LXP Industrial Trust (LXP) 2017 Q1 法說會逐字稿

Good morning, and welcome to the Lexington Realty Trust First Quarter 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded. I would now like to turn the conference over to Ms. Heather Gentry, Investor Relations. Please go ahead.

Thank you, operator. Welcome to the Lexington Realty Trust First Quarter 2017 Conference Call. The earnings release was distributed this morning, and both the release and supplemental disclosure package that detail this quarter's results are available on our website at www.lxp.com in the Investors section and will be furnished to the SEC on a Form 8-K.

Certain statements made during this conference call regarding future events and expected results may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Lexington believes that these statements are based on reasonable assumptions. However, certain factors and risks, including those included in today's earnings press release and those described in reports that Lexington files with the SEC from time to time, could cause Lexington's actual results to differ materially from those expressed or implied by such statements. Except as required by law, Lexington does not undertake a duty to update any forward-looking statements.

In the earnings press release and supplemental disclosure package, Lexington has reconciled all non-GAAP financial measures to the most directly comparable GAAP measure. Any references in these documents to adjusted company FFO refer to adjusted company funds from operations available to all equity holders and unitholders on a fully diluted basis. Operating performance measures of an individual investment are not intended to be viewed as presenting a numerical measure of Lexington's historical or future financial performance, financial position or cash flows. Joining me on today's call to discuss Lexington's first quarter 2017 results are Will Eglin, Chief Executive Officer; Pat Carroll, Chief Financial Officer; and other executive members of management. I will now turn the call over to Will.

Thanks, Heather, and good morning, everyone. Welcome to our First Quarter 2017 Earnings Call and webcast. Our first quarter was fairly active, particularly on the disposition front with the bulk of disposition and acquisition activity occurring in the first 2 months of the year. We generated net income of $0.17 per diluted common share and adjusted company FFO of $0.23 per diluted common share for the quarter. Leasing volume was relatively light given our proactive work last year on 2017 lease expirations and our expectation that much of our vacancy will be resolved through dispositions we are currently working on.

I believe our balance sheet is in the best shape it has ever been in with leverage at 4.9x net debt to adjusted EBITDA and a weighted average debt maturity of 8 years. With our balance sheet flexibility and cash on hand, we are well positioned to fund our investment commitments and to take advantage of new opportunities.

Disposition volume was heavy in the first quarter as we completed nearly $100 million of our announced 2017 property disposition plan. This included $93 million of wholly-owned assets sold at GAAP and cash cap rates of 9.1% and 9.4% respectively with the balance from a nonconsolidated property. Our continued focus is on portfolio simplification through the sale of vacancy, certain short-term leased office properties and assets we consider to be noncore to our business.

All 8 properties we sold during the quarter fell into 1 of these 3 categories. We further simplified the portfolio during the quarter through the sale of our Kennewick, Washington, mortgage loan for approximately $80 million, which generated an attractive return and considerably reduced our loan portfolio. While there is still work to be done, we have made meaningful improvements to our portfolio and are moving towards a better revenue balance between single-tenant office and industrial assets with less of our revenue coming from multi-tenant and other property types.

Turning to investments. During the quarter, we invested approximately $18 million in ongoing build-to-suit projects and completed the last building in our Dow Chemical office build-to-suit in Lake Jackson, Texas, for $70 million. Notable purchases included the acquisition of 2 industrial assets totaling 1.2 million square feet during the quarter for approximately $48 million, both of which we talked about on our fourth quarter earnings call. As a reminder, this included a distribution facility in a submarket of Kansas City, Kansas, leased to Amazon for 10 years and a distribution facility in a submarket of Indianapolis leased for 7 years to Continental Tire. We currently have investment commitments of approximately $205 million at average GAAP and cash cap rate of 8.5% and 7.4% respectively and a large pipeline of industrial and office opportunities under review. Subsequent to quarter end, rent commenced on our 2 build-to-suit projects in Charlotte, North Carolina and Opelika, Alabama. Both projects are expected to be completed in the second quarter of 2017.

