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Rouse Properties (NYSE:RSE)

Q4 2012 Earnings Call

March 08, 2013 10:00 am ET

Executives

Steve Swett

Andrew P. Silberfein - Chief Executive Officer, President and Director

John A. Wain - Chief Financial Officer

Benjamin Schall - Chief Operating Officer

Analysts

Alex Avery - CIBC World Markets Inc., Research Division

Daniel Busch - Green Street Advisors, Inc., Research Division

Operator

Greetings, and welcome to the Rouse Properties, Inc. Fourth Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Steve Swett of ICR. Thank you. Mr. Swett, you may begin.

Steve Swett

Good morning. We would like to thank you for joining us today for Rouse Properties Fourth Quarter and Year End 2012 Earnings Conference Call.

In addition to the press release distributed last evening, we have filed a Form 10-K with the SEC and posted a quarterly supplemental package with additional detail on our results in the Investor Relations section on our website at www.rouseproperties.com.

On today's call, management's prepared remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements address matters that are subject to risks and uncertainties that may cause actual results to differ from those discussed today.

Examples of forward-looking statements include those related to revenue, operating income, financial guidance, as well as non-GAAP financial measures, such as same-store results, FFO and core FFO.

We also caution that prior period results that are referenced in any comments today may not necessarily be reflective of the results had Rouse truly been a standalone entity during the periods presented.

As a reminder, forward-looking statements represent management's current estimates. Rouse Properties assumes no obligation to update any forward-looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward-looking statements contained in the company's filings with the SEC and the definitions and reconciliations of non-GAAP measures contained in the supplemental information package available on the company's website.

This morning's conference call is hosted by Rouse Properties' President and Chief Executive Officer, Andrew Silberfein; Chief Operating Officer, Benjamin Schall; and Chief Financial Officer, John Wain. They will make some introductory comments, after which, we will open up the call to your questions.

Now I will turn the call over to Andy.

Andrew P. Silberfein

Thank you, and good morning to everyone. I will begin with a brief overview of our progress and accomplishments during our first year as Rouse Properties, and then turn the call over to John, who will provide more detail on our financial results and our guidance for 2013.

Even though we are still in the early stages of executing our long-term plans, we achieved tremendous progress in 2012 across our entire organization and in the operating metrics of our portfolio.

Our strong leasing efforts for the year resulted in the execution of 438 leases, totaling 2.1 million square feet, representing over 23% of our non-anchor GLA. This production was more than double the previous year. Including anchor leases, total leasing volume was 2.5 million square feet.

At the end of 2012, our portfolio was 90% leased, up 230 basis points from the prior year. Inclusive of the anchor tenants, the portfolio closed the year at 92.6% leased.

In addition to substantially improving the lease percentage throughout the portfolio, we are focused on improving the portfolio's composition of permanent and temporary tenants.

In 2012, we made substantial progress on this front, improving permanent leased space by 433 basis points and decreasing temporary leased space by 202 basis points. Over such a short period of time, it's fair to say that this progress was ahead of our expectations.

Our portfolio sales increased $10 to $296 per square foot and were up 2.6% on a comparable basis. At year end, our occupancy cost ratio was 12.4%, a substantial reduction from 13.1% at the start of the year.

Initial lease spread on a suite-to-suite basis improved 3.9% for the year as a whole, including a 24% increase on new leases and a 1.1% increase on renewal leases.

As we indicated at the start of the year, with over 1 million square feet rolling at above market rent, our goal is to keep spreads flat. Despite the expected mark-to-market, we are quite pleased with the 3.9% improvement that we were able to achieve. And our leasing momentum continued through the fourth quarter and into early 2013.

For the fourth quarter, we leased 655,000 square feet, a 175% increase over Q4 2011. The portfolio's leased percentage improved 70 basis points for the quarter alone, and permanent leasing ahead by 144 basis points quarter-over-quarter. We are seeing solid demand across our portfolio geographically and in both larger side and inline tenants. Initial leasing spreads in the quarter were up 3.5%. New leases, up 37.5%, and renewals, up 0.9%.

Turning to our balance sheet. During the year, we increased our financial flexibility by amending our corporate credit facility, reducing our total recourse debt, extending our weighted average term to maturity and lowering our portfolio's weighted average interest rate. Our malls continue to be well received within the lending community.

