Pennsylvania Real Estate Investment Trust
Q4 2018 Earnings Call Transcript

Published: 14 Feb 2019

[Operator:]

Good day. My name is Jack and I will be your conference operator for the call today. At this time, I'd like to welcome everyone to the PREIT Fourth Quarter 2018 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. Heather Crowell, Senior Vice President of Strategy and Communications, you may begin your conference.

[Heather Crowell:]

Thank you, Jack. Good morning and thank you all for joining us for PREIT's fourth quarter 2018 earnings call. During this call, we will make certain forward-looking statements within the meaning of federal securities laws. These statements relate to expectations, beliefs, projections, trends, and other matters that are not historical facts and are subject to risks and uncertainties that might affect future events or results. Descriptions of these risks are set forth in the company's SEC filings. Statements that PREIT makes today might be accurate only as of today February 14th, 2019, and PREIT makes no undertaking to update any such statements. Also certain non-GAAP measures will be discussed. PREIT has included reconciliations of such measures to the comparable GAAP measures in its earnings release and other documents filed with the SEC. Members of management on the call today are Joe Coradino, PREIT's Chairman and CEO; and Bob McCadden, our CFO. Before I turn the call over, I want to point out that we have incorporated new disclosure into our earnings release and supplemental in order to assist the analyst community in better understanding the company and bridging the gap between 2019 consensus FFO and our guidance. We will look to continue to enhance our best-in-class disclosures. Our same-store NOI guidance for 2019 excludes three properties two of which were previously included in our same-store pool. First, Wyoming Valley with two vacant anchors is expected to transition out of the portfolio as we are currently in discussions with the special services. Our guidance assumes this occurs toward the end of the second quarter. Second Valley View Mall is an asset with three anchor vacancies and non-recourse debt. We expect this asset will transition out of the portfolio at some point. Third at Exton Square Mall, we have completed Phase I of the redevelopment with the opening of Whole Foods and the sale of a land parcel to a multifamily developer as part of our densification effort. We are maintaining flexibility as we seek partners for future redevelopments. In addition to specific tenant assumptions, we have included a $3 million reserve for bankruptcies at the low end of our guidance. We are expecting $5 million to $10 million in land sale gains as we continue to harvest value of non-operating parcels in our densification initiative. We have assumed that lease termination revenue will be in the range of $2 million to $4 million with Fashion District opening late in the year and building towards stabilization we expect nominal 2019 FFO contribution after factoring in grand opening charges. This is forecasted to improve significantly as tenant openings continue in 2020. Our anchor repositionings are set to deliver $3.9 million in incremental 2019 NOI or approximately $0.05 a share.

[Joe Coradino:]

