Whitestone REIT (WSR) 2011 Q1 法說會逐字稿

Greetings and welcome to the Whitestone REIT first-quarter 2011 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, Ms. Anne Gregory, Vice President of Marketing and Investor Relations for Whitestone REIT. Thank you. Ms. Gregory, you may begin.

Thank you, Operator. Good afternoon, everyone. Before we begin our prepared remarks, I'd like just to remind you that this call is being recorded and is the property of Whitestone REIT. Leading the call today is Jim Mastandrea, our Chairman and Chief Executive Officer, and Dave Holeman, our Chief Financial Officer.

Please note that some statements made during this call are not historical and may be deemed forward-looking statements. Actual results may differ materially from those indicated by forward-looking statements due to a variety of risks and uncertainties. Please refer to the Company's filings with the Securities and Exchange Commission, including the Company's Form F-11 and Form 10-Q for a detailed discussion of these risks.

Acknowledging the fact that this call may be webcast for a period of time, it's also important to note that today's call includes time-sensitive information that may be accurate only as of today's date, May 16, 2011. The Company's supplemental fourth-quarter operating and financial data package was filed with the SEC today on Form 8-K. The filing will also be posted on www.whitestonereit.com in the Investor section. Also included in the supplemental data package are the reconciliations from GAAP financial measures to non-GAAP financial measures.

And with that, let me pass the call to Jim Mastandrea.

Thank you, Anne. I would like to welcome everyone joining us on the call today. My comments will focus on Whitestone's business and our unique strategy that will support our continued growth. Let me first start out speaking about our recent transactions.

I'm pleased to report that we have completed a follow-on offering that raised approximately $60 million to fund future growth. Institutional investors represented 40% of the transaction. In addition, we were also very close to finalizing an unsecured revolving credit facility with Bank of Montreal. The credit facility will initially be $20 million with an accordion feature that would let it expand to $75 million of capacity as we grow.

While I can't provide additional details at this time, the takeaway is that with the additional proceeds from the line of credit and our recent offering, we will have well in excess of $100 million of available funds for acquisitions while still maintaining a debt to gross asset value of less than 6%.

Whitestone is well-positioned to grow profitably in the coming year. We would expect to deploy the vast majority of capital into acquisitions of value on Community Center properties over the next eight months. We currently have 10 properties under letter of intent and one under contract. We also expect to utilize our currency of operating in partnership units on some of our acquisitions.

While there is no certainty we will be able to close on any of these deals, we remain optimistic as our pipeline of properties of over 800,000 square feet with an estimated cost of $107 million, or $132 per square foot, are well below replacement costs, will fill the needs of the capital that we've recently raised.

I will discuss more about the Community Center business model following Dave Holeman's review of our financial statements. With that, I'll turn it over to Dave.

Thank you, Jim. Hello, everyone, and welcome. I will be sharing the highlights of our first-quarter operating and financial results. I encourage all of you to read the Company's Form 10-Q and first-quarter supplemental financial package, both of which have been filed with the SEC and are available on our website. They contain greater detail of our business than I will be able to share with you today.

Funds from operations, or FFO, for the first quarter of 2011 was $2.1 million, a 7.6% increase from the same period of 2010. FFO per share was $0.29 per common share and operating partnership units for the first quarter. In the first quarter, our total property revenues increased approximately $400,000 or 5% over the first quarter of 2010. Same-store property revenues represented 3% of the 5% overall increase. Property expenses for the quarter were flat with the prior year. Same-store expenses were down 4% as compared to 2010, primarily as a result of decreased property tax expenses.

The Company continues to successfully battle for lower property taxes and, again, these efforts have paid off, as we realized a same-store decrease of approximately $200,000 over the same period of 2010. We continue to pass these savings on to our tenants, since most of our leases are triple net, providing their businesses with greater chances for financial success.

Property net operating income increased 7.5% to $5.1 million in the first quarter. This increase came primarily from same stores. At the corporate level, we continue to seek cost savings through an ongoing operational efficiency program, seeking continually to turn our team's creative ideas into operational efficiencies.

