WPT Industrial Real Estate Investment Trust (WPTIF) CEO Scott Frederiksen on Q1 2019 Results - Earnings Call Transcript

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About: WPT Industrial Real Estate Investment Trust (WPTIF)
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Earning Call Audio

WPT Industrial Real Estate Investment Trust (OTCQX:WPTIF) Q1 2019 Earnings Conference Call May 9, 2019 9:00 AM ET

Company Participants

Scott Frederiksen - Chief Executive Officer

Matthew Cimino - Chief Operating Officer and General Counsel

Spencer Gerberding - Senior Vice President, Asset Management

Judd Gilats - Chief Financial Officer

Conference Call Participants

Chris Couprie - CIBC World Markets Corp.

Matt Kornack - National Bank Financial, Inc.

Michael Markidis - Desjardins Securities Inc.

Pammi Bir - Scotiabank Global Banking and Markets

Troy MacLean - BMO Capital Markets

Operator

Good morning, ladies and gentlemen. Welcome to WPT Industrial REIT's First Quarter 2019 Conference Call. Before we begin, let me remind everyone that during this conference call management may make statements containing forward-looking information. This forward-looking information is based on a number of assumptions and is subject to a number of known and unknown risks and uncertainties that could cause actual results to differ materially from those disclosed or implied. We direct you to the company's earnings release, MD&A and other security filings for additional information about these assumptions, risks and uncertainties.

Please note this event is being recorded. I would now like to turn the meeting over to Mr. Scott Frederiksen, chief Executive Officer. Please go ahead, Mr. Frederiksen.

Scott Frederiksen

Thank you. Good morning, everyone, and thank you for joining us. With me today are Judd Gilats, the REIT's CFO; Matt Cimino, the REIT's COO; and Spencer Gerberding, Senior VP of Asset Management.

It's been a very productive start to 2019 with the REIT completing a number of significant events, including a successful $130 million equity raise in February, $150 million expansion of our credit facility in March and the acquisition of a $226 million infill logistics portfolio in April that expanded our portfolio into 3 new markets including the high-barrier coastal markets of Los Angeles and Miami.

Our first quarter results included some nonrecurring items, which in the aggregate impacted earnings for the quarter. But putting aside those items, the REIT produced another quarter of strong operating and financial results with continued same-property NOI growth and further progress on lease renewals. Overall, we're pleased with the steps we've taken to diversify the portfolio into higher growth markets and eliminate near-term rollover risk.

I'll now turn things over to Judd to discuss the REIT's financial results. Judd?

Judd Gilats

Thanks, Scott, and good morning, everyone. Before I begin, let me remind everyone that all figures discussed today are stated in U.S. dollars.

Total investment properties revenue for the 3 months ended March 31, 2019, increased from the first quarter of 2018 by 11.8% to $25.2 million, primarily due to contributions from the 2018 acquisitions and higher recoveries of operating expenses. The REIT also earned fee revenue of $491,000 in the quarter from the management of third-party capital. Fee revenue this quarter did not include any promote or performance fees, which we expect to be episodic while the REIT's private capital deployment ramps up.

Net operating income for the quarter was $18.1 million, up 10.6% from last year. And same-property NOI was up 3.4% for the quarter compared to the first quarter of 2018. G&A expenses for the quarter, excluding any fair value adjustments, were approximately $4.5 million including onetime severance costs of $1.5 million. Excluding this onetime charge, G&A with in line with our expected run rate. AFFO for the quarter was $6.7 million or $0.123 per unit on a diluted basis. This is down when compared to the same period of 2018 due to the onetime severance costs as well as approximately $1.3 million in free rent provided as part of a few key lease renewals which took effect during the quarter.

For the second quarter of 2019, we expect AFFO to be impacted by approximately $900,000 in free rent, after which the free rents associated with these key lease renewals will have burned off. Our ACFO payout ratio for the quarter was 112.7% compared to 91.1% in the same period last year. The increase was mainly due to timing differences between our February equity raise and subsequent deployment as well as free rent. After we completed our $129.6 million equity raise in February, $105 million of the proceeds were used to repay the outstanding balance on our unsecured revolving credit facility.

