LXP Industrial Trust (LXP) 2005 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to the Lexington Corporate Properties Trust 2005 second quarter earnings conference call. At this time, all participants are in listen-only mode. Following today's presentation, instructions will be given for the question and answer session. If anyone needs assistance, at any time during the conference, please press the star followed by the zero. This conference is being recorded today, Tuesday, August 2 of 2005. I would like to turn the conference over to Ms. Diane Hettwer with Financial Relations Board. Please go ahead

Thank you. Good afternoon everyone and thanks for joining us for Lexington Corporate Properties' second quarter earnings call. The press release and supplemental packet of information were distributed this morning. If anyone did not receive a copy, they are available at the Company's website at www.lxp.com. Additionally, we are hosting a live webcast for today's call which can also be accessed at the Company's website.

At this time, management would like me to inform you that certain statements made during this conference call which are not historical may be deemed forward-looking statements with the meaning of the Private Securities Litigation Reform Act of 1995. Although Lexington believes the expectations reflected in any forward-looking statements are based on reasonable assumptions it can give no assurance that its expectations will be attained. Factors and risks that could cause actual results to differ materially from expectations are detailed in the press release and from time to time in the Company's filings with the SEC.

Having said that, I would like to turn the call over to management. With us today we have Wil Eglin, Chief Executive Officer, Dick Rouse, Vice Chairman, Pat Carroll, Chief Financial Officer, and Paul Wood, Chief Accounting Officer. With that I'd like to turn the call over to Wil. Wil, please go ahead.

Thanks, Diane and good afternoon everyone. Thank you for joining our second quarter conference call. Today Lexington announced funds from operations of $0.57 per share compared to $0.43 per share in the second quarter last year. We had some one-time items in the quarter, mainly a gain on discharge of indebtedness from repaying a mortgage at a discount, and that added about $0.07 to our FFO per share. Normalized number of $0.50 per share was in line with our guidance and represents an increase of 13.6% compared to last quarter when an impairment charge of $0.01 per share was added back.

These were great results for us. Our growth in FFO per share was driven by primarily by investment activity and we acquired 946 million of property in the second quarter. And this exceeded our entire acquisition volume of 935 million for 2004. The acquisitions made in second quarter yield 8.1% on a GAAP basis and were financed with 615 million of fixed-rate mortgage debt at a weighted average interest rate of 5.19%, and we think that was a very good spread in view of the competitive landscape and the quality of the assets acquired. Other transaction activity in the quarter included the sale of our Columbia, Maryland retail property for 11.6 million which was almost 5 million above what we invested in that property a little over 6 years ago.

On the leasing front, we had four leases signed or extended in the quarter, which brings our total for the year to seven. We also put in place a new $200 million bank line for the Company with improved borrowing spreads and covenants. On the asset management front, we opened two small regional asset management offices in Chicago and Dallas, and we believe this should help us to more actively manage our portfolio, provide better service to our tenants and also know our markets better. We believe this is a much more rational approach and a better value proposition than headquartering all of our people in New York. As we grow, we're likely to put more asset management personnel in our regional offices.

So far in the third quarter we've stayed busy. We closed 14 million of financing on a recently expanded Owens-Corning facility and we expect to close later this month on 67.5 million of financing secured by our recently acquired Dana properties. We've also invested, in July, about 20 million in 2 property expansions, one for Owens-Corning and second on our Harper freight facility, and we raised $60.9 million in a modest common equity offering. Today we posted our supplemental disclosure package to our website, and we encourage you to review the supplemental in detail, especially after a quarter in which Lexington changed so dramatically.

Turn to look at the quarterly results. The Company had gross revenues of 50.9 million which included 2.6 million of fee income, and that's a very important number because fee income offsets 55% of our G&A for the quarter. That's a great result for us but again fee income is highly derivative of acquisition volume.

Our general and administrative costs were about the same as in first quarter. One time items included 4.6 million in debt satisfaction income and an impairment charge of $592,000 taken against our vacant Mansfield, Ohio industrial property which we are presently marketing for sale. Netting out the one time items, FFO per share as I said, was a record $0.50 and exactly what we were forecasting and consistent with the guidance we gave on our last quarterly conference call. Our interest coverage for the quarter was 2.6 times and that continues to be a comfortable level for us.