Heather thank you for outlining the roadmap to a strong 2019 and Happy Valentine's Day everybody. With core mall sales per square foot at $510 per square foot and core mall leased space at 96.9% and anchor repositioning behind us, we have completed the transition to an A-mall company. While 2019 is still a transition year from a FFO perspective, looking forward to 2020 and beyond, we expect to deliver significant improvements in FFO and FAD as we complete the pairing and strengthening of the portfolio. Last week, following our presentation of a multiyear business plan, our board approved our 168th consecutive dividend which we expect to maintain due to our outlook for 2020 and beyond. This factors in the $12 million we already have executed for future openings. We have Fashion District and Woodland Mall opening this year and marching towards stabilization. In 2020, we will have a full year impact of the repositioned anchor stores at Plymouth Meeting, Moorestown, Magnolia, Capital City and Valley Malls and we will add next year's components throughout our portfolio. As you know, the industry has been moving quickly and we believe we have established the first-mover advantage which has put us in a position to capitalize on the momentum we've created. Our disciplined approach to low-productivity asset sales, proactive department store reposition, coupled with our tenant diversification efforts has resulted in a quality portfolio with densification opportunities. Now let me point more clearly to what makes us different. We've listened to many of our peer company reports citing 20, 30, even 40 vacant department stores. We have no unleashed department stores in our core portfolio. Let me repeat that. We have none. This is because we've already replaced over a dozen stores in our portfolio with revenue coming on in 2019 and 2020. Further to this point, based on our conversations, we don't anticipate any JCPenney closings; we don't anticipate any JCPenney closings. We have among the lowest Sears exposure in the sector. We also have two of Macy's top 50 growth stores which is no small feat for a portfolio of our size. We have changed the definition of the mall and we're agile enough to stay at the forefront of this evolving landscape. Over 50% of the new leases we signed in 2018 were for diverse uses, not historically located in malls. Uses like fitness, entertainment, dining, sporting goods, arts and crafts, off price and co-working in addition to multifamily and hotel units. The results demonstrate the success of our approach and help to differentiate us. At properties where we had replaced anchors prior to this holiday season, traffic was notably up over 5% on average. Comp sales have grown as well with core portfolio sales at $510 per square foot, a breakthrough achievement. Our core same-store NOI guidance range of 1% to 2% is at the high end of our A-mall peer group. Furthermore, we've identified opportunities to add density to our assets and create mixed-use environments. We've closed on our first multifamily land sale in Exton, where units will be available for move in this year. And we signed an agreement at sale for our first hotel addition at Woodland Mall and are underway incorporating multifamily and hotels uses throughout the portfolio. We're at a key transition point, as a company that's navigated through headwinds and is generating increased traffic and sales from redevelopment and anchor repositionings. Without question, there are still challenges in the mall space. The leasing environment is challenging, but with the quality of our portfolio, it's manageable and we're up to the task. Since the beginning of the year, we've Gymboree, Things Remembered and Charlotte Russe file for bankruptcy protection. At the same time, we have a robust pipeline of executed leasers coming online. If we look back into our core portfolio, we have retained or re-leased 93% of the space from tenants that filed for bankruptcy over the past two years. Again, we have retained or re-leased 93% of the space from tenants that filed for bankruptcy over the past two years. This is the power of the portfolio we've created. Its noteworthy, that in spite of the power of our portfolio, we've taken a conservative approach and have incorporated a reserve in our guidance for potential future bankruptcies. We'll continue to work tirelessly to deliver new and differentiated uses to our properties, reducing our exposure to mature retailers that in many cases are overburdened with debt. But we are looking forward to a milestone mark 2019. The opening of our marquee project, Fashion District in Philadelphia, our hometown, the project is 85% committed, opening on 9/19/2019 with some exciting tenants including Round 1, Nike, City Winery, AMC, H&M and Ulta to name just a few. The grand reopening of Woodland Mall is also on the horizon. This project has been underway for two years and we're clearly solidifying our position as the premier destination in Grand Rapids. Along with Von Maur, we'll have Urban Outfitters, REI and BlackRock joining Altar'd State, Apple, North Face, Lush and many others. At Plymouth Meeting, we will cement the creation of a truly unique experience with the opening of five exciting tenants in the former mentioned box. DICK'S Sporting Goods, Burlington, Edge Fitness, Michael's and Miller's Ale House. This lineup really underscores the diversity in mall tenancy we've been curating and will drive significant traffic and sales to the property. At Valley Mall, we also have an unbelievable story that really speaks to our strengths. In less than two years, we will open four diverse uses in three former department store spaces. Yes, we've built three former department store spaces. We've incorporated Onelife Fitness, a full service fitness facility; Tilt, an entertainment destination and upgraded the department store offering with Belk's first store in the region. In 2020, we'll add DICK'S Sporting Goods to complete the project. Looking to the future, we're focused on FFO growth, managing liquidity, reducing leverage and having a defined path to get there. We have the liquidity to complete our redevelopment pipeline. We have new tenants coming online with improved credit quality with mitigated anchor risk and have high-quality densification opportunities with a relentless team of professionals focused on the mission. We have turned this company around and we're on the move. With that I'll turn it over to Bob.

[Bob McCadden:]

