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Macerich Co. (NYSE:MAC)

Citi Global Property CEO Conference Call

March 5, 2013 4:15 PM ET

Executives

Arthur Coppola - Chairman and Chief Executive Officer

Edward Coppola - President

Thomas O'Hern - Senior Executive Vice President, Chief Financial Officer and Treasurer

Analysts

Michael Bilerman - Citi

Quentin Velleley - Citi

Michael Bilerman

Welcome to the 4:15 session on day two of Citi's Global Property CEO conference. I am Michael Bilerman. I'm here with Quentin Velleley. This session is for investing clients only, and if media or other individuals are on the line, please disconnect now.

We are extremely pleased to have with us Macerich, Art and Ed Coppola, and Tom O'Hern. Art, I'll turn it over to you for some introductory remarks, and then we'll have questions.

Arthur Coppola

Well, first of all thank you for hosting this. We're pleased to be here. A lot of you probably know that we recently came out with a new disclosure that indicates our sales per square foot by property and we actually show that over a four-year period. And the reason that we do that is that, over the last several year, frankly, are becoming increasingly cynical and skeptical about the shallowness in the two dimensional nature of portfolio sales per square foot, because when you give out just one number for a portfolio, it's hard to really have appreciation for the quality of the portfolio by looking at their number.

So we decided to go ahead and come out and give actual sales per foot of each of our properties. And from that you can take a look at it and you can see that our top 40 properties generate roughly 78% of the net operating income and that's our prorate share, and they generate $594 a square foot of sales, which is up from actually $482 a foot three years ago.

We are in a process of continuing to have a transformation and an upgrade of our company. We are big enough to matter, but we're small enough to make some big changes within our portfolio. So we currently are marketing, roughly 14 assets, of which we would expect that seven or eight or nine of them would sell those generally are in the lower 25% of our portfolio or 25 properties of our portfolio.

And on the assumption that those do sell, which we gave guidance earlier this year, that we felt that we would sell between $500 million and $1 billion of assets, and at this point we feel comfortable, pretty much with the midpoint of that range. Then you'll see that the top 40 properties of our company instead of generating 78% of the income will be generating something closer to 85% of the income, because it's our goal to have virtually 95% or more percent of our income from what we consider to be fortress assets.

Our business is very strong. We're thrilled with the developments that we have underway as well as the redevelopments that we have in our planning stages. And we look forward to answering any questions that you have. The other thing that I would point out and that you will want to take note of is that there has been a tremendous amount of financing activity within the portfolio in the last four months.

Just I think today, we locked in a new $525 million 10-year loan on Scottsdale Fashion Square at an all-end rate of roughly 3% fixed. When you couple that with a new $600 million loan that we did on Queens a couple of months ago, the $500 million deal that we did on Kings Plaza on its acquisition, there's been a tremendous extension of our maturity schedule. And we think that we are extremely well poised that our balance sheet is probably in the best position it ever has been.

And we think that the opportunity to recycle out of some of our lower tier assets get immediate de-leveraging from that, but essentially give us the firepower to fund our development pipeline over the next two to four years puts in a unique position to have some tremendous growth. So we're very optimistic and bullish about our views at this point in time.

Question-and-Answer Session

Michael Bilerman - Citi

As you probably saw from some of the write-ups, we've been starting each of these sessions with the same question, which is, what do you think is the most value creating opportunity that you currently have in the company that you don't feel the markets giving you much value or appropriate value for?

Arthur Coppola

First of all I think that we have an opportunity to do a better job of communicating our story, and that's what we are trying to do with the increased property level disclosure. And hopefully from taking a look at our portfolio here, you can see the strength of the assets within the portfolio.

I'd say at this point in time I've been surprised at the misperception of the quality, of the developments, that we have coming online with Fashion Outlets of Chicago and the densification of Tysons Corner. We've been so close to each of those projects that we know internally how successful they are going to be. But I discovered in the last month or two that there has been perceptions that there were question marks about them.

Fashion Outlets of Chicago, we just announced yesterday, actually, the names of initial list of tenants and it's an outstanding list of tenants, it's on our website and you can see it there. It's probably the most outstanding list of Fashion Outlet tenants that you'll see on a grand opening for many years. And we think it's going to be one of the most powerful outlet centers in the United State.

