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First Industrial Realty Trust (NYSE:FR)

Citi Global Property Conference

March 06, 2013 11:30 AM ET

Executives

Bruce Duncan - President and CEO

Analysts

Question-and-Answer Session

Unidentified Analyst

Welcome to the day three last session of Citi, you should know that meetings are still going on till 2 o’clock, so technically it’s not the last session. And there were four other companies after lunch, that all canceled. So, you weren’t last, if the last, I’ll be first. And we should say Bruce Duncan is a board member of Starwood Hotels and we are very gracious for the company’s hosting of our industry at one of Starwood Hotels. So, thank you.

Bruce Duncan

We appreciate very much your business.

Unidentified Analyst

Anyways, we are very pleased to have with us First Industrial, Bruce Duncan, Scott Musil, Art Harmon. Bruce, I think you’ve been here before, you know the drill, do a couple few minutes of opening remarks and then we’ll turn it over to Q&A and we’ve a nice crowd which is good and I’ll turn it over to you.

Bruce Duncan

Great, thank you Michael and again thank you very much for the invitation to be here. In First Industrial, we’re a 67 million square foot industrial REIT with hoardings through the United States, our biggest market in Sothern California, the next largest in terms are railing comes Chicago, Minneapolis, Central Pennsylvania, Dallas. We’ve embarked on a mission about four years ago to do a number of things. One is to lease up the portfolio and make a good progress on that, we'll talk about that. Second is to upgrade the portfolio and then to strengthen the balance sheet and we also hope of delivering values to shareholders.

In terms of occupancy, we’re making good progress. We hit a bottom about 81% back in 2010 last year, we gained couple of 100 points occupancy, a 140 basis points of that was in the fourth quarter of 2012, we ended the year at 89.9%. Our goal for this year 2013 is to get to 92% and we make a good progress on that.

In terms of upgrading the portfolio, again we embarked or identified at Investor Day, November 2011, about $400 million worth of non-strategic assets, we're about halfway through the disposition phase of those assets. We have another two to three years to sell those and again assets (inaudible) is an ongoing process, we’ll continue to refine and upgrade the portfolio. But the sales of those assets plus the reinvestment in terms of acquisitions and more specifically return when they develop that we think is bringing dividends and we’ll pay dividends to our shareholders if you look at where we are, last year we started $115 million of new development. We also completed that development we started the year before about $47 million in (inaudible) First Logistics we leased 692,000 square foot building last year on a long time basis.

Of the three new developments we started, that are under construction right now, we get First Chino Logistics Center that just announced last week in the earnings call that we leased that out, its 300,000 foot building again in the Inland Empire West. Then we have First Bandini Logistics Center which is in very good indoor location right off the I710 in LA it’s 490,000 square feet that’s under construction, will be completing in the third quarter and then we have 708,000 foot development First Logistics at I83 in Pennsylvania and again that will be completed in the fourth quarter.

Again these two things are on a risk adjusted basis are good relative to what we've seen versus (inaudible) acquisition and its upgrading the quality of portfolio, so we’re very encouraged about that we just announced in the filing last week (inaudible) adjacent to First (inaudible) Logistics for $6.3 million. Land parcel acquisition we do about 550,000 square foot on that site and my guess we will start that development this year. But we’re making progress in terms of upgrading the portfolio.

In the third, straight from the balance sheet, we had a debt to EBITDA of over 10 times or close to 10 times many years ago in 2009 and we brought that down, if you look at where we’re today. At the end of the year we were about debt to EBITDA cost preferred to about 7.9 and if you at about 6.8 if you debt to EBITDA which is (inaudible) about $132 million of proceeds. If we apply those proceeds to debt, the debt to EBITDA will be down 6.1 (inaudible) EBITDA will be going down 7.9 to 7.3 times. So if you’re making very good progress in terms of getting that ratio in line, the next move is to try and gain the back the investment grades in order to do that, we're going to fix charge coverage as we had at different times, but with this recent equity rate, we’re very close that so within the next few years we will migrate back the investment grades which will be impossible to us in terms of excess capital.

And finally evaluation, you know we’re successful doing executing on the plan and we still think despite various package we represent good value, we are in the 7% category and we think that there is good upside but again relative to our peers that we're decent best but again, I think all CEOs and management teams are under value but on a relative basis we think we offer good value.

Unidentified Analyst

You joined in, was ’08, correct?

Bruce Duncan

'09. First quarter.

Unidentified Analyst

First quarter of ’09. What did you think then when you step in, what’s sort of due diligence had you done in accepting the opportunity, what did you think was going to happen and sort of look back today and where we are?

