Winthrop Realty Trust Management Discusses Q3 2012 Results - Earnings Call Transcript

Nov. 1.12 | About: Winthrop Realty (FUR)

Winthrop Realty Trust (NYSE:FUR)

Q3 2012 Earnings Call

November 01, 2012 12:00 pm ET

Executives

Beverly Bergman

Michael L. Ashner - Chairman and Chief Executive Officer

John Andrew Garilli - Chief Financial Officer

Carolyn Tiffany - President, Trustee and Member of Ethics & Compliance Committee

Analysts

Joshua A. Barber - Stifel, Nicolaus & Co., Inc., Research Division

Brett Reiss

Barton E. Crockett - Lazard Capital Markets LLC, Research Division

Operator

Greetings and welcome to the Winthrop Realty Trust Third Quarter 2012 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Beverly Bergman, Vice President for Winthrop Realty Trust. Thank you, Ms. Bergman. You may begin.

Beverly Bergman

Thank you, and good afternoon, everyone. Welcome to the Winthrop Realty Trust conference call to discuss our third quarter 2012 financial results. With us today from senior management are Michael Ashner, Chairman and Chief Executive Officer; Carolyn Tiffany, President; John Garilli, Chief Financial Officer, and other members of the management team.

This morning, November 1, we issued a press release and posted on our website supplemental financial information, both of which will be furnished on a Form 8-K with the SEC. Both the press release and the supplemental financial information are available on our website at www.winthropreit.com. The press release in the News and Events section and the supplemental financial information in the Investor Relations section. Additionally, we are hosting a live webcast of today’s call, which you can also access in the website’s News and Events section.

At this time, management would like to inform you that certain statements made during this conference call, which are not historical, may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Although we believe the expectations reflected in any forward-looking statements, including NAV analysis are based on reasonable assumptions, we can give no assurance that these expectations will be attained. Factors and risks that could cause actual results to differ materially from those expressed or implied by forward-looking statements are detailed in the press release, and from time to time in our filings with the SEC. We do not undertake a duty to update any forward-looking statements.

Please note that in the press release, we have reconciled all non-GAAP financial measures to the most directly comparable GAAP measure in accordance with Reg G requirements. This can be found in the FFO table of the press release. Please note that all per share amounts are on a diluted basis.

I’d now like to turn the call over to Michael Ashner. Michael?

Michael L. Ashner

Thank you, Beverly. We thank you for joining us this afternoon. Obviously, the company had an outstanding quarter demonstrating the bona fides of its business strategy. Before turning the call over to my colleagues, John and Carolyn, I would like to highlight certain key components not with respect to this particular quarter, but rather with respect to the year-to-date. As I think that provides a clear picture of the company where it's going. First, the company sourced $330 million of new investments during this period. Inclusive of our November 2011 preferred stock offering, the company funded these investments in part from the proceeds of approximately $300 million of new capital, consisting of a mixture of preferred stock and senior note issuances, as well as $92 million of third-party JV capital.

We believe this strong level of investment activity, together with our ability to freely source capital, supports our view that we remain in a very favorable investment environment. Moreover, through the same period, the company and its ventures realized aggregate net loan repayments of approximately $248 million, of which $162 million was the company's share. In addition, the company sold approximately $37.5 million of legacy properties, as well as $22 million of REIT securities holdings.

Shareholders should expect more asset sales in the future in view of our commitment to harvest the investments as they transform from opportunistic to mature. All of these activities combined to drive the capital with the company with approximately $150 million of uncommitted capital for future investment, which is separate from any JV capital which we may elect to raise.

Supplementing all of this is the strong leasing momentum enjoyed by the company and its consolidated properties, the benefits of which will be realized in subsequent quarters. In otherwise slow growth economy, these positive leasing results are largely attributable to acquiring better assets at a low cost in order to offer prospective tenants a decidedly better deal.

My personal take away from the foregoing comes down to this. The company is performing as intended by both management and the board. The investment environment continues to be very favorable. We have capital, and can access more capital if needed. Leasing, the driver of our value, is strong. While our FFO and earnings per share continues to be volatile and will continue to be so in the future. We believe and hope our quarterly NAV analysis will help assist shareholders and the market in evaluating the company's performance and results. Now I'll turn the call over to John Garilli. John?

