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Pennsylvania Real Estate Investment Trust (NYSE:PEI)

Q2 2012 Results Earnings Call

July 31, 2012 11:00 AM ET

Executives

Shawn Southard – Director, Corporate Communications and IR

Ron Rubin – Executive Chairman

Joe Coradino – Chief Executive Officer

Ed Glickman – President

Bob McCadden – Chief Financial Officer

George Rubin – Vice Chairman

Bruce Goldman – General Counsel

Analysts

Craig Schmidt – Bank of America

Cedrik Lachance – Green Street Advisors

Quentin Velleley – Citi

Michael Bilerman – Citi

Michael Mueller – JPMorgan

Jeff Lau – Sidoti & Company

Operator

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Pennsylvania Real Estate Investment Trust Second Quarter 2012 Earnings Conference Call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions)

The conference is being recorded today, July 31, 2012. I would now like to turn the conference over to Mr. Shawn Southard. Please go ahead.

Shawn Southard

Thank you, Ian. Good morning, everyone. During this call, PREIT will make certain forward-looking statements within the meeting of the Federal Securities laws. These statements relate to expectations, beliefs, projections, trends, and other matters that are not historical facts and are subject to risks and uncertainties that might affect future events or results. Descriptions of these risks are set forth in the company’s SEC filings.

Statements that PREIT makes today might be accurate only as of today, July 31, 2012. And PREIT makes no undertaking to update any such statements.

Also certain non-GAAP measures will be discussed. PREIT has included reconciliations of such measures to the comparable GAAP measures in its earnings release and other documents filed with the SEC.

It is now my pleasure to turn the call over to Ron Rubin, Executive Chairman of PREIT.

Ron Rubin

Thanks very much Shawn. Welcome to the Pennsylvania Real Estate Investment Trust second quarter 2012 conference call. Speaking on the call today are Joe Coradino, CEO; Ed Glickman, President; and Bob McCadden, CFO; also in the room, our Vice Chairman, George Rubin; and General Counsel, Bruce Goldman.

Today, we will discuss our performance this quarter, which I’m pleased to report was a very solid one. We generated positive results in several key metrics reflecting our continuing efforts to improve the fundamentals of our business.

I’ll now turn the call over to the company’s new CEO, Joe Coradino.

Joe Coradino

Thank you, Ron, and good morning, everyone. In my new role as CEO, PREIT has a clear vision and mission, with a keen focus on the core business. Our priorities are clear, operational excellence, balance sheet improvement and improving the quality of our portfolio.

We’ve set forth specific goals for our team in this regard. Our near-term goals had to generate same store NOI growth in excess of 2% and we see gross rent renewal spreads in excess of 3%. In long run, we are working toward achieving comp store sales of above $400 square foot and non-anchor occupancy in excess of 90%.

During the quarter we’ve already made strides in improving our operations. As FFO, same store NOI, comp sales and occupancy all improved. We’ve also made progress reducing leverage and our plan is to reduce it below 60%. To that end in April, we completed a $115 million preferred share offering and used the proceeds to pay down debt and reduce leverage.

Specifically, in June we repaid our outstanding exchangeable notes at maturity. Additionally, during the quarter, we paid the initial dividend on our new preferred shares at 6.7% increase to the quarterly dividend on common shares.

To further reduce leverage, we have listed our three wholly-owned power centers for sale in addition to the non-core assets already listed. We’re taking the multi-prong -- prong approach to improving portfolio quality.

In this regard, we’ve already announced that we have non-core assets for sale and we are in active negotiation for the potential buyers on four of the five properties, and at suspended marketing [deal Valley Mall] and so we have clarification regarding the pending Marshall Shale tax credit legislation in the region that may affect the property.

We are also developing targeted asset specific merchandizing plants at a number of our key assets with sales in excess of $350 per square foot and they include capital city, most town, will grow in the few months, as part of an overall strategy to drive sales above $400 a square foot.

Our portfolio presents us with a unique opportunity to improve performance through re-merchandizing efforts, minimizing capital outlay. With this overview in mind we turn to some specific thoughts about the balance of the year.