In anticipation of closing the portfolio, the REIT amended and extended our unsecured - our senior unsecured credit facility, increasing capacity from $300 million to $450 million and maintaining an additional $300 million accordion feature. The increased capacity is comprised of a $70 million increase to the revolver and $80 million unsecured term loan. Maturity on the revolver was extended to March 2023 and we maintain 2 6-month extensions, which can be exercised at our option. The new term loan matures in March 2024.

On April 5, 2019, the REIT used proceeds of $208 million from a credit facility and cash on hand to fund the acquisition of the portfolio. And currently, the investment properties acquired were added to our unencumbered asset pool, increasing availability on the credit facility.

On April 25, 2019, the REIT repaid a $28.3 million mortgage secured by its Willow Springs Church Road asset with proceeds from the revolving facility. After adding this asset to the unencumbered pool under the credit facility, the REIT has availability on the revolver of $78.1 million.

During the first quarter, the REIT also invested approximately $2.6 million to fund each share of the acquisition and development of the first investment by our private capital venture with AIMCo with CPPIB.

I'll now turn things over to Matt to provide an operations update.

Matthew Cimino

Thanks, Judd, and good morning, everyone. On the leasing front, the REIT renewed 98.8% of leases expiring in the quarter and we renewed approximately 1 million square feet of leases expiring after March 31. Included in these renewals was a 648,750 square foot lease with the REITs 10th largest tenant located at 5166 Pleasant Hill Road in Memphis.

The original lease term set to expire on May 31 with renewed for a period of 3 years with contractual rent increasing 1.7% beginning June 1 and annual escalations of 1.6% thereafter. Overall, with the exception of Willow Springs Church Road, renewals commencing in Q1 had a 17.6% average straight-line rental increase and cash releasing spread of 7.7%. We also leased approximately 116,000 square feet of previously vacant space, which included 78,000 square feet at the REIT's 2825 Reeves Road development. Within the new infill logistics portfolio, near-term lease rollover is minimal with only one 78,000 square foot expiration in 2019 and one 242,000 square foot expiration in 2020.

The REIT's occupancy at March 31 was 99.1%, down slightly from year-end. With the addition of the infill logistics portfolio and current leasing activity, we expect occupancy to remain relatively consistent through the end of the year.

On the development front, progress continues on the 105,000 square foot expansion at our 2440 Midpoint property with an expected completion date this fall. And as Judd mentioned, the REIT also invested approximately $2.6 million through our private capital venture for the acquisition and development of a 2-building project in the Northern New Jersey market.

And with that, I'll turn things back to Scott to wrap up.

Scott Frederiksen

Thank you, Matt. So far this year, we've seen continued strong demand within the industrial sector and moderate levels of new supply. As we look toward the balance of the year, we remain focused on disciplined long-term capital allocation and continued growth of our private capital assets under management. And with an active pipeline of acquisitions and developments at various stages of completion, we believe we're well positioned to make progress on both these fronts.

Thanks for your time and attention this morning. We'd now be pleased to answer any questions you may have.

Question-and-Answer Session

Operator

[Operator Instructions]

And our first question comes from Chris Couprie with CIBC. Please go ahead.

Chris Couprie

Good morning, guys. Any update at all on that Kansas City property?

Matthew Cimino

Yes. Chris, it's Matt. The Sumner Way property, we're - I think, on the call, we were talking about our efforts to market that building for both sale and lease. We were now proceeding more specifically down the path of sale and I think our expectation is still that we complete a sale somewhere at or near where we're carrying that asset on our books.

Chris Couprie

And do you think that will be done before the end of the quarter?

Scott Frederiksen

End of Q2 probably.

Matthew Cimino

Yes, that's our expectation.

Chris Couprie

Yes. Okay. Great. Maybe turning to the AIMCo JV, that equity investment that you made. Can you give us any color as to kind of what it is that, that property is and what your future commitments might be?

