Office Properties Income Trust (OPI) 2011 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Government Properties Income Trust First Quarter 2011 Financial Results Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question and answer session. Instructions will be given at that time.

(Operator Instructions)

I would now like to turn the conference over to vice-president, Tim Bonang.

Hi, this is Tim Bonang, and thank you for joining us this afternoon. Joining me on today's call are David Blackman, President and Chief Operating Officer and Mark Kleifges, Chief Financial Officer.

The agenda for today's call includes a presentation by management, followed by a question and answer session. I would note that the recording and transmission of today's conference call is strictly prohibited without prior written consent of the Company.

Before we get to today's call, I would like to read our Safe Harbor statement. Today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and federal securities laws. These forward-looking statements are based on GOV's present lease and expectations as of today, May 5, 2011.

The Company undertakes no obligation to revise or publicly release the results of any revision to the forward-looking statements made in today's conference call, other than the filings with Securities and Exchange Commission, or SEC, regarding this reporting period.

In addition, this call may contain non-GAAP financial measures including funds from operations or FFO. A reconciliation of FFO to net income as well as components to calculate AFFO, CAD or FAD are available in our Q1 supplemental operating and financial data package found in the investor relations section of the Company's website at www.govreit.com.

Actual results may differ materially from those projected in any forward-looking statements. Additional information concerning factors that could cause those differences is contained in first quarter form 10-Q, which will be filed with the SEC and in our supplemental operating and financial data package found on our website.

Investors are cautioned not to place undue reliance upon any forward-looking statements. And now I'd like to turn the call over to David Blackman.

Thank you, Tim. We are pleased to announce strong performance and continued growth during the first quarter for Government Properties Income Trust. Since January 1, 2011 we have acquired three buildings for an aggregate purchase price of $42 million. And have place and additional four properties under agreement to acquire to an aggregate purchase price of $152 million.

In April, we declared a distribution of $0.42 per share, which is a $0.01 per share increase from our previous distribution, and our second distribution increase over the last ten months.

For the quarter ended March 31, 2011, we are reporting FFO of $19.5 million or $0.48 per share, compared to $12.6 million or $0.43 per share for the same quarter last year. The increase in our FFO per share is primarily the result of the Company's accretive acquisition activity.

Portfolio statistic and the balance sheet remain exceptionally strong. Our properties are 96% leased with a weighted average remaining lease term of slightly more than four years. 93% of our rental income was paid by the US Government and six state governments.

We had approximately $201 million of debt outstanding at quarter end, which represented a conservative 21% of our total book capitalization. And EDITDA covered interest expense almost nine times. During the first quarter, we had minimal leasing activity, entering into only seven leases for approximately 21,000 square feet for a modest roll up in GAAP rents of 6% for renewed leases.

These lease renewals had a weighted average lease term of more than seven years and capital costs of $4.15 per square foot per year. During 2011, we have lease maturities that represent approximately 13% of our annualized rents. And we remain comfortable with our progress in renewing a significant percentage of these maturing leases.

At quarter end, 77% of our annualized rental income comes from the US Government and 16% comes from six state governments. The Commonwealth of Massachusetts remains our largest state tenant at approximately 6% of annual rents.

Our significant focus remains on acquiring properties leased to the US Government as evidenced that all the properties we have under agreement to acquire are majority leased to the US Government.

As previously mentioned, since January 1, 2011 we have acquired three properties with 276,000 square feet for an aggregate purchase price of $42 million, excluding acquisition costs. These three properties were acquired at a weighted average cap rate of 9.4%, an average cost per square foot of $152, had a weighted average remaining lease term of more than four years, and are 100% occupied. These three acquisitions were previously disclosed during our last earnings call.

In February, we acquired a two-building office complex located in Woodlawn, Maryland with approximately 133,000 square feet. The properties are 100% leased to two tenants, of which 94% is leased to the US Government and occupied by the Inspector General of the Social Security Administration.

The purchase price for this acquisition was $28 million and the going-in cap rate was 9%. Also in February, we acquired an office property located in Quincy, Massachusetts with approximately 93,000 square feet.

The property is 100% leased to three tenants, of which 90% is leased to the Commonwealth of Massachusetts and occupied by the Registry of Motor Vehicles as its headquarters. The purchase price for this property was $14 million and the going-in cap rate was 10.2%

Since quarter end, we have entered into four purchase agreements to acquire seven properties containing 691,00 square feet for an aggregate purchase price of approximately $152 million, excluding acquisition costs. These acquisitions remain subject to completion of due diligence and other customary closing conditions.

In April, we entered into a purchase agreement to acquire an office property located in Plantation, Florida containing 136,000 for a purchase price of $40.8 million. This property is 100% leased to the US Government and occupied by the Internal Revenue Service.

