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Developers Diversified Realty Corporation (NYSE:DDR)

Q1 2009 Earnings Call Transcript

April 24, 2009 10:00 am ET

Executives

Tom Morabito – Senior Director, IR

Scott Wolstein – Chairman and CEO

Dan Hurwitz – President and COO

Bill Schafer – EVP and CFO

David Oakes – Senior EVP, Finance and Chief Investment Officer

Francine Glandt – SVP, Capital Markets and Treasurer

Analysts

Shahan [ph] – Goldman Sachs

Joe Dazio [ph] – J.P. Morgan

Michael Bilerman – Citigroup

Louis Conforte [ph] – UBS

James Sullivan – Green Street Advisors

Operator

Good day, ladies and gentlemen. And welcome to the first quarter 2009 Developers Diversified Realty earnings conference call. My name is Towanda, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will facilitate a question-and-answer session towards the end of this conference. (Operator instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to Mr. Tom Morabito, Senior Director of Investor Relations. Please proceed, sir.

Tom Morabito

Thanks, operator. Good morning, everyone. And thank you for joining us. With me on today’s call are Chairman and CEO, Scott Wolstein; President and Chief Operating Officer, Dan Hurwitz; Chief Financial Officer, Bill Schafer; and, Chief Investment Officer, David Oakes. Following our prepared remarks, we will then conduct the Q&A session.

Before we get started, I need to remind everyone that some of our statements today may be forward-looking in nature. Although we believe that such statements are based upon reasonable assumptions, we should understand that those statements are subject to risks and uncertainties, and actual result may differ materially from the forward-looking statements.

Additional information about such factors and uncertainties that could cause actual results to differ may be found in our earnings release and in our filings with the SEC. Finally, please note that on today’s call, we will be discussing non-GAAP financial measures including FFO. Reconciliation for these non-GAAP financial measures to the most directly comparable GAAP measures can also be found in the earnings release. The release and our quarterly financial supplement are available on our Web site at ddr.com.

With that, I would now like to turn the call over to Scott.

Scott Wolstein

Thank you, Tom. Good morning, everybody. And thank you for joining us today. To begin, I would like to briefly discuss first quarter operating results, which was quite solid despite the macroeconomic challenges and the large distortion by some significant tenant bankruptcies.

FFO for the first quarter of 2009 was a $1.08 per share including gains and debt extinguishment and impairment related charges, which compares to last year’s first quarter restated at the fall of $0.80 per share. Excluding $17.5 million of impairment related charges and $72.6 million of debt gain, FFO was $0.66 per share for the first quarter of 2009. All told, the quarter came in as expected given the environment and we will walk you through the details in a few minutes.

Next, I would like to update you on our progress regarding the strategic investment by the Otto family. Our shareholders overwhelmingly approved the transaction, with more than 95% of votes in favor. We expect the first tranche of 15 million shares to be posted to the Otto family at $3.50 a share within the next few weeks, which will be concurrent with our closing at approximately $125 million of new secured debt financing. The new secured debt consists of two transactions. In both cases, full lender committee approval has been obtained.

In addition, a $60 million five-year loan provided by an affiliate of the Otto family, replacing the $60 million bridge loans entered into last month with the Otto family, foreclosed the loan with the other debt and equity closing. Proceeds from the bridge loans and asset sales were used to purchase over $150 million of our bonds in March, when discounts to par were extremely attractive.

The second tranche of $50 million shares will be sold to the Otto family within six months of the first closing. We will also be granting warrants to the Otto family for 5 million additional shares, and is closing with an exercise price of $6 per share.

As we announced during our fourth quarter earnings call, our recent capital markets activities have addressed all of our debt maturities to at least the end of 2010. We are pleased with our progress to date and expect to have considerable additional activity to announce in the next few quarters to proactively address our 2011 and 2012 maturities. We are actively pursuing capital raising initiatives through a broad range of potential opportunities in markets at both the assets and corporate level.

First, we sold over $67 million of assets in the first quarter at a weighted average cap rate of 8%. Concurrently, we have over $175 million of assets under contract or subject to letter of intent. As a result, we are well on pace to complete our expected $200 million of asset sales in 2009.

Second, in addition to the $125 million of new mortgage debt closing in early May, we will obtain significant additional new mortgage debt within the coming quarters. Some of that debt are already has written proposals from lenders in various stages of negotiations.

Third, in addition to the $112 million of equities from the Otto family, our continuous equity program remains in place. And we have the capacity to issue over $115 million worth of new shares that we have not utilized as yet in 2009. Though we realize the high cost of equity capital in the current environment, we’ll consider more equity related transactions as we strive to ensure the utmost financial flexibility.

Fourth, we expect to retain approximately $250 million of free cash flow in 2009 as we maintain our current dividend policy. Finally, we continue to have interest in repurchasing our unsecured notes with significant discounts to par. During the first quarter, we bought back over $160 million of our bonds, maturing in 2010, 2011, and 2012, at a weighted average price of 51%.

