Kite Realty Group Trust (KRG) 2016 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q3 2016 Kite Realty Group Trust earnings conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session.

(Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Ms. Maggie Daniels, Director of Investor Relations and Strategy. Ma'am you may begin.

Thank you, and good afternoon, everyone. Welcome to Kite Realty Group's third-quarter 2016 earnings call. Some of today's comments contain forward-looking statements that are based on assumptions and are subject to inherent risks 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 10K. Today's remarks also include certain non-GAAP financial measures.

Please refer to yesterday's earnings press release, available on our website for reconciliation of these non-GAAP performance measures to our GAAP financial results. On the call with me today from the Company, are Chief Executive Officer John Kite; Chief Operating Officer Tom McGowan; and Chief Financial Officer Dan Sink. And now I'd like to turn the call over to John.

Thanks, Maggie, and good afternoon, everyone. The third quarter marks another successful period for the Company and the Team's efforts are paying dividends towards our stated objectives. First, I would like to highlight the balance sheet as we completed several transactions, which allowed us to finish the quarter in the strongest financial position in the Company's history.

We've replaced our $500 million revolver with a new five-year bank facility. At the same time, we issued a new $200 million five-year term loan, and used those proceeds to redeem half of our existing $400 million term loan, maturing in 2020. Both of these bank transactions were executed with more favorable terms and covenants.

Next, we completed our inaugural public bond offering by issuing a $300 million of tenure senior notes at a 4% coupon. Based on the pricing dynamics and pure secondaries at the time, this was an incredibly well-executed transaction to introduce us to the public fixed income market. The bond proceeds along with the draw on our new bank facility were used to pay off existing debt obligations, including the remaining $200 million legacy term loan, maturing in 2020, approximately $70 million of CMBS scheduled to mature during the quarter, and the $76 million outstanding balance on the Parkside construction loan.

All of these actions bolstered our financial flexibility as we pushed out our weighted average debt maturity from five years last quarter to just under seven years this quarter, while keeping our overall interest rate around 4%. Our floating rate debt is now only 5% of total debt. Lastly, we plan to pay off approximately $35 million in future CMBS maturities during the fourth quarter, which will result in a near $90 million of debt obligations coming to [accrue] the end of 2020.

On page 15 of our supplemental, we added a graph that highlights our significantly-extended debt maturity profile. We've also added our debt covenants on page 18, which underscore the solid position of our balance sheet. Importantly, investors can track our robust liquidity position, which as of the end of the third quarter, is nearly $0.5 billion.

We also remain focused on continuing to lower our net debt to EBITDA to 26.25 times, and feel confident we can reach this goal by the end of 2018. In the near term, we continue to target dispositions of $50 million to $60 million this year. Using these proceeds, combined with nearly $12 million in incremental NOI from our development and redevelopment projects will drive us into the mid-six times range.

Although these balance sheet efforts and our three R initiatives will weigh on short-term FFO per share growth. Our dedication to efficiency allowed us to outpace our quarterly and year-to-date results, compared to the same period last year. FFO as adjusted was $0.52 for the quarter, which was in line with our internal budgets.

Minimum rent increased nearly 5% since this time last year, driven by small shop leasing, rent bumps and specialty leasing efforts. These metrics are impressive, given the fact that we have 12 assets, or roughly $63 million of projected cost under construction, and 24, 3-R assets in total. While we have de-leased over 550,000 square feet.

Had we included all of our 3-R projects in the operating portfolio, our average base rent would have increased another $0.20 per foot for the quarter. This attests to our thesis that the temporary drag positions us for long-term earnings growth, improved balance sheet strength, and significantly enhanced shopping center assets. Our same-store NOI grew 2.1% compared to the third-quarter last year.

This quarter is notably lower than our historical same-store growth average of 3.9%, in part driven by our 3-R program, and the Sports Authority bankruptcy. We originally had three boxes, one of which was acquired at auction by PGA Superstore at our Portofino asset in Houston. The remaining two spaces are both in Florida, at the Landing At Tradition in Colonial Square.

