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National Retail Properties Inc
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Good day, ladies and gentlemen, and welcome to the National Retail Properties First Quarter 2019 Earnings Conference Call. All lines have been placed on a listen-only mode and the floor will be open for your questions and comments following the presentation. [Operator Instructions]
At this time, it is my pleasure to turn the call over to your host for today Mr. Jay Whitehurst, CEO and President. Sir, the floor is yours.
Thanks Jess. Good morning and welcome to the National Retail Properties first quarter 2019 earnings call. Joining me on this call is our Chief Financial Officer, Kevin Habicht. After some brief opening remarks, I'll turn the call over to Kevin for more detail on our results.
The first quarter of 2019 was another steady consistent quarter for National Retail Properties. Our broadly diversified portfolio of 2,984 single-tenant retail properties remain healthy with an occupancy rate of 98.2% which is consistent with our long-term average of 98%.
Despite the headlines regarding retail store closures, our portfolio continues to perform adorably. As we've mentioned before, the 400 plus tenants in our portfolio are typically large, regional and national operators that are primarily focused on customer services, customer experiences and e-commerce resistant consumer necessities.
On the acquisitions front, we invested $117 million in 33 new single-tenant retail properties at an initial cash yield of slightly over 7%, and with an average lease term of over 16 years. As usual, our tenant relationships were the source of a vast majority of our investments.
Over 80% of our total dollars invested in the first quarter were with our roster of relationship tenants. We also sold 17 properties during the first quarter generating over $19 million of proceeds at an average 5.9% cap rate.
Our disposition strategy continues to reflect a barbell approach. On one hand selling some properties at low cap rates in situations where we see less long-term value than the buyer and on the other hand selling some vacant properties after concluding that our releasing efforts would generate less shareholder value than simply reinvesting the sale proceeds. With our average disposition cap rate significantly below our average acquisition cap rate, we continue to validate our ability to recycle capital accretively.
Our balance sheet at the end of the quarter remained one of the strongest in our sector. As we've discussed previously, we raised a significant volume of well priced capital at the end of 2018 and entered 2019 with $0 outstanding on our line of credit and cash on our balance sheet, all of which continues to position us very well for 2019.
In closing, let me remind you that we run our business with a long-term focus, characterized by consistent per share growth on a multi-year basis. Our first quarter results reflect another consistent steady step along that path.
With that, let me ask Kevin to provide his additional comments on our fourth quarter results.
Great. Thank you, Jay, and I'll start with the usual cautionary statement that we will make certain statements that may be considered to be forward-looking statements under federal securities law. Company's actual future results may differ significantly from the matters discussed in these forward-looking statements and we may not release revisions to these forward-looking statements to reflect changes after the statements were made.
Factors and risks that could cause actual results to differ materially from expectations are disclosed from time to time in greater detail in the Company's filings with the SEC and in this morning's press release.
With that, headlines from this morning's press release report quarterly core FFO results of $0.67 per share for the first quarter of 2019 which was flat with prior year results and it's consistent with our projections and estimates. We left 2019 core FFO guidance unchanged at $2.71 to $2.76 per share, which implies 3.2% growth to the midpoint.
We do this again while maintaining a strong and liquid balance sheet and not relying on large amounts of short-term and/or fixed floating rate debt. Details of our 2019 guidance can be found on Page 7 of today's press release.
Our AFFO dividend payout ratio for the quarter was 72.8% and that compares to 72.4% for the full year 2018. Occupancy was 98.2% at March 31, that was flat with prior quarter. G&A expense was 5.8% of revenues and that compares with 5.7% a year ago, again, reminding you that we include state and local corporate taxes that we pay in various municipalities in our G&A expense, while some rates exclude that from G&A and put that on a separate line item.
For purposes of modeling 2019 results, the annual base rent for all leases in place as of March 31, 2019 was $633.2 million. This allows you to take some of the guesswork or estimation out of the timing of Q1 acquisitions and dispositions for projections starting April 1, 2019.
We did not issue any common equity during the first quarter of our ATM. As we've noted in the past and consistent frankly with the past couple of decades, we expect to behave in a relatively leverage neutral manner over time.
First quarter dispositions of $19 million and $30 million of free operating cash flow, that's after all dividend payments that provided $49 million of equity like capital for us for new investments.
As a reminder, we funded 84% of 2018s $716 million of acquisitions with this equity combination of common stock issuance, disposition proceeds and free cash flow. So we entered 2019 well ahead of the equity raising curve. We remain in very good leverage and liquidity position, which will allow us to maintain an active acquisition effort into 2019.