Thanks, Joe. Looking back on 2018 we've made significant progress in back selling vacant department stores and managing through retail bankruptcies that impacted our performance during the quarter and for the full year. We are pleased that our fundamental business metrics reflect the portfolio we have created with improving sales growth, traffic, leasing spreads and a strong pipeline of future leases. Let me touch on our operating results, review our capital plan and provide some additional details on our earnings guidance. We reported FFO as adjusted of $0.52, compared to $0.50 in the prior period after accounting for the dilution from asset sales. Same-store NOI growth was down 4.3% in the quarter, reflecting the impact to several factors including declined performance in the quarter at the two malls that will be removed from our same-store core portfolio in 2019. Excluding these properties, results would have improved by 140 basis points for the quarter and 50 basis points for the full year. We had contributions from anchor replacements of $0.4 million for the quarter, bringing the year-to-date total to $4.2 million. Total leased space in our core malls was 96.6% 140 basis points sequential improvement since the third quarter. We have over 648,000 square feet of executed leases in our pipeline for future openings in our same-store portfolio with 533,000 square feet opening this year, which will contribute $10.6 million of annualized revenues, much of this revenue will hit our P&L toward the back half of the year and the balance will open in 2020, contributing an incremental [Audio Gap] in the quarter at 10%. During the quarter, we recorded the previously announced $8.1 million gain on the sale of the multifamily parcel to Exton Square mall. Let me share some updates on our capital plan. During the quarter, we spent $50 million in redevelopments and department store replacements, bringing the total to $153 million for the year. In 2019 and into 2020, we expect to spend approximately $160 million on our announced and pipeline projects. We ended the year with $205 million of available liquidity more than sufficient to fund these projects. Based on completed initiatives and those underway, we will generate an additional $70 million of liquidity in the first half of the year. During 2018, we completed over $1.2 million of transactions from asset sales and refinancing activity. This includes the recast of our $400 million unsecured credit facility and a $300 million unsecured term loan. Our bank-leverage ratio increased marginally to 53% [ph] as we anticipated as we move closer to the completion of the previously outlined redevelopment spending. Our net debt to EBITDA at the end of the year is approximately 8.7 times. With 87% of our debt either fixed or swapped and no material debt maturities until 2021, we continue to be well-positioned to manage through a period of potentially rising interest rates. On a rolling 12-month basis, our FFO as adjusted payout ratio was 51, 54.1% and our FAD payout ratio was 95.5%. As Joe discussed we expect our payout ratios to normalize back to 2017 levels, as we move through this redevelopment phase and bring the associated revenue online. Last year, last night we furnished detailed guidance and our underlying assumptions for 2019. We expect FFO as adjusted per share to be between $1.20 and $1.34. Same-store NOI, excluding lease termination revenues, is expected to grow between 1% and 1.9%. Wholly-owned properties are expected to grow between 1.5% to 2.6%, with our joint venture properties declining between 2.7% and 2.4%. We've assumed lease termination fees between $2 million and $4 million, the $3 million at the mid-point. The impact of the new lease accounting standard will reduce FFO by $5.3 million or $0.07 per share as we are now required to expense leasing costs that were previously capitalized. We have assumed land sale gains of $5 million to $10 million from our densification initiatives. We expect corporate revenues to be lower at $1.1 million due to the sale of the Wiregrass note, which we closed on yesterday and the cessation of historic tax credit rate revenues among other items. We intend to un-encumber Capital City Mall by defeasing the $5.3 million mortgage loan before the end of the first quarter creating additional borrowing capacity under our credit facility. Capital City Mall has benefited from the 2017 replacement of Sears with Dick's Sporting Goods and the opening of Dave & Buster's in 2018. In connection with this transaction, we'll incur defeasance cost of $4.6 million. And with that we'll open it up for questions.

[Operator:]

Certainly. [Operator Instructions] Your first question comes from the line of DJ Busch with Green Street Advisors. Your line is open.

[Spenser Allaway:]

Thank you. Spenser on with DJ. I realize it's hard to peg the timing of divestments. But can you maybe just provide an update on your aim to execute on the land parcels, obviously outside of Exton? And then maybe just some commentary on the overall demand pool for these parcels?

[Joe Coradino:]

You're referring to the land, the multifamily land or the ...?

[Spenser Allaway:]

Yeah, so, yes, because you've communicated that you have identified prospects to kind of raise over $200 million and then a large proportion of that I believe is kind of pegged for the proceeds from land parcels.

[Joe Coradino:]

Yeah, I mean, at this point, we have robust interest in the land parcels. We've sold one already. We're moving to agreement on the second and third one in the near-term. We have a hotel under agreement, are negotiating an agreement on a second hotel deal. So, we see the pace of that to be relatively robust. We're also bringing the closure the two land parcels we have, one in Gainesville, Florida and one in Chester County outside of Pennsylvania, I mean outside of Philadelphia in the near-term. So in terms of the land sales, we're expecting that we will deliver about $70 million in the first half of the year.

[Spenser Allaway:]

Okay. That's helpful. And if I'm understanding you correctly, it sounds like a good portion of the demand is coming from kind of mixed use kind of buyers and developers?

[Joe Coradino:]

Sorry, could you ask that question again?

[Spenser Allaway:]

Yeah. So the – as far as like the demand pool is going for those land parcels it sounds like a good portion of that is coming from either mixed-used developers like you said hotel versus traditional retail concepts?

[Joe Coradino:]

Yeah, correct. It's primarily multifamily and hotels would be second to that. Retail while not out of the question would be more ancillary to those uses. It might be retail on the ground floor – might be retail on the ground floor or something of that sort, but clearly would not – the primary use for that land would not be retail.

[Spenser Allaway:]

Thank you.

[Operator:]

Your next question comes from the line of Christy McElroy with Citi. Your line is open.

[Katy McConnell:]

This is Katy McConnell on with Christy. Wondering, if you can just update us on the progress at Fashion District given the later stabilization timing and with the project 85% committed now where are you expecting occupancy to reach once it opens in the fall?