We’ve acknowledge the forecast about the pace of sales growth for the remainder of the year mixed. Retailer’s sentiment however has remained unchanged and they are aggressively looking for new opportunities across their platforms.

We are seeing this throughout our portfolio not just those properties would sales above $400 per square foot, but also a properties with stable performance and demographics. Leasing spreads were particular focus during the quarter and I’m pleased with where we are heading.

The base rents are down year-over-year this reflects transactions entered into in 2010 and ’11, direction here has changed. On a year-to-date basis, we’ve executed 44% more new deals compared to the same period in 2011 and currently, we also have 40% more transactions in our leasing pipeline than we did a year ago.

Accompanying the improvement in our sales is a pipeline more robust than before, with improved renewals spreads and I anticipate overall increases in base rents as we move into 2013.

With that, I will turn the call over to Ed Glickman.

Ed Glickman

Thank you, Joe. FFO, as adjusted of the executive separation provision was $0.37 per share, in line with our expectations and 12% above last year’s second quarter. Same store NOI improved 2.1% over a year ago to $67.6 million. Comp sales grew for the 10th consecutive quarter, up 5.3% from last year to another new high of $378 per square foot, with 31 of 38 properties reporting positive results.

We are particularly pleased to report that sales of our multi-asset, Cherry Hill Mall continues to exceed $600 per square foot and now stands at $630 per square foot.

Total occupancy ended the second quarter at 91.9%, an increase of 130 basis points compared to 90.6% for the second quarter of 2011. NOI occupancy came in at 87.7%, 60 basis points higher than a year ago.

Again, this quarter, we reported significant progress in leasing with over 810,000 square feet of non-anchor transactions, including over a 500,000 square feet of renewals at a 4.6% positive spread in base rents and a 1.5% increase on a gross basis.

Our new deal pipeline continues to be robust and we signed a number of exciting new leases during the quarter. We continued to improve the quality of the offerings at Cherry Hill Mall, with the execution of leases with Henri Bendel and The North Face. These new retailers will complement the recently opened Grand Lux Cafe and the soon to be opened, Pottery Barn.

We also continued to improve the quality of the tenancy in some of our other key asset. At Woodland Mall, we signed (inaudible) and a large format Forever 21, as the rural companies recently opened Pottery Barn.

At Exton Mall, we executed leases and opened Chico’s and White House Black Market. At Patrick Henry Mall, we signed another leases for Forever 21 to back fill a former Border's store.

Our rural growth type, Williams-Sonoma opened in April and J. C. Penney will open this fall. We signed leases with Francesca's Collections Laila Rowe and Soma Intimates. At Voorhees Town Center, we continue to add vending options including the recently signed Elena Wu and Iron Hill Brewery.

In addition, we continued to move forward with our plans to transform more sound malls to dinning and entertainment destination. We are underway with construction of the new 56,000 square feet Regal Cinema, expected to open next spring and we are in active negotiations with three new restaurants.

Additionally, since our last call, Interstate General Media, the owner of the Philadelphia Inquirer, Daily News and Philly.com took occupancy of 125,000 square feet at 801 Market and the gallery at Market East.

This brings 615 new employees to the property and adds 50 basis points to our total occupancy rate. In sum, this new merchants speak to the evolution of our shopping centers and our focus on creating dynamic and compelling environments in our properties.

Now, I will turn the call over to Bob McCadden to discuss the financial highlights of the quarter.

Bob McCadden

Thank you, Ed. We are reporting FFO as adjusted to give affect to the provision for executive separation expenses that was previously announced on May 1st.

FFO, as adjusted was $21.6 million or $0.37 per diluted share, compared to $19.2 million or $0.33 per diluted share at last year’s quarter. Same store NOI for the quarter was $57.6 million, an increase of $1.4 million or 2.1%, compared to the $66.3 million generated last year’s second quarter.

We had increased occupancy, higher based rents and continued improvement in our provision for bad debts. Lease termination revenue was $771,000 in this year’s quarter, compared to $693,000 in 2011 second quarter. Excluding lease terminations, same store NOI increased by 2% for the quarter.

