Gramercy Property Trust's (GPT) CEO Gordon DuGan on Q4 2016 Results - Earnings Call Transcript

| About: Gramercy Property (GPT)

Gramercy Property Trust, Inc. (NYSE:GPT)

Q4 2016 Earnings Conference Call

March 01, 2017 11:00 AM ET

Executives

Gordon DuGan - CEO

Ben Harris - President

Nick Pell - CIO

Jon Clark - CFO

Analysts

Ki Bin Kim - SunTrust Robinson Humphrey

Mitch Germain - JMP Securities

Daniel Donlan - Ladenburg Thalmann

Operator

Thank you, everybody for joining us, and welcome to Gramercy Property Trust's 2016 Full Year and Fourth Quarter Financial Results Conference Call. A reminder, a supplemental for this call is posted on the company’s website at gptreit.com in the Investor Relations section under Events and Presentations. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note this conference is being recorded.

The company would like to remind listeners that during the call management may make forward-looking statements. Actual results may differ from the predictions that management may make today. Additional information regarding the factors that could cause such differences appear in the MD&A section of the company’s Form 10-K and other reports filed with the Securities and Exchange Commission.

Also during today’s conference call, the company may discuss non-GAAP financial measures as defined by the SEC Regulation G. The GAAP financial measure most directly comparable to each non-GAAP financial measure discussed and a reconciliation of differences between each non-GAAP financial measure and the comparable GAAP financial measure can be found in the company’s press release announcing full year and fourth quarter earnings, a copy of which can be found on the company’s website.

Before turning the call over to Gordon DuGan, Chief Executive Officer of Gramercy Property Trust, we would like to ask those of you participating in the Q&A portion of the call to please limit your questions to two per person.

Thank you. And please go ahead, Mr. DuGan.

Gordon DuGan

Thank you very much, and thank you for joining us this morning. We are going to try to keep today a little bit snappier, and my comments hopefully will be in line with that. Now I am not going to spend the lot of time on 2016. I think we’ve communicated lot of this in the past with investors, but it was a year of great execution. I think that what we accomplished was tremendous.

It was obviously an extremely active year on both the disposition side and the acquisition side. We are able to reposition the portfolio in much less time than we had guided investors and I think again some investors skepticism that we could do this much in the short period of time. So we think it was just great a year of great accomplishment.

There's continued work on the portfolio side but it's going to be much more opportunistic and not as systematic as it was last year. Ben will talk a little bit more about that. And in the midst of all of the buying and selling of roughly a $101.5 billion of assets, I would just like to point out that we were able to raise core FFO year-over-year by 19.5% and AFFO year-over-year by 25.3%. Those were helped by incentive fees in 2016, which are one-time, but it's still stunning progress in a year and that’s how I would summarize 2016.

And before I give some color on 2017, I just wanted to outline that Ben will be hitting upon liquidity leverage as well as leasing prospects. And Nick will be talking more about the current acquisition environment and Jon will go through some of results in greater detail. As you see in our press release we maintain guidance for 2017. I would say we are off to a bit of slow start for 2017, really in two areas.

One, on the acquisition side. It’s a little bit slower than we had anticipated. Cushman & Wakefield came out with the piece, that said March is the new January and what they meant by that from an industrial brokerage standpoint is there were a number of people that owned high quality assets that they wished to sell, that wanted to let things shake out a little bit before they brought them to market. So we've seen a little bit of a delay there and Nick can talk more about that.

The other area I'd say we’re a little bit behind is we guided to a 7.25 cash cap rate, 7.75 straight line, that looks high today. As of right now those don’t look achievable, I would guide down roughly 25 basis points on both. It’s still a little bit early, and we haven’t close anything but it's just in terms of pipeline and deal flow I would say that those look like - those were the numbers that we thought we'd see cap rates creep up and we really haven’t. So those look high.

The key variables to ‘17 of course are acquisition timing and yield, timing being more important than yield. But those important, leasing progress with lease roll as well as disposition timing in yield, we are off to a little of a softer start still within the range obviously but it - I’d also say it’s only March 1. So we have plenty of the year to go.

