strong pre-let levels. We will soon be adding two more top-line office assets to already an industry-leading Canadian office portfolio. Bay Adelaide Center East in Toronto is targeted for completion in late 2015 and the first phase of our Brookfield Place Calgary project is slated for completion in 2017.
Similarly to Canada, the Australian market has been somewhat stagnant of late, but our portfolio remains well leased at 97.7% and during the second quarter, we saw tempered improvement in fundamentals. For example, in Sydney net absorption has been positive for the last two quarters and overall market vacancy dipped below the 10% mark. In Australia in Q2, we raised net proceeds of $335 million through property level financings there. Over the past several years, we have invested considerable time exploring developing markets and in mid June along with institutional partners, we executed definitive agreements to invest approximately $346 million, a $109 million at Brookfield Property Partners, 30% share to acquire an Indian office park portfolio from Unitech marking our first significant investment in India.
The portfolio of six office parks consists of 8 million square feet of completed office buildings which are currently 73% lease and a further 8.8 million square feet of development, of which 5.8 million square feet is currently under construction and 55% pre-leased to a number of high quality international Brookfield quality type of tenants. Due to our ability to manage a complex recapitalization transaction, we believe that we negotiated a price that reflects good value for very good quality real-estate.
We anticipate closing the transaction in September following regulatory approval. So just moving on to other sectors, in the retail sector like office, our global retail operations had a strong quarter particularly within our high end – higher end product. Overall, 9.5 million square feet of lease – retail leasing was completed across our platform bringing total occupancy to 95.2%, up 50 basis points from a year ago. At the same time, same-store NOI in FFO within a retail holdings increased 5.2% in 25% respectively for the quarter. Average rent spread pickups in same-store tenant sales also continue the positive trend.
As many of you may have heard from their announced results last week, general growth properties has continued to maintain strong momentum and reported solid financial and operational results. Same-store NOI increased 5%, initial suite-to-suite spreads increased 14% against the expiring leases and overall tenant sales increased 3.1% on a trailing 12-month basis. Same-store occupancy in the GGP portfolio is increased 60 basis points over the past year to 96.5% currently.
GGP continues its foray into urban street retail committing to three recent deals in New York City with a combined equity investment of approximately $450 million. In total, GGP has completed or committed to six street retail acquisitions in New York City, Chicago and San Francisco since undertaking this initiative about a year ago. The recently acquired street retail properties are located in submarkets catering to high-end luxury retailers willing to pay a branding premium for these locations.
With the premier locations, we expect these investments to generate same-store – strong same-store growth going forward and we are enthused about the team’s strategy of recycling capital into these premier quality assets to augment their fortress mall holdings. On Monday, Ralph properties likewise announced strong results. For the quarter, initial rent spreads were up 7.7% of prior leases and total average rental rates for new and renewal leases rose 12.4% on a suite-to-suite basis.
During the quarter, our retail platform continues to progress its redevelopment program led by GGP with a robust pipeline of approximately $2.2 billion of projects currently underway. The largest of these projects is the expansion of the Ala Moana mall in Honolulu. Currently, approximately 75% of the total expansion space has been leased, which is ahead of internal expectations. The $573 million first phase of this redevelopment is scheduled to be completed in late 2015.
Ralph is likewise moving forward with its redevelopment program. In some cases, de-malling properties with different used profiles can make the assets more profitable. Highlights of our other sectors starting with industrial, operationally we executed 2.1 square feet of leasing during the quarter, increasing occupancy to 88.4%. Assuming the additional 3.4 million square feet of fully negotiated leases that are out for signature are completed, occupancy within this portfolio will grow to 92% in the near-term. Demand for industrial spaces I mentioned earlier remains high across major and secondary markets and we’re well-positioned to tap into the demand given our high quality holdings within our IDI, Gazeley Industrial platform.