As Jay mentioned, we ended the quarter with no amounts outstanding on our $900 million bank line, and we had $80 million in cash on the balance sheet. Leverage metrics remain very strong. We've always been inclined to keep a balance sheet with notable financial capacity and flexibility.
This may cost per share results a bit in the short run, but we think over time a good defense will allow a more effective offense. Capital structure matters and undrawn lines of credit are an asset.
Our next debt maturity is in 2022 and our weighted average debt maturity is now 9.1 years. All of our outstanding debt is fixed rate. Our balance sheet remains in good position to fund future acquisitions and weather potential economic or capital market turmoil.
Looking at quarter-end leverage metrics, net debt to gross book assets was 34.7%. As you know, we were not big fans of market cap base leverage metrics. I believe more relevant is net debt to EBITDA, was 4.8 times, which is unchanged from year-end 2018. Interest Coverage was 4.9 times and fixed charge coverage was 3.8 times for the first quarter.
Both of those metrics were 10 basis points higher. Only five of our 2,984 properties are encumbered by mortgages totaling approximately $12 million. So, we believe 2019 will be another solid year of growth in operating results and the comps for multiple prior years are not particularly easy.
When sourcing capital and making capital allocation investment decisions driving per share results on a multi-year basis remains at the forefront of our mind. Our investment strategy in terms of property type, tenant type and our balance sheet strategy have been very consistent for many years.
And now you can decide if I’ve saved the best or the least for last, but my final comment will touch on the new lease accounting impact all of us are dealing with. For NNN, the impact is fairly modest with the most visible item of note being the presentation of revenues, which we now must collapse five lines of revenue into one line which we called lease income.
We've added some supplemental info at the bottom of Page 6 of the press release to give you a little more visibility as to what's recorded in this one lease income line item to be consistent with the prior period.
The other area that the new accounting will create some changes where we are the lessee, and in our case, this is our headquarters office lease and three investment properties ground leases where we own the building and lease the land from a third-party. The new accounting rules require reporting a rate of use asset and a lease liabilities for these leases. Again, a fairly de minimis impact on our balance sheet.
Additionally, the accounting for lease costs that are connected to new acquisitions now requires us expensing any leasing costs that are not contingent on a lease getting time. For us that occurs occasionally when we acquire properties where we may use a third-party law firm to be involved in any lease drafting responsibilities. In the past, those costs would have been capitalized as a part of the acquisition, but beginning in 2019, those costs will be expense and you can see we showed $52,000 for this in our first quarter results.
It's little difficult to estimate this amount going forward since it's entirely dependent on acquisition volume and some other factors. I will note that in the past we have never capitalized any internal leasing costs. So there's no change in our expensing on that front for us.
Lastly, the new rules will not allow for establishing any general reserves for the uncollectability of receivables. So going forward, this can inject a degree of lumpiness to reported results as the new rules push us to wait until the probability of collection gets meaningfully low and then write-off the entire receivable balance.
In the past, we may have been more inclined to reserve for potentially uncollectable receivable amounts sooner. But all in all, the new lease accounting impact does not seem to have a material impact on our reported results despite some of those noise in the numbers.
And with that, Jess, we will open it up to any questions.
[Operator Instructions] We'll move first to Christy McElroy with Citi.
Good morning. This is Katy Mcconnell on with Christy. I'm wondering if you can just update us on your expectations for tenant closures including those that you had mentioned last quarter and given occupancy held flat in the first quarter, are you expecting any tenants disruption or occupancy disruption in the balance of the year?
Katy, we feel like generally the portfolio is going to remain healthy and continue generally in the area where we are now. When you're the landlord to retailers, you are always dealing with tenants that have issues. As it relates to the larger bank tenant defaults and bankruptcies that we've talked about previously in the case of Shopko, we own three of those stores, we still own three.
Two of those we are working on, one is pending resolution sale of that property. All three of those are still paying rent right now. Shopko has not terminated those leases yet. So we're still getting rent on those.
And as it relates to the Virginia College properties, we had three of those also, two of them are pending resolution and one we are still working on. So none of those are more impactful bankruptcies or defaults from the past have been fully resolved yet, but we're making good headway on a good piece of that.
Otherwise looking ahead, we're cautiously optimistic, I guess, you'd say that everything's going to – going to kind of stay in the ballpark of where we are.