From a leasing standpoint, Ben will take about 2017 as well as ‘16 progress. A couple of stats that I like, our retention rate was over 70% in 2016 and I saw royalty income use the statistic rent re-capture as kind of a very high level way to think about the amount of rent that you are able to recapture on space that you lease versus what the rent had been prior. For 2016 our rent recapture ratio on commenced leases was a 102% and for executed leases it was a 103%. That's just a simple calculation but I do like as a high level metric to understand the ability to continue to generate the same or higher amounts of rent from those assets.

From an acquisition standpoint again, Nick will get into it little bit more but we have not seen cap rates creep higher and the one thing I would say on the acquisition standpoint, today I would point build-to-suits are a bright spot in our pipeline. We get new buildings in good markets with excellent lease term and yield and we are seeing a lot of activity on the build-to-suit side. So I would say that's quite a bright spot.

The only down side to the build-to-suit being a bright spot in our pipeline is there is a little bit of a lag in earnings while the buildings are completed before they put into service. And so to the extent we allocate more capital to build-to-suits there is an earnings lag effective in that obviously.

And then on the disposition side, the one thing I would emphasize, we have tons of flexibility, we have a number of low cap rate noncore assets still on our balance sheet. So we have great capital flexibility as we go forward to make dispositions at attractive prices and continued opportunistic repositioning of the portfolio.

Before I get into the JV I just thought I'd back up and say one thing in terms of how to think about Gramercy today, and how we look at our business. We look at our balance sheet assets as high quality and predictable cash flows generated by high quality industrial assets in major markets. We have some other assets as well but we are looking for lease term, we are looking for quality of assets in major markets. We opportunistically use JVs, as you know where we don’t want to own them on our balance sheet and we think we can make a lot of money.

Two examples of that would be Europe which I’ll talk about in a sec, strategic office partners which Ben will talk about, I think there is a misperception however that this is a growing part of our business. Over the course of last year we took our capital invested post-merger in JVs from $580 million at the beginning of the year to a $100 million at the end of the year. We've like to - to the extent we have a JV that - again where the [ph] GP in, we would like to grow those JVs but I think there is a misperception that they keep growing and never shrinking and it's actually been quite the opposite over the last year, although, where we think there is a good opportunity we do like to grow them to touch on those JVs, very quickly we have the UK JV with Goodman that's in wind down mode.

We had four assets in the UK, three in the JV and one on our balance sheet, all of which had short term leases expiring. We made the decision to take all of those assets through the lease up and take the downtime if any. Leasing has been very strong. We have re-leased two of those assets and sold them. We just inked a lease on a third asset and we'll be taking that to market. Our expectation is, it's logistics asset in the middle of the UK.

We expect a six cap rate or better on the sale of that asset. And the re-leasing market remains pretty good. So that just leaves us with one last asset, you will see in the - if you look in the supplemental, it's got some good photos of the refurbishment we did of the asset. It's a good logistics asset again in the middle of the UK and our expectation is we're hopeful to lease that and sell it this year and that will be the end of the UK JV and direct ownership of any UK assets.

Europe as you know, we have said, we planned to IPO or a private sell or recap this year. Just to review Europe our asset management business and Europe is actually two funds. There is a small fund 1, which is about a €100 million which is in wind down mode, And then fund 2 which is roughly €9 million of assets. That's the entity that we had plan we plan to either IPO or sell the recap.

We think that will happen in 2017 and we'll have some clarity on that toward the mid to end of Q2 and we're still expecting to be able to accomplish that in 2017. With that I'll turn it over to Ben.

Ben Harris

Thank you, Gordon. Let me quickly touch on capitalization We ended the year at target leverage of approximately six times debt to EBITDA. We included a reconciliation of EBITDA on page 10 of the supplemental for anyone that is looking for that and we ended the year with approximately $66 million drawn on the revolver which was made up of our euro and pound borrowing which we used to hedge our European investments.

Our revolvers currently are only floating rate borrowing, and we ended the year with over $67 million in cash and liquidity of over $850 million. Going into 2017, we have approximately $350 million in potential dispositions prepped and ready to go for the first half of the year. I would expect us to be more tactical in our disposition activity in 2017 versus the more programmatic approach in 2016.

