LXP Industrial Trust (LXP) 2005 Q3 法說會逐字稿

Good morning, ladies and gentlemen. [OPERATOR INSTRUCTIONS]. I would now like to turn the conference over to miss Claire Conneman with Financial Relations Board. Please go ahead, ma'am.

Hi. Thank you. Hello, everyone. Welcome to Lexington's call. The press release and supplemental disclosure package were distributed this morning, as well as furnished on Form 8-K to provide access to the widest possible audience . In the supplemental disclosure package, the Company has reconciled all non-GAAP financial measures to the most directly comparable GAAP measures in accordance with Reg G requirements. If you do not receive a copy, these documents are available on Lexington's website at www.lxp.com in the Investor Relations section. Additionally, we're hosting a live webcast of today's call which you can access in that same section.

At this time, management would like me to inform you that certain statements made during this call which are not historical may constitute forward-looking statements within 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 its expectations will be attained. Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements are detailed in the press release and from time to time in the Company's filings with the SEC.

Having gone over all of that, I would like to welcome management. With us today we have Robert Roskind, Chairman of the Board; Will Eglin, Chief Executive Officer and President; Dick Rouse, Chief Investment Officer; and Pat Carol, Chief Financial Officer. Without further adieu, I'll turn the line over to Will for his opening remarks.

Thank you, Claire, and thanks to everyone for attending our third quarter conference call today. Today, Lexington announced funds from operations of $0.49 per share compared to $0.44 per share in the third quarter last year. We had some one-time items in both quarters. In the third quarter of 2005, we had a debt satisfaction charge of about $650,000 relating to the sale of a property held in a joint venture, and we also had a impairment charge of about $200,000 relating to our vacant property in Mansfield, Ohio, that we are in the process of selling. Normalized number of $0.50 per share represented and 11.1% growth rate compared to the normalized third quarter number last year. This is a fine result, and our growth in FFO per share was driven primarily by investment activity completed over the last year.

In the third quarter we acquired an aggregate of $85.1 million of property at a weighted average GAAP yield of approximately 7.7%, and at the same time we obtained $105.6 million of permanent, non-recourse mortgage financing at a weighted average fixed rate of 5.2%, so spreads were reasonably attractive during the quarter given how competitive the acquisition environment is. That's good news, but we now find ourselves in a market that has become even more difficult to invest in, and as of today our fourth quarter pipeline is just $82 million, and most of that is expected to close late in the quarter with minimal impact. As we said in our press release today, pricing is so extreme that acquisition activity should and will slow down, and we expect to be a much more active seller of properties at this point in the cycle. This will have a dampening effects on our funds from operations per share, but we believe that it's far preferable to overpaying for properties just for the sake of near-term earnings growth.

Other transaction activity in the third quarter included the sale of our properties in Wilsonville, Oregon, leased to Hollywood Entertainment, and a property in Herndon, Virginia, leased to NEC America, both of which were sold at significant gains. We're also pleased to sign six new leases, which included occupancy gains in our Memphis, Tennessee property and our Phoenix, Arizona property, where Bill Information Systems is our main tenant. We also completed the expansion of two of our properties, one in Chester, South Carolina, leased to Owens Corning, and one in Dillon, South Carolina, leased to Harbor Freight Tool Company. Today we posted our supplemental disclosure package to our website and we encourage you to review it in detail. We added some improvements based on the comments we received in the shareholder perception study that we completed over the summer.

Looking at the quarter, specifically, the Company had gross revenues of $56.2 million, which included $1 million of fee income. That was down significantly from last quarter due to reduced acquisition volume. But, nevertheless, fees offset 24% of our G&A, and overall this year fees have offset about 32% of our general and administrative expenses. During the quarter our G&A was up 4.4% compared to last year, which we view as a very modest year-over-year increase. One-time items in the quarter included a prepayment penalty from selling the NEC America property that we held in a joint venture and also the small impairment charge. Netting out those items, $0.50 per share of FFO we view as being highly satisfactory, especially since we ran the company with cash on the balance sheet cash for much of the quarter. [Inaudible] coverage was about 2.5 times, which continues to be a very comfortable level for the Company.