Also in April, we entered into a purchase agreement to acquire two office properties located in Stafford, Virginia containing 65,000 feet for a purchase price of $11.8 million. These properties are 100% leased to the US Government and occupied by the Federal Bureau of Investigations.

In May, we entered into a purchase agreement to acquire three office properties located in Indianapolis, Indiana containing 434,000 square feet for a purchase price of $88 million including the assumption of $50 million of mortgage debt. These properties are 99% leased to 19 tenants, of which 56% is leased to the US Government and occupied by the US Customs and Border Protection Agency.

And, finally, in May, we entered into a purchase agreement for an office property located in Montgomery, Alabama containing 58,000 square feet for a purchase price of $11.6 million. This property is 100% leased to the US Government and serves as the office of the US Attorney for the Middle District of Alabama.

We remain upbeat about our opportunities to grow the Company through acquisitions at cap rates within our targeted range if 8% to 10%, which is above the historical average for government leased properties. We also believe our first quarter results support our thesis of providing a safe dividend to investors supported by our stable rental revenue.

I will know turn the call over to Mark Kleifges, our CFO to provide more detail on financial results.

Thanks, David. First, let's review consolidated property level results for the 2011 first quarter. We once again experienced significant quarter-over-quarter increases in rental income and property net operating income as a result of our 2010 and first quarter 2011 acquisition activity.

At the end of the first quarter, we owned 58 properties with 7.1 million square feet, compared to 35 properties with 4.4 million square feet at the end of the 2010 first quarter. For the 2011 first quarter, rental income increased $15.7 million or 67% to $39.1 million. And property net operating income increased to $8.8 million or 57% to $24.3 million.

Our consolidated net operating margin was 62.3% in the 2011 first quarter. Turning to same store results, for the 33 properties we owned continuously since January 1, 2010, rental income was relatively unchanged quarter-over-quarter decreasing by $142,000 or less than 1%.

For the quarter, cash based rents increased $160,000 over the prior year, however, this increase was more than offset by a decrease in escalation income associated with real estate taxes, and the impact of a credit we issued to a tenant during the quarter related to prior year escalation charges.

Same store operating expenses were also relatively flat quarter-over-quarter, declining $61,000 due primarily to lower real estate tax expense. As a result, same store NOI decreased a nominal $81,000 quarter-over-quarter, and our NOI margin percentage was unchanged at 66%.

Turning to our consolidated results for the quarter, EBITDA in the first quarter of 2011 was $22.1 million, compared to $14.1 million in the 2010 first quarter. Our EBITDA to fixed charges ratio was very strong at 8.7 times for the quarter, and debt to annualized EDITDA was only 2.3 times at quarter end.

For the current quarter FFO was $19.5 million or $0.48 per share, compared to FFO of $12.6 million or $0.43 per share for the 2010 first quarter. We had 40.5 million weighted average common shares outstanding in 2011, compared to 29.1 million in 2010. During the quarter, we spent $160,000 on tenant improvements and leasing costs and $159,000 for building improvements, which were primarily energy conservation related.

Turning to our balance sheet and liquidity, at quarter end we had a $155 million outstanding on our $500 million unsecured revolving credit facility, and our debt to total book capitalization was only 21%.

In closing, GOV remains a conservatively capitalized company with great access to capital. Our properties are 96% leased, and approximately 93% of our rental income is paid by the US Government and six state governments.

As a result our cash flow is stable to pay a consistent dividend. In addition to our stable base, we continue to have strong acquisition momentum and remain optimistic about the company's outlook for the remainder of 2011.

Operator, that concludes our prepared remarks; we're ready to open it up for questions.

(Operator Instructions)

And our first question will come from Tayo Okusanya. Please, go ahead.

I'm wondering if you can you give us some of your thoughts on government budgets right now. I know obviously there is a national debate of cutting deficit and stuff. What does that mean for your portfolio in terms of possible future acquisitions from governments selling properties?

That's an interesting question. I mean clearly substantially all the states are working through budget deficits, and they're looking for creative ways to fund those deficits. I think a lot of governments, a lot of state governments, are focused on their pension obligations and pension liabilities.

At this point we really haven't seen states come to market with any material assets to sale. I mean California did something last year that ultimately didn't take place. Arizona put a portfolio together that they ultimately did a large municipal finance transaction on.

I think there's a chance that you could see some larger cities look to do this. But we don't have anything in our pipeline right now that is an asset that is for sale directly from a state, federal or municipal government.

Okay. And maybe on the other side of that, are you guys worried at all about consolidation out of your properties as leases mature? I know you said over the next few years you're not worried about near-term maturities, but long-term. Is that more of a concern?