Scott Frederiksen

Yes, sure. So the property specifically, Matt said, is in Northern New Jersey. I guess, more specifically, it's right on the waterfront across from New York City underneath the Bayonne Bridge, which has been in the headlines because they had to raise it to accommodate post-Panamax ships. And so it's a ground zero location in New Jersey. It's an existing building of 160,000 feet that we're doing major retrofit and remodeling to. And then next door to that, on the extra land, we're actually under construction on a brand new state of the art 180,000 square foot facility. In aggregate, that total project will be somewhere in the $60 million range and we're excited about it.

Chris Couprie

Did you give any indication of what type of development yield that will be done to?

Scott Frederiksen

No. I mean, look, I think generally, without talking specifically about that project, we're generally targeting development yields that are in the zip code of 100 basis points over what we believe stabilized cap rates are. So for assets that we're developing in L.A., in New Jersey, obviously, the in-place development yield is slightly smaller but should maintain that same yield over stabilized cap rates.

Chris Couprie

Got it. And then within the existing AIMCo or legacy AIMCo portfolio, I'm assuming the fact that there were no fees in the quarter or incremental fees, there were no other transactions that took place from that portfolio. Can you give us any color as to kind of what's happening there?

Matthew Cimino

Yes. Correct. No specific incentive-based fees or activity in the quarter. I think those assets are in various stages of completion and lease-up. So nothing specific to comment on, but I do expect we'll have more to talk about next quarter.

Operator

Our next question comes from Mike Markidis with Desjardins. Please go ahead.

Michael Markidis

Thanks. Scott thanks for the color on Bayonne project. I think you said $60 million in aggregate investment and it may be in the materials but I just haven't found it yet. What was the REIT's - what was the initial equity contribution by the REIT?

Judd Gilats

The REIT - Mike, this is Judd. The REIT invested $2.6 million for our - we've got a - we have a 10% share of that investment.

Michael Markidis

Okay. And is there additional equity required or will that be funded for debt?

Judd Gilats

At this point, we expect the balance of the budget to be funded by debt.

Michael Markidis

Okay. Perfect. Matt, lots of detail on the leasing front. Think I got most of it but just to clarify. So on the CEVA lease, good news there. Congrats on getting that done. If I heard correctly, it's a 1.7% increase on - taking effect June 1.

Matthew Cimino

That's right.

Michael Markidis

Okay. And then annual escalators, I missed what the annual escalators were.

Matthew Cimino

1/6 on the annualized escalators after that.

Michael Markidis

Okay. Is there any free rent associated with this lease? Or could you give us some color in terms of the inducement or allowance that was required?

Matthew Cimino

Yes. And maybe I'll let Spencer talk about the specifics on the inducement. Spencer?

Spencer Gerberding

Mike, there is a total of $500,000 in improvement allowance that can be used either as free rent or TI, and it's staggered. So between June 2020 and May '21, there's a $250,000 allowance, and between June of 2021 and May of 2022 is the additional $250.

Michael Markidis

Got you. Okay. Okay. That's helpful. And then sorry, Matt, you also said - I forget what you said. There's something about the leasing you did in the quarter and if you exclude CEVA. So I'm guessing that means everything that happened, there was $1.8 million of renewals or $1.9 million, I can't remember the exact figure in the quarter, plus, as I guess it, it's $1 million subsequent. And if you strip out CEVA, the increase on that was 17%. I'm just trying to get back to-

Matthew Cimino

Yes. We were talking to - I think we are talking about stripping out General Mills, in which case your average straight-line rent increase was 17.6%. I think that's probably the stat you're talking about.

Scott Frederiksen

Yes. Those preferred leases, Mike that commenced in Q1. So we took a deeper dive and there have been a lot of questions and comments about releasing spreads. So we analyzed just the leases that commenced in Q1. And when you do that, stripping out General Mills, as Matt said, it's 17.6% on a straight line to straight line comparison and 7% on - 7.7% on cash releasing spread basis.

Michael Markidis

Cash release. Okay, that's very helpful. And then last one for me before I turn it back. Just thinking about you got Bayonne in the bank now I guess, so to speak. Just in terms of the expected ramp going forward, perhaps it's been a little slower out of the gate than expected. If not, correct me if I'm wrong there. And just how do you see that ramping going forward?