To all of these items I just mentioned, along with conservative financing assumptions, the required equity injections into any asset with maturing mortgage debt, we have addressed all of our remaining 2009 and 2010 maturities and our focus on attacking the 2011 and 2012 maturities was bigger.

David will expand more upon these activities later in the call. But first, I will turn it over to Bill, who will take you through our first quarter operating results.

Bill Schafer

Thanks, Scott. I’ll begin by discussing first quarter operating results. As Scott mentioned, our first quarter 2009 FFO was a $1.08 per share. As indicated in our earnings release, after adjusting to excluded impairment related charges and gains on debt repurchases, FFO was $0.66 per share. The impairment related charges of $17.5 million were primarily related to impairments and losses taken on both fully owned and joint-venture assets, which were disposed off or are being marketed for sale.

It is worth mentioning that, although we incurred impairment related charges of approximately $17.5 million, we also had gains on the sale of assets of over $12.3 million, which were not included in FFO. The net gains on debt repurchase of $72.6 million, actually equates to over $80 million of gains based on the face amount of debt repurchase, which Scott mentioned earlier.

Turning now to operating results for the first quarter, same store NOI for the quarter was down 2.2%, which is on track with guidance we issued on last earning’s call, in which we indicated a decrease of 3 to 4%. Our Brazil portfolio performed exceptionally well, with same store NOI increases of over 12%. Ancillary income was up over 9% from last year and G&A expense is down approximately 7% from last year. The reduction in G&A is attributed to the termination of a supplemental equity award plan at the end 2008, a lower head count, and a reduction in general corporate expenses.

Next, I’d like to call your attention to two changes in the financial statements this quarter. First, our interest expense was increased by a non-cash $3.9 million charge due to the change in accounting for convertible debt instruments. This also required us to restate our 2008 results, which resulted in a non-cash $3.3 million increase to interest expense in 2008, or approximately $0.03 per share. FFO per share was reduced to $0.80 for the first quarter of 2008 as compared to the $0.83 reported last year. Second, minority interest is now referred to as non-controlling interest. And from a balance sheet perspective, $133.5 million is now included as part of shareholders equity.

I’d like to take a moment to address upcoming non-recurring charges that we expect to occur later in 2009. In connection with the Otto transaction, and as reflected in the related proxy, a change in control with regards to our equity awards plan has occurred. As a result, we will incur a $10.5 million non-cash charge in the second quarter of this year and $4.7 million non-cash charge in the second half of the year. No cash is being paid out to current employees as part of this change in control trigger under our equity award plan.

Moving to on to capital markets, we recognized the covenant compliance continues to be an area of concern among the investment community. We are able to provide the following information. We are compliant with both bank facility and unsecured note covenants as of the first quarter. Our tightest ratios have been the consolidated indebtedness ratio and the unencumbered asset coverage ratio in our bank facility covenants. For each of these ratios, there has been trending improvement from the third quarter of 2008 to Q4 of 2008, and again through March 31, 2009.

The consolidated indebtedness ratio reads as follows, consolidated indebtedness must not exceed 60% of consolidated market value, provided that such percentage can be up to 65% for two quarters during the term of the facility. We have never exceeded 60% during the term of our facility and our calculations indicate that we were below 58% on this ratio as of March 31.

The unencumbered asset coverage ratio provides that the value of unencumbered assets must be greater than or equal to 1.6 times consolidated unsecured indebtedness. Our calculations indicate that we are above 1.65 times on this ratio as of March 31. Our unencumbered assets pool was over $5.5 billion as of March 31.

While this is lower than prior quarters, primarily due to increase in secured debt and asset sales, we have reduced our unsecured debt from $3.5 billion to $3.3 billion and improved this ratio. We could add roughly $700 million of secured debt without assuming any corresponding increase in consolidated market valuable before violating our secured indebtedness covenants. We expect the ratios to improve throughout 2009 as we continue to retain more capital, close the Otto transaction and additional debt financings, and continue to sell assets.

Our cash on hand in revolver capacity was approximately $100 million at quarter end. We realize that this is low, but we made a strategic decision to take advantage of one of the few benefits that this economic environment provides, which is the ability to repurchase our near term public debt at significant discounts. We have taken advantage of this opportunity through the dramatic slowdown of development spending, reduction of cash dividends, health of acquisitions, the increasing volume of asset sales, and the issuance of new debt. Throughout 2009, we will see us continue to focus on buying notes at a discount, and at the same time reducing our revolver balances.

Last week, we announced the results of our first quarter 2009 dividend election. We paid approximately $2.6 million in cash and $23.2 million in common shares, which resulted in $8.3 million additional common shares outstanding.

Finally, I’d like to give an update on our development disclosure. We’ve removed five projects out of projects in progress in the supplement. Four of these were re-classified as land or construction projects on hold as we no longer expect near term commencement of vertical construction. The other project, Midtown Miami, has been moved to operating assets as most of the capital budget for the project has been spent and most major anchors have opened.

Development funding will be little, if any, in the near term and we have slightly over $40 million budgeted for the rest of 2009 for the remaining centers that are shown in the projects and progress chart in the supplemental.

I’ll now turn the call over to Dan.

