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AmREIT Inc. (NYSE:AMRE)

Q4 2012 Earnings Call

February 20, 2013 11:00 AM ET

Executives

Mary Trupia - IR

Kerr Taylor - President and CEO

Chad Braun - EVP, COO and CFO

Analysts

Tayo Okusanya - Jefferies

Paula Poskon - Robert W. Baird

Operator

Good morning and welcome to the AmREIT Inc Fourth Quarter 2012 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. (Operator Instructions). Please note this event is being recorded.

I would now like to turn the conference over to Mary Trupia. Please go ahead.

Mary Trupia

Thank you Sue, and good morning everyone. Thank you for joining us today to discuss AmREIT's fourth quarter 2012 results. On the call today are Kerr Taylor, Chairman and Chief Executive Officer; Chad Braun, Chief Operating Officer and Chief Financial Officer; Charles Scoville, Director of Real Estate Operations; and Brett Treadwell, Chief Accounting Officer.

The results as well as notice of the accessibility of this conference call on a listen-only basis over the internet were released yesterday afternoon in a press release that's been covered by the financial media. For those of you who did not receive a copy of the fourth quarter earnings release, you can reach me at 713-850-1400 or download it from www.amreit.com by going to the Investor's section and clicking on financial reports. Also, for those who want to listen to a recording of the prepared comments today, we will have a replay available by phone or via webcast on the website.

Before we begin the call, I would like to remind you that some of the statements made in this call are forward-looking statements and as such are subject to many factors that could cause actual results to differ materially from the Company's expectation. These factors are described in the Company's SEC filings. AmREIT undertakes no obligation to publicly update or revise any forward-looking statements.

Now I'll turn the call over to Kerr.

Kerr Taylor

Thank you, Mary. Good morning and thank you for participating in our fourth quarter earnings call. 2012 was an exciting year for AmREIT and it concluded with a very strong fourth quarter. As many of you know AmREIT has one of the highest quality grocery and drug-anchored portfolios within the shopping center space. We remain focused on five of the top growth markets in the country, Houston, Dallas, San Antonio, Austin and Atlanta. Texas is one of the strongest economies in the nation and Houston and Dallas rank number one and number two respectively in job growth.

Our focus as a local sharpshooter, combined with our strict underwriting criteria has resulted we believe in one of the strongest high quality portfolios in the shopping center space from a demographic perspective. Our average household income within a one mile radius of our properties is over an $110,000 and we have approximately 50,000 households within a three mile radius. I believe the positive results of this past quarter reflect the high quality nature of our irreplaceable corner properties and the strategic advantages of being a local sharpshooter.

We will report core FFO of $0.24 per share for the quarter and $1.08 per share for the full year which is at the high end of our 2012 guidance. Chad will discuss the details of these results in just a few minutes. As you know on August 1st, we successfully closed our IPO, whereby we sold approximately 4.1 million shares.

Similar to our report out last quarter, I would like to give you an update on the four value propositions we discussed. First is internal growth through our portfolio operations. Our portfolio remains strong and healthy and we ended the year with occupancy of approximately 96.7%. Our same store NOI growth was approximately 3.2% for the quarter and 3% for the year.

Out second value proposition is growth within our core markets. As we previously announced on December 12th we purchased Preston Royal Village. We internally rank this project as the second best shopping center within the Dallas marketplace and have long desired to own it. Preston Royal is a 230,000 square foot grocery anchored shopping center that is 97% leased and occupied. The northwest corner of the project is anchored by Safeway's Tom Thumb concept. The northeast corner includes tenants such as Bank of America, Starbucks, Omaha Steaks, Einstein Bagels and Fedex Kinko's.

Preston Royal is located at a lighted hard corner with high barriers to entry and a dense affluent population. Traffic counts exceed 68,000 cars per day. Demographics around the shopping center include approximately 42,000 households, which is a little bit lower than our target of 45,000 but is due to large acreage lots in estate homes.

Average household income is over $264,000 in one mile radius. This is well in excess of our target and represents household income rarely seen anywhere in the nation. The properties also benefit from daytime employment of over a $131,000. Chad will go into more detail on the project as well as at our 2013 guidance with you in just a few moments but let me take a minute to talk about our pipeline and cap rates.