We internally manage a portfolio of approximately 3.2 million square feet with a dedicated team of 52 employees. Our first-quarter G&A costs increased approximately $250,000 as compared to the same period in 2011. The majority of this increase relates to outsourced legal and professional fees. We remain very diligent in our cost-saving efforts.

I will remind you that we still have in place a company-wide salary freeze, which has been in effect since March of 2008, with additional company-wide salary reductions that were implemented in October of 2009, also still in place. As we grow, we expect to continue to leverage our G&A costs over higher revenues, thus reducing our G&A costs as a percent of revenue. As a growth company, we will have some volatility quarter-to-quarter, specifically relating to the cost of acquiring new properties.

We also utilize technology to help us control costs and protect our business. We provide our leasing and property management teams with robust systems and streamline processes, in order to ensure they can produce attractive returns without sacrificing customer service or property maintenance standards. We close our books quickly each month in order to provide the information necessary for our associates to proactively stay in front of any potential issues.

Before turning to our leasing activity for the quarter, let me address our operating portfolio occupancy rates, which was 84% at quarter-end. 84% represents a 2% increase from the first quarter of 2010 and a 2% decrease from year-end 2010. Due to the relative size of our portfolio, our overall occupancy rate can be impacted quarter-to-quarter by the timing of leases ending and new tenants moving in.

The occupancy decrease from year-end primarily is the result of an anticipated non-renewal of a 42,000 square foot grocery store leased to Kroger, and the closure of a Blockbuster store, both of which were located in Houston Community Center Properties. We currently are in negotiations on both of these spaces' perspective tenants, including a Latino grocery chain and a national shoe retailer.

As of the end of the first quarter, the Company had approximately 50,000 square feet of leases that had been executed by the tenants, but had not yet moved into our properties. We also had approximately 80,000 square feet of leases out to new tenants for signature. This leasing pipeline of approximately 130,000 square feet represents an increase of approximately 4% to our quarter-end occupancy, and would be offset by tenant non-renewals and defaults.

During the first quarter, the Company signed 218,000 square feet in new and renewal leases, primarily with tenants that require less than 3,000 square feet in multi-cultural neighborhoods. Our approach to leasing is quite unique and effective. Typically, we seek shorter leases on smaller spaces, which gives us greater tenant diversification and provides a premium rental rate.

The typical tenant tends to become ingrained in the community, and other than growing within one of our Community Centers, they tend not to relocate. With shorter leases, we are able to take advantage of their growth and increase rates more often. This process is proving to be effective and more profitable for us than traditional long-term leases.

The increasing rental premiums we receive on spaces that are less than 3,000 square feet further validate our Community Center property business model is working by driving margin improvement. The leases we sign with small space tenants carry a 56% premium when compared with the average rent for spaces larger than 3,000 square feet.

During the first quarter of 2011, our leasing team produced a 45% increase in the number of new and renewal leases signed as they completed 80 in the first quarter of 2011 versus 55 in the first quarter of 2010. Furthermore, these leases represented a 57% growth in the square footage of new and renewal leases signed. In the first quarter, we signed leases for 218,000 square feet versus leases for 139,000 square feet in the first quarter of 2010.

We're also excited about the signing of an approximate 10,000 square foot lease in one of our newest acquisitions, The Citadel, in Scottsdale, Arizona, with the BICE Group, for a new upscale restaurant. In addition to this lease, we have embarked on a transformation plan up to 28,500 square foot Community Center. This includes the investment of an additional $1.5 million, which would bring our total cost per square foot to approximately $130, which is well below replacement cost.

We are focused on adding new office and retail specialty service tenants who understand the local community needs. When the tenant improvements are complete and BICE begins operating, occupancy at The Citadel will increase from its current level to 56%. We also have an attractive active prospective tenant pipeline that currently exceeds 30,000 square feet of prospective tenants for our Sunny Slope Village property, our second post-IPO acquisition, which is also located in Phoenix.