Dan Hurwitz

Thank you, Bill, and good morning. I’d like to start by providing an update on what we’re seeing in the leasing environment as retails continue to face tremendous headwinds due to decreased consumer spending and deteriorating economic fundamentals. While we have already seen our share of retail bankruptcies, the industry as a whole expected to see more fallout during the first quarter of 2009. And while there are retailers currently facing severely deteriorating operating fundamentals, a significant portion of our core retailers continue to prove their resilience amid the challenging economic climate as evidenced by the deal velocity we experienced during the first quarter.

While many of the headlines addressing retailer health suggest that retailers are simply not expanding, our leasing team delivered a remarkably strong quarter, both in terms of deal volume and square footage, indicating that retailers are in fact continuing to look for the right growth opportunities. But obviously, at a price.

Specifically, we signed 124 new leases during the quarter, representing over 570,000 square feet of GLA at an average spread of negative 60 basis points. Additionally, there were 227 renewed deals executed during the quarter, representing well over 1.3 million square feet of GLA at an average spread of 90 basis points. On a blended basis, there were 351 deals executed during the first quarter representing nearly 2 million square feet of GLA at an average spread of 58 basis points.

Compared to Q4, we executed 42 more leases and filled 34,000 more square feet of GLA. We expect occupancy to remain around 90% for the next few quarters with rentals spreads remaining modestly positive to slightly negative as we focus on improving occupancy and minimizing CapEx. Overall we are very encouraged by the level of leasing activity we experienced for the quarter.

While the resulting rent spreads were much less than we had historically achieved, the volume of deals was quite strong given the fact that we had not yet regained control of all the space that was rejected during the bankruptcy process. In addition, our leasing expenses in terms of CapEx, which was one one-third of what we would historically have spent on the number of leases executed for the quarter.

As you can see from these results, in contrary to what some of the headlines may say, there are retailers still interested in doing deals. Discount retailers are taking new advantage of consumers trading down and are opportunistically growing as a result. Categories such as linens and consumer electronics are taking advantage of the unique opportunity to gain market share from their former competitors.

The most active retailers include Bed Bath & Beyond and its various concepts, Best Buy, Forever 21, HH Gregg, Hobby Lobby, Joan’s Stores, Nordstrom Rack, Ross Dress for Less; regionally and specialty grocers such as Sprouts, WinCo and El Super. Also very active is Staples and the TJX Companies, the parent of T.J. Maxx, Marshalls, A.J. Wright and Home Goods. We have multiple executed leases or an active lease or LOI negotiations with each of these retailers that I just mentioned.

We continue to stand in front of these and other active tenants through portfolio reviews and face-to-face meetings to communicate strategic initiatives and enhanced business relationships. To date, we have 33 formal portfolio reviews and numerous meetings either completed or planned for the near future, particularly at the upcoming Recon [ph] conference. While some retailers are more bullish than others, we continue to hear from a large majority of retailers during these meetings, that their reduced door openings are not a result of strained operating fundamentals but rather due to the lack of new growth opportunities.

On a similar note, addressing overall retailer health, our industry has consistently focused on headline sales figures and earnings growth as a barometer for future growth plans. As many of you have heard me say before, the leading metric of same store sales is not a good measure of retailer health, particularly in this economic climate for a variety of reasons.

First, retailers continue to improve supply chain efficiencies led by inventory management, which is driving margin of growth rather than sales volume. Second, as economy continues to contract, retailers are counting their numbers from distressed quarters, from which their inventory levels deviate greatly from current operating metrics. And lastly, retailers are beginning to face difficult year-over-year comparisons as a result of last year’s tax rebate checks which were mailed in the second quarter of 2008 calendar year.

Overall, although retail sales in some cases are in fact falling, many retailers may actually be experiencing margin growth, achieving plan, and enhancing the quality of their credit. Despite the fact that retailers are opening new stores, we are still feeling the effects of retailer bankruptcies that impacted our portfolio in 2008 and early 2009. As of the end of the first quarter, the leased rate for our shopping center portfolio stands at 90.7%.

This figure includes the bankruptcies of Goody’s, Linens ‘n Things, Circuit City and Steve & Barry’s. With the inclusion of the now vacant Mervyns stores, we stand at 88.4%, which is a historical up. However, when reviewing our occupancy statistics, it’s interesting to note that excluding the five major vacancies created by the bankruptcies I just described, which will be resolved over time, our portfolio remains at 94.8% leased. 44% of our total vacancy is related to those bankruptcies, which highlight a tenant specific issue and not a real estate issue.

In terms of addressing the big box vacancies in our portfolio, our anchor store re-development team is working diligently to back build the space. As I have mentioned in previous calls, we formed this group during the third quarter of 2008 to proactively address the unprecedented number of junior anchor and anchor spaces that have been returned to us primarily due to the bankruptcies of many high profile retailers. We are working creatively to re-tenant these spaces with strong credit tenants, and through collaboration with our retail partners, we are finding ways to maximize the re-use of existing improvements and minimize capital expenditures.