And we will look to match dispositions with new acquisitions. We will not see wholesale selling assets and we will also be looking to be very price disciplined as we approach it. We will continue to sell down office, but we'll also look to harvest certain low cap rate assets specifically specialty assets as we continue to focus portfolio around core industrial holdings.

Investor demand for our dispositions remained strong for higher quality real estate assets despite the increase in interest rates. However we have seen pricing deteriorate for certain longer leased assets and lower quality assets. I would characterize those assets as assets where investors are really looking at it as a straight spread investment. There has been a significant decrease in CMBS borrowing spreads which has offset some of the change in interest rate but we have seen a slight change in pricing for those types of assets.

Leasing activity across the portfolio remained very strong. We leased more than 3 million feet of space in 2016 and occupancy stands at over 98%. We have all of our leasing statistics in the supplemental. So I encourage everyone to look at that but just specifically on the industrial side we're seeing strong leasing activity in both ANB buildings and lower vacancy in nearly every market that we're active in.

In 2017, we have several large lease renewals that we're currently working on, on buildings in California, Cincinnati, Charleston, Denver and Chicago. We have executed two early renewals for 2017 roll on building in Central PA and Houston. Those were both completed at the end of last year and we will continue to actively align the portfolio for early renewals and opportunities to extent term.

We think this is terrific environment to pursue blend and extend transactions where the leasing market is very hard and tenants are looking to lock in occupancy costs and we’re willing to forego some of the upside in our pursuit of that.

In our office portfolio, we have also seen pretty strong leasing in many of the markets where we own assets, specifically in the Southeast and Southwest, tenant demand for a functional suburban office in low wage markets remains very strong and especially for buildings with modern amenities and high parking ratios. Tenants are demanding much higher employee density today, which has put pressure on buildings to deliver higher parking ratios. So if you have buildings with high parking ratios, you have a very competitive advantage in a lot of these markets.

In strategic office partners, our venture, our single tenant office venture we've a healthy pipeline of opportunities and expect to close our first new transaction since forming the venture in the coming weeks. We've been working through several lease renewals in the original contribution portfolio and also expect to have a number of those assets repositioned and prepared for sale in the coming year.

I am now going to pass it over to Nick, to talk about the investment environment. Nick?

Nick Pell

Thanks Ben. 2016 was a busy year for our team, closing on 34 separate transactions totaling $1.4 billion. We acquired 20 million square feet across 71 industrial properties with an average cash cap rate of 6.8% and straight line of 7.4% with nearly 10 years of lease term. We were one of the most active buyers of industrial in the U.S. in 2016 and our activity enabled us to mirror the substantial disposition efforts that we undertook, significantly moving us towards our 2017 goal of being 75% industrial.

The specific industrial assets we acquired in 2016 also materially improved the quality and durability of our real estate portfolio. Some highlights for the assets that we acquired last year, were we added approximately 15 million [ph] square feet of generic industrial warehouse product at market rents. 81% of our investments were in our target markets. We acquired a $184 million of properties in 11 different assets in LA, Orange County, Miami and the Bay area, and we did over a $100 million in built-to-suit transactions resulting in long leases in our new buildings in Chicago, Atlanta and Charleston.

So far as Gord and Ben touched on in 2017 pricing in the industrial marketplace looks to be more of the same. We had expected cap rates or - expected and hoped to some extent cap rates would move out a little bit with some of the uncertainty following the election. That really just hasn’t translated into January and February and Q1 will be slower on volume for the market as whole, as many sellers were reluctant to list product in January into all this uncertainties.

So as Gordon said, really March is the new January and we’ve really started to see a surge in product coming to market now that cap rate seems to have somewhat normalize and really held flat from where they ended the year in 2016.

And we have - that said we have a $150 million of deals awarded or under contract, in Q1 but given this lag, most likely close at the end of the quarter or spill over into Q2.

With that, I’ll turn it over to Jon Clark.