Scott Frederiksen

Yes. Look, I mean, the development market, we're really targeting in the ventures, development and value add. And in this market where we've got fundamentals that are basically as hot as we've seen them, it's hard to find value add. A lot of times vacant buildings are trading for near-stabilized prices and buyers are willing to pay a premium even though they got leasing work to do. So that really means that a lot of what we're targeting today at this point in the cycle is development. And the development's chunky. And so - as are the fees. And so we clearly are slightly behind where we expected to be. But all it takes is one lumpy opportunity to completely turn that around and change that, and we've got a pretty decent pipeline.

And I guess the other thing I'd point out is the venture really allowed us to compete and source an asset in a location, in a market that would have been difficult for the REIT to do on its own given the cost of capital. And so if it hadn't been for our capital partners, things like that New Jersey asset probably wouldn't have found their way into the REIT. And so again, I think it's proof of concept. Clearly, the deployment is lumpy but we feel good about the prospects that are in the pipeline and one deal could change us from slightly behind schedule to slightly ahead of schedule.

Michael Markidis

Okay. And sorry, I said last one, but I promise this is the last one. Your JV is programmatic, so there's no time frames or constraints or - I mean, I think every deal is looked at on a deal-by-deal basis. So this - maybe if it's a slower-than-expected target, there's been no change in terms of the commitment from your partners on that base.

Scott Frederiksen

Absolutely right.

Operator

Our next question comes from Pammi Bir with Scotia Capital. Please go ahead.

Pammi Bir

Thanks and good morning. Just on the New Jersey project, what's the timing on the expected completion there? And then just where you sit today, just the project that the REIT would likely acquire on completion?

Scott Frederiksen

Yes. So we're under construction right now. Completion's expected yet this year. It'll be late this year. We've had - we're just now onboarding the leasing team and really gearing up the leasing effort. But it's a pretty tight market and it's pretty small market and so people have been approaching us. And so we expect the leasing to be fairly soon. If not during construction, after completion. And so that might be stabilized as early as the early part of next year. And if our capital partners elect to sell the REIT, would absolutely love to own that and have that in the portfolio long term.

Pammi Bir

That's helpful. Just coming back to your comments around the timing of capital deployment for the JV. How did that change your outlook at all for fee income this year?

Judd Gilats

Thanks, Pammi. Even with the slightly lower - slower deployment than we had hoped, we still think fee income will be in the $3 million to $3.5 million range for the year.

Pammi Bir

Got it. And just in terms of your same-property NOI growth. I'm curious, what would you - what would be your top 3 markets driving that 3.5% print versus, say, the bottom 3?

Scott Frederiksen

Look, I don't have the detail in front of me right now but, look, part of the reason that we're changing the characterization and geographic footprint is that different markets offer different things to investors. I mean one of the advantages of a high-barrier or coastal market like L.A. or Miami is, over the long haul, they're going to see better embedded rent growth profiles and better releasing spreads that doesn't come without cost because those markets obviously have a lower point of entry. So you sacrifice a little bit on current income, which is why our approach has always been a balance. And so we think we've struck a decent balance between expanding our geographic footprint, penetrating some coastal markets, both directly as in the case of the recent portfolio and through the venture.

And look, when you parse down that most recent acquisition, it was 2.2 million feet. But of the 2.2 million feet, 900,000 feet was either in California or Florida. And then when the next tranche, call it 800,000 feet, was in Chicago with a lot of that being right at O'Hare, which is ground zero location there. And then a couple in Milwaukee and a couple in Minneapolis, which are going to give you a little bit better in-place yield going in and maybe not have quite the releasing spreads that you'd see in a Miami or L.A. So for us, it's about a balance as we continue to expand and add scale and geographic diversification.

Matthew Cimino

Yes. And Pammi, I guess the other - I was just going to say, just to layer on, I think, specific to your question on market. A lot of that, for us in particular, we're not - there isn't enough renewal volume to really establish market trend. A lot of those are tenant specific, asset specific or submarket specific stories, where there's something specific at the individual scenario that leads to a larger spread in one case than another. And so a lot of those don't end up being market themes as much as specific asset or tenant-related stories.

