WP Carey Inc (WPC) 2010 Q2 法說會逐字稿

Good morning and welcome to the W.P. Carey second quarter 2010 earnings conference call. All participants will be in listen-only mode. (Operator Instructions).

After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Susan Hyde, Director of Investor Relations. Please go ahead.

Thank you, John. Good morning and welcome, everyone, to our second quarter 2010 earnings conference call. Joining us today are W.P. Carey's Chairman, Bill Carey; Interim CEO, Trevor Bond; Chief Financial Officer, Mark DeCesaris; Head of Domestic Investments, Ben Harris; and Chief Operating Officer, Tom Zacharias.

Today's call is being simulcast on our website, WPCarey.com, and will be archived for 90 days. Before I turn the call over to Trevor, I need to inform you that statements made on this earnings call that are not historic facts may be deemed forward-looking statements. Factors that could cause actual results to differ materially from our expectations are listed in our SEC filings. Now I would like to turn the call over to Trevor.

Thank you, Susan, and thanks, everyone, for joining us on the call today. It's been a very interesting year for us so far, a good year in most respects but not one without challenges and risks.

During the depths of the downturn, many of us had hoped that by midyear 2010 we would be seeing more clarity if not outright strength in the economy. What we have instead is some improvement but also continued uncertainty amidst some mixed signals.

Fortunately for us, in this type of environment our business model continues to serve us well because it's balanced and generally oriented to a timeframe longer than most difficult cycles. Talking briefly about those mixed signals which are widely reported and familiar to you all, and they change every day really, you get fresh news.

But on the positive side while it hasn't been across the board, many companies have reported solid second-quarter earnings so far. Also while it's still not robust, manufacturing has picked up and GDP growth has at least resumed and our portfolio has benefited somewhat from these trends so that for example we've seen defaults decline amongst our corporate tenants this year as compared to 2008 and 2009. And Tom Zacharias, our Chief Operating Officer, will touch on this in more detail later during the call.

On the negative side of course consumer confidence is still lower than ideal and this is reflected in continued weakness in demand for consumer goods. And maybe partially as a result of this, job growth has yet to pick up significantly and I think that's where all of us are wondering where -- what's going to happen with that.

There's still concern over bank balance sheets, the housing market and real estate generally and so uncertainty prevails. Going into 2011, this is likely to affect our owned and managed portfolios because we have lease maturities coming up and debt maturities that we will need to deal with and that will keep our asset management team challenged and again, Tom will talk about that more shortly.

So everyone would agree I think that it's a mixed bag. But as I said earlier, generally our business model enables us to perform well in this type of environment.

For example as most of you know, we benefit from having revenues from two primary sources, investment management and real estate ownership, and Mark is going to get into this in a little more detail shortly. But the broad effect of this balance can be seen in our adjusted funds from operations metric which shows that while our funds from the real estate ownership declined slightly, this was made up for by an increase in structuring revenues earned as we invested more of the CPA 17 funds.

There are other ways we benefit from current market conditions as well. For example, the real estate debt markets seemed to have segmented into two tiers in a way that's favorable to us.

The first tier would involve quality properties with low loan-to-value ratios for which there seems to be ample non-recourse debt available which is of course how we prefer to finance our investments. And so we have been able to place more acquisition debt this year as compared to last year and also to refinance existing investments.

On the other hand, the unsecured debt markets which is where many of our capital constrained potential tenants finance themselves are still tight which tends to make sale-leaseback financing a more attractive alternative for raising capital. And that trend has led us to continue to source solid transactions for our pipeline and Ben Harris, our Director of Domestic Acquisitions, will talk a little bit about that later as well.

One thing I should mention is that with modest improvement in the economy following a year or two when certain of our competitors were forced to the slidelines for various reasons, we have seen renewed competition on both the fundraising side and the acquisition side. The intensity hasn't reached the levels we saw during the peak, but it's growing nonetheless.

At the same time with respect to asset sales, a more realistic mindset seems to have set in and the bid-ask spread spread between the sellers and the buyers appears to have narrowed somewhat which may result in higher transaction volumes in the month ahead. And again, Ben can touch on some of that in a moment.

In any event, we think we are well positioned to meet these renewed competitive challenges. On that note, we recently hired Cabot Lodge to be President of the W.P. Carey and Co. Ltd. which is our UK-based subsidiary.