John Andrew Garilli

Thank you, Michael. Good afternoon, everyone. I'll be providing an overview of Winthrop's financial results as well as a review of our business segments' operating results. For the quarter ended September 30, 2012, we reported net income attributable to common shares of $12.3 million or $0.37 per common share, compared with net income of $9.8 million or $0.30 per common share for the quarter ended September 30, 2011. Funds from operations applicable to common shares, referred to as FFO, for the third quarter of 2012 was $19.3 million or $0.58 per common share, compared with FFO of $18 million or $0.55 per common share for the third quarter of 2011.

Operating results by business segment were as follows: With respect to our operating properties business segment, operating income was approximately $9.2 million for the 3 months ended September 30, 2012, compared with approximately $5.2 million for the 3 months ended September 30, 2011. The increase in operating income was primarily the result of the $3 million increase in rents and reimbursements, and an increase of $968,000 in equity and income from our Vintage investment.

Rental revenues showed continued improvement due to revenues of $2.5 million from our new store properties located in New York, New York and Memphis, Tennessee. Same-store revenues increased by $438,000, primarily as a result of the $785,000 lease termination fee from a tenant at our River City, Chicago, Illinois property, and increased occupancies at our Deer Valley 550-650 Corporetum and Crossroads II properties.

These were partially offset by the sale of the vacant portion of our Churchill, Pennsylvania property, the lease modification at our Houston, Texas property, which extended the lease terms through April 2026 and reduced the average annual revenue for the new term. A decline in parking revenue at our One East Erie property in Chicago, Illinois due to the elimination of some parking spaces during a restoration project, and a temporary decrease in occupancy at our Crossroads I property, as we prepare for the new lease with Hitachi.

Operating expenses increased due to expenses at our new store properties of $1.3 million. Same-store operating expenses decreased by approximately $1 million due primarily to a decrease in expenses of $687,000 at our Churchill, Pennsylvania property, and a decrease in expenses of $192,000 at our River City property.

Real estate taxes of $357,000 at our new store properties were offset by a decrease of $168,000 at our same-store properties. The reductions in our same-store properties was primarily due to lower taxes at our Churchill, Pennsylvania and River City properties, while we incurred higher taxes due to a reevaluation at our Meriden, Connecticut property.

Depreciation and amortization expense increased by $1.7 million in 2012, primarily as a result of our new store properties. Interest expenses related our operating properties increased by $316,000 primarily as a result of interest expense of $589,000 at our new store properties. These increases were partially offset by refinancing our Meriden, Connecticut and Lisle, Illinois properties, which resulted in decreased interest expense of $145,000.

Net operating income from our operating property equity investments was $734,000 for the 3 months ended September 30, 2012, compared to a net operating loss of $841,000 for the 3 months ended September 30, 2011. The improvement was primarily due to a $968,000 increase in operating income from our Vintage portfolio, a $411,000 increase in operating income as a result of the conversion of our 180 North Michigan property from a preferred equity investment to an equity investment. And the operating loss from our Sealy, Nashville property decreased by $275,000 as a result of carrying this investment at 0.

Partially offsetting these items was a $57,000 loss on our Sullivan Center investment and a $32,000 increase in the operating loss from our Sealy Newmarket investment, due primarily to additional interest expense allocated in 2012.

With respect to our loan assets and loan securities business segment, net operating income was $15.7 million for the 3 months ended September 30, 2012, compared with net operating income of $9.3 million for the 3 months ended September 30, 2011. The $6.3 million increase was due primarily to an increase in net earnings from our equity investment loan assets of approximately $8 million for the 3 months ended September 30, 2012, due primarily to earnings of $10.3 million on our SoCal office portfolio loan investment, which resulted from the pay off of the underlying loan asset at par, and $446,000 increase in unrealized gain on loan securities carried at fair value recognized in the 3 months ended September 30, 2012.

This was partially offset by a $1.9 million decrease in discount accretion as a result of the full repayment of several loan assets that has been acquired at a discount.

With respect to our REIT securities business segment, we reported a net operating income of $3.4 million for the 3 months ended September 30, 2012, compared with a net operating loss of $875,000 during the prior year period.

