Q2 2020 Essential Properties Realty Trust Inc Earnings Call

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Good day and welcome to the Central properties Realty trusts second quarter 2020 earnings call currently all phone lines or to listen only mode. Later there'll be an opportunity to ask questions. During a question answer session. You may registered to ask a question that anytime by pressing the Star then one on your Touchtone phone. It is now my pleasure to turn the program.

I'm over to Mr., Dan Donlan, you may begin.

Thank you operator, and good morning, everyone. We appreciate you joining us today for essential properties second quarter 2020 conference call here with me today to discuss our second quarter results are Pete Mavoides, our president and CEO CEO, Gregg Seibert, our COO and Antidoping, our interim CFO. During this call will make certain standards that maybe considered forward looking Steve.

That is under federal Securities law, the company's actual future results may differ significantly from the matters discussed in these forward looking statements and we may not be least revisions as forward looking statements to reflect changes. After the statements were made factors and risks that could cause actual results differ materially from expectations are discussed from time to time in greater detail in the company's filings with the FCC and in yesterday's earnings press release.

Pete Please go ahead.

Thanks, Dan and thank you everyone, who has joined US today for your interest in a central properties.

The second quarter presented an extremely challenging operating environment in the wake up to covert 19 pandemic.

However, the obstacles, we face paled in comparison to those of our tenants.

Well, we worried about whether or not to grant right deferral requests and where our collections may land at quarter end, our tax were managing through mandatory shutdowns and stay at home orders.

They confronted the threat of losing multi generational businesses and the pain of laying off employees in large numbers only to face the new challenge of quickly and profitably restarting operations [noise].

Without endangering themselves their employees and their customers.

And those complications do not even compared to those faced by the frontline workers and emergency responders, who else Selflessly Combatted. This pandemic.

And all of the individuals and families whose health had been directly affected by it.

So overall, we feel fortunate to be where we are.

Now the portfolio has performed and our prospects going forward.

Starting with the operating status of our properties on rent collections as of today, approximately 93% of our portfolio as a percentage of baby art is open or operating.

Albeit some on a limited basis.

This compares to just 66% back on April 15th when we first reported this statistic.

We have found operating status to be the fact that most correlated to attendance ability to meet its rent obligations. So we feel optimistic about this trend and continue to monitor closely.

In terms of recollections, we collected approximately 69% of contractual rent in the second quarter, including 68% in April 67% in May and 72% in June.

More importantly, we sell collections materially improved 87% in July with the majority of our tenants operating without deferrals.

As you can see in our disclosure the vast majority of our deferrals in July are concentrated in industries that continue to face closures and utilization or capacity constraints, including theaters fitness centers and casual and family dining.

The operators in these industries have proven incredibly resilient in adapting to this new operating environment and we expect collections to continue to improve in the coming months.

Assuming we do not revert back to widespread shutdowns.

Moving onto rent deferrals, we deferred 29% of the contractual rent due to us and the second quarter.

Approximately 11.5 million.

We view these modest tenant accommodations as entirely reasonable and appropriate given the impact of the pandemic.

That said approximately 1.7 million of that deferred rent was not recognized in revenue, giving our view on the probability of collection.

Turning to the portfolio.

We ended the quarter with investments in 1060 properties that were 99.6% leased to 215 tenants operating in 16 different.

[noise] a weighted average lease term stood at 14.6 years, which is 1.1% of our abbey are expiring over the next three and half.

Our weighted average unit level coverage was three times at quarter end, but we would note that this coverage ratio lags are reporting by a quarter. So this the impact from they pandemic is not flowing through our tenants financials [noise].

Ultimately the value of our company does not reside in our leases it resides in our properties and our ability to keep them consistently leased and we see high and stable occupancy as a key indicator of that value.

Turning to investment activity in the quarter.

As discussed on our first quarter quarters earnings call and throughout the quarter, we intended to take a conservative investment posture given the volatility the pandemic caused both in our portfolio and our cost of capital.