Of the 50 Circuit City locations that were in our portfolio, we regained possession of 43 locations in early March. During the first quarter, three of these units were released to Bed Bath & Beyond, HH Gregg, and Joan’s Stores. And another three are in process. To date, we also have 25 active letters of intent on 16 locations representing 557,000 feet of former Circuit City spaces.

The 38 former Mervyns spaces in our portfolio are garnering interest from retailers looking to take over quality real estate in the California market. Many of these locations are in markets of high various entry and we are seeing apparel chains such as Kohl’s and Forever21 as well as grocers eager to expand their footprint and gain market share.

As of January 1st, when we regain possession of majority of the Mervyns boxes, we sold five former locations to Kohl’s, are in active negotiations to sell two more locations to another retailer. We also leased locations to Forever21 and Hobby Lobby. In total, these nine locations represent 23% of the total Mervyns space. To date, we also have 25 active letters of intent out on 13 additional locations.

Eight of the 38 former Linens ‘n Things locations are currently at lease, which represents 21% of the space formerly occupied by Linens. We also have 11 active letters of intent in negotiation for several locations representing in additional 243,000 square feet.

We regained possession of the 21 of the 38 former Goody’s locations in the first quarter. To date, we have leased three units to retailers eager to expand into the South such as Hobby Lobby, and have nine active letters of intent on several locations accounting for an additional 263,000 square feet of space.

In total, within our anchor store re-development group portfolio, we have approximately 3.3 million square feet of letters of intent in active negotiations, 582,000 square feet in lease negotiations, and 700,000 square feet of FCQed [ph] releases were sales of single tenant boxes, which accounts for approximately 39% of our total big box vacancy.

With the lack of new development opportunities and challenging internal growth prospects in a price deflationary environment, we are seeing more tenant interest in our vacant box portfolio than originally anticipated. We've foreseen no change in the current dormant status of new development projects, which should be a catalyst for future interest in these locations.

It’s important to note the increase in credit quality of the retailers that are backfilling these spaces. The vast majority of the replacement tenants for the boxes are national retailers and are survivors in their respective categories. These investment class retailers have a strong sustainable credit profile and will enhance our leasing efforts on the balance of our shopping centers.

It’s also important to note, that while we continue to market our big box vacancies to long-term prospects, our new business development team has generated in excess of $1.4 million in revenue commitments from temporary tenants filling space in our anchor store re-development portfolio.

I'd like to take a minute to address the growing concerns surrounding potential co-tenancy impact across the retail landscape. While few co-tenancy issues at our center have been triggered as a result of recent bankruptcies, annual base rental revenue has been impacted by less than 1% as a result of tenants paying alternative rent. A co-tenancy cause is not typically triggered by a single junior anchor such as Linens n’ Things or Circuit City leaving a center. Rather, this is typically tied to a series of main junior anchors for big box anchor tenants, and generally results to a retailer paying an alternative rent typically for a period of one year until the co-tenancy is cured in which case the tenant must revert back to minimum rent. An example of alternative rent would be 2% to 5% of gross sales.

If after one year the co-tenancy is not cured, the tenant has the option to vacate its space or return to its contractual rent. The latter is often chosen as it is far less expensive than closing or relocating a profitable store. Even if the store is unprofitable, the tenant will usually attempt to renegotiate the rent in hopes of achieving profitability before deciding to terminate. This gives us the option of keeping the tenant at a reduced rate if we feel it is in the best interest of the asset.

I'd now like to take the moment to address a common misconception within our industry as it relates to rent relief requests. Many retailers will tell you that they are asking for rent relief. And they are in record numbers. To date, we've received 672 requests for rent relief, rent abatement, and rent deferrals. 525 of these requests have come from local tenants while the remaining 147 have come from national tenants.

We evaluate each requests on a case by case basis and ask that each retailer provide us statements, sales history, tax returns, any business plans stating their strategy to increase sales, and reduced variable expenses going forward, such that we can make a prudent business decision.

More often than not, we do not receive the items requested and the rent relief request is denied or goes away on its own. There is a disconnect between tenants and landlords regarding the number of requests that are actually granted. Many retailers and their advisors will tell you they're successful in renegotiating relief terms. However, to date, we have granted only 20 rent relief requests, or less than 3% of the total requests received.

The typical concession is for a period of one year and is generally in the form of a deferred payment. It is also important to note that many of the requests we process must be reviewed and decided upon by our joint venture partners.

In summary, we fully acknowledge the challenges we've faced from an operational and fundamental perspective. While our occupancy rate in same store NOI have been negatively affected by the difficult leasing environment and retailer bankruptcies, we see this as an opportunity to rebuild our portfolio of tenants and change the way we lease space.

We are improving the credit quality of our tenants by leasing to the current best in class retailers, agreeing to significantly less co-tenancy requests and limiting the expanse of exclusives in new lease agreements, in addition to creating more leasing synergies to careful planning for each asset.

We are confident that these strategies coupled with our already solid and efficient operating platform will result to sustainable rental revenue of growth portfolio wide. We do not underestimate the economic environment we are currently operating in. We monitor our tenant watch list on a daily basis and continue to carefully evaluate the decisions to make at a property level to ensure we are in a best position for future growth.

