Spirit Realty Capital, Inc. (SRC) CEO Jackson Hsieh on Q1 2020 Results - Earnings Call Transcript

Spirit Realty Capital, Inc. (NYSE:SRC) Q1 2020 Earnings Conference Call May 5, 2020 5:30 PM ET

Corporate Participants

Pierre Revol - Senior Vice President and Strategic Planning and Investor Relations

Jackson Hsieh - President and Chief Executive Officer

Conference Call participants

Greg McGinnis - Scotiabank

Anthony Paolone - JPMorgan

Vin Chao - Deutsche Bank

Haendel Juste - Mizuho

Collin Mings - Raymond James

John Massocca - Ladenburg Thalman

Ki Bin Kim - SunTrust

Operator

Good day and welcome to the Spirit Realty Capital First Quarter 2020 Earnings Conference Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Pierre Revol, SVP of Strategic Planning and IR. Please go ahead sir.

Pierre Revol

Thank you, operator, and thank you, everyone, for joining us here. Presenting on today’s call will be President and Chief Executive Officer; Mr. Jackson Hsieh; Mr. Michael Hughes, CFO; and Ken Heimlich, Head of Asset Management, will be available for Q&A.

Before we get started, I would like to remind everyone that this presentation contains forward-looking statements. Although the company believes these forward-looking statements are based upon reasonable assumptions, they are subject to known and unknown risk and uncertainties that can cause actual results to differ materially from those currently anticipated due to a number of factors.

I’d refer you to the Safe Harbor statement in today's earnings release and supplemental information, as well as our most recent filings with the SEC for a detailed discussion of the risk factors relating to these forward-looking statements.

This presentation also contains certain non-GAAP measures. Reconciliation of non-GAAP financial measures to most directly comparable GAAP measures are included in today's release and supplemental information furnished to the SEC under Form 8-K. Both today's earnings release and supplemental information are available on the Investor Relations page of the company's Web site.

With that, I'm now pleased to introduce Mr. Jackson Hsieh. Jackson?

Jackson Hsieh

Thanks Pierre, and good afternoon, everyone.

So as a follow up to our 1 hour and 10 minute pre release Q1 2020 earnings call back on April 13. We wanted to share just a few comments since that call and take a few questions.

So just a few comments, today I feel better about the health of our portfolio and tenants since our last April 13th update call.

As we're glad, we collected over 70% of contractual work for the month of April, 9 of our top 10 tenants and 17 of our top 20 tenants paid for on April 9. By the way that it's the high-end of the range about what we said because what we'd collect back on our April 13th call.

We see the continued trend some of our smaller tenants being able to secure [PPP] [ph] loss from the government. We've seen increase in terms of properties opened and partially opened currently at 77% versus 72% back on our call on April 13th.

We've also processed the vast majority of follow-up questions on our last previous call and finally I'm happy to say we closed another $50 million of term loan financing for the quarter and bringing the cumulative total on [May 5] [ph].

So with that operator, we can open up to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we will go first to Greg McGinnis with Scotiabank.

Greg McGinnis

In regards collections in May are actually more difficult one. You expecting some earnings, I mean, now you talk us to what the impact maybe we presume?

Jackson Hsieh

Sure. Greg you broke up a little bit just on the connection. I think you are asking about NIM. But, we are not going to give NIM during this period. We really don't know at this point. I would say we collected 70%, since we started this process. My guess is that May would be slightly lower than April in terms of rent collection. But a lot of these programs that have been put in place have improved, the tenancy that we're dealing with, as well as some of these openings in various states have also accelerated, so giving them some encouragement.

Greg McGinnis

Okay. Thanks. A follow up there, the 54% of the deferrals granted were one-month deferrals, is that, can you explore the key.

Jackson Hsieh

Yes. When we gave that update back then, I would just describe that, I think heard somebody in calls, they've been in the range of one to three months, but generally pay back within a 12-month period. We've tried to keep these deferrals simple and through the wins itself. So I'd say like the average and we are doing number of them last time we talked about in the one month category. So the average duration is probably just slightly over two years, because of the complexion of it. And we're still dealing with some tenants now slightly over the specific yet because there's a lot of one-off case by case basis. But I'd say that the average -- the rate of average should be at just a little more than two months.

Operator

And we will here next from Anthony Paolone of JPMorgan.