Yes, I think clearly that that's a risk that we think about. I think there are some states that have owned real estate that if they have capacity they would certainly try to move existing agencies into that owned real estate. So that's clearly something that we look at, and something that we're trying to be proactive to prevent from happening in any material way.

Okay. And just one last question. On the planned acquisitions, I assume the cap rates are within guidance, your targeted range of 8% to 10%. Can you give us an idea, are we at the high-end, at the low-end? And I guess the stuff that you're seeing in the market today, like how are cap rates trending versus what you've seen a year ago or over the last few years?

We don't disclose cap rates until we actually close on an acquisition, but I would say that yes, the stuff that we have under agreement is all within our targeted range of 8% to 10%. You continue to see some pressure within the market for a compression of cap rates.

I would say over the last 12 months there has been some compression, but I wouldn't call it material. As I think I've said previously, I think we did $474 million of acquisitions in 2010 at an average cap rate of 8.9%.

I would expect that if we had a similar type year in 2011 it would be at a lower cap rate, but I don't believe -- I believe it'd be like 8.5% than it would be 8%.

Okay. Thank you. Appreciate it.

(Operator Instructions)

And will go to the line of Mitch Germain. Please, go ahead.

Good afternoon, guys.

Hey, Mitch.

Curious about your capital plan. 150 out on the line, you've got another 150 or so of acquisitions in progress, what's the next move possibly here?

Of the 150 in the pipeline, 50 of that comes with assumed debt, so that will probably get us to about $250 million out on the revolver. And we clearly are looking at the capital markets. And I think we're going to keep all our options open at this point. We have talked about the possibility of doing a bond offering at some time this year, and that's clearly something that we would consider at this point.

We probably would issue today somewhere between 5.75% and 6%. So, that is attractive and certainly something that we would consider.

Great. And you said your leasing for 2011 progressing well. Can I get some more color, what do you expect the timing to be on some of those announcements, and where do you expect pricing to be? Do you think there will be a bit of a roll down here or in line?

I don't think there's any real material change from what we've talked about, at least in our last earnings call in February. I think that the US Government continues to be very focused on the budget, and as a result you don't really see committees working through prospectuses and approving leases right now. So, everything is moving at a much slower pace than it would historically have moved.

We continue to have good dialogue with the contracting officers, which are the first line of conversation for lease renewals. And we're encouraged by those discussions. And I think we talked about where we are with Fresno on that lease. We think that's just going to be a minor roll down.

We continue to believe that in Washington, DC with Indiana Avenue, we'll have a good roll up in rent there. And I think in other markets we'll be probably be flat to slightly up. So I think we're encouraged with leasing, albeit at a much slower pace to actually execution of leases.

Great. Thanks. And last question, you're close to about $200 million or of acquisitions this year. I know that longer term, you and I have discussed a $200 million to $250 million minimum annual run rate. Where's the pipeline sit today? And should we continue to see some pretty consistent activity coming out on the acquisition markets as we move forward along in the year?

You know, the pipeline's good. We're encouraged by the pipeline. There's a couple of big deals out there. There's a number of smaller transactions out there, so I expect that we will continue to be active. There is competition, so we don't win everything that we underwrite and bid on. But I'm encouraged by the amount of activity in the market and the opportunities that creates for us.

Thank you very much.

You're welcome.

Next, we'll go to the line of Dave Rogers. Please, go ahead.

Hey, guys, it's Mike Carroll here. With regards to your acquisition pipeline, are you seeing more state or federal government buildings in the marketplace?

It's a mix. I guess when you think about it on an aggregate dollar basis, it's probably more heavily weighted to the US Government. We do continue to see a handful of municipal opportunities, none of which we have gotten real comfortable with. But there are a couple of municipal opportunities that are interesting. But mostly it's federal government that we see out there.

Okay. Great. And then my follow-up question is, what was your tenant retention ratio during the quarter? And could you share any cash spreads that you signed?

We typically don't talk about cash spreads, but we had a good GAAP roll up in our rents during the quarter. We did renewals on about -- at the 21,000 square feet renewals were roughly 11,000 square feet, and that was a 6% roll up.

And I think that -- I don't know that I know the answer to the tenant retention. I think as I recall looking at our leasing reports, there was a substantially high percentage of renewals of leases that matured.

Okay. Great. Thanks, guys.

And next, we'll go to the line of Jamie Feldman. Please, go ahead.

Hi, this is [Michelle Ko] for Jamie Feldman. I was wondering if you could talk a little bit about how you found some of your acquisition opportunities, and do you see the volume increasing and from where? And are there any particular markets that look more attractive that others?

Our activity is generated really by two primary avenues. One is RMR has management offices at 20 different locations around the country, so we have a lot of people across the country that are managing our assets that are also looking for quality acquisition opportunities in our market. So, we get a fair number of opportunities from internal personnel.