Jon Clark

Thanks Nick. Just going to hit on the financial highlights fairly quick. AFFO for the quarter was $0.48 per share. That compares to AFFO of $0.46 in the same quarter of last year and $0.48 for the prior quarter; full year AFFO of $2.03 per share as compared to a $1.62 in the prior year. NAREIT defined FFO for the quarter was $0.49 per share as compared to a $0.30 loss in the same quarter of prior year and $0.42 last quarter. For full year FFO was a $1.93 compared to $0.67 in the prior year.

And core for the quarter was $0.51. That compares $0.50 in the same quarter of the prior year and for full year core FFO was $2.21 as compared to a $1.85. On a GAAP basis, we have recorded net income of $0.03 per share. That would compare to a net loss of $0.70 in the same quarter of last year and a net loss of $0.03 in the prior quarter. The net loss of course from the prior year primarily was related to acquisition cost for the Chambers merger completed in December of the prior year.

All the amounts I referred to are fully diluted and all those amounts are adjusted for the one for three reverse stock split that we effectuated on December 30. There are reconciliations from our non-GAAP measures to our GAAP measure. You will find them in our press release and on our supplemental, that was posted and also our 10-K which was filed this morning.

Just a quick couple of things to point out, that are included in our results. First of all if you look at rental revenue from third quarter to fourth quarter, it appears to be a decline. However most of that decline was related to additional accounting intangibles that we recorded with respect to the repositioning of Gramercy Woods, and those additional amounts are recorded both in the second quarter and third quarter. And there was no such additional intangibles that were required to be recorded in 4Q.

Also just a note that we closed on the 17 building logistics portfolio on December 15th, which due to timing didn't contribute much to our rental revenues for the quarter. Third party management fees were down $1.9 million from the prior quarter, as we near the end of the arrangement with KBS. We did enter into an agreement to continue managing the portfolio through March 31, of 2017. So we'll continue to have some fee revenue from the contracts through the end of the first quarter, plus the potential to earn incremental incentive fees.

Property management expenses are up just slightly from the prior quarter and that's primarily related to some severance cost, again related to the wind down of KBS arrangement.

One thing to just point out in other income, there is an additional $3.5 million recorded in other income and that is a $3.5 million reversal, that $7 million contingency that was related to a tenant CAM audit. This is a contingency that's been on our books for several years and that matter has now been settled and it was settled for less than what our original estimate was.

Real quick on the expenses, G&A is up slightly from last quarter. Our G&A was $9.3 million primarily related to compensation expense and for the year MG&A was 32 - $33.2 million. One thing to point out on the income statement is we had several property sales this quarter pursuant to our disposition plan, five sales essentially in total. Collectively the disposition resulted in a net loss of $2.7 million. But the geography on the income statement is a little difficult and all over the place. You see an impairment for $10.1 million, for some sales.

There was an asset that was sold out of the UK joint venture and that had a gain of $5.5 million and that's included in the equity pick-up. And then finally the Coventry asset was one of the assets that were designated as held for sale as of the date of the Chambers merger and that is running through discontinued operations.

But so net-net losses were 2.7, but you'll see several lines on the income statement, the geography is just a little difficult.

Turning real quick, just to the balance sheet, just to pick-up on a few things, restricted cash balance them is down substantially from the prior quarter. And that's just related to utilizing proceeds that were in the 10/31 exchange for the fourth quarter acquisitions.

The decline in joint ventures, Gordon has spoken about. Quarter-over-quarter most of that decline was related to the sale of the UK joint venture, Ben talked about liquidity and you'll notice that the debt balances are up from prior quarter and that was due to the settlement of the 350 million private notes which we priced in September and then settled in mid-December.

We also assumed a $198.2 million of mortgages related to the logistics portfolio that closed in mid-December. One other thing is note is during the quarter, we did enter into fixed rate - we entered into some interest rate swaps to essentially fixed the remaining term of the three year term loan, $300 million that was previously unhedged. And with that, that essentially brought our floating rate debt exposure down to $2.7 million of borrowings as of year-end.

Gordon that's all I have, back to you.

