Industrial Logistics Properties Trust
Q4 2018 Earnings Call Transcript

Published: 20 Feb 2019

[Operator:]

Good morning, and welcome to the Industrial Logistics Properties Trust Fourth Quarter 2018 Financial Results Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Olivia Snyder, Manager of Investor Relations. Please go ahead.

[Olivia Snyder:]

Thank you, and good morning, everyone. Thanks for joining us today. With me on the call are ILPT's President, John Murray; and Chief Financial Officer, Rick Siedel. In just a moment, they will provide details about our business and our performance for the fourth quarter of 2018. We will then open the call to your questions. First, I would like to note that recording and retransmission of today's conference call is prohibited without the prior written consent of the company. Also, note that today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other securities laws. These forward-looking statements are based on ILPT's beliefs and expectations as of today, Wednesday, February 20, 2019, and actual results may differ materially from those that we project. The company undertakes no obligation to revise or publicly release the results of any revision to the forward-looking statements made in today's conference call. Additional information concerning factors that could cause those differences is contained in our filings with the Securities and Exchange Commission or SEC, which can be accessed from our website ILPTreit.com or the SEC website Investors are cautioned not to place undue reliance upon any forward-looking statements. In addition, we will be discussing non-GAAP numbers during this call including normalized fund from operations or normalize FFO and cash base net operating income or cash basis NOI. A reconciliation of these non-GAAP figures to net income in the components to calculate cash available for distribution or CAD are available in our supplemental operating and financial data package which also can be found on our website. And now, I will turn the call over to John.

[John Popeo:]

Thank you, Olivia. Good morning, everyone and welcome to the fourth quarter earnings call for Industrial Logistics Properties Trust or ILPT. This is my first earnings call as President of ILPT. I'm enthusiastic about the outlook for this company and our opportunities to create value for our shareholders. This morning, we reported fourth quarter normalized FFO of $25.9 million or $0.40 per share. As of the end of the fourth quarter, ILPTs portfolio consisted of 270 primarily warehouse and distribution properties with 29.5 million square feet located in 26 states. Approximately 58% of ILPTs annualized revenues came from 16.8 million square feet of industrial land located on the island of Oahu in Hawaii. Our Mainland portfolio consisted of 44 buildings 12.7 million square feet located in 25 states that were a 100% leased with an average lease term for approximately eight years as of quarter end. During the fourth quarter, we continue to execute on our business plan with strong leasing activity in Mainland acquisitions. We entered new and renewal leases and completed rent resets for a total of approximately 1.9 million square feet. Rents that were 23.7% higher than prior rents for the same space. The average lease term for new and renewal leases was 14.4 years and leasing capital per square foot per lease year was $0.06. Including rent resets, leasing capital per square foot per lease year was approximately $0.01. Portfolio occupancy as at the end of the fourth quarter was 99.3%, unchanged from last quarter and down from 99.9% for the prior year. We have no near-term lease expirations on the mainland with only 0.3% of total annualized rents expiring this year, and less than 2% expiring by the end of 2020. Moving to Hawaii, we have 478,000 square feet of leases for $1.9 million of total annualized rent scheduled to expire during 2019, in addition to 1.8 million square feet for $5.9 million of annualized rent that is scheduled to reset. Nearly 50% of our Hawaii leases mark to market either through a rent resets or as leases roll over the next five years. We continue to be encouraged by our leasing results and our expectation is that rents will continue to increase in Hawaii due to the unique characteristics of these properties. Moving on to acquisitions, as previously discussed during the fourth quarter, we acquired one property in Maple Grove, Minnesota and one land parcel and Ankeny Iowa both of which were discussed in detail on our third quarter earnings call. Since year end, we have remained active and recently announced the 10-year $650 million mortgage financing on a portfolio of Hawaii properties which Rick will discuss in a few minutes, as well as two large portfolios of acquisitions. Last week, we agreed to acquire a portfolio of eight properties, with an aggregate of approximately 4.2 million square feet for a purchase price of $280 million at a GAAP cap rate of 6% and the current cash cap rate of 5.8%. We have closed on seven of the eight properties. One is still in due diligence but expected to close in the next 60 days. This portfolio is located in the Indianapolis and Cincinnati market areas is 100% leased to 10 tenants and has a weighted average remaining lease term of 4.4 years weighted average building age of 13 years and a weighted average clear height of 34 feet. Approximately 59% of annualized rental revenue from this portfolio is paid by investment grade tenants, including Amazon, Whirlpool, Cummins, and Stanley Black and Decker. Last week, we also entered into an agreement to acquire portfolio of 18 properties with an aggregate of approximately 8.7 million square feet for a purchase price of $625.3 million at a GAAP cap rate of 6.4% and the current cash cap rate of 5.9%. This portfolio is located in 12 states, is 100% leased to 13 tenants and has a weighted average remaining lease term of 9.4 years, a weighted average building age of nine years and a weighted average clear height of 33 feet. Approximately 74% of annualized rental revenues from this portfolio is paid by investment grade rated tenants including Amazon, Procter & Gamble, UPS and FedEx. This acquisition is expected to close in the next 60 days. I think Rick will note this again in his comments, but over 70% of the purchase price of these two portfolio transactions was or will be funded with proceeds of a $650 million loan that effectively unlocked some of the hidden value in a Hawaii industrial land. Including these two portfolios, we have acquired over $1 billion of high-quality industrial properties since our IPO last January. We remain confident that demand for our properties will continue to be supported by the growth of e-commerce and logistics industries and the strength of the nation-wide industrial market. I'll now turn the call over to Rick Siedel to provide details on this quarter's financial results.

