American Finance Trust, Inc.
Q1 2019 Earnings Call Transcript

Published: 12 May 2019

[Operator:]

Good morning, and welcome to the American Finance Trust, Inc First Quarter Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Louisa Quarto. Please go ahead.

[Louisa Quarto:]

Thank you, operator. Good morning, everyone, and thank you for joining us for AFIN's First Quarter 2019 Earnings Call. This call is being webcast in the Investor Relations section of AFIN's website at www.americanfinancetrust.com. The following information contains forward-looking statements, which are subject to risks and uncertainties. Should one or more of these risks or uncertainties materialize, actual results may differ materially from those expressed or implied by the forward-looking statements. We refer all of you to our SEC filings, including the annual report on Form 10-K for the year ended December 31, 2018 filed on March 7, 2019, and all other filings with the SEC after that date for a more detailed discussion of the risk factors that could cause these differences. Any forward-looking statements or portfolio information provided during this conference call are only made as of the date of this call. As stated in our SEC filings, AFIN disclaims any intent or obligation to update or revise these forward-looking statements or portfolio information, except as required by law. During today's call, we will discuss non-GAAP financial measures, which we believe can be useful in evaluating the company's financial performance. These measures should not be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP. Reconciliation of GAAP net income to the non-GAAP measures can be found in our earnings release supplement and Form 10-Q, all of which is posted on our website at www.americanfinancetrust.com. I will now turn the call over to our CEO, Mike Weil.

[Mike Weil:]

