VEREIT, Inc. (NYSE:VER)
Q2 2016 Earnings Conference Call
August 03, 2016 01:00 PM ET
Bonni Rosen - IR
Glenn Rufrano - CEO
Mike Bartolotta - CFO
Andrew Rosivach - Goldman Sachs
Paul Adornato - BMO Capital Markets
Tyler Grant - Green Street Advisors
Mitch Germain - JMP Securities
Chris Lucas - Capital One Securities
Good day and welcome to the VEREIT Second Quarter 2016 Earnings Conference Call and webcast. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.
I would now like to turn the conference over to Ms. Bonni Rosen, Director of Investor Relations. Please go ahead.
Thank you for joining us for the VEREIT 2016 second quarter earnings call. Joining me today are Glenn Rufrano, our Chief Executive and Mike Bartolotta, our Chief Financial Officer.
Today's call is being webcast on our website at vereit.com in the Investor Relations section. There will be a replay of the call beginning at approximately 03:00 PM Eastern Time today. Dial-in for the replay is 1-877-344-7529, with a confirmation code of 10089490.
Before I turn the call over to Glenn, I would like to remind everyone that certain statements in this earnings and business update call, which are not historical facts, will be forward-looking. VEREIT's actual results may differ materially from these forward-looking statements and factors that could cause these differences are detailed in our SEC filings, including the quarterly report filed today. In addition, as stated more fully in our SEC reports, VEREIT disclaims any intent or obligation to update these forward-looking statements, except as expressly required by law.
Let me quickly review the format of today's call. First, Glenn will begin by providing a business and operational update, followed by Mike presenting our quarterly financial results. Glenn will then wrap up with closing remarks. We will conclude today's call by opening the line for questions.
Thanks, Bonni. And thank you for joining our call. Let me begin by noting by few of our updates. We've completed approximately 612 million of disposition year-to-date. For the quarter, AFFO per diluted share was in line with expectations at $0.19. Net debt to normalized EBITDA continued to decrease down 6.6 from 6.7 times. Cole Capital raised 138.7 million of new capital during the quarter and ranked number three for non-listed REIT capital raised year-to-date through June and we refinanced 1.3 billion of debt coming due next February through a successful bond offering and term loan.
It was just one year ago almost today that we introduced our business plan as a road map and measuring stick, we had just changed our name, we moved to the New York Stock Exchange, add new management and Board members and began to instil a fresh organizational culture. It was time to execute on our plan which would rebuild our credibility in the marketplace and provide the foundation for growth. While we still have areas for improvement significant progress has been made and the market is recognizing our execution. Focus can now shift to navigating forward, but first let’s review the second quarter.
During the quarter occupancy decreased to 97.7 from 98.6 in Q1. This is primarily due to the Ovation bankruptcy discussed last quarter coupled with two institutional facilities that had expiring leases. We have reached terms with Ovation resulting in a restaurant operator leasing 17 of the 59 properties of the remaining 42 one has been leased and we're actively working to release and/or dispose of the other properties.
Same-store rent was flat for the quarter excluding the impact for Ovation same-store rent would have been 0.7% increase. Continuing with operations, lease renewals for the year are well ahead of our projections having completed 1.9 million square feet of which roughly 40% were 2016 exploration. This includes negotiations with SunTrust for 61 properties scheduled to expire on 12/31/17. 41 properties exercise renewal options for 10 years, five for 15 years and 15 were unchanged.
Our culling process remains on track. During the first quarter, we sold 295 million of properties. This quarter we dispose of 87 assets for $175 million. These transactions were comprised primarily of flat leases and non-core restaurants. Subsequent to the quarter, we closed on 141.5 million of properties including a three property GSA office portfolio for 77.4 million. Through June 29th, we have completed approximately 612 million of dispositions as you can see we're well on our way to the 800 million to 1 billion guidance ranges.
As we've outlined, we intend to reduce Red Lobster exposure to approximately 5% of the portfolio which at quarter end decreased to 9%. Last year, we sold 420 million of these restaurants in two large portfolios. Our goals for 2016 is 250 million of individual transactions of small portfolio. So far this year we have sold 38 Red Lobster properties for net proceeds of approximately 128 million at a 7% net cap rate and a growth cap rate of 6%. Additionally, we have approximately 30 properties undersigned PSA or LOI expecting to close by yearend as we continue to market our first participation pool.