And just for clarification, just to point out, the three Virginia College properties were in our vacancy as of December 31. So that wasn't a new event in Q1. We expect the Shopko's to go vacant and the three Shopko's to go vacant in Q2. But as Jay said, they continue to pay rent although at the moment.
And I think just maybe at a strategic level to point out that we have in-house leasing expertise. We have folks that come to work every day focused on releasing our vacancies and creating value out of our existing portfolio, and that's all part of being a real estate company and we are working these properties very hard.
Okay great. Thank you.
We'll move next to Vikram Malhotra with Morgan Stanley.
This is Kevin on for Vikram. Just a quick question for me. Did you happen to disclose the cap rate on the dispositions?
The cap rate on our dispositions Kevin was about 5.9%.
Okay great. And then just in terms of the composition of the acquisition. I didn't see a whole lot of movement in the top tenants, but can you give any color around what those what the composition was of those?
Yeah it was – it really didn't move the needle much with any of our top tenants, but it was a very broadly diversified group of acquisitions across, because I'm trying to remember, I think it was 8 or 10 of our different relationship tenants. It was a lot of individual one-off properties or small portfolios primarily with our relationship tenants. Nothing notably outside of the mix of our overall portfolio.
Okay. Great. And then just last one for me, just in terms of the straight line rents, I know toward the end of last year, it actually turned into a positive for the – turned into a positive cash flow or if I looked at the first quarter of 2019, it appears to be negative which is what I would expect to be. So just in terms of going forward, how do you expect that to trend? I know you don't record of straight-lines given that you have a lot of CPI base escalators. How do you expect that to trend over the rest of the year?
Yeah and there is a little bit of lumpiness in that. So you're right on that Kevin. An occasion when you're leasing a new property and you'll give somebody, three years, five months of free rent to start off, then that will influence that number. As you know, our number has been plus or minus, it's been bounding around the zero range by a few hundred thousand dollars, not very much up or down over recent quarters.
In terms of a trend, I would think we're close to that zero mark. So fourth quarter of last year it was a positive 124. As you noted this quarter, first quarter 2019, a negative 747, but it will vary a little bit depending on the leasing activity, but it's not straying too far from zero.
Okay. So in terms of going forward just assuming zero probably be the best bet?
That's a reasonable assumption, yes. You won't be too far wrong if you assume that.
Okay. All right. Thanks a lot.
We'll move next to Brian Hawthorne with RBC Capital Markets.
Hi. Just one question for me. Are you guys looking at any new concepts or is there – has any new concepts kind of come up on your radar that you'd like to invest in?
Brian, our primary focus on our acquisitions is building relationships with these retailers and doing repeat programmatic off market business with those folks. And we have a team of folks led by Steve Horn in our office, who spend every day looking for new concepts or retailers within existing concepts that we are not currently doing business with.
There is no big notable line of trade for us to say we're looking to materially move into. But what we're always looking for are good retail operators that have real estate along high traffic roads that we think is the right kind of real estate to own for the long-term leased to an operator that gives us comfort that we'll get the rent for a long period of time.
We'll move next to Collin Mings with Raymond James.
Thank you. Hey, good morning guys.
Hi.
First question for me, just the yield on the acquisitions during the quarter a bit higher than 2018 overall as well as 4Q, I just – I mean – I imagined this was mix related but just can you confirm that and just touch on the pricing environment for a minute, just especially given the cost of capital for the public players here has continued to improve in 2019?
Right, Collin. We have 7% cash yield on leases with good operators with 16.5 years worth of term and our typical kind of 1.5% bonds is a very good start to 2019. Cap rates in general out there in the world are not – we don't see them moving up at all for high quality assets. Cap rates are if anything trending down a little bit. So I think our acquisition team did a very good job of getting this good solid yield for our first quarter acquisitions. I would not expect that to continue through the rest of the year. Cap rates are remaining low out there, but our guys did – our team did a very good job of getting these first quarter acquisitions at a good yield.
Got it. So again it sounds like it was again specifically attributable to the deals the team struck as well as maybe mix, not anything indicative of the broader market?
That's correct. I think also strategically our focus on building relationships helps there. When we are dealing with a relationship tenant, lowest cap rate is not the sole component of our value proposition. And so we were able to get somewhat better yields on many of our relationship deals, because there's more to the value of working with National Retail Properties than just the lowest cap rate.
Fair enough. That actually leads me to another question. Just bigger picture and I think I know where you guys will go with this, but just given your relationship based model for acquisitions, have any of your tenants talked with you about international opportunities and just on the heels of Realty's announcement last week, just update us on how you'd even think about such an opportunity?
