Today Melcor REIT (MR.UN), a 55% majority controlled subsidiary of Melcor Developments (MRD) announced a cessation of dividends and a strategic review. We’ve been anticipating this for some time - the REIT has been hit by a double whammy of surging interest costs hitting it’s line of credit and an office portfolio that has been suffering for some time but whose fundamentals are bottoming as large amounts of excess office inventory are repurposed for residential and office leasing ticks up. The core of the REIT representing 60% of NOI however is community (often grocery) anchored retail that has been highly resilient and has performed well, deriving synergies from the Melcor residential communities that that often surrounds it. These fundamentals did not lead to the dividend cut however.
The REIT has an established and diversified portfolio in western Canada. We own 38 income-producing office, retail and industrial properties representing 3.15 million square feet (sf) in gross leasable area (GLA). These high-quality properties feature stable occupancy and a diversified mix of tenants.
Retail properties continue to anchor our portfolio, and have seen slight improvements in both occupancy and WABR compared to last year. Retail represents 44% of our total GLA as at September 30, 2023 and 60% of net rental income for the nine months ended September 30, 2023. Our office properties continue to navigate downward pressure on rental rates and an increase in supply in some of our key geographic areas, specifically our Edmonton office properties which have seen an increase in new development of office space in recent years.
The first major problem is $35m on the revolving credit facility that was used to pay off a fixed-rate debenture series in 2022. The rate today is clearly higher than the maturing debentures, hurting cash flow. The second and much larger problem however is the $45m debentures 5.1% series B maturing in Dec 2024 which has gone current as the calendar rolled into 2024, resulting in a very difficult liquidity situation for the REIT which had been comfortably paying out most, but not all, of it’s distributable income.
The problem here is not with any deterioration in REIT’s fundamentals - the payout ratio is uncomfortable but not unsustainable, but rather with the refinancing needs of the REIT hitting all at once in 2024. The fundamentals of the REIT have arguably bottomed and will improve - rates will come down and occupancy and leasing are going up, but not fast enough to make refinancing in 2024 a done deal.
The Opportunity and The End Game…
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