Turning now to look at the balance sheet, we believe our balance sheet continues to be in very good shape, although it has changed significantly since year end 2004. At quarter end we had 1.2 billion of debt outstanding, at a weighted interest rate of 6.05% and that compares favorably to our weighted average interest rate of 6.58% at the first quarter of 2005.

At quarter end 91% of our debt was fixed rate, that's a tiny bit misleading due to the timing of capital transactions. In July we closed 14 million of fixed rate financing. And following the closing of the Dana financing our fixed rate debt will be about 99% of our total debt. So, we think we're continuing to maintain a fairly conservative balance sheet posture, with little exposure to floating rate debt, and no liabilities of any significance maturing until 2008.

We had 42.4 million of cash at quarter end and line outstandings of 99 million and subsequent to quarter end we used cash in the offering proceeds to reduce our bank debt, which presently has about 39 million outstanding. So, after closing the Dana loans, we will be out of our bank line with full availability of 200 million, and we'll have some cash to fund anticipated investment activity.

Our balance sheet debt was about 44% of total market capitalization and as we said previously, we are comfortable with leverage of 45 to 50%, and we intend to run the Company that way. That's consistent with our historical levels and we think is very appropriate for our asset type. Including our proportionate share of joint venture debt leverage is about 48.4% of enterprise value.

We are continuing to work off our debt quickly and amortizing about 134 million between now and 2009 and 307 million over time, so our balloon payments total just 33% of market capitalization. To us, that's a key number to focus on since all of our debt service until then, for the most part, is covered by leases in place and we note that interest coverage is likely to improve over time as we amortize our debt. We still have 141 million of equity from joint venture partners to invest which leaves us with acquisition capacity of about 450 million in joint venture programs and we will continue to finance our business with a mix of private capital and our own equity.

As I mentioned on our call last quarter, we are continuing to work on establishing a fourth program which would focus on the high yield part of our business, which are generally properties leased to single B credits and properties which have some special purchase characteristics.

Our July common equity offering was our first since February, 2004 and the issue price of $25.19 compared to $21.70 last time. This is a fairly small equity offering which I think is consistent with how we plan to finance our growth which is -- periodically raises as much money as we need for investment and try to avoid running the Company with some of the excessive cash balances that we saw over the last couple years.

Turning to talk about acquisitions, obviously, second quarter was a huge quarter for us. On our call last quarter, we discussed the Wells portfolio acquisition, but to recap it briefly, is 27 properties, mostly Class A suburban office buildings. Total purchase price was 786 million. The GAAP cap rate on the acquisition was about 8% and we financed at 65% loan to value at a fixed rate of about 5.2%.

Other acquisitions closed in the quarter included the acquisition of about an 80% interest in Six Penn Center which is a central business district Class A office building on Market Street in Philadelphia. The value there was 67.5 million, cap rate was about 7.9% when you include parking revenue and there's a nine-year lease to Morgan Lewis and Bockius on the building and we financed that with fixed rate debt at 5.06%, again we think locking in a very good spread given the nature of the tenancy and the quality of the asset.

At the end of the quarter, we completed a $78.5 million sale lease back with Dana Commercial Credit of five industrial buildings. There we got 20-year leases with a cap rate of 8.85% flat for 20 years, and we locked rate on 67.5 million of financing at 4.96% fixed for 10 years. That means that our cash-on-cash return on our equity investment is about 17.5%. So, while the acquisition market is competitive, it's not without opportunity as I think is clear in the case of the Dana transaction. Today our pipeline of deals under letter of intent to close in roughly the next 60 days is about 112 million.

Turning now to discussion some asset management activities, on the leasing front, we signed one new lease during the quarter for 21,500 feet at our Hebron, Kentucky property, and we extended leases on our three Toys R Us properties. Today we are in active discussions with six tenants for extensions of leases that would expire in 2006 and 2007 and we have leasing proposals outstanding in one form or another in all of our current vacancies, and today we are 97.7% occupied which again, is quite a high level.