We've looked at deals outside of the United States before with – some with relationship tenants and some others. And so far it just hasn't worked out for – that hasn't made sense for us. The level of volume that we need to generate in order to produce that consistent kind of mid single-digits FFO per share growth allows us to be very selective and not have to undertake herculean volume efforts. And the – when you couple that with the vast supply of single tenant retail properties in the United States, so far we've concluded that we can meet our growth objectives while being selective and staying in U.S. markets that we feel like we know very well.
Fair enough. So it sounds like something – at some point, you never say never type of approach here, but really see a very ample opportunity, so I just think domestically with kind of your current relationships. Is that fair?
Yes. That's very fair. You said it better than I would have. Yes, well said.
All right. Last one for me and just going back to an earlier question just on the composition of acquisitions during the quarter. It does look like the home improvement bucket ticked up here a bit during the quarter. Just maybe touch on the opportunities you're seeing there, the competition on that front, just anything else that you can maybe talk about on the home improvement bucket, recognizing again it's still pretty nominal?
Right. No, it is nominal and that's a couple of acquisitions that we did. Our focus that is always primarily on the location of the real estate, the price, the rent per square foot for the property and certainly the rent – the rent versus market rent. And so that segment of retail is no to us – is no more or less competitive than any others. We just are – when we're looking at those kind of properties, what we're really looking for is, is this a good retail location and is this a reasonable rent? And in this first quarter, we found a couple of properties that fit that criteria.
I appreciate the color Jay. I'll turn it over.
[Operator Instructions] We'll move next to Spenser Allaway at Green Street Advisors.
Thank you. Just going back to the pricing environment for a second, you mentioned that cap rates are moving lower if anything. Are there specific industries within retail where you're seeing more notable cap rate compression?
There have been some – hey, good morning Spenser. There have been some specific deals for – we've seen cap rates go below 6% that probably in the past wouldn't have been, but it's really – I can't say that there's particular sectors where that’s happened. I think it's just been transactions that have happened, one compelling feature or another for one or two buyers that caused folks to say that was the right thing for them to do.
In our case, we're going to try to – we are going to stay focused on dealing with our relationship retailers and doing deals that – yields that we think are adequately accretive for good real estate with good operators and we do think there's still plenty of opportunities out there for that.
Okay. Thank you.
Thanks Spenser.
We'll move next to Joshua Dennerlein at Bank of America.
Hey guys. Good morning.
Good morning, Josh.
Your occupancy is down year-over-year. Is that all the SunTrust and then the Virginia College assets you talked about earlier or is there any other assets in there? And how should we think about kind of the evolution going forward with the Shopko assets going dark or likely going dark in 2Q and just release the expirations for the year?
Yes, Josh, we're down year-over-year, but we're right about at our long-term average. So when we were 99% occupied, we were quick to remind folks that we didn't think that was sustainable over the long-term. The – where we are today is a reflection I think of just the general retail environment where all of us are going to have – their own single-tenant retail properties are going to have some tenant vacancies along the way.
The Virginia College and the SunTrust are in that number, but they – in the SunTrust, in particular, we’re not unexpected, we saw that coming a long time ago. And we are working our way through that SunTrust vacancy. I think we've only got three SunTrust properties that are either unresolved or not pending. There's only three where there's just – we're still working them I do believe. So it's just a – kind of a general vacancies here and there to – not particularly attributable to any one major tenant or factor.
And again a reminder that we're flat sequentially versus prior quarter. So nothing new in the current quarter. And as Jay said, our standard line is – think of us as being 98% occupied plus or minus 1% over a couple of decade period and that's the way we tend to or want to think about modeling our business.
Got it. Makes sense. You mentioned those three SunTrust assets, are you – when you mean you're going to resolve them, does that mean you're going to release them or is that like a more of a sell situation at this point?
Yes, to be – yes, to put a little more clarity on that, we currently have seven vacant SunTrust properties, four of which are pending resolution. And Josh, I think all four of those are sales, certainly the majority of those are sales. And then there's three that are remaining where we're still working them. These last few remaining vacant SunTrust assets are some of the best we had in the pool of vacancies. So our inclination is to try to lease those properties and start an income stream, and that's why we're working those last few a little bit harder. They may end up be being resolved as sales down the road, but we are working hard to release those last properties. They are good, generally pretty good real estate.
Okay. And for the Virginia College and Shopko, when you mentioned the pending resolution on the two college asset and the two Shopko assets, is that kind of same thing you're going to sell them and not release them?
