CIBC commentsOur Conclusion
Operational results will be overshadowed by the suspension of the distribution, following the ~50% reduction earlier this year. While we acknowledge that the operating and financing environment for TNT is challenged, as reflected in higher leasing costs and limited up-financing opportunities, the decision to allocate capital to buybacks is at odds with peers’ capital preservation and deleveraging approaches. We expect investor sentiment to moderate further. Concurrent with Q3/23, we are increasing our cap rate to 7.5% based on industry class B cap rates, and lowering our NAV to $2.00. Accordingly, we decrease our price target to $1.40 (prior $2.25), after applying a 30% discount to our forward NAV estimate. TNT remains Neutral rated. We are also introducing our 2025 estimates.
Key Points
Suspends Distribution: TNT announced the suspension of distributions alongside a 5.75:1 unit consolidation, effective Nov 22, 2023. The strategy involves the reallocation of substantially all distributions to purchasing the maximum number of units available under the NCIB (~8.2MM). TNT intends to revisit the reallocation in ~6 months and reinstate a more sustainable distribution.
The decision to focus on buybacks is surprising given D/GBV remains elevated at 61.4%, compared to peers’ ~49%.
Q3/23 Results: TNT reported an in-line Q3/23 as headline FFO of $0.11 and AFFO of $0.11 met our estimates as well as similar consensus and decreased $0.04 Y/Y. However, excluding non-recurring termination fees, diluted FFO and AFFO were lower by $0.02 and $0.03, respectively. Headline SP-NOI (excluding investment properties held for sale) decreased ~9%, although after adjusting for termination fees SP-NOI decreased 1.6%. Management noted that the decrease in total NOI was partially offset by termination income received in Q3/23 from a tenant that downsized. Occupancy (excluding investments held for sale), on a sequential basis, remained flat at 93%, and was down 200 bps Y/Y. The REIT took an impairment charge of $50.1MM ($68.4MM YTD), citing moderated leasing assumptions and increased cap rates on certain properties.
Balance Sheet: Debt to GBV was 61.4%, up 300 bps Y/Y; the interest coverage ratio was ~2.43x (compared to 3.1x in Q3/22). Mortgages have a 4.03% weighted-average interest rate (an increase of ~57 bps Y/Y) and a 2.99-year weighted-average term to maturity. Liquidity as of Q3/23 was ~$48MM (~$6MM cash and ~$42MM undrawn on its credit facility).
Beyond The Headlines
Debt Rolls: TNT has ~$145MM of debt maturing through to 2024 (at a weighted average interest rate of ~6.1%), accounting for ~18% of total debt. Given the higher rate at which the debt is rolling, we do not believe this poses a material headwind, given the most recent refinancings were executed at a ~6% rate. The REIT has an additional ~$197MM of debt maturing in 2025 at a weighted-average interest rate of ~3.14%. If the market were to play out as most economists expect, then TNT stands to benefit from a decrease in rates by 2025, minimizing any material refinancing risks.
Leasing Activity: During Q3/23, TNT executed ~87K sq. ft. of leases, of which ~39K sq. ft. were new leases at a 9.0 year WALT, while the remaining ~48K sq. ft. were renewals/ replacements at a 6.6-year WALT with a 1.5% spread over expiring rental rates. The renewals included 5-year extensions from tenants in Ontario and New Brunswick, as well as a 10-year renewal on 18k sq. ft. in the GTA. While TNT does not directly disclose net effective rents, the ~53% Y/Y increase (and ~41% on a YTD basis) in the amortization of leasing costs and tenant inducements would lead us to infer that while the spread on renewal is positive (and the WALTs achieved are higher than expected), the NERs may not paint the same picture (which given the current backdrop of deteriorating fundamentals and what we have seen from the REIT’s peers is indeed expected).
Valuation: TNT units are down ~80% YTD (vs. the XRE down ~10%) and are trading at a ~44% discount to consensus NAV (vs. the historical average of parity). The REIT currently trades at a forward consensus P/FFO multiple of 2.5x, compared to the pre-pandemic average of 9.8x.