[Joe Coradino:]

Well, we're expecting – first off as it relates to the Fashion District. We're very excited we have the benefit of being about three blocks away and we have begun to build out tenant spaces et cetera. So it's a very exciting time for the project and there's a great deal of buzz around it. We're expecting that the project will open up on grand opening day 9/19 probably about 65%. And then, in before the year is out, we will open up another – a number of major retailers including the movie theater and Round 1 the combination of those two approaches 100,000 square feet in space – in total space that they would take which would be the entire top level of the project. And then it'll continue to be occupied until we reach 85% which should be in the first quarter to second quarter of 2020.

[Katy McConnell:]

Okay. Great. Thanks.

[Operator:]

Your next question comes from the line of Caitlin Burrows with Goldman Sachs. Your line is open.

[Caitlin Burrows:]

Hi. Good morning, guys. Maybe just sticking with Fashion District since you were just talking about it, could you give us any color in terms of – so you're planned to open in September but the NOI will take some time to come online. How capitalized interest impacts that does it all go away in September or does it go away over time as NOI comes on over time?

[Joe Coradino:]

Thanks for the question, Caitlin. I'm going to ask Bob to respond to that.

[Bob McCadden:]

Hi, Caitlin. Capitalized interest will come online in a trajectory similar to the way leasing comes online. So as spaces are commissioned if you will we'll stop capitalizing interest based on the percentage of GLA that's actually in use and occupied.

[Caitlin Burrows:]

Got it okay. And then I guess in the prepared remarks, you guys talked about, how you are focused on long-term FFO growth, reducing leverage having good liquidity. I guess, is there any further comment on that -- any -- is there anything you plan to do other than kind of natural growth based on the investments you made so far? I know you've talked about potential joint ventures in the past or any other kind of path to get there?

[Joe Coradino:]

Well clearly, the -- maximizing our liquidity and reducing our leverage are key initiatives for us. The land sales that we talked about is certainly a piece of that. We think the potential approach is $200 million for that. As we sit here today from a liquidity perspective, we do have capital in hand to pay the remaining $138 million in projects we've announced. We have about $205 million in liquidity. And look we continue to explore all options joint ventures aren't off the table. Any opportunity to improve our balance sheet both from a liquidity perspective, leverage perspective, debt to EBITDA we're exploring at this time.

[Caitlin Burrows:]

Okay. And then maybe one other. Looks like seasonally leased versus occupied is generally lower in 4Q, but looks like the leasing activity was also relatively low. So just wondering if that's a function of anchor replacements kind of being done to one of your points before? Or should we expect leasing volume to pick back up as we go through 2019?

[Bob McCadden:]

Caitlin I think if we look at the -- in the core malls, we're approaching -- we're not approaching, we're at 96% and on leased basis 96.6%. So to some extent, we're almost sold out if you will. And I think that's really borne out. I think one of the key things that we're looking at is last year we had about 3.9% of our core occupancy with temporary tenants. That's now down to 2.8% which I think reflects the fact that we're actually replacing kind of the short-term leases with permanent tenants. So we'll continue to see I think a strong level of leasing activity. But in the core portfolio, I think we're really approaching the point where we're now looking to improve the tenancy and rollover underperforming tenants and bring in better-performing tenants.

[Caitlin Burrows:]

Okay. Got it. Thanks.

[Operator:]

Your next question comes from the line of Karin Ford with MUFG Securities. Your line is open.

[Karin Ford:]

Hi. First just a question on Sears. Can you talk us through what impact if any there was from the bankruptcy on 4Q 2018 same-store NOI growth? What have you modeled into guidance for Sears? What type of impact for 2019 and is the bankruptcy reserve all Sears related?

[Joe Coradino:]

No, actually, it's not. Sears has really named all of our stores the store that will remain open. And again, we have a -- ESL has basically assumed all of our stores. We have a -- not a very significant Sears count at this point as I mentioned. And in a number of cases, we have tenants for those spaces, but at this point, it is our understanding that Sears will continue to operate those stores.

[Karin Ford:]

Okay, got it.

[Bob McCadden:]

Karin let me just add something to that. We did take a couple of hundred thousand dollar hit related to prepetition receivables related primarily unbilled real estate taxes in the fourth quarter. So that did impact our results.

[Karin Ford:]

Okay. Next question is just on the 2018 guidance. You mentioned the two properties that are no longer in same-store that I think you said deteriorated a little more than you expected. Was there anything else that was different than your expectations that drove the miss versus the low end of your guidance? And are you doing anything differently in your guidance forecasting technique for this year?