And the densification of Tysons, it's something that I think people probably felt that we are a little nuts to be building an office building in Washington D.C., when we started construction. But we made it clear that we were not going to go vertical without it being pre-leased, we were only going to do the infrastructure. At this point in time, we're over a half pre-leased to Intelsat. We anticipate announcing another major tenant very soon, which will take us over 65% leased.

But more importantly, the reception now from the retailers at Tysons Corner and their appreciation for what this densification is going to do for the sales productivity, if the property is giving us tremendous leasing momentum from a retail perspective. I think that when you see that project come online next year, you'll understand the vision that we had in doing it. And we're extremely confident along with our partner, The Alaska Permanent Fund, that that's going to be not only a huge value creation in terms of each of the mixed used components, but the impact it is going to have on the retail centers is going to be fabulous.

So I think that those are two big developments. The Fashion Outlets at Chicago is a $200 million development. Our half of Tysons densification is over $250 million. So I think when the market sees, how successful those are that that will be something that we'll get the benefit from that and get tailwinds and headwinds on those.

Michael Bilerman - Citi

And talk about, maybe to understand this, the financing of Scottsdale, you said $525 million at 3% fixed for 10 years. The existing that's total right, not your share?

Arthur Coppola

That's total.

Michael Bilerman - Citi

And then the existing loan was about $550 million on the asset for at like 5%, 7%.

Arthur Coppola

That's right.

Michael Bilerman - Citi

So just what was I guess from a proceeds perspective, lower proceeds, but dramatically a lower rate obviously. Just how did you think about that?

Arthur Coppola

Well, if we were that sensitive that the proceeds level and the rate dropped about 15 to 20 basis points going with the lower leverage level, that was a 10-year fixed rate deal, some amortization. And frankly, be it not for a 3% floor on the deal, the rate would have been locked at lower than 3%. I think the online spread was swaps plus a 100.

And we have partner there CalPERS, who also has sensitivity to debt levels and they don't like to see debt levels be too high either. But we are looking for getting the best possible rate. We didn't need the money and it turned out at that level that was great execution, I mean we're pretty thrilled about being able to do a $525 million 10-year fixed rate deal at 3%.

Michael Bilerman - Citi

And that's going to be a CMBS loan or some life insurance?

Thomas O'Hern

It's going to be a CMBS loan led by Citi.

Michael Bilerman - Citi

I guess (NASDAQ:FLEX) from when the original loan was in place in terms, because you also put some capital into the asset, right?

Thomas O'Hern

We spent capital over the terminal loan. But again, we could have levered it up for further, so it's not as at the NOI hadn't grown, just we chose a sweet spot to get the best possible rate. I mean excess proceeds are not an issue for us. We've got Tysons coming up later this year and that loan is a $300 million, and if our partnership chooses to do so, we could borrow $800 million. So it wasn't a matter of proceeds for us at all, it was getting the best possible rate.

Michael Bilerman - Citi

And then where would the LTV be at that level, and I guess as you take out the rate just get some perspective.

Thomas O'Hern

That LTV is probably about 55% as a underwriter would under write it, not margin value, but how vendor would look at it.

Quentin Velleley - Citi

On the last call you spoke about being 80% through a five-year plan that you'd put together in terms of laddering debt increasing wholly-owned assets, doing some acquisitions and starting two major developments. How should we be thinking about the new five-year plan? Is it going to be more focused on some of the developments that you have spoken about or are there other things that we should be thinking about?

Arthur Coppola

First of all, our balance sheet was in great shape 15 months ago, but it's even. What we've accomplished now is we've extended the maturity schedule. So when you have an opportunity to have significant development activity, even at relatively low leverage levels, it's still going to have longer maturities.

So now we've got very long maturity levels. We've also reduced our floating rate as a consequence of our disposition program, which we believe will be successful, and we've indicated that that is targeted for a mid-year closing. We will have brought our centers that do $600 a foot and above, up to about 85% of our net operating income. So that's a very good place to be, when we bring Fashion Outlets at Chicago online, that drives that number up. So we're going to be very quickly north of 90% of our income from this portfolio today, generating over $600 a square foot.

Now to that, the next five years, given that we have put the balance sheet into a position through the laddering and extension of the existing maturities scheduled. And that we will be generating, we expect between $750 million and $1 billion through dispositions. We then will see that money get redeployed into roughly a like amount of new redevelopment and development activities over the next three to five years, all of which we anticipate will be of the A quality type of assets.