Sales of these properties have accelerated due to marketing start up from one property last quarter to 37 closed through July with private investors and 1031 exchange buyers and the most active acquirers. We are pleased with Red Lobsters performance as the restaurant operator completed 6 consecutive quarter of positive same-store sales. Our balance sheet continued to move firmly into investment grade metrics demonstrated by the attractive rates for a $1 billion bond offering in May. As you recall the Company had a 1.3 billion of bonds coming to February of next year, to invest this early we decided to finance $800 million to pay down a major portion of the debt with the $500 million bond issue and a $300 million term loan. The market reacted very well to the bond issued, we attracted over $5 billion in order allowing us to increase the offerings to $1 billion.
With the upsized offering we were able to takeout all of the 2017. The new bonds are broken into two portions. 400 million in five year note at [indiscernible] and 600 million in tenure notes at [Indiscernible]. The rates achieved were very close to investment grade at the time. By completing this transaction seven months early we not only relived ourselves of this near-term debt obligation, but has now laddered our maturity schedule. Balance sheet risk has been reduced and we demonstrated successful access to the capital markets. Due to the early refinancing we are narrowing our previously issued 2016 AFFO per diluted shares guidance range from $0.75 to $0.80 to $0.75 to $0.78. We believed the reduction at the upper end of the range is more than offset by the long-term safety provided by this financing.
During the quarter, Cole Capital raised $138.6 million of new equity, an average of $46 million a month. According to Stanger, Cole increased its market share from 10.3% in the first quarter to 12.9% in the second quarter. Cole ranked third for non-listed REITs sponsored capital raised year-to-date, through the end of June. New equity raised for July came in at $40.3 million.
Overall the industry capital flow is expected to be lower for the year than originally projected. [Indiscernible] dealers and financial advisors are still adjusting to recent changes to the regulatory environment which is impacting the market as a whole.
Before Mike reviews our quarterly financial results, let me provide a brief update on litigation. On the beginning of June the judge addressed the various promotions to dismiss the class actually and that was filed by the defendant and ruled that the majority of the claims brought by the plaintiff would proceed.
A company responded to the class action complaint and certain oped [ph] out complaints on June 29th as directed. The court schedule a case management conference on September 9th. Additional details regarding pending litigation can be found in our 10-Q filed today.
Thanks, Glenn, and thank you all for joining us today. We had another quarter of on-plan performance, achieving AFFO of $0.19 per diluted share. Consolidated revenue was $371 million, just above last quarter's revenue of $369 million, due to higher Cole capital revenue and higher operating expense reimbursements offset by lower real estate rental income. We reported a net income of 3.2 million for the quarter versus a net loss of 116.1 million for the first quarter primarily due to the higher impairment charges last quarter.
FFO per diluted share for the second quarter was $0.20 as compared to $0.21 for the first quarter, mostly due to approximately 9.5 million of lower insurance proceeds, a 2.4 million right off of program development costs, related to the closure of CCIT II and $2 million of higher net interest expense of which 3.7 million was associated with the new bonds all of which was offset modestly by higher revenues. This extra interest expense had approximately a 0.4 impact on the shares.
AFFO was $0.19 per diluted share as compared to $0.21 for the first quarter, primarily due to 5.3 million decrease in net operating income approximately driven by the Ovation bankruptcy combined with 4.6 million in higher current factors in Q2, due to larger current deduction being available in Q1 as result of the timing of the 2016 normal yearend bonuses and the program development cost impact noted about. AFFO excludes certain items including non-routine gains and expenses as well as the impact of a number of non-cash items.
G&A for the quarter was 33.1 million versus 29.4 million in the first quarter, representing an increase of 3.7 million. Real estate G&A was 13.7 million for the quarter, up 1.5 million from 12.2 million in Q1, mostly due to the timing of certain equity base compensation in Q2. Cole Capital G&A was 19.4 million, up 2.2 million from 17.2 million in Q1 mostly due to the 2.4 million program development cost noted above.
Legal costs related to the matters arising from the audit committee investigation which are included in litigation and other non-routine costs was approximately 3.5 million for the quarter. This brings the total unit costs related to these matters to 8.2 million for the year excluding any insurance proceeds. Based on current expectations, we are lowering our previous estimates for gross legal cost for 2016 from 45 million to 50 million to 40 million to 45 million excluding any insurance proceeds.
Now turning to our second quarter real estate activity, the Company has capitalized 2.4 million of development cost and placed 11.6 million of assets into services at an average cash cap rate of 8.3%. During the quarter, we sold 57 properties for 175.4 million at an average cash cap rate of 7.1% and a pre-goodwill allocation gain of 13.7 million, this has reduced to 3.3 million after goodwill. This includes 77.7 million in net sales of Red Lobster. Subsequent to the quarter, the Company disposed the 31 properties for an aggregate sales price of 141.5 million at an average cash cap rate of 6.9% which included 46.7 million in net sales of Red Lobster. This brings the total amount sold for the year to 612 million at an average cash cap rate of 6.7%.
