WP Carey Inc (WPC) 2020 Q2 法說會逐字稿

Hello and welcome to W. P. Carey's Second Quarter 2020 Earnings Conference Call. My name is Victor, and I will be your operator today. (Operator Instructions) Please note that today's event is being recorded. (Operator Instructions) I will now turn the program over to Peter Sands, Director of Institutional Relations. Mr. Sands, please go ahead.

Good morning, everyone. Thank you for joining us today for our 2020 second quarter earnings call. Before we begin, I would like to remind everyone that some of the statements made on this call are not historic facts and may be deemed forward-looking statements. Factors that could cause actual results to differ materially from W. P. Carey's expectations are provided in our SEC filings.

An online replay of this conference call will be made available in the Investor Relations section of our website at wpcarey.com, where it will be archived for approximately 1 year and where you can also find copies of our investor presentations and other related materials.

And with that, I'll hand the call over to our Chief Executive Officer, Jason Fox.

Thank you, Peter, and good morning, everyone. I hope everyone is remaining safe and well as we continue to face the challenges of COVID-19. Today, I'll focus my remarks on several important topics: our recent portfolio performance into the pandemic, our recent investment activity, what we're seeing in the transaction environment and how we position the company for growth while maintaining strong performance. And after that, our CFO, Toni Sanzone, will review our second quarter results, which reflect our strong collections and our continued move-out of the managed funds business as well as touching upon our recent leasing activity and some of the specifics on our balance sheet and liquidity positioning. We're joined today by John Park, our President; and Brooks Gordon, our Head of Asset Management, who are available to take questions when we get to that part of the call.

The 2020 second quarter, for the impact of the pandemic over the entire period, which has been a stress test on net lease portfolios. I'm pleased to say our collections remains consistently strong throughout the quarter, breaking as one of the best in the net lease peer group as well as being among the strongest collections in the broader REIT sector, a reflection of several key elements of our approach.

When owning single-tenanted assets on very long-term leases, often for over 20 years, unexpected events or significant market changes will occur. Our diversified approach ensures that issues within a particular asset type or industry will not have an outsized impact on our performance. Also, our disciplined investment process has always been focused on deep credit underwriting and mission-critical assets.

We've made important decisions over the past 5 decades to focus on companies, industries and real estate that we believe can withstand dislocations in the market and respond to challenges and changes in the business environment. By focusing on long-term risk-adjusted returns rather than near-term growth at any cost, over the long run, we've generated strong total returns for our shareholders while maintaining exceptional downside protection, which our rent collections reflect.

Net lease is rightfully viewed as a relatively steady business and we believe providing better downside protection and lower volatility in our cash flows. It's an important characteristic of the returns we generate for our shareholders. Our approach has clearly produced more durable rental streams, giving rise to higher quality and therefore, more valuable revenues and earnings. This approach, coupled with our focus on maintaining a strong and flexible balance sheet, has put us in a very advantaged position today. Overall, we collected 96% of rent due during the second quarter.

Importantly, collections were consistently strong across each of the 3 months, across our core property types and across our U.S. and European portfolios. Warehouse, industrial and self-storage assets, in aggregate, comprise about half of our portfolio. For the second quarter, our rent collection rate was 94% for warehouse, 98% for industrial and for self-storage, it was 100%.

Office, which comprises just under a quarter of our ADR, performed comparably with rent collections at 99%. For retail, in which we've maintained a long-standing underweight position, representing just 17% of ABR, we collected 98% of second quarter rents. We've limited our investments in retail and disposed of retail assets, especially in areas most affected by the threat from e-commerce.

Most of our retail is in Europe where there is a lower supply, and we focused on asset classes like do-it-yourself and grocery, which have performed well. The minor exception to our strong portfolio performance continued to be fitness centers, theaters and restaurants, for which we received 37% of second quarter rents, although these represent just 2% of our ABR.

I'm pleased to report that the strength in our rent collections has continued into the third quarter with an overall 98% collection rate so far for rent due in July. With deferrals remaining extremely low, we've been able to take a tailored approach to each situation in contrast to the broad actions required by many other net lease REITs that are dealing with widespread issues. This has afforded us considerable flexibility, allowing us to opportunistically work with tenants on lease restructurings that create value.