Investment product is plentiful, however, there has been little change in pricing due to steady investor demand, particularly in the industrial sector supported by aggressive lending and a rally in the treasury market. High quality industrial facilities located in secondary markets remain our primary acquisition focus. And while we are mindful of the competitive bidding environment, we are finding attractive opportunities mainly in the 7- to 10-year leased industrial purchase market. The majority of higher-yielding investments we are evaluating are in the 15- to 20-year leased build-to-suit market, including both office and industrial properties. Our intent is to still be a net acquirer in 2017, although this will be largely dependent on market conditions and pricing.

Moving on to occupancy. We leased approximately 207,000 square feet and sold 363,000 square feet of vacancy during the first quarter. Renewals on GAAP and cash rents increased approximately 2.4% and 3.1% respectively. Occupancy edged up slightly to 96.2% at quarter end compared to the fourth quarter of 2016. And our weighted average lease term was 8.8 years at quarter end. Current negotiations that are close to completion represent 35% of our expiring 2017 revenue, including extensions with both Arrow Electronics and New Cingular, which comprise approximately 200,000 square feet.

During the quarter, we signed 5-year lease extensions for an aggregate 46,000 square feet with Food Lion in both Staunton, Virginia and Lexington, North Carolina. Both of these properties are currently being marketed for sale. We also leased approximately 54,000 square feet or about 35% of our Houston, Texas, property in which Transocean was the previous tenant. Our other properties with move-outs this year in Fishers, Indiana, Des Moines, Iowa, and High Point, North Carolina are all being marketed for sale or lease. We are encouraged by our sale and leasing prospects for these and other vacancies with continued progress expected in the coming months.

Overall, vacant square footage to lease or sell represented approximately 4% of the overall portfolio at quarter end. And we expect to resolve more of this vacancy through dispositions compared to re-tenanting. Overall our tenant credit quality improved considerably in the past year with investment-grade tenancy accounting for 39% of our revenue in the first quarter compared to 32% this same time last year. Given recent news and what we believe will be continuing problems in the retail sector, I want to briefly touch on our retail exposure.

Retail is a very small component of our overall portfolio and continues to shrink, representing just about 1% of our current net operating income. We have minimal exposure to Gander Mountain, who filed for bankruptcy during the quarter and intends to close 32 of their stores. We currently own a 46,000 square foot space in Albany, Georgia, and 25% of a joint venture that owns a 120,000 square foot property in Palm Beach Gardens, Florida, neither of which are on Gander's list of announced store closings. Together they generate $1.3 million in annual funds from operations, which is about $0.005 per share. While we cannot be certain of the final outcome, the impact is not expected to be material to our operations. And an acquirer of Gander would most likely want to continue to operate these stores, although a rent concession should be expected.

In summary, during the quarter, we completed approximately 1/3 of our announced property disposition plan and close to 1/2 when including the loans receivable. Our heavy disposition volume and cash position weighed on first quarter earnings, although I believe this pressure should ease over the rest of the year as new investments come online, capital is deployed and vacancy is addressed. We are maintaining our 2017 adjusted company FFO guidance in the range of $0.94 to $0.98 per diluted common share. Investment activity for the balance of the year will be focused primarily on industrial purchases and build-to-suits. And we are reviewing some office build-to-suit investments, although activity in the office sector is slow compared to industrial.

We believe a solid and growing investment pipeline, combined with a strong cash position and available credit if needed, positions us well as we seek to build our portfolio. As I mentioned earlier, we have done quite a bit of work to improve the balance sheet and overall quality of our portfolio. As we look ahead to the next 12 to 24 months, we expect our portfolio transformation will be complete as our concentrated period of elevated office lease rollover will end by mid 2019. The multiyear disposition program should be substantially completed this year with a relatively modest amount left to sell. And new assets will continue to be added to the portfolio over this same time period. These factors taken together should meaningfully improve our prospects for long-term growth and a better valuation.