We have been actively engaged with potential tenants at both centers, and specifically we have a national tenant planning to take the entire box, plus an additional 23,000 square feet at the Landing location. As we stated in our last earnings call, we anticipated a 75 basis-point drag on same-store NOI per quarter, attributable to the 3-R initiative. Consistent with our expectations, our same-store NOI, excluding the 3-R initiative, grew at 2.9% for the quarter.

Turning to redevelopment, we continue to execute on our 3-R program. This quarter we commenced construction on four additional assets. Each of these projects will result in substantial NAV accretion, as they include a number of tenant upgrades, such as adding a high end specialty grocer at Centennial, a new Ross [at Trust Hill], and enhancing the existing AMC to create a premier entertainment center at Traders Point, and expanding and rebuilding a new Publix at [Bird Store].

Including the four new projects, we now have 12 assets under construction for an estimated total cost of $63 million. We continue to have a healthy yet manageable 3-R pipeline, which consists of an additional 12 assets. Totaling an estimated cost of approximately $95 billion, with expected average returns of approximately 10%.

Our ability to fund nearly our entire 3-R initiative with free cash flow results in substantial growth opportunities, given the expected double-digit returns. From a leasing perspective, demand for new anchor space has experienced increased momentum, as we signed approximately 100,000 square feet during the third quarter. Including the recently-announced Nordstrom Rack, which we signed at our Houston asset in Portofino.

Our retailers have been active, as nearly 180,000 square feet of anchor in junior anchor spaces have opened since the end of the second quarter. Such as DSW at the Landing At Tradition, Carmike Cinemas and Kirkland's at Holly Springs, buybuy BABY at Cool Springs, and Ross at (indiscernible), to name a few. Our small shop goal of being 90% leased is within reach, as we have improve another 40 basis points from last quarter to 88.7% leased.

This represents another 120 basis-point increase compared to the same period last year. We continue to see strong demand and success from our quick service restaurant tenants. Unfortunately, the strength of our portfolio has insulated us from some of the weakness in the sector.

This quarter, we have added several new shop tenants, such as J.Crew Mercantile, Chipotle, and Which Wich. Equally, if not more importantly, we renewed 61 shop leases and retained tenants like Starbucks, Bath and Body Works, and Talbot's. In summary, we are closing the gap on our small shop goal of being 90% leased or better.

Meanwhile, the market dynamics around our anchor re-leasing remain very favorable for Kite, as our ABR expirations over the next five years are below our portfolio average. From a transaction standpoint, as I mentioned earlier, we continue to target dispositions for 2016 in the range of $50 million to $60 million. As we sit today, we are not pursuing or considering any acquisitions, given the current market environment.

Our team remains headsound and heavily focused on efficiently running our operations, reaching our leasing objectives, maintaining and improving our very strong balance sheet and executing on our 3-R platform. In closing, we've narrowed our guidance range for FFO as adjusted, but maintain our previous midpoint at $2.06 per share, given our recent capital markets activity that was not previously in our guidance assumptions. Thank you for everyone for joining today, and operator, we're ready for questions.

(Operator Instructions)

RJ Milligan, Baird.

John, some of your peers earlier this week on some conference calls have expressed concern that we might be nearing the end of a cycle, though some of your commentary implies that momentum is ticking up. I'm just curious, where do you think we are in terms of this upcycle for retail?

I think all I can do is say how we're operating in executing here, and if you look at the leasing that we did this quarter, you look at the spreads that we had, we feel pretty good about where we are and about demand for our particular properties. We have done a lot of work to improve those, so that could be a part of it, just all the work we have been doing over the last couple of years to update and upgrade.

Also, I think if you look at the spreads that we're generating, we continue to generate double-digit option, non-option renewal spreads. I think we are feeling pretty good about both the anchor side and the shop side. And I think, again RJ, you just have got to get back to the basics that we are in a -- the supply environment remains very low and when you own good shopping centers, and there is limited supply, we should be able to continue to do what we are doing.

In seeing that, given the sell-off here that we have seen in the stocks, we're seeing quite a few of these strip reads trading at significant discounts relative to NAV, does that change your interest in public-to-public M&A?

