NNN REIT Inc (NNN) 2009 Q4 法說會逐字稿

Greetings and welcome to the National Retail Properties year end earnings conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Craig Macnab, CEO for National Retail Properties. Thank you. Mr. Macnab you may now begin.

Jackie, thank you very much and good morning and welcome to our 2009 year end earnings release call. On this call with me this morning is Kevin Habicht, our Chief Financial Officer, who will review details of our fourth quarter and our year end financial results, following my brief opening comments.

In 2009 we hit a milestone that we're very proud of, when for the 20th consecutive year we raised our cash dividend. This puts NNN in illustrious Company as there are only about 156 public companies that have consistently raised their dividend for 20 years.

As of the end of the year, our portfolio was 96.4% leased and again, this year, we have very limited lease rollover. By the way for those of you that keep track of this data, we've remained at least 96% leased for the last seven years.

At this time we currently own 1015 properties leased to over 200 different national or regional tenants in 44 states. Our tenants operate in over 30 different segments of the retail industry, which we feel provides us with very broad diversification. Finally, on average, these tenants are contractually obligated to pay us rent for the next 12 years.

In terms of acquisitions, 2009 was a quiet year for NNN as we acquired eight properties for $38.9 million at an average cap rate of 9.69%. Our disposition activity was also modest as we sold 11 properties for $21.9 million at about an 8% cap rate. For your information, the market for investment properties has recently improved such that Walgreens, which is the bell cow in our net leased retail sector, are again closing in the mid 7% range in better locations. This is obviously a far cry from the mid 6% cap rates that were prevalent at the top of the market but less than the 8% closing cap rates for Walgreens that we saw just a few months ago.

On the acquisition side, there have not been many opportunities that have passed through our rigorous underwriting process. At this time, we're of course focused on the ability of the tenant to pay the rent but we are also being disciplined in the price per square foot that we are willing to pay for our acquisitions. An example of this was that in the fourth quarter, our purchase of properties from a well known national restaurant operator were at a very small premium over what the land alone is worth. As you can imagine we like this type of risk reward and it's a great example of the type of opportunities that our team will uncover when capital is less plentiful than it has been.

We continue to be very selective as we evaluate acquisitions. However, our pipeline is looking a little better than it has been for the last several months and the quality of these acquisition opportunities remains attractive.

As we look at the future, I like the way we are positioned. Our portfolio is in good shape, our balance sheet is very strong, which will allow us to take advantage of the carefully underwritten acquisitions that we hope to make this year. Kevin?

Thanks, Craig. Let me start off by -- with our cautionary statements that we'll make certain statements that may be considered to be forward-looking statements under Federal Securities law. The Company's actual future results may differ significantly from the matters discussed in these forward-looking statements and we may not release revisions to those forward-looking statements to reflect changes after the statements were made. Factors and risks that could cause actual results to differ materially from expectations are disclosed from time-to-time in greater detail in the Company's filings with the SEC and in this morning's press release.

With that let me just -- a quick summary to start. First, FFO per share excluding just the noncash impairment was $0.36 for the fourth quarter and $1.65 for the year 2009, which was at the bottom of our 2009 FFO guidance range. Second, the 2010 FFO per share guidance range of $1.51 to $1.58 is unchanged. And third, as Craig alluded to, there's little activity in the fourth quarter but our occupancy is holding up well and the balance sheet's in great shape which positions us well to capture acquisition opportunities.

With that let me go into a few details. As indicated in the press release we reported fourth quarter 2009 FFO results, which again excluding just the noncash impairments, totaled $0.36 for the quarter and $1.65 for the year which was at the bottom of our $1.65 to $1.70 guidance range. We also reported a recurring FFO metric this quarter which not only eliminates the noncash impairment charges but also three other items. One, a $3.4 million gain on debt buyback. Secondly, a small $581,000 gain on sale of our TRS inventory property. And lastly, a $731,000 restructuring charge that we took in the first quarter related to downsizing in the first quarter 2009.

The recurring FFO per share for the year was $1.61 per share and $0.36 for the fourth quarter. A reconciliation of these amounts are on page six of the press release. Also on page six, we have as usual provided additional disclosure on other noncash income statement amounts which includes $1.476 million of noncash convertible debt. Interest expense during the fourth quarter and $5.8 million of that for the year. Incorporating these noncash amounts into the analysis produces recurring AFFO type of number of approximately $0.39 for the fourth quarter and $1.70 per share for the year which solidly covers our $1.50 per share annual dividend.