[Bob McCadden:]

So one of the big driver is that we -- if we look back at our misses, we had a couple of things. We did have to take a -- about $200000 charge for post-December 2018's bankruptcies. Charlotte Russe, we wrote-off some straight-line rent receivables for some of the stores that they've identified they're going to be closing in our portfolio. That's one of the items obviously the impact of the Sears unbilled amounts that we also reserved and we also had a miss on our common area of revenues. And that tends to be -- a lot of decisions are made for those late in the cycle and we had a very strong year-end at the end of the 2017. We thought we could repeat that, but unfortunately we're not able to close on a couple of big transactions that we had anticipated. So that was -- they're basically the key factors for the miss versus the third quarter guidance.

[Joe Coradino:]

And as it relates to doing things differently, we've taken a hard look at our common area of revenue and actually believe that we can outperform what we had done in previous years based on just approaching it differently in a number of ways. So we've looked at leasing our partnership marketing, our specialty leasing and been very deliberate about our -- putting it in our numbers for this year. And we have a comfort level that we can deliver the guidance that we've outlined.

[Karin Ford:]

Okay. Thanks for the additional disclosure as well. My last question is just on the alternative uses and other uses that you've talked about multifamily and hotel. Do you think there are any opportunities for a mall conversion into creative office, I love what Macerich is doing at Westside Pavilion at any of your properties?

[Joe Coradino:]

Well we actually have done a co-working facility at Cherry Hill with 1776 and will -- are working on several other similar transactions. I don't think there's an opportunity with our portfolio to lease an entire mall to an office tenant or a co-working facility because as Bob pointed out in our core portfolio, we're 96% leased. That's a good thing.

[Karin Ford:]

Got it, thanks very much.

[Operator:]

Your next question comes from the line of Michael Mueller with JPMorgan. Your line is open.

[Michael Mueller:]

Hi, thanks. So just curious I know you have positive same-store NOI outlook and there is some one-time items in the numbers like the diffusions cost, which were smaller and stuff. But if you strip the gain out, I mean, the number is within a high one-teens the $1.20 or so, and they were talking about leasing momentum and everything else. I mean, when do you think that FFO bottom line earnings growth for deceleration just stops and flattens out. I know you're talking about shoring up the balance sheet, delevering a little bit more, should we think of that as that this one-teens number x gains may not be the bottom? Or just how are you thinking about bottom line earnings big picture over the next two years?

[Bob McCadden:]

Yes. Michael based on our expectations, we feel very strong as Joe mentioned that we have most of the disruption from the anchor replacement behind us. And given the pipeline of commitments that we have in terms of signed leases, it certainly -- what we did provide some additional disclosure on our supplemental, which is basically the percentage of revenue for each of the redevelopments that we have that's actually committed as of the end of this year. So we expect 2019 to really be the trough and really built on that as -- with the openings of Fashion District and all the anchor replacements in the third and fourth quarter this year really providing the spring board for growth in 2020 and further growth in 2021.

[Michael Mueller:]

And would that actually reflect the...

[Joe Coradino:]

I think that's a -- go ahead, Michael. I'm Sorry.

[Michael Mueller:]

No. I was just going to say would that reflect -- does the comment reflect the idea of delevering a little bit more as well? So is it naturally delevering as NOI comes on? Or you're thinking about a little bit more in the asset sales side, which could be dilutive in kind of where our number, I mean, how should we take the delevering comment?

[Joe Coradino:]

Well, the delevering comment, the major thing I spoke about was land sales, which are not income generating, which would not have a dilutive effect. And again, we think we have a significant amount of value in that -- in those properties that are -- where you could build residential or hotel at our properties. I think also one of the things that you -- in terms of this bottoming out and moving forward from here, I think when you hear things in terms of the sales growth we've experienced. When you hear things like the renewal spreads that we're achieving. And when you hear the kind of 93% of bankrupt tenants, we either retain or release in our portfolio. I think it speaks to the quality we've created. I mean, look we've taken a lot of hits as a result of meaning to get lower-quality assets of our -- out of our portfolio. And what remains, say the couple of assets and we've talked about the disposition plan for those. What remains is properties that where as a high degree of interest they're located in dense trade areas, and we're securing tenants that are pretty impressive better credit, better sales drive better traffic, et cetera, all of that I think makes up the fact that we're headed north from here.

[Michael Mueller:]

Yes. I mean, it just seems like there is -- I see the positive same-store NOI guide, it just seems like there's a lot of leakage out of that, which is taking numbers is down from the I don't know whatever $1.50 is down to pick a number minus some noise in it this year. Does it feel like that putting the same-store aside that those headwinds the non-same store headwinds, does it feel like those will subside as well? You feel pretty good about that after 2019?