I think I made the point that we are really just focused on blocking and tackling and driving our 3-R program and leasing up and generating positive cash flow growth per share. Yes, the market is the market, the current conditions are what they are.

I am sure it's not a surprise to you that we think it is a dramatic over-reaction, but we have seen it before. So, I think we will just see where that goes, and there is a ton of capital out there, so I think we will just keep doing what we're doing.

Collin Mings, Raymond James.

As it relates to the prepared remarks on the bond offering, can you take us through how that impacts, if at all, the three-year goals you have outlined earlier this year as far as FFO growth?

This is Dan. I think from an FFO perspective, when we put out the three-year plan, it didn't contemplate significant capital markets activities, and as we have alluded to, we saw the opportunity to really execute on the $300 million bond deal with the 4% coupon, and do it quickly and make sure the execution risk was down and we're really happy with how it turned out.

So, when you look at that and you look at the impact on the difference in the rates between the bond deal as long as what we paid off, we paid off a term loan that did not mature until 2020. So when you look at the term loan Parkside as well as line of credit that we pay down from the short term, and then we have an objective to pay off Colonial Square in the next week, you're looking at about 170 basis-point spread on the rates on that $300 million, so that is going to impact that by $0.05 on an annual basis.

The only thing that I would add to that, Collin, I think as we look out to the end of 2018, which was our original 3-R goal, we still feel pretty good about everything that we put out there. As Dan just mentioned, that will probably impact the FFO per share, but give us the opportunity to be at the lower end of our original guidance for that.

And again, a lot can happen between now and then in terms of upside opportunities that we will see and the upside that we will get out of our free cash flow, paying for our redevelopment pipeline. When we laid out those original goals, we were pretty conservative with that. I still feel like we are certainly within striking distance on those goals.

Just as we approach 2017 here, I recognize you aren't providing guidance yet, but just maybe directionally you can tell us how to think about potential disposition activity relative to still what you expect to complete here before year end in 2016, recognizing a lot of free cash flows being generated that will be able to pay for the redevelopment activity. But just as you think about the leverage targets and to your point about the strong bid out there for one-off acquisitions, how should we think about additional assets sales into next year?

I think if you look where we have been over the last couple of years, we have been a net seller over the last couple of years. When you look at the current market conditions, that probably is a little bit smarter of a move, based on where the market is. We aren't giving 2017 guidance yet, but as we look out from where we are today and if the market continues to look as it does, when you see this pretty big disconnection between private prices and public prices, then it probably makes more sense to be a net seller than a net buyer, but again, you have got to see where the market goes.

One last question for me, John. You've talked on this on prior calls, so just maybe update us on you guys' exposure to the office supply by sector, your latest discussions there as it relates to some of those boxes.

As you know, we have 18 Office Depot\Max boxes. We've talked about quite a bit that we talk to them all the time.

We have a very sophisticated kind of look at how we go about figuring out which of those stores we think is going to be in there proper, in terms of the store of the future that they want to build. Which Tom can talk about a little bit. And then, as I said before, I am sure we will get a few of those back, but frankly, we want some of those back from a merchandising mix and rent perspective. Tom, you want to add to that?

Yes, we have taken a lot of time to make sure we've gone out to Boca Raton and meet with Office Depot. We really met with their entire team, head of real state, real estate managers all the way down the line, so we want to do that early because there is a lot going on inside that company. If you take a look at where we are on our total inventory, we have already addressed three of the renewals and those are ongoing right now and we are chipping away at additional ones.

In addition to that, John mentioned store of the future, we're lucky to identify with Office Depot, eight of these opportunities, which really put us in a position to provide capital and allow them to get their new store format that they are very focused on. I will say we have a strategy for each and every one of our properties and are very much on top of it.

Vineet Khanna, Capital One.

I'm just going off on the office supply. Can you provide any color on what the lease expiration schedule looks like for the Office Depot, OfficeMax location?

Sure, do you mean specifically?

Yes. Do you have any coming up?

I can give you a little color. 2017 we've really worked through it. 2018, we have six coming up, and then 2019, [two], with the balance of the rest.