With that, I will turn the call over to Pat, who will review our financial results in more detail.

Thanks, Will. Good morning, everyone. Gross revenues in the first quarter were $96 million compared with gross revenues of $111 million for the same time period in 2016. The year-over-year change is primarily attributable to 2016 and 2017 property sales, particularly the New York City land investments that we sold in 2016, offset by acquisitions and new leases.

Net income attributable to common shareholders for the first quarter was $0.17 per diluted common share or $40 million compared to net income attributable to common shareholders of $0.20 per diluted common share or $48 million for the same time period in 2016. We recognized $34 million of gains during the quarter related to property sales and $8 million of impairment charges, which were primarily related to a $5.3 million loan loss on the sale of our Kennewick mortgage receivable.

As Will mentioned earlier, the loan was sold for approximately $80 million and generated an IRR in excess of 7% at Lexington during the 3-year plus hold period. Our 2017 guidance for net income attributable to common shareholders is now expected to be within a range of $0.57 to $0.61 per fully diluted common share. Adjusted company FFO for the quarter was approximately $58 million or $0.23 per diluted common share compared to $72 million or $0.29 per diluted common share for the same time period in 2016. The decrease was a result of 2016 and 2017 property sales, particularly the New York City land investments.

GAAP rents were in excess of cash rents for the first quarter by almost $2 million. This relates primarily to the straight-lining of tenant rents. On Page 19 of the supplement we have included both estimates of GAAP and cash rents for the remainder of 2017 and '18 for leases in place at March 31, 2017. This does not assume any tenant re-leasing of vacant space, tenant lease extensions on property with scheduled lease expirations, property sales or property acquisitions.

Same-store net operating income was $72 million for the quarter compared to $74 million for the same time period in 2016. And same-store percentage lease was 95.7% for the quarter compared to 98.1% for the same time period in 2016. These decreases are mostly the result of 3 2016 and 2 2017 office move-outs and a tenant liquidation in Rock Hill, South Carolina. Our expectation is that much of this vacancy will be addressed this year through sales.

Property operating expenses for the first quarter were in line at $12 million compared to the same time period in 2016. G&A expenses were $9.5 million for the first quarter. The increase compared to the first quarter of 2016 is primarily attributable to $400,000 in costs relating to the collection of a loan receivable and $1 million in costs associated with the guarantee claim by a mortgage lender. Please note that we do not add back these costs to net income when calculating adjusted company FFO. We expect G&A to be approximately $24 million to $25 million in the aggregate over the next 3 quarters.

Now I'll talk about the balance sheet. We have taken strides to improve our balance sheet and the work has paid off. At the end of the first quarter, we had $241 million of cash on the balance sheet, including cash classified as restricted. The cash balance is primarily a result of the timing of property sales while the restricted cash balance primarily relates to money held by 1031 exchange intermediaries and lender escrows including to fund the closeout cost of the Dow Chemical build-to-suit project. Our intent is to utilize the cash to fund current investment commitments and new investments.

We had $1.9 billion of consolidated debt outstanding at the end of the first quarter, which had a weighted average interest rate of 4.1% of which most is currently at fixed rates, including debt covered currently by interest rate swap agreements. Our $129.1 million of 6.8% trust preferred securities converted on May 1 to an attractive rate of 3-month LIBOR plus a 170 basis points, which is currently 2.87% and is expected to reduce our annual debt service by approximately $5 million based on this rate.