Our G&A expenses were $200,000 lower than last year’s quarter. G&A expenses are typically higher in the second quarter of the year, due to costs associated with the ICSE convention. We expect our full year normalized G&A run rate to be consistent with our previously announced guidance.

Interest expense for the quarter was $3.1 million or 9% lower than last year’s quarter. This significant improvement reflects lower average borrowings and lower average rates. Average borrowings were $80 million lower than last year and the average rate on our borrowings during the quarter fell by 30 basis points to 6.08%.

Outstanding debt at the end of the second quarter including our share of partnership debt was $2.25 billion, a decrease of $190 million from June 30, 2011. During the quarter, we reduced our leverage ratio by 294 basis points to 63.2%, a significant step closer to our targeted range of below 60%.

Mortgage debt maturities remained in 2012 and include the mortgage land secured by Cherry Hill Mall, with a total of $231 million due to maturing in October and first mortgage loans secured by Cumberland Mall that will have a $39 million due at maturity in November of 2012.

We have accepted the proposals for this financings, which we expect to complete prior to each loans respect to maturity date, but we are not prepared to disclose financing terms of this time, we anticipate receiving a meaningful amount of net proceeds as significantly lower average interest rate.

Through June 30th we capitalized $21 million related to our redevelopment and development projects and an additional $10 million related to recurring CapEx and tenant allowances.

We expect to spend an additional $20 million to $25 million during 2012 related to redevelopment activity at Moorestown Mall, Willow Grove PREIT Mall, the Gallery and Plymouth Meeting Mall among other properties. We expect to spend an additional $25 million to $30 million of recurring CapEx and tenant allowances.

PREIT’s loss for the quarter was $13.7 million or $0.25 per diluted share compared to last year’s loss of $18.2 million or $0.34 per diluted share.

Turning to 2012 guidance, we are reaffirming our guidance with FFO per diluted share to be in a range of $1.72 to $1.79. FFO as adjusted for executive separation costs is expected to be from $1.83 to $1.90. GAAP earnings per diluted share will be a net loss between $0.66 and $0.72 per share.

Our guidance contemplates same-store NOI growth of 1% to 2%, excluding lease termination fees. Interest rate on our revolving credit and term-loan bank borrowing will be reduced by 50 basis points starting in August, as a result of our having reduced the leverage ratio below 65% at the end of the second quarter.

As a reminder, in the third quarter, we will record approximately $1.8 million of other income related to the sale of historic tax credits in 2009. We recorded similar amounts for the third quarter of 2010 and '11 and expect to record similar amounts in 2013 and 2014.

Our guidance does not contemplate any acquisitions, property sales or capital market transactions other than mortgage refinancings in the ordinary course of business.

With that, we’re ready for question.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question is from the line of Craig Schmidt from Bank of America. Please go ahead.

Craig Schmidt – Bank of America

Thank you. Could you give me the three non-core power centers that you are trying to sell again?

Joe Coradino

Sure. Three are Christiana Power Center, Magnolia Commons in Florence, South Carolina and Paxton Towne Center in Harrisburg. They were the three wholly owned power centers.

Craig Schmidt – Bank of America

Okay. And is your sense -- will you sell the four malls before these or do you think the power centers are so faster than the mall?

Joe Coradino

Well, it’s -- sorry to handicap at this point but I would say that, the packages on the power centers are just about to go out. And we’ve been in discussions on the malls for sometime. So it’s a difficult question to answer.

Craig Schmidt – Bank of America

Okay. And then just lastly, you have quite a few J.C.Penney and their sales were significantly down. Have you seen that impact the wings that lead up to the Penney? Are they seeing less traffic or has there been any fallout from the weaker performance?

Joe Coradino

We’ve not seen sales increase in malls or wins at Penney stores at this point. And hopefully don’t anticipate it, but to go beyond the question you asked, Craig, I would say that, we feel good about the J.C.Penney transformation, a good management team in place and see this is as a temporary setback if you will, as any permanent damage received that as a key retailer going forward as part of our portfolio.

Craig Schmidt – Bank of America

Thank you.

Operator

Thank you. And our next question comes from the line of Cedrik Lachance from Green Street Advisors. Go ahead.