During the second quarter, we entered into one such restructuring with a significant tenant. While the tenant was current on its rent and expected to remain that way, in return for a 6-month deferral with the deferred rent spread over the following 5 years, we gained 2 years of additional lease term and improved the rent bumps by adding 50 basis points to its annual increases, along with gaining the right of first refusal on all future sale leasebacks. We will continue to look for these opportunities where we can help strong tenants preserve capital over the short term and create long-term value for our shareholders.

Turning now to investments. During the quarter, we completed 3 capital investment projects at a total cost of $148 million, comprising 2 warehouses and 1 industrial facility at a weighted average cap rate of 6.5% and a weighted average lease term of 23 years. The largest of the warehouse investments was a $66 million build-to-suit project completed in June for a Class A distribution facility in Knoxville, Tennessee net leased to Fresenius, the leading provider of dialysis clinics and equipment globally, which carries an investment-grade rating from Moody's. The facility is the tenant's largest distribution center in the U.S. supporting its newest and largest production facility. The lease has a 20-year term and fixed annual rent increases.

Also in June, we completed the build-to-suit of a $74 million state-of-the-art industrial food production facility in San Antonio, Texas for one of our existing tenants, Cuisine Solutions, which is the world's largest manufacturer and distributor of sous vide prepared food products. The property is highly critical to the tenant's operations, supporting its future growth plans, and net leased for a 25-year term with fixed annual rent increases. This is also a good example of how value can be created through follow-on transactions as we were able to put both the recently completed build-to-suit and the existing property under our master lease, adding 13 years of term for the existing property and raising its annual rent increases.

These investments brought our first half investment volume to $404 million at a weighted average cap rate of 6.5% and enhanced portfolio quality with a weighted average lease term of 19 years. Our proactive approach to asset management, in conjunction with the investments we've made, extended the weighted average lease term of the portfolio to 10.7 years compared to 10.4 years 12 months ago despite the passage of time. We also maintained very high occupancy, ending the quarter at 98.9%.

Understandably, market activity slowed in both the U.S. and Europe during the second quarter, with investors sidelined amid a great deal of uncertainty and sellers dealing with the near-term impacts of the pandemic on their business operations. Many sellers, unless facing an urgent need, naturally prefer to wait until markets stabilized. During the initial stages of the pandemic, we also paused external acquisitions as we focused on preserving financial flexibility.

In the U.S., despite the decline in deal closings, pricing remains competitive, especially within warehouse and industrial, which investors have generally been more willing to underwrite relative to retail and office. High-quality deals backed by strong tenant credits continued to attract capital. This, coupled with continued high expectations among sellers, saw deal closings at rate -- cap rates comparable to or at times tighter than where similar assets were trading before the pandemic took hold. Recently, buyers and sellers started to come off the sidelines, and we are seeing more deal flow. So we expect U.S. deal activity to pick up in the second half of the year.

In Europe, many countries are on the reopening path, and employees are returning to the workplace, albeit amid some nervousness. With concerns more aimed at public transportation and workplace safety, regional cities are reopening at a faster pace. Early indications also point to Europe being better positioned than the U.S. to emerge from the economic impacts of the pandemic.

Investors in Europe are also returning. Inquiries to brokers from corporations looking to explore their options appear to have picked up, and expectations are high that the current green shoots of activity bode well for the second half of the year. Many companies have met their liquidity needs through short-term government stimulus packages, and we anticipate demand for long-term capital through sale leasebacks will return more meaningfully as these programs begin to roll off.

Looking ahead, while we remain mindful of the continued uncertainty surrounding the pandemic and its impact on economic activity, in contrast to many other net leased REITs, we're very well positioned to perform in a variety of economic environments and resume putting money to work in the near term. In our almost 50-year history, W.P. Carey has experienced multiple business cycles. We've honed protections built into our leases and put in place the infrastructure to effectively manage end-of-lease outcomes, tenant credit issues and restructurings through our experienced asset management team. We've been encouraged by the strong performance of our portfolio during the first half of 2020, and we have great confidence that our team will continue to proactively engage with tenants, stay ahead of any issues and ensure optimal outcomes.