Cabot spent nine years with us earlier in his career and is a prominent figure in the sale-leaseback industry. We are very excited to have him with us and he'll be responsible for our acquisition efforts in Europe where we still expect to find a significant portion of our deal flow in the future.

On the fundraising side, despite a surge in competition in the public non-traded REIT sector, we expect to hold our own based on our long track record and our ever expanding distribution channel. So as I said, we face some challenges that I wouldn't want to understate and we faced some uncertain times but we think we are well positioned to compete in the near future.

Before I turn the floor over to Mark, I would like to make one brief comment on the recent management change we've experienced. As most of you know, our CEO, Gordon DuGan resigned on July 1 and the Board named me Interim CEO on July 5.

As a Board member and friend, I was sad to see Gordon go. We all were. He is a talented person and a great guy and he'll certainly be missed.

It's important to note that the decision was Gordon's alone and that he remains one of our larger individual shareholders. But looking forward, I think Gordon would be the first to tell you that the strength of this organization lies in the breadth and depth of the team that's still in place here. We have low turnover and good longevity, a good stable business model and that is the true strength of the firm.

With respect to my own role and the question of how long we will operate with an Interim CEO, I will say that I haven't placed a deadline on my tenure and fully intend to stay involved with the firm for a long time in whatever capacity makes sense. The Board will carefully consider the best course, always sensitive to the fact that this management group is cohesive and close knit and I think you don't want to precipitously alter a chemistry that's working well.

So in closing, I would like to emphasize that we're going to keep our focus on doing what we do best. And with that, I would like to turn the discussion over to our Chief Financial Officer Mark DeCesaris.

Thanks, Trevor, and good morning, everyone. This morning we released our second quarter financial results and we are pleased to report strong results especially in the growth of our investment management segment.

From an FFO standpoint for the six-month period ending June 30, AFFO increased approximately 14% over the prior year to $67 million or $1.69 per share. The increase was primarily attributed to the investment management segment whose AFFO distribution increased 34% to just under $35 million.

Investment volume was a primary driver of this growth as we closed approximately $291 million of acquisitions on behalf of the CPA funds in the second quarter, bringing our total acquisition volume for 2010 on behalf of the CPA funds to $404 million. In addition, we closed acquisitions totaling approximately $67 million for our own portfolio through the second quarter of 2010.

These acquisitions were spread over 11 separate investments for the six-month period. As Trevor mentioned, it's a challenging -- there remains challenges in this economy but we do well in this type of environment.

I think if you look at the trend over the last three quarters going back to Q4 of 2009, our investment teams have closed approximately $659 million in new acquisitions, $592 million on behalf of the CPA funds. Our assets under management in the CPA funds were valued at $8.6 billion at June 30.

This compares with $8.2 billion at June 30 of 2009 as well. During the six-month period, we raised approximately $288 million on behalf of CPA 17 versus $193 million for the same period in 2009.

So our fundraising continues to go well. In addition as I mentioned before, picking up the number of investments made over the last three quarters, we're comfortable that we have an investment pipeline that will put this capital to work and I'll introduce Ben Harris in a moment and he'll give you some more commentary on the pipeline as well.

AFFO contribution from our own portfolio of net leases was in line with the prior year at $32.2 million. In addition to the New York Times acquisition that we made in 2009, we have invested in two transactions this year, an operations center office building leased to JPMorgan in Fort Worth, Texas and a distribution and a warehouse logistics facility leased to Eroski in Spain in which we co-invested with CPA 17.

Initial annualized rents from these two transactions are expected to generate approximately $5.5 million annually. Let's talked about cash flow for a minute. As you know, we tend to look at adjusted cash flow as an important metric from a dividend coverage standpoint.

For the six-month period ended, we generated approximately $48.2 million of adjusted cash flow versus $50 million in the prior year. You'll recall in our Q1 call that we modified the way we receive our deferred acquisition fee from 17.

We now receive the first payment of this fee in the next quarter following the acquisition. The old method was that we received them in lump sum in January of each year.

The impact this has had was that while we received a lower lump-sum payment in January of this year, based on volume over the last three quarters, the cash flow we received from these fees throughout the year has increased. So we have been able to significantly reduce the delta from the reduced payment that we received in January.