Gordon DuGan

Thanks, everyone. Well, we'll turn it over to questions now, I promised that we'd try to make this snappy and I think in record time we have made it snappy. So let’s go over to questions.

Question-and-Answer Session

Operator

Thank you. We will now begin the question-and-answer session. [Operator Instructions] And our first question comes from Ki Bin Kim of SunTrust.

Ki Bin Kim

Thank you. Good morning, everyone. Could you talk a little bit about the asset quality that you are buying, that you bought in the fourth quarter and I think that you’re targeting in 2017, maybe in terms of how the rents compared to the market respectively, the age of the assets whatever else, variable you’re looking at?

Gordon DuGan

Ki Bin, I’ll start. It's Gordon and good morning. I would say Q4 the assets were - as we look at a year - I'll back up, as we look at a year it's always going to be a little bit of a mix of assets. Q4 assets were higher in quality, specifically the industrial portfolio that we purchased little bit shorter lease term for us, below market rents. I think the public information we gave is on average about 10% below market, class A buildings, functional flexible buildings in good markets. So I would take Q4, if we were to look at it by quarter would have been at the highest stand of the quality level from an acquisition standpoint for the year. Nick?

Nick Pell

Yeah, I think that’s fair. We do buy generic "core industrial" assets both warehouses and the like and as Gordon mentioned in Q4 there was a disproportionate number of those given the North American logistics portfolio acquisition. On more specialized assets, just for example, our East Bay we bought a refrigerated building in Auckland in an excellent location, it's a small deal but those are at market rents for what the product is in the market and leasing history on the asset was very strong.

And so I think in general Q4 certainly enhance the quality of our overall portfolio from our perspective and I think as we look into 2017 the stuff that we have tied up so far are all in our target markets, Dallas and Atlanta, Raleigh/Durham, Inland Empire and places where there are other investors that seek out opportunities in those markets and the buildings we’re buying in those markets are at defensible rents for what the buildings are and the functionality of those buildings within those markets. So…

Ben Harris

Hey Ki Bin just, this is Ben. One thing to point to you and anyone of that’s interested, we post a quarterly deck that goes through our industrial portfolio on the website and it gives a pretty granular breakdown of our portfolio by market, by asset type and hopefully get some insight into the type of buildings we own and the kind of range and quality

Ki Bin Kim

And the average rent per foot in the area everything else you put.

Ben Harris

I think the one thing that we have really tried to do is have - what we tried to assemble is an industrial portfolio that has what we think of it as market appropriate building. So in a - if we’re going to owned a large bulk warehouse in a major logistics market we’re going to tend to owned a newer more state-of-the art building in a market like Indianapolis or Columbus and to the extent we are going to own an Infill class B building, in Infill LA or at Miami those buildings will tend to be class B and older.

But again they are appropriate for the building and what we really focus on is that - is the lease ability and the attractiveness of the individual assets to the leasing environment that it's in.

Ki Bin Kim

Okay, and going back to your commentary about cap rates, acquisition rates of 7.75 being maybe a little bit high. Just trying to triangulate that comment versus maybe some other companies saying that cap rates have been increasing and you guys said as well for kind of longer duration, lower growth assets. So just trying to understand why those CAP rates might be coming down for things you are targeting?

Gordon DuGan

Yeah, I think we were - last year we shot for a 7% cash, 7.5% straight line average and we came basically right on top for that. And then for guidance this year we thought CAP rates would drift off. So we bumped them up 21 basis points. When we did that in November - I think was November. And we just haven’t seen it on high quality industrial. Part of it is industrial. We have seen it for lower quality assets and we’ve seen it for single tenant retail assets, that don’t have any growth opportunity embedded in the assets.

In other words, so 20 year lease with Red Lobster is 25 basis points wider than it was because there is no potential growth, whereas that high quality industrial assets, but they’re on 7 year lease. People can have more fulsome some rent growth expectations and there has been a lot of rent growth in those markets. So again if it's a fixed income like assets, like a single tenant retail assets, those have moved up. And I think lower quality assets have moved up, but good industrial really hasn’t moved. I mean you could argue five or 10 basis point.

Ki Bin Kim

Okay, thank you.