It is important to us that we stick to our knitting in what we call our 5D investment framework. If you would like to better understand our 5D strategy, there is a short video on the front page of our website that explains it. Currently we are pursuing a couple of transactions in our core Texas markets and one in Atlanta at a combined value of approximately $50 million and are at various stages of analysis and due diligence.

While our desire and historical track record is to require these properties at a 6 to 6.5 cap rate, we recognize that depending on the particular asset and its special characteristics, acquisition cap rates may drift below 6%. This past year we continue to exercise our discipline and walked away from deals, that were well into the fives.

We did this because in our opinion the properties did not justify the price. However, if one of our top ranked properties within our affluent dense submarkets is available and we have vision for the creation of value that we demand for our shareholders, we are prepared to compete and to pay at market price, even if it means a sub 6 initial Cap rate.

When we compete for this type of property we believe we have several strategic advantages. First, we are local, we know the properties and we believe we know how to drive NOI better than anyone. Because we live and work in the neighborhoods where our properties exist, we also have a better idea of which tenants are looking to gain access to our affluent dense submarkets and will thrive within our communities.

Second we know how to create value through redevelopment. As a project comes into the AmREIT portfolio; we are able to grow NOI and value per share through expansion of FAR when it is warranted. And finally, we partner with world class institutional investors to build our pipeline, enlarge our platform and to create fee income.

Our goal is always to acquire properties at the best price possible, but as we have shown superior properties combined with our local sharpshooter strategy deliver superior operating results, even when pricing may seem high.

Our third value proposition is organic growth through incremental redevelopment. Our irreplaceable corners are generally single storey retail properties and we work hard to maximize their value by continually updating and improving physical attractiveness and working with the tenants to consistently increase their sales. But markets are continually evolving particularly dynamic urban markets and there is often a tipping point when existing tenant and property conditions intersect optimum market conditions and alternative uses and/or higher density development become both economically viable and desirable.

Last quarter we announced that we were developing a new master plan for Uptown Park. As we discussed our objective is to take this single storey retail property located on 17 acres at what we believe is the best retail and mixed use site in Houston and through careful iterative redevelopment, bring additional uses and density to the site. We have made solid progress toward our first targeted redevelopment project within Uptown Park during the past quarter and we believe we will be able to report back with specifics on our next call.

Our fourth value proposition is accretive capital recycling. As we announced last night we have entered into an agreement with Goldman Sachs to form a joint venture on MacArthur Park property. We believe that this joint venture gives positive support to our capital recycling and off balance sheet strategy.

Through this anticipated joint venture AmREIT will sell MacArthur Park and the pads to the joint venture at a sub 6 cap rate and retain a 30% interest. The joint venture will then acquire the remaining adjacent property except for the in cap which is owned and occupied by Target for $26.2 million. We will maintain a preferential right to purchase the project.

Through this joint venture, we will improve the overall quality of our portfolio as we recycle capital into projects like Preston Royal Village, enlarge our platform, will increase our fee income and expand our institutional relationships. I’m very pleased with the way our team has performed and the results we have generated during the first five months since our IPO.

Now, I’d like to turn the call over to Chad, our Chief Financial Officer, to talk about our performance for the quarter and year to date, as well as walk through our guidance and assumptions for 2013.

Chad Braun

Thanks Kerr. As Mary mentioned earlier, we did file our fourth quarter combined earnings release and supplemental financial information last evening, which you can also download on our website. I would like take some time this morning to give you some color on those results and to go into a little more detail regarding our transactional activity.

We announced core FFO of $3.9 million for the quarter and $14.6 million for the full year. On a per share basis, this represents approximately $0.24 and $1.08 per share respectively, after taking into account the offering on August 1st.

Core FFO adjusts reported FFO for items such as acquisition cost, expensed issuance cost and gain on sale of property held for resale. This is in line and at the high side of our previously reported full year guidance of a $1.04 to $1.09. Within our core portfolio, we reported occupancy of 96.7%, which is up 80 basis points compared to year end 2011 and places us towards the top of our peer group.

Leasing and tenant demand remained strong throughout the portfolio. During the quarter we executed a total of 8 leases for approximately 30,000 square feet. Our cash leasing spreads were an increase of 9.1% on renewals and an increase of 3.2% on new leases. On a GAAP basis our renewal spreads were up 11.8% and new leasing spreads were up 8%.

