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Four Corners Property Trust Inc
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Good day, and welcome to the FCPT First Quarter 2021 Financial Results Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.
I would now like to turn the conference over to Gerry Morgan. Please go ahead.
Thank you, Betsy. During the course of this call, we will make forward-looking statements, which are based on beliefs and assumptions made by us. Our actual results will be affected by known and unknown factors, including uncertainty related to the remaining scope, severity and duration of the COVID-19 pandemic that are beyond our control or ability to predict. Our assumptions are not a guarantee of future performance and some will prove to be incorrect. For a more detailed description of some potential risks, please refer to our SEC filings, which can be found at fcpt.com. All the information presented on this call is current as of today, April 28.
In addition, reconciliation to non-GAAP financial measures presented on this call such as FFO and AFFO can be found in the company's supplemental report, also available on our website.
With that, I'll turn the call over to Bill.
Thank you, Gerry. Good morning. Thank you for joining us to discuss our first quarter results. In summary, we are very pleased with our continued industry-leading collection levels, the quality of the acquisitions closed year-to-date and the pricing of the private note offering raised this quarter, which represented our lowest ever note coupon. We reported first quarter AFFO of $0.38 per share, which represents a $0.01 year-over-year increase. We benefited from a full quarter of income from the larger set of acquisitions closed at the end of 2020.
Let me start with the health of our portfolio. While the restrictions related to the pandemic period have continued to be a challenge for the restaurant industry overall, the operators in our portfolio have pivoted well and are seeing strong rebounds in their business. We collected 99.7% of the scheduled rents with the non-collections largely related to new acquisitions where rents were sent to the prior owner, are in the process of being rerouted to us.
We are not seeing rent deferral requests from our tenants, but instead are spending time with them on potential expansion opportunities in connection with our venture with Lubert-Adler. If anything, the focus of operators in our portfolio is on finding sufficient labor as the business picks back up and watching some signs of commodities inflation, especially in beef prices and even ketchup shortages, which some of you may have read about.
As you've seen with our Kerrow operation and as supported by Darden and other casual dining operators, EBITDA margins have improved because of simplified menus, lower levels of in-dining room server staffing, higher profitability for to-go business, investments in technology and a focus on overhead efficiency. Darden is a good example of this, in the quarter ending February 28, where they reported Olive Garden EBITDA margins had increased from 18.4% to 19.9% year-over-year, even though sales were down 27%. That's a hard thing to do with the business that has fixed expenses.
We've discussed before how our Kerrow subsidiary, which now operates seven LongHorn steakhouses in San Antonio is a wonderful window in real-time understanding into what our tenants are doing to adapt. The Kerrow team continues to post improving results with EBITDA of $373,000 as compared to EBITDA of $244,000 in the fourth quarter. This is an impressive result, especially since it includes some preopening costs for the seventh Kerrow LongHorn restaurant in San Antonio, which opened for business earlier this week. Congratulations to Carol Dilts, who runs the Kerrow subsidiary, and her team. The additional restaurant will contribute to results for the quarter – for the rest of the year, offset by some preopening costs that will occur in the second quarter.
Restaurant operators have also proven resilient in adjusting their business models. Brinker is a great example of this, where in 2020, they've built a $150 million sales annual run rate to-go business called It's Just wings. This business is highly profitable given the simplified menu and efficient provisioning out to existing Chili's restaurants. Even Red Lobster, not an obvious to-go concept, has adjusted their menu and reported strong to-go business growth. Staffing models are changing as well with digital payments increasing. Darden reported that for the first time, over 50% of its sales were settled digitally, meaning via online, self-service tabletop tablets or mobile pay options.
Turning to investments. We acquired 13 properties in the quarter for a combined price of $34 million and an initial yield of 6.6%. This group represents strong credit with 10 of the properties leased to corporate operators and the remaining lease to the largest franchisee of Brinker International. Seven of the 13 transactions were with non-restaurant tenants in the auto services, auto collision and medical retail sectors. That is an anomaly to have so many non-restaurants in one quarter, but these are both sectors we continue to like because they're well insulated from Internet disruption.