Looking at balance sheet at quarter end, balance sheet continues to be in very good shape. At quarter end we had $1.2 billion of debt outstanding which had a weighted average interest rate of 5.25%, and 99% of our debt is fixed rate. We continue 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 $61.1 million of cash at quarter end and nothing outstanding on our $200 million unsecured bank line. Our cash balances are due to properties sales, mortgage financings, and a $2.5 million share common equity offering completed in July of $25.19 per share. Our balance sheet debt was about 43% of total capitalization, and as we have said previously, we are comfortable with leverage of 45 to 50% and we intend to run the company this way. That is consistent with our historical levels and very appropriate for our asset type. And including our proportionate share of joint ventured debt, our leverage is about 48.5% of enterprise value.

The issue is not whether we can add leverage to the balance sheet; the issue is really finding good investments. Today we still have substantial investment activity in our joint ventures, and we expect we will focus mainly on joint venture opportunities at this point in the cycle due to the increase in our cost of capital, and this, of course, includes a heavy focus on investing the capital recently raised by Lexington Strategic Asset Corp. And if you'll recall on our call last quarter, we mentioned that one of our strategic objectives was to form a platform to invest in the high yield part of our business, which we consider to be properties leased to lower grade credits and also some special purpose real estate. And in October we formed Lexington Strategic Asset Corp.

We contributed three properties that we acquired in the Wells transaction in exchange for $33 million of equity in the new entity, and we raised $67 million from third-party investors. In Lexington Strategic, we are going to target leverage of 70%, so that platform will have about $300 million of buying power; very attractive to Lexington because it is very good fee structure where our asset management fee is one and three-quarters of equity on an annual basis. Based on our initial capital raised, that's about $1.2 million an year. And in addition, we have a incentive fee equal to 25% above a 9% FFO yield.

And one of the advantages of Lexington Strategic is that it's a perpetual life entity, where other joint ventures are not. One of the important decisions in structuring Lexington Strategic is that we did it as a C corporation for several reasons. One, between the target leverage of 70% and the accelerated depreciation, we we will have little or no taxation at the corporate level. So inside Lexington Strategic we get all the flex flexibility of a C corp without having the current taxation. We believe that's a great structure due to the ability to take advantage of leverage opportunities in the market today, retaining cash flow to generate growth, and also take advantage of opportunities to sell properties quickly, regardless of their holding platform. So we're very excited about this part of our business. We think this is a good platform for us to grow and take advantage of opportunities that are in our acquisition pipeline outside of what we would consider our core business where pricing has become so competitive.

Overall, in the acquisition front, we would characterize it as a good quarter but in a tough environment and, overall, the year, we think, has been great with over $1 billion of property acquired, and we are earning an FFO yield of about 15.9% on the equity that we've inch invested this year. Four acquisitions during the quarter total about $85.1 million of purchase price at at a GAAP cap rate of 7.7%, but, as I said, we find ourselves now, in most cases, unwilling to pay the prices that others seem willing to pay, one exception being the market that we're targeting for Lexington Strategic. Overall, we feel like it's better to be patient and keep our powder dry compared to acquiring properties at today's yields, and our pipeline, which consists of about $82 million, hopefully all of which will close in fourth quarter, but, again, that's about the lowest our forward few months pipeline has been in about two and a half years. But, again, we believe it's much better to be cautious than aggressive at this point in the cycle given where valuations are.

On the asset management front, we were pleased with the progress we're making on leasing. We signed two new leases during the quarter; one for about 15,000 square feet in one of our Phoenix properties, the other for 75,000 square feet in Memphis, Tennessee. We also extended four leases with existing tenants. The two dispositions were very good ones with the properties leased to NEC America and Hollywood Entertainment, and we are committed to more disposition activity given the current valuation environment. If conditions stay like this with compressed cap rates, we expect to expose up to $200 million of none-core properties to the market over the next year.

Reviewing some positive things that have happened since the Wells acquisition, in that portfolio we've had an land sale for $750,000; we also have another land sale under contract for $2.5 million; two potential dispositions at prices well above what we paid; one significant tenant credit upgrade and one sublease on a building that we bought which was vacant but subject to an lease. And we also contributed three properties to Lexington Strategic, where we are getting an return on equity that's higher due to the fee income and reducing our risk by going from 100% ownership to minority ownership.