Fixed charge coverage at the end of the quarter was approximately 2.7x and leverage for the first quarter decreased further to 4.9x, net debt to adjusted EBITDA compared to 5.2x at the end of the fourth quarter of 2016. As of March 31, 2017, we have approximately $63 million of nonrecourse balloon mortgage payments with an average interest rate of 6% coming due in 2017, of which $22 million represents mortgages currently in default. We retired $19 million of secured debt subsequent to the first quarter. And our unencumbered asset base was approximately $3.2 billion representing approximately 72% of our NOI as of March 31, 2017, giving us significant financial flexibility. With the exception of a $4.6 million letter of credit to secure our obligation to purchase a new industrial commitment, we have no other borrowings outstanding on our $400 million revolving credit facility. We have paid approximately $3.4 million in lease cost and tenant improvements during the quarter. Our TIs and leasing budget for 2017 could be up to $26 million depending on leasing and re-leasing volume.

Now I'll turn the call back over to Will.

Thanks, Pat. Operator, I have no further comments at this time. So we are ready for you to conduct the question-and-answer portion of the call.

(Operator Instructions) The first question comes from Craig Mailman of KeyBanc Capital Markets.

Hey guys I have Laura Dickson on the phone with me also. Will, I know you guys affirmed your net acquisition guidance for the year. But your commentary seemed like maybe on the margin, you're less confident that this could happen because the environment is holding up so well? Is it kind of a fair way to look at it?

Well, right now our outlook for volume in total on new investment activity is about $300 million. I think it will slowly increase over the balance of the year. So we are optimistic that we'll be able to find additional opportunity both in purchase a big box warehouse and some new build-to-suit activity. But it is competitive. And we believe there's value in being patient and taking our time. And we are in a very strong position from a balance sheet standpoint and from a liquidity standpoint. So we're not going to rush to change that position, which is a very, very good position to be in.

That's helpful. I know over the years you guys have been trying to bring out your average lease term, but some of the acquisitions in the industrial space, you're looking at more 7 to 10. When your -- how do you guys evaluate kind of -- or how much more important is the real estate now when you're looking at industrial leases that could roll within 7 years versus a build-to-suit at 15-plus years from a pricing perspective? And how much mix you kind of want in there?

Very important, Craig. You know the shorter lease industrial -- right, all of the real estate attributes are much more important. What we're trying to do from a big picture standpoint is we didn't want to keep extending our weighted average lease term overall in the company to longer than 9 years and hopefully 10 years. So it may seem like adding some shorter lease industrial is contrary to that strategy. But the other thing that we want to do is if we look at our rollover profile on our leases that are shorter than 10 years, right now we still have about $2 of office revenue for every $1 of industrial. And we want to change the lease rollover profile of the company so it's at least as much about industrial as office. Right now, we have over 10 years of weighted average lease term in the industrial portfolio. And we have about 7.6 years in, in office. So we can tolerate a little bit shorter term overall in industrial as we keep working on extending the weighted average lease term in the portfolio active to be as long as we have elsewhere in the portfolio.

Great. I think Laura has a question.

Just wanted to a follow up on the Arrow Electronics and New Cingular extensions. Was wondering if you could give any detail on the mark-to-market and the term on those leases?

In the case of Arrow, rents have been coming down modestly when factoring in the TI investment and everything else. There we're getting -- I think we have a good chance of getting 18.50 in that rent, which is we think a very good outcome here. How much term years?

For 15 years.

A 15 year extension is what we expect. New Cingular, we think, will be a 5-year renewal with rents increasing modestly.

The next question comes from Sheila McGrath of Evercore ISI.

I was wondering if you could give us your CapEx outlook for this year in terms of TI. And how that metric looks over the next couple of years' book -- with the increasing industrial exposure?

Well for the remainder -- for 2017, we think that the TIs and leasing commissions could be up to $26 million. Really just dependent upon how much re-leasing there is. As the portfolio has less and less rollover obviously, those numbers we would expect to come down.

And then, Will, I think you highlighted much more focus on industrial. How do you think your portfolio will look in terms of single-tenant, long-term office leases, industrial and the shorter term leases by year-end? And then what is the long-term goal for that mix over time?