Our pipeline is strong, and we remain busy. But at the same time, the restaurant acquisition market has gotten more competitive since the pandemic, for strong operators, especially for quick service restaurants. This is an interesting dynamic to see cap rates come in, while the 10-year has increased 75 basis points. Competitors include private buyers using ABS financing and individuals chasing yield. The result is that buyers are not getting compensated to take on complexity or for portfolio transactions.
We remain committed to maintaining our strong investment discipline, which has proven out with the strong operating results during the pandemic. We have also noticed some of the brands and locations we passed on have not performed as well. This confirms our skepticism of high rents, weaker brands and novel net lease concepts. Only one acquisition in the quarter came from our outparcel strategy due to the timing of partializations. So as of today, we have $45 million of outparcel transactions that have been announced but not yet closed.
As we've highlighted previously, many of the transactions we have closed on over the past 2 years have been ground leases. I want to relate one example of the benefit of low rents associated with ground leases. We have a Ruby Tuesday's property in Maine that we took back in connection with the brand's bankruptcy filing, our only Ruby Tuesday. However, given the low rents, we were able to re-lease the property to a very strong tenant with slightly higher rents.
On Lubert-Adler, we expect to close on our first properties in the venture in the second quarter. As a reminder, we will announce these transactions in our quarterly results rather than the day they close, as we do with the other acquisitions. We announced two dispositions this quarter for $3.5 million, representing a 6.1% cash yield on prior in-place rents and a $400,000 gain. In both cases, the sales were a chance to prune the portfolio. The first was a vacant building where we were able to sell above our basis given the low rents that were in place. And the second was one of the lowest rated properties in our portfolio, but attracted a sub-6 cap rate offer.
You will see that our cash G&A was up slightly. A good chunk of that is timing, which Gerry will detail in his comments, but I do think it's important to comment that we are increasing our acquisition group's capabilities, both as our team now has more experience and also by adding new team members and also bolstering our legal and accounting groups. We believe that it's important to have additional capabilities to grow, whether that is in the Lubert-Adler JV or on a regular way business. Everyone on the team remains healthy and is excited to return to the office in earnest this summer and start hitting the road again soon.
In summary, we're proud of another quarter of strong portfolio results and continued investment and team building progress. Gerry?
Thanks, Bill. I will highlight a couple of our financial results. We – as Bill indicated, we had 99.7% collections for the first quarter, and there were no material changes to our collectability or credit reserves in the quarter, nor any balance sheet impairments. On a run rate basis, the current annual cash base rent for leases in place as of March 31, 2021, is $158 million, and our weighted average 10-year annual cash rent escalator is 1.43%. We estimate the rent coverage for the portfolio was 4.1x for the first quarter, which is approaching pre-pandemic levels. This includes coverage for the Darden properties for its quarter ending February 28, 2021. We've also restarted reporting the non-Darden coverage this quarter, which was 2.7x, as financial reporting has become more representative of post-pandemic operating levels.
Cash G&A expense, as Bill mentioned, after excluding stock-based compensation, for the first quarter was $3.4 million, representing 8.5% of cash rental income for the quarter. Cash G&A expenses increased approximately $500,000 over the fourth quarter, principally due to higher compensation-related expenses. Roughly two-thirds of this increase is due to higher payroll-related taxes. This is typical for the first quarter because of taxes paid on vesting of stock awards. This was particularly through this year with 200% award levels achieved on performance stock units given FCPT's equity return outperformance over the prior 3 years. The remaining one-third of the increase represents higher compensation for the existing team and new team members, as Bill remarked, which sets us up well to support the growth of the portfolio.
Turning to the balance sheet. In the quarter, we issued $5 million of common stock on our ATM program at a weighted average operating price of $29.56 per share. And we announced in February the pricing of a $100 million private note with an average 9-year tenure, all-in average interest rate of 2.7%, including swap gain amortization. This represents our lowest ever note rate, reflection of the strong support we have in this market. The offering was 6x oversubscribed and consisted of 100% repeat investors in the note funded yesterday.