Bruce Duncan

When I accepted the job, I would say that, I thought the world was getting worse, I thought that there was, First Industrial had a strategy that they embarked on that wasn't well received by the marketplace, I thought we could change that, I thought that we had an unleveraged balance sheet and thought that was, unsecured balance sheet so I thought that would be a…

Unidentified Analyst

Those are unlikely.

Bruce Duncan

But unsecured, which gives us flexibility, I’d like the industrial space because it’s always begin (inaudible), when market is free then financing the financing stuff, the nice thing about industrial (inaudible) time and there is a lot of liquidity in terms of both from a sales standpoint and also from a financing standpoint so I thought we would be able to work through some of things, I did not envision that we are in as tough a shape as we were in and so I would say, we had some work to do but as a team, execute on the plan and we will be able to get through it. But again I like this industrial space. I think it's good value, you know something in industrial that you don’t see in other food groups most of it, which I think a user buyer pays a very good pricing for assets and I think Industrial when you think about sort of the different categories of real estate, is the track given the senses, as opposed to strip centers or whatever in the internet, it has more impact on them and this way we would been beneficiary of that and again it’s under allocated, its portfolio that we would have a size, I think…

Unidentified Analyst

Was there something that you underestimated, you said you didn’t appreciate was it the leverage situation or…

Bruce Duncan

Yes the leverage, I didn’t appreciate in terms of the extent that the shorter term nature, strategy of buying assets, they were going to be making soon and reposition how quickly when the market stop and slow down, how quickly those buildings emptied out and the impact of that in terms of with the leverage balance, so it was a much tougher and how close, we ended up being to cover.

Unidentified Analyst

And then how much of the portfolio shifted from when you came on to where it is today?

Bruce Duncan

I would say in terms of sales we probably sold about $300 million, $250 million of assets, and we added probably $250 million of assets and we have some in terms are under construction.

Unidentified Analyst

With several of these sessions with the questions to management teams which is what did you thought is the most value creating opportunity that’s in the company today, that you don’t think the market has given you credit for? And in your comments, you talked about being undervalued and do you think this is still because of leverage or other things but what are the items that you think are really frustrating that valuation effectively?

Bruce Duncan

Well we've been getting some credits for the market in terms of the things we're doing. But I think we still have upsides. It’s not appreciated given that we're 89.9% at the end of the year; we should be able to get that occupancy up below to mid-90s. I think if you look at the new developments that we have under construction that should add $6 million to $7 million to EBITDA because that was leased up FFO next year (inaudible). If you look at it, we have got it embedded. You have got a land bank of $50 million that can probably build 6-7 million square feet of space. Again you shouldn’t anticipate that, it’s under construction in next year or two, but over the next three to five years we will be utilizing that land bank and that, and that’s going to add value. And again I think in terms of as we continue to upgrade the portfolio, people are going to say, wait a minute a differential between us and our peers shouldn’t be that high. And if we do that given the leveraging we have, we should be in pretty decent shape in terms of seeing some good relative value, and appreciation. There are questions?

Unidentified Analyst

You did, sticking with the corporate structure stuff; you mentioned you did reinstate the dividend. How did you come to the decision in terms of where you wanted it to be? How does that relate to sort of free cash flow? How did the equity offering sort of, I don’t know, on your mind, whether you had that being planned sort of altogether?

Bruce Duncan

Well in terms of the reinstating the dividend, again we thought it was important to come back as we wanted to be a dividend payer, and join the club again. In terms of where we set the dividend, we set it at a very conservative payout ratio of about 55% (inaudible) you won't be able to throw over time, but we still have leverage when used.

Unidentified Analyst

And the next, that 55 is FFO or cash flow?

Bruce Duncan

Cash flow.

Unidentified Analyst

55 of cash flow, okay.

Bruce Duncan

And won't be able to throw it overtime as we continue to grow the business, so we didn't want to set it at such a high level that you don't proceed to continue to grow in 11.

Unidentified Analyst

And then how did the equity offering decision come about in terms of what drove the decision to raise that equity?

Bruce Duncan

In terms of what we turn over as the past three years is we raised equity at different times, early on but we already are very mindful that (inaudible) forever, we have done it in stages, if you look at this last offering, again the next milestone we need to get to is to get to investment grade and when you look at that, the debt of EBITDA, debt preferred to EBITDA is very respectful with the offering, preferred EBITDA is 7.3 which is very reasonable but our fixed charge coverage is pure license too, it's about 180 or something like that.