So we anticipate seeing great growth in terms of the asset base that you're looking at, roughly another 15% or 10% give or take asset growth of A quality. And in the meantime, it's been self-funded through the disposition program up front. So we're not going to be impinging upon the balance sheet through debt or requiring new equity to fund that development program. So that's really going to be the focus.

Beyond that there's a lot of focus at this point in time to continue to make progress on the leasing side. We think we can do a better job in terms of converting some of the temporary type of occupancy that we have in our portfolio to permanent occupancy. And we think that that coupled with some occupancy gains will help us to drive our same-center growth over the next couple of years. And of course our total growth when you add the developments on top of that, we will generate as we see it a very good FFO rowth and total EBITDA growth over the next three or five years.

Quentin Velleley - Citi

How worried are you about JCPenney and the health of that tenant?

Arthur Coppola

Look, it's a concern of all of us. If you ask me do I think JCPenney is going to be around five years from now? Yes. Who is going to own it and who is going to run it? I have no idea. I can tell you that if we were to get every single JCPenney store that we have back on a net basis that would be a positive for us. I mean, we have plan for each and every location.

Some of them would be terrific, some of them would be okay and some of them would be more challenging. The good news is that with the terrific ones are going to be in the great centers and when you've got 95% of your income coming from malls that are generating $600 a foot, anytime you get an anchor back in a center like that whether it'd be JCPenney or Sears you're generally going to have a very adaptive reviews and good solid new merchant or idea to replace it with.

But I think JCPenney is going to be around. But, I think, on the other hand, look at I don't run that company and I can't speculate as to exactly what's going to happen. I think that there are obvious issues. But it wasn’t broken 15 months ago. I think there is obviously been strategy mishaps in the meantime. But I think it will be around five years from now.

Michael Bilerman - Citi

You talked in your comments about Chicago and putting out the retailer list, which was extraordinarily a solid list. And I guess defy people's skepticism on the project, maybe you can just talk a little bit about Chicago and sort of yield that you're ultimately going to achieve and what you've been able to create in terms of the tenancy?

Arthur Coppola

As we see it, our cash investment which would have exclude some of the GAAP soft costs, the all-in costs would be just over $200 million for the project. And as we see it our projections are that by the third year of occupancy, we believe that we should be seeing a 12% free and clear return on that money.

So we're very bullish in terms of the returns, with the rev levels that we're at, we're already locked into double-digit 10% going in opening types of returns. The question would be do you get percentage rent and the other question would be on the business development side, how much business development can we generate? We do think that there is tremendous business development activity and opportunities there, sponsorship opportunities, but time will tell on that.

Quentin Velleley - Citi

Is your partner close to any other projects in the U.S. of a similar nature or is this sort of a key project to finish up at the moment?

Arthur Coppola

Well, this is the key project that they are working on it at this point in time other than this is the same group that we bought Fashion Outlets of Niagara from. And we are committed to a three year management leasing agreement with them at Fashion Outlets of Niagara as well as they have the same at FOC.

And we're currently underway in pre-leasing of 150,000 foot expansion of Fashion Outlets of Niagara, which we would expect to be breaking around by later of this year with an opening in fall of 2014. There could be some hiccups on that and it could move to at opening in spring of '15 but we were fortunate enough to be able to acquire some adjacent land. So that team is our partner at FOC and is our manager at Niagara. They're doing a great job for us. And so their focus is on finishing up Chicago and getting Niagara into the ground beyond that.

We're looking for other opportunities around the United States but when we came into this business, we cautioned everybody that we're not going to own more than a handful of these outlets centers because our standards for them is that they need to be at the same quality level as our traditional malls. And on the traditional mall side, we want to own big dominant malls. And so that's our same strategy on the outlet side. We want to own big dominant outlet mall. So that's going to limit the number that we can have.

Quentin Velleley - Citi

Ivanhoe Cambridge had a site. I think it was Niagara-on-the-lake, another outlet project. Was that likely to be any competition for your asset?

Arthur Coppola

Obviously, competition is always there. I've talked to the owner of that site and those folks and I know what they're thinking about doing. There is an imbedded between 13% and 18% price differential on any piece of goods that is one foot on one side of border or the either.

There is an outlet center that's a couple of miles from Fashion Outlets of Niagara called Canada One or something of that nature. And that doesn't have any impact on us at all because we always have the embedded 13% to 18% depending on how you measure it price benefit.