We ended the first quarter with $228 million of available liquidity, with $12 million of cash reserves and $216 million available on our revolver. Our leverage metrics for the quarter are a fixed charge coverage of 5.1x and net debt-to-EBITDA of 5.3x. With the funding of the private note this week, we are set up well from a capitalization standpoint.
Finally, we paid a dividend for the quarter of $0.3175 per share.
With that, I'll turn it back to Bill.
Thanks, Gerry. We wanted to finish our prepared remarks with a thank you to one of our Board of Directors. We announced last month that Paul Szurek had informed us that he was not going to stand for reelection at our June annual meeting to allow him to focus on his role as CEO of CoreSite. We have tremendous appreciation for the insights, guidance and encouragement that Paul has given as a Director since our inception in 2015. Like all of our Directors, Paul comes to every conversation prepared and ready to engage on how to make FCPT better. Thank you, Paul. On behalf of the rest of our Board, all of our team members and the equity investors, you have represented so well.
As always, we are available to answer any questions on the quarter or the portfolio. So please reach out. We look forward to speaking with many of you during the NAREIT conference in June and hoping to start seeing our investors in person in the not-too-distant future.
With that, I'll turn it back to Betsy for Q&A.
[Operator Instructions] Our first question comes from Nate Crossett with Berenberg. Please go ahead.
Hey, good morning guys.
Good morning, Nate.
Maybe you can just characterize the deal flow today, give us some color on how the pipeline looks right now. I think you mentioned that there was $45 million left on the outparcels. Is there any color you can give us on the timing of those closings? And could we see more of those types of strategic relationships this year?
Yes. I think you'll see a lot of those close in Q2, not all, but – and obviously, we have other deal flow that's not outparcels. But a lot of those will close in Q2. And we're working hard to make sure we do have additional relationships like that close. So it's been quite busy. I feel like the existing portfolio is in terrific shape, and that gives us permission to go out there and try to add to it.
Okay. What's the update at Lubert-Adler? Because the prepared remarks went through very fast and I couldn't catch it all, so…
Sure. Yes, I think going well. You'll start to see deals close in the next quarter, in the next couple of weeks, actually. We don't announce those when they close, but it's going well. And lots of demand from tenants for good real estate. And obviously, a lot of rocks to turn over as far as vacant real estate. So going well, great partner, as expected.
Okay. And then just lastly, do you guys have all the hiring in place that you think you need for the deal flow this year, or should we expect more?
We have one search for an acquisition, associate level person in the market. But by and large, I think we're in pretty good shape.
Okay, thank you.
Yes.
Our next question comes from Sheila McGrath with Evercore. Please go ahead.
Yes, good morning. Bill, it sounds like Darden and Brinker have tweaked their models to be more profitable even on lower sales. I was just wondering if you could give us your views if this puts these companies or similar companies in growth mode as far as new locations go. And just if that would increase acquisition opportunities for Four Corners?
Yes, absolutely, Sheila. I mean, I think Darden and Brinker are very well-run companies and have survived this pandemic and now are looking to grow market share. And it was absolutely one of the top few reasons that we went down the road of this JV, so that we can provide capital to help them grow. Absolutely, I think the pandemic will create a dynamic in the restaurant space, where the big will get bigger and the stronger who have been able to survive it will gain market share.
Okay, great.
And you are already seeing it in a big way. You are already seeing it in a big way.
That’s great. And just on commenting on your new additional hires, do you think that that puts Four Corners in a position just to onboard more acquisition opportunities this year? And do you think that you will be expanding the funnel beyond restaurants, or just your thoughts on that?
Yes. Well, we certainly have increased the number of auto service and medical retail, we call it Med-Tail acquisitions. And the reason we are adding to the team is to have more capability to grow. It doesn’t happen where you hire someone in the next month, your acquisitions go up. It takes some time to train people up and get them in the deal flow. But that’s absolutely the reason we are doing it, in addition to being able to add acquisitions through the Lubert-Adler JV. And the timing is such that we are adding people and the acquisition economics of the JV have not yet hit. So, there is a little bit of front running. And then really, what it was is, as Gerry mentioned, is additional benefits and load on bonuses that were sort of on a 3-year lag of performance.