[Joe Coradino:]

Yes I mean what, we feel very good about everything going forward. I mean we'll deliver $12 million in sort of the queue of leases that will move into our properties plus FDP right? Plus FDP. And that's going to make a huge difference in terms of our company both the quality of it, the scale of it, when we stabilize FDP we'll be about the size from an NOI perspective that we were before we sold for first asset, our first property of the 17 that we sold. So we're optimistic as we look forward, highly optimistic and we think we have the ability to grow from here.

[Michael Mueller:]

Okay. That was it. Thank you.

[Operator:]

Your next question comes from the line of Ki Bin Kim with SunTrust. Your line is open.

[Ki Bin Kim:]

So you guys did a good job outlining the moving parts from 2018 to 2019 guidance. There's about $20 million of FFO delta. What portion of this do you think is temporary or that we can expect a reversal as we get into 2020?

[Bob McCadden:]

So Ki Bin, if you kind of look at the way we kind of laid some of this out 2018 was a special year in terms of the size of some of the lease terminations that we had. That was about -- but you return back to state of normalcy, we think we're probably in the kind of $2 million to $4 million range based on kind of historical level. So that would account for about $0.13 of the change from $1.54 at the midpoint to a $1.27 which is probably the biggest driver, right. So I think when we look at what we're guiding to in 2019 is probably more reflective of our ongoing run rate. Obviously the change in lease accounting is a one-timer that is, we've always paid those leasing salaries, it's just a matter of how it's reported. So that's about $0.07 of the change. Again that will be permanent, but it's only an accounting change. It doesn't reflect our cash flow or ability to -- and in fact use our cash flow to generate additional incremental revenues. The corporate revenue piece it's -- we burned off the historic tax credits, we sold the mortgage that we took back in conjuncture with one of the property sales. So those again are getting us back to a more normalized level of operations. I mean to some extent what you're really seeing here is kind of the cleaning up and simplifying of the business. We're selling of land parcels that were acquired more than a decade ago. So we're really going to reestablish, I think in 2019 the PREIT that you'll see going forward with not a lot of noise a lot cleaner presentation of our operating performance and fewer the -- fewer of the kind of noncore business distractions that we may have had over the last decade or so.

[Joe Coradino:]

I sort of look at it, as we've been working out all these years now we're fit and ready to go.

[Ki Bin Kim:]

All right. And maybe I missed this, but what was the drag at Exton Square Mall and why was that removed from the same-store pool?

[Joe Coradino:]

At Exton Square, it's a property that we've always -- it's a phenomenal piece of real estate. sits at the intersection of Route 100 and Route 30 in Exton, in Chester County, the fastest-growing county in the state. And it's been impacted over the years by King of Prussia and other competitive assets. We did the Whole Foods deal. We think that was an important addition that's something that we're, we've brought to the market for sale. And had a great deal of interest in it, I believe 27 people submitted a bid. We also did the sale of the multi-family parcel at the Hanover. And I think going forward, it's a property that in the longer term probably doesn't want to be a mall, and we're trying to sort through our options at this point, which could include moving the asset out of the company, it could include a joint venture. So, we'll get a number of options with that. And it didn't seem like a property that ought to be sitting in our core assets.

[Ki Bin Kim:]

Okay. And it's an accounting question. Wyoming Mall and Valley View, I understand those are probably going back to the lenders, but is the interest payments currently being covered? The reason I ask that is that I'm trying to see if there is a benefit once you actually give it back to a lender on the interest expense savings versus the, as a full year may be booking or not booking.

[A –Bob McCadden:]

Both of these assets are currently generating cash flow to service their interest payments.

[Ki Bin Kim:]

Okay. And one more question on the expense reimbursements. It fell to 73.5% from 79% a year ago. I'm just curious is, are we resetting the expectations for reimbursement levels for Pen REIT, or is there something temporary in nature where we should just, basically model a recovery in that expense recovery ratio?

[Bob McCadden:]

A couple of things impacting our fourth quarter of 2010. One is that included the reimbursements are reimbursement for utilities that our tenants pay. And we've effectively purchased certain of our properties where we have kind of a central distribution system. In fact, we buy electricity and resell it to our tenants at kind of published rates and we saw a compression of margins of about $0.5 million this year in the fourth quarter. That was a combination of both overall less consumption by our tenants, as well as rates not keeping up with the cost. There tends to be a lag when energy cost increase and by the time to get, those rate get passed through from the Public Utilities Commission so that's part of what you see is a decrease. The second thing is in 2017 in the fourth quarter, we completed a successful real estate tax appeal at Springfield Town Center, it actually was only for 2018 period. So you saw a lot that benefit roll through in the prior year and again when you're comping 2018 to 2017, we're experiencing negative impact of that. So, you're probably somewhere between those of two numbers in terms of ongoing run rate, once you factor in those kind of one-time items.