Many of the income statement line items are very consistent with the prior quarter, as you'll note, and consistent with expectations, so I'm not going to go through them in great detail. Occupancy, as Craig said, was 96.4% up 10 basis points from prior quarter levels. And the fundamentals of our portfolio in the Company are performing well, particularly in light of the economic environment.

Some comments on the impairment charges taken during the fourth quarter. As the markets began to stabilize a bit and as we approached planning for 2010 and beyond, we undertook an aggressive review of our portfolio and sized up our best estimate of what the future holds and our plan for individual assets. As we did this we ended up with a couple of buckets, if you will, with a handful of assets that required impairment charges as we marked them to market. One of those buckets were assets that changed classification from held for investment or held for sale. And that change in that classification required an impairment analysis be done. As we evaluated our portfolio and plans there were some properties that we changed classification from held for investment to held for sale, meaning we weren't inclined to own those properties going forward. And vice versa there were some properties held for sale that we had no real reason to sell at today's prices and we were more than comfortable owning them for the long term.

We also took an impairment charge on a handful of land parcels that we owned in our TRS that we marked to market. And there was a few other miscellaneous properties that were -- that there was some change that caused a revaluation. So at the end of the day the total for all of these buckets, if you will, amounted to a $33.4 million impairment involving 24 of our over 1000 properties in our portfolio.

Additionally in connection with us taking over the business of the 12 California auto service properties in second quarter of 2009, based on a preliminary valuation, we booked goodwill in the second quarter of 2009. While the performance of the stores continues to improve, we did write-down the previously recorded goodwill by $8.2 million to better reflect the market value at the time we took ownership. Our press -- the press release today I will note reports that that business produced 700 -- $676,000 of income in the fourth quarter versus a $233,000 loss in the immediately prior third quarter.

Lastly, we had a $498,000 impairment on the commercial mortgage residual interest and that was based on our most recent third party quarterly valuation. As we've mentioned in the past, despite some of the accounting noise associated with this investment, it's been very successful generating $29 million of cash distributions to us from our $9.4 million investment four and a half years ago. So in total noncash impairment charges totaled $42.2 million in the fourth quarter related to 24 properties, the write-down of the previously recorded goodwill as well as the mortgage residual interest valuation. I will note that $6.4 million of that amount -- of that impairment amount is reported in discontinued ops.

Moving on to our 2010 guidance, as I mentioned we did not make any change to our prior 2010 FFO per share guidance of $1.51 to $1.58. Adjusting for other noncash items, we estimate would add approximately $0.13 per share of additional operating cash flow above our reported FFO results for the year. None of the primary assumptions in our guidance has changed, the more notable ones being $170 million of acquisitions skewed somewhat to the second half of the year, $15 million of dispositions, G&A expense just under $23 million, no real change in occupancy, and $3.6 million of mortgage residual interest income, and no TRS gain on sale. Additionally we are not projecting any lease termination fees or gains from debt repurchases that we've had in 2009.

And as I mentioned last quarter, that really is the most notable change from 2009 results to 2010 projections, is that we anticipate lower transactional income in 2010, specifically we are projecting zero lease termination fees and zero debt buyback gains which in -- in 2010 versus the $11.2 million we reported for these two line items in 2009. That translates to about $0.13 per share of swing. Plus there's an additional 4% of weighted average shares outstanding in 2010 which costs us about $0.06 per share. So while the core portfolio and operations are performing fine and our strong balance sheet and lower leverage position -- lower leverage positions us well for what may come, our guidance reflects lower transactional income and higher share count that will dampen per share results but produce higher quality earnings.

As Craig alluded to, our balance sheet remains in very good shape with no material debt maturities until September 2011, and with all $400 million available on our bank credit facility. Again, while this low leverage is a drag on per share results, these strong credit metrics position us well to maintain good access to capital, handle macroeconomic weakness and take advantage of attractive acquisition opportunities that arise. We have no floating rate debt and 98% of our properties are unencumbered.

We finished the year with total liabilities of $1.24 billion of total liabilities, that's down $56 million from prior year end amount. Total debt to total assets on a gross book basis was 36.8% and that's down from 38.5% at year end 2008. Debt to EBITDA is 4.8 times at year end 2009.