Will the JV reimburse, are there fees to Four Corners to reimburse for some of this additional people count?
Sure. Yes, there are acquisition fees and asset management fees that we think will offset significantly the amount of additional G&A.
Okay, great. Thank you.
Thanks.
Our next question comes from Wes Golladay with Baird. Please go ahead.
Hey, good morning guys. Just wanted to go back to those comments about the to-go business for the restaurant companies, are you seeing any opportunity for incremental investment there at existing assets?
We are definitely working on it. It’s a little soon, but it seems logical that given a change in to-go business from a couple of percent a few years ago to 20%, 30% now, that there would be some changes in the physical layout of the building. So, that’s something we are working on, but it hasn’t happened yet, but I think it’s quite logical that it would be something that would happen in the future. And you are seeing in the existing acquisitions and – a real premise of the drive-through is how I would describe it. So, brands that were dipping their toe in the water on drive-throughs like Panera and Starbucks are now very much drive-through centric.
Got it. And then maybe if we can go back to the, I guess, a pipeline of deals. How would you characterize it today versus maybe last year at a similar time?
I would say similarly robust in the sense that we have a very good line of sight for these – from these outparcel deals. And a little bit broader in the sense that we are looking at Med-Tail and auto surface. But obviously, last year, specifically, we were in the very heat of COVID. So, we were thinking about our pipeline differently than we are today. But I think the point you are trying to make is versus a historic level of pipeline, I think we feel very good where we are at.
Got it. And then maybe one last one, you did mention about you being disciplined on pricing. And I guess, are you seeing any more incremental competition for those outparcels? From my understanding, they are a little bit more complex, and that’s kind of where you got to dig in and maybe create a little bit more output than normal?
Yes. I think we have seen competition in the past, than people realized that it’s difficult to do. And usually, they fade away. So, we will see. I think the big takeaway that we have seen on pricing is, last quarter, we saw high-quality properties trading at low cap rates. And I think in the last few months, we have started to see low-quality properties, even ones that were bad behaviors during COVID to trade at low cap rates. So, we are being disciplined. We reflect on the properties that we passed on, pre-COVID, and their results during this pandemic versus our more select group of assets that we acquired, and we are pretty glad that we have been disciplined.
Now that you have many assets you probably would want to sell, but I guess, with pricing the way you just described it, would there be something that maybe 5 years out, maybe just may see an issue where you just kind of decide to give a bit of it now or would that…?
Well, I think if you look at the two – if you look at the two properties we sold this quarter, one was dark and one was a high rent, not great performer. So, I think we are doing that.
I appreciate taking all the questions. Thanks guys.
Yes, of course.
The next question comes from John Massocca with Ladenburg Thalmann. Please go ahead.
Good morning.
Good morning.
So maybe building on that last point, I guess given the kind of cap rate compression we have seen over the last couple of quarters, what are some of the levers you can pull to kind of maintain accretion? Either kind of non-restaurant property types that maybe have some kind of better risk adjusted returns or focusing on franchisees versus kind of corporate credits? Just anything there that you are looking at to kind of maybe maintain yield?
Right. Well, I think as far as maintaining spread, the bond deal that Gerry executed is a great help to that. And then as far as on acquisitions, I think we benefited from the fact that we are at a scale where we don’t have to find hundreds of millions of dollars of acquisitions per quarter. And so we just need to make sure that we are turning over a lot of rocks. And we have a good pipeline on – with contracted prices to close on, and it’s our job to make sure that we keep that filled up for the second half of the year.
But nothing specific in terms of maybe continuing a little bit more of the non-restaurant side or I don’t like using the term, a move kind of up the credit risk curve?