In addition, we received about $1.2 million more in distribution from our ownership in the CPA funds, as a result of both increased ownership and dividend increases in two of those funds. We received approximately $1.7 million in distributions from our GP interest in CPA 17.

You'll recall that we replaced the performance fee with an interest in CPA 17's cash flow which allows us to receive a revenue stream that is in a much more tax efficient manner. As CPA 17 continues to become invested, this will become an important source of cash flow for us.

From a coverage standpoint, dividend coverage from an AFFO standpoint was approximately 167%. Dividend coverage from an adjusted capital standpoint was approximately 121%. So we're very comfortable with the coverage of our dividend. It's strong coverage and I don't have any real concerns about our ability to do that at this point.

Let's talk about our balance sheet for a minute. We continue to maintain a strong balance sheet with a total debt to total market cap ratio of 24% and an unsecured debt to total market cap ratio of about 11%.

You'll note in our balance sheet that our line of credit balance was approximately $172 million at the end of the quarter. Subsequent to the quarter in July, we did place debt on the operations center office building at Fort Worth. We used the net proceeds of approximately $30 million to pay down the line to roughly $141 million.

We are currently paying an average interest rate on the line of approximately 1.25%. This facility is currently due to expire in June of 2011 but can be extended at our option for one year through June of 2012.

Our investment in the CPA funds is currently carried on our balance sheet at $230 million. Based on the current NAB of the funds, this investment has a value of roughly $247 million. We have received distributions of approximately $8 million for the six-month period ended June 30, 2010.

So with that. I would like to turn the call over to Ben Harris who heads up our domestic investments group for some commentary on both some of the investments that have been closed in our pipeline as well.

Thank you, Mark. As Mark mentioned, we have had a very active 2010 not only in terms of dollar volume, but in number of transactions. If you remember our investment activities in 2009 year to date, we had completed less than $300 million of investments and that was significantly due to a single transaction that was a $235 million deal.

So we're seeing a more active investment environment but also I would say a more robust environment. As mentioned earlier, we completed 12 separate investments and volume is roughly 50-50 between the US and Europe.

The environment we have seen pricing firm up in the net lease space as competition has increased. Transactions are again being competitively bid. This is putting some pressure on cap rates again which is an interesting phenomenon. I would not have expected that to occur as quickly as it has.

But it's also creating incremental opportunities as sellers and also distressed owners are now more comfortable bringing assets to market. There's more of a recognition of what true values are today rather than the 2009 environment where you saw very thin activity, very few active buyers and very challenged financing.

We have seen a steady recovery in the commercial mortgage market. Interest rates remain very attractive on an all-in basis.

Underwriting remains very conservative. LTVs specifically are much, much lower than they were during the peak of the credit boom.

This impacts us less than some others. We have generally not employed a high leverage strategy but our expectation is that loan-to-values will remain conservative for the foreseeable future.

We've also seen some activity in the CMBS market again. There have been some news CMBS issues and we think that that will continue to build and you will see some recovery there.

Going forward, the economic picture remains very cloudy. There's still significant debt maturities both in the corporate and real estate debt markets that the market is going to have to deal with.

We believe are well positioned to take advantage of that and look to our pipeline and to continued opportunities to continue to build on our investment pace year-to-date. I'll turn the call over to Tom Zacharias for a portfolio report.

Thank you, Ben. I would like to provide a brief portfolio report for the second quarter for the public company and forward managed CPA funds. The credit quality of the lease streams in our portfolios continue to improve in the second quarter in line with general improvements in the economy.

As Trevor mentioned, there has been a significant decline in tenant defaults in 2010 as we expected. So far in 2010, only two tenants have filed for Chapter 11 and both companies have since exited bankruptcy and affirmed their leases.

Other factors contributing to the improved credit quality are increased M&A activity amongst the tenant base which has resulted in credit upgrades and tenants completing their restructurings and exit bankruptcy. We have seen a modest uptick in leasing activity and buyer interest in our vacant properties in the second quarter.

Tenants are becoming more comfortable with their space needs and making longer-term leasing decisions. On the debt side on our refinancings, we have seen more lenders interested in providing debt on better terms and a return of the large banks on carefully underwritten loans for securitization.