Anthony Paolone

Thanks and hi Jackson. Based on the type of transaction, you've gone through the majority of these deferrals, as you mentioned, just like help me get my head around the idea that you have that 30% of your tenants not pay rent after a few weeks of disruption to their business. But you have this high comfort level that in the next six months or 12 months or whatever, they're going to be able to come up with enough to kind of get that all -- to get these different areas all paid back and just walk us through like that, that walk and how you get to that comfort level.

Jackson Hsieh

Yes. I mean maybe this will be in the future what they kind of and wanted to read, just want to give some color because this is real. I won't mention the name of the restaurant group, but April 17, so two days after we have done our last call. We have gotten notes from one of our restaurant tenants just regarding April rent payment in full. So this is the restaurant group in Oklahoma. And I just give you some feel for sort of what we're saying. So it's continuing good.

So in this case [indiscernible] we have applied for and received SBA-PPP stimulus money for the above captioned restaurant. As of now, we are still closed in the states in which we operate will not have a definitive call to open it for a few more weeks and closed the April one check for the above captioned property. Negotiation have been closed, so we acknowledged waiver of any late fees or penalties associated with the term of this rent.

Once in the month of May, we will be paid as usual. We are awaiting further guidance from the Treasury Department regarding the use of the remainder of the stimulus funds. We have also enclosed the previous letters for reference regarding the impact of the COVID-19 virus on our business. We appreciate your understanding and on what we are doing to protect the business interests of all parties sincerely.

So that was kind of just an example of -- many examples of sort of a restaurant that got PPP money was asking for actually several months deferral, going to pay April and May since those entries that are closed. And to give another example of fitness tenant, we just spoke to last week, we are not naming the name of the tenant. They operate in 45 locations, six states, they are high volume, mid-price operator. They're opening 50% of the unit this week, they're trying to open the other half by the early part of June.

And when we talk to -- and this is -- I will give you an idea, this should be one of the three most referral contract players, three month deferral and back over 12 months. Basically, they have sort of three scenarios in terms of opening scenarios. First, all employees would do temperature checks and masks. Stage one was opening major classes, packing out half of the cardio equipment within the original space. So in other words, they have halved the cardio equipment in the current space that they operate in and no childcare services.

Phase 2 which would be good process resume, childcare offer, and then phase three would be back to as usual. Now, what was interesting about this operator was they were going to turn on their monthly memberships at the lowest price point, as an inducement to get customers come back in. But they had sort of had a very detailed kind of operational check as to how they were planning on rolling out in the different states.

I will give you another example of our early education operator that we had, it's a big one 46 schools, they are nationwide, 14 of the schools have been opened since the whole COVID over the last couple of months because of a number of families that were either first responder or essential workers. And so they were working out sort of how to operate in this COVID environment or a portion of the portfolio. So they were pulling the trigger in the school. This is kind of early education, so under number six years old.

The first thing they've decided on the safety protocols obviously hand wash and cleanliness, temperature checks for any parent or child coming into the center. All staff members were wearing masks. They utilized the gym space for education functions as supposed to play. There should be cleanliness, it's a challenging care to administer social distancing to three year olds, but they basically tried to open up a space within the school and they were seeing good results. And what the school have been doing this, they've been staying in contact with all the parents with their various schools at least two to three times a week with just online parents how to help children at home.

The plan works is that 15 of the schools were opening in Texas this week seven in the Dallas area. And they're kind of going on a rolling program. They're really focused right now on to the summer camp, but they're cautiously optimistic about people going back to work and students coming in.

Give you another example, casual dining operator and then I want to talk about PPP as well. So this is an operator that operates in a state, during the timing of conversation has only experienced 20 [indiscernible] covered in the entire state. Basically this is a portfolio. His plan was to not open until actually July and he sort of said, he had follow-on with employees including themselves. They were Getting 600 bucks a week, from the feds, and about 500 per week from the state. He said for a number of the employees that was more than they would make if you actually ask them to come back in.

So his idea was between the PPP money that he received, which was about 5 million, he would open kind of mid-June kind of in that July timeframe. He would either try to figure out how to utilize the full portion of the PPP towards employment, or would look at the rules are changing of these programs. Or he would look at that as 1% below in the back over two years. He was talking about kind of dealing with tables and this gentleman cleared the 25% kind of opening capacities and a lot of future employment. But his point was, he didn't really want to open and be kind of half utilized, otherwise he thought that was kind of a dumb idea.