Now let me turn to our balance sheet, which, with the completion of our recent capital raised, is quite strong. On May 5, Whitestone raised net proceeds of approximately $60 million through a public offering of 5.3 million common shares at a price of $12 per share to support our future growth.

Our balance sheet has 14 unencumbered properties with a non-depreciated cost basis of approximately $62 million, providing additional financial flexibility. At the end of the first quarter, the Company's undepreciated real estate assets were $206 million, and our total property debt was $104 million. We have no debt maturities until late 2013, and as of the end of the first quarter, 75% of our debt is at fixed rates. Our total blended interest rate on all of our debt at quarter-end was approximately 5.6%. Our first-quarter interest coverage ratio, which we define as EBITDA divided by interest expense, was a very stable 2.6 to 1.0.

With that, let me pass the call back to Jim.

Thank you, Dave. While we were pleased with our firs- quarter results, we are very excited about the additional progress we've made on acquisitions and our capital markets activity, following the end of the quarter, that will position us to drive additional growth and value.

While the economic picture of the US economy in 2011 is one of stagflation, our Community Center property business model, which provides primary needed services to a community, should continue to prove to be effective. We expect that the economic recovery and job growth will remain sluggish throughout this year, and are hopeful that the political landscape will provide positive changes for the entire country in 2012.

With that said, in our key markets, Houston, Chicago, and Arizona, the unemployment trend is below the national average. These markets are growth markets, and our tenants are heavily oriented to the service sector versus the sale of products. Specifically, the national trend in service businesses, both sequentially and year-over-year, has been positive. For example, health and personal care stores achieved over 6% growth in annual sales, while food and beverage stores' annual sales were up almost 4%.

The Whitestone business model is primarily about our Community Center properties. Our unique approach is not just about the real estate, but what we do with the real estate -- our properties -- and how we position the buildings that we own. In the Community Centers, which we define as visibly-located properties in established or developing, culturally-diverse neighborhoods, we target primary service-oriented tenants who provide necessary services to their surrounding neighborhood.

These tenants represent a solid base of cash flow. As they grow and expand over the years, their space needs grow. We are able to provide additional space, which helps our business to grow as well -- a true win-win. Almost 71% of our nearly 800 tenants on average lease less than 3,000 square feet. The great thing about small spaces is that they provide Whitestone with a 56% leasing premium on space 3,000 square feet or less.

Last, we focus on underserved, culturally-diverse populations within our markets, such as Asian and Latinos. And we manage our local operations to the specific needs of a population surrounding each of our communities. Our business model is one that is effective in good economic periods, and has proven to be resilient during the sustained slow economic recovery.

With regard to acquisitions, our pipeline of potential acquisitions is substantial. We would characterize the most likely acquisition targets as value-added opportunities with various levels of in-place cash flow. The properties range in size from 25,000 to 200,000 square feet, and range in cost from $3 million to $30 million. The locations are in high traffic, established, visible areas.

Our acquisition strategy seeks to take advantage of the real estate values that remain suppressed, with a focus on purchasing relatively new properties in growth markets at prices below replacement cost. We purchased three properties with the proceeds from our IPO in August.

In April, we added a third property in Phoenix, Arizona, which was Desert Canyon Community Center in McDowell Mountain Ranch located in northern Scottsdale, Arizona. The Center, which contains 62,500 leasable square feet, was purchased out of foreclosure for $3.65 million or $58 per leasable square foot. The amount paid is significantly below the Center's replacement cost. Occupancy at Desert Canyon was 65%, and in-place, annualized base rental revenues were approximately $450,000 at the time of purchase. We expect to further increase the value of this investment through leases and the implementation of our business model.

Our growth initiatives for 2011 are on track. We have increased our balance sheet, flexibility, and capacity, and are well-positioned to expand in our core markets. Whitestone's growth will come organically from our existing portfolio, as we seek to increase occupancy through aggressive leasing efforts, and also through selected redevelopments of properties, then through externally, the acquisitions of new Community Centers.

Our external growth focus continues in the Phoenix area. We look for properties with stable, in-place cash flow and those with high value creation potential through value-add initiatives, including redevelopment, repositioning, expanding, and/or re-tenanting.

