Kite Realty Group Trust (KRG) 2015 Q3 法說會逐字稿

Good day ladies and gentlemen and welcome to the Kite Realty Group Trust third-quarter 2015 earnings conference call.

(Operator Instructions)

As a reminder, today's call be recorded. I'd now like to turn the conference over to Maggie Kofkoff, Head of Investor Relations. Ma'am you may begin.

Thank you, and good morning everyone. Welcome to Kite Realty Group's third-quarter 2015 earnings call. Some of today's comments may contain forward looking statements that are based on assumptions, and are subject to inherent risk and uncertainties. Actual results may differ materially from these statements. For more information about the factors that can adversely affect the Company's results, please see our SEC filings, including our most recent 10-K.

Today's remarks may also include certain non-GAAP financial measures. Please refer to yesterday's earnings press release, available on our website for a reconciliation of these non-GAAP performance measures to our gap financial results.

On the call with me today from the Company are Chief Executive Officer, John Kite; Chief Operating Officer, Tom McGowan; and our Chief Financial Officer, Dan Sink. And now, I like to turn the call over to John.

Thanks, Maggie. Good morning everyone. Welcome to our third-quarter earnings call. And thanks for taking the time to join us today.

I'm very excited to share the successful efforts we've made this quarter. As the teams' outstanding momentum allowed us to post robust results across our business platform, and beat even our own expectations. Thanks to the hard work of the entire Kite team, we've elevated our operating performance, completed our acquisition guidance with portfolio enhancing properties, increased same-store NOI by over 3% with over 90% of our assets in the pool, and continued our redevelopment efforts, and further strengthened our investment-grade balance sheet.

Before we turn over to questions today, I'd like to highlight some of the key accomplishments from the quarter. First, we fully redeployed the proceeds from the 15 properties we sold by acquiring Chapel Hill Shopping Center in off-market transaction. Chapel Hill is a 200,000 square-foot grocery anchored power center, located in the Dallas-Fort Worth area and well-positioned among the population of 275,000 within a 5 mile radius. The center is anchored by an [Echee Bee's] Premier Central Market, which is one of the highest sales volumes in our portfolio. In addition to the upscale grocer, the shopping centers also anchored by the Container store and Cost Plus World Market. With this final acquisition, we've substantially upgraded our portfolio, with another five extremely high-quality assets while remaining a net seller of approximately $100 million in this low cap-rate environment. The recently acquired properties have an aggregate average base rent of nearly $20 per square foot and are located in our core markets that exhibit strong demographics with high growth potential. In comparison to the assets we sold, the acquisitions are surrounded by three times the density, with populations North of 250,000 and tenants that are supported by 45% higher household income figures of approximately $110,000.

Turning to operating income, we beat our internal and consensus estimates by generating FFO as adjusted of $0.51 per diluted share and reporting AFFO of $0.46 per diluted share. As we've said in the past, cash flow is king in our business. Since 2013, we've generated five times the amount of annual free cash flow. Today we are tracking to have approximately $50 million in free cash flow this year and intend on growing it by approximately 10% in 2016. The attractiveness of our $18 million of annual ground lease revenue was validated this quarter. We capitalized on the current environment, and demand for product, by opportunistically selling a bank [out lot] ground lease in the low 4[%] cap range with share-rated incremental liquidity. This high-quality revenue stream, with a broad buyer universe warrants a much higher value. Of the $18 million of ground rent, roughly half comes from grocers and national retailers. Including HEB, Fresh Market, Lowe's, Home Depot, Walmart, and Kohl's. The remaining 50% of the revenue is largely comprised of banks like the one we sold, and other national restaurants like Chipotle and Panera Bread.

From a leasing standpoint, we continue to target our goal of being 90% leased in our small shops. This quarter, we made substantial strides increasingly the shop-lease percentage by 130 basis points to 87.5%. Our team successfully negotiated and executed a record 107 leases this quarter. Comparable leases were executed at a blended cash rent spread of 13.1% which included 36.9% cash spread on new leases and 7.7% cash spread on renewals. Our strong cash renewal spreads are a testament to the demand for our product and our capital discipline, as we continue to spend less than $1 per square foot on these leases, tenant improvements, and renewals.