So I think the takeaway is, this [indiscernible] some of these programs are really copy to tenant. A lot of them we're trying to figure out how to open to say we're seeing a number of units opening. I mean, at home, for instance, it's opening half of their scores. This week, of course, Mr. Carwash is opening their stores in Texas. So we're seeing things improve in our few stores, as you're looking at, our few stores are seeing increased travel over the last couple of weeks. And the margins are pretty good. So even though states are different, and we have a high proportion of states, let's see whether our reopening, we're seeing signs that are encouraging. That's the best way to put it. I don't think it's a good shot, but it's a whole lot better than say a couple weeks ago. So there's a long way of answer that question, but I wanted to give different colors.

Anthony Paolone

Absolutely, that's great. Thanks for that. My follow-up would just be on the dividend any additional color on how you are thinking about the dividend for the balance of the year.

Jackson Hsieh

Yes. So I got to be careful not to be slushy here. We're having a board meeting this week. So I don't want to get ahead of my board. But if you listen to my comments last time, and we clearly just couple of fact, things are better. Obviously, the dividends are going to be a board discussion. But I'm more encouraged now than I was a couple weeks ago, just by kind of what's happening with these stimulus program and how operators, they're not only just trying to open they're trying to open the right way. And these examples that give you are kind of across the portfolio. We have very sophisticated operators. And it's been quite helpful for us all to learn best practices, because we're trying to share that information from what we've learned with our additional tenants.

Operator

And we'll hear next from Vin Chao of Deutsche Bank.

Vin Chao

Hey, apologies if I missed this earlier, but can you give us a sense for what percentage of your tenants might be able to access the PPP or the main street lending program?

Jackson Hsieh

Yes. It's hard to give a percentage because only half of our tenants are public companies, half of the rent comes from public itself. So, obviously, if people got that money, they're probably giving it back, just given the backlash. And roughly, I think it's like 27% in that in that range, or for a private equity/private equity curve. I'm aware of some of the private equity tenant getting PPP proceeds. But, it hasn't been substantial just given a few facts that I got from some of them. And then a number of the small companies like I just mentioned, like that restaurant operator got PPP, the gym operator got some money, unfortunately like early education, it's kind of a bother that they don't get --they're not eligible for PPP proceeds right now. But it's actually -- and the gym operators that perhaps some of the employees are excluded. So the PPP model really works well for the rational operators, QSRs and casual dining. There are some corporates that have gotten PPP money as well. Tenants that like the schools where -- there's been a lot of employees that didn't qualify right now. And if you have too many gyms, that's a problem because the designation on the SBA doesn't allow them that flexibility like the restaurant chain, given a designation.

Vin Chao

And then just -- you guys have ample liquidity at this level, which is definitely key. I'm just curious what you would want to see in sort of the broader environment before maybe repaying the revolver borrowings that are being held on the balance sheet, just sort of what would give you confidence that the worst of this assignment?

Jackson Hsieh

Yes. So I mean, I guess when you look at the revolver [indiscernible], as of the close of Q1, you'll see it was sitting around 500 million. That was probably a little bit more my bias, but especially in early March, a little bit concerned about what was going on in the financial system, and maybe they wanted that, I've had some experience in that area and seen some bad things back in 2008. So we have drawn a little bit more proceeds up the full amount on a revolver going into the end of Q1. We paid those revolver proceeds substantially down, so I think this new $50 million term loan that you can see and I mentioned it because another $50 million term loan that you didn't see, I mentioned it a little bit closer to another $50 million incremental model may quote in for, which is now $350 million term loan. We will pay down the remaining proceeds of the outstanding revolver. So it's like -- I think its very well out on it right now at this point.

Vin Chao

Okay. Thanks so much.

Jackson Hsieh

Yes. We were just being abundantly cautious.

Operator

[Operator Instructions] And we'll go next to Haendel Juste of Mizuho.

Haendel Juste

So sorry about this, if you mentioned already, I jumped onto it a little because I was on another call. But are you guys -- are you going to cover at least providing longer term, the follow, the answer is one to three months more in the six to 12 month term. And if you are, are you charging interest and is that something you'd be booking as a deferral or is that more of a loan?

Jackson Hsieh

Yes. Well, right now, the majority of what we are doing to the lease, so we're not creating separate notes and things like that. We actually think, for operational view having the deferral within the lease gives us more rights as an annual as opposed to structuring a note. I can only think of one instance where I was considering having a discussion around an interest payment, but that's just because of the nature of how long it might go. But for a really large majority of them, they're pretty straight down the middle, one to three months, that deferral payback in 12 months either starting later this year, or beginning of next year.