This concludes the review of our results. Operator, we will now take questions.

(Operator Instructions). Paul Adornato, BMO Capital Markets.

Dave, I was wondering if you could tell us what bad debt was in the quarter?

Thanks, Paul. The question was bad debt for the first quarter. I think, as we've mentioned previously, we have continued to see good trends in the bad debt area. Our bad debt for the first quarter, I believe, was approximately 1% of revenue.

Okay. I think you mentioned that if all of the signed leases took occupancy, that would increase occupancies overall by 4%. I was wondering what the typical roll-off or non-renewal rate would be, so that -- what the net number might be off of a 4% increase?

Sure. I did mention that we have about 50,000 square feet in leases that have been executed with new tenants. Those tenants just have not yet taken physical occupancy of our properties. We also have about 80,000 square feet in leases that are out for signature with tenants. And I think that's the 130,000 square feet you refer to. Our portfolio is a little over 3 million square feet, so that 130,000 square feet translates to an increase of about 4%.

Historically, we have seen an attrition with this portfolio in the 8% to 10% of square feet. So roughly, on 3 million square feet, that's roughly 250,000 to 300,000 square feet, as it would move out each year. So, hopefully, that answers your question, Paul.

Okay. So the 250,000 move-out is an annual number and --?

(multiple speakers) Yes.

Right. Okay.

(multiple speakers) -- that's about 80,000, right.

Okay. And I was wondering if you could give us a little bit more on the Blockbuster and the grocery move-outs that you talked about? When did you know that those tenants would not renew? And maybe give us a little update on the leasing efforts there?

Sure. Paul, this is Dave again. I'll start out and Jim may add to this. But the Kroger store, basically, we had worked to renew that tenant up until early first-quarter -- significantly worked to renew the tenant, and were notified that they did not intend to renew early in the first quarter.

Blockbuster as well -- I think we were given notice in the first quarter that they were not going to renew. Blockbuster is a pad site at our Sugar Park property. It's a great site. We're in discussions currently with a national shoe retailer to take that site, and really expect to be able to renew -- to re-lease that pad site hopefully very quickly.

As far as Kroger, we're working with several prospective tenants. Among those are a Latino grocery store operator that has multiple locations in Texas. We also have a few other prospects. I don't know if you want to add to that, Jim --? (multiple speakers) Yes.

Yes, I do. The Kroger store -- we had actually anticipated that they would stay even in the first quarter until it came down to the last -- I want to say 30 days before their lease expired. So and one of the things that we found in their moving out, they wanted to make it a little bit difficult for competition to come in.

And what we found is that we have a new Latino grocer who's interested in the space. And of course, they were aware of this. We are in the process now of negotiating a lease with this grocer. We had identified this property in three categories. One was we had an interest in one wanting to buy it last year. So the question was, should we sell it? Because we didn't necessarily identify it as a long-term growth opportunity for it.

The second was, would Kroger stay or go? And if they left, what would we replace them with? And we thought we would manage the process for a few months to see if we would have the likelihood of putting in another grocer without physically changing the space.

And then the third was to break it down and put it into small spaces. We're pretty close to finalizing a decision on which direction to go with that property. I'd like to think it would be sometime probably before the end of the quarter, where we might have some better idea in terms of what we want to do with that property.

With regard to the Blockbuster, it's in our Sugarland property, which is just an excellent area, and we've already got some prospects that are interested in that space.

Okay. I'll leave it at that for now. Thanks.

(Operator Instructions). Carol Kemple, Hilliard Lyons.

Was there any one-time expenses in your operations and maintenance?

I'm sorry, Carol --?

In the operation and maintenance line item on the income statement, was there anything one-time included in there? Or is that a pretty decent run rate?

Hey, Carol, this is Dave. Thanks for the question. I'm trying to think -- there really were no -- nothing pops out in my mind as far as one-time items. As you know, in a -- the relative size of our portfolio and the timing of when we might do repairs or maintenance, any -- what might be a small amount can have an impact in the quarter. But I can't think of anything that was really substantially one-time in this quarter.