To recap the current vacancies that we're working on in the portfolio, in Memphis we have 105,000 feet vacant and we are in discussions with our existing tenant to lease another 75,000 feet which would bring their occupancy to 110,000 feet out of a total building size of about 140,000 feet.

In Phoenix, we have 180,000 square foot complex three building complex that is empty and needs to be redeveloped, but we have a proposal outstanding to a tenant for 150,000 feet. In Milpedes, California, as we've discussed before, we will have a 100,000 square foot vacancy at the end of the year that we presently are working on one prospect for 30,000 square feet. In Dallas, Texas we have 250,000 square feet vacant at the former VarTech building and we think we have a good prospect for 55,000 square feet.

In Hebron, Kentucky, after signing the first lease in second quarter, we have about 60,000 square feet vacant. And in Mansfield, Ohio we have 296,000 feet of vacant warehouse space which we are marketing for sale. Our remaining vacancy is in Phoenix, Arizona where we will have 68,500 feet vacant at the Bull Facility in November of this year and we are working on a good prospect there for 15,000 square feet.

So that may sound like a lot, but as I said, our portfolio occupancy continues to be high, and our forecasted retention in 2006 is expected to be higher than in 2005. But today out of nine leases expiring in 2006, we think that we just have one certain vacancy which is a facility that's leased to Lear.

Our main tenant that has been on our watch list is Allied Holdings, which has de-listed and filed for bankruptcy. I think it's a little bit too early to tell whether Allied will reorganize and desire to stay in our building long term, but, we have a great property that's well located in Decatur, Georgia, and that is already partially sublet, and the net rents there are 1450 (ph) per square foot which, I think, approximates market today.

So in summary, this was a great quarter for Lexington. We continue to deploy capital accretively, but we're certainly careful in view of the competitive acquisition environment. We're continuing to selectively sell assets to take advantage of opportunities to realize value and I think that we'll see more of that over the balance of the year. That could in some cases involve us taking back some financing so we stay invested but in a senior position to equity, and we think that's a sensible approach in view of where we are in the cycle.

We also have made this year good progress on the leasing front with seven lease extensions or new leases so far and with more expected. And we showed great earnings growth for the quarter, and I think we're well-positioned to put up very good earnings growth of the balance of the year relative to last year.

Acquisitions completed in 2005 will also be additive to earnings growth in 2006. While we aren't giving guidance to per share numbers next year, I think prospects are quite good for us to have 6 to 8% growth in FFO per share. That also means prospects for further dividend growth are good next year, especially in view of where our payout ratio was for second quarter. Some of you will recall that our target payout ratio is 75% and so we note that our payout ratio for second quarter was 72%

Finally, I'd like to thank everybody who participated in our Investor Perception study that we completed recently. Your feedback is very important to us and greatly enhances our ability to continue to make Lexington a more attractive investment. Operator, that concludes my opening remarks, and I'll turn it over to you for Q&A.

Thank you. Ladies and gentlemen, at this time we will begin the question and answer session. If you have a question, please press the star followed by the one on your push button phone. If you would like to decline from the process, please press the star by the 2. You would hear a three-tone prompt acknowledging your selection. If you're using speaker equipment, lift the handset before pressing the numbers. One moment, please, for the first question. Our first question comes from Mr. Philip Martin with Stifel Nicholas. Please go ahead with your question.

I think that's the first operator who's gotten Stifel Nicolaus pronounced right. Good afternoon, gentlemen. Just a question on your -- I know, Wil, that you had mentioned your expansion, some potential expansions within your existing portfolio. Is there any way to give us a sense for potential expansion opportunities from within your existing portfolio just over the next couple of years? As kind of a value added growth story there.

I think at the top end of the potential expansions over the next two years is certainly not, I don't think more than $40 or $50 million worth of value. You know we're working on a couple -- we completed a couple fairly significant ones, obviously recently, one with Owens-Corning and one with Harbor Freight, and there's a couple others that we're working on that are smaller. I wouldn't expect it to be a gigantic part of our growth but, when they do happen, they're certainly very advantageous.

Typical returns on something like that are in the range of what?