During the quarter, we invested 42 million at a weighted average cash cap rate of 7.4% and the majority of these investments were committed to prior to the onset pandemic in mid March.

All of our second quarter investments were directly originated sale leasebacks, 68% contain master lease provisions and 100% are required to provide us with corporate and unit level financial reporting on a regular basis.

Turning to the balance sheet.

We finished the quarter with low leverage of 4.9 times net debt to annualized adjusted EBITDA RV and excellent liquidity over 500 million.

Looking forward, our investment team and relationships continue to drive an attractive opportunities said.

But as we have indicated in the past.

We would need to see stability in both our portfolio and our weighted average cost of capital.

Prior to becoming more aggressive on the external grunts front growth.

Excuse me on the internal growth from.

We're very pleased with the operating collection trends demonstrated by the portfolio, but one month is a small set and unfortunately, the pandemic does not appear to be entirely controlled in many states.

In terms of our weighted average cost of capital. It has continued to improve since March as our share price has rebounded.

Markets appear to be open inefficient and nominal interest rates have moved lower still.

So we are cautiously optimistic about our ability to become more offensive on the investment front and we will closely monitor our key metrics going forward.

With that I'd like to turn it over to Anthony our interim CFO, who will take you through the balance sheet.

Financials for the second quarter, Anthony Thanks, a lot Pete it's been a pleasure to work with you in the team over the last five months.

As reported in our earnings press release, AFFO was 26 cents per share in the quarter and core FFO and AFFO in a second quarter, where each 27 cents per share.

Before going into the quarterly results and discussing the balance sheet I'd like to focus on two areas that have been topical.

The first is rent deferrals and how were accounted for them and the second is a decision to account for certain tenants on a non accrual or cash basis.

As noted on page 15 of our supplemental we entered into deferral agreements totaling $18.1 million.

Oh that 18.1 million 11.5 million represented deferrals second quarter rents and 6.6 million are associated with future period rents.

Oh, the 11.5 million <unk> second quarter rent deferrals granted we recognize 9.8 million during the quarter.

The 1.7 million dollar variants that we did not recognize is the result of non accrual accounting for certain tenants, which I'll get into shortly.

Note that the one point Sevenmillion equates to the 4% label, 4% number labeled non recognized deferred rent for Q2 on page 15 of our supplemental.

During the quarter, we move 15 tenants to nonaccrual status.

That resulted in a 4.8 million dollar reduction to GAAP revenue during the quarter with 2.5 million being a reduction in cash revenue and 2.3 million being a reduction in straight line rent.

These numbers or disclose at the bottom page three of our supplemental.

Over the aforementioned $4.8 million reductions to GAAP revenues 2.8 million or represented a write off of receivables for prior periods and $2 million represents a reduction in revenue from the current period.

Oh that 2 million dollar reduction in current quarter revenues due to cash accounting I previously noted that 1.7 million relates to non recognized deferred Brett. So the remainder isn't the unresolved red ROE on page 15 of the supplemental.

I would like to emphasize that while we believe that full rent collection from the tenants on non accrual status is not probable going forward the value to the company of these assets resides in the real estate and not the leases.

With that said lets move onto the balance sheet.

From a capital markets perspective during the quarter, we repaid the $65 million there was outstanding on our line of credit and ended the quarter with a zero balance.

In June we established a new 250 million dollar ATM program and during the quarter. We sold just over 1 million shares at an average price of $16, an 86 cents generating $17.3 million for gross proceeds.

We continue to believe that are low levered balance sheet and significant liquidity position, our among our greatest strengths in this uncertain environment.

We ended the quarter of 4.9 times net debt to adjusted annualized EBITDA Ari.

As of June Thirtyth, we had $110 million of cash on our balance sheet and the full 400 million available under our line of credit equating to approximately $510 million liquidity.

Lastly, consistent with last quarter, we're not providing 2020 guidance due to general economic uncertainty.

With that I'll turn the call over to our COO Greg Zebra.