Occupancy of multi-family properties closed the quarter at 93.5% while in-place rents have trended upward approximately 2% quarter-over-over. We’re continuing to create value within our 22,000 unit apartment holdings by executing our renovation program returns unlevered returns of 20% through rent increases. In 2014, we plan to refurbish approximately 2,000 of these units. In July, we executed definitive agreements to acquire a 4,000 unit multi-family portfolio located in Manhattan had a very attractive evaluation relative to replacement cost.
Each of the assets in this portfolio is positioned to benefit from unique growth characteristics within its local submarket. With our institutional partners, we will invest $350 million in this transaction, a little over a 100 million of BPY share which is expected to close in September. Given our success within the multi-family sector and the synergy with our central business district office holdings, we are expanding our focus within the apartment space to some of the major urban markets, but we have a sizable presence.
To that end, we are excited about our plans to launch construction of an 850 unit Multi-family Tower at our Manhattan West development late this year, high quality, well located apartment buildings in Manhattan such as the one we are building command top institutional demand and have recently been trading for 3% cap rates or less. Additionally with a 50% partner, we are also advancing to development of our first condo project in London’s Shoreditch area at Principal Place.
This project will have approximately 250 high end condos for sale. The project will cost a little bit over £300 million, a 138 million of that share and it’s slated for completion in Q1 of 2018. The sales process for those condos should begin in September of this year. There is not much this quarter to report within our hotel sector holdings, other than I might say that the Atlantis Hotel continues to perform very strongly and given the health of the capital markets we are able to complete a refinancing of that property at attractive terms.
BPY has an effective 33% ownership interest in Atlantis. During the quarter, we did execute definitive agreements to acquire two additional hotels in U.S. with $78 million of net equity to BPY. So, ramping up to get the questions looking for, I’d say the positive trends that we’re experiencing within our primary markets are consistent with the prevailing projections of many economists. Most are calling for modest re-accelerating global GDP growth throughout 2014 and 2015 led by the United States and United Kingdom.
The Eurozone is no longer expected to be a drag on global growth while developing country such as China, India, and Brazil are expected to experience uneven growth and volatility as their economies periodically address issues that often result in pullback in credit and liquidity such as inflation. In this environment, we believe that Brookfield Property Partners is well-positioned to perform. As our existing portfolio is weighted towards the higher growth developed economies, if current trends continue we should benefit materially from strong rent inflation capturing substantial increases in cash flow as we roll over below market leases and lease up vacant space.
With a well located and title development portfolio, which we spend a bit of time talking about Today, we are also in a great position to build high quality office, industrial, and multi-family properties in constrained markets. And from time-to-time may choose to recycle capital by tapping into the strong institutional demand for such assets. As always, we will continue to leverage our operating capabilities adding value to our existing assets by focusing on leasing expansions, redevelopments, and other initiatives.
Our pipeline of new investment opportunities that we are pursuing in both developed and developing markets is very robust. Brian can touch on this further during the QA if anyone is interested in more color. There continues to be a substantial amount of capital looking to invest in four core plus assets in North America and Europe pushing cap rates lower and evaluation is higher. In these markets, we’re pursuing add-on acquisitions where we can add value to our office and industrial platforms are using our relationship in restructuring expertise to capitalize on larger attractive mispriced opportunities. As mentioned earlier, over the past few quarters we’ve been active in markets such as China, India, and Brazil where we’re seeing opportunities for some of the best risk adjusted returns right now.
Few organizations can act on these opportunities with confidence, but given our global operations and presence in these markets, we have the ability to shift capital to where we see great value for the benefit of our unit holders. The final point that I’d like to make prior to turning the call over to your questions is regarding investor outreach which we’ve touched on a bit during last quarter’s call. BPY is a unique public vehicle with its global and diversified composition. Accordingly, we know we have to spend the appropriate amount of time working with investors and analysts to ensure they fully understand our strategy, business plan and overall approach to real-estate investing. As many of you know first-hand, we’ve doing quite a bit of investor outreach lately and we’ll continue to do so going forward. We, in the meantime, appreciate any and all feedbacks from the investment community and anything we can do to help facilitate this process, please feel free to get in touch with us.
Operator, with those as our comments, we’d be happy to turn the call over to questions from investors and analysts.