Well, in the case of Harbor Freight, obvious we financed the expansion at cost and we got a rent constant of 8.5% with 2% escalations, but the important thing is that we got a five-year extension on the whole deal, you know, which really helped the investment.

Yeah.

In the case of Owens-Corning, we got a fresh, you know, 20-year lease term. So it's, you know, it's not just a nice return on the expansion you offer (ph), it's an opportunity to get extended term. But I would - expansions generally on a cap rate basis get funded at 100 or 150 basis point cap rate premium to where you would buy the asset if you were in an auction.

Okay. Fair enough. Secondly and the last question I have is, when you talk about a strategy going forward here on going after some B credits, special purpose real estate, et cetera, can you give us some timing and just a little bit more on that future strategy?

Well, if you look at our volume over the last, you know, five years, probably 10% of it I would say, has been in the single B credit category or real estate that's a little bit specialized which, you know, could be manufacturing. All, you know, we're really saying is that it'd be nice to have a program where we can, just like in a joint venture, be a minority investor and where we earn good fees so we get a higher return on equity without taking more risk. And since we might be investing 20 or 25% of the equity, you know, that's a safer strategy from a diversification standpoint than taking 100% of the risk. So I don't necessarily think it's, you know, much different than what we have experience doing, but hopefully it'll open up some opportunities to us that we haven't been able to access in the past.

Are you finding that the market there is just less competitive because you don't have the pension funds and the big institutions going after that type of credit or investment?

Well, I think that's true, and, you know, we believe that our job is to try to chase transactions where the pricing is least efficient at least inside the markets that we know. So I think that's the right observation.

Okay. Thank you again.

Thank you. Ladies and gentlemen, if there are any additional questions, please press the star followed by the one at this time. If you are using speaker equipment, you will need to lift the handset before pressing the numbers. One moment, please. Our next question comes from Mr. Steve Tab (ph) with -- Tokaville?.

Toque Ville. Hi, fellas. I'm not quite as enthused from looking at the income statement. I notice some of the expenses went up more than the -- in proportion to the rent. The rent went up about 30% or something less? And the property operating costs went up more than double. That's my first question. Why is that, and what will it be like in the future quarters?

Really, Steve, the increase in the property operating all relates to Wells. A number of leases have expensed ops where we're responsible for a certain amount of expenses per property and what we do is we book to the expensed op whether or not the actual expenses come in maybe lower than that, to be conservative we book up to the expensed op. So, if you look at sequentially first quarter to second, property operating went up about 2.6 million, about 2 million of that is Wells.

In other words, this is going to continue and therefore the gross profit on the rentals aren't as high.

Well, no. Remember the 8.1% yields, they're still net of these expenses.

The profits are just what we expected.

Because -- And then the general administrative expenses as you say went up quite a bit. I mean the advisory fees went up. But, as you say, those are a lot of one-time situations so that on the other hand, the general administrative fees, I assume, are continuing.

Well, the sequential increase in G&A from first quarter to second quarter is we had about 250,000 -- it went up about 300,000, 250,000 of which was a deal that we were looking at that we had incurred some costs that we passed on, so we wrote off about $250,000 of debt deal costs. So the spread in G & A almost relates exclusively to that.

Well, no I -- looking at it compared to a year before, the G&A was 2.5 and now it's 4.66.

That's true.

So that's not 250,000.

Well, I'm looking sequentially in '05, Steve. To answer your question, the Company has grown quite significantly and with our joint venture programs in which the earnings is down below the line, not grouped up in revenues, you know, the G&A has grown.

Yeah. But I mean, if I look at the income before all these other -- you know, before equity earnings and so forth and so on, it's even a little less than the year before, 11.5, 11.6 compared to 11.8. Now, a lot of it is caused by the increase -- these increases, but the biggest increase was the depreciation which went up $10 million. But still the net result is that the equity of the Company – stockholders’ equity, even though you raised $60 million, only went up $13 million.

Correct.

So that the only way that the depreciation comes back is when you sell it or re-lease it at higher rates. So I mean is this type of progress going to continue?