We previously announced during the fourth quarter that we closed on a new $400 million unsecured credit facility that matures November 2012 and provides us the option to extend maturity to November 2013 at our sole option. And we are very pleased with this new facility and believe it demonstrates the strength of our business and strong credit metrics. We have no amounts outstanding on that credit facility today. Interest coverage for the fourth quarter was 3.2 times and 3.3 times for the year 2009. Fixed charge coverage was 2.9 times for the quarter and 3.0 for the year.

So in conclusion I mean we're very pleased with how the Company is positioned and believe there'll be good opportunities in 2010. We're staying focused on managing the assets we own, maintaining occupancy, controlling cost and looking to capitalize on solid opportunities to be more offensive. With that, Jackie, I think we'll open it up for questions.

Thank you. (Operator Instructions). Our first question is coming from RJ Milligan of Raymond James & Associates.

Good morning, guys.

Good morning, RJ.

Craig, about a year ago, a lot of people thought the acquisition market and the opportunities would be pretty robust in the net leased space. It was just a matter of time for the buyers and sellers to find that right price. Have you guys changed that optimism in terms of do you still think those opportunities will be there once that pricing is found or do you think it'll be more of a trickle over the next year or two?

That's an important question and a good question. I think that a couple of things. Number one, our guidance for this year is $170 million of acquisitions weighted towards the second half of this year. And obviously when you put together projections, you got to make your best estimate. I personally hope that we can do better than that and -- but for all this to happen a couple of things need to occur for --. Number one, that buyers and sellers need to agree on prices, there's been a lot of volatility around that. Just a couple of weeks ago, Walgreens were closing at better than 8%. In the last couple of weeks that -- as people felt more comfortable about real estate prices stabilizing, today you're seeing good locations for Walgreens closing at 7.5%. So sellers continue to hope that pricing reverts to where it was two years ago. That's not going to happen because the debt markets aren't going to allow that.

In terms of opportunity for National Retail Properties, acquisition opportunities, they traditionally come from two different areas. One, retailers opening new stores having them on their balance sheet and looking to sell those. Obviously in today's world, retailers are not opening a lot of new stores through new development. They may be releasing space created by vacancy somewhere else, but that does not cause a transaction in and of itself. And then secondly, we have been a meaningful participant of transactions occurring. So for example, just to randomly pick a name, a Burger King franchisee acquiring another Burger King franchisee in a different market perhaps owned by a private equity firm where there was debt financing to help make it happen and as part of the capital stack they would sell us real estate. That transactional activity has been very, very low for the last 12 months because the debt markets for middle market transactions have essentially disappeared. So in that background there is not a great deal of transactional activity.

On the other side, RJ, we have very little competition, and of course there are good companies like Realty Income in our space, but the average participant who was using high leverage to buy properties is absolutely gone. So quality wise, the type of deals we are seeing are terrific. And that $170 million if we do that this year, will qualitatively be better than what -- everything we can dream about to do. We have a couple of deals right now where the rent per square foot is considerably lower than what it would have been a couple of years ago. Cap rates are high for quality assets.

Now there are all kinds of things that have to happen before those deals close including in one instance dealing with a special servicer. And for those of you that haven't done it, and by the way this is a performing asset but unfortunately it just has too much debt, dealing with special services is enough to cause my hair to fall out. So RJ, I think that the opportunity set is going to be good, the quality is going to be particularly good. And depending on where the markets end up in the next -- the second half of this year, there's going to be more than enough volume for us.

So Craig, the transactions that -- or the opportunities that you're seeing, are they from distressed sellers now?

No. We are not a good buyer of somebody else's rubbish. We are very focused on high-quality net leased retail assets and if anything, we are -- we've focused on buying properties that just weren't available at these cap rates a couple of years ago. We obviously are looking at distress and have spent a lot of time underwriting these types of properties. At the end of the day, there's a reason why they're distressed and generally that's not going to lead to our underwriting standards.