We entered the second quarter with substantial liquidity primarily through our $1.8 billion revolving credit facility, which remains almost entirely undrawn. During the quarter, we took the opportunity to further enhance our balance sheet positioning through the forward equity offering we completed in June, locking in a cost of capital that will support accretive investment activity.

As always, we're focused on deals offering attractive, long-term risk-adjusted returns, but also mindful of downside protection: investing in critical properties with strong tenant credit, favoring large companies with access to liquidity and industries resilient to an economic downturn. Our recent conversations with CFOs shows the pandemic has made them more aware than ever of the benefits of accessing long-term capital through sale leasebacks.

The successful completion of our recent forward equity issuance reflects the confidence we have in our ability to access a wide range of accretive investment opportunities. Those opportunities, many came from industries that have performed well through the pandemic, which continued to trade on similar terms to those we've closed in recent years, or from industries where the challenges posed by the pandemic have reduced competition for deals, leading to more favorable pricing.

New investment activity has returned to being our highest priority. We're actively building our pipeline and expect to close a number of deals in the second half of the year.

And with that, I'll hand the call over to Toni.

Good morning, everyone. I'll start with a review of our second quarter results and portfolio activity. And in the absence of formal guidance, I'll provide some insight on areas where we have better visibility on our outlook for the remainder of the year.

We reported total AFFO of $1.14 per diluted share for the second quarter with 97% coming from our Real Estate segment. Comparisons to the prior year period continued to reflect the ongoing roll-off of investment management fee streams given the substantial progress we've made towards exiting that business.

Within our Real Estate segment, second quarter lease revenues increased compared to the prior year period, benefiting from net acquisition activity and contractual rent increases as well as the transaction we entered into last year to convert self-storage assets to net leases. These increases more than offset the impact of lease restructurings and uncollected rents during the second quarter.

Lease termination and other income declined to $1.9 million in the second quarter down significantly from both the prior quarter and the prior year, resulting from higher-than-usual lease-related settlements in the prior periods. While this line item can fluctuate from quarter-to-quarter, we currently expect to see a further decrease over the back half of the year.

As Jason mentioned, to date, our portfolio has remained resilient throughout the pandemic, collecting 96% of total rent due during the second quarter, and that continues to trend positively with 98% collected for July. In line with the accounting guidance and a conservative analysis of tenant rent collectibility, our second quarter lease revenue and AFFO include only about $500,000 of uncollected rent, which we expect to fully collect in 2020 under short-term deferral agreements.

We have not recognized in second quarter AFFO $8.5 million of contractual rental income owed for the period. Approximately 30% of this unrecognized rent is under executed deferral agreements, the large majority being the longer-term restructuring with a significant tenant that Jason discussed, which will be included in future AFFO when the cash is collected. The other roughly 70% largely comprises rents due from our fitness centers, movie theaters and restaurants and would only be recognized if collected.

For leasing activity, we completed 3 lease extensions on warehouse properties, representing 1.3% of ABR, for which we recaptured 95% of the prior rent and added 4 years of incremental weighted average lease term. Given the inherent variability in this metric from quarter-to-quarter, internally, we look at it over the trailing 8 quarters, over which time frame we've recaptured 97% of the prior rent and on a weighted average basis, added 7.3 years of incremental lease term while spending only $1.57 per square foot on tenant improvements and leasing commissions.

Contractual same-store rent growth was 1.9% year-over-year and is measured based on ABR to represent the rent increases built into our leases. Comprehensive same-store rent growth is measured based on pro rata rental income included in AFFO to take into account the impact of leasing activity, vacancies, restructurings, rent deferrals and abatements.

For the second quarter, this metric was negative 2.6%, reflecting the full impact of rent collections and deferrals on earnings. We would expect this metric to normalize over time and may show considerable improvement in quarters where we begin collecting deferred rents that have not yet been recognized.