At this time, I like to turn the call over to David.

David Oakes

Thanks, Dan. As Scott and Bill mentioned earlier, we are making a substantial progress on the initial steps of our de-leveraging our balance sheet and improving liquidity by aggressively addressing items that are under our control. These strategies include reducing the dividend pay off for 2009, minimizing development spending to little if any in the near term, selling non-core assets, and repurchasing near term debt maturities at significant discount to par.

Our top priorities currently include these initiatives, the closing of the transaction of the Otto family and raising new secured debt capital. We are also supporting numerous other capital raising activities to expand upon our current efforts, such as selling core assets into joint ventures and various corporate capital raising initiatives.

Despite the challenging financing environment for buyers, asset sales are still occurring. And they are an important part of our strategy. We have sold several assets here to date for over $73 million. The sales occurred at a weighted average cap rate of 8%, and we have made considerable progress towards our expectation of $200 million of asset sales for this year.

We are forecasting cap rates from this year sales to be in the range of 7.5% to 9.5%. In the current environment, larger asset sales are not occurring as frequently. So we are focusing on selling single tenant assets and small shopping centers with an average transaction size in the $5 million to $25 million range.

Buyers include well capitalized retailers buying back their stores, local buyers have access to capital and those who are completing 10-31 exchanges. We are seeing new buyers return to the market as cap rates have returned to their long term average after years of historic lows.

We currently have $137 million of assets under contract for sale and $41 million subject to letter intent. While many deals at these stages will not be completed, we remain comfortable with our goal of $200 million of asset sales for the year. We are also working on several larger transactions, but are not counting on or budgeting those to occur.

Another important initiative is re-purchasing our own secured notes at a discount to par. Throughout the first quarter, our strategy was to re-purchase in those selling at the most attractive pricing and we did so by re-purchasing over $160 million at 51% of par. We will continue to use free cash flow and new capital from sales and equity, and debt financing to repay debt. And we will be focused on our near term maturities that are trading in attractive levels.

Turning now to the Otto transaction, we expect closing on this transaction to occur in the next few weeks which will be concurrent with the closing of a $125 million of new secured debt financing. The new secured debt financing will be comprised with a $40 million two year loan on a stabilized shopping center. This loan will have a floating interest rate and one year extension option, and is pre-payable at anytime. The loan value is approximately 50%.

The second will be an $85 million 10 year loan on four assets located in Puerto Rico with a life insurance company. The rate with was locked 7.6% and the loan’s devalue is approximately 50%. This deal is being done with a new life insurance company relationship with DDR, and we are pleased that they are very positive about the quality of our real estate and platform.

We are already working on another financing with them that we hope to advance shortly. We currently have asked patience and progress for an additional $30 million of five year loans with two different groups. In addition, the $60 million five year loan provided by the Otto family will close in the next several weeks. This loan is currently in the form a bridge loan and the proceeds received in March were used to repurchase unsecured notes at significant discount. The interest rate will decline from 10% on the bridge loan to 9% on the five-year term loan.

In regard to mortgage debt maturities, we recently extended three CMBS loans that matured in the first quarter for up to an additional year. We are extending May and June maturities as well at this time. Many of our CMBS maturities in the next few years are held by the same special servicer, which at this point has been a benefit to us as we have built a good relationship with this party and have been able to come to arrangements to benefit both borrower and lender.

As of March 31st, we have $103 million of debt maturing for the remainder of 2009 and $800 million maturing in 2010, excluding the $127 million of consolidated joint venture debt that relates to our partner’s share for 2010. $479 million of this 2010 debt is public unsecured notes, $288 million in CMBS, $23 million in bank debt, and 48 million is held by life insurance companies.

Using a cap rate of 8.5% on the $319 million of 2010 mortgage maturities results in a loan devalue of roughly 48%. Our unconsolidated joint ventures have $300 million of debt maturing in 2009 and $1.1 billion maturing in 2010, of which our share is $69 million and $324 million respectively.

Finally, I’d like to take a moment to discuss some of our joint ventures. In December, MDT announced that it was undergoing a strategic review. This strategic review is advancing and could result in asset sales or bringing in a new capital partner. Also, we’ve exercised our contractual redemption rights from the USLLC and expect to execute an asset swap with MDT that will simplify the ownership structure and enhance the flexibility for both DDR and MDT.

The expected asset swap will eliminate $173 million of 2009 and $476 million of 2010 debt maturities from our unconsolidated maturity schedule.

We lowered our ownership of MDT’s common stock to just below 10%, but remained the trust’s largest unit holder. Regarding our joint venture with Coventry, we remain consistent with our previous statement that we will not fund our joint venture partner’s capital contributions or their share of debt maturities. This stance led to Board Parkway Center in Kansas City being foreclosed on in February in a friendly foreclosure. We continue to manage it’s center and are working with the lender to sell the asset under an arrangement where we will receive some proceeds from the sale above the amount of debt on the property.