Of note, the inland assets outperformed the broader portfolio, generating a cash-renewal spread of 9.9% which underscores both the strength of these assets, and the teams' ability to generate meaningful value out of them. Examples of tenant signed during the quarter include national retailers such as DSW, Marshalls, Ross, Bye-Bye Baby and Ulta. As well as fast casual restaurants like Smash Burger and Noodles and Company. Our same-store pool now includes over 90% of our portfolio's assets and grew another 3.1% this quarter and 3.6%, excluding our redevelopment initiatives. As a reminder, our 16 asset redevelopment pipeline, includes 12 properties that remain in our operating portfolio.

The quarter same-store growth was mainly a result of efficient operations and rent growth with only 60 basis points of the 3.1% growth, coming from occupancy gains. We continue to prioritize our efficient operating platform, as evidenced by our 90% retail recovery ratio. Also, our cost initiatives improved during the quarter as our [and] line margin came in at 75%, and we managed our G&A to revenues to a lean 5.3%. Maintaining an industry-leading position in operating efficiencies remains a core objective as it enhances our competitive advantage, drives shareholder value, and importantly, creates additional cash flow.

Redevelopment remains a primary corporate strategy for us to grow NAV, and increase shareholder returns. We expect to maintain around $100 million in redevelopment projects over a rolling 18 month period. With that in mind, we can deploy a $50 million in free cash flow, referenced earlier, to largely fund this initiative and generate substantial returns on cash. The current redevelopment pipeline continues to progress and evolve. And we have visibility on approximately $120 million worth of redevelopment with average returns of between and 9% and 10%.

This quarter, we moved City Center and Beachwood out of the operating portfolio, as we accelerate our redevelopment objectives for each asset. The redevelopment in New York at City Center will consist of interior and exterior renovations to fully redevelop and reposition the asset. In addition to enhancing the merchandising mix, we are improving access and visibility to capitalize on street-level retail opportunities. We are in the late stages of development planning, and anticipate commencing construction in the first quarter of 2016. Our active development and redevelopment projects are 90% pre-leased or committed across the five assets. These projects are also 75% funded, but the majority of the NOI, nearly 70% has yet to come online.

Onto the balance sheet, we continue to execute on our strategy of maintaining a flexible and nimble balance sheet. Consistent with maintaining our unsecured balance sheet, we closed on our $250 million private placement, senior unsecured bond offering this quarter. The notes have a blended fixed rate of 4.41% for an average maturity of just under 10 years. Earlier this week, we announced the closing of a $200 million senior unsecured seven-year term loan. Similar to the private placement, the term loan includes a delayed draw feature, so we can closely align the proceeds with the intended use. These unsecured deals combined, will allow us to unencumber one of our largest assets, City Center and retire all of our 2016 securitized debt maturities in an accretive way as the maturities have an average cost of 5.9%. Once these transactions are completed, we will have only $100 million in secured type debt maturities through 2020.

Lastly, any remaining proceeds combined with our liquidity sources will be put towards redeeming our 8.25% preferred, which we plan to call on December this year. Our investment grade balance sheet is in one of the strongest positions ever. Our weighted average debt maturities are extended to 5 1/2 years. We've reduced floating-rate exposure to below 10%, and we've got approximately [$5000,000,000] in cash and liquidity.

The diversity of funding sources and dry powder we have, allows us to create shareholder value using capital arbitrage strategies like the ones described above. Furthermore we have the ability to continue the pace of our redevelopment pipeline, and enhance our portfolio's NAV. With that, we are updating our FFO as adjusted guidance for 2015 for the third time. $1.98 to $2.00. From our previous estimate of $1.95 to $2.00 per share. The bottom of our guidance range is now up $0.08 from our original forecast at the end of last year. We are maintaining our assumptions from last quarter, including same-store guidance of three to 3% to 3.5% for the year. However, we are tracking to the higher end of that range.