During the year, we completed $183 million of refinancing, generating net proceeds of over $32 million. Including the Lakeland Square Mall refinancing that we announced yesterday, the net proceeds from refinancings completed totaled approximately $46 million.

Now turning to our earnings. Core FFO for 2012 was $1.26 per share, which was $0.03 above the high end of our guidance range for the year, reflecting higher property NOI, lower interest expense and lower-than-anticipated G&A expenses.

As we have stated before, while the improvement in the key metrics of our portfolio is significant, it takes time for new tenants to build out, occupy and open their premises for business.

At the end of 2012, we had nearly 673,000 square feet of SNO or tenants who have signed leases that have not yet opened. In that number, over 530,000 square feet consist of tenants that will occupy currently vacant space.

We continue to expect that the positive significant impact on same-property NOI from these tenants will generally be felt in the second half of 2013, with most of it being seen in the fourth quarter.

Turning now to our capital projects. We continue to focus on our strategic and cosmetic capital improvement plans throughout the portfolio. We are committed to improving the physical quality, customer experience and retailer offerings of each and every mall. Our projects include both cosmetic movements as well as focused, tenant-driven, strategic capital opportunities.

During the year, we completed cosmetic renovations of Pierre Bossier Mall and Chula Vista Center. These renovations were very well received by customers and retailers, driving additional leasing and sales gains at the properties. We have commenced 2 strategic capital projects, with a total projected cost of $18 million, including our project at Lakeland Square Mall, where we are replacing a former Dillard's box and reconfiguring excess unproductive inline GLA in the Cinemark Theater and the Sports Authority.

During 2013, we expect to commence an additional 3 to 4 strategic capital projects with a projected cost of between $25 million and $30 million and cosmetic renovations totaling $15 million to $20 million. The total capital spend on these projects, inclusive of the projects we have already commenced, is estimated to be between $15 million and $16 million, and will be completed within the next 12 to 18 months.

As we have indicated from the day we were formed, this plan of reinvestment in our portfolio driven on an asset-by-asset basis is a crucial component of our long-term strategy to maximize value and increase cash flows.

We're off to a strong start. In just our first year, we have either completed, commenced or will strongly commence cosmetic or strategic capital programs in over 30% of our malls.

In terms of our external growth, we are one of the few companies with the size, established operating platform, retailer relationships and balance sheet strength necessary to operate middle-market malls on a national basis.

During 2012, we closed on $175 million of acquisitions, including the purchase of 2 dominant only game in town enclosed malls and 4 anchor boxes in our malls.

In December, we acquired The Mall at Turtle Creek and an adjacent shopping center, Turtle Creek Crossing, for $96.3 million at a going-in cap rate of approximately 8% after management fees.

The 730,000-square-foot mall in Jonesboro, Arkansas, is the only mall within a 75-mile radius that had strong anchor sales and inline sales of approximately $345 per square foot.

With an occupancy cost ratio of only 10.1%, we believe we can apply the expertise of our platform to significantly improve cash flow and sales per square foot. Although we have only owned the asset for 2 months, based upon retailer interest and feedback to date, we are confident in and excited with the prospects of this asset.

Looking ahead, we continue to pursue a pipeline of acquisitions that fit our criteria. We will be selective and opportunistic but remain confident in our ability to source attractive opportunities.

With that, I will turn the call over to John to discuss our financial results.

John A. Wain

Thank you, Andy, and good morning, everyone. In my comments today, I will first address our balance sheet, including recent steps we have taken to continue to improve our capital structure and liquidity. Then, I will review our fourth quarter operating results. And finally, I'll introduce our 2013 guidance for core FFO.

As we've previously communicated, we continue to make significant progress in executing on our 4-point strategy to strengthen our balance sheet by, one, decreasing the amount of recourse financing. In the fourth quarter we closed on a $51.8 million nonrecourse first mortgage loan secured by Animas Valley Mall. This refinancing repaid $37.1 million of our recourse corporate term loan and in addition, provided us with excess loan proceeds of $14.3 million net of transaction cost.