In closing, I’d like to reiterate that our number one focus right now is reducing leverage and enhancing financial flexibility. We are working tirelessly to evaluate every option to do some and we are acting immediately on those options that are within our control. We are confident in stating that we will be able to move all of our near term debt maturities with these initiatives and look forward to emerging from this challenging part of the cycle as a stronger, more focused, and lower leveraged company.

I’ll now turn the call back over to Scott.

Scott Wolstein

Thanks, David. Before opening the floor to Q&A, I would like to reiterate our 2009 FFO guidance of $2.10 to $2.25 per share, excluding one time items. And we expect that number to be significantly higher than that, including profits on debt repurchases.

I would also like to take a moment to thank all of our colleagues here at DDR, for their efforts and for maintaining their high degree of enthusiasm during this challenging time. With that, we would like to take your questions. Thank you.

Question-and-Answer Session

Operator

Thank you. (Operator instructions) Your first question comes from the line of Jay Habermann with Goldman Sachs. Please proceed.

Shahan – Goldman Sachs

Hi. Good morning. It’s Shahan [ph] here. I’m with Jay as well. Just to start with, on the Otto deal, you’ve obviously mentioned expectations of closing phase one over the next couple of weeks. Is there anything at all in your view that could possibly push the deal a lot further, beyond the expected timeline, or potentially then result in it not going through at this point?

Dan Hurwitz

No. We’ve satisfied all the conditions of closing except the closing of the two loans that we discussed. And we’ve satisfied all the conditions in the (inaudible). Now there really – barring some 9/11 event or something that we can’t even think about, there’s nothing that would stand in the way of the orderly closing of the transaction.

Scott Wolstein

Every one of those conditions has been filed either in the proxy or in the 8-K. And you can see that we have met those conditions with the closing of the two loans in the next couple of weeks.

Shahan – Goldman Sachs

Okay, thanks. And then seeing to this secured side, any options there? How is the shift in tone from your discussion with life companies and banks over the past couple of weeks, obviously given that we’re seeing this window of capital open up slowly? What’s the real focus today as you try and negotiate terms and new deals here?

Scott Wolstein

We continue those having dialogues with banks and life insurance companies on an extremely regular basis, I’d say after the fourth quarter’s environment of shock about what was going on in the world, we’ve seen stabilization. Certainly not a normalization or end of a dislocation, but we continue to see a level of interest in extending new loans. Certainly not in the size of those loans that would have been extended two or three years ago but continue to see an appetite for our stable product.

Clearly, at lower loan devalues than existed in prior years, but an ability to get term debts in size that is approximately at 50% loan devalue level. And so we’re showing that progress with the loan that will close in the very near term and we expect to have more capital raised on that front over the next several quarters.

Dan Hurwitz

I might echo that in addition to the progress on the debt side, there is a significant increase in activity in interest from the equity side and the private side that sort of mirrors what you’re saying in public equity, both from pension funds, opportunity funds, and individual investors. There’s far more real dialogue going on about transactions and far more inquiry coming to us than we saw in the fourth quarter.

Shahan – Goldman Sachs

Thanks. And then just lastly on the 2010 to 2025 guidance for the year, what’s the same store NOI decline that year of factoring into that?

Scott Wolstein

Consistent with what we’ve guided to previously, it’s a negative 3% to 4% same store NOI.

Shahan – Goldman Sachs

Thank you so much.

Operator

Your next question comes from the line of Joe Dazio with J.P. Morgan. Please proceed.

Joe Dazio – J.P. Morgan

Good morning. It’s Joe Dazio [ph] here with Mike. I know that you mentioned that you see occupancy kind of trending around 90% so far this year. Where do you think is the biggest risk to that number could be at this point?

Dan Hurwitz

The risk to which number? I’m sorry?

Joe Dazio – J.P. Morgan

To the 90% occupancy which tenants or industry is–

Scott Wolstein

Now we have a watch list to be watched. I wouldn’t want to name tenants specifically but there’s certainly no secrets who out there as in distress, who has hired advisers, in some cases who’s hired bankruptcy counsel. We actually did expect that we would see more bankruptcy activity in the first quarter then we saw.

And preliminary indications are that things generally in the market are getting a little more positive for of those retailers. Although we are not counting on it because as we’ve talked about in the past on these calls, June and July are very high risk months for retailers where their capital expenditure for fall goods is very high, but their receipts from sales is typically pretty low. So the biggest risk to that occupancy is obviously of some of those retailers who are currently hanging in there, don’t. We really won’t know that I don’t think, for the next probably 60 to 90 days.

Joe Dazio – J.P. Morgan

Okay. Just a quick modeling question, how much NOI from bankrupt tenants, actually hit the first quarter numbers and that will have to come out going forward?

Dan Hurwitz

It is about – from a baseline perspective it is about $11.3 million

Scott Wolstein

The only meaningful deduct going forward that’s been announced and have shown up in operating stocks but hasn’t completely flowed through the entire first quarter was Circuit City, where the they were rent payer through the yearly portion of margin. So if you look to model out, there’s a remaining quarter. That’s the one, that would be unnoticeable number that will show up in the second quarter and beyond. Now some of those boxes will be released, but from the modeling perspective that was the one that showed up for a good portion of the quarter.