Well the revenue mix is shifting steadily towards a balance of office and industrial. Right now it's, I think, 52% or so office and 41% or so industrial. We want to move that to a balanced position. And we want to keep shrinking that small stub portfolio of retail properties and multi-tenanted vacancy. So where we're heading to in the short term is try to have right balance between single-tenant office and single-tenant industrial. Fewer and fewer retail and multi-tenanted buildings and assets that are in transition. And we'd like to have as much office and industrial -- a balance of rollover both in the shorter lease portfolio which we define as 10 years or less, and the longer lease portfolio.

We are more likely to sell -- if we an office building on a long-term lease that reaches a point where there is 10 years of lease term left, we are more likely to sell that building than to sell an industrial property. And that's another way that, that shorter lease portfolio is going to continue to change and evolve towards being more about industrial than office. So I think we'll make significant progress in the next few quarters towards those goals. And when we reach that balance -- at this point it's probably more likely that the mix shifts even further in favor of industrial, [fits] the preponderance of things that we're looking at in the forward pipeline are in the industrial area.

The next question comes from John Guinee of Stifel.

John Guinee here. Just, Pat, to clarify a little bit the question Sheila asked. $26 million for 2017 of re-leasing costs. How much of that was spent in the first quarter? And then how much of that is -- could not occur if you decide to sell the vacancy versus -- or are fortunate enough to lease up the vacancy?

Well, I'll answer the first part. The first quarter, we spent about $1.8 million in TIs and about $1.7 million in lease cost. As it relates to the breakdown, a large portion of it could be in properties that we potentially could sell. We don't give guidance on the break out of that, John. But the model that we've given, the $26 million that we've given assumes the money that we spend on re-leasing during the year, including properties that we sell.

Okay. And then you signed a couple of 5-year lease extensions, Will, and for Food Lion. What does a 23,000 square-foot Food Lion with a 5-year lease -- what kind of proceeds do you get on a sale for something like that? Does that sell at a 7 cap or a 17 cap? I've no idea.

Right, it doesn't sell at a 7 cap. It sells at something above that. And when we have them under contract to sell, we'll let you know what the outcome is.

Is it double digit?

Time will tell.

I mean it's immaterial, it's only 46,000 square feet. You can whisper if you want to. And then, the last question, Aaron, (inaudible) pointed out that it looks like you bought the Amazon building at a really low price per pound. But then when you add -- you capitalize the ground lease at a 6% cap and you put in the 2.3 million square feet for future tenant allowances, you get up to about $36 -- I'm sorry, $39 a foot. Is it a 7.1% GAAP yield and a 6% cash yield on the total basis including the re-leasing cost but excluding the ground lease?

The ground lease -- we deduct the ground lease expense to calculate those numbers.

Got you. How about the TIs? Are the TIs -- is the 7.1% 6% GAAP and cap yield -- cash yield on a $12 million basis or a $14.3 million basis?

$14.4 million, that's the total price including the -- I think it was $2.3 million of potential TIs.

And just out of curiosity, is it a recent build or is this a building that's been around a while? And what does someone do with $2.3 million? Is it for the base building? Is it for FF&E?

It's an existing second-generation building. So it was for the base building improvements to bring it up to the Amazon.

The next question comes from Gene Nusinzon of JPMorgan.

On just deal flow economics, have you guys seen any shift in pricing in the private market since last quarter?

None to speak of, Gene.

And on your earlier $250 million to $300 million of dispositions planned for 2017, do you think that number's still doable?

Yes, for sure. It's early in the year. And if you count the loan sales, obviously, we've done close to $188 million. The loan sales weren't included in our $250 million to $300 million of property dispositions. But we're going to stay active through the balance of the year.

Got you. So you're saying the loan sales will now fall into that $250 million to $300 million guide?

No, over and above, Gene. If you look at the -- if you count the loan sales in there, you should be thinking in the context of $250 million plus the loan sales as the bottom range.

Got it. And what's the liquidity like for just vacant office buildings now?

To be honest, we're finding it better to be a seller right now for some of that stuff compared to a year ago. It varies greatly by market and property type. But I'm optimistic that we can make some good sales of vacancy this year as opposed to holding the assets for leasing and incurring all the capital costs.