[Ki Bin Kim:]

I see, so, you're saying it's a little bit more one-time in nature the decrease in 4Q not really a statement about the lease negotiations and the tenants' willingness to kind of bear the reimbursement rates?

[Bob McCadden:]

That's correct. Not at all a reflection of a, the new world of negotiating. The world hasn't changed that much.

[Ki Bin Kim:]

Okay. All right. Thank you.

[Bob McCadden:]

Thank you.

[Operator:]

Okay. Your next question comes from the line of Merrill Ross with Boenning Incorporated. Your line is open.

[Merrill Boenning:]

I have two questions. One's relatively minor. In Ascena Retail's last – most recent quarter conference call they indicated that they were looking for $60 million in lease concessions by July of 2019. They're relatively minor tenant 1.4%. But are you conceiving rent to them or to any other tenant?

[Joe Coradino:]

I'm sorry could you repeat that? Who was the tenant?

[Merrill Ross:]

Ascena. And it's Ann Taylor.

[Joe Coradino:]

Okay. Sure. I mean our transaction with Ascena is complete and we won't have – and we did it through 2019 and we won't have any negotiations discussions with Ascena until the 20 rollovers.

[Merrill Ross:]

Excellent. The other question it's great that JCPenney says there is no closings in your footprint. But does it make sense to you to be proactive as you were with Sears in case they're repositioning and eliminating appliances et cetera fails?

[Joe Coradino:]

Well, I'm not convinced that there – in fact I am convinced that there is room for a department store like JCPenney in the mall environment. I think that I am pleased that there is someone at the helm who has a parallel experience. I am pleased that they are questioning -- they're actually questioning the appliance/furniture inclusion in the store. And I'm not suggesting I know the outcome but we were down talking to them a week before last. And so I don't think given the performance of JCPenney in our properties given the fact that they seem to have gotten their customer back, all right? And I don't think I feel it's time to begin being proactive and replacing JCPenney's.

[Merrill Ross:]

Well, thank you. That makes sense, right. I hope it works – its a pretty large exposure. So that this stores are productive – certainly it have a higher and better use.

[Operator:]

Your next question comes from the line of Caitlin Burrows with Goldman Sachs. Your line is open.

[Caitlin Burrows:]

Hi, again. I just had a few follow-ups. First, I was just wondering if you could talk again on Capital City I think you said you're planning to unencumber that. So just wondering what the source is and – well, I guess I know these what's the source is there?

[Bob McCadden:]

So effectively the source will be borrowings under our credit facility. By un-encumbering Capital City and paying off the existing mortgage it will create roughly $40 million of additional borrowing capacity above the debt balance that we're paying off, because we effectively Capital City has a debt – your current debt yield much higher than the 11% that we have under our credit facility. So effectively by un-encumbering it we'll create additional borrowing capacity more than enough to repay the loan and provide additional – again additional borrowing capacity more than enough to repay the loan and provide additional -- again additional borrowing capacity to us.

[Caitlin Burrows:]

Got it okay. And then before you mentioned that at year-end you were at 8.7 times debt to EBITDA. I was just wondering if you could clarify what EBITDA that was on? Was it calendar year 2018 last 12 months or next 12 months?

[Bob McCadden:]

Last 12 months.

[Caitlin Burrows:]

Got it. And then just a last one wanted to ask on the dividend and the coverage ratio. The supplement shows the FAD payout ratio of 95.5% as of 2018. So just with the good guided earnings decline for 2019 seems like it will go above 100%. So just wondering, how do you plan to bridge that gap and is it the land sales?

[Bob McCadden:]

Yes, I think it'll -- it goes modestly above 100% in 2019. But we expect in 2020 and 2021 to get back to levels that are comparable to where we were in 2017 probably in the high-80% range.

[Joe Coradino:]

Yes, so we have a comfort level with the dividend.

[Caitlin Burrows:]

Okay. Got it. Thank you.

[Operator:]

Your next question comes from the line of Christy McElroy with Citi. Your line is open.

[Michael Bilerman:]

It's Bilerman speaking. I mean, your FFO has gone up from $1.90 in 2016. You're probably mid-20s, $1.20s this year all right which means your AFFO's probably gone from $1.25 to somewhere in the $0.60 to $0.70 range. Why do you have comfort with the dividend? Why wouldn't you rightsize the dividend to your actual cash flow to a payout ratio that back in 2016 made sense. Your leverage is too high, you have other issues that may come about. And I understand your optimism, but why bleed cash at all? Put the dividend at a level that makes sense relative to cash flows that you can retain it. Or pay the dividend in stock. Like -- I mean, literally your FFO has gone from $1.90 to mid-$1.20 in three years and let alone what could happen whether this guidance is conservative enough for the retail environment that's happening.