While driving strong operating results remains an important objectives, we also remain focused on delivering earnings and dividend growth. In the last three years, we've grown FFO per share, and the dividend by about approximately 30%. Split about evenly between the two, while reducing leverage three times to the current mid 6[%] range. In summary, we had an exceptional third-quarter with top-tier operating results and growth. We have a robust development and redevelopment pipeline and a strong balance sheet that enables us to execute. These objectives, combined with our dedicated team are the reason for our quarterly results and our longer-term operating track record.

As many of you know, we have recently commenced a shareholder outreach initiative. And as part of that, the team has met with many of you over the last six weeks. We value our investor relationships, both long-standing and newly created and have been pleased with the feedback thus far. And we appreciate your long-term support.

Thanks for joining us today, and thank everyone for being here. We look for to seeing many of you coming up soon. And operator we a ready for questions please.

Thank you.

(Operator Instructions)

Todd Thomas, KeyBanc Capital Markets.

Hi. Thanks, good morning. John, the stocks rebounded a bit from the summer months, but as you think about your business whether leasing, redevelopment, new investments. How's the stocks' volatility impacted your decision-making? If at all? Are there certain projects in the pipeline maybe that you would consider moving forward into the active pipelines? Either development or into the three R pipeline? If your equity cost of capital were lower?

Hey Todd.

Look, I think we are so focused on execution right now and operating results, that obviously when we look at where the stock is, I mean, the cost of equity is a factor in everything we do. We're fortunate, as we mentioned, that we're generating significant free cash flow. And that's why that's important to us. When you look at our redevelopment pipeline, when 50% of that is funded with free cash flow, it gives us a lot of other -- it gives us more flexibility. And also you've seen that we were a net seller this year of $100 million. So we think we've got adequate sources to fund internally what we're doing without materially changing our leverage metrics.

Of course, we wish that the stock price reflected our results little more. But we think that will happen. And we think that clearly, this was a big quarter because we were bringing online the inland assets that many people weren't sure what would happen with that. And we displayed pretty clearly that we drive NOI. That's what we do and we drive cash flow.

We were able to take those assets and grow them. As I pointed out, in fact we grew the renewal spreads higher in that portfolio than the balance. So, Todd we feel good about it. We feel good about the cash flow, it's growing every day. And these redevelopment products will get done. So, understand your thought and question. But fortunately, we have the ability to self-fund the majority of that.

Okay. And then looking at the development, and active redevelopment. So about $10.4 million of remaining NOI that's expected to come online from those five projects. Can you just walk through the timing of when that will come online? All of the products are expected to stabilize it looks like by the third and fourth quarters of 2016. But some of the NOI like at Parkside in particular, already coming online. I'm just curious if you could, help us understand the timing a little bit.

Sure Todd. I think one thing we tried to add to the supplemental this time, was more of a stabilization versuswhen the first tenant opens. I think that's important when you look at like [Kahali II] to Tamiami Crossing. Tamiami we are going to have almost all the tenants open pretty close to at the same time as were completing that large development. And on Holly Springs, we have DSW, Bed Bath, and the movie theater. The movie theater, I think opens up in the second quarter of 2016. Those other two tenants will be, obviously -- as the movie theater opens, there's some initial co-tenancy relative to when the movie -- the opening of the movie theater. So that's why we put the stabilization dates within the supplemental. So, I think Parkside too, we're about 57% of percent occupied again. That's the movie theater, Field & Stream, Golf Galaxy. And the shops are opening with some restaurants. So that's going to continue throughout, and that's why, as well we put the stabilization in there for that asset. So, hopefully, the supplemental will help guide more folks to when we're 85% to 90% leased.

So, basically what you're saying is that it won't be a lot of that in the first quarter. And most of it will come from the second to the fourth?

Todd, the only thing I would add is, all these projects, all five that you mentioned. Are really through any form of risk in terms of delivery. They're all far enough along through the entitlement, through the vertical construction phase, that we feel very good in terms of its completion and the timings tied to what Dan said.

Okay, so essentially the $10 million of NOI should be recognized by the end of 2016, on an annualized basis.

Yes.

I mean, if you were to run rate the fourth quarter yes.

Got it okay. That's helpful. And then you know just looking at your anchor expirations in 2016, there's also a few that are remaining in 2015. Any opportunities to get some of those back? Or have an opportunity to renew those at fair market value, or do they all have options?