The $4.3 million improvement is primarily due to $4.1 million increase in unrealized gain on security carried at fair value, primarily as a result of the change in the value of our shares of Cedar Realty Trust acquired subsequent to the quarter ended September 30, 2011. As of September 30, 2012, we held securities with a fair value of $37.2 million. At September 30, 2012, we had cash and cash equivalents of $159.2 million compared to the balance of $40.9 million at December 31, 2011.

Lastly, on October 1, 2012, we paid a regular quarterly cash dividend of approximately $0.578 per Series D preferred share, and on October 15, 2012, we paid a regular quarterly cash dividend of $0.1625 per common share for the third quarter of 2012. Now I'll turn the call over to Carolyn Tiffany. Carolyn?

Carolyn Tiffany

Thank you, John. As Michael mentioned, we are pleased that our reported results reflect the execution of our investment strategy. That is, we are realizing the gains on those assets that have stabilized and matured in value and are redeploying the capital into new opportunities.

During the third quarter, and through the subsequent period, we've received proceeds of approximately $101 million from the sale of certain assets and the repayment of loan, and we have invested approximately the same amount. Loan repayments in the third quarter included our Riverside joint venture loan which provided proceeds of $8 million and our SoCal joint venture for which we received approximately $38.4 million. Subsequent to the end of the quarter, we received full payment on our Broward Financial Center loan, providing $30 million in net proceeds.

During the third quarter, we sold our Circle Tower property located in Indianapolis for proceeds of approximately $6.3 million, and our vacant Memphis retail property, previously occupied by Kroger, from which we also received a lease cancellation fee providing aggregate proceeds of $1.2 million.

In October, we divested of $3.25 million of our Cedar Realty Trust common shares, which represented 52% of our holding for a net proceeds of $17.2 million or $5.28 per share. We purchased the shares at an average cost of approximately $3.81 per share.

The foregoing transactions are exemplary of our commitment to strategic divesting of our assets, which we will continue to review and consider their divestiture when we believe they've reached their full value potential and where we can reinvest that capital in higher-yielding opportunities.

Towards that end, the economic recovery we've experienced, albeit slow, and our magnitude of dry powder available from recycled capital and capital raise from our senior notes offering, has allowed us to seek out, secure and close on attractive investing opportunities, often in joint ventures with like-minded partners such as the recently acquired 701 Seventh Avenue property in Times Square. We are extremely excited about this newest acquisition made subsequent to the end of the quarter. Proposed redevelopment of this property, which was acquired for $434 million, including closing costs and reserves, will include the expansion of the existing retail space to approximately 80,000 square feet, installation of a 22,000 square foot state-of-the-art LED sign, as well as potential hotel development in what is one of the highest pedestrian traffic corners of the country. We made an initial contribution of $29 million and have committed to invest up to $68 million on a preferred equity basis. While its accretion to the value of our common stock may not be immediately evident as the property is in its development stage, we are confident that it will ultimately generate an exceptional return to our shareholders.

In addition to this important investment, we made several other notable acquisitions. We hold a 1/2 interest in 10 Metrotech, which acquired the senior participation loan on 625 Fulton Avenue, Brooklyn for $32.5 million. 10 Metrotech previously acquired the junior participation in the loan for a nominal amount, and as a result, 10 Metrotech now holds the entire mortgage. As described in our release today, we negotiated a successful restructuring with the borrower.

We also acquired 4 performing B-Note loan assets for $20.7 million with a par value of $25.7 million that are collateralized by 4 separate office and retail assets located in California and Hawaii.

And subsequent to the end of the quarter, for $75,000, we acquired a 100% membership interest in the entity that owns a 9-story, 187,000 square foot, 53% occupied, Class B office building located in Cerritos, California. We successfully negotiated a restructuring of the senior debt and are now actively leasing the property.

We cannot say what the market will look like long term, but we can say that based on what we are experiencing, we anticipate that these types of investment opportunities will prevail through the end of this year and through 2013. We remain well capitalized to continue to take advantage of investment opportunities as they arise, with over $159 million in cash at September 30, plus the cash received on our existing assets as we divest and realize our gains.