Cedrik Lachance – Green Street Advisors

Yeah. And first thing on the properties for sale of the mall, what kind of buyers are trendily interested in the four properties that you have in the market?

Joe Coradino

I will classify them as entrepreneurs, probably the easiest way to answer that question. They are not institutional buyers. They are entrepreneurs.

Cedrik Lachance – Green Street Advisors

And what kind of financing is available for them to complete those transactions?

Joe Coradino

Yeah. At this point, I’m not sure to finance loan to determine what’s available at the marketplace for these types of buyers. In some case, that we see buyers in the past come with relationships with existing banks for they’re doing bank financing but at this point, probably too speculative for these transaction.

Bob McCadden

Buyback money…

Cedrik Lachance – Green Street Advisors

Yeah. And would you be willing to retain an ownership taken these properties or are you only looking at selling a 100% of the assets?

Joe Coradino

I think the objective will be to sell 100% of the assets.

Bob McCadden

Clearly, stating that the deal was not a preferred course of action.

Cedrik Lachance – Green Street Advisors

Okay. And just looking at the tenants, you lost three more gaps this quarter. Can you give us a little bit color in regards to the change in tenancy see in these three allocations?

Joe Coradino

Right. One was that we’ll grow when we were relocating and consolidating for a much stronger tenant that we’re not at liberty to disclose. And the other ones were normal course, and we back felt those locations already and I believe at increase rentals.

Cedrik Lachance – Green Street Advisors

Okay. Thank you.

Operator

Thank you. Your next question comes from the line of Quentin Velleley from Citi. Please go ahead.

Quentin Velleley – Citi

Yeah. Good morning. First question, just in terms of the four assets that you are on negotiation on. Sorry about assets in particular as thought, anchor lease expiry risk in the next two years. I am just curious is to how some of these potential purchases, thinking about that anchor expiry risk and how that underwriting that risk?

Joe Coradino

It’s due to a couple of the risk probably from the buyer. Some view it as opportunity to, in effect, our remerchandise or redevelop the assets or having that vacant anchor or potentially vacant anchor could be at upside by potential buyer.

Quentin Velleley – Citi

Okay. And then just in terms of guidance to this year. And I know you don’t want to disclose the terms of the Cherry Hill mortgage refinancing. But can you just remind us what factored into guidance in terms of the right and the amount of excess proceeds?

Joe Coradino

Both the excess proceeds but I’m not sure if that has any impact on guidance. And so, I mean, our guidance reflects what we expect from these financing. We don’t give specific on mortgage financings until they are completed.

Quentin Velleley – Citi

Okay. So we are not clear exactly what’s in guidance for the excess proceeds right on Cherry Hill?

Joe Coradino

Right, Quentin, just for the understanding that our guidance for the year does include what we expect the financing could be and the application of net proceeds.

Quentin Velleley – Citi

Okay. Thank you.

Operator

Michael Bilerman has a quick follow-up question.

Michael Bilerman – Citi

I’m just curious. You’ve called the, I guess, what was paid to Ron, executive separation costs. I’m just curious why was that -- why terminology of separation, Ron is still the executive chairman of the company and Ron opened up the call. Just curious why you deemed it that way?

Joe Coradino

I think, it’s unexpected prior to the provision of the employment contracts that might be characterized as the retirement benefit by when he makes decisions to leave the company that amount will be paid to him. So that’s the reason why it was separation, even though it’s not a near-term separation but viewed as ultimately one, when that payment is paid in conjunction with his separation from the company respectively.

Michael Bilerman – Citi

So it’s a reserve made today and then cash out the door?

Joe Coradino

Right. And because specific contract divisions gave him the right to make that determination in June of 2013, the accountable require to accrue it both of will begin to be the service period.

Michael Bilerman – Citi

And then from a G&A perspective, I guess, what is being paid, I guess, through June 2013 for Ron?

Joe Coradino

Probably, he’ll get paid to conversation under employment contract as well as any bonus that he is entitled to under the terms of the contract.

Michael Bilerman – Citi

And a go-forward payment is similar to what is being paid previously or….