Thanks, Anthony I wanted to start with the impact of covert night Ti on our portfolio, which we have summarized on page 15, and 16 of our supplemental.

As of the last week in July 80% of our portfolio. Hbr was opened 13% was opened on a limited operating basis and 7% was closed.

In terms of rent deferrals, we granted deferral requests to 85 tenants across 299 properties, representing 18.1 million and rents.

As of quarter end.

We had 6.6 million of deferred rent remaining for future periods.

Those remaining deferrals are concentrated in our theater health and fitness entertainment and casually family dining industries.

The average deferral period was just under five months with an average payback period of 14 months.

Additionally, we had just 11 tenants that remained in a deferral period as of August 1st and all but one of those tenants are paying a portion of their contractual rent.

Moving onto our unresolved rent less than 1% of second quarter rent was from unresolved tenets situations.

However, this increased to 3% in July as a handful of tenants that were subject to a deferral the second quarter came off their deferral period.

Approximately 65% of this bucket is related to three fitness centers that are master lease to one tenant.

We are aggressively enforcing our lease on these properties and we're confident that we'll find a resolution.

The remaining portion of unresolved rent spread out across various operators in some of the most severely impacted industries.

Moving onto investments.

During the second quarter, we invested 42 million into 11 transactions and 13 properties as at a weighted average cash cap of 7.4%.

These investments were made within six different industries with equipment rental quick service restaurants, and auto service representing over 75% of our investment activity in the quarter.

The weighted average lease term are these properties was 16.7 years the weighted average rent escalation was 1.8% the weighted average unit level coverage was 4.3 times and our average investment per property was 2.9 million.

Consistent with our investment strategy, 100% of our second quarter investments were originated through direct sale leasebacks, which are subject to or at least four and with ongoing financial reporting requirements.

From an industry perspective quick service restaurants remain our largest industry at 14.3% of FBR, followed by early childhood education at 13.5% Carwash.

But medical dental at 11.3% and convenience stores at 10.2%.

From a tenant concentration perspective, no tenant represented more than 3.2% of our 80 are at quarter end with our top 10, representing 23% of our a b R.

In addition, we had equipment share and Carol enter our top 10 as incremental investment activity with both tenets this quarter push their concentrations higher.

In terms of dispositions this quarter, we sold three properties for 3.4 million net of transaction cost.

Despite having 1.3 times unit level coverage, we achieved a 6.8% weighted average cash cap rate for these assets, which equated to at 28% realized gain versus our allocated purchase price.

With that I'll turn it back to Pete for his concluding remarks.

Thanks, Greg.

In conclusion, I would like to say that I am proud of how the team at essential.

Came together and manage the portfolio through this unprecedented time.

I would also like to thank you Anthony for Green to take the role of interim CFO and more importantly, doing a tremendous job.

I would like to welcome Mark Patton, who starts as our permanent CFO on Monday.

Excellent in addition to our team and I, let's look forward to working with him as we continue to execute the business plan that we laid out during our IPO.

With that operator, please open the call for questions certainly at this time, if you would like to ask a question. Please press. The Star then one on your Touchtone phone.

You may withdraw your question at any time by pressing the pound cake.

It is star then one to ask a question.

And we can take our first question from Christy Mcelroy with Citi. Your line is open.

Hey, guys. This is actually Parker Ukrainian for Christie you know my first question that I. Just wanted to ask is about you know there's been any change in your appetite for adding certain tenants. Your exposures you know maybe even for some of them or riskier, a you know area, such as health fitness or theaters or something and do you see any market dislocation and pricing for those miscarry Ken.

Since that you'd feel comfortable buying.

Yeah, I think in general if you look at the trends of our industry exposure is you'll see that you know we had been we have been bearish on on some of those industries.

For for a period of time and a lot of those industries of is the concentrations have come down overtime.

So certainly I'm you know we've we've taken the current performance of our tenant and the impacts of or the pandemic and and you know tried to incorporate that into our go forward investment strategy I would say you know.