All right. And are the -- I guess, are the buyers redeveloping these properties? Is it just land value and is it mostly just private equity that's on the other side?

It's a mix. I would say most of it's being bought for redevelopment. But we're also seeing more user interest for both industrial and office. And where we can make that sale typically the value's probably double compared to selling it to an investor buyer.

Got it. And then final question, just housekeeping. What was the GAAP lease termination income in the quarter?

Hold on. Hold on one second. Let me look that up.

You're asking for the GAAP number or the cash number, or both?

The GAAP number.

The GAAP number for the quarter was $1,928,000.

The next question comes from Bill Segal of Development Association.

I was just curious, have you seen the need for absorption of office space begin to diminish at a quicker rate across all segments and geographic regions than you might have even thought just a couple of years ago?

I wouldn't say -- no, I don't think so. Anything to want to add to that, Dick?

No, I think many markets are continuing to grow.

So the need for office space is continuing to grow in many of the markets that you're in?

Yes.

The next question is a follow-up from Sheila McGrath of Evercore.

Will, it seems like a lot of your competitors are also -- or peers-- in that lease are also focused in on industrial. I was wondering if you could talk to us about the competitive environment on acquiring industrial. Is it heated up a lot more in recent quarters?

It's been pretty steady for a while, Sheila. I suppose the good news is there is -- just from a new transaction standpoint, there's a lot going on in the e-commerce area. So there is a lot of transaction activity that we're seeing. We won't win all the business we look at, but we'll win enough of it. It is competitive and it's a highly desirable asset type compared to single-tenant retail or single-tenant office. So it is competitive, but we have excellent relationships in the build-to-suit area with merchant builders that we've done lots of business with over the years. And we think that, that gives us a competitive advantage -- in many cases a last look at a transaction. So we'll get our fair share.

So do you think that the bulk of the industrial volume will still be in forward build-to-suit market rather than just buying existing buildings?

No. It's -- I think it's shifted more toward a balance between the 2. And the truth is, for good bulk distribution and warehouse, if we wanted to try to originate that and build-to-suit and insist on 15 and 20-year leases, we wouldn't be able to buy any of it right now. So that market has shifted, and our acquisition postures had to shift with that as well.

The next question comes from Jon Petersen of Jefferies.

Just 1 question for me. So the weighted average remaining lease term in your portfolio is 8.8 years. It's up a little bit from last quarter, it's down from a year ago, which I know is from the land sale. Do you guys have a number pro forma if you were to take the land out what your weighted average remaining lease term was about a year ago. I'm just trying to figure out how much has changed with all the noncore dispositions you've done?

Yes. I don't have that right in front of me. We can get it to you. I just don't know. We based it upon a 20-year life to the first purchase option. But I couldn't tell you right off the top of my head what it was pro forma -- on a pro forma basis as if we didn't on at that point in time.

Okay, all right. We can follow-up off-line.

The next question comes from Joshua Dennerlein of Bank of America Merrill Lynch.

First a follow-up on Sheila's question. When you guys are competing for acquisitions or build-to-suit in industrial space, who are your competitors? You're coming again -- up against Stag, GPT, W. P. Carey. I'm just kind of curious.

It varies. We don't compete with Stag very much. I think we've always run into W. P. Carey for sure. We run into vREIT and we run into GPT in the public space. I think those at all active participants in our market.

And this concludes our question-and-answer session. I would now like to turn the conference back over to Will Eglin for any closing remarks.

This is Pat Carroll. Just to follow up on the question about what the pro forma life would be if we didn't have the hotels -- the land investments last year was 8.5 years. So that answers that question.

Excellent. Well, it doesn't look like that there are any more questions. But once again, thanks again for joining us this morning. If you have any questions, please don't hesitate to reach out to me or any member of our senior management team. Thanks again.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect your lines. Have a great day.