Unidentified Company Representative

It was 173 in 2012 and for 2013 this is before the equity offering based on our guidance, we're projecting about 1.9 times. So if you factor in the equity offering, we are still determining whether we take our preferreds pay down better to new investment you factor that in, plus we got two developments that we're planning on leasing up next year. That coupled with a full year of NOI from Chino was another $7 million. We should be at that 2.0 times which is what the rating agencies look at in order to get to investment grade ratings. So, we got a path that we can hit that goal in a very short term basis.

Unidentified Analyst

Is there like non introducing assets or either buildings are not producing much NOI or land that can be sold to really add to juice that a little bit more?

Bruce Duncan

Not really, I mean yes, there are some if you look at some of the assets that we sell at times; vacant properties but there is obviously nothing big is going to change that, I mean it's in terms of the big impact. Most of the land we have we want to build on so it's not like we are going sell just to pay down debt.

Unidentified Analyst

And then you are about coming on ''09, so you just signed a new employment contract? And I guess how did those terms compare to prior and employment contract and I guess marry that out.

Bruce Duncan

I don’t think it was generous, I signed a new deal two year contract and it can be extended on annual basis three more years and it's important and I both mutually agreed. In terms of there is less incentives when I had when I signed. The first contract, but I think it's fair and I think the board is always fair too.

Unidentified Analyst

In terms of stock grants and stuff like that?

Bruce Duncan

Right.

Unidentified analyst

Did any of the change of control provisions change in terms of multiples or excess earning like that?

Bruce Duncan

There was, I think the change in control, multiple may have gone up like 2 to 2.5 sometimes under certain circumstances I believe but I'm not going to get into that.

Unidentified analyst

You negotiated it, didn't you?

Bruce Duncan

I know, but there is a lot of details, we filed it, I'm happy to check and come back to you with that, it went up slightly but I don't think it was…

Unidentified analyst

All right, so what did you want to get out of there, I mean from your perspective either being an employee at will, I mean you obviously felt it was important to have an employment contract in place and I guess, where a board has, a board member of Starwood obviously you've had changes in CEOs and you've had them under contract and sort of as a CEO reporting to a board and to shareholders why you felt the need to have that?

Bruce Duncan

No, obviously I was willing, in terms of thinking about it to have an annual contract, and the boards are having a longer term contract it was important they initially wanted it a longer term than what we ended up at. But my standpoint is you know, as CEO of this company I think as a team we've accomplished a great deal, I think there is more to accomplish and we're on a good path and I wanted to be here to keep going, keep executing on the plan.

Unidentified analyst

And how do you think about that and also I had seen that you had, proposal to know, to destagger the board. So where did that sort of come about and I guess why now, why not a long time ago?

Bruce Duncan

I guess we believe in destaggering we think it's the right thing to do. I would say that two or three years ago we weren't in a stable situation; you know our market cap is less than a $100 million and we had $2 billion in debt. I think right now in terms of where we are today, things have stabilized, occupancy is up, everything, and we don’t have a plan.

Unidentified Analyst

You're less susceptible to someone trying.

Bruce Duncan

I would say its stable, we had a lot of fish to fry over the last few years in terms of things coming up that we had to deal with, and we didn't want a distraction. Now we're able to deal with distractions we're looking forward to it.

Unidentified analyst

And that becomes effective?

Bruce Duncan

With the shareholders, we put in the shareholder vote, when it practically comes out; our shareholder meeting is certainly made.

Unidentified analyst

And has the board, since you've come on place, how has the board changed?

Bruce Duncan

If you look at the board's composition today including my six, or seven members of the old board are no longer on the board from my prior to my being there and we added including myself four new members.

Unidentified analyst

Four new members.

Bruce Duncan

And we have a total board, with six members of the board now.

Unidentified analyst

Six members four new, including yourself.

Bruce Duncan

Right.

Unidentified Analyst

Okay. Do you want to extend the Board or…

Bruce Duncan

With six, we’re fine.

Unidentified Analyst

Talk a little about goal on leasing, you said you are 89.7?

Bruce Duncan

89.9.

Unidentified Analyst

89.9. That’s through 10 basis points we’re always mortgages to materialize. Where is the vacancy concentrated in, is it in certain markets, certain assets, is it larger assets, smaller assets. Can you sort of break it down and set them goals of being able to get at move about share.

Bruce Duncan

I would say, we had the Investor Day in November 2011. We identified our top 10 vacancies that were about 325 basis points for the occupancy. If you look at those today they are down to about 100 basis points.