The we're not.

Solely basing it upon the performance of you know three six or nine months, we're taking a longer term view and trying to understand how customers behaviors may change and how that might impact our operators in these sectors.

And trying to be thoughtful about how we deploy new capital.

So in terms of dislocation in the market, they're certainly dislocation and you know.

I'd say we're not.

As you can see by our investment activity concentrated in you know in it away from those sectors and in QSR as you know our investment stances is not to chase opportunistic deals and get outside yield, but really good you know good returns for for good <unk>.

Ask adjusted returns for investments in industries that we think will be durable for the duration of our lease term, which you know is is 20 years plus.

Yeah. Okay. Thank you and then just can you guys touched on the 4.8 million of rents that move just a cash you know specifically, providing some detail on just the exact you know category exposures that they're sort of in potentially.

Yeah, I would say you know we.

The decision to move you know a tenant to cash accounting really it goes to the collectability of that tenants and the deferred rent.

And really looking on a go forward basis, and I think it's safe to assume that you know those categories are reflective of the categories, where we can see can you just see heightened risk.

That we laid out earlier in our comments you know movie theaters fitness centers restaurants.

Okay. Thanks, guys.

Thank you.

And we will move next to Sam Choe with credit Suisse. Your line is open.

Hi, guys I guess, there's a follow up to the prior question I'm just kind of I'm wondering how are you determined the categorization of the recognize deferrals versus non recognize I mean, I understand the non accrual true matte up but it does.

So I mean, you're talking about them probability of.

Some tenants not being able to pay just kinda walking through like what what the commonality that led you to classify something that's non accrual versus a recognized.

Yeah. It you know, it's a judgment we make about the the collectability of that that receivable and and you know there's accounting guidance surrounding that but at the end of today, It's a management judgment call about the collectability of that receivable.

Taking into account you know the tenant credit the industry fundamentals and and just the probability that had 10 10, it will be able to pay us the money that he owes us.

Okay. Now they're also has been a lot of headlines I guess I bought some I mean, it throughout the industry that Oh, let's say like and see they were able to secure some rent abatements, but you guys have been pretty good at Oh, keeping bat.

Number fairly low so just wondering what you've got guys have done to achieve that.

Ultimately you know that are ability to defer and not a base rent and quite frankly, if you think about a non recognize deferral.

You know that made so it's an option that essentially we're saying is is in essence abating rent right in that we don't think we'll get it but ultimately our leverage in the negotiation or surrounding the tenants obligation to pay us <unk> ran.

Goes to the value of our assets and our properties to that tenant and his his desire to operate in those sites because they generate profit for his organization.

Okay. Thank you so much.

And we can move next to Brian Hawthorne with RBC capital markets. Your line is open.

Hi, Good morning, <unk> first question is can you talk about what drove the Ron and home furnishing to drop from 14 20 last quarter to Fiveeighty this quarter.

Yeah, really you know our or home furnishing exposure is largely concentrated in the properties that were formerly leased to aren't van.

We released those sites to love furniture, as we previously disclosed during the quarter and you know as part of that you know that that really that you know the there was a free rent period, and so that's flowing through and so those numbers aren't a run rate, they're really for the period and so.

They're they're standing out as somewhat artificially low and would we would expect those to normalize over time.

Okay, how many how many periods of free rent are there.

You know I'm not going as a comment specifically on you know and individual tenant.

But it was a reasonable accommodation recognizing that many of the sites were closed and I'm you know give them the opportunity to get those sites opened and operating and it was less than a here.

Sounds good and then I'm the lift Calcs, where you're you're all kind of credit levels. I guess, how does that system work is that little bit I mean, like so if you're going to put both developed and if not we'll go next quarter are they going to.

To put the financials and then it's not going to be able to account for the fact that a bunch of your tenants were closed.

You know during Twoq.

No. It was an I. I think you know it's it's a program that we lease from Moody's and its formulaic and you know, it's not going to be pretty and you plug them into numbers come out.