I mean most of them have options, Todd. And we are already actually timing is a couple of those have already been renewed this quarter in the fourth quarter. So, we don't have any real issues there. And the majority of [them] would just be hitting options. As is typical with the anchors. I mean, we generally have more flexibility on the shop side. But, when you look at our retention rate this quarter was extremely high. I think it was around 90%. So we feel pretty good. But if you look at the rollover on anchors on terms of rent that's remaining in 2015. You can see it's well below our average so, you should assume that were getting some increases there just from the options. Same thing when you look at our shop roll-under is also below our average.

Okay great thank you.

Thank you.

Vineet Khanna, with Capital One.

Hi, good morning. Just on the leasing activity during the quarter, can you break out how much of that was from Kite Legacy versus Inland? And then what, for the vacant space, what the average time was at that space was vacant?

So, first question in terms of -- we did 107 deals so that was pretty balanced across the portfolios. I don't have in front of me the exact number per property. But you can just assume it's balanced, because it was 107 deals. In terms of time vacant, the spreads that we report are properties are that have been vacant less than year. I mean our spaces have been vacant less than a year which is what the majority of people do, in terms of reporting. We obviously did some other deals that were outside of that. So, generally, in terms of the spreads, you're talking about spaces that have been vacant for less than a year.

Okay. And then, I guess shifting gears a little bit. Can you just talk about cap-rates and IRRs? And where they sit today? And then you know, versus six month ago. As well as any changes in the buyer pool.

Well, I think in terms of cap-rates, they've maintained where they been for the last six months I would say I don't think we've seen much movement. Either down or up. I think cap-rates have been fairly stable. Obviously it depends on the asset, depends on location and whether this particular asset's being fully marketed or not. But clearly cap-rates for the quality assets that we own are generally in the high [5%] range. Some low [6%], but not much -- most of it would be in the mid to high 5% range. And mainly that's driven off the fact that there just isn't a lot of available supply of high-quality real estate. And there's not a lot being replaced. So there's very little construction, and that's also a big factor in cap-rates, by the way. Which is, if you're selling high-quality assets and not very many high-quality assets are being built, then that's just going to drive the values even more. From an IRR perspective, I mean obviously if you're buying something in the mid 5% range, your unlevered IRR is going to be kind of low 6%. So, that still the case today on an unlevered basis.

Sure. And then, Dan how is the pricing looking for the swap to fix the recently announced term loan?

I think we're looking at that as far as swapping a portion or all of that term loan. And I think again, one of the things that we wanted to point out is [when] we were able to get delayed draw features. So we'll be taking that down. A portion of it might be before the end of the year, a portion at the end of the first quarter of 2016, and a portion at the end of the second quarter of 2016. So, as we look at the swapping that right now, you can swap it for the full seven-year period for all-in cost of low-$3 million. I think that's one of the reasons we wanted to execute on it. It's a really good piece of paper, and we appreciate the banks that participated in that with us.

Sure. And that's it for me. Thanks for the time.

Thanks.

Ryan Peterson with Sandler O'Neill.

Thank you, A follow-up on the term loan question. Can you just talk about your thoughts on how to decide whether you want to swap all, or just a portion on that with the pros and cons are given the current environment where people really aren't sure how much or for how long rates will stay low?

Sure. Dan and I will both talk about this a little bit. First of all, right now we've got our floating-rate debt to likely below 10%. So we have flexibility. That deal priced very aggressively, and we have to take advantage of that. So I think that we are looking at more from a corporate standpoint, in terms of how much floating-rate debt we have. Which is greatly improved over the past. But with the same token, we realize there's an eventuality to rates. Although everyone's been wrong on that for five years. So, I think we're likely to swap it. We haven't made that final determination on whether it would be the total amount or a percentage of. But we look at it really in a macro way. Trying to understand what we're doing. Looking at our maturity schedule. One thing that people probably don't talk about enough is the maturity schedule itself, is as important as what you're doing in terms of rates. So, we are combining those in looking at that. But generally speaking, we're certainly aware that we are in a very favorable rate environment, and we're likely to take advantage of that Dan you want to?