For the full year, we executed a total of 39 leases for approximately 146,000 square feet or roughly 10% of our gross leasable area. Our cash leasing spreads were an increase of 5.7% on renewals and 28% on new leases. On a GAAP basis these renewal spreads were up 10.5% and on our new leases spreads were up 36.6%.

Same-store NOI increased approximately 3.2% for the quarter and 3% year-to-date. This increase in same-store NOI was comprised of about $1.4 million increase in revenues for the quarter, which included a $167,000 increase in percentage rent and $2.3 million in revenues for the full year, which is a combination of occupancy gains and positive leasing spreads.

These revenues were partially offset by a $1.2 million increase in expenses for the quarter and $1.6 million and expense for the full year. This was primarily attributable to an increase in property tax expense, along with a slight increase in bad debt expense, coupled with a property tax refund that was received during 2011 and therefore lowered 2011 expenses.

This increase in property tax expense had a negligible impact on NOI, as our recovery percentage is approximately 95%. We also believe it’s important to look at same-store NOI over a longer period of time to take out any quarterly aberrations or periods with limited lease roll over and to look at a longer period, that more appropriately reflects the portfolio operations. In this regard our same-store NOI over the past three years has increased an average of 3.2%, placing us among the top of our peer group.

Our balance sheet is well positioned to accomplish our growth and strategic plans. Currently our debt is 85% fixed rate debt with an average maturity of 4.4 years and an average interest rate of 5% with no maturities between now and 2015. The remaining 15% is floating rate debt which is the $33.5 million outstanding on our unsecured credit facility.

As Kerr mentioned earlier, during the fourth quarter we did acquire Preston Royal Village for a total cost of approximately $66 million, which represents a 6.25% year one blended cap rate for both properties, the northeast corner and the northwest corner.

The combined property was financed with a permanent loan, secured by the northwest corner of $23.4 million with a fixed 3.21% interest rate. The remainder was funded through a $31.2 million draw on our credit facility and $12.3 million in cash. As this property closed on December 12, there was only a nominal impact on our 2012 operating results.

We purchased the northwest corner in fee simple, while the northeast corner was purchased as a leasehold estate subject to an underlying ground lease. The ground lease has 27 years remaining in its term and we believe that over the next two or three years we may have the opportunity to unite the fee and the leasehold, which should be a significant driver of value for the property.

We also believe that the rents are generally below market. Average rents in the shopping center are roughly $22 per square foot and rents in the trade area are approaching $30 a foot which should represent strong NOI growth as the leases at this property mature. Let me take a few minutes and discuss our 2013 guidance and the significant assumptions that underlie that guidance.

To start, we have provided full year 2013 core FFO guidance of a $1.02 to a $1.07 per share. This guidance assumes the sale of MacArthur Park into the joint venture with Goldman Sachs in March of 2013, and although Kerr talked about it earlier, let me pause and give you a few more details on the joint venture.

As mentioned, Goldman Sachs will have a 70% interest in the joint venture and AmREIT will retain a 30% interest. A combined $82 million investment will be encumbered with a $43.9 million fixed rate loan at 3.76%, and will result in net cash proceeds to AmREIT of approximately $35 million. The joint venture has been structured so that each party is para pursue to a 9% preferred return and then AmREIT begins to earn a promoted interest thereafter.

In addition to the promoted structure, AmREIT will retain property management and leasing. We will receive a 3.5% property management fee in market based leasing commissions. With the roughly $35 million in net cash proceeds we will receive at the formation of this joint venture, we will be able to completely pay down our credit facility resulting in an undrawn facility that will support our growth objectives.

This is an accretive and strategic transaction for AmREIT, that further grows our institutional relationships with the top tier institutional partner, grows and strengthens our fee income, further supports the quality of our portfolio through the sale of this property at a sub 6% cap rate, it improves the overall quality and tenant mix of our portfolio through the combined sale of McArthur Park and the acquisition of Preston Royal Village. With the net sales proceeds it allows us to reduce leverage and positions the balance sheet to achieve our growth objectives.