Gordon DuGan

Thanks Ki Bin.

Operator

The next question comes from Mitch Germain of JMP Securities.

Mitch Germain

Good morning guys. So I am just curious Gordon, in terms of, I think it’s around 83% or 84% of your income in target markets right? Or maybe in the low higher [ph]. And if you’ve got a look at the individual asset classes, office is almost entirely your target market. So I think it’s kind of funny but if I kind of think about kind of where you are thinking about selling going forward, is it the stuff that’s what you would consider to be non-primary market in your mind? Or is it really going to be dependent on asset class quality lease term and et cetera?

Gordon DuGan

I would say there are three categories to focus on. One, is suburban office, where we’ve done the job of leasing it off and we think that it trades at a good - a decent CAP rate. And so just a continuing disposition opportunistically of suburban office, all of those buildings will be in target market, as you point out, thank God. Nothing worse in the world than a suburban office building in a crappy market. I mean that is - that’s just death.

So suburban office buildings in our target markets will be sold, underperforming assets or assets that we think are sort of at the bottom of our portfolio quality, it's still even if CAP rates back up a little bit, it's still a pretty fulsome acquisition environment. So let’s continue to clean up the portfolio to the extent we need too.

And then the last category, I described and may be the largest category, but it will be one of the two largest categories, low CAP rate non-core assets. And in that, I would put both office or I put all three office, bank branches and some of the specialty assets. So - yeah, go ahead.

Mitch Germain

I was just saying it’s really helpful.

Gordon DuGan

You're welcome.

Mitch Germain

Could there be assets, down the road, like they contributed into strategic office as some leasing opportunities or whatever in terms of kind of whether it would be a near term exploration or something could that be something I guess contributing there over time.

Ben Harris

Hey Mitch it's Ben. There is potentially - I think we - that initial C portfolio was the result of an exercise that we did with our capital partner, to go through the portfolio, figure out assets that we both thought fit well and we have a meeting of the minds in terms of pricing. There were some assets that fit the strategy but there was a disconnect between us on pricing and so there are handful of assets that, if their view, our view of asset pricing changes and we do come to a meeting at the mind they could potentially be contributing into that.

But I would expect most of the growth in the venture would be from purchases from third parties.

Mitch Germain

Got you. Any other changes to guidance, I know you mentioned a little bit of cap rate compression, but has there have been any other changes to the fundamental drivers of your outlook.

Gordon DuGan

No, I think the range - we have - we’re sticking with the range. The three things I would say that I mentioned just to reiterate, one investment pace is much more meaningful in terms of 2017 earnings and that's been a little slow. The 7.25 to 7.75 looks, call it 25 basis points high. And then the third is if we do a lot of built-to-suits, those don’t, those we count, if you look back historically we count them in our acquisition volume because we closed on the deal but the money goes out over time and doesn’t really start to affect earnings until the building's build which is anywhere from 9 to 15 months.

So I would say those three variables just by themselves, I would say would make us feel a little softer about where in the range we are. But I would caution you it's a multi-variable equation and it’s March 1. So I think we are giving a lot more transparency. I read everybody else's transcript. Everybody just gave the guidance and that’s it. Since we gave our guidance a while ago we are kind of giving you a sense for how we see it. But again I caution it’s March 1. So there is certainly some upside, some of the soft spots, but as of now it started off a little soft.

Mitch Germain

Is there a meeting of the minds among your venture partners in Europe as to how is the best way to proceed or is it really just - okay.

Gordon DuGan

Yes, Can you know my venture partners so you probably have talked to them, but yes.

Mitch Germain

No, I haven’t mentioned anything about this one, which why I asked it. But I know you have a whole bunch of them.

Gordon DuGan

I am teasing you, Mitch. [Multiple Speakers) answer a definitive yes.

Mitch Germain

Got you. That's good to know. And then the last one for me just a quick model questions for Jon, other income jumped up a little this quarter. Is that something that is one time of nature or something that we see conceivably somewhat recurring?

Jon Clark

That's right, Mitch. Included in other income is $3.5 million related to the reversal of the contingency that we had booked. It was originally booked at $7 million. We settled for $3.5 million. So there is a $3.5 million of increased other income just for that.