Occupancy in the WPC portfolio at the end of the second quarter was approximately 92% on 14 million square feet owned, down 2% from the prior quarter. This is due to in April a large tenant, Lucent, vacating a 437,000 square foot distribution facility outside of Charlotte, North Carolina at the end of their lease.

We now have lease proposaled that with prospects for the entire building. The building is a high-quality facility in a good industrial park in the North I-77 corridor, one of the best submarkets in Charlotte.

The percentage of pro rata lease revenue including equity investments expiring in the WPC portfolio for the next 12 months is approximately 15%. We've significantly reduced our lease rollover risk, however there are several tenants we've been unable to renew in 2010 and occupancy will come down slightly while we either release or sell the buildings.

Total pro rata lease revenues and rent from equity investments were down approximately 3% for the first six months in 2010 versus six months of 2009, reflecting the lower occupancy and the dspositon of a few assets. Using the metrically adjusted funds from operations for the real estate segment for the first six months, cash flow was down $800,000 or approximately 2%.

As Mark mentioned, this was more than made up by increases in investment management revenue for the first six months which was up $8.8 million or 34%. In the second quarter, the public company sold one small property for a gross sales price of $2.6 million.

In July, we sold another small property for $5.5 million. Both properties were at the end of their lease terms and were no longer being used by the tenants. We were pleased to sell these assets without any vacancy down time.

For six months, a total of six transactions, we sold roughly $19 million of properties. As Mark mentioned in the second quarter, one new property investment was made by the LLC at 70% interest in a distribution facility leased to Eroski in Spain for $19.1 million.

In addition to the JPMorgan acquisition, in the first quarter and to combine those two investments totaled $66.7 million. Both investments have 20 year leases. Now the average lease term in the WPC portfolio is 6.5 years.

We've continued to aggressively manage the portfolio by recycling capital from the older investments sold into new net leases. In the second quarter, we had no new refinancings in the WPC portfolio.

We have only one mortgage loan of $5 million coming due in the remainder of 2010. 2011 it's seven loans totaling $47 million; in 2012, five loans totaling $28 million. So on the liability side, we're well positioned as a company with very little mortgage debt to refinance over the next three years.

Now onto the CPA REIT funds with assets of about $8.6 billion. At the end of the first quarter, the occupancy rate on the 95 million square feet owned in aggregate by the CPA funds was approximately 98%.

There are no significant lease maturities in the CPA funds over the next three years and the combined weighted average lease term for these four funds is 12.4 years. Higher occupancy and these long lease terms are contributing factors to the stable valuations for these funds.

On the refinancing side in the CPA funds, there are seven loans totaling $32 million that we are seeking to refinance in the remainder of 2010, amount of debt in 2011 to refinance increases to about $230 million and that is only 6% of the CPA program outstanding debt.

In summary, the portfolios are performing well, credit quality is improving. We have additional activity on the space we have available to lease or sell. Now, I'd like to turn the call over to our Founder and Chairman of the Company, Mr. William Polk Carey.

Thank you Tom. Well I tend to look at everything as a shareholder and I could tell you that I could tell you from my shareholder's viewpoint, I couldn't be more pleased the way things are going. We have -- everything seems to be moving up (inaudible) it just couldn't -- hard to imagine the performance of these funds and the public company have done during this economic turmoil.

As far as I know, we've had (inaudible) judging the success of the public company, I tend to think that (inaudible) investment manager and no investment manager is any better than the job it does for the investors and its managed funds.

And those have all been outstanding. If fact I just -- I don't know managed funds of any kind that did better during the turmoil. If anybody listening knows one that did better, please let me know. Maybe I'll put some of my money into it.

People say I'm too highly concentrated, investing all my assets in W.P. Carey funds. But it's been very, very rewarding to know that we've been able to do well for our investors for all of these many years.

There's one thing that we have a little confusion about. (inaudible) I know that it's primarily a corporate finance burden, not a real estate curve and yet people say think because our funds are all real estate form and everything (inaudible) own a lot of real estate, they think it's a real estate firm.

What we are doing is we are -- our goal in life is to provide long-term financing for growing companies and to help them grow and create jobs and prosperity and pull this country out of a recession and pull it -- and do that wherever we invest. I believe it's a very worthy goal.