Scott Frederiksen

One other quick anecdote, Pammi, is that in one of our buildings that we bought in L.A., there's a tenant in place that I think the underlying rent is $0.64 a square foot a month because the rents there are quoted monthly. They decided they were going to sublease their space and they successfully subleased it at north of $0.90 a square foot a month. And so that gives you a sense for where rents are in some of those L.A. assets in place relative to where they would roll to over the longer term. So we're excited about that market.

Pammi Bir

No, sounds good. I guess maybe just on the CEVA renewal for a minute, the 1.7% renewal spread. I'm just curious with the in-place rent there, was that fairly close to market? Or did they have any sort of preset option built into the lease?

Scott Frederiksen

They did not have a preset option. And so obviously, we were negotiating with CEVA based on market rents. And so - and if you remember 3 years ago, we had almost the identical conversation, that the thing came down within 30 or 60 days of their expiration last time and it was a 3-year renewal last time, and here we are all over again. So -.

Pammi Bir

I'm having a hard time remembering last week. So 3 years is heavy set.

Scott Frederiksen

Fair enough.

Operator

Our next question comes from Matt Kornack with National Bank Financial. Please go ahead.

Matt Kornack

Good morning, guys. Apologies, if you addressed this at beginning of the call because I missed a portion of it. But just wanted to get a sense, normalizing for some of the accounting items in the quarter. So straight-line rent, the component of free rent was in that number. But if you strip it out, it was about $200,000 for the quarter. Is that a good run rate going forward?

Judd Gilats

Yes. Matt, it's a - that's a hard one because it always depends on where we sit versus the overall lease portfolio. But over the last week, we've generally been in that $200,000 to $300,000 range, I believe.

Matt Kornack

Okay. Yes. No, that makes sense historically. And is there a reason you had to classify it as straight-line rent versus maybe tossing it into leasing cost? I guess, it's an accounting item but -

Judd Gilats

Yes. It's - the way the leases are written, if it's free rent where there isn't anything going into the building, it has to be considered straight - part of the straight-line rent calculation as opposed to capital that goes into the building.

Matt Kornack

Fair enough. And then with regards to G&A, if you strip out the fair value on deferred comp and the severance, it was about $3 million. So a little bit lower than, I think, last quarter and it honestly offset a little bit lower sort of stabilized income on the JV. But is that how we should think of it, if you were to normalize for sort of transaction fees on the JV and G&A? Because we got to the same point. It's just a bit of a different number when you strip both of those things out.

Judd Gilats

Yes. If you remember last quarter, there was a promote that was received, and with that, came some compensation expense that will be variable as it relates to when those promotes are received. And this quarter, there was not. I think that $3 million number is a pretty good run rate. It's a baseline excluding, obviously, any comp related to promote and excluding any fair value adjustments.

Matt Kornack

Okay. I see. So you - so it ends up being a full net out, essentially, like it will - G&A will increase but also the other income will increase.

Judd Gilats

Other income, yes. Yes, there's obviously a spread there.

Matt Kornack

Okay. Fair enough. And then I appreciate your disclosure with regards to rent spreads. If you could add that to the MD&A at some point in the future, that would be awesome.

Operator

Our next question comes from Troy MacLean with BMO Capital Markets. Please go ahead.

Troy MacLean

Thank you. Good morning. Now that you've entered Miami and Los Angeles, I mean, they're 2 markets you wanted to get into. Is that - do you want to - are you happy with the toehold that you have? Or could we expect to see more acquisitions there this year?

Scott Frederiksen

Well, I mean, look, in addition to the assets that we bought in L.A. as part of the recent portfolio but we previously discussed the fact that we've got an asset under development and the AIMCo separate account there as well. And so we're actively working on completing construction of that asset and that's also one that will be complete later this year. But I think toehold is the right way to describe it. And once you do a transaction in a market and once you have a presence in a market, I think it raises your profile and momentum and relationships and tenant relationships beget additional momentum. And so for us, that's the start, not the end.

Troy MacLean

And then I get that the - you don't have a chance to renew or to release that. But the leases in those markets, generally, are the steps higher than in the rest of the portfolio? Like I think in the past, you've talked about 1.5% annual rent steps. Like in California or Miami, are their annual rent steps higher than they would be in most other markets in the U.S.?