The largest concentration on that phase is in Atlanta, so if we do that will help us make progress. The other is sort of all over the map but again, what you are seeing in our space, it's not just First Industrial occupancy is going up in each almost each and every market and there is good demand, demands now for the big spaces but the smaller spaces.

So, we’re seeing good activity and again, when you add occupancy of 140 basis points in a quarter, as we did in fourth quarter, it’s a very strong number and surprisingly strong when you think about the world, the world doesn’t seem like it's that wrong but again there is good activity and again not just for First Industrial but in our space.

Unidentified Analyst

And then I guess where would stabilized occupancy be for the portfolio, where should it be?

Bruce Duncan

Again, our goal for this year is to get 92% and my guess is we should be able to stabilize at 93% to 95% range, but first we get to 92%.

Unidentified Analyst

The prologues when they break out the portfolio above 500,000 square feet buildings are 100% leased between 250 and 500 is 98 and then below there is four categories below 100 was like 90, it was like low. But I’m just curious as you start thinking about bifurcating, your buildings between large, medium, and small whether there is a differential there?

Bruce Duncan

I would say we are about 93%. So, it’s on the smallest basis that you have a look with that occupancy is lower.

Unidentified Analyst

How do you change sort of just the portfolio management and sort of people in the field and I just said that’s just from I think the prior management was probably more in asset accumulation than portfolio management, I’m just curious how you change that over the years?

Bruce Duncan

We haven’t asked the management function we were all over it in terms of trying to make sure upgrading the portfolio in terms before we had process in place, incentives in place where people there wasn’t sort of accountability as it worked on each portfolio in each region to upgrade it into both pipe leasing it but also spending the capital to upgrade the fiscal plan and sell the asset that don’t fit. We usually have incentive system that (inaudible) that sell the assets for profit and if there wasn’t profit, they weren’t compensated, we changed the compensation system, it’s again compensation drives behavior and it’s based on how well we do affirmed and how well doing executing on our objectives.

Unidentified Analyst

And it looks like you’re accelerating development a little bit rather than acquisitions and plots during the development and (inaudible) group doing development and there is (inaudible) overall industrial development still low relative to averages but certainly there has been a much faster tick up multifamily already been come up the bottom significantly lodgings come up in terms of the new supply growth in the two sectors that you don’t need pre-releasing for but industrial next one that’s recently ticked up in terms of annually starts, is that concern at all?

Bruce Duncan

Not really, I mean again if you look at new construction in terms of what you’ve seen over the 20 year cycle where the average we wanted 160 million square feet we are still like 30 million and 40 million square feet, so it’s not significant all right. As world continues to improve and you absorbed space there will be more development again the governor on this we can do development (inaudible) here at your conference because we’ve access the camp all right.

The private person doesn’t have that same access to the capital because the banks still have requiring descent equity down and someone is doing spec transaction or asking for guarantees and that’s the governor and that will change every time as people change. They need to money out and they get more comfortable.

So you will see more development but we’re the short term terms, I’m not worried about it, you’ve also in most market again you’ve seen construction in Southern California but you’ve seen great demand there, you’ve seen Pennsylvania you’ve seen very good demand there. Houston good demand there, but you’ve seen you can expect development there, you’ve seen a little bit in Chicago, you saw a spec deal in Indianapolis, but again that market is very strong but when you look at it, most markets you’re not seem development, you won’t see (inaudible) rent, but the rents are still too low to justify. Do you still need a decent increase in rents, 25% - 25% before you see new constructions along those markets. Now, once that happened or once the rents get up that you will see, you know, again one person’s opinion, I think we are going to have decent fundamental as the market has firmed up, you are in 90% whatever it’s the mostly market is going up, market space is having less options for tenants with good demand, rents have firmed up and we have dissent NOI growth for the next few years, three to five years then you are going to have, (inaudible) there will more money available and you will see a lot more development and again our sector is like apartment, it’s easy to develop as the negative of power sector but I don’t think with the short term, I think we should have dissent fundamentals before we see this increase and development, that will be worried about.

Unidentified Analyst

Do you have questions, Kevin; do you have a question that is burning in your mind?

Unidentified Analyst

Can you just talk a little bit about build to suits, are you pursuing them at all and are there current pipelines, is there any build to suits in that?

Bruce Duncan

In the current pipeline, there are no build to suits, we do have, we had get on some build to suits, and we had not been successful in terms of lending the build to suits, so we are not getting into a very competitive business right now.

Unidentified Analyst

How has your tenancy mix, over the last couple of years as you cleared up some of the third quality assets and started to develop some new assets?