Now moving back to our guidance assumptions, same store NOI growth for the portfolio is targeted between 3% and 4%. As a reminder Preston Royal Village is not included in the same store NOI growth guidance because it is not considered same store since it was purchased in December of ‘12.

Our average occupancy is targeted at 96.8% to 97.1% and we are targeting acquisitions during 2013 of approximately a $100 million on balance sheet. We're also targeting acquisitions of 40 million in properties off balance sheet with institutional investors and that would exclude the McArthur Park joint venture that we just discussed.

Our guidance also includes approximately $2.2 million in recurring advised fund income; for example our asset management and property management fees, and an additional $1.1 million in leasing, development, construction and brokerage fees. Our annual G&A run rate is projected at approximately $7.8 million, which includes roughly $1.1 million in non-cash amortization of restricted stock compensation expense.

Finally, let me give you an update on the conversion of our Class A shares into our Class B shares which will take place on a one for one basis. Originally we anticipated that this would take place through a series of exchange offers with the initial exchange taking place 6 months post IPO for 50% of the shares and the remaining 50% 12 months post IPO.

After further consideration and input from our shareholders, we have identified a more efficient mechanism to convert our non-traded Class A shares. As such, we are making two charter amendment proposals to our stockholders as part of our annual meeting on April 18th related to this conversion.

The first will allow us to convert 50% of the Class A shares into Class B shares at the conclusion of the annual meeting and the second will allow us to convert the remaining 50% of the Class A shares at the same time or any time before September 30, 2013. This will give management and the Board the opportunity to evaluate the trading market for our stock, as well as the macro economic conditions at the time when making this decision.

We have had discussions with our institutional investors, our bankers and our analysts and believe that taking this approach will simplify our capital structure by combining all of our outstanding shares into a single class, provide better liquidity to all of our stockholders and lessen the possible effect and volatility on the trading price of our Class B common stock.

Once all shares have been converted into the Class B stock, we will rename our Class B stock simply to common stock outstanding. We filed our preliminary proxy with the SEC this past Friday, whereby you can obtain more specific information on this conversion.

With that I would like to turn the call back to Sue to facilitate any questions you might have.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Tayo Okusanya of Jefferies. Please go ahead.

Tayo Okusanya - Jefferies

In regards to the share conversion, I know you said you had some initial conversations with the institutional investors about it. But what about your retail investors and what do they kind of think about the idea of doing this at all once? Have you had any conversations with any of them?

Chad Braun

We have, it’s a great question Tayo. We have talked, to your point, not only to our institutional investors, we have also talked to a number of our Class A retail holders, as well as their financial advisors or representatives, and various broker dealers that helped us raise that capital. I think across the Board the consensus is that the way that we have structured the conversions through charter amendments is beneficial. There is less back and forth between the investors and the transfers agents to facilitate that action and the idea or the opportunity to have full liquidity or 100% of those shares converted at the conclusive of the annual meeting has also been viewed positively and then the backstop if you will of September 30th gives them specificity as to the timeline. So all in all I think it has been viewed favorably by all of our investors.

Tayo Okusanya - Jefferies

And then in regards to your acquisition outlook for next year and the portfolio growth of $100 million and also the platform growth of $40 million. Could you give us a sense of timing around that?

Kerr Taylor

Hey Tayo, this is Kerr. Again the markets that we said in our last call remain tight. Our premium assets are difficult to bring on but we’re in active negotiation now of three projects. We hope that at least one of those will close toward the midpoint of the year and then I would say the others really looking toward the last two quarters, but we’re optimistic that we’ve continue to be able to grow our platform and our portfolio at 15% per annum that we’ve talked about in the last call.

Operator

The next question comes from Paula Poskon of Robert W. Baird. Please go ahead.

Paula Poskon - Robert W. Baird

I just wanted to get a little on the MacArthur Park sale and the Goldman JV. So Kerr, is this essentially a way of turning a 4D property into a 5D property without the disruption on your holding on balance sheet.

Kerr Taylor

You know Paula, it’s a great project. If you look at our scatter graph, which is the affluence and density that we’ve talked about before, it doesn’t sit in the extreme northeast quadrant which we’re always moving toward, trying to. So it is an opportunity, particularly as we found, we could expand this project, which had little bit more boxy nature we might call it than the rest of our portfolio. We feel strategically it was an outstanding opportunity to execute an attractive cap rate and rework and really recycle that capital into some projects that we have purchased and look to purchase that are more into that urban dense in fill that we believe is going to be best over the next three to five years and driving NOI.