Thanks, Louisa. Good morning, everyone, and thank you for joining us. With me today on the call are Katie Kurtz, Chief Financial Officer; and Zach Pomerantz, Senior Vice President, Asset Management. I'll provide an overview of our results and discuss the ongoing success we're having building out our best-in-class portfolio, Katy will provide additional financial details and Zach will discuss our leasing asset management and pipeline in greater detail, and then we'll take all questions. I'm pleased to report a strong start to 2019 for American Finance Trust and the continuation of our business plan. We steadily executed on our acquisition strategy and opportunistically sold assets. As a direct result, we recorded a 7% growth in AFFO quarter-over-quarter to $26.3 million, representing an increase from $0.23 to $0.25 on a per-share basis. During the first quarter, we also completed the phased listing of our common stock and accessed capital markets for the first time as a listed company when we completed a preferred stock offering. The new series of preferred stock is listed on NASDAQ and trades under the symbol, AFINP, and has led to productive conversations with investors and banks where we were able to introduce AFIN as a company to many new institutions. In addition to continuing to expand awareness of AFIN in the capital markets, our focus remains on optimizing our portfolio and driving occupancy at our multi-tenant properties. As previously discussed, we continue to concentrate on acquiring service retail properties. Recent research from ICSC, the International Council of Shopping Centers, suggests the shopping behaviors of generation Z support the case for retail real estate. The communal aspect of brick-and-mortar stores and the better experience they offer lead this growing demographic to make most purchases in key product categories in physical stores. Our continued focus on service retail fits within ICSC's criteria as these types of properties drive consumers to personally visit at least once or twice a week. Examples of service retail include restaurants, pharmacies, gas and convenience stores and retail bank branches. We consider these property types to be resistant to competition from e-commerce and important to our portfolio as we position AFIN to embrace ongoing changes in the domestic retail environment. This focus is reflected in our acquisitions in the first quarter, which exceeded $113 million, of which $110 million were service retail properties. Tenants occupying these acquisitions included Fresenius, Pizza Hut and Mountain Express convenience stores. This was our first quarter where service retail properties accounted for over 95% of the properties we acquired based on the purchase price. Zach will provide more detail on our acquisitions, but we're very pleased with this level of activity. We're further focused on portfolio occupancy with a current occupancy of 94% at the end of the first quarter. We continue with our leasing efforts in the multi-tenant portfolio, and we remain confident in our ability to sustain this level of acquisitions and leasing of available space. As of March 31, our steadily growing portfolio consisted of 682 properties located in 43 states and the District of Columbia. We believe our portfolio is best-in-class among our peers. Our single-tenant portfolio, which makes up about 2/3 of our straight-line rent, has no lease expirations in the next year and less than 10% over the next 4 years, less than 15% in the next 5 years. This is significantly less than our net lease peers are expecting. Another key metric we're pleased with is the credit quality of our leases. 77% of our top 10 tenants portfolio-wide and 73.9% of our single-tenant portfolio are leased to investment-grade or implied investment-grade tenants. Please refer to our earnings release for more information about what we consider to be implied investment-grade tenants. Portfolio occupancy sits at 94% on almost 20 million square feet of rentable space. Across the portfolio, our leases include average annual rent escalators of 1.3% and have a weighted average remaining lease term of 8.8 years, an increase from 8.6 years last quarter despite the passage of 3 months. In short, AFIN's portfolio is constructed to capture steady growth on stable assets for the foreseeable future. With the backstop of high-credit quality tenants to minimize the impact of any surprises and the acquisitions we make each quarter continue to set AFIN apart. Our 649 property single-tenant portfolio is 53% leased to service retail tenants, up from 47% at the time of our listing last year. 97% of year-to-date acquisitions and 87% of acquisitions over the last 2 years have come from the service retail sector. Occupancy across the single-tenant portfolio is 99.5% with a weighted average remaining lease term of 10.8 years and 1.3% average annual rent escalators. As evidenced by our year-to-date acquisitions and our forward pipeline of deals, we're focused on growing this segment of our portfolio and continue to find accretive opportunities that align with our investment objectives, including what we believe are attractive cap rates and long-duration leases. On our last call, we discussed the positive impact of the pending merger between SunTrust and BB&T, and I want to reiterate what we discussed with respect to our strong SunTrust portfolio. As of the end of the quarter, SunTrust remains AFIN's largest tenant as the company owns 135 occupied SunTrust properties with an average remaining lease term of over 10 years, down from 183 properties originally. We're currently under contract to sell another 6 branches, which will bring us down to 129 properties leased to SunTrust, a reduction from 11.2% to 8.2% of our portfolio based on straight-line rent. These leases all include 1.5% annual rent escalators, and AFIN is contractually entitled to receive rent payments from these SunTrust properties to the full duration of the lease term, regardless of any corporate initiatives associated with the potential merger. The merger could potentially improve the credit associated with the corporate guarantee on the leases from SunTrust's current Baa1 credit rating to BB&T's A2 rating. On average, these leases don't mature until the year 2030, and there are no lease expirations at all prior to December of 2027 with some leases currently expiring in December of 2032. We'll continue to monitor the proposed merger, which is anticipated to close before the end of this year, but we continue to expect this to be an overall positive for AFIN. Our multi-tenant portfolio continues to meaningfully contribute to our service retail focus as we lease space to experiential and e-commerce-defensive properties. With 49% of rent coming from these types of tenants, we seek to drive foot traffic to the traditional retail tenants and create all-day centers. Our 33 property, 7.2 million square foot multi-tenant portfolio has an executed occupancy of 88% with a weighted average remaining lease term of 4.9 years and 1.4% average annual rent escalators. Allow me to touch on how the average remaining lease term in our multi-tenant portfolio compared to the lease expiration schedule in some of our peer portfolios based on SNL data as of 12/31/18. With 47% of our leases expiring more than 5 years in the future, we have between 2% and 6% less near-term lease expirations than our peers. Across the entire portfolio, with over $252 million in annual straight-line rent, less than $5 million of lease expirations in the next 12 months and only $11.9 million expire the year after that. Our asset management team remains focused on renewing our minimal upcoming lease maturities and, as evidenced by our executed occupancy rate, has found sustained success in their efforts. Before I turn it over to Katie and Zach, I want to cover our real estate dispositions as well because strategic dispositions are an important part of our portfolio strategy, particularly through our previously discussed SunTrust redeployment initiative. Through our disposition strategy, not only have we been able to reduce tenant concentration and increase the amount of service retail in our portfolio, we've also been able to improve single-tenant occupancy, increase lease duration and redeploy a portion of the proceeds from the sales into new acquisitions. In the first quarter, we sold 8 properties, including 7 leased SunTrust branches for approximately $15 million. Five properties had leases in place and were sold for total gross proceeds of approximately $13.4 million. The remaining 3 properties were sold for total gross proceeds of $1.7 million. We've also entered into definitive agreements to sell an additional 10 properties, 8 leased to SunTrust for an aggregate price of over $49 million. The occupied SunTrust branches that were sold in the first quarter were sold at a weighted average cap rate of 5.8%, and the occupied SunTrust branches that were under contract to sell are being sold at a weighted average cap rate of 5.4%. Our acquisition pipeline has a weighted average cash cap rate of 7.3%, a 190 basis point spread that provides AFIN opportunities for accretive portfolio growth. Finally, as of the end of the quarter, we only have 4 remaining vacant properties that were formerly leased to SunTrust, representing less than 0.1% of the portfolio by square feet. AFIN will continue to be a strategic seller of assets as we seek to optimize the portfolio and grow the company. Let me hand it over to Katie now to provide some additional detail on our financial results.