And I think the majority of our acquisition opportunities come from the National Brokerage Network. We get pretty much anything that's marketed on a national basis is going to come to us.

We get a handful of off-market transactions that come to us direct from sellers. But I would say it's mostly National Brokers; it's also the RMR network and then finally just direct sellers that know about us because of our activity in the markets.

We really haven't targeted any specific markets for growth. It's more of an opportunity as to where do we see the most accretive acquisition opportunities. We continue to see a lot of activity in California.

There are a handful of opportunities with the State of California, which we will look at. But we continue to look for very strategic acquisition opportunities with state governments. We want to be with strategic agencies, and we want to be in strategic locations.

And we have passed on some opportunities because we didn't feel like they were strategic. So hopefully, that answers you question.

And also, just lastly, has the volume picked up over the last several months, or do you think it's about the same?

No, I would say the volume has picked up since the year started. I think probably beginning in late January, there's a been an increase in acquisition opportunities not only just within the government market, but just I think broadly across the office and industrial space.

Okay. Thank you.

And we'll go to the line of [Young Cu].

Hi yes, good afternoon, guys. In terms of $150 million in acquisitions, who are the sellers for those assets?

I'm sorry, I didn't get --

Who are the sellers?

Oh, who are the sellers? I would say the sellers are substantially all institutional owners of real estate.

Okay. You can't comment on whether they're Commonwealth assets or not, right?

None of them are Commonwealth assets.

Got it.

I don't believe Commonwealth has any assets that would meet our acquisition criteria.

Okay. Got you. And then the $50 million in assumed debt, can we get the terms and the rate on that?

We will disclose that once we close on the acquisitions, but it's two separate loans. And they are relatively competitive rates. But we usually don't disclose that information till after we close on the transaction.

Okay. That's fair enough. And when we take a look at your portfolio, you have about 250,000 square feet of vacant space. Are you seeing any activity there in terms of leasing that vacant portion out?

We had seven leases during the quarter. Three of them were new leases, and two of those leases were in space that was vacant when we acquired the properties. So there is some activity, and we're seeing activity in Memphis, Tennessee, which is the one Memphis place that we acquired.

And we're also seeing pretty good leasing activity in Minneapolis. So we're encouraged by that, and we're going to continue to focus on trying to lease up that space.

Good. (Inaudible). And my final question is in terms of the CapEx cost. It went up a little bit, so that $4 per square foot per term, is that kind of what we should be assuming for 2011?

No, we had one lease renewal in Memphis that was for a tenant that had some specific requests for building improvements. Really, items that we would normally categorize as a capital improvement item, not a tenant improvement. But because of the way that the request was made, and it was tied to the lease, it was categorized as tenant improvement dollar.

So, that really skewed our overall tenant improvement dollars on a square foot basis. Because that turned out to be about $40 a square foot, mostly related to improvements to the core and shell.

Okay. Just a quick follow-up on that then, what do you think would be a more normalized CapEx per square foot per term number?

We tend to think with our government tenants that we're going to spend about $10 a square foot for a five-year renewal with a government tenant. So I would say, let's hedge it, and say $10 to $12 a square foot for a five-year renewal, probably spend a little bit more than that if you do a ten-year renewal.

Got it. Great, thank you.

Yes.

And we'll go to the line of Dan Donlan with Janney Capital Markets. Please, go ahead.

Thank you, and good afternoon. Just curious if you guys -- David, you mentioned that the environment was heating up, in terms of competitors. Who are you seeing out there when you're bidding on assets? What type of players are out there?

It's a good question. We don't always know. But there is some institutional money that is focused on owning buildings leased to the US Government. So we see more competition for buildings that are leased to the US Government than we do state governments. But there are a couple of funds out there that are focused on that, and we tend to bump into them on deals outside the District of Columbia.

And then, just curious, I know there's the old Government Properties Trust Properties I think were at some point in time for sale. Is that portfolio still out there, or has it been acquired, or is it being piece milled? Any idea what's going on there?

I believe that is the Record Realty portfolio. And Record Realty is an Australian property trust that filed bankruptcy and as I understand it, was acquired out of bankruptcy by one of its trustees.

And as far as I know, those assets are all still owned and none of them have been put on the market at this point. It's not to say that they won't at some point, but at this point we haven't seen any of those come on the market.

Okay. And then, I guess the last question I had -- I'm actually blanking on it right now -- all right well I'll just go back in the queue.

Okay. Thank you.

And there are no other additional questions at this time. And I'd like to turn the call over to David Blackman for closing remarks. Please, go ahead.

Thank you for joining us on our first quarter conference call. We will be at the JMP Securities Conference in San Francisco next week, and the NAREIT Convention in New York in June. We hope to see you at one or more of those events. Thank you.

And, ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.