Even if they were refinanced say in the 2005/2006 period and levered, it's just a leverage issue, not necessarily a --

On the leverage side, there are some opportunities. We continued to see that lenders are extending and pretending. And we were quite interested in one particular transaction where, much to my surprise, the lender advanced the interest. So I think the day of reckoning is coming there, but it still isn't as prevalent as we had anticipated a year ago. But the acquisition opportunities for us are going to be very good over the next period of time. I don't believe the volumes are going to be anything like they were two or three years ago but right now, our pipeline is pretty good.

Thank you very much, guys.

Thanks, RJ.

Thank you. Our next question is coming from Greg Schweitzer of Citigroup.

Good morning, guys.

Good morning, Greg.

I'm here with Michael Bilerman as well. Craig, could you talk a little bit more about the impairments you took this quarter. Taking the land aside, what were some of the tenants underlying some of those properties?

A couple of different things. Firstly I do want to reiterate that these are noncash items. Secondly, it's something of a self-inflicted wound and we have elected to go ahead and take these where we have a sense that the values are less. But let me give you a couple of specific examples without mentioning the tenants or the dollars.

We have some land contiguous to a very strong development with excellent tenants in it. And at this current point in time that Phase II land, if you will, is not going to be developed to the types of returns that we would allocate capital to. As it so happens somebody has come along and said they're very interested in buying the development, we don't want to own the development without the land next to it. In the event we sell it, and believe me, we are so far from that, but in the event we are, we would walk away from this Phase II land which in today's world is less than what we paid for it. So we marked it down. Now whether that deal happens or not is a complete crap shoot.

Secondly just giving you a different example, we had a property that's been vacant for a period of time that was once upon a time a furniture store and somebody's come along and is interested in buying it. And as opposed to our interest, which is always to re-lease our vacant properties, but in this particular instance if they want to buy it we might let them own it. Again, we've taken an impairment on it. And then there's a whole other bucket around where we -- consistently we have told you that some of our properties in our TRS we're happy to hold for the duration. As we looked to move those from the held for sale category to the held for investment, we are required to take an -- make an impairment analysis.

So for example, we had a property in Puerto Rico and the reason we had it in the held for sale category is we didn't have enough presence in Puerto Rico to make sense holding these given the tax issues there. The property is doing very well, the tenant is performing nicely and we decided to transfer it to our held for investment. Low and behold, accounting gobbly gook requires there to be an impairment on that. So to me, this is death by GAAP, but I think it's the right thing to do and we're going to move on. And to me, it doesn't fundamentally change the strength of National Retail Properties.

And then finally just to make sure my answer is complete, we do have that auto service operation in California. At the time we purchased it, we had to do a preliminary valuation; there was this so-called goodwill that we accounted for. And despite the fact that the operation is going quite well, and I think it's going to steadily improve over the next period of time, we've chosen to write-off that GAAP goodwill.

I believe the goodwill that you took in the second quarter was around $12 million?

Yes.

Why not write down the full amount?

It's what was driven by the valuation so as you do the math there, you can see we're a little under $4 million now and what's left and that's what the valuation required.

Yes, so Greg you're correct, $12 million to $4 million in round numbers.

Okay, and then just touching on the development in the TRS, the first phase. How is leasing going there?

Well we have, I mean we have very, very little. To be honest, we haven't been in the development business for years. We do have some residual land, the biggest piece of it was this one property that I previously described just a moment ago. But we have a couple of pieces of land that frankly are just held right now and we chose to write those down. Five or six different properties, little bits of money each one of them, but on the one property contiguous to that multi-tenant property, which has been a great success by the way, we chose to mark that vacant or that Phase II land down. Any land purchased in the last couple of years waiting for development owned by any commercial landlord is worth less today than you paid for it. Why? Because there are no tenants to go in it.

Got it. And just one final one. The re-leasing of vacant, the vacant Value City and Circuit City boxes, how is that progressing?

Frankly, our leasing efforts in the -- in 2009 I think our team did a very, very nice job close to 30 different leases. Leasing activity as you're hearing elsewhere has recently perked up, if you're looking for a general comment. The last two months or so, we've got some nice activity going. That particular project that you asked about, we've got -- we want to continue to make progress with the City, et cetera, et cetera because it will involve a new multi-tenant building with two high-quality retail tenants. It's in a good location, Value City in the scheme of things had a low rent per square foot. And over time, I am quite optimistic that we're going to end up replacing that vacant -- re-leasing that vacant property with high-quality tenants at a higher rent than we were receiving. Having said that, Greg, it's not just clicking my fingers and happening as fast as an impatient me would like.