Okay. And then I know you talked about the salary freezes and I know you've been talking about those for a while. At what point do you think you're going to have to -- you're going to raise salaries or you're going to start to lose good employees? I mean, do we need to look at that area going up soon?

We have, traditionally -- and I say traditionally -- in my practices before Whitestone and also in this Company, is we've always tried to gear our compensation towards incentive basis.

What we did is, in October of 2009, we reduced the management team's salaries by 12.5%. We have in place fairly high FFO goals, that when we hit the first goal, half of that reduction will come back, and the next goal, the other half will come back. So we don't see that going up in all likelihood this year. It will probably happen sometime next year. So we don't see a significant increase in salaries. If it was all issued tomorrow, it would not exceed $400,000.

Okay. And so is that -- besides management, is that the same way for the other employees, their raises won't come back, yearly raises or however it comes, until you hit your first FFO goal?

Let me maybe add a couple of points to that, just to clarify a couple of things. We have -- all of -- we took salary increases all across the board back in October of '09. We have reinstated some of the employees typically from the mid-employees to the lower level employees, we have reinstated their salaries. So, really, the salaries that have not been reinstated are the senior management group.

At this point, we have discussed restoration of those salaries but no decision has been made by the comp committee as far as when they would be restored. The expectation is clearly that we have some significant growth in the business, and that we leverage our G&A costs over much bigger revenue numbers. So while there's been discussion as to salary restoration, no -- no decisions have been made.

Okay. Thank you.

(Operator Instructions). [Bill Atchison], Ladenburg Thalmann.

In terms of the credit environment, have you noticed any improvement in the ability of smaller tenants that get financing to -- either for store expansion or for inventory or for whatever?

Well, Bill, this is Jim. Most of our tenants are not selling goods. I mean, what they may be doing is buying food on the restaurant side or some of those services. But we haven't noticed any credit problems there. We have not noticed any credit problems on some of the other tenants that we have as yet, but that's not to say that they're not in existence yet.

Dave, you might want to add to that?

I think [the thing] I would add was, we are seeing a little bit of improvement in the credit markets overall, just a little bit. And from a bad debt perspective, as I mentioned earlier, our bad debt trends have been good. Bad debt in the first quarter of this year is just slightly under 1%. I believe it was a little bit north of 1.5% last year, and the prior year was 2%. So we are seeing a little improvement in the default rates of our tenants in our portfolio.

Okay. And since you guys are so big in Texas, is there some way to quantify the improvement that you might be experiencing because of the increase in oil prices?

Well, that's a good question. (laughter) I don't know that I'm smart enough to do that, Bill. Obviously, the Houston market and Dallas market have done well, but how much of that is related to the oil, I don't know that I could quantify.

One of the things, Bill, with our tenants is that because we focus on three to five miles within the radius within a property is that the trips to and from our Community Centers are relatively short. It's not like destination properties; they're really community properties. And so we haven't really seen that affect. And because we try to find as many roof tops around the properties as possible, then we find that they've been able to sustain themselves.

What we've really done is we've really focused on our properties and how we can maximize those values of those properties. So we haven't really looked outside of them too much.

Do you have a figure that you can give us for, like, tenants that are related to oil or oil services?

I don't, but I know that we have looked at our tenants by set code and by various industry codes. We haven't published that recently. But the last time we looked, we really have no significant industry concentration. Our tenant base is very diverse across a lot of industries.

Okay. Well, something is going right down there. Dallas and Houston were number one and number two in job creation year-over-year. So I guess we could just leave it at that. Uptown Tower -- is there some way to get some leasing work done there ahead of the expirations over the next several years?

Uptown Tower is a 12-story, 250,000 square foot center in Dallas. It's one of our two properties we have in the Dallas market. We also have another Community Center that is about 7,000 square -- 7,000-story [sic]office building as well. We have a team of leasing people in Dallas that is very much actively looking to renew leases and sign new tenants. I think, as we've discussed before, we like to get in front of our tenants, see their 18 to 12 months in front of their lease expirations and actively work those renewals.