Subsequent to quarter's end, we utilized $100 million of cash, which was on deposit with Brookfield Properties, and paid down our term loan to $187.9 million, a reduction of 56.6% in our recourse debt since our formation. Two, reducing interest rates. Our current weighted average interest rate is 5.17%, down 38 basis points since our formation. Three, laddering and extending our debt maturity profile. I'm happy to report that on Wednesday of this week, we closed on a new $65 million 10-year 4.17% fixed rate CMBS loan on Lakeland Square Mall. Loan amortization is based on a 30-year schedule. This financing takes care of what was our only 2013 debt maturity and provided us with approximately $13.4 million of excess proceeds net of transaction costs, which included the fees and costs on the retired loans. When including the refinancing of Lakeland and $100 million pay down of our corporate term loan, our weighted average maturity now stands at 4.1 years, up from 2.9 years at formation. Four, generating excess refinancing proceeds. Since our formation, we've generated about $46 million of incremental net proceeds through refinancing, including Animus and Lakeland, which I just highlighted.

This provides us with additional liquidity to finance our capital improvement and growth strategy. As we have stated on prior calls, we have $518 million of existing CMBS property debt, carrying a weighted average interest rate of 5.6% and a weighted average maturity of 2.7 years, which is freely prepayable without penalty. This affords us tremendous flexibility in being able to refinance these loans at the time of our choosing without incurring make-whole costs or other penalties. We continue to receive strong interest from a number of CMBS lenders and anticipate that we will continue to take advantage of favorable rates as we further execute on our refinancing strategy.

On another note, we have commenced discussions with a special servicer on our loan secured by Boulevard Mall in Las Vegas. As we have said before, we continue to refine our plans for each of our assets, and we'll provide an update on this asset at a later date when we have greater visibility on the ultimate resolution.

With regard to our financial flexibility, currently, we have approximately $305 million of liquidity, including $55 million of cash and $150 million bank revolver, fully undrawn, and $100 million subordinated revolver, also fully undrawn. This provides us with sufficient capacity to support our operational and strategic goals.

Now let me turn to fourth quarter results. Rouse reported core funds from operations of $18.7 million or $0.38 per share, compared with $25.2 million in the prior year. The prior year results are not directly comparable to the current year, as the prior year is a carve out of the historical financial statements of General Growth Properties.

The decrease in core FFO is primarily attributable to 3 items: one, net operating income was down $2.2 million, which is primarily related to lower lease termination income, more normalized bad debt expense and the timing of certain one-time and property-related expenses during the quarter; two, G&A expenses were approximately $2.3 million higher than the allocation from GDP in the prior year; and three, interest expense was $2.4 million higher, primarily due to an increase in debt outstanding in conjunction with our spin-off in January of 2012.

As Andy previously stated, for the full year 2012, we reported normalized core FFO of $1.26 per share. Our results exceeded by $0.03 the high end of the guidance range, which we previously provided.

On February 28, our Board of Directors approved the quarterly dividend of $0.13 per share, which is an increase of 86% from our previous quarterly dividend level of $0.07 per share. This dividend will be paid on April 29 to stockholders of record on April 15.

Looking ahead to 2013. Based on our current outlook and expectations, we are providing guidance for core FFO in the range of $1.49 to $1.55 per diluted share for the year ending December 31, 2013. This range represents 18% to 23% growth compared to 2012 core FFO of $1.26 per share.

The key drivers of our outlook include: same-property core NOI growth of 1.75% to 2.5%; general and administrative expense in the range of $20.4 million to $20.8 million; and interest expense in the range of $64.6 million to $65.5 million.

Please note that our guidance did not include the effects of any future property acquisitions, dispositions and refinancings. With that, I'll turn the call back to Andy for some concluding remarks.

Andrew P. Silberfein

Thanks, John. At the formation of our company 1 year ago, we communicated our principal goals, which are to assemble a strong management team, improve the metrics of the portfolio and selectively source new investments.

As we look ahead, our team is in place, our portfolio metrics are clearly improving, our towered asset-by-asset strategy is well underway, and we are well positioned to pursue additional growth opportunities as they arise.

With that, we'd be happy to answer any questions that you may have. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Alex Avery with CIBC.