Well, I think look, there is always assets that you can purchase that have higher spreads. It’s just making sure that their higher spread isn’t there for a reason. So, we just have to be careful. And I think as our team is trained up now after 5 years and having underwritten 15,000 properties, we are in a good place to do it. But it’s something that everyone in the industry is facing. And I think would be very difficult to come to a different view.
Okay. And then maybe looking at the broader kind of restaurant real estate investment universe, has there been any convergence in cap rates between kind of QSR and casual dining as things have reopened in terms of cap rates?
Yes. I think cap rates, I am not sure conversions is the right term. They are both falling and especially QSR, it’s very typical to see QSR restaurants with a four handle cap rate, some even below that, if they are in California or Florida. And then it’s very common now to see casual dining cap rates in the mid-5s.
But I mean, I guess I think…
I guess one thing I would reflect on is, it speaks to what I would say is a significant change in the NAV of the company across the 810 properties we own, if that’s the case.
Okay. But I mean, is the spread between the two narrowed at all in the last couple of months and quarters, or is it pretty much stayed steady?
I would anticipate it’s pretty steady, maybe narrowed just a tiny bit.
That’s it for me. Thank you very much.
[Operator Instructions] Our next question comes from RJ Milligan with Raymond James. Please go ahead.
Hi, good morning guys. Bill, it seems like your comments point to the fact that asset pricing today doesn’t accurately reflect risk. And I am curious what you think needs to happen in the market for pricing to come back to sort of that equilibrium? I guess I am just trying to gauge how long you think this pricing environment will last?
RJ, I think that’s above my pay grade to predict. That’s like predicting interest rates, would have a very hard time doing that. But I would say that your comment about seeing pricing on assets being a bit of a head scratcher is true. I got why properties that performed well during COVID would trade at really premium prices like the Darden assets that we own so many of. But I have been surprised, frankly, by tenants that were not payers during COVID have compressed cap rates.
Okay. And so – I mean, at least right now, there is just a ton of capital out there chasing all sorts of assets. So, you would expect the current pricing environment to last for some time longer?
I think that’s right. But I wouldn’t overstate that. We don’t – we are a medium-sized company. We have reasonable acquisition appetite and a good pipeline. So, I wouldn’t be too negative about it.
Okay, that’s it for me guys. Thanks.
Our next question is a follow-up from Sheila McGrath with Evercore. Please go ahead.
Yes. Bill, I think Gerry quoted 4.1x coverage ratio and approaching pre-pandemic level. Any idea of what percent of your portfolio is open to max capacity versus restricted capacity? And assuming reopening of those restrictions, do you think that the coverage levels could exceed pre-pandemic levels? Once they are…
I don’t have the max capacity, because those rules are quite byzantine. And I will just use as an example, our Kerrow facility, where the capacity restrictions were not as relevant as the 6-foot distance restrictions for many months, but we were above ‘19 levels for some weeks here recently. So, I think the coverage could in fact exceed pre-pandemic levels and certainly would expect it to in time. But yes, the portfolio is in really good shape. And average coverage is terrific, but I always worry about the properties that are in the bottom 10% and even those properties are in great shape. We have very, very few concerns.
Okay. And then, Bill, you mentioned $45 million of outparcels remaining to be closed. Do you think that opportunity is somewhat exhausted or can we think about you guys uncovering some more opportunities?
I think there will be more, for sure.
Okay. And last question for me. I was a little low on G&A for the quarter. I apologize. But just wondering if you or Gerry can help us a little bit in terms – because some of that was excess or just elevated comp costs. Just give us some insight on how we should think about that for the balance of the year, maybe the cash part of it?
Yes. Sheila, I will jump in. Notwithstanding the elevated nature of the first quarter, I think it’s a decent number to use for the rest of the year, if you annualize that to reflect the increase in the staffing. And as Bill said, some of that will be front-loaded versus fees that will be earned maybe over the second half of the year or into next year.
Okay, great. Thank you.
This concludes our question-and-answer session. I would like to turn the conference back over to Bill Lenehan for any closing remarks.
Great. Thanks everyone. And if you have questions, please don’t hesitate to call. Thank you.
The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.