Well, stockholders’ equity, remember, will always -- because of depreciation and our requirement to distribute, the dividends will -- should always, you know, be greater than the book net income that's being recorded because of the depreciation. So that's why, if you look at our stockholders equity, we do have on the balance sheet accumulated -- well, it’s buried in stockholders’ equity, we do have accumulated distributions and excess of earnings, it's all because of the dividends, so that's why stockholders equity doesn't grow, it's because the dividends out to our shareholders are greater than the income we're earning -- because of depreciation.

We have very high accelerated depreciation on our assets because in GAAP now you have to allocate part of the purchase price to intangible assets which get depreciated over the life of the lease, which in some cases is 10 years, as opposed to historically when you depreciate them over 40. So your net income for book purposes is always going to be lower on -- under the new GAAP because of the allocation of the purchase price.

Oh, I see. Because you're allocating much more to the lease base.

That's exactly right. That's why you see the increase in depreciation and amortization. In the old days, let's face it Steve, you bought a property, you allocate 80% to building and depreciate it over 40 years. Now we're allocating 15 to 16% of the building to an intangible which is amortized over the life of the lease, which might be anywhere between 8 to 20 years. We're amortizing things over a much quicker period of time.

You say 15 to 20% is allocated to the lease?

Off the top of my head, I think last year it was about 9% and with the Wells transaction I think it came up to about 14 to 15% of the purchase price got allocated to intangibles -- roughly.

I noticed you, so -- all right. In other words, though, the net income figure is going to go down the way things are going -- before, you know after depreciation is what it looks like. That's the direction it's going.

I don't know, Steve. I mean the, like I said before, depreciation is extremely high in our business and it will continue to be. As we buy properties, depreciation will increase. And, you know, you're right, from a balance, from an income statement GAAP standpoint earnings are affected by that accelerated depreciation.

All right. I'm sorry for that phone ringing. On the balance sheet, you have intangible assets that went from 54 million to 139 million. Can you tell me the nature of these?

That's what we just talked about, Steve. That's the allocation of the purchase price to intangible assets. GAAP requires you now to allocate part of the purchase price to lease and place values and origination costs and customer relationships and all that so if you take a look at that intangible, all of that intangible is the allocation of the purchase price. That's all it is. To us, we look at it as real estate, but unfortunately the FASB doesn't.

I see. And what is this debt satisfaction gain, how does that arise?

Steve, as we said on the call last quarter, we repaid our mortgage loan on the Dallas, Texas building for less than we owed.

I didn't follow that.

The Dallas, Texas property as -- on the Dallas, Texas property that's now vacant, there was a mortgage on it for about $20 million. We satisfied that mortgage by paying about 15.5 million which resulted in a gain.

I see. All right. Thank you very much.

Thank you. Our next question comes from Mr. Scott Sedlak with A.G. Edwards. Please go ahead with your question.

Hi. It looks like rents rolled down again in the quarter specifically on the Toys R Us renewals. Can you talk about what the mark-to-market of your portfolio and some of the upcoming expirations, for instance in, the remainder of '05 and '06 might be?

Well, the big one, Scott, which we've talked about is Milpedes, where we're getting rents, you know, in the mid 20s and you know, market is sub-ten if you have a user. You know, so that's one that we're forecasting a big roll down -- and we've talked about that a lot. But if we looked at, you know, rents next year, we're probably -- I don't know -- about 5% over market today. So I think that we're still going to be in a position in order to maintain occupancy where we're going to be, you know, probably for the most part reducing rents a little bit for the next year or so.

Okay. It looks like you guys have a number of leases that contain cancelable clauses as well. Can you comment on, maybe like, the likelihood of some of the upcoming ones in terms of the renewal prospects?

Well, the only one where we are certain we're going to have a vacancy next year is the Lear building.

The one you referred to before?

Yeah. I think prospects for the rest of them are pretty good right now.

Is that pretty typical that you guys have those clauses in your leases?

You know, it seems like -- I'm not sure what percentage we have.

Every lease that has a cancellation clause is disclosed. It's disclosed in the supplement.

Okay. Yeah. I saw that.

Percentage-wise, it's not big.

It's not that unusual in the market to see leases where you've got early outs like that. Usually there's, you know, some decent penalty associated with it.