Joe Dazio – J.P. Morgan

Okay. Thanks very much.

Operator

Your next question comes from the line of Michael Bilerman with Citi. Please proceed.

Michael Bilerman – Citi

Good morning. Clinton Valely [ph] with me here as well. David or Scott I think both of you have mentioned from the capital raising alternatives and corporate capital transactions, you just go through how you’re thinking about that? And what that relates to and what rights Otto may have, and other equity type transactions with other investors?

David Oaks

I don’t have no right to relate the equity transaction with other investors, only the fact that when they close on their equities they’ll have a couple board seats and we’ll have two votes out of twelve in terms of capital raising options of the company. We certainly expect a variety of capital raising alternatives to be completed through the balance of the year and we would expect that equity to will be one of those.

We have so many other things in our place that are going to be positive before we get to that. We’d like to see a little rebound and the sure price to get some better execution. But we certainly look at that as one arrow in the quiver as you will to address our upcoming debt maturity.

Michael Bilerman – Citi

Do you think as corporate that just selling additional equity effectively following down subsequent recap type transactions.

Dan Hurwitz

I’m sorry. Can you say that again? You were breaking up a little bit.

Michael Bilerman – Citi

Sorry about that. I want to make sure I’m clear. So when you’re thinking about corporate, you’re thinking raising additional common equity not through your trip, but effectively coming out and doing a large – whether it be a well across or whether in – effectively large equity offer and probably after you do some of these other–

Dan Hurwitz

Yes, we’re not making any announcement of an equity raise on this call. But yes, certainly that’s something we’ve discussed with investment bankers and with investors. And it’s certainly an option that we will certainly consider in the months ahead.

Michael Bilerman – Citi

Can you talk a little about negotiations with your line lenders? Obviously, I believe you do have a one year extension next year on your line. But just how that process is going in terms of potentially trying to recast that early or trying to figure out some way to push that out further to take that maturity off the table.

Scott Wolstein

First of all the extension is automatic as long as we’re compliant with our loan covenants. And our projections indicate that headroom on the covenants will continue to get better and better every quarter. We don’t look at it as a 2010 maturity, as to 2011 maturity, and a 2012 maturity.

We have had discussions with our line banks and what their guidance to us has been deal with your other issues first with the public debt. We’ll be there for you and they’ve indicated, while there will be certainly different pricing if we were looking a new line today and maybe less capacity that certainly that majority of banks would stay in place and we would still have a very ample credit facility going forward. As far as when is the right time to address that, certainly we’ve always done that a year out and we’ll probably have very earnest discussions about the terms of extensions in 2010.

Michael Bilerman – Citi

This is a question for Dan. You gave very good detail in terms of how some of the bankruptcies have affected occupancy or at least your lease rate which is 88.4%, I assumed as a quarter end number?

Dan. Hurwitz

That is.

Michael Bilerman – Citi

And so, relative to 92.2% at the end of the year, how much vacancy is there on the top of the 88.4% in terms of dark but rent paying anchors?

Dan Hurwitz

We have about six and – our anchors for redevelopment group has all the dark, rent paying anchors or the bankrupt boxes that we’ve received back. We have about 10.5 million feet of total in that group, 6.5 million feet as a result of bankruptcy and about 4 million feet are dark anchors that are either paying rent or have effectuated termination agreements and were back into the releasing market.

Michael Bilerman – Citi

And so that’s effectively 650 basis points?

Dan Hurwitz

Yes. That’s about right.

Michael Bilerman – Citi

And then, have you effected an economic occupancy rather than a leased rate?

Dan Hurwitz

Well, we could get that number for you Michael. I don’t have it off the top of my head but–

Michael Bilerman – Citi

I know traditionally you’d use to provide both occupancy and leased rate.

David Oaks

And the reason why it has been just a little difficult lately is because the spread is widening because of the bankruptcies. But if you recall in the past couple of years, that straight and narrowed very dramatically. And it was probably only a 50 basis point difference. Right now we are running close to 250 basis point difference. But it changes significantly by what happens with the bank of shoe boxes and the timing of when we get them back.

Michael Bilerman – Citi

And so, economic today you may be at around 85% or so and taking the chance that there’s some rent paying for taking boxes. That’s a fair way to think about it?

David Oaks

No. Including Mervyns, it’s at 88%. It’s at 88%, is our economic occupancy.

Michael Bilerman – Citi

I thought that was your leased rate?

David Oaks

No. That’s our economic occupancy.

Michael Bilerman – Citi

Okay.

David Oaks

It’s 88% and like I mentioned before, without the bankruptcies it’s at 94.8%.

Michael Bilerman – Citi

Just one last question on the committed mortgages. You talked about having an excess of $112.5 million. Does that include the $60 million secured loans from Otto? Or it excludes that?

Dan Hurwitz

No. That’s in addition to.

Michael Bilerman – Citi

In addition to. So $112 million from outside then plus another $60–

Dan Hurwitz

No. It’s $125 million from outside plus the $60 million.