Turning to investment activity. As Jason discussed, during the quarter, we completed 3 capital investment projects at a total cost of $148 million, all of which occurred at the end of June, so it had minimal impact on second quarter lease revenues. Total investment volume for the first half of the year was $404 million, and we currently expect to complete 3 capital projects totaling $42 million in the back half of the year, which would bring us to about $450 million of investment volume for 2020 before taking into account new external investments in the second half.

Total dispositions through the first half were $116 million as we had no dispositions during the second quarter. We currently expect disposition activity to be lower relative to prior years. Given the current market environment and our strong liquidity position, we are approaching asset sales opportunistically if we believe execution and pricing are attractive.

Moving on to expenses. Interest expense totaled $52 million for the second quarter, representing a 13% year-over-year decline, reflecting interest savings from the significant mortgage debt prepayments we made in 2019. At quarter end, our weighted average cost of debt was 3.2%, down from 3.5% from the prior year period.

Total G&A expenses further declined year-over-year as we continue to focus on operational efficiencies across the business. While we do expect G&A to trend higher over the next 2 quarters due primarily to noncash straight-line rent associated with the lease on our new headquarter space, we continue to expect total G&A expense to be between $76 million and $80 million.

Turning briefly to our Investment Management segment. Investment Management revenues declined 50% year-over-year with segment AFFO totaling $6.2 million or $0.04 per diluted share for the second quarter, reflecting the merger and management internalization of the CWI lodging funds completed in April. Our remaining fee streams from the managed programs are outlined in our supplemental report and are expected to be relatively consistent over the coming quarters.

As a result of the CWI transaction, during the second quarter, we recognized a noncash net gain of approximately $33 million within equity earnings upon redeeming our special GP interest in those funds, which is excluded from AFFO. Our remaining interest in the combined entity are comprised of our common and preferred equity, from which we do not currently expect to recognize dividends in AFFO for the remainder of the year.

With the completion of the CWI transaction and discontinuation of income streams related to those funds, we view our evolution to a pure-play net lease REIT as substantially complete. For purposes of segment reporting, beginning with the second quarter, all G&A expenses, other than those directly reimbursed by the managed funds, are included in our Real Estate segment.

Moving to our capital markets activity and balance sheet. Our balance sheet remains very well positioned with ample access to liquidity and very limited near-term commitments. We further strengthened our balance sheet during the second quarter through the equity forward transaction we successfully executed in June.

Given strong support from institutional investors, it included the full exercise of the underwriters' overallotment option and was executed at a gross price of $70 per share, generating gross proceeds of $382 million. The forward agreements allow us to issue a total of just under 5.5 million shares over 18 months. At the end of June, we elected to issue approximately 1.5 million of the 5.5 million shares for net proceeds of $100 million.

At quarter end, we had total liquidity of $2.2 billion, including cash on hand, available capacity on our $1.8 billion credit facility and the remaining shares available to issue under our equity forward agreements. This ensures we are very well positioned to pursue new investments and allows us to continue to access capital markets opportunistically.

We ended the quarter with debt to gross assets of 41%, which is at the low end of our leverage target range. Net debt to adjusted EBITDA was 6x at quarter end, an uptick from previous quarters, reflecting the impact of uncollected rent during the second quarter. Assuming the full settlement and issuance of remaining shares under our equity forward agreements, net debt to adjusted EBITDA would be within our target range.

In closing, our second quarter results reflect our consistently strong rent collections over the past few months, which has continued into July as well as the continued improvement in the quality of our earnings. Strong rent collections were also reflected in the stability of our dividend, which we raised to an annualized dividend rate of $4.17 per share during the second quarter. From a balance sheet perspective, we have further strengthened our position, ensuring we are both poised to take advantage of new investment opportunities and if necessary, navigate additional uncertainty surrounding the ongoing economic impacts of the pandemic.

With that, I'll turn the call back to the operator for questions.

(Operator Instructions) Our first question comes from Emmanuel Korchman with Citi.

Jason, maybe let's start with you. Just as you look at the back half of the year, I think you talked about your motivation and your ability to increase volumes. What asset types are you targeting, especially given your conversation about the fact that industrial isn't such high demand and maybe bigger risks to sort of the other net lease sectors?