Like I said, we are on top of these. Have strategies for each one, and we are picking through these on a very balanced approach, working closely with them.

Just shifting gears. For the $50 million to $60 million in dispositions for this year, was that always contemplated to be in the latter half of the year, or was there a shift in the marketplace over the course of the year? And maybe you can talk about the transaction market generally.

That was always contemplated to be in the fourth quarter or latter half of the year, I should say. Then to your second question, coming to market there remains a strong bid for the type of real estate that we own.

The private market is active and liquid, so we're very comfortable and confident that assets that we want to sell can be sold. It is actually pretty favorable.

Just lastly for me, on the same store or same property NOI, both, does that include the 3-R initiatives that have been removed from the operating portfolio? And based on that, maybe you can remind us how you think about which 3-R projects are kept in the operating portfolio as opposed to taken out.

If you look in our supplemental, we do designate the properties that have been taken out, which are generally the properties that we have significant de-leasing efforts going, and I believe there are nine of them that we highlight out of the total 24, so you can see that we have a pretty thorough way of analyzing what comes out, based on the significance of the work that we are doing and the significance of the disruption. It is basically when we are intentionally significantly de-leasing, that is when that generally happens. But you can find it in our supp.

Todd Thomas, KeyBanc Capital Markets.

A quick followup on the 3-R program. That 75 basis-point disruption in the quarter, how should we think about that drag heading into 2017? Assuming you keep a pretty constant pipeline of projects.

I think as long as the pipeline stays in this general range of size, Todd, then it is going to be a similar impact. That is impossible to say exactly, because each project is different, and the significance of the drag is different. But I think it is a reasonable estimate in that range, and I think historically we have said it fluctuates between 50 basis points and 100 basis points, is what we have historically set.

Regarding the dispositions, the $50 million to $60 million, can you just remind us what we should think about for the average cap rate on those asset sales? And then, based on your comments that it might be a smarter decision to sell versus buy, would the pace of dispositions be somewhat higher in the year ahead if conditions remain?

First question is, we actually have three assets on the market, they are different types of assets. So, you are talking about low-six cap to slightly above seven cap type cap rates. What was the second question?

Disposition, the pace of disposition.

As I said on the remarks, assuming that the conditions kind of remain as they do today, which again, you are seeing a significant difference between public prices and private prices, so as long as private prices remain as healthy as they are and there is liquidity in the market, if you're asking if we be a net buyer or a net seller, we would be a net seller in that scenario.

Christy McElroy, Citi.

John, just a followup on the disposition question and [blaring] it in with leverage. To follow up, what sort of the timing for that mid-sixes level you mentioned in terms of your debt to EBITDA, is that when the $50 million to $60 million is complete?

And what is the timing for that? And then just in thinking longer term about the 6.2 times goal that you mentioned for year-end 2018, how much of that is debt paydown with disposition versus just EBITDA growth?

Christy, I think just the $50 million to $60 million is probably around 30 basis points, so that gives you slightly above 6.5 times, 6.6-ish. Then you've got the NOI that is actually in our supp, so it is out there that you see coming in from our redevelopment/development activity, which is approximately $12 million, so that is probably another 30 basis points-ish. We don't get all the way down to six times just from those two things happening.

And that is why I'm saying if not next year that we would get down to six. It would be more likely 2018 if we just did it organically, as though we're projecting right now, which is the NOI coming in that I mentioned, the sales that I mentioned. And then the next leg of that is the other 12 assets that we have in the future redevelopment pipeline at 10% returns is going to generate a pretty significant NOI, so that is probably the next leg down to get into the low-six range.

Can I say, Christie, when we give guidance for 2017, we will definitely give more color around that.

You have got three assets on the market today, how much of that is the $50 million to $60 million and when do you expect to complete the $50 million to $60 million?

That is. And then we anticipate that they will be done probably by this point if a couple of them still year end, maybe one goes into the first quarter of 2018.

First quarter of 2017, I'm already projecting that.

On Parkside Town Commons, destabilization was pushed back to mid-2017 from mid-2016. Can you talk about what is happening there that drove the [bullet]?

