Q1 2021 Office Properties Income Trust Earnings Call
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Good morning, and welcome to the office properties income Trust first quarter 2021 earnings Conference call. All participants will be in listen only mode should you need assistance. Please signal a conference specialist by pressing the star key followed by zero.
After today's presentation there'll be an opportunity to ask questions to ask a question you May Press Star then one on your telephone keypad to withdraw your question. Please press Star then two please note. This event is being recorded I would now like to turn the conference over to Olivia Snyder manager Investor Relations.
<unk>. Please go ahead.
Thank you and good morning, everyone. Thanks for joining us today with me on the call are Opi's, President and Chief operating Officer, Chris <unk>, and Chief Financial Officer, and Treasurer, Matt Brown in just a moment they will provide details about our business performance for the first quarter of 2021, followed by a question and answer session South dynamic.
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First I would like to note that the recording and retransmission of today's conference call is prohibited without the prior written consent of the company also note that todays 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 Opi's beliefs and expectations.
As of today Friday April 30th 2021, 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, RPT, which can be accessed from our website OPI REIT dot com or the SEC's 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 funds from operations on normalized <unk> cash available.
<unk> for distribution are adjusted EBITDA and cash basis, net operating income or cash basis NOI.
Reconciliation of these non-GAAP figures to net income are available in our supplemental operating and financial data package, which also can be found on our website. In addition, we will be providing guidance on this call, including normalized <unk> and cash basis NOI. We are not providing a reconciliation of these non-GAAP measures as part of our guidance.
Certain information required for such reconciliation is not available without unreasonable efforts or at all such as gains and losses or impairment charges related to the disposition of real estate now I will turn the call over to Chris. Thank.
Thank you Olivia and good morning, welcome to the first quarter earnings call for office properties income Trust.
Yesterday, we reported normalized <unk> of $1 28 per share exceeding our expectations as well as consensus estimates for the quarter.
We're encouraged by our first quarter activity on the heels of strong performance throughout 2020, and we continue to be well positioned to advance our growth strategies and deliver value to our shareholders.
Following our active capital recycling in 2020 and into 2021, we have over $930 million on liquidity to support our leasing acquisition and development activity.
Despite the industry challenges presented by the COVID-19 pandemic, our portfolio continues to perform well rent collections continued to trend above 99% and we believe our portfolio composition and investment strategy will continue to benefit us.
Turning to acquisitions and disposition activity.
The market for acquisitions continues to improve and we are starting to see an increase in deal flow for opportunities that meet our investment criteria.
We have been active with a handful of transactions and remain disciplined with what continues to be a competitive investment environment.
Currently we have an active acquisition pipeline that is trending in excess of $400 million.
For properties in various stages of consideration and look forward to providing additional updates as opportunities advance.
In 2021, we completed the sale of three properties for $170 million, which includes two previously disclosed properties sold in Kansas City, Missouri, and Richmond, Virginia for a combined $131 million along with the recent sale on April of a non core property located in Huntsville, Alabama.
That was a known vacate and on the third quarter for $39 million.
The Huntsville sales eliminated the one 4 million square foot potential drag on occupancy and significant anticipated capital on downtime per re leasing.
These efforts are aligned with our 2021 capital recycling plan focused on the disposition of 100 to 300 million per properties.
Specifically buildings that are capital intensive.
Older buildings or sales that provide strategic value across the portfolio with the goal of investing these proceeds into newer less capital intensive buildings those intended to help reshape tenant and geographic diversification.
Our opportunities to enhance yield through select development projects.
Turning to leasing results for the quarter.
Although long term effects on their office real estate market remain uncertain. We continue to work closely with our tenants as they plan for reentry and are encouraged by the momentum of our leasing dialogues on activity.
Current building utilization is 30% of our portfolio square footage, which we define as tenants that are utilizing at least 50% of their building.
We anticipate tenants will continue to advance their reentry plan into the third and fourth quarter and a requirement for new and renewal leases will continue to accelerate consistent with a growing pipeline trends, we have seen over the past several quarters.
During the first quarter, we completed 575000 square feet of new and renewal leasing with a three 2% roll up in rent a weighted average lease term of five four years and leasing concessions and capital commitments of $2 28 per square foot per lease year.
We ended the quarter with consolidated occupancy of 98%.
Activity for the quarter was mostly contributed by federal and state agencies, including a five year renewal with the state of Washington per 112000 square feet, a 10 year renewal with the Commonwealth of Massachusetts for 87000 square feet.
On a short term renewal with the federal government at our building in Rockville, Maryland from 109000 square feet.
While leasing over the past year has mostly been concentrated around renewal activity. We are beginning to see more activity for new lease requirements across our vacancies.
Our overall leasing pipeline remains robust with discussions covering $3 1 million square feet include.
Including roughly 106000 square feet of new and renewal leasing signed since quarter end 481000 square feet of current activity that is in advanced stages of negotiation.
And more than 950000 square feet debt could absorb vacant space potential.
Potential absorption is mostly concentrated in our DCM MSA, including activity and our recently renovated building in Reston, Virginia.
At the same time, we are also encouraged by the uptick in tour activity across our portfolio. We believe we are well positioned to continue to advance leasing of vacant space given the quality of the buildings and their locations, including markets, such as Phoenix, Arizona, San Jose, California, suburban Boston and Northern Virginia.
Each of these markets on body unique demand drivers around industry diversification metros with high educational attainment demographic and technology shifts supporting economic activity many of which are considerations, we value for continued growth within our portfolio.
Further we continue to make progress with our previously disclosed known Vacates for 2021, which includes the mentioned sale of our property in Huntsville, Alabama.
Additional updates are as follows.