Yes. I mean you're right. Our portfolio has held up well. Our balance sheet is in great shape. So we do expect to get back on offense in the second half of the year. The pipeline is building nicely. We mentioned we've done about $400 million of deals, mostly these capital improvement projects that have delivered this year with another, call it, 40, to go for the year.

Going forward, I think that the pipeline is a little bit more weighted towards the U.S. right now. Europe is showing some more clear signs of recoveries. I think we would expect that to pick up as the year goes forward. We are more focused on industrial despite the fact that those are receiving more capital flows and probably more compression. In fact, I think the highest quality of the industrial assets are probably, at this point, pricing at tighter levels than they were pre-COVID. So it just shows some demand in that space, especially high-quality tenants as well with their supply to quality.

So we're going to be more focused on sale leasebacks. That's where we can acquire industrial assets. I think the complexities involved with sourcing and structuring sale leasebacks will help us generate some incremental yield. It also helps us better underwrite these deals as well. Sale leasebacks, you tend to get more and better access to senior management since the company itself is your counter card in the deal. So that's our preference, especially in times of uncertainty right now, and I think you'll see some more of that.

Now other asset classes like office and retail, I think we'll be more opportunistic there and probably a little bit more conservative in our underwriting, especially on -- with lease end scenarios, as we know, those tend not to be as critical. But we do believe in diversification. So I think you'll see us continue to look at across the asset class spectrum.

Great. And then, Toni, one for you, just as you sat there in June saying, "We'd like to improve our capital position," how do we do that? What made you do a larger forward rather than doing either ATM at the time and getting that $100 million that you guys use in the quarter and then sort of assuming or hoping that the market would recover as you need more capital versus doing that forward equity deal?

Yes. Manny, I think the equity forward gives us a few advantages. It locks in our cost of equity capital, and we can fund deals accretively at that level. And it also gives us some flexibility to match fund our capital needs and our investment opportunities really kind of depending on the timing of when they flow in over the course of the year. So we did take the opportunity to draw down $100 million from that forward to fund the completion of 2 of our projects towards the end of June.

Our next question comes from Frank Lee with BMO.

Jason, in the past, you talked about potentially moving down the risk curve and acquiring lower cap rate assets given your cost of capital. Just want to get your current thoughts on this and if this scenario is still on the table?

Yes, certainly. I mean we've -- given our diversification, we can really consider a wide range of asset types, geographies for that matter. And also, that kind of plays into a fairly wide range in cap rates at the same time. I think that we still believe we can do accretive investments in the mid- to low-5s. This would be for higher quality, most likely logistics properties like the Fresenius deal that we just announced or the Stanley Black & Decker deal that we did at the end of last year.

So yes, I think there's still a -- certainly an interest maybe a bias to do some more of those higher-quality deals, even if it's tighter spreads. Again, sale leasebacks allow us to get in those at what we think is incrementally higher yields.

But we're still looking at deals in the mid-6s and through the 7s, kind of the -- these maybe are more of our typical sale-leasebacks, where, again, we can drive some incremental yield through sourcing and structuring. And maybe this is focused on sub-investment-grade credits as well, where we can use our underwriting expertise to help differentiate ourselves and make that on certain credits and tenants.

Okay. And then just want to follow up on your comment on focusing on industrial acquisitions. And you talked about the higher increase in competition you're seeing for this asset class. How does this compare with the competition you're seeing prior to COVID? And are you seeing any changes to the buyer pool?

Look, pre-COVID, I think industrial was still the most sought-after asset class and it had experienced the most cap rate compression. So that really hasn't changed. In terms of the buyer pool, I think some of it depends on U.S. versus Europe. I think that there are some have and have nots. A lot of the industrial REITs obviously have done quite well in terms of collections like we have despite being diversified.

So we tend not to compete against the industrial REITs. They're more focused on, in many cases, multi-tenant industrial assets. In other cases, if they're single tenant, they tend to be short-term leases generally so they can have the market-to-market opportunities. We still prefer to do the longer-term net leases. It fits our model with stability and predictability in our cash flows. So not a lot of change on who those players are given that, that asset class has generally held up fairly well.

(Operator Instructions) Our next question comes from Emmanuel Korchman with Citi.