Overall, in the portfolio we are 97.7% leased. We still have a number of vacancies that we're working on. In Memphis we are down to 30,000 feet vacant there; 30,000 feet vacant out of 140,000 square feet. Our [Bow] facility in Phoenix, now our vacancy is 53,000 feet after we signed a lease for 50,000 feet this quarter. Our Hebron, Kentucky facility still has 60,000 feet empty. Our biggest challenge continues to be in Phoenix, where we've been frustrated by our inability to lease the former Bank One facilities, which is three buildings totaling 180,000 square feet. We do have two potential users but nothing firm, and this is a property that, as we've said before, needs a significant inch investment to reposition. In Dallas we have the 250,000 square feet vacant at the former [Bar Tech] facility. We've had good traffic in the building but nothing close to being signed up, and Dallas continues to be a market that suffers from high vacancy.

In Mansfield, Ohio we have 296,000 square feet vacant and an industrial building that we're in the process of selling, and that's the property that we had the impairment charge on this quarter. And looking forward, we have two certain upcoming vacancies, one in Milpitas, California that we've discussed frequently, which is 100,000 square feet that comes off lease this December. And we have a certain vacancy in Auburn Hills next year in a property that's leased to Lear, and both will be challenging leasing situations for us due to marketing conditions in both places. So, overall, I think we're make good progress, but for the most part conditions remain tough in the markets that we have significant vacancy in.

On the tenant-credit side, we have four tenants in bankruptcy: Federal Mobile, Allied Holdings, Power Automotive, and Owens Corning. All are paying their rents currently, although we expect that Allied will want to reduce occupancy in their property. It's a very good building in very good sub-market in Decatur, Georgia, that's already partly sublet. So in summary, this was a solid quarter for Lexington with good FFO growth . We feel like our stock offering in July was well timed in view of the broad market sell-off since then and especially in October. The obvious conclusion right now to us is that there's a huge disconnect between public and private valuations of real estate. With our own shares trading at a fairly significant discount than net asset value, we believe very strongly that the right strategy right now is to be a more active seller of assets in order to take advantage of great valuations and realize capital gains.

And we can't say with certainty at this time how long these conditions will exist or potentially what impact will have on our FFO per share in 2006, but we view our business as being one where we are focused on generating very good total returns for shareholders and real estate is a cyclical business which requires that profits be taken periodically. Our business model over the last four years has worked very well, and it's consisted of selling stock at a premium to net asset value and buying assets at par, and enhancing our returns on equity by investing in joint ventures. Market conditions have clearly changed with the decline in our share price since July and continued cap rate compression, and these developments require that we change our strategy accordingly.

Operator, that ends my opening remarks and I'll turn it over to you for Q&A.

[OPERATOR INSTRUCTIONS] Our first question comes from Mr. Steve Swett with Wachovia. Please go ahead with your question.

Hey, Will.

Hey, Steve.

First a question on your -- the thoughts around the equity offering in July. In the past, one of the reasons you have given for timing your equity offerings is a visible pipeline, and now it sounds like the pipeline has changed quite a bit. What's changed out there? Is it that your yield hurdles have changed and the seller's haven't, or are you just seeing greater competition from alternative buyers.

Greater competition from alternative buyers.

In the past when you've seen rates rise, I think you've said that some of the alternative buyers have seen their own costs rise. So this sounds a little bit different.

You know, we're just seeing -- look, on a mortgage right now at 5.75 interest, 30-year schedule, the constant is about 7. We're seeing numerous cases where these properties are trading at sub 7, and that just doesn't have the cash flow dynamic that's been sufficient for us to be excited. I'm happy with what we did in third quarter; a spread of 250 or better over where we borrow is about -- that's kind of the low end of the range for us. I thought that we would probably do more business in third quarter than we actually did, but we continue to kick out about 25% of deals that we get under letter of intent; about a quarter of them continue to die in due diligence.

So while we've been -- obviously, we've grown a lot over the last couple of years and we've been very active, we've stayed disciplined, and we've continued to kill deals in due diligence. And return on equity and return expectations have just been -- just fallen dramatically in the last few months. [Inaudible].