In the movies segments, I don't want to get into too much details, because we are not a 100% done in that group. But I'd say we've got some different sizes. It's not a one size fits all for movies, because that kind of health of those operators are very different. And so depending on what kind of drives our deferral is sort of the comprehensive package of, their liquidity, then what was happening in the business before what we think the downside is, then to get back to normal. So the movies will have, I would say, some would be 3 months, some would be a little bit longer, they are all slightly different. But yes, we don't have any of interest. I mean, there's one that's might have an interest, but I don't think we can elaborate on that. For us, it's better to keep it simple on them.

Haendel Juste

Thank you. And then, also in the category [indiscernible], but did you talk much about the 30% rent not received in April, what conversation you're having with that, what type of recovery, or how you should be thinking about that recovery from perhaps a proportional or a timeline?

Jackson Hsieh

It's a large majority, we think we're going to pay back and that sort of fits in that one, three months deferral range. And like I said, some of these might, there's some upside different to this because as these companies open, a lot of tenants actually, it's surprising if they give up PPP, they don't want to mess around. They just want to get, try to figure out how to get the business up and running again.

So I would just sort of characterize that 30% that could be paid in that one to three months with the weighted average being just slightly north of two months rent deferral, double pay that kind of within 12 months of either later this year or even in 2021.

Operator

And we go next to Collin Mings of Raymond James.

Collin Mings

In context of your relatively more optimistic tone Jackson, can you just maybe talk a little bit more about what you want us to reaccelerate acquisition activity? I think you noted on the April call, in particular, the potential for opportunistic acquisitions, so maybe update us on your thinking there.

Jackson Hsieh

Yes. I think it's probably two-fold. Like I say, we were encouraged by what we're seeing, just in terms of getting deeper discussion with the tenants. We offer another strategy. We look at property tax payments. It's a pretty important part of what our team looks at. And actually, we're like over 90% in compliance to the end of April. Now, taxes we are not giving too detailed some are annual, some are pay twice a year, but different parts of our portfolio. So, it's not straight line across the quarters, it's roughly kind of first quarter's figure in terms of tax payments to the portfolio, first quarter something very, very smaller. But through the first quarter we're like over 90% and so we're monitoring that very closely just when we look at that as part of the overall package of deferrals. So what I would tell you on the financial question is two things. I want to make sure I continue to see positive signs, I've got calling the gym operator that I spoke to last week and we will see how it's going. And we'll continue to have discussions as well as rolling out because that's going to tell us whether or not they're going to kind of get back up to speed we'll call it post the deferral period.

And then, as we start seeing that positive sign and then the other couples were, we're trying to find out understand what is the right price for acquisitions in the market today. I can tell you that it's not a free fall out there. Transactions are still pricing. Temporary one market is still stabilized and doing what it does, feel kind of some movie theatre now that might be a little difficult. But the things that are normal things like congressional properties that we bought, like in the first quarter, we haven't seen gigantic changes in pricing to [indiscernible]. So I think they'd like to see two things, a little bit more price discovery, where the market really is coupled with continued positive feedback. You should suspect that all these tenants that were granted deferrals we will check all of them in aggregate, get to see how it's happening because that's going to give us the confidence that the default kind of client is good. And another turn, and obviously, that's what we all want to see in this portfolio, all of us.

Operator

We will go next to John Massocca of Ladenburg Thalman.

John Massocca

Sorry if I missed this earlier in the call, but I guess if you look at the 30% non -- the 30% of cash rent that wasn't paid, and how much of that might you characterize is being kind of more opportunistic non-payers. And have you seen that number maybe trend better as, there's been a little more pushback from landlords on payment or as you even kind of economic outlook have improved, particularly and how that's kind of trended as well over the course of April and how you see going into May.

Jackson Hsieh

Yes. I would see like -- yes, we have 30% of our portfolio that the shop is still closed. So, I mean, kind of exactly you should suspect that large portion of that, the majority of that base is in that different universe. I think that the conversations were kind of improved over the last couple of weeks. In early April, people were quite scared, and they were just not doing anything and not often normally and try to understand what was available from government programs and other kinds of issues. But the country is opening and so whether or not people like it or not, it's kind of happening.

So those that can't pay I think what is, because they don't want to be fighting with landlords. Now, that being said, we've had to send out some notices that are not as pleasant. And so, that's getting some people to pay rent that should pay rent. And there might be a handful of others -- lots of time people went to the next desk calling level. Well, but I think generally people -- things are getting better.

Like I said 7% of our rents or 7%, more of our rents on properties are now open versus two weeks ago. For you certainly see people kind of open up their, there won't be much around landlords, they want to keep their operations up and running. So I think that's part of what you're seeing.