Yes I think John is exactly right. Looking at it in totality with the rest of the debt pool. And I think one of the factors of getting the delayed draw feature, which I kind of talked about, would be that we can real-time decide if we take down a portion of it at the end of the year and a portion of it in the first quarter. And we swap those out. Maybe we leave the final draw as floating. So it gives us a lot of flexibility and in addition to that, the term loan, typically in term loans you'll have a prepayment penalty. And 2% year one, 1% year two. And then you have prepayment penalty from year three forward. So it really continues to give us a lot of flexibility. If, opportunistically we want to hit the public bond market. So, not only do we are flexibility relative to the swapping environment, but also relative to continuing to push out our maturity schedule.

Great thanks and just one more question on a different topic. You guys have talked in the past about wanting to grow in the New York market. Could you just talk about your approach are given is nature as kind of an established market that's often driven by long-standing relationships and how you break into that?

Sure. We have already broken into it. So, I mean if you look at what we've done, we've got obviously City Center, and Bayonne came from the Inland acquisition. But Livingston, which is in one of the best suburbs in the city in terms of the area, was done in a off-market transaction essentially. The property was going to be marketed and we were able to get them to negotiate with us without going through the full marketing process.

So, the relationships that we have are national. That's part of being a national landlord. We have national relationships. So we recognize that it's a very difficult market to break into on a one-off basis. And we recognize it generally is priced as such. When you look at the asset the Livingston asset and you look at the quality of it. And the fact that we were able to get that, you build these things one at a time until you have a bigger opportunity. So, I mean, we now have three large assets in the New York Metro. That's -- it doesn't sound like a lot, but is hard to do. So, we are pleased with it, and when you look at the ability to redevelop City Center, there's a property has been sitting there for quite some time in the same condition. And we have an extensive plan that's going to really drive results. That's exciting to us.

Great thank you.

Thank you.

Craig Schmidt, Bank of America.

On the increased small shops space by 130 bps, I wonder if you could characterize this? Is it small businesses, national players, or franchisees?

You know Craig it's a combination of the 107 deals we did. I think the majority was national deals. Although, when I say national, remember we are talking about many of these small shop deals are franchise operators that are national franchises. But are located either locally or operated either locally or regionally. So it's a good balance.

Clearly, there's more activity in the smaller shop space. There's definitely more interest in those spaces below 10,000 feet then there were a year ago. But it's balanced and we focus on credit quality too. So, some of this is driven by us focusing credit quality, and not just leasing to anybody that just shows up. So, but it's a good, we're in a good space right now.

Craig the other thing I would add, is that we made a concerted effort to increase the quality of our team. We had a lot of space in particular in the state of Florida. And so we have really gotten after that and had great coverage in that state. And as you attack and you reach towards your goals you're going to see results. So we're starting to see that come in. So we've had great opportunities with tenancy like John said. But even more importantly, to the team has attacked. And we've gotten the right resources to make it happen.

And you think the pace of is sustainable?

Yes I think, as we said, and we're still very focused on getting it to 90% leased in the small shops. If we could do 130 basis points over the next couple of quarters we would be there. But in this business, you also lose small shop tenants. And you've got to replace two-for-one. So we did a great job this quarter. Our team is very focused, as Tom said. There's a major emphasis on it, because we're essentially full on the box side. So that the emphasis is here, and I do think we can continue it. But, we're not going to sacrifice either quality or revenue growth just to get occupancy. So, it's a balance to all three of those things.

Great. And then the Livingston Shopping Center and Chapel Hill, both have pretty healthy occupancies. I wonder where you see maybe on near-term growth potential with those assets?

Well, in terms of the Chapel Hill asset and actually they're both similar. But in Chapel Hill, that asset is, first of all large enough and well enough-positioned that there's a healthy amount of the small shop space there that was leased in the local way. The landlord is a local landlord. Good landlord, but only owns a few assets. Looks at it very differently than we would. So I do think there, with rollover, we do have an opportunity to grow NOI. And increase of merchandising mix. I mean, I said it in the prepared remarks, but that HEB Central Market is a machine in terms of -- you're talking about sales well over 1000 a foot.