Right, but from a GAAP standpoint, we owe, when we do straight line rents, we do it with and without the termination payment, and we'll always book straight line rents to be the most conservative, i.e.-- whichever would generate the lowest current GAAP rent. And in every case except for one, the lower GAAP rent was to take it out through the full lease term.

Okay. In terms of the Dana acquisition, can you provide what the going in yield was and then the financing that you had referenced as well?

Yeah. It was a flat lease at a rent constant of 8.85%, 20 years, and the leverage was or will be 67.5 million fixed at 4.96. Okay, there's a magnitude 79% loan-to-value financing, but with a ten-year term.

Okay. And then in terms of the downtown Philly acquisition, I mean, obviously that's a market that's been in the news a lot lately with the whole Liberty Building going up and everything. Is that a market that you would look to, or not even so much specifically to downtown Philly but just the CBD market that you guys would look to expand in going forward?

Well, it's been -- the opportunities to buy single tenant buildings in downtown locations have been, you know, sort of more fewer and further between compared to suburban. You know, we did the one deal in Chicago last year for FCB Center.

Yep.

We found this one in Chicago. There is one in San Francisco that we're looking at right now. You know, it's really been -- and part of the reason is that CBD assets are just, tend to be larger in value and we've shied away from the market just because we didn't want to, you know, take on that much concentration, relative to the size of our portfolio. As we've gotten bigger, we're certainly able to look at larger transactions. But I think CBD is going to be the exception, you know, not the rule just because there's, like I say, fewer properties that meet our criteria for single tenancy and size.

And then finally can you just recap what the acquisition capacity was? I thought you said 130 million on your balance sheet and 450 between your joint venture partners. Is that correct, or ...?

I would say that we have equity commitments from joint venture partners of 141 million, you know, which assuming about 65% leverage or so would create 450 million of capacity.

Okay.

We have, post closing the Dana financing, 25 million of cash and our $200 million line that, you know, we'd like to use a little bit. So I think arguably we have $1 billion of capacity right now.

Okay. Thank you guys, very much.

Our next question comes from Mr. Anthony Paolone with J P Morgan Securities. Please go ahead with your question.

Hey guys, Joe Dazio here with Tony. Was there any significant FAS 141, 142 income from the Wells acquisition?

The answer is not really. If you look at our total portfolio, we actually have more above market leases than below market leases. So the impact in the six months was a negative, meaning a reduction in revenue and FFO of about $175,000.

Is there any, you know, potential G&A impact from the new regional offices that you guys are opening?

Really modest, I mean, we're talking about offices with a couple of people in them, so it's -- when you factor in the fact that personnel in other places are less expensive than New York in general, it really doesn't cost us that much more to have people out in the field, you know, than here.

Okay. And then on the Phoenix property, was that the one that was for sale initially and now you're talking about redevelopment? What's the thinking behind that?

We're sort of indifferent as to whether we sell to somebody who wants to invest in the site or whether we lease it or refurbish it for a tenant in connection with leasing. So we're working it all. I think our best prospect for repositioning the asset right now is with this tenant that we have a proposal out to. That would also, you know, if it's-- if a deal is made, it will involve us investing some money in the building.

And that -- the tenant you have lined up, I think you said was 150,000 square feet potentially.

Potentially. Not lined up. A proposal that's being, you know, sort of actively worked on by both sides.

And I'm sorry, how big was the 3 buildings in total? Is it 180?

Three buildings in total are 180.

Okay.

And if you were -- of the three buildings, the most reusable building is a three-story 100,000 square foot office, and the two other buildings are older single story that we had always thought would probably be taken down and with that part of the site either turned into additional parking or, you know another footprint that might support, say, a new two or three-story office building of 60 or 80,000 feet.

Okay, great. Thank you.

Thank you. And, gentlemen, there are no further questions at this time. Please continue.

Once again, thank you all for joining the call today, and we'll look forward to communicating our results to you over the balance of the year. Thank you.

Thank you. Ladies and gentlemen, this concludes the Lexington Corporate Properties Trust 2005 second quarter earnings conference call. You may now disconnect.