I think one other thing that kind of -- you guys know the difference, but we own freestanding retail property. And I don't want to say we don't care but we don't have responsibilities for adjacent occupancy. We only care about, obviously the contract between us and a tenant that's operating. And that's a good one. That's what they're designed on. So if you look at a large majority of what we own, it is truly freestanding. It's not really involved with another landlord, mall or center or what have you. So it's very much -- this was a profitable operation for them. And that's why we gave those coverage back when we gave the update a couple weeks ago, to the point 2.5x, average coverage of tenants in terms of unit coverage. They were largely operating profitably so let's focus we're trying to get back profitable -- fighting with landlords, I can tell you that that's generally our experience.

Now, I think it's different than other kinds of retail landlords especially properties close because it's a different issue. So that's just one more that, I think is really important one and I expect to see faster recovery from rent stabilization within our portfolio such as ours, but other companies as well.

Operator

And we'll hear next from Ki Bin Kim of SunTrust.

Ki Bin Kim

Jack, what do you think about just longer term tenants that are getting rent deferrals? If you're a smaller business, these rent deferrals I know they help in the near term but longer term, tenants they only have equity cushions to sustain to higher leverage by just pooling more money or do you think, not just for a few, but the trend as overall, do these people end up being rent release at the end of the day?

Jackson Hsieh

To be sure, like what we look at is interest, if we think it's going to go away not characterize it as metaphor, and we look at it seriously. So the first thing we decide is there's a tenant warrant then deferral. And if it is, then we're going to characterize it as rent that we're not going to get back that's probable or rent that it's going to be kind of tough to get back. If they fall in tough to get back, which is a small exception in our portfolio, we'll tack it on the back of the roof. We're not going to recognize it as income. And we'll sort of accruing, we might even potentially start accruing taxes, real estate taxes. But the large majority of what we're deferring, I would say, for example, that universe of 2.5x unit coverage, and some of those were higher, some of them are lower. So they don't -- I think your point is, right, they don't have liquidity cushions. But they're pretty simple businesses and if they can open them, and they've got some level of systems especially like in the restaurant area, I think they have a good chance to come back and be solid again.

And the same goes for I think the fitness. I mean, I do think people going to want to get back in the gym, the gym operators have to be smart about how they're creating social distancing, how they are -- I talked to one of them, like how they are seeing about pricing, if it's more elastic. So they're looking at all those different options to try to get back to stabilization.

I would say that a kind of keeping that was having problems before, this is just an exacerbated and our strategy for rent in that situation would be, probably stick it on the back end and they will start probably accruing. You'll save taxes and so you'll see that in 2Q, if it's a small portion, it's not a big portion though.

I think that helps. But I think if we're in prolonged -- look, we are at a prolonged economic downturn, we're going to have pressure like everybody else, whether it's a small tenant or big tenant, big tenants, even they are not so great. They don't know the realtors, stay close for extended periods of time. So I think that, like I said, I'm encouraged by the fact that the country is opening, the people feel safe of going out, people who don't feel safe are staying home. And we'll know more as the week's go, we're going to be very close to our tenants and that's going to inform us on a lot of different things. But right now, that sounds pretty good.

Ki Bin Kim

And I think about half of your tenants, you have -- reporting data for, do you actually, do you have to have your kind of like, pro forma look to leverage ratio not to this high level, but that looks like.

Jackson Hsieh

With a report we do, I mean, we have a really [indiscernible] level. I mean, it's part of our investment committee at the end. If you think about it, people describe it to you, we had three investment committees a week, Monday [indiscernible] for tenant rent deferral. And if you look at that distribution on page 13, on portfolio health, it gives you some idea of like how they do from a revenue standpoint, where the percentage of rents fall, they have most -- the large majority over 200 million in total revenue. So there's actually larger tenants and probably what you might think. We have very few small proprietorship tenants. So that's why I think a lot of our tenants were happily on the plus side. A lot of them got the PPP, obviously had local banking relationships, they figured out how to get it, the more than asking for where the [indiscernible] was, and that helped a lot. That's really gotten much more encouraged what we're seeing right now. And so we're still in early days and I won't say, we're spiking a football yet, but it's better than it was a couple weeks ago.

Operator

Now, I will turn the call back to Jackson Hsieh for any final remarks.

Jackson Hsieh

Okay. Thanks operator and stay safe. I'm sure you guys are busy. We're sticking to our knitting focused on and close to our tenants working with them and watching and seeing how their businesses are opening up. Thank you.

Operator

This does conclude the call. Thanks everyone for your participation. You may now disconnect.