Our mottos as you may know are doing good while doing well and investing for the long run and I think they worked out well so far. And now, I'm happy to share any questions from the distinguished group that's been listening in.

John, if we can now turn our call over to a Q&A session?

(Operator Instructions) [Alex Cripps], Wellington Shields.

Good quarter. You guys mentioned seeing an increase in competition out there and some tightening in rates. I'm wondering if you could elaborate a little more on these new entities or who these folks are, and then more importantly whether you hear they're copying your tried-and-true business model of long leases, long-term financing? I know people have been shaken out in the past due to their more aggressive tactics and I'm wondering if you're seeing anyone try to follow what you guys have been doing.

Ben, you want to handle that question? Because I think you more directly involved with that.

Sure, we have seen -- again I was speaking as a comparison year over year. 2009 was characterized by almost a complete lack of financing for any transaction of any real size. If you are looking for mortgage financing for very small transactions, those are still possible.

But any -- a $50 million loan was an enormous undertaking and that has changed pretty markedly in 2010. You've seen the financing markets come back, you've seen some very large loans being completed on both existing net leases and also portfolio sales.

I would say that it's not as much a host of new competitors as it is a number of existing competitors that were under stress through the credit crisis and have stabilized themselves and either raised new capital or have addressed their balance sheet concerns and are moving forward. I think generally long-term net lease assets have performed pretty well through this period and certainly for assets with high-quality tenancy, there's significant demand from investors both in and outside the traditional net lease space.

So we have seen traditional real estate investors pursue some of those investments especially for where you have high investment grade tenants. There's a very large Microsoft campus that traded on the West Coast earlier this year that -- I don't know that that transaction would have been possible a year ago.

Understood. If I could just ask two more questions kind of more long-term in the future. I know a while ago we were talking about an office in Asia and I know we were talking about how things are structurally different there. But I'm wondering if activity in Asia is coming any further into view or how you guys look at deal potential over there.

I think we have been cautiously exploring that market for some time now, not wanting to devote too many resources to it until the picture becomes clearer and as has probably been discussed on the call earlier, there are structural issues involved in the market, a high tax structure and things that make it not as ideal for our current net sale leaseback product.

But we just think that the market is evolving, the financial services market is maturing over there and that eventually sale leasebacks will become an accepted tool for chief financial officers in the same way that happened in Europe. When we first started in Europe, it was -- long-term sale leaseback was not as accepted and now it's become much more accepted.

So the goal is to wait that out without spending too many resources. And then in the meantime what we're finding is that there may be corollary opportunities that come about because of some of our core skills here. So if we could work on the long-term, try to earn some revenues in the short run while we're waiting for that market to develop, that would be a good thing. It's very exploratory right now and we are cautiously optimistic that something will develop there, not in the next year.

That's what I was taking from that. Last question, any opportunities with the fiscal stress on municipalities and governments here in the US? Any -- I don't know if you guys would look at a deal for a government building I guess. I had that question put to me.

Well we certainly have done government deals in the past. Ben, do you want to talk a little bit about that?

Sure, we have seen a lot of -- there's been a lot of exploratory work done in the municipal finance space, both municipal and state transactions. You've seen several very large transactions occur.

For us, it's really just a risk return trade-off. The level of interest that investors have shown for those assets has surprised me and I think I would say that my expectation is that you're going to see -- you will see activity there but I don't know that it will be what I would consider opportunistic.

Andrew DiZio, Janney Montgomery Scott.

First a couple questions on the investments. First I guess you talked a little bit about renewed competition and the bid-ask spread narrowing. Can you characterize that as far as the United States versus Europe goes?

I was speaking specifically about the United States but we're starting to see it in Europe as well. Europe seems to have been just a few months behind us throughout this whole cycle and that trend has sort of continued.

I would say the change in underwriting standards on the mortgage side in Europe has been more significant than here. Going into the crisis, we were obtaining higher loan-to-value loans than we were here in the US and coming out of the credit crisis, we're obtaining lower loan-to-value loans in Europe than here in the US. So I think the change in mortgage financing that's available has been more dramatic in Europe.

Okay, that's helpful, thanks. Then looking at the Spirit Finance portfolio that Macquarie's been out there shopping, is there anything of interest in there as far as the distribution facilities or anything else to you guys?