Turning to the balance sheet and as Glenn mentioned, we completed a very successful debt offering during the quarter. The 1 billion in bond proceeding closed on June 2nd and the 2017 notes were tendered and redeemed on July 6 concurrent with this funding of this $300 million term loan. This is why as of 6/30/16, you will see an excess of 1 billion of cash on the balance sheet along with the 2017 bonds and net interest expands up 2 million primarily driven by the new bonds.
As of 6/30 our net debt to EBITDA was reduced to 6.6 times from 6.7 times last quarter. Our fixed charge coverage ratio remains healthy at 2.8 times and our net debt to gross asset ratio is just under 47%. Our encumbered asset ratio was 66% and the weighted average duration of our debt stood at 3.9 years. With the refinancing of 2017 bonds, our encumbered asset ratio will decrease to approximately 62.7% and our duration will increase to 4.5 years which moves us further towards our goal of lengthening our debt term. Lastly our line of credit at the end of the quarter stood at just 55 million and we remain very lucky.
And with that, I'll turn the call back to Glenn.
Thank you, Mike. Our business plan one year ago has four major pillars. Let me recap, portfolio enhancement through acquisition, we have exceeded our culling program with our 2 billion to date at 6.8% well within our 6.5 to 7.5 cap rate range. We established Cole capital average monthly capital rates has increased to 46 million amount versus 90 million in Q2 of last year and July was 40.3 million. Balance sheet management, we have paid down almost $3 billion of debt on the balance sheet and our metrics are moving firmly into investment grades, and our dividend is clearly sustainable. We are now in a position to move from establishing foundation from Cole to navigating forwards towards growth. Our entire team has worked together to allow us to reach this next phase in very evolution.
From the announcement of our business plan we have maintain the ability to be a full service real estate operator with the capability to serve as an equity finance company. To do so our capital markets infrastructure has been in place to acquire, dispose and finance while our operating team has positioned our portfolio through company management leasing and asset management.
We have demonstrated these attribute by remaining assets both in our disposition program and by acquiring more than $1.3 billion of assets for the Cole REIT. These efforts have allowed us to see nearly every transaction in the marketplace while effectively managing our portfolio. Through this $2 billion culling efforts, we have created a more diversified and stable portfolio with clear outline long-term metrics. The combination of our operating capabilities and improved portfolio enabled us to move toward an improved cost to capital. Our balance sheet is now safe and our disposition program are on pace.
The bond offering and subsequent trading of those bonds proves that we have market access and then our cost to debt is moving towards investment grade. As these three elements have moved sizably in place, our infrastructure, asset base and cost to capital. We can see in the future the ability to grow our portfolio and maintaining our balance sheet integrity.
With that I'll open the call for questions.
Thank you, sir. [Operator Instructions] Our first question comes from Andrew Rosivach with Goldman Sachs. Please go ahead.
I just wanted to repeat a question and then I apologize I asked last quarter, but the framing has changed you now have the stock at 10.56 versus $9 a quarter ago. And you kind of alluded to this a little bit Glenn, how closer are you now playing offense being a traditional net list REIT that can really go out and acquire at a positive spread?
Andy, we're closer. It's been a year and we've put the plan in place and if you would have asked that question a year ago we would had said we believe we have a plan to put ourselves on the offense sometime in late 2016 early 2017. But now a year later we've been executing, we see some say light here. There is clearly the ability in our view to play offense later on this year and or early next year.
The key issues that we’ve outlined a year ago, but we are now moving towards is that we want a balance sheet that has investment grade has part of an investment grade metrics that we can stabilize for purposes of the rating agencies to make it clear to them that we are investment grade and we've always been talking about in the BBB range we're moving there, and once we get there we're then in a position to acquire assets on a leveraged neutral basis that what we're searching for and we see a lot more room now than we did a year ago in our ability to do that.
So to summarize you kind of you want to that BBB balance sheet so you can see the warehousing overtime when you're requiring?
Yes, cost of capital in business is important and not being competitive there would not make sense, we will be patient until we get competitive. We're getting there though, that's the point Andy, we're getting there.
It’s just curious kind of when you do get there, I couldn't tell maybe its maybe it is in the supplement I missed it on the page, what kind of cap rate has Cole been acquiring at and how much do you think you could potentially scale acquisitions at that cap rate if you have more capital?