Paula Poskon - Robert W. Baird

So in maintaining the right of first offer, you think you can reposition that into an asset that would in fact be in that northeast quadrant?

Kerr Taylor

Could be, certainly could be. We are actively working on that project to expand a couple of the tenants, including the grocer and we believe that over the next 12 to 18 months it will be a stronger project. And always as we’ve talked in our last call, one of our strategic objectives is to keep these 4D properties and some of that maybe are 5D but are unstable, have the right to bring them back on and so we were able to successfully negotiate that within the joint venture framework.

Paula Poskon - Robert W. Baird

And is the intention here just specifically from MacArthur Park or is the intention to actually grow the assets within this JV?

Kerr Taylor

Well, certainly we had Goldman in offices yesterday. We love the relationship we are building with them as we with AEW and JPMorgan. So, as we’ve talked about, this is a permanent line of business for us. We think it has large strategic advantages for our shareholders and so we certainly hope that we will be able to do future deals with Goldman and our other partners as well.

Chad Braun

And Paul just to clarify, within this specific venture though Goldman doesn’t have any additional rights. It’s not like a fund but to Kerr’s point, we certainly anticipate and hope to be a repeat client with them.

Paula Poskon - Robert W. Baird

And do you have other assets in that portfolio that you think would make good candidates for this kind of structure?

Chad Braun

Probably not right now. I think that was the one that we entered 2012 with the thought that it would be a good time within that projects life to execute a joint venture on. I think our guides would be that we don’t see that on any of the other assets at this time.

Paula Poskon - Robert W. Baird

And then just a couple of questions on operating trends, what are you seeing in Houston? Are things still on fire there?

Chad Braun

Houston is particularly in our infill locations Paula is quite amazing. Exxon’s world headquarters consolidation and growth up north is driving job growth at rates that I don’t think are being seen anywhere else in the country and our infill locations, particularly up and down post Oak with the office buildings that are starting to spring up and down, that really has become our rodeo drive, and as you know we have some great sites including uptown that are upon that project. So it’s exciting. I think we’re seeing what we’ve seen coming out of the 80s and maybe what we saw coming out of ‘73, ‘74 where land prices on these commercial quarters were depressed. They are starting to snap back and so that’s always a very positive sign for increased NOI on existing properties.

Paula Poskon - Robert W. Baird

I appreciate that. And just finally, can you just shed a little color on what you are seeing on the expense side, in particular on real estate taxes and insurance?

Chad Braun

Sure, from a property expense standpoint, Paula what you saw in the supplemental or in the earnings that we put out, ad valorem property tax expense has definitely gone up. I will say probably across the border, but especially in Houston and Harris County. There is definitely been a concerted effort in that direction over the last couple of years.

Good news is that with a portfolio that’s roughly 97% occupied and leases that by and large are pure pass through leases, our ability to recover those property tax increases are very strong. If you look at our recovery rate throughout, for example 2012, we’re sitting at about a 95% - 96% recovery but we expect that trend and that objective of the taxing authorities to continue and to continue into 2013.

Our operations team fights those tax assessments very diligently. As we talked in the prepared remarks about the property tax refund that we received in 2011 I think is evidence of that as well as we were successful in through the litigation process or the arbitration process, getting those reduced.

As it relates to our property insurance, we have been very successful in negotiating very strong coverage with very little to no increase or impact on the premiums that get passed through to the tenant and in fact we’ve even been successful in structuring our policy here locally, Houston being close to the Golf Coast with a 1% windstorm deductible, which is almost unheard of to be that low. But again it goes back to our track record and our experience with the carriers.

Operator

(Operator Instructions). There are no further questions, so this concludes our question-and-answer session. I would like to turn the conference back over to Kerr Taylor for any closing remarks.

Kerr Taylor

Thank you for your participation today. We encourage you to visit our website where you can download a copy of the fourth quarter earnings release and get detailed information on our properties, including property videos that act as a virtual property tour. Thanks again for your time today.

Operator

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

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