[Joe Coradino:]

So is there a question in there?

[Michael Bilerman:]

Yes, why? I mean, if I go back to our conversations in 2015 and 2016 the payout ratio was lower, right? You had some free cash flow that was there. You're going to be way overpaying the dividend this year. Why not take the opportunity today, you're not getting credit in your stock conserve cash, it's still a highly uncertain retail environment. Why wouldn't you rightsize the dividend to your cash flow that has gone down by like...

[Joe Coradino:]

Tell me when you're done the question.

[Michael Bilerman:]

I'm done. I'm done.

[Joe Coradino:]

Okay. We think the dividend is naturally going to rightsize in the near term. So that's the answer why we don't want to do it right now and I think in -- and I think its something that we feel comfortable with.

[Michael Bilerman:]

But Joe, your dividend is $0.84, okay? Your FAD this year is probably going to be in the $0.65, $0.77 zip code, right? You would need FFO in 2022 to go up by $0.20 just to get to 100% payout ratio. I mean, those are pretty elevated expectations. So unless you can help us understand the run rate maybe coming out of where your quarterly run rate is going to be at the end of the year or where 2020 FFO is going to be, this is going to be a hangover, either overfunding the dividend or just needing it for an extended period of time.

[Bob McCadden:]

Mike, I think the question was raised by someone else. I think that some of that will be bridged through proceeds from land sales.

[Michael Bilerman:]

Okay, thank you.

[Operator:]

Your next question comes from the line of Ki Bin Kim with SunTrust. Your line is open.

[Ki Bin Kim:]

Thanks. Just a couple of quick ones. Did you say your BK reserve -- industry reserve was $2 million or $3 million? Because I do see $2 million as supplemental, but that might just be the delta year-over-year?

[Joe Coradino:]

Its $2 million, $2.25 million at the midpoint and $3 million at the low end.

[Ki Bin Kim:]

Okay. Just curious, how did you come up with that number? I mean I look at your top 10 tenants, there is -- if not abnormal number of tenants like what we consider at risk all over 100 basis points of AVR. I'm just curious if that reserve is enough.

[Bob McCadden:]

I mean we come up with it. If we look at as an ongoing part of our tenant-relationship management, we're always looking at occupancy costs as it relates to tenant sales performance at individual properties. And typically unrelated to the BK reserve process, we're -- as our -- we set forth in our upcoming budget cycle, we usually make assumptions relative if we have expirations or sales kick outs or any other factor make adjustments to appropriately bring those occupancy costs down or adjust them to an appropriate level. So we feel pretty good about where we are with the portfolio management and the BK reserve is really for things that are outside of our control. A tenant decides irrespective of how they're performing in our portfolio that they need to restructure. And ultimately that BK reserve really covers -- it's really for almost liquidations, right, if you think about it. So we've already incorporated some of that potential downside in our leasing assumptions then the only risk that we have to that is the tenant basically liquidates his portfolio and we lose that revenue until we can relet the space.

[Ki Bin Kim:]

Okay. And Joe, when you said you have no exposure -- downside risk exposure to JCPenney closing stores, is that just based on your conversations with them and about their immediate store closure plans? Or is that based on looking at the operating fundamentals of the existing stores and knowing that they're NPV positive to JCPenney?

[Joe Coradino:]

Both.

[Ki Bin Kim:]

Okay, all right, thank you.

[Joe Coradino:]

You’re welcome.

[Operator:]

There are no further questions at this time. I would now like to turn the call back over to Joe Cordi for closing remarks.

[Joe Coradino:]

Well thank you for being on our call today. Before we go, we sit on these calls and we discuss small handful of troubled tenants out there. But I'd like to read you another list of tenants that populate our expanding A-mall portfolio. Apple, Nordstrom, Bloomingdale's, Von Maur, Belk, Capital Grille, Yard House, Dave & Buster’s, City Winery, HomeGoods, HomeSense, Cheesecake Factory, REI, Altar'd State, Peloton, Sephora and Urban Outfitters. The point is, we have new tenants coming online with improved credit quality. We have mitigated for anchor risk and we have a high-quality densification opportunity and we've turned this company around and are on the move. Thank you very much. We'll see some of you in a couple of weeks.

[Operator:]

This concludes today's conference call. We thank you for your participation. You may now disconnect.