In the first two quarters, Cole purchased 300 million of asset at an average cap rate of 6.8. And those are the type of assets that we have continually seeing coming through our system. At this point until we get very active on REIT [ph] we don't like to give guidance on acquisitions. But I would thing somewhere in that range, that CapEx range would be reasonable.
And that's kind of the blended investment grade in that?
It is, it's a blended investment grade knot, mostly longer leases and it would be retail office and industrial.
The next question comes from Paul Adornato with BMO Capital Markets. Please go ahead.
To continue the discussing of being playing offence if you will, how does equity issuance figure into that equation? I’m thinking at NAREIT just a few months ago, you've mentioned you wouldn't consider it unless you were kind of finish or nearly finished with the disposition program. It seems like we’re kind of fast approaching that milestone. Also the potential positive impact that the rating agencies might have on delevering and issuing equity just being able to access the equity markets, so I was wondering if you could perhaps give us some color on your thoughts regarding equity at this time?
Sure, Paul, I'd like to start when we thought of ourselves, there are two real important parts of our business, one, first we’re an operator and we want to make sure our properties are leased and our rents are coming in. The second though that we're an asset allocator and that's really what we're talking about here. As we first created the asset allocation decisions they were based upon our portfolio.
Our number one pillar was to enhance the portfolio with disposition. What we were able to do though by improving the portfolio with disposition, take their, put it back in the balance we call that internal equity. We’ve had that conservation, we're pleased with the internal equity we have been creating here, we sold $2 billion of assets at 6.8% cap rate and if we looked at what we did -- how we did that and just to give you a sense we had buckets that we're selling assets in if you remember, we sold over 30% of that 2 billion in office.
So we further diversified the portfolio by reducing office. We sold 548 million of Red Lobster's, 27% so we have better diversified our portfolio by reducing the Red Lobster exposure. In non-core we sold the 125 million or 10%, so the non-core aspect of our portfolio has been reduced. JVs are down 6% and we sold 27% of the 2 billion at flat leases. All of those are very important to our portfolio. Obviously the first two office restaurant diversification, the flat leases for higher growth and the JVs just because we don’t provide because of not having control.
We like what we’ve done to the portfolio and create internal equity and reduce 3 billion of our debt. So it's not just reducing debt it's reducing debt and improving the portfolio as we've looked at it. Now given you question on equity if there is another way to reduce our balance sheet exposure we love options, options are always good and Paul I think that's the best way I can answer the question we're pleased that all the work we've done has potentially created options.
Great, thanks. And I just want to follow up if I may. You talked about eliminating flat leases and excluding the bankruptcy you would have had, I think at 0.7% revenue growth same-store revenue growth this quarter. I think the goal was 1%, if I'm not mistaken 1% or better so I was wondering can you get there from just a portfolio repositioning or have we maxed out on that metric?
Our guidance was 1% this year, based upon the portfolio we would hope and expect by selling plot leases we could get better. Axing out the Ovation, we would not change that 1% amount. I mean and the Ovation obviously has reduced that, this is a multiyear process.
Got it. Thank you.
The next question comes from Tyler Grant with Green Street Advisors. Please go ahead.
Just to start it off, can you provide your long-term range plan for Cole Capital if the non-traded REIT industry continues trending downwards in terms of fund raising?
Our thoughts on Cole haven’t change so much, but I understand your question Tyler. Relatively to the industry, the industry is Stanger’s than a projection this year could be was well as 5 billion and that's certainly down. But what we are absolutely focused on is market share. And then I'll come back to the industry. Cole had a market share of 10.3% in the first quarter it increase to 12.9% in the second quarter. As the market dropped in the first quarter 40% Cole was up 24% as the market dropped 40% in first quarter, as it just drop 24% in the second quarter Cole was only down 4%. Our market share is increasing and that what we're focusing on.
In terms of where the market will go Stanger would project that it will increase overtime, we would hope so. What we see going right now is pretty clear. The regulations that have been, put in place 1502 and DOL [ph] are clearly muting the market as they digest the results of those regulations we applaud those regulations. I think it's a good thing to any of the fiduciary role, it will take time. So we're comfortable with our position here and we're happy that Cole is increasing market share.
And then earlier you're talked about potentially going on offence and how you cost of capital is potentially driving your decision to hold back for now, just given where your shares trade, wouldn’t it still be accretive to go on office while continuing to go about your disposition plan?
It may and we're looking forward to that day, it's only question on timing to tell, we’re very patient here. We want to make sure we meet or goals and just again we like meeting our goals by enhancing the portfolio with disposition of assets and at the same time paying down our debt. There may be a difference in cost of capital in relative terms of the stock versus selling assets, but there is no doubt that when you increase your portfolio value, the leverage there is much higher.