Michael Bilerman – Citi

Plus the $60 million then plus the rest.

Dan Hurwitz

That’s correct.

Michael Bilerman – Citi

Okay. Thank you.

Operator

(Operator instructions) Your next question comes from the line of Louis Conforte [ph] with UBS. Please proceed

Louis Conforte – UBS

Hey, folks. Just keep that cooperating fundamentals for a moment. If you were to bifurcate or breakdown big box versus SSGLA from bankruptcy standpoint, where are you losing? And can you provide a little more specific numbers. In (inaudible) question, do you think that ultimately you’re going to see continued small store deterioration and a transitive effect if the big boxes go away?

David Oakes

It’s a good question. Right now because of the influx of the bankruptcies that we have in the fourth quarter and a little bit of action in the first quarter, the bulk of our vacancy and the pressure on occupancy, if you will, as coming from the bankruptcy in the junior box to big box category, the actual small shops have held up particularly well. One of the things I mentioned is what we require small shops to give us in the event they ask for rent relief. And very often they don’t do it. They come in, they’ll ask for rent relief, they’ll ask for tax returns and then you never hear from them again. But the bulk of our occupancy that’s hit us, like I mentioned before, 44% of our total occupancy– vacancy in the portfolio is a result of really bankruptcies that have occurred in the over the last five months.

Bill Schafer

I think it’s also very important to find out– number one, that the Mervin’s bankruptcy, that’s the big part of this bankruptcy number. It’s only a 50% interest in terms of DDR’s ownership. And Secondly, DDR doesn’t own any of the shopping centers where Mervin’s is an anchor. So the Mervin’s vacancies have absolutely nothing to do with our corporate portfolio at all.

And I think it’s really misleading to be talking in terms of 80% plus occupancy in our shopping centers because that’s not accurate. The occupancy is over 90% and then we have an investment in a Mervin’s portfolio along with MDT that is currently largely vacant because of the recent bankruptcy. But it has no impact at all on our shopping centers. And I think it’s really extremely misleading to talk about our shopping centers being at an 85, 88 or any certain thing close to that occupancy, it’s just not accurate.

Louis Conforte – UBS

Thank you.

Operator

Your next question comes from the line James Sullivan with Green Street Advisors. Please proceed.

James Sullivan – Green Street Advisors

Thanks, good morning. You touched the change of control of accounting, can you shed a little bit more light on what’s happening there? And I think you specifically made a comment there are no cash payouts for current employees. But I know at least one former employee who is receiving cash payout. And I’m a little bit perplexed as to why that’s the case.

Scott Wolstein

Yes. First, let me address the first question, Jim. Many of our executives have changed the control agreement and they’re double triggered. And the first of the two triggers was triggered by the– would be triggered when we transfer 20% or more of the shares to the Otto Family. We asked all of the employees to weigh the second trigger of the dual-trigger provision, and all of the employees did that. So there is no cash payment going out to the current employees. You are correct that we have a former employer who has a severance agreement that was put in place at the time of his retirement and he was not subject to the same issues as the rest of us, and he will receive some payments.

James Sullivan – Green Street Advisors

And for current employees, it was their decision not to forfeit what they would have been entitled to under change control that trigger the accounting charges? Is that right?

Scott Wolstein

Well, the way it works here, Jim, they’re entitled to nothing until the second trigger is triggered. The second trigger would be termination. So essentially, the first trigger will be triggered by the transfer of the 20% ownership of the company and then if any of those employees who had change of control agreements were terminated after that change of control, they would be entitled to significant severance benefits in excess of what would be normal without the change of control agreement. And all of the employees weighed that so none of them will benefit in any way from the change of control that related to the Otto purchase.

James Sullivan – Green Street Advisors

Okay. And then another question with relates to– I think I heard you say that you were successful in extending a couple of CMBS loans for a period of one year. I’m curious what the special services are telling you in terms of what your expectation should be at the end of that one-year term? Can they continue extending those loans, or is there a day of reckoning a year out? What are you hearing from them?

Francine Glandt

Hi, this is Francine Glandt. The indications that we’ve received for the parties that we dealt with so far are that they would be willing to consider another one-year extension at the time of the next maturity should the market conditions continue as they are today.

Scott Wolstein

And I would like to add to try and (inaudible) too, Jim, that– I was at the real estate round table meeting the other day and we spent a few hours with Ben Bernanke and he’s pretty confident that we’re going to see this health [ph] program for CNBS up and running within a few weeks and very hopeful that’s going to start to create a little bit of liquidity in the CNBS market. And we’re in the cue of one of the major investment banks to do a significant health financing when that becomes available.

Operator

And at this time we have no further questions in the queue. I would now like to turn the call over to Mr. Scott Wolstein for the closing remarks.

Scott Wolstein

Thank you. Once again, thanks everyone for joining us today and for your continued interest in our company. Despite the difficult environment, we believe that our first quarter 2009 operating results were solid. And we continue to diligently work on a variety leveraging initiative.

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Source: Developers Diversified Realty Corporation Q1 2009 Earnings Call Transcript
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