[Katie Kurtz:]

Thanks Mike. We ended the first quarter with net debt, which is total debt less cash and cash equivalents, of $1.5 billion at a weighted average interest rate of 4.6%. The components of our net debt include $433 million drawn on the credit facility, $1.2 billion of outstanding mortgage debt and cash and cash equivalents of $108 million. At quarter's end, the interest rate on our mortgage debt were all fixed, leaving only amounts drawn on our credit facility as floating. Liquidity, which we measure as undrawn availability under our credit facility plus cash and cash equivalents, stood at $153.5 million at March 31, 2019. The company's net debt to gross asset value or total assets plus accumulated depreciation and amortization was 39%, and net debt to annualized adjusted EBITDA was 8.1x at March 31, 2019. In light of our business plan and taking into account the contractual rent increases embedded in our portfolio and the relatively short time we have owned many of the properties, we expect net debt-to-adjusted EBITDA will decrease over time. We reported first quarter revenue of $71.5 million as compared to $70.1 million for the fourth -- first quarter 2018. Our FFO attributable to stockholders was $26.8 million for the first quarter 2019 compared to $27.9 million in the fourth quarter 2018. AFFO was $26.3 million for the first quarter 2019 as compared to $24.6 million in the fourth quarter 2018. This increase was driven primarily from a $2.8 million increase in cash NOI, recognizing the full benefit of fourth quarter 2018 acquisitions and the additional $113 million of real estate acquired during the first quarter as well as a reduction in expenses in the multi-tenant portfolio. As always, a reconciliation of GAAP net income to the non-GAAP measures can be found in our earnings release supplement and Form 10-Q, all of which are posted on our website at www.americanfinancetrust.com. On the capital markets and financing front, we've successfully launched our Series A cumulative redeemable perpetual preferred stock on March 22. With our partnering financial institutions, including BMO Capital Markets Corp. and Stifel, Nicolaus & Company as joint book running managers and B. Riley FBR as lead manager for the offering, we placed 1.2 million shares in the initial offering and granted a 30-day option to sell up to 180,000 additional shares. Net proceeds to the company from the offering were approximately $28.6 million, which we intend to use for general corporate purposes, which may include the purchase of additional properties. The preferred shares may pay a 7.5% dividend based on the $25 offering price. The company paid dividends of $29.2 million or $0.275 per share during the quarter to stockholders of record as of January 14, 2019, February 8, 2019, and March 8, 2019. For the first quarter, AFFO was up 7% to $0.25 on a per-share basis compared to $0.23 on a per-share basis for the fourth quarter 2018. I'll pass it over to Zach to discuss our real estate acquisitions, dispositions and leasing activity in greater detail.

[Zachary Pomerantz:]