So we like the way we’re doing it, but as I said options are good and we're happy that the market is recognizing our execution and our stock price certainly in the bond, that option now is terrific. We sold 1 billion of bonds to both high yield investors and investment grade investors. We have a good following. Those bonds have trade very well. We have happy investors. We like that.
[Operator Instructions] Our next question comes from Mitch Germain with JMP Securities. Please go ahead.
Glenn just curious, I don't think anyone really talk we're be sitting in a rate environment that we're today, clearly -- probably not when you set you plan parameters, so looking now do you think that 800 to 1 billion are you -- have a bias towards the high end of the range or do you think that you'll possibly go even north of 1 billion here in terms of sales?
It's a really point sometimes it's better to be less, even smart. We've had a -- it's a good rate environment while we're diversifying our portfolio and providing for some more growth and if we can continue to achieve that we will. To your point, we were 600 million roughly through half the year. I would think that we would be able to guide towards the higher end of that range, certainly, and if we found the ability to sell assets that we think are very price and improve our portfolio we can continue further.
And then following Ovation I know there was obviously initially referenced last quarter, any other tenant credit issues that you're working on in the portfolio right now?
We have a list as a watch-list and I would tell you right now on a probability weighted basis it's about 1.8% of our income, we look at that in a few different ways energy which is -- I'll take it in the topic, we have little more than 3% of our portfolio in energy tenants, we think 1.5 really solid and another 1.5 we’re watching, because they are on that watch list and the probability of weighted basis.
We care a lot about energy related to Texas which is important to us and we have about 13% of our assets in Texas, we’re okay with that. But we care about office in Texas, not as a concerned about industrial and retail, we are about 3.4% in office about 0.8% of that is Houston. Houston's portfolio is 84% occupied and rest of that is Dallas at about 100% after price [ph]. Those are ones we are looking at right now, those characteristics the only tenant that I would say that we clearly are looking at is [indiscernible], it's 0.2% of our income, so not a big number, but it's a tenant that's also on our watch list.
Okay that's it from me. Thanks.
The next question comes from Chris Lucas with Capital One Securities. Please go ahead.
Glenn congratulations on a really productive year. I guess I just wanted to ask about you had a $159 of assets held for sale at the end of the quarter and then you talked about 142 million sold so far, just technically did they match up or is there a different pull in that 142 from the 150 million.
There is a mixture, in that 159 that we close the GSA transactions that I've mentioned to you. So of that 159 a big chunk of it is that GSA deal and that is 77.4 million.
Okay and then I guess kind of going back to some of the questions that have been asked already but maybe we talked to nearly [ph] the same conversations that others had, but I guess what I'm trying to get at is, is that when you think about where you want to be with the portfolio forgetting sort of balance sheet goals or just the portfolio itself. What do you think is sort of on the ultimate disposition list for you guys, when you think about where you want to be from a credit and quality of asset perspective?
The metrics that we laid out in our Investor Day that we believe our [indiscernible], our dispositions will be very weighted towards making sure with diversified. And our diversification, our key ones now our restaurants, primarily it's Red Lobster at 90%. So that, we got to continue on that program to moved that closer to the 5% which is our target for any tenant.
Office as a diversifier we would like that to be between 15 and 20, right now it's a bit above 20 and we got to move that into the range. What I can tell you is on both of those, they’ve been very significant parts of our disposition program. Office has been 30% of our dispositions and 27% have been Red Lobster's. So we have some work to do there if you get those two diversifiers into the portfolio. We would like to get the flat leases down to 10% to 15%, it’s a little over 20%, so we’ll work towards doing that so that we can redeploy that capital with this more growth.
Other than those three major concepts what we've also laid out as we like to be 35% to 45% investment grade, we are at 42%, we we're within there and we think that's good, we like our weighted average lease term to be around 10, it's 10.2, so we're okay for that now, but we’ve got to watch that as time goes on. And so those parameters that we laid out for you we will continue to work towards with our disposition program.
The good news is with the exception of the diversifiers Office and Red Lobster were there with most of them, and so those will be what we will continue to work on beyond this year.
This concludes our question-and-answer session. I'd like to turn the conference back to over Mr. Glenn Rufrano for any final closing remark.
Thank you for joining us, we're very pleased this quarter. Our bond issue was really a landmark even for us and allows us to really [indiscernible] going forward. We appreciate your time and look forward to talking you over the next quarter. Thank you.
The conference now has concluded. Thank you for attending today's presentation. You may now disconnect.
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