Okay, thank you.

Thank you. (Operator Instructions). Our next question is coming from Jeffrey Donnelly of Wells Fargo.

Good morning, guys, how you doing?

Good morning, Jeffrey.

Craig, a question actually about your guidance and maybe this maybe better directed towards Kevin, but are you able to quantify for us what you see as the FFO benefit from leasing in your portfolio over the course of 2010 versus say where you finished out in 2009?

I don't have a real number for you but given that we are not really showing any meaningful change in occupancy, I think we'll be treading water a little bit. There will be a little bit of upside but I can't quantify that for you right now on this call.

Let me add a slightly different thing, Jeff. One of the things that's encouraging for us is that we have turned the corner on having a portfolio which has previously been characterized as having no growth. And in 2009, our same-store rent, if you will, moved up by just a little bit less than 1%, I mean frankly 0.6%. But given that we have a lot of high investment grade tenants where we have contractual bumps, we now have really for the first time starting to see a little bit of growth for our portfolio and obviously that is going to improve over time.

And maybe I'm -- I just want to be sure I'm thinking about it correctly. But if we, call it, annualize your fourth quarter FFO per share, I think it's somewhere in the mid-$1.40 range. And if there's not a lot of movement from leasing over the course of the year, does it -- I guess the question is does that put a lot of onus on the acquisitions getting done in back half of the year to meet the guidance that you're looking at. Or I guess is there something else that I'm just not thinking about in the numbers?

Yes, I don't know precisely in your model. I mean we're very comfortable with the FFO guidance we've given and at $53.5 million which is fourth quarter rental revenue, I think those will get there coupled with the acquisitions and all of the other assumptions that we've laid out related to that. So I mean I can maybe talk to you further about that in particular, but we're very comfortable where we are.

Okay, and we can follow up on that. And then just a last question is, I guess maybe sort of two part is, do you have any or much exposure to Movie Gallery, certainly there's been some news out of that? And I guess can you give us details around what you're seeing with the leases that you have with Barnes & Noble and OfficeMax given that there's been some rumblings out of those guys as well?

Yes. So there in terms of broad tenant health, one of the good things is that we have had an active program for many years to sell tenants that we had some doubt with. Today we've got two, Hollywood Video, wasn't that long ago we had five of them. Not only do we have two of them but one of them fortunately the lease expires here in the middle of the year and we already have that property re-leased to one of the big national auto parts companies. So the Hollywood Video impact to us is absolutely [diminimal]. The other property is in Southwest Colorado is a very well-located asset and by all accounts Hollywood Video is doing well there, so we expect that one then to continue to assume.

I think retailers obviously had a good year from a profitability standpoint. I don't think there's going to be a whole lot of top line growth. There's a lot of euphoria about retail sales in January being up 3% or whatever that number was. Well that was against a pretty dismal January 2009. So in the book category, that category is under duress. The big lenders to Borders are the ones that hold the cards there. And I suspect that the one shareholder that has a fair amount of ownership plus some debt outstanding to Borders is keenly focused on doing everything he can to make sure they survive given that his debt comes due here in April, I'm sure he will accommodate something. We have fortunately well-located properties leased to these tenants and regardless of where they go, our analysis appears that -- suggests we're in pretty good shape.

In terms of OfficeMax, the office category hasn't done that well. The one thing that's curious if you take the time to look at OfficeMax you'll see that their balance sheet is quite strong and they have a large slug of cash, which means that they're going to be around for a long period of time. And then just to make sure my answer is complete, Jeff, there is this other one called Rite Aid, we do have some Rite Aid stores. And the good news is Rite Aid continues to extend their debt maturities which will give them more time. But sooner than later they're going to need some revenue growth.

I understand. Great, thank you, guys.

Thank you, there are no further questions at this time. I'd like to hand the floor back over to Management for any closing comments.

Jackie, thanks very much. We appreciate you all taking the time, we understand there are lots of other calls here. And we feel that our positioning for 2010 is pretty good in this economic environment. The quality of acquisition opportunities we're looking at is encouraging and I'm excited about the opportunities for us over the next couple of years. Thanks very much. I guess we'll be meeting with some of you in March and then we'll be talking to you in a couple of more months. Thanks very much.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.