Thanks, Katie. We closed on $113 million of almost exclusively service retail properties during the quarter. The 64 properties we acquired have a weighted average remaining lease term of 17.3 years and comprise almost 280,000 rentable square feet. These properties were acquired at what we believe an attractive weighted average cash cap rate of 7.2% and a weighted average GAAP cap rate of 8.4% and included portfolios of Fresenius, Pizza Hut and Mountain Express leased properties. We also acquired 1 freestanding Tractor Supply, a credit tenant we like in our mix of assets. As of quarter-end, we had 7 executed new leases on properties that are primarily vacant or dark that totaled over 234,000 square feet where the tenant has yet to take possession as of March 31, 2019. Our multi-tenant executed occupancy stands at 88% at the end of the quarter. We recorded a slight dip in occupancy this quarter after we negotiated to terminate a lease for a dark, cash-paying anchor tenant that was previously leased to a Lowe's with only 6 years remaining out of lease. We successfully replaced the tenant at this dark location with At Home and 24-Hour Fitness who signed new 10- and 15-year leases, respectively, significantly extending the remaining lease term. The economics of the termination provided full coverage of the conversion cost of the property with surplus proceeds in excess of 1 year of the new rents. We are pleased with this outcome as it provides foot traffic to the general benefit of the tenants at the shopping center, extends AFIN's portfolio lease duration and manages capital cost associated with replacing a vacant storefront. On the disposition side, we sold 7 properties leased to SunTrust and 1 property leased to Academy Sports during the first quarter for total gross proceeds of $15.1 million, of which is $11.6 million was used to repay related debt. Five properties had leases in place and were sold for total gross proceeds of approximately $13.4 million. The remaining 3 vacant properties were sold for total gross proceeds of $1.7 million. As of the end of the quarter, we owned 135 occupied SunTrust bank branches, comprising 8.2% of our overall portfolio based on SLR. We also own 4 unoccupied SunTrust branches, of which 2 are currently under contract to be sold and the balance of which we are actively marketing. Our forward-looking acquisition pipeline as of April 15, 2019 consist entirely of service retail properties, including 6 Fresenius locations, 14 Pizza Huts, Mountain Express and 12 stores leased to IMTAA, an operator of gas stations and convenience stores with fuel provided by Shell, ExxonMobil, Marathon and others. The total purchase price for the pipeline, including 1 acquisition that closed earlier this quarter, is almost $75 million and is at a weighted average 8.4% cap rate. These 33 properties have a weighted average remaining lease term of 16 years. Combined with the properties we closed in the first quarter, we have 98 properties either closed or in the pipeline at a weighted average cap rate of 8.4% and a weighted average remaining lease term of 16.8 years. We are excited about the opportunities we are currently seeing in the market and look forward to expanding our portfolio. Mike, I'll turn it back to you.

[Mike Weil:]

Thanks, Zach. To conclude, I'm very pleased with the transaction, leasing and financing activity we've seen at the start of this year. We believe the growth in AFFO that we reported this quarter is the result of adherence to our portfolio strategy and careful asset selection. The preferred offering we completed in the first quarter was an important step for the company as we continue to increase our institutional investor base. We've had consistent success repositioning assets in our multi-tenant portfolio as well as attracting new tenants to our properties. We're well positioned for the remainder of the year, and I look forward to seeing many of you at NAREIT next month here in New York City. Operator, please open up the line for questions.

[Operator:]

[Operator Instructions] Our first question comes from Frank Lee with BMO. Please go ahead.

[FrankLee:]

Hi. Good morning. You guys acquired a number of Mountain Express properties in the quarter, and there are several more in the pipeline. Yields appear to be higher as well. What is attracting you to this tenant? And how big could we see this tenant grow in your portfolio?

[Mike Weil:]

Sure. Frank, so Mountain Express is a convenience store operator that we are very familiar with. They have a presence in, primarily, the Southeast. They're an established operator. We feel very good about gas and convenience as a continuing operation. It is certainly e-commerce-resistant, but most importantly, they're a great operator. This is a sale-leaseback that we have done in phases with Mountain Express. But I would be comfortable in saying that you won't see much more exposure to the credit in the overall portfolio.

[FrankLee:]

Okay. Great. And then kind of moving on to funding for future acquisitions. Given disposition activity so far post 1Q, should we expect asset sales to be a greater source of funding going forward?

[Mike Weil:]

We will be a net buyer, Frank, for starters. We have been a strategic -- we have used dispositions very strategically, primarily in the SunTrust portfolio where you'll see a nearly 200 basis points spread between where we sell a few of the strategic assets and where we can redeploy the capital based on our published pipeline. But yes, I do think that capital recycling is an advantage that AFIN has, and we'll continue to execute on it. End of Q&A

[Operator:]

I'm showing no more questions. I would like to turn the conference back over to Michael Weil for any closing remarks.

[Mike Weil:]

Great. Thank you. I do want to just let everybody know that in about an hour through August 8 of 2019, the call will be available for replay. Please call [phone] and reference conference number 10130789. We were very excited about the quarter just completed, and we look forward to talking to everybody with our results from the second quarter. Of course, if you have any questions, please feel free to reach out, and we look forward to talking to everybody soon. Thank you.

[Operator:]

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