As I see it, from what they have planned if they do build it, they're just going to bring more people to the trade area, and if people have a choice between buying the same goods at 15% less, a couple of miles from one project and the other, I think we're in a pretty good position.

Ed Coppola

It's also heavier on entertainment.

Michael Bilerman - Citi

Art, it was a year ago, actually almost the day that you announced that Bobby was joining the company to head up effective leasing, I'm just curious how having a new set of eyes on the assets and on the entity, what's come out of that?

Arthur Coppola

That's been interesting and for the same reason frankly, that we published the sales per foot in the supplemental of our assets here. His first impression, when he came on board, was that as he went through our portfolio and he started visiting every property, he said, I knew you had a great portfolio, but I didn't have any idea how good it was.

I mean, for example, if you can take a look at this list of properties that we have here in Scottsdale Fashion Square, which I think by any measure is an iconic center. It's certainly one of the most powerful centers in the Southwestern part of United States. Its number 17 on our list of sales per square foot, there were 16 centers that have sales per foot higher. He has been a terrific addition to our team.

Again, I think he has given great leadership to our team. Bobby, in a previous life was a CEO of Heitman Retail Properties and at that point in the '90s where they ran 49 properties, then he did with the private company, with Davis Land which he very ultimately then sold off those properties to a couple of public companies. So he has got a great vision for the business. And he is doing what he loves, which is merchandizing and he is bringing a new look to our company, and he is helping definitely to take our company's leasing efforts and thoughts to another level.

Michael Bilerman - Citi

Any questions from the audience.

Unidentified Analyst

The Phoenix housing markets has had a very rapid recovery, is that filtering out into mall sales there or impacting your view towards any of your development sites?

Arthur Coppola

Well, actually you can look at our new supplemental and you can see that sales per square foot in each of our Arizona properties, but in the meantime, if you look at economy in Phoenix and in Scottsdale, definitely is on the major upswing. In the worst of all with the parts of the Phoenix market down in southeast: Queen Street Coolidge area, at one point in time that were I think four out of every five homes in that zip code were underwater. They were foreclosure. Even in that market, you have home builders buying raw land again and starting to do subdivisions.

You've got good biotech growth. You've got (geonome) growth. You've got pretty much growth in every sector. Phoenix also obviously gives the benefit of every time the California sneezes, they get the benefit of the exodus from California. Two out of every five people that leave California end up in Phoenix, Arizona.

So the projections have been always that Phoenix is going to double again in size. What happened is, is that instead of a doubling by the year 2025, which was previous projections, it will now probably be 2030 or something of that nature. But the growth is definitely coming back. The home builders are strong. The prices have definitely bottomed out, employment is doing well. Tourism is not completely back. So I think you look at the hotel sites there. You don't see that completely back yet.

And so for example, Scottsdale Fashion even though sales are up there, if such a beneficiary of the tourism, that sales are not really as robust as they will be when tourism comes back, but overall the economy there is definitely on a major upswing, just as the other sister economy of Southern California that had been hit by many of the same issues as Arizona. It also is in very good shape.

The two of the markets that in 2009, we got dinged for in terms of our exposure which is Phoenix and Southern California, both are very strong at this point in time and now you can probably argue we don't have enough exposure to those two markets because we've been buying so much in other markets in the Northeast and elsewhere. But we're thrilled with the composition of the portfolio, but Arizona in particular it's on very solid ground.

I saw some numbers which I believe are accurate, that over the last six decades about eight out of every ten years of every decade, Phoenix leads the United States, and it's the number one, two, or three economy in the U.S. and about one out of every two years of every decade it is not. What happened this time, when the downturn hit Phoenix in 2008, is that instead of one or two year hiccup, it was about a four year flattening out. So it was deep long ‘V’, but definitely it's coming back. And I think it's pretty sustainable on all levels.

Unidentified analyst

A couple of questions. First on the dispositions, if you talk about valuations and average sales productivity, if you look at your disclosure and in your supplemental, can we just take the bottom 17 and say those are them or is there another way to look at them?

Arthur Coppola

First of all, our strategy on the recycling of capital here was that when we bought Kings Plaza and Green Acres, we realized that they gave us an opportunity to do a reverse 1031 Starker Exchange and take low-basis assets that otherwise would be very tax inefficient to sell. And to exchange them into Kings and Green Acres and then be able to offer them to the market and that's what we did. We took basically assets. They were roughly 14 of them that were low-basis assets. Their characteristics were they generally were low-basis and they're generally the average sales of the group that we put into there were around $350 per square foot.