Joe Coradino

No. It’s significantly lower. It’s just close to some $300,000 in base pay plus a bonus.

Michael Bilerman – Citi

And so we should think about G&A, I guess, comes down starting next year when it starts to annualize?

Joe Coradino

Yes.

Michael Bilerman – Citi

Okay. Thank you.

Operator

Thank you. And our next question comes from the line of Michael Mueller, JPMorgan. Please go ahead.

Michael Mueller – JPMorgan

Yeah. Hi. Going back to the asset sales for a second, I’m sure you don’t want to get too specific at this point in time. Can you -- if you lump together the mall, lump together the power centers, give us the rough idea of magnitude of how much deleveraging could occur dollarwise?

Joe Coradino

Yeah. It is probably -- that number has been around 300 basis points.

Michael Mueller – JPMorgan

Okay. And what does that translate to dollars in terms of potential asset sale dollars, if we look at those buckets?

Joe Coradino

No, I didn’t want to expose at this point.

Michael Mueller – JPMorgan

Okay. And then looking at a couple of malls, I’m curious, just trying to figure out, if we look at Voorhees from Q1 to Q2, occupancy, I think, it went from 66% or 67% down to 63% and Cherry Hill went down a couple of 100 basis points. How much of that is just, maybe, a little bit of seasonality from leasing some tenants in Q1 versus -- is that all it that is, particularly, the Voorhees number is a little bigger than I would have expected?

Joe Coradino

Yeah. Cherry Hill is largely -- it led to repositioning for later 2012 openings.

Michael Mueller – JPMorgan

Okay.

Joe Coradino

The case of Vorhees was actually at that time closed, so again we are working to backfill that tenant for later this year.

Michael Mueller – JPMorgan

Okay.

Ron Rubin

You may recall we announced on Voorhees that we’ve signed a number of restaurants at the property to interact Iron Hill and later (inaudible) that will be opening up on Street and prospects for Voorhees’ Town Center have picked up significantly in the past quarter.

Michael Mueller – JPMorgan

Okay. Great. And one last question going back to asset sales again. I mean, do you think there is a shot you could knock out one, two, three other properties or something along those lines this year?

Ron Rubin

Our goal is to sell two properties in 2012. And we are working towards that goal.

Michael Mueller – JPMorgan

Okay. Appreciate it. Thank you.

Operator

(Operator Instructions) And we have a question from Jeff Lau from Sidoti & Company. Please go ahead.

Jeff Lau – Sidoti & Company

Hey good morning. Can you talk a little bit more about leases that are holdover, do you see those continuing to, I guess, decrease or I guess, what was the plan there?

Joe Coradino

Actually, if you look at our current holdover situation, there is actually a good story underneath of it. We have about 340,000 square feet of holdover transactions, major accounts in process right now. Lease negotiation et cetera, which would leave us about 200,000 remaining in holdover that continues to be a work in progress. That’s about a 0.5 million square feet better than we had last year. So again from a holdover perspective, we are making significant progress.

Jeff Lau – Sidoti & Company

And for the rents, I guess, is it safe to say those would come down a little bit just because of the…

Ron Rubin

Actually, we have seen -- we have seen positive renewal spread continue as you look forward. There are pipelines. Our renewal spreads were actually higher than we’re showing right now. They are in the higher single digit numbers.

Jeff Lau – Sidoti & Company

Okay. Thanks.

Ron Rubin

In fact, we have had seven consecutive quarters of positive renewal growth.

Operator

And we have no further questions at this time, I’ll turn it back to Joe Coradino.

Joe Coradino

Thank you. This quarter we delivered solid operating results and made strides towards our goal, are strengthening the company’s balance sheet. Looking to the futures, we believe our pending debt refinancings will provide us with ample financial resources thereby creating a platform for us to drive further value in our assets. We’ve identified several exciting growth opportunities within our existing portfolio and hope to share these projects with you at, to be scheduled call on our listed Investor Day here in Philadelphia. Thank you all for joining us and have a good day.

Operator

Ladies and gentlemen, this concludes the Pennsylvania Real Estate Investment Trust second quarter 2012 earnings conference call. Thank you for your participation. You may now disconnect.

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