Turning to our operations, as John mentioned, operating results from both our same-store and new store operating properties improved this quarter. As of September 30, 2012, our consolidated properties were 91% leased compared to 74% leased as of December 30, 2011.

With respect to new leasing activity, specifically, we leased our Crossroads property to an aggregate of 88.4% and our Deer Valley property to 99%. We've also seen leasing improvement at our Lisle, Illinois property.

We were successful in negotiating our lease extension with Spectra Energy during the quarter, the tenant at our 614,000 square-foot office -- Houston office building. Spectra indicated that they would likely exercise their termination option in October 2015 due to the above market fixed rental rates during the renewal term, and current opportunities in the market, after a lengthy negotiations we executed a modified 10-year lease extension through April 30, 2026.

Ingram Micro, our tenant at our Amherst, New York property, has entered into a Letter of Intent with the company indicating that they want to extend their lease for 10 years beyond this October 2013 scheduled expiration, and on a 200,000 square foot office facility, we're currently working to finalize extension documentation.

Our Vintage Housing portfolio made cash distributions to us of approximately $1.5 million for the quarter ended September 30, 2012, and approximately $4.2 million year-to-date. The properties are 96% occupied. This continues to outperform our original underwriting and as a platform from which we expect to grow, as evidenced by the development of 2 new properties. There continues to be a high demand for senior and affordable housing, and our VHH partners have a demonstrated track record for identifying and developing new products.

As we discussed in our last call, during the third quarter, we and Marc Realty each contributed approximately $3.5 million to retire the first mortgage on the 223 West Jackson property. We then subsequently obtained replacement refinancing in the form of a $9.5 million first mortgage note with an interest rate of LIBOR plus 2 1/4%, and as a result of the refinancing, we and Marc each received a return of capital cash distribution of $3.5 million.

We refinanced the debt on our Newbury Village Apartments for $21 million. The new loan bears interest at 3.95% and matures on October 2, 2022. The Newbury property was encumbered with $13.6 million first mortgage that was cross-collateralized with 2 other wholly-owned operating properties. After settlement expenses and repayments on the existing debt, the transaction generated net proceeds of approximately $7.3 million.

In connection with the Newbury financing, we also fully satisfied the mortgage loan payable of $1.7 million collateralized by the Lisle, Illinois property, referred to as 701 Arboretum, which is now unencumbered by debt. The 5 downtown and suburban Chicago properties held with Marc Realty were 80% occupied at September 30, 2012, as compared to 79% occupied at December 31, 2011.

Concerning our Sealy joint venture properties, occupancy at our Atlanta Northwest Business Park and Memphis, Tennessee Sealy properties remained relatively stable during the quarter. While the Newmarket property continues to struggle, we are still in talks with the Special Services to negotiate a restructuring of the debt on the Newmarket and national properties. No agreement has been reached.

And as we began -- during last quarter, we are providing managements range of net asset value estimates to help assist in evaluation of the company. Our estimated range of net asset value per common share for the quarter ended September 30, 2012, is $12.93 to $15.13. This information, including the methodology used to calculate the range of value, is included in Pages 7 through 10 in the supplemental financial report available on our website in the Investor Relations section.

To recap Michael's key takeaways, the ongoing operations at our existing properties continues to improve. We continue to deploy our recently raised capital along with recycled capital into high-yielding accretive investments. We are executing on our strategy to divested assets as they stabilize and lock in their value, and we continue to improve our investor reporting in order to assist shareholders in evaluating the company. And now, we'd like to open it up for questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes of the line of Joshua Barber of Stifel, Nicolaus.

Joshua A. Barber - Stifel, Nicolaus & Co., Inc., Research Division

Michael, in general, I know that you guys have tended to shy away from developments quite a bit and now you're doing this project at 701 Seventh Avenue. Can you talk about broadly the return opportunities that you're seeing, and why you're getting into assets like development that you typically have not been getting into before?