[Richard Siedel:]

Thanks, John, and good morning, everyone. Normalized FFO for the fourth quarter of 2018 was $25.9 million or $0.40 per share. Adjusted EBITDA for the quarter was $30.9 million. Our quarterly dividend of $0.33 per share continued to be well covered with the comfortable payout ratio of 82.5%. Total revenues for the fourth quarter of 2018 increased by $2.7 million, to $42.1 million, representing a 6.8% increase over prior year results. This increase primarily reflects our acquisition activity as well as lease renewals and rent resets at our Hawaii properties. Same property cash NOI increased by 1.2% over the prior year, primarily as a result of contractual rent increases and leasing activity across the portfolio partially offset by increased non-recoverable expenses which included rent reserves for our Hawaii tenant [Indiscernible] along with real estate taxes and security cost. General and administrative expenses for the fourth quarter totaled $2.9 million or just under 20 basis points of our total assets as of year-end, which was substantially lower than the year ago quarter, which included costs related to preparing the company's go public. Our recurring capital expenditures for the quarter totaled $3.4 million. The majority of these expenditures were leasing capital specifically tenant improvements that we will recover over the lease term and lease commissions related to a Mainland lease extension. We finished the year with $413 million outstanding on our revolver resulting in debt-to-EBITDA of 3.7 times. As John briefly mentioned earlier, on January 29, we announced the 10-year $650 million mortgage financing at 4.31% on a select portfolio of a 186 of Hawaii properties containing an aggregate of a people 9.6 million square feet or about 57% of our total square footage in Hawaii. The properties are almost all situated between the Honolulu Central Business District, the airport and the seaport. The loan was financed at around 45% loan-to-value based on the appraised value of more than $1.4 billion. The net book value of these properties on our balance sheet was less than $500 million at year-end signaling the tremendous growth and value of this portfolio since it was acquired in 2003. We believe this transaction highlights the underappreciated value and quality of our Hawaiian assets and provides us with low cost fixed rate capital to fund the external growth John discussed. Proceeds from the mortgage were used to repay all outstanding borrowings under our $750 million unsecured revolving credit facility as well as to partially fund the portfolio acquisitions John discussed earlier. In the few days since we announced the two recent acquisition agreements, we have heard investor concerns about our leverage level and fear about equity issuances or asset sales. We do not plan to run at this leverage level forever, but we are comfortable with it at this level because we have stable, predictable and growing cash flows and a well-covered dividend. We may in the future seek an investment grade rating, but ILPT is still a new company and relatively small versus its peers. We don't plan to seek an investment grade rating in 2019 and accordingly are comfortable with higher leverage levels which will allow for greater accretion and more flexibility to increase our dividend once the transaction is closed. One last thing to mention before Q&A. we want to remind everyone that shortly before year-end, select income REIT distributed all 45 million shares of ILPT that it owned to its shareholders. We are optimistic with the elimination of a 70% controlling shareholder and the related significant increase in our public flows, ILPT may begin to trade at multiples more in line with our industrial REIT peers. That concludes our prepared remarks. Operator, we're now ready to take questions.