Alex Avery - CIBC World Markets Inc., Research Division

Just curious as to how you arrived at an 85% increase to your dividend, pretty hefty increase. And perhaps some of your thinking about how that's going to evolve over time, the policy.

John A. Wain

Well, this is John, Alex. As we said before, the company's objective is to raise our dividend over time. As our capital programs are implemented and our tenant allowance is normalized and, obviously, looking at our taxable income for the year and our distribution requirements, we felt comfortable with the $0.13 per share.

Andrew P. Silberfein

And Alex, it's really a reflection of our progress that we've had to date and that we expect going forward.

Alex Avery - CIBC World Markets Inc., Research Division

Okay. I guess, just turning to the balance sheet. You noted that in January, you collapsed your demand facility and term loan. Just wondering, I guess, what the thinking was behind that. And does that signal any change in thinking about what your capital requirements are going to be going forward, or just reduced interest thoughts?

John A. Wain

I think one of the most important takeaways from this subject is when we made the $100 million pay down, we simultaneously increased our revolver by $100 million. So it was very important for us to maintain the same liquidity level, which we did. And then, really, we look at it from an interest savings point of view.

Alex Avery - CIBC World Markets Inc., Research Division

And so that was just, I guess, the company's now been around for 1 year and lenders are more confident and more comfortable spending credit?

Andrew P. Silberfein

That would be correct. We've had in our -- we're very encouraged by the reception we've got from the lending community in our refinancing so far. And as we go forward, we are building a brand with the lenders as well. And it's very important to us that they continue to be received well. And as we continue to execute on our strategy and demonstrate performance, we expect our cost of capital to reflect that improvement.

Alex Avery - CIBC World Markets Inc., Research Division

Okay, that's great. And then just in your guidance, you noted the $1.49 to $1.55 doesn't include any refinancings or acquisitions or other statements that might occur from, basically, today on. When you look at some of your really great refinancing opportunities like NewPark or Vista Ridge or Collin Creek, is there any reason for those specific assets that we wouldn't see a refinancing in 2013? Are there property level asset strategies that you're looking at that might cause you to delay or defer those refinancings?

Andrew P. Silberfein

Yes, that's a very good question. We are implementing our asset-by-asset strategies, and until the property is at the right point in time, in terms of the improvements in the capital that we're spending, it may not be the opportune time to refinance. If you look at Lakeland, for example, we thought it was the right time to finance it because we've made a lot of improvements to the property, our capital spend there includes adding a Sports Authority and a Cinemark Theater. Not only that, we've added a number of other retailers to the property, and we have a great pipeline going forward. So when you look at the property, we've increased the NOI substantially, we've increased the sales per square foot substantially, and that is really reflective in the opportune time for us to refinance it. So the same thing would apply to some of the other deals. And what I'd also point out is we may choose to do some balance sheet financings to -- in the interim before we go to a more long-term CMBS tenure-type execution.

Alex Avery - CIBC World Markets Inc., Research Division

Okay. So that would, I guess, almost imply that even if you weren't to do a property-specific refinancing, you might repay some of those loans and realize the interest savings even, if you don't go with a new permanent mortgage?

Andrew P. Silberfein

That would be correct. We are looking at that as well.

Alex Avery - CIBC World Markets Inc., Research Division

Okay. And then just turning to the acquisition front. Can you just give us an update of what you're seeing out there, cap rates, availability of properties, things like that?

Andrew P. Silberfein

Sure. We continue to see a good amount of deal flow in terms of the malls for sale. And we're seeing really from 3 sources: private sellers, special servicers and public REITs. Many of them don't fit our criteria, but we are confident that we'll get our fair share going forward and in our ability to source those deals and complete those acquisitions. We don't project the dollar amount of acquisitions going forward but we do expect to be active in 2013. In terms of cap rates, they depend on a lot of factors for big malls or middle-market malls. Like trends in terms of sale, anchor and newmont [ph] sales, growth prospects. The growth prospect is especially something that we look very closely at. It's not just the cap rate that you buy going in, but what's the growth behind the asset going forward, competition in the market, demographics, whether there is debt in place and so on and so forth. In terms of the cap rates, we're seeing cap rates through the assets really, I would say, in the low 7s to low 8s type cap range.