Mitch Germain

Got you. Thanks a lot guys.

Gordon DuGan

Thanks Mitch.

Operator

[Operator Instructions] And our next question will come from Daniel Donlan of Ladenburg Thalmann.

Daniel Donlan

Hi, thank you and good morning. Just wanted to walk through a couple of things in the disclosure here. On page 25, you list redevelopment of Gramercy Woods. I know you talked about this. But I’m just trying to understand, they have made investment about $36 million but the estimated stabilized NOI is 13.5. Is that additional NOI or is that kind of more - is there more of a base to that 36.2?

Gordon DuGan

The $36 million is the additional capital that we plan to put in to that Jacksonville [ph] campus, and then the 13.5 is the stabilized NOI for the entire campus. So the 36 does not include the value of the existing building. So that's - we’re typically taking -

Ben Harris

Yeah, our own book [ph] is probably around the 100 and then we’re putting that money in, on top of it.

Daniel Donlan

I didn't think you were getting the 36% return.

Gordon DuGan

I wish.

Daniel Donlan

So what - is there any - what’s the incremental return on the capital and is that flowing through on page 11 of the NAV statement, that's kind of what I’m trying to get to?

Gordon DuGan

That's a good question, on page 11?

Daniel Donlan

Yes, where you list the next 12 months cash NOI.

Gordon DuGan

No, not in large measure, no.

Jon Clark

We don’t know, so just to be specific, that 13.5, if you break it into parts, it’s the largest portion of that is the restructure of 15 year lease with BofA and that's on roughly 850,000 feet of the 1.2 million feet. That is running through the NOI in there. We also have two multi-tenant buildings that we are vacancy that we took back from BofA and we’ve leased up. Those we’ve made a lot of progress but there is still, I think about a 100,000, 150,000 feet to lease. So that vacancy in those assets plus whatever pre-rent or leasing support that we provided on those new leases would be reflected in that 19.5 in the slide eight on the NAV slide.

Gordon DuGan

Yeah, the rough numbers I have Dan are 8 million is the BofA single tenant building of NOI and roughly zero on the rest of it, because it's free rent credits et cetera. From our cash NOI standpoint.

Daniel Donlan

Okay, okay. So, if I had a 19.5 to the 3.6, that’s the kind of a stabilize NOI at 93.5% occupancy, right?

Jon Clark

Yeah, although that BofA line items includes other BofA assets as well. So that includes the Phoenix assets and then the branch assets that we have in.

Gordon DuGan

The way I would, the way I would say, other way to say it Dan is, of the 13.5 stabilized NOI we’re recognizing roughly eight of it today.

Daniel Donlan

Okay, okay, perfect.

Gordon DuGan

In that NAV calc. So there is - it's like having vacancy or something, It's worth a lot, it just doesn’t throwing of NOI because of the free rent et cetera that we have given the tenants.

Daniel Donlan

Okay, okay. That make sense. I am just trying to get to the stabilize what the free rent. So and then as far as the free rent goes, is it something that’s going to continue its 8 million, 8.1 million right now, is that something that we’ll continue, that will burn off or you’re always going to have a couple of million dollars of free rent, just kind of given the nature of single tenant office.

Gordon DuGan

One of the reasons, so free rent with single tenant office is a big, it’s a big leasing inducement, especially when you are talking about longer leases. It's one of the reasons we don’t generally like to own single tenant office and one of the reasons we’re moving away from it. But I would just think of it as a lease inducement on a new lease, because in not only in the BofA case but in a lot of the single tenant office assets that we’re repositioning, we’re repositioning them with very long leases. So you tend to be getting a lot of free rent.

Free rent is just a considered sort of a percentage of the total rent, they are going to be paying. So when you are talking about a 15 year lease or a 12 year lease the inducement that you’re giving the tenant upfront can be quite large.

Our bias against --or our bias towards industrial, is you generally have very minimal free rent and minimal TI, whereas in office you tend to have very high TI and other leasing inducement.