[Operator:]

[Operator instructions] Our first question comes from Bryan Maher with B Riley FBR. Please go ahead.

[Bryan Maher:]

Good morning. Couple of quick questions. You know, in the back of the supplemental, you do have the list of all the properties that ILPT has. When might we get the list of the properties that are being acquired here in the first quarter?

[John Popeo:]

Bryan, we would typically plan to file that with the next supplemental, but we will be filing 8-K with the purchase agreement. I'm trying to think if the list is included in the agreements, I believe it is, but we'll get that information out there.

[Bryan Maher:]

That'd be great. Because that's one of the biggest questions I've been getting from investors is what exactly did you buy? The second question I have is how would those property sourced was it brokered or how do you just come across that?

[Richard Siedel:]

The 8 property $280 million transaction came through brokers, the CCIT to 18 property acquisition was privately sourced. It was an off-market transaction.

[Bryan Maher:]

And then suffice it to say, given your comments on investor concerns that have been related to you, as it relates to leverage at this point in time, should we expect a material slowdown in acquisition activity for at least the next couple of quarters while you digest these transactions and leverage comes down a bit? How should we think about that for modeling purposes?

[John Popeo:]

Yeah, I think, we were opportunistic, we had raised a substantial amount of debt capital through the loan on the Hawaii properties. One of the transactions came to our attention in the early stages of that financing. And so, you know, we didn't - we weren't planning to do this volume of acquisitions as quickly as it turned out that we did. So, I think it's reasonable to expect that we'll see very little in the way of acquisition additional acquisitions from us for the next couple of quarters, we'll be focused on getting these properties only seven of the eight and one portfolio closed, and the others are will close in the next month or two. So, we're going to be focused on that and not as not as much on acquisition activity.

[Bryan Maher:]

And then just lastly, when you think about the split with the company between Hawaii and Mainland whether you want to look at it as NOI or annual revenues. How are you guys looking at that split between pre-these two acquisitions and post these to transact transactions and should we continue to expect future transactions being predominantly if not all, Mainland?

[John Popeo:]

Bryan, I would say the easiest way to look at it before we've fully integrated the properties and filed the performance related to it and everything else is probably revenue. And we're essentially expecting a bit of a flip. I think we've got it just under 60% will be Mainland as compared to where we were previously with 60% in Hawaii. We would love to buy more properties in Hawaii, it's a market we know well, it's a strong market, but there is not a lot of ground that comes up for sale. So, for that reason, we've expected - we've always expected most of our acquisition opportunities to come on the Mainland and we are just as excited about Mainland opportunities because again, the long-term trends and e commerce we think are fantastic and they are going to drive rents higher for industrial space. The one other thing I would say just about the properties that we've added. We've always said that our Hawaii properties were incredibly secure, because of the structure of the ground leases. And even though we've increased our exposure to Mainland, we've picked up a bunch of really great credit quality tenants. So, our percentage of investment grade on the Mainland goes up after these acquisitions from around 49 to around 59%. So, we've upgraded the credit quality of our Mainland tenants. And overall when you factor in the Hawaii lease land and all the investment grade rated tenants and subs investment grade rate of tenants. Our overall portfolio only changes about 1% or so. So, from 73.5 to 72 in change. So, overall, we didn't really dilute the credit quality at all, which is tough when you factor in how strong of Hawaii properties are. So overall, we feel really good about portfolio and are excited to see it grow.

[Bryan Maher:]

Thank you. That's all for me.

[Operator:]

[Operator Instructions] The next question comes from Michael Carroll with RBC Capital Markets. Please go ahead.