Just a quick follow-up to sort of the questions discussed. A lot of companies have talked about sort of more safety stock and building out their -- the warehousing part of what they do. Does that change your approach or your underwriting or your conversations with any of these companies where previously, you hadn't really looked at those locations as maybe as mission-critical, but that backup inventory stock seems to, at least in those prices, have become critical?

Yes, I think that's a good point. I think there's also some conversations happening about onshoring of manufacturing as well for some of those same reasons to have more control over the supply chain. And I think we'll be a beneficiary of that. Anywhere that there's a change in demand and we own real estate, we're going to be a beneficiary. Whether it's warehousing for some backup supply or it's onshoring in the manufacturing space, I think that we could see some tailwinds certainly when it comes to re-leasing. But at the same time, our model is long-term net leases so they're stable. So perhaps, if rents continue to grow because of this increased demand, it's also going to provide further downside protection upon lease rate -- upon lease expiration.

Our next question comes from Spenser Allaway with Green Street Advisors.

You guys talked about deal flow picking out subsequent to quarter end. Can you just provide a little bit more color on how deal volume has trended between the U.S. and Europe?

Yes, sure. Yes, we've seen certainly a pickup over the last, I would say, 4 to 6 weeks, in both the U.S. and Europe. But currently, deal activity is a little more weighted towards the U.S., where our pipeline is right now, perhaps counterintuitive since Europe has been a little ahead of the U.S., earlier infections and now perhaps clear signs of early recoveries and reopenings. But it's also the slow part of the year for Europe as well, where activity tends to slow down considerably in July and August.

So while we're seeing a little bit more activity in the U.S. right now, I think once we hit September in the back half -- back quarter of the year, I think we'll see some interesting opportunities in Europe. And that will be a positive for us. Obviously, it's going to -- it helps widen our funnel. But there's also generally less competition in Europe for the type of assets that we buy. And we're also still able to generate wider spreads in Europe. So more U.S. now, but I think we'll see that moderate some as we get to the end of the year and Europe reopens.

Okay. And then I understand there's obviously a lot of unknowns still regarding the ongoing pandemic. But just curious if you guys kind of approached closer to about -- you're at 98% rent collection for July and you're fast approaching, it looks to be, a return to normal in terms of rent collection. What do you guys need to see to get comfortable perhaps reinstating guidance?

Yes. I mean it's a good question. It's something that we think about certainly. Because our rent collections have been strong, we performed very well thus far. But we just have the sense that there's just a lot of uncertainty out there. We see companies going back to work, perhaps schools reopening across the country. It's just hard to predict what's going to happen.

So I think we just want to see some broader stability before we kind of changed our view on guidance. It just seems premature right now to reinstate anything. And as we see more to come on the next earnings call, we'll give an update at that point in time.

Okay. And maybe just one more, if I may. Again, just with rent collection being so high, I'm just curious, how are conversations going with tenants still? Or what is general sentiment? Are tenants comfortable with liquidity positions? I'm just curious if you still have any conversation around potential for deferrals or anything like that, there's a need for that on behalf of your tenants?

Yes, sure. Brooks, do you want to handle that?

Sure. Credit quality, as you've said, has held up quite well in the face of COVID, and that -- there's a lot of things causing that, one of which is that our tenants are generally large in size, about 97% have revenues in excess of $100 million. And what that's allowed them to do is have a fair bit more breathing room and access to capital. So I would say the conversations with tenants have shrunk in number substantially.

We have a few tenants, which we would characterize as requesting relief, and virtually all of that is really just switching frequency from quarterly to monthly payments, and all of them are current, and we expect them to remain so. So that's really a cash flow management tool. And other than that, those conversations have really dissipated. So a little bit of cash flow management, conversations with tenants, but the focus is really, as we've said, in fitness clubs and theaters and restaurants category, which is pretty small for us.

At this time, I am not showing any further questions. I'll now hand the call back over to Mr. Sands.

Right. Thank you, everyone, for your interest in W. P. Carey. If you have additional questions, please call Investor Relations directly on (212) 492-1110. That concludes today's call. You may now disconnect.

Great. Thanks, everyone.