Yes, the two Virginia College, first, those were – we said in our previous call that we'd hoped that we could find some kind of a – another school user for those and the two of those that are pending are both potential sales to charter schools. So we'll see if – we'll see if those sales happen. We certainly hope they do, but our goal was to try to find another school user for those. And in this case, selling to the schools was the way that those deals were ended up being structured. As it relates to the Shopko's, only one of those is pending. We still have two that we're working on and that one is also happens to be a sale.
Got it. Thank you. I appreciate it.
We'll move next to Todd Stender with Wells Fargo.
Thanks. Good morning. Jay, you touched on this briefly about rental rates where they are underwritten at. Can you talk about the Q1 deals you closed on and how those rents compared to market? I guess, if they're relationship driven, maybe there's flexibility on what the rent could be to ultimately drive a 7% yield, maybe any color there? Thank you.
Sure. No, for all of our acquisitions, whether it's the first quarter or last year or five years ago, the underwriting focus is on keeping the cost of the property low and therefore keeping the rent as low as possible whenever you're doing a sale leaseback. And that's a big piece of our underwriting is to look at what's the – what's the market rent, what are the comparable rents being paid by other properties that we own that are similar to the properties we're looking at buying.
We feel like our portfolio sits pretty close to market rent generally. If you think about our renewal statistics at the end of our leases, 80% to 85% of the time the tenants renew the lease at around 100% of the then current rent, which has been bumping all along through the term of the lease. That gives us some level of comfort and we feel like evidence that we are at market rents given the tenants renewal at least expiration.
Okay. That's helpful. And then did you guys specify some of the tenant names that you acquired and then what you sold, and I'm just pointing to, I guess into restaurants. We've got quick service that went up, but casual dining looks like it came down. Have you guys spelled out any of the tenant names?
Well, in quick serve, I think went up in the quarter not because of anything we did this quarter but we bought a portfolio of fast-food restaurants near the end of the year, last year. And so I think that kind of moved that number. And casual dining really went down I think just because it got diluted as opposed to anything else. So again we bought 33 properties and we sold 17, so we didn't really move the needle on anything in terms of those kind of concentration levels.
Okay. And then, I guess, on timing of acquisitions. For modeling purposes, should we assume more back end weighted if you're – you've closed on $117 million in Q1, but you can get upwards of $600 million for the full year. Just thinking about some timing, I guess.
Yes. It was skewed a little bit toward the back end of the quarter. So I would assume that. Again, another good data point to help model beginning kind of April 1 projections is there's $633.2 million of annual base rent that's in place as of March 31. So you can start with – that as your cash base rent, subtract some level of property expenses to get to an NOI and our guidance on property expenses for the year is around $9 million, I believe. And so that'll – that's another way to go at that.
And Kevin, just to stick with you. Did I get a rate that you didn't issue any shares under the ATM?
That is correct. Nothing in the first quarter on the ATM.
But the shares issue was that through the DRIP program?
Correct. That's dividend reinvestment.
Okay. Is there a cost difference between the two? I mean, you're still – there's still share count goes up, you're raising equity in my splitting hairs I guess on how you raise the equity?
No, there's no real difference in my mind. The cost is effectively the same.
Okay. Thank you.
Thanks, Todd.
[Operator Instructions] We'll move next to John Massocca at Ladenburg.
Good morning.
Good morning, John.
Just one for me, I know Camping World has been, let's stay, active in kind of refining its Gander Store portfolio. Are any of the properties they've – or any of the retail locations they've closed over the last couple of quarters, properties you guys own and how do you – is there anything essentially have a short lease term that you have leased to them?
John, to answer your last question first. When we did the Gander Outdoor leases with Camping World, we did 20 year leases with them on our standard form. So we – our Camping World and our Gander Outdoor leases are all long-term, nothing short-term, especially nothing short-term related to Gander Outdoor.
We did – we've had a longstanding relationship with Camping World where we've done lots of different types of transactions with them. And we have sold them back one or two of our Gander Outdoor properties and exchanged those for traditional Camping World properties in some instances. So – but otherwise, our Gander Outdoor properties are open and operating.
All right. That's it for me. Thank you very much.
Thanks John.
And gentlemen, I have no other questions at this time.
All right, Jess, thank you. We thank you all for joining us this morning and we look forward to seeing you at the upcoming ICSC or NAREIT conferences. Have a good day.
This will conclude today's teleconference. We thank you for your participation. You may disconnect your lines at this time and have a great day.