I think on Parkside Town Commons, we talked about, we have a couple different things going on. One is that we have got the shop lease up that we're doing, we still have several tenants in the opening stages that are opening later than we anticipated, so that is a big part of it, because a lot of that is in shops, the other is on the box side. We still have a couple of box deals to do, and I think we have mentioned before that we had a freestanding Field & Stream box there that we are getting back, that we have gotten back, that we anticipate leasing in the first quarter, I would say, of next year or signing a lease.

So, based on the timeline to build that back out, that takes that out into 2018 when they would open. Bottom line is, we had a couple of things that pushed it back in terms of being stabilized, not in terms of being open but being stabilized. Go ahead, sorry, Tom.

The only thing I was going to add about what John talked about is we are under construction with the Stein Mart, and Stein Mart should open towards the end of the first quarter, which will be great. And then we have 22,000 square feet of small shops, still a lot that we're working very hard on. So, this stabilization period makes sense to extend it out as we address some of those items John talked about.

Daniel Santos, Ceremonial.

Just two quick questions for me. Just in general, could you talk a little bit about how when you think about filling space, how do you balance getting the right tenant versus taking a deal with a tenant who may not drive as much complementary traffic, but takes away the risk of having a vacant space?

I think that is the art of the business. We refer to merchandising mix a lot, and that is really what we mean by merchandising mix, is that we are really focused on creating the environment that the consumer wants, and that environment is both physical, in the way that the property presents itself, and it is more tangible and the retailers that you have at your property.

We have often talked about our lease, the way we go about leasing, and what our lease percentages are, reflect our intensity around having that right mix. So, bottom line is in today's world, you have got to put forward a product that is enticing to the consumer, and that is what our business is all about. We can make easy decisions regarding that, but frankly, it takes time and we are very focused on it.

One last question. When we are thinking about the 3-R program, how would you describe the flexibility of starting or stopping the program, given changes in the retailer environment?

I think it is significantly more flexible than ground up. When we lay out our strategy, in terms of what we are going to start during the year and what is potentially coming behind it, that is a big part of what we're thinking about. Is making sure that we can do these projects in sections, and if the market was to back up significantly or if there was some significant disruption, it would be much easier for us to pull back on the redevelopment pipeline.

That is really part of how we plan it. Tom?

I would say on the under-construction pipeline, at that point, we have really made a commitment to the project and we have permitting and tenancy and everything lined up to create a very low risk file for the Company. As it relates to the opportunities, we're really in a position that we spend very little capital, basically mining these projects to get them ready.

So, from a risk standpoint, we keep that at a minimal level, because we simply won't move them over until the end of construction layout, until we are 100% confident. That cadence really allows us to be very disciplined in terms of when we actually start spending hard capital dollars.

(Operator Instructions)

Craig Schmidt, Bank of America.

The small shop occupancy had a good lift during the quarter. I am wondering when you look out at the small shop leasing environment, how do you feel about being able to continue to push this occupancy in the small shops going into 2017?

Craig, I think we feel pretty good. When you look at the activity we had in the quarter, we did a lot of deals, and as I tried to mention, we also are focusing very heavily on the renewal side, not just the new shop leasing, because the greater retention rate we have, the more ability we have to drive the gains in occupancy. We had a really good balance this quarter in not only doing new deals but in our renewals.

And as I said, when you look at our non-option renewals still generating, I mean, I think this quarter was almost 11%, 10.5% in our non-option renewals, cash rent growth with almost no, obviously, no capital costs associated with that. I think there is a good balance right now, and I think the things that we have done over the last couple of years internally to position ourselves to be very focused on that is paying off. I feel we still are aware of where the overall macro environment is, and continuing weak GDP growth is not great, but because of the lack of supply and the high quality nature of our assets, we're doing pretty well.

I'm not showing any further questions at this time. I would now like to turn the call back over to Mr. John Kite for any closing remarks.

Great. Thank you, operator. We appreciate everyone dialing in and look forward to seeing you soon.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program.

You may now disconnect. Everyone have a great day.