Michael L. Ashner

Well, it's an interesting question. When we analyzed it, we really thought of it not as a development -- not so much in the development deal. If you build -- if you're going to build an office building from scratch, or a hotel for that matter, anything, all of the money goes into the development of the property, and a portion of it -- only a smaller portion goes into the tenant lease of cost. That is to say if I want to build $100 million building in Manhattan, $90 million would go into the brick-and-mortar and $10 million will go to fill the building up. This opportunity was the reverse, if you will think about it. The actual construction cost of the retail, even with a platform for a hotel, is about $70 million or less. The total acquisition cost is, really, reflects a leasing risk. That is to say, $420 million, whatever the total, $600 million of total capitalization debenture, less than 10% is at, really, construction cost and development. Added to that, the project is fully entitled. It just has to pull its permits. It is grandfathered into the construction of the building, it has grandfathered into the construction of the largest LED sign in New York City. And it is grandfathered in for 145,000 square feet of FAR. So that all exists, so when we looked at it, we're really looking at leasing less -- what we think the building can lease for us. Now when we do that analysis for any building, whether it's this project to or an office building in Colorado, you look to your ranges, you don't know what the future will show. But we felt comfortable that the lowest range that we were looking at was around $42 million, and this is for mid 4.5, 5 cap kind of a property, not including the value of the FAR. Now it's stated, it's going to be a state-of-the-art single-purpose building, probably the only one, I think, built in Times Square. So I don't think anyone can comfortably predict what the real revenue would be. Steven Witkoff, who went on record at the Schulte Roth panel -- conference a few weeks ago, thought that it was going to generate "he thought it would be a screaming homerun" and I think his view was it is going to generate $60 million plus of net operating income. From our perspective, we wanted -- we felt very comfortable at the low end, at $40 million or $42 million, applying 5 cap, we had an $800 million project. Steve thinks we have $1.3 billion project. So this is one was somewhat different than your normal development because most of the cost, the risk was allocated -- is allocated to the leasing, not the building. In addition, if you look at the capital structure of the transaction, in essence, the work preferred equity. So the junior equity which will grow to about $50 million is really there. It has the construction risk, whereas the senior equity shares in the leasing risk. And that's something we were -- we both always is willing to live with. Lastly, I guess while we're not developers, we do have a little bit of experience in finishing construction at hand. We felt comfortable that notwithstanding our lack of full-time expertise in this area, if the asset construction went awry, and we had to become involved in it, the worst we can do was add $10 million to the project, and then $10 million to $600 million project, in essence, when you're looking at these kinds of returns, we felt it was a rounding error. So for that reason, uniqueness of this site, the uniqueness of the opportunity drove us to do the deal. That's it.

Joshua A. Barber - Stifel, Nicolaus & Co., Inc., Research Division

Okay. So you wouldn't say that it's indicative of falling returns elsewhere or just you guys starting to get more into development. This is more of a one-off...

Michael L. Ashner

We're not -- we're getting -- we're not getting into more of development, and it has nothing to do with follow up and returns, not at all. It was just an asset. Sometimes, you go somewhere and you see that there is a potential -- real reach -- I hate to use the word homerun, it's used too often. A real high return. Go to the corner, it is the most -- I think I'm told, it's the most trafficked corner in Manhattan. You can't get across the street in the summertime. It's a phenomenal quarter. And the building that we're building is unique. None it -- if you go to Times Square, none of the sites, for example, near at the SL Green site. They can't extend there. They're trapped at 21,000 feet. We can build 80,000 feet of retail and SMB. It's going to be a building in which all of the -- a retailer can almost dictate to us the design of the building and what he wants to do with the LED sign. It is -- there's nothing quite like it in Times Square. It was a -- it's a rare opportunity, we moved quickly, and we are excited about it.

Joshua A. Barber - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And clearly, Time Square doesn't need a lot more LED lights. So last question is, just with the share repurchases and you guys trading at a pretty big discount to -- at least midpoint of your stated NAV. How aggressive can you be and how much of a full -- how big a part of your forward strategy can this be? Will you guys -- if you continue to trade at decent discount to NAV more looked to actively shed some assets with gains embedded in them and then buyback some more shares? Or is this more on a limited basis?

Michael L. Ashner

Actually, it's really none of those. That's not how we really thought about it. We look to see -- we know what the investment returns we can get in the marketplace at various risk levels. And we only looked at it -- we looked at -- we know what our -- we have a strong sense of what we believe our stock is worth. Now I think what you do is, if you're going to make appropriate investments, you compare your risk adjusted returns from all investors, one of which is our stock. So if it's our stock you're selling at say, 23% discount to the midpoint range, then that's something we have to compare to the other opportunities that are out there in the marketplace. That's what really drove -- that's what drove it. I think what also drove it -- well, I think that's what drove it primarily with the board.