Bruce Duncan

Well, again I think our tendency continues to be upgraded but even in the downturn, it’s not about (inaudible) in the way of delinquency.

Unidentified Analyst^

Over the last couple of years our bad debt as a percentage of revenues has been at all-time lows of the company so at the end of ’08 and ’09 what happened we lost occupancy, lot of the tenants that had risky or credit went out business and what’s left are better paying tenants. 2012 our bad debt expenses was only $700,000 and that’s $300 million plus of revenue. So our tenancy over the last couple of years has been solid for the rent paying point of view. And we have (inaudible) nice space in the beneficiary of the internet retailers, the consumers has space, the big corporates.

Unidentified Analyst

(Question Inaudible)

Bruce Duncan

Because, if you would look what we've been doing over the last three years, we have been going from 81% to 90% occupancy when you do that you have a lot of new leasing, the average PIs and new leasing of $5 a foot, and we know it was of $1 so you know there is a buyer for that one. We still have that and you lease it up to stabilize the occupancy, but I might guess it should be $2 or less.

Unidentified Analyst

How do you think the industrial sector evolves from the perspective of the listed players, right? So you certainly have the peer industrial players. You have Duke which is moving more towards industrial, and they get the medical office and that confuses things and so it’s driven off as you have had Liberty this side, you know and I want to move more industrial, I mean how do you think it plays out?

Bruce Duncan

If you get the giant and the rest of us, so if you look at the index, it provides just 74% of the index. So what we need to do in buy off you know again we think being in a public platform is valuable. We think there is lot of people out in the private side that would love to be public or like that access to capital and so we think that being a fair player we think it’s valuable because it’s also distraction, I think people like to fair play. But what we have to do, we at first and has to, it’s my way to grow and get our size up, so you get more relevantly.

I mean it’s a $3 billion and a billion to eight market capital whatever. It’s fine, but it’s not, we are dwarfed by PLD, so but there are a lot of private portfolios out there. That over time, my guess is we will migrate in some form to public companies, and whether or not they go public which I think isn’t a great option right with the cost involved and just because the cost involved and whatever. But we might do it, if not well they could do, you know merge into companies such as ours. So there are some of our (inaudible) with.

Unidentified Analyst

And what’s the selling, what do you say if someone wants to merge into you, if you had enough if you had the?

Bruce Duncan

See, I think again, I come back for relative value, I think we are a great opportunity for someone because someone can come to us and say what if I am merge in with you, your cap-rate is 7%. There is a lot of upside, because we get size and scale and continue to upgrade the quality. You can get that cap-rate down, where other people are trading with 6s, and we as the person putting my assets in, I am going to get the benefit of that. I am going to get some of that lift. So I think that’s a great opportunity versus doing that when a cap-rate is 5.5, they say, I am not sure I wanted to do that.

Unidentified Analyst

So question is in the 5.5 to probably taking cash, in the 7 to taking stock and then you have to make decision that if you want to use your equity at a 7 to buy something.

Bruce Duncan

The last people in terms of taking cash a lot of people that owns somebody's portfolio are people that, there are some other issues; they really don’t want to do cash. I do feel we have a (inaudible) planning or be whatever in terms of what they are.

Unidentified Analyst

How did you find when (inaudible) emerge, where you have competitions in those markets.

Bruce Duncan

No different. Again remember we talked about this industry in public space. We still are such a small percentage of the industrial side. It's not that significant. Initially, I would state PLG was very aggressive on leasing so that they were very (inaudible) I think combining with (NYSE:AMB) one census include, if they are probably or less aggressive today than they were in terms of leasing out the space. But still it is not a significant holding.

Unidentified Analyst

They are holding raised (inaudible).

Bruce Duncan

Yes I think (inaudible)

Unidentified Analyst

So lower occupancy but trying to pressuring a little bit.

Bruce Duncan

Could be anything, again everyone I could see are going up so everyone if you look at the difference between today and three years ago. Three years ago you (blinked) very quickly, you sat down to save when you were blinking. Like today, you are standing firm here for a while because you can afford to wait.

Unidentified Analyst

Right. Are there other questions? All right, so we have three rapid fire. What do you think same store NOI growth will be for the industrial property sector in 2014?

Bruce Duncan

30-40%.

Unidentified Analyst

If you had to, what properties sector other than your own would you personally invest in right now?

Bruce Duncan

Hotel.

Unidentified Analyst

You expect to see more or less corporate companies in the industrial property sector? One year from today?

Bruce Duncan

I'll say more.

Unidentified Analyst

Thank you very much.

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