And then we offered those properties to the market agnostically, and said, let the market decide which ones they were interested in. My suspicion is that we will sell seven or eight or nine of those properties and that they will generate somewhere in the $750 million to $1 billion of total gross proceeds. And on the earnings call I had indicated that through our guidance numbers that in the dilution that we've already built into our guidance for this year that I felt that it would be somewhere in the mid-seven types of cap rates that is the pricing that most likely will be attain to something in the mid-sevens overall.

Unidentified Analyst

And what kind of financing is in place and does that impact the cap rates that you might get on those?

Arthur Coppola

I'm not sure I understand your question, but the properties that we're being offered, most of them are unencumbered. And so that's actually one of the reasons that we offered those properties, because it makes it attractive to some of the private equity buyers to go out and use leverage to, then if they can buy at a seven-and-a-half cap rate and put 65% debt on there at, let's say, 3.5% interest rate. Their equity return is terrific.

Now, we could have gone out and done the same thing and leveraged up those assets and use that money to fund our pipeline. But then that's using debt again. And look our goal here is, I don't have a specific target on debt, but like my friend uncle Milton says, you can never have too much equity and you can never have too little debt. And directionally, we want to keep our fire power up and as much financial strength as possible, because we do see great opportunities within our company, not only the developments that we have talked about, but the shadow pipeline that we have that we think are terrific opportunities for us.

Unidentified Analyst

If you talk about the use of proceeds or just development and redevelopment, in the supplemental you don't have detail on where that money is going and the returns you expect to get by use of proceeds in each of these developments, what's then the aggregate the amount of active developments you have, the returns, you think will get on them, and how many projects is that spread across?

Arthur Coppola

So in our guidance numbers our assumption is that all of the disposition proceeds simply go to payoff our line of credit and basically 2% debt. So we're not assuming that we are recycling that money into a 10% development project. Now it gives us the fire power and the cash to ultimately fund those projects. And all of the development types of projects that we're working on Fashion Outlets of Niagara, it looks like an $80 million project. It should be an 11%, cash-on-cash. I talked about Fashion Outlets of Chicago. Tysons, we've talked about that in previous calls.

And so depending on whether it's a redevelopment or a new development, you're looking at 8%, 9%, 10% unlevered returns on the new money. But the guidance assumption is that all of that money simply goes to either become cash or to payoff the line of credit that's only costing roughly 2% at this point in time.

Unidentified Analyst

And based upon developments you have identified and then process what's left to fund in '13, '14 in developments, redevelopments, I mean, is that $1 billion, is that $0.50 billion or is it $200 million?

Arthur Coppola

So of the identified developments that we've talked about, which I'll say is Fashion Outlets of Chicago and finishing up of Tysons Corner. And I'll throw in Fashion Outlets of Niagara, that's probably roughly $200 million use of cash. But beyond that there is the shadow pipeline that we have, that we've talked about a little bit unlike the expansion of Broadway Plaza, the next generation of Santa Monica Place, the reconfiguration of North Bridge, as well as some other opportunities, but that's the immediate use.

Unidentified Analyst

And next quarter you will get a development and redevelopment schedule?

Arthur Coppola

(inaudible) That is true.

Unidentified Analyst

And we've got three rapid-fire questions. What will same-store NOI growth be for the regional mall sector in 2014?

Arthur Coppola

For the whole sector?

Michael Bilerman

For the whole sector.

Arthur Coppola

I would say it's 3% to 4%.

Michael Bilerman

If you have to what property sector other than your own would you invest in personally right now?

Arthur Coppola

I would have liked to have invested six months ago in Wayfarer or whoever that company was, that went out and bought all those single family homes if I could have done that.

Michael Bilerman

And how about now?

Arthur Coppola

I don't know. You can't hate multi-family. I mean multi-family is pretty attractive. In the markets that I am involved in, it's pretty attractive.

Michael Bilerman

Do you expect to see more or less public companies in the regional mall space one year from today?

Arthur Coppola

One year?

Michael Bilerman

One year.

Arthur Coppola

I would probably see the same, I would think.

Michael Bilerman

In five years will there be less or more?

Arthur Coppola

Five years, I’d say, less.

Michael Bilerman

Thank you very much.

Arthur Coppola

Thank you.

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