Scott Frederiksen

Well, I think there are really 2 questions there. One is the contractual rent escalations that are in place and that - clearly, those markets would tend to be on the higher side of the range. But generally, we're seeing contractual rent escalations in most of the markets around the country and I'll call it that 2% to 3% range. So that's clearly one place you'd see strength. But the other one is the actual releasing spreads. And then in most markets, where you've got higher than market normal rent growth, you're going to have a better foothold to renegotiate rents when the leases actually expire.

Operator

The next question is a follow-up from Mike Markidis with Desjardins. Please go ahead.

Michael Markidis

Thanks. Just on the $3 million to $3.5 million fee outlook for 2019. What - is that a gross number? And if so, what would be the expectation of the breakdown between recurring and sort of the promote and success fees? Just trying to get a sense of what the actual net impact of that $3 million to $3.5 million might be.

Judd Gilats

Yes, that is a gross number. And it's really hard to give a breakdown because the - to the extent the promotes happen sooner, they're larger. And then - but then it means the asset management fees are less because those assets have been - are no longer generating the regular fees. And to the extent it takes longer to find a realization, we have more in the way of asset management fees but then the promotes wind up being smaller. So unfortunately, it's hard to give a breakdown of that right now and kind of give you what that looks like.

Scott Frederiksen

And Mike, as the venture scales, which obviously will happen over time, I mean, that should - the lumpiness of the promotes and the consistency of the base fees should get a lot more consistent. Right now, we're kind of bouncing in between the guardrails but I think the road gets narrower going forward.

Operator

The next question is the follow-up from Chris Couprie with CIBC. Please go ahead.

Chris Couprie

Just on the infill logistics portfolio that you acquired. How would you characterize in-place rents versus market? And how quickly do you think you guys can achieve the stabilized yield? And then a completely unrelated question. I know it's early days, but I'm wondering if you have any preliminary thoughts around Amazon's decision to kind of get into the freight business.

Scott Frederiksen

Yes. So 3 questions there. The in-place rents, I mean, you know how we buy real estate. Generally, we're focused on location. And we think - we just talked about that in the infill logistics portfolio. We were focused on functionality. And although some of those buildings tend to be slightly older because they were developed and their infill locations earlier than some of the other property, the functionality is still strong for those various submarkets and the average clearing height in the portfolios is 29 feet, which is not that far off of our overall average. Basis, clearly, we feel good about relative to replacement cost and the rents as we look at them. So obviously, the whole portfolio isn't that spread that I mentioned in L.A. but we felt good about the in-place rents relative to market. And again, I don't have a number sitting in front of me but that's part of our basic underwriting analysis and we thought that portfolio checked all 4 boxes. So we feel good about that. Relative to the cap rate, I think we said previously that, that was a 5.1% going in and a 5.35% stabilized. You get to about 5.25% just by leasing up the vacancy that exists in Florida. The last 10 basis points are bumps that occur in that first 12 to 18 months. So it doesn't take too long to get to that 5.35% stabilized number. And then the last piece, yes, Amazon's clearly out to conquer the world. I mean, you know - and the - I guess even - likely, I said even more interesting, they now sit in most of the major markets. If you're a prime member, they're going to do 1-day delivery, instead of 2-day delivery, which is a direct result of this infrastructure. They continue to build out to have these infill fulfillment and distribution centers close to the population center. So yes, the trend continues. It will be interesting to see where it stops. I mean, a lot of people think food is next as well.

Operator

I'm showing no further questions. This concludes our question-and-answer session. I'd like to turn the conference back over to Scott Frederiksen for any closing remarks.

Scott Frederiksen

Okay. Well, thanks for your time and your interest in WPT Industrial REIT. If you have any other questions, you can feel free to contact any of us at any time. And I just want to remind everyone that this afternoon at 2:00 on the 40th floor of 199 Bay Street in Downtown Toronto is our annual meeting of unitholders. So if you can join us, we'd love to see you. Thanks again. Goodbye.

Operator

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