Alex Avery - CIBC World Markets Inc., Research Division

Okay. And has there been any change in the -- you noted that you're seeing primarily 3 sources of properties, but has there been, I guess, a change in the volume of availability of acquisitions, or any other changes to note there?

Andrew P. Silberfein

I would say that it's certainly higher than it was 6 months or, especially, 1 year ago. But we're seeing added properties being put out there that's really coming from all 3 sources. And what you see really is more properties than buyers out there. And you also see a number of properties that just don't fit our criteria. So as we've said before, we're going to be selective and opportunistic, and we're going to pass by a lot of these properties just because they simply don't fit our criteria. But we think there'll be, certainly, in certain amounts that we'll be very interested in.

Operator

[Operator Instructions] Our next question comes from the line of Daniel Busch with Green Street Advisors.

Daniel Busch - Green Street Advisors, Inc., Research Division

Andy, you touched on it a little bit on your prepared remarks, but with the leased space, 90%, and end of the year, closer to 86%. And I guess, leasing up that space is one of the main drivers of your NOI growth forecast for '13. Can you give us a sense on the cadence of how the occupied space will grow over the year? And maybe your estimate on where you guys think you'll be at the end of '13?

Andrew P. Silberfein

What's really interesting is the SNO, signed not opened yet, it really continues to grow, that's extremely encouraging for us. I think we pointed out that it's total of now about 673,000 square feet, that was at the end of Q4. And of that, 530,000 square feet is really signed tenants that are going to be occupying vacant space. And that alone is going to represent probably about a $9 million type increase to the bottom line. We do think most of that is going to be really hit us in the fourth quarter. So some in the third but mostly in the fourth quarter, that's what we're expecting going forward.

Daniel Busch - Green Street Advisors, Inc., Research Division

Okay. And then in your supplemental package, you gave us the tenant allowance for the small shop at around $20 on the 30,000 square feet that was signed. Do you have those numbers for the 190,000 square feet of new leases that you signed that the box is over 10,000 square feet?

Benjamin Schall

So, Dan, this is Ben Schall. We've -- I can tell you for the year, on the small shop side, the -- to sort of give you a comparable figure for under 10,000 feet -- we have 302,000 square feet of leases under 10,000 feet, which was a similar average to what we recorded in the fourth quarter, about $20 a foot. On the larger side, we're not disclosing it at this point. You'll also be seeing the majority of that TA reflected in our disclosure on the strategic projects, which we commenced the disclosure on 2 of those projects this quarter, which we think is, from a project return perspective, a more appropriate place to discuss those returns.

Andrew P. Silberfein

And as we've said before, we're expecting those returns on the strategic capital projects to be between 9% and 11% type numbers.

Daniel Busch - Green Street Advisors, Inc., Research Division

Okay. And those -- speaking of the strategic capital projects, those are -- those 2 properties and those 4 tenants, those are all signed leases?

Andrew P. Silberfein

Yes. In general, we're very reluctant to commence a strategic spend without having -- it's not all or substantially all of the leasing put in place. So we don't want to do this on a spec basis. We're doing this where we could directly tie the returns to the leases that we have executed.

Daniel Busch - Green Street Advisors, Inc., Research Division

Okay. I guess, one final question. I saw one of your major tenants, Foot Locker, the percent of rent that they made up in the portfolio dropped quite a bit during the quarter compared to the third quarter. I know that number tends to move with portfolio mix, but that just seems like a bigger drop than usual, at about almost 1%. Can you help us understand what happened there?

Andrew P. Silberfein

Yes. I mean, I think we have to get back to you on that. We're not aware of anything in particular. Regarding that tenant, we continue to really be very well received by our top tenants. And when you look at who's really active in our portfolio, it tends to be these top tenants in our portfolio. Not only that, they are also achieving higher growth in their sales than the rest of the portfolio. So we expect to continue to increase the number of stores with chains like that. So I'm not sure about the number, we'd have to get back to you.

Operator

It seems there are no further questions at this time. I'd like to turn the floor back over for closing comments.

Andrew P. Silberfein

Well, thank you very much for joining us on the call. We look forward to sharing the progress that we make with you during the year.

Operator

This concludes today's teleconference. You may disconnect your lines at this time. And thank you for your participation.

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