Okay. Thank you.

Thank you Brian.

Once again, if you'd like to ask your question. Please press. The Star then one on your Touchtone phone.

We will go next to John Misaka with Ladenburg Thalmann. Your line is open.

Morning.

Learn John.

Digging in maybe a little on the portfolio, one kind of kind of industry stood out a little bit you know and having fairly broad opening but decently heights for all of them in kind of non cash collection with the early childhood Education Center I mean, what do you kind of hearing from your tenant there that maybe driving that and.

Potential thats reversed during the next couple of months.

Yeah, you know as we kinda indicated we thought we thought the early childhood you know education was going to come back a little slower there's really two things that are driving that one is you know mandatory.

Capacity constraints.

Imposed across those operators that limit the number of children. They can they can have in their buildings and then secondly, you know really the demand for that service I'm, giving this given the stay at home orders and if people aren't working theres not a you know generally a need for child care.

You know and so we saw deferrals go into you know pass the first quarter and and recognize that some of our operators would need deferrals support beyond the second quarter.

I would say most of them or partial pay and and you know we would they are open and operating albeit at the diminished capacities.

But we would expect you know I'm, particularly as we get back to schools opening and people getting back to work at those sites would come back online and and be full payers.

Okay, and then maybe as you look at.

Slide 11 in the stop.

How much kind of.

Covanta pandemic related impact do you think you seem to change between you know last quarter stopping this quarter. So.

Just trying to think of as maybe you know a fuller pandemic impact there already or because it's kind of ahead of a lagging the reporting numbers.

It was something more organic or something not really related to pandemic or I guess.

Yeah, Yeah, listen, Indiana, I would say this.

This disclosure is very much a forward indicator of risk and you know the pandemic in and what we've seen in the short term is a much different level, a risk and and which is why you've seen us more focus on you know our disclosure around cove it related to disclose.

You are open closed status and Collectability status and that I'm, you know given the lag in financials you know.

I would imagine you know not a ton of cove. It related impacts are flowing through particularly when you think you know this this pandemic and shutdowns really sat in set in kind of mid March in you know these were likely looking at for the most of our tenants you know that the first quarter sorta numbers and so this does.

Closure is going to evolve as and change as you know the full impacts of the shutdowns flow through our tenants results and but you know clearly it's a forward indicator risk and.

We're gonna have to work through that in the coming quarters.

No I think about the change quarter over quarter me, it was or something else driving that maybe aren't ban obviously, bringing one Q when it causes numbers to shift a little bit more negatively in terms of.

Yeah coverage and you know credit person, it's kinda coverage.

Yeah, Yeah, Yeah, it's it's all the tenants right and our advantage you know as you know rose 2% is is not going to move it you know materially, but theres ins and outs and all the buckets and and all the you know the the.

This gradation and it's there's a lot of guys moving around both up and down.

Okay, and then one last quick one money tenants move to either kind of percentage rent to replace.

Kind of future X rental or you are saying trying to kind of pay off any had deferred rent going forward.

You know, we haven't agree to any any situation, where our deferred rent is coming back to us on a percentage basis.

But in a handful of situations lessened a handful I would say you know we have gone to a more <unk>.

Percentage rate rent based payment for a short period of time, while these guys. You know returned to normalized operations, but in those instances the delta between the contractual rent and any rents paid to us.

Becomes a deferred amount that's due to us and later periods.

That makes sense and that's it for me. Thank you all very much.

Thank you John.

Once again it is star then one to ask a question, we'll pause briefly for any additional questions to Q.

At this time there no additional questions. This does conclude our QNX session I'd like to turn the program back over to peak for any closing remarks.

Great well again, thank you all for joining we appreciate your interest in essential properties I'm clearly, it's a interesting time, we're happy to get this report behind us and look forward. So thanks, again and have a great summer.

Thank you for your participation. This does conclude today's program you may disconnect at any time.

Oh.

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