[Michael Carroll:]

Thanks. Can you guys talk a little bit about how you plan on delevering the balance sheet, I know that you said you're comfortable with these levels here in the near future. But how long you really in around these levels and what's the plans to get leverage back down to your target about 65?

[John Popeo:]

Sure. We really don't feel like there is any special pressure to delever quickly. We think that as the value of these two portfolios is demonstrated and the additional cash flow becomes evident that we're hopeful that our share price will appreciate. But we could wait until next year before thinking about the delevering. In the meantime, we're generating a lot of cash flow, I think probably the portfolio would naturally delever itself with no real capital raises in three or four years. So, we think that there are opportunities, we think there was a lot of unlock value in the Hawaii portfolio, which we unlocked in the secured financing that we did earlier. We think there may be opportunities if the share price doesn't react positively over time that there - we have a lot of very high-quality Mainland properties and we could access equity through potential joint venture opportunities or structures like that. So - but we're not actively engaged with anybody to evaluate that because, right now the focus is on getting these two transactions closed and focusing on the balance of the year with - and where our dividend goes.

[Michael Carroll:]

And are you willing to sit on those sidelines, not deploying any additional capital and acquisitions until you bring leverage a little bit lower, is that kind of the plan right now and letting that cash flow to delever you balance sheet?

[Richard Siedel:]

I mean we'll always keep an eye on the acquisitions market, and I think if we saw something that was too much to pass up that never say never on completely shutting down. But I don't expect that you'll see acquisitions from us for the next couple of quarters at least. And so, I'd say, yes, we are comfortable with that. I mean we've - I mean the initial reactions from some investors were that this is too much growth too fast. So, it's a little bit surprising that you wonder if we can hold back now. But I think that - yes, we need to focus on getting these two transactions closed and absorbed into our portfolio. So, and we're comfortable doing that. It's been more than 50% growth of our asset base, so I think that that's pretty substantial amount of growth. So, I don't think anyone would fault us if we don't have additional acquisitions this year.

[Michael Carroll:]

And then at what point do you pursue a joint venture? Is that a few quarters down the road, if you don't see the stock price react the way you want, do you start those discussions in the next few quarters or when does that happen,

[John Popeo:]

We don't have a specific plan yet. So, it's probably too early to answer that question. But I think we wouldn't probably get going on that type of a possibility for a couple of quarters. And my guess it would be, several quarters a year before something like that came to fruition. If it's an avenue, we actually go down.

[Michael Carroll:]

Okay. And then can you provide some color on the Hawaiian lease renewal that occurred in the fourth quarter. I'm assuming that was an early renewal from the 2019 expiration. And if that's the case, when does that lease actually come in?

[Richard Siedel:]

The leasing activity this quarter, it did include a fairly large parcel out in the Campbell Estate or the Western properties there. I think that was effective January 1st. So, we'll see the rollup immediately.

[Michael Carroll:]

Okay. And then Rick, can you provide an update on American Tire Distributors? I think that processes played out, I'm assuming all your leases have been affirmed. Is that correct?

[Richard Siedel:]

That is correct. So, they lease five properties from us. They were one of our larger tenants it's about 3% of annualized rents. They again filed the pre-packed bankruptcy, they did a debt to equity swap, and they've assumed all five of our leases. So, we feel pretty good about it. They've remained current on rent. And again, it worked out kind of the way we hoped it would.

[Michael Carroll:]

Okay, great. And then how much term do you have left on those leases?

[Richard Siedel:]

There's a fair amount of term left, I believe. I don't have it in front of me. Last quarter, I was prepped on all of that stuff and had gone property-by-property. But now that it's much less of a focus, I don't recall off the top of my head. But there is still a good amount of turn left and they're all in strong market. I believe our team thought we could possibly roll up rents if we needed to re-tenant them. So again, we feel really, really good about those properties.

[Michael Carroll:]

Okay, great. Thank you.

[Operator:]

This concludes our question and answer session. I would like to turn the conference back over to John for any closing remarks.

[John Popeo:]

Thank you. We're very pleased with our financing in Hawaii that highlights and unlocks the value and quality of these unique assets. And we look forward to the meaningful earnings impact from our latest acquisitions and future quarters. Thank you everyone for joining today's call.

[Operator:]

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