Jon Clark

So another - yeah the way I think about it Dan is, like Point West, we did a 12 year office renewal, Jacksonville on the 100, 700 the average lease term's about 13 years. So the free rent hits you now right and depresses AFFO and cash NOI, but at the benefit of NAV and so the way we think about those is when we go to sell, we will harvest the benefit of that NAV with a corresponding hit to AFFO or cash NOI.

And so another way to think about it is, if you look at our implied cap rate or our cash NOI numbers, they are depressed, due to the fact that we have been successful with these office leasing, and overtime we'd like to get that noise out of the portfolio by selling more office and keeping industrial.

And we have industrial leases where the inducement is zero, no free rent, no TI, nothing and that’s - I have never heard of that in the office business.

Daniel Donlan

Right, okay.

Jon Clark

So I don't think it's depressing near term NOI and cash flow.

Daniel Donlan

Okay. Because your lease roll in the office space is moving down considerably over the next couple of years, I was just curious, there is more to come or this was kind to going to burn of as 2016 was kind of a transition year to some degree?

Gordon DuGan

I think from a cash flow standpoint, we will continue to look to extend renew leases, because the stabilized assets sell at much better prices and but what you will see is those situations where we fixed free rent, will usually be matched up with a disposition. So in the case of Jacksonville, your question about incremental return we’re getting, we’re getting an attractive return because we’re able to roll the rents up in the balance at the space that we took back from BofA. We created value by creating a new 15 year lease with BofA where we didn't have to give any leasing inducements or free rents or anything and created a long lease that we think it's going to be very valuable in the market.

But I think the most valuable thing that we did in that was to create a more liquid standalone asset outside of what used to be that big master BofA lease that we can then go monetize.

Jon Clark

Yeah. It is in many cases we're maximizing NAV if you will, without maximizing earnings when we do that.

Daniel Donlan

Understood and then just I think I'm the last one in the queue, so that's why I'm asking more than two questions.

Gordon DuGan

Please.

Daniel Donlan

Just page 10, your adjusted EBITDA calculation, is that a run rate because your addition of the four quarter of North American logistics income NOI, are you including the NOI that you are going to lose from the sales in the fourth quarter and then you also had some incremental NOI when matched - what the other assets you acquired in the quarter. So I just trying to understand as, is that just, if that's not a complete run rate, is it?

Gordon DuGan

The way I would think about this is the North American logistics portfolio closed on December 15. So there is very little contribution in the period. If you back that out acquisitions and dispositions roughly matched out. So they offset each other through the rest of the calculation but the North American logistics portfolio is sort of the big swing factor. So that was the one that we adjusted.

Daniel Donlan

Okay. So it's not…

Gordon DuGan

So I would consider that's a run rate number.

Daniel Donlan

Right, but it's not - it's a - you got to the run rate number, but not necessarily doing the exact way that maybe you would do, okay. All right.

And then so - and then so that leads me to the last question on leverage you said, six times is target, excluding preferreds and you pro rata share of JV that just kind of curious is that your target or is that kind of the mid-point of your target, some of your peers have a five to six times target, some have a 5.5, or 6.5 target, just kind of curious going forward, where you want to run the company in 2017 and beyond?

Jon Clark

We're - look we're very happy with it, that six times we - given the quality of our assets and disposition plan in the low cap rate assets we still have to sell, we're really comfortable at 6.0. That's - you can run it perfectly there, but we want to be right about there. It may range a little lower, not going to arrange a lot higher, but we like it at 6.

Gordon DuGan

And Dan as our balance sheet gets bigger, we're hoping to decrease the amplitude of the changes, when we were smaller and we have these massive fluctuations in leverage. As we were going in and out of cycle from raising capital and the whole business had a bit of scale [ph] we can - we can keep that within a title range.

Daniel Donlan

Okay. Appreciate, thank you.

Gordon DuGan

All right, thanks Dan.

Operator

And this concludes our question-and-answer session. I would like to turn the conference back over to Gordon DuGan for any closing remarks.

Gordon DuGan

I just want to thank everyone for joining us today. We'll sign off and let everybody get back to work. Thank you.

Operator

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.

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