So, yes we think we can do that. It takes time, and it's more of a re-merchandising growing to rent story. In terms of Livingston, we think over time, we may be able to add some GLA there. It's going to be complicated. We think that's possible. We also, if you remember, there are several of those tenants that have percentage rent opportunities for us. And since they all just opened recently, we had it some good visibility on growth. So we think we can get some percentage rent there, and then over time we hope we can add some GLA. So, of the two, that one's a little different. But again, building our core asset base in that region is very important to us.

Great thank you.

Thank you.

(Operator Instructions)

Christy McElroy, with Citi.

Hi, good morning.

Good morning.

I wanted to follow-up on Craig's question on small shop. As I think about the 130 basis point pickup in leasing during Q3, can you tell us what the small shop commenced rate is today? Relative to the 87.5% leased rate? And maybe you could give us a sense for the trajectory of when you expect that leasing to start to commence and impact same-store cash growth?

Yes Christie this is Dan. I think, as you look at the same-store pool, which includes over 90%. You know we have about 180 basis point spread between economic occupancy and leased percentage. And as you look at that 180 basis points, I mean it's like the majority of those, as you know would be small shop tenants. Because we have very little anchor leasing to do. I would say there's probably 70 tenants in that. And, of those 70 probably 65 or more are small shops. So I would say, that gap is going to close because those are signed leases that will be coming in over the next 3 to 6 months. So I think when you look at that gap being closed up from a same-store perspective, which is where we primarily track economic versus leased. That should be coming on-line over that period of time.

It should be fairly tight.

Okay. And John, you mentioned in your opening remarks that any remaining liquidity after considering the recent debt offerings would go to redeeming the preferred. Can you expand on that? Do you have any remaining capital needs to fund that redemption? Just trying to line up the sources and uses, and whether or not you're looking to sell assets essentially?

Sure. I think, Christie, our objective there is to get as much of that $100 million vis-a-vis, the remaining liquidity and potential asset sales. We're trying to do as much of it -- in other words as much with cash as we can. We do have about $100 million of assets on the market right now. From a gross perspective. We think there's a potential of maybe closing on close to half of that by year-end. Which we would use the proceeds from that to go against the preferred. And then, probably into the next quarter, Q1 for the balance of that of those sales proceeds.

And then approximately $30 million of leftover liquidity from the term loan. And so we put all that together, and that's probably somewhere between $70 million and $100 million that we have earmarked for that.

Okay. And then given all the moving parts, maybe you could also comment on leverage. If we think about the trajectory of what should that look like over the next year?

Well, I mean over the next quarter, and over the next year are probably different things. I think over the next year, our anticipation is that our debt to EBITDA plus preferred because we will have eliminated the preferred, will get back down into that mid-6% range. And obviously we picked up a little bit going to the end of the year via the acquisitions, and a couple of the development projects.

So I think our goal and our intention, is still to operate in that lower 6% times, 6% to mid-6% debt plus preferred to EBITDA. So, that is very achievable with the $10 million coming online over the next year. And remember, that we've already spent the majority of that. So we've got the $10 million and then we've got, obviously, as we pay off the preferred we're in a better position from a cash flow perspective. So definitely, we think it's not hard for us to get back to the lower to mid-6% debt to EBITDA range.

Great thank you.

Thank you

Carol Kemple, Hilliard Lyons.

Good morning.

Good morning

Could you will talk about your watch list? Or any tenants that have concerned with closing in the first quarter?

You know I think Carol, it remains, we're looking at what's going on with the -- in the office supply space, with the merger pending. That's the biggest focus for us. And I think -- that seems to ebb and flow, but we would anticipate it happening. And we're deep into that. So, beyond that, I'm not seeing any other concerns. We have no -- if you're thinking about the pharmaceutical side we have no Rite Aids in our portfolio. So, if a Walgreen's Rite Aid deal happens that doesn't impact us. There's really, beyond that, it's just kind of the normal -- maybe some -- we focus on the small shop side. But in the national tenants there's really nothing else that concerns us.

Okay thanks.

Thank you.

I'm showing no further questions. At this time, I'd like to turn the call back over to John Kite for closing remarks.

Okay, well thank you very much. We appreciate everyone's time. And look forward to seeing you soon.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation. Have a wonderful day.