We're reviewing all sorts of opportunities. That's one of several large portfolios that have come to market.

Again, I mentioned earlier that as competition has increased, it has increased incremental opportunities. And I think that specific portfolio is a great example of that.

Sellers are finally coming out of the woodwork. You actually saw an EOP asset trade just a couple of months ago from a distressed buyer. I expect that to continue. I don't have any comment specifically on where I think the Spirit portfolio will trade or what will ultimately come out of it.

Sure, understood.

Still, a lot of people are looking at it.

And then a question for Tom. Looking at the about 800 basis points of vacancy in your core portfolio and you talked about the Charlotte vacancy which I think is about 220 basis points or so. For the remainder, can you generalize that as far as whether it's custom buildout space or is generic space?

Say the last part of the question. Is it a what?

The space outside of the Charlotte space that's currently vacant in terms of re-leaseability? Is that pretty generic space or specialized?

It's generic. It's a distribution facility and there's a lot of -- there's good interest in it right now.

I guess I meant besides Charlotte.

Besides Charlotte.

Yes, the balance of it.

It's sapce that we are actively marketing. It's leasable generic space distribution, the next largest piece is a distribution facility in Jacksonville, Florida.

That's been a lot slower market than Charlotte. We are actively working all the opportunities. And in the second quarter, we've seen a little bit of an uptick.

So, there's been a decrease in occupancy and then we are working on transactions that will bring that back up again. It's not happening as fast as we would like. These things take a while to work through but we have a good team working on all the assets.

David West, Davenport & Co.

The first is general -- a sense from your general comments about Europe. It sounds like the conditions there, there hasn't been a dramatic fallout from all this sovereign debt crisis from what you're trying to do day to day. It sounds like the market opportunity is still very much alive. Is that a fair characterization?

Yes, I think that is fair.

Is it because of the concern about the local banking situation? Is that perhaps enhancing your competitive position in Europe?

I think we are seeing that as I had mentioned before. Some of the tenants that we see are those who have some capital constraints. So our form of financing is becoming more attractive to them. So I think that is -- we're definitely seeing that in Europe.

Very good. I guess this one is for Mark. The equity investment line hit a nice $7.6 million gain and you mentioned some of that came from your new fee arrangement on CPA 17. Can you roughly characterize what percentage of that line item CPA 17 represented?

CPA 17 represented roughly probably close to about $2 million of it this quarter, the majority of the increase. So if you recall last year at this time, we took roughly $55 million in impairments in the CPA funds in the six months ended June of 2009 which contribute to a much lower equity pickup from an income statement standpoint.

This year the impairments that we've taken in the CPA funds are roughly about $10 million to give you an idea. We tend to look out more importantly [as the] distributions obviously that we get from our ownership in the CPA funds which actually on a six-month period roughly increased by about $1.3 million, $1.4 million.

And that has some you think -- somewhat reoccurring element to it with the new fee arrangement?

Yes, I would expect -- distributions from our ownership in the funds occur from two sources. One is just strictly our share ownership and those shares -- our ownership increases each quarter as we take a portion of them in fees as well as dividend increases in the funds themselves.

And then there's a new fee arrangement with 17 which is based on a percentage of cash flow. And as we continue to invest in 17 and as I said over the last three quarters, we've invested close to $650 million in the funds, most of that has gone into CPA 17.

So as that cash flow increases, I would expect that distribution to continue to increase as well. And as I've said, we've structured that so there's no corporate level tax dilution to that fee stream. We received it in a much more efficient manner.

Very good. And lastly, just a general question on this. As you try to renew some of your leases, terms and conditions, are you looking at things that are fairly equivalent to what you have now or are you able to get any lease increases?

It's a mix. We're working on a transaction now where we will get an increase over the prior rent. But generally it's fair to say that in this market today, when we're leasing, it is below the last rent we were receiving. But it is a mix.

This concludes our question-and-answer session. I would like to turn the conference back over to Susan Hyde for closing remarks.

Just as a reminder to everyone, we will have a replay of the call including webcast and podcast available after 2 PM today and you can find the information about how to access those replays at the end of our press release. We do thank everyone for joining us today and we look forward to speaking with you again next quarter. Thanks so much.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.