With 60 million-plus on the balance sheet, you've got a pipeline for the fourth quarter that's mostly JV, it sounds like. What do you think the timing is for getting that cash fully deployed?

Sometime in the first quarter at this point.

And if you're ramping up to, say, $200 million in sales and the market stays as competitive, if you're in a position of having the opportunity to sell more than you can redeploy into acquisitions, would you consider that?

If conditions stay like this, with cap rates exactly where they are and incredibly blow, then, yes, disposition activity in our core business could exceed acquisition activity; that's certain.

All right.

So in business where we're investing in Lexington Strategic, where the market is less efficient and it is higher yielding but there's more credit risk and more special-use assets, we could continue to be quite active there. But in our core business, which are loosely defined as general purpose offices of industrial properties leased to BB or better credits, we could very well see disposition activity that exceeds acquisition activity.

Does your share price intrigue you with the opportunity to repurchase your own shares?

You know, we have repurchased shares in the past and we have a existing repurchase authorization right now. And that is certainly one way of returning capital to shareholders and having shareholders, I think ,get the benefit of property sales at prices that in a net asset value basis are well above the share price today.

Last question on the yields in Lexington Strategic. Where would yields on acquisitions be in that program versus your program with a higher credit tenant?

Lexington Strategic is investing at going in cap rates in the mid-8's right now, and where the rest of our business is clearly sub 7.5, and with investment grade long-term leases of sub 7 in every case.

Thanks.

Thank you. [OPERATOR INSTRUCTIONS]. Our next question comes from Mr. Art Havener with A.G. Edwards. Please go ahead with your question.

Good afternoon.

Hi, Art.

Can you break apart the intangible assets on your balance sheet?

Almost all of it, Art, is the intangibles that are required to be allocated for the purchase price of real estate, so customer relationships and along those lines. Above or below market lease are not as significant in our assets. It is just the allocation of the difference between our purchase price and what the property would have been valued at as if the property were dark. So it is just related to the acquisition of real estate.

Okay. Is it fair to say that a lot of it's good will with the Wells acquisition?

Well, I wouldn't call it good will, but it's the valuation of customer relationships and the in-place leases. You didn't spend money on leasing commissions, down time, et cetera.

Okay. Did I miss -- is the straight line rent included in your supplemental?

It's in the meat of it. It's of the property by cash and by rent, by GAAP rent we show it. But if you look at it for the third quarter, it was a couple of hundred thousand dollars GAAP rent in excess of cash rent.

Okay. Is that a good run rate now that the Wells is behind us?

I would say the run rate for the difference between GAAP and cash rents on a annual basis for the next couple of years will be about $2.1 million, and then it will drop off, on a constant basis, consistent basis, it will drop off in '07 down to about 700,000.

Okay. Thank you very much.

Thank you. Our next question comes from [Mr. Steve Tab with Tocqueville]. Please go ahead with your question.

Hi. I'm an little confused. You say that you sold properties for $6.8 million in excess of book value. That would be a gain, wouldn't it?

But some of it was in a joint venture, Steve.

Oh.

So that number, the gain on that gets calculated through equity and earnings in joint ventures, and we only had a 1/3 interest in that partnership. That's the distinction.

All right.

And on the income statement, the gains you see at net of minority interests, to the extent that we sell them in one of our operating partnerships where Lexington has anywhere from 78% interest to a 99.8% interest.

Okay. And I noticed on the balance sheet the properties for sale, discontinued operations, they were up terrifically from the year end. That's part of your plan of selling out a certain properties?

That is correct.

I mean, is it due to the fact that their prices are high or a part of the Wells acquisition or what is it?

It's a function of prices.

Okay. Now, on your preferred shares and in relation to the operating partnership units, who has preference in liquidization? The preferred shares or the partnership operating unit? So are they on a par?

Preferred.

All right. That's all. Thank you very much.

Thanks, Steve.

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

Nothing further to add other than thanks again for tuning into the call today, and we'll look forward to communicating our progress to you next quarter. Thank you.

Thank you. Ladies and gentlemen, this concludes the Lexington Corporate Properties Trust third quarter 2005 conference call. If you would like to listen to today's conference you can either dial 1-800-405-2236 or 303-590-3000 and the pass code of 11040866 pound. Thank you, and you may now disconnect.