Our business model is smaller spaces, smaller tenants, shorter leases. So I think the amount of roll we have in Dallas as well as our portfolio, we're very comfortable with, and have historically renewed those at a nice rate.

And Bill, what we saw in the last 12 months was, about a year and a half ago, we took over the executive suites -- originally, there was a tenant who leased from us and then sublet about 18,000 square feet of executive spaces at around 200 to 300 square feet in size. And they moved out and it was relatively low in occupancy, I'd say, in the [20s]. We took that space over, as opposed to finding a new tenant, and we run that ourselves. And we noticed that it's been full and we have a small waiting list to get in. And so these are small 200 to 300 square foot sizes.

We've thought about adding more capacity to that. And what we like about it is that it's a feeder into the next move up, as these companies expand -- move them up into 1,000 or 3,000-type square footage spaces. So if that's any indication, at least on the very small end, we're seeing that there's a stronger demand for individuals.

One other thing I might just add as well is, if you look at the rental rates at the Uptown Tower, really, as a result of being able to roll those leases, we've increased the rental rates from just under $13 in 2006 to just under $18 in 2010. So, really part of the model is the rent roll that we have and then being able to push modest increases through.

Okay. On the property tax savings, I think it's awful nice you guys pass them on to your tenants, but don't you charge them something for going to court for them, going to bat for them?

(laughter) We do. We do pay consultants to help us with reducing property taxes, and our tenants pay their pro rata share of that consulting expense. So they get the benefit of the tax reduction as well as the cost of helping us do that.

Okay. Well, it's a great longer-term strategy.

There's another area like that, Bill, and Dave can address that, if you will, Dave. And that's one of the utilities, as well. We negotiate our utility contracts, and we found in the contract we just negotiated, like a $92,000 savings for the year ahead.

Yes. With these smaller tenants, obviously, an entrepreneurial business is we do everything we can to help them have reduced operating expenses. So we'll actively work to reduce our electricity costs. We'll reduce the property expenses. We'll bid out our contracts for repairs and maintenance. So part of the model is, obviously, decreasing the amount of reimbursable expenses the tenants pay, as it allows us really to increase the base rental rate because the tenant is paying the same amount monthly, which is more profitable to us.

Sure. Last question -- everyone seems to be going a little bit further afield, looking for acquisitions, a little bit further out on the risk curve. I was wondering if you've seen any change in the number or percent of public companies that you've ended up competing with for acquisitions in your space?

We still have not seen any other public companies in our space yet, but we have seen a little more competition on the private side. And we're seeing the prices move up on a square-foot basis -- slightly, not a lot, but slightly. But we have not seen any public companies in our space yet.

Okay. Thank you very much.

Anne, would you like to see if there's any more questions?

Operator, are there any more questions coming from the listening audience?

Yes, one second, ladies and gentlemen. (Operator Instructions).

Okay. Well (multiple speakers) --

I'm sorry. It seems we do have another question from the line of Paul Adornato with BMO. Please go ahead.

Yes. I was wondering if you guys have considered providing guidance, now that you guys are growing up as a company and appealing to a larger institutional audience?

Paul, that's a compliment -- growing up. I love that. (laughter)

Thanks, Paul. This is Dave. At this point, we have decided not to issue guidance, but understand your question. And obviously, we will consider -- continue to consider that as we grow and evolve as a company.

Okay. Thank you.

We do realize, Paul, that becomes important, and we do appreciate the institutional investors that we have in the Company. And we also understand that they will be looking forward to that in the future, too.

Well, I'd like to thank you all for joining us today. And this is the second time that we've had this conference call. We're going to continue with these in the future. We are excited about Whitestone and its future. I will be spending the rest of the week looking at the acquisitions that we have under consideration right now. And it's something that we will just stay very focused on to invest the new monies that we've just raised in the marketplace.

With that, I'd like to say that at any time, any of you are free to give me a call, or if any of you, from time to time, would like to meet with us and look at some of our properties, please feel free to give Anne Gregory a call. And with that, Operator, I'd like to say good bye and thank you.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.