Operator

[Operator Instructions] We do have an additional question from the line of Joshua Barber of Stifel, Nicolaus.

Joshua A. Barber - Stifel, Nicolaus & Co., Inc., Research Division

One follow-up. On 10 Metrotech, am I correct that the GSA's loan -- the GSA's lease on that just expired, so the building is pretty much going to be more than 50% vacant now?

Michael L. Ashner

It's going to be 100% vacant. The Forest City is a VAR [ph] and the restructuring with Forest City is because they, I believe, intend or are considering, I don't want to speak for Forest City, the development of a residential tower there. I can't speak for them, but that's why -- it is -- I think it is -- the site is FAR for more than 600,000 square feet of residential.

Operator

Our next question comes from the line of Brett Reiss of Janney Montgomery Scott.

Brett Reiss

Just a question on the NAV. The sequential increase in the range was about $0.17, or 1.33%. And if you annualize it, it's like 5.3%, which is okay, but is there a target number you would like to see that NAV move up on an annualized basis?

Michael L. Ashner

Well NAV is a trickier thing than FFO and earnings per share. And there lot of things that impact on it. For example -- and I'll give you some example, something that happened and something that could happen. We had a real estate tax increase to the Newbury property even though operations have improved. That real estate tax increase dinged our NAV by about $3 million. Now if we were to have a downward real estate tax increase at another property, for example, in this quarter, then we would have -- we would recover that $3 million. I don't look for an increase on a sort of linear -- I don't expect linear sort of increases. What I expect is that once we are comfortable with respect to changes in values and we can -- and we feel strongly about, we're going to modify the NAV. A couple of things you should keep in mind. In our NAV, for example, where we have potential optionality to acquire loans and convert that into equity, we only value -- we will not value that position more than the loan payout that is -- we don't value the optionality within our portfolio. And as I think you're aware, while the company has a securities outstanding of approximately $600 million or $700 million, we're involved in more than approximately $3 billion worth of assets. So we don't rush to markup our assets or reflect something what we think is the embedded value. So I think what you will -- I guess what you'll see is a lumpy change to NAV just like you would -- just like our earnings in our FFO. We have no preconceived notion of where it should go except up.

Operator

[Operator Instructions] We do have a question from the line of Barton Crockett from Lazard Capital Markets.

Barton E. Crockett - Lazard Capital Markets LLC, Research Division

What's the view on Cedar at this price?

Michael L. Ashner

What's my view on it? I still -- I think it's still fairly priced and there is upside of stock. I just think that we were -- I thought -- I think it was appropriate to take some chips off the table, sometimes. I also don't -- I thought it was an opportunity to get us slightly below 5% so whatever any intentions that we have are less apparent to everyone else in the market. I think finally, there is an announced overhang with RioCan. They've indicated that they're going to be disposing of their stocks. That's not -- that's probably not going to be a great thing for the stock in the near term. I think that if you're an investor in Cedar stock, it's a well-run company and I think Bruce has a decent -- has done a decent job. I think he -- I think there's long-term value there. And I think that the ultimately the stock price will move upwards. That's my view.

Operator

Thank you. There are no further questions at this time. I would like turn the floor back over to Mr. Michael Ashner for any closing remarks.

Michael L. Ashner

Thanks. We appreciate you joining us in today's call. Hope you got a flavor, each you view as to how we think the company is performing. As you can tell, we are very optimistic. We are very pleased with the company's performance, particularly on a year-to-date basis as well as for the quarter in particular. If you'd like to receive additional information about us, please contact Beverly, but not after 4:00. She's surely gone by then, and her office or you could also find additional information about us on our website. I recommend that you review, those of you are interested, to review the supplement Pages 7 to 10 to get a good feel about the company. You're always free to contact myself or Carolyn or Jay, Head of Asset Management or anyone else in the company at your leisure or at your convenience. Thank you, all, and have a good afternoon.

Operator

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

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