And our plantation, Florida property, the GSA lease expires in April and represents 80 basis points of annualized revenue.
We had previously disclosed the tenant vacating upon exploration. However, the tenant has been selected as a holdover from 12 months and we anticipate continued occupancy through Q4 2021, despite the holdover activity for private sector leasing has been strong with several larger users having acquired into the building.
Yeah.
With our property in Fresno, California. The GSA is scheduled to expire in November reflecting one 5% of annualized revenue per.
<unk> for the tenants to vacate remain however, we are actively marketing the property for sale and we anticipate an update on our marketing efforts will be available on future quarters.
And lastly for our property located at 20th Massachusetts Avenue in Washington D. C. The tenant representing two 8% of our annualized revenue has vacated the building on March 31, as originally disclosed and plants continue for advancement of our redevelopment of this properties.
We continue to work through our plan and look forward to providing progress updates on activity as it materializes.
Overall, we are pleased with the activity, we are seeing across our portfolio and trend of three consecutive quarters, where our leasing pipeline exceeded 3 million square feet.
Before I turn the call over to Matt I would like to highlight that <unk> recently received the 2021 energy star partner of the year sustained Excellence Award.
This is the fourth consecutive year that we have achieved partner of the year recognition.
And the second year, we have earned the sustained excellence designation and the energy management category.
We are proud of this effort and commitment to our sustainability initiatives across the RMR organization.
I will now turn the call over to Matt Brown to provide details on our financial results Matt.
Thanks, Chris and good morning, everyone.
Normalized <unk> for the first quarter was $61 8 million or $1 28 per share, which beat consensus and the high end of our estimate by <unk>, mainly due to NOI coming in higher than forecasted.
For the first quarter was $47 7 million.
Or <unk> 99 per share our dividend is well covered with a rolling four quarter <unk> payout ratio of 59%.
G&A expense for the first quarter was $11 3 million.
Which includes $5 2 million of estimated business management incentive fees.
Excluding the estimated incentive fee G&A expense was $6 1 million compared.
Compared to $7 $1 million from both the same period last year and the prior quarter neither of which included any estimated incentive fee expense.
The decline sequentially is mainly due to elevated costs in the prior quarter due to share grant acceleration from the retirement of three RMR officers and $450000 of rent expense related to a lease obligation that expired on January 31, as discussed last quarter, which resulted in a favorable impact of 300.
In the first quarter.
Incentive fees under our business management agreement with RMR are payable after the end of each calendar year in which they are earned but are recognized in the calculation of net income in accordance with GAAP in the first second and third quarters if applicable we.
We do not include such expense and adjusted EBITDA are E or normalized <unk> until the fourth quarter when the final incentive fee amount is determined.
The incentive fee accrued in the first quarter is based on Opi's total return in comparison to the SNL U S. REIT office index over the three year measurement period, which commenced on January one 2019.
OPI outperformed the index by approximately 15% with a total return of 22, 4%. This equates to an annualized estimated incentive fee of $20 8 million, which represents a cap of one 5% of our equity market capitalization.
The incentive fee accrual may increase or decrease over the remainder of the year, depending on how OPI performs relative to the index.
Interest expense for the first quarter was $28 8 million.
Which was flat sequentially and up $1 6 million from the prior year period, primarily due to proceeds from the issuance of $412 million of unsecured senior notes in 2020 that were used to repay amounts outstanding on our revolving credit facility.
We offset by secured debt repayments of $152 million during 2020.
Turning to property level results for the quarter same.
Same property cash basis, NOI decreased $1 $6 million or one 8% compared to the first quarter of 2020 slightly outperforming our guidance range of negative 2% to 4%.
As expected the decrease was mainly driven by a reduction in rental income of $1 4 million.
Most notably due to the tailored brand lease restructure and a decline in parking revenue of $690000 due to the pandemic as well as an increase in snow removal costs of $1 million, partially offset by lower utility and cleaning costs.
Turning to normalized <unk> and same property cash basis NOI expectations.
We expect second quarter normalized <unk> to be between $1 11, and $1 13 per share as.
As highlighted on last quarter's call. The most significant declines from Q1 are driven by the following <unk>.
<unk> due to the expiration of the GSA lease at 20, Massachusetts Avenue.
<unk> due to the dispositions of our Huntsville, Alabama property in April in our Richmond, Virginia property in January and other known vacancies, we have discussed and <unk> due to trust the compensation expense in Q2 and higher business management fees based on our current share price.
We expect second quarter same property cash basis NOI to decline between three five and five 5% as compared to the second quarter of 2020.
Turning to capital expenditures on the balance sheet.
We spent $11 5 million on recurring capital during the first quarter and we expect recurring capital expenditures for the full year to be between $75 and $80 million.
At March 31, our leverage was five seven times, we currently have more than $930 million of liquidity, including full availability under our $750 million revolving credit facility.
We have no debt maturities until February 2022, when $300 million of unsecured senior notes mature, which become pre payable without penalty in December 2021.
In closing our balance sheet remains strong and despite pressures from the 2021 vacancies that we have discussed we expect our dividend to remain well covered on.
Operator that concludes our prepared remarks, we're ready to open the call up for questions.
We will now begin the question and answer session.
To ask a question you May press Star then one on your telephone keypad.
If you are using a speakerphone. Please pick up your handset before pressing the keys to withdraw your question. Please press Star then two at this time, we will pause momentarily to assemble our roster.
Our first question comes from Bryan Mayer with B Riley FBR. Please go ahead.
Good morning, guys I appreciate all that color.
Couple of quick question on.
On the Boston property that you bought we noticed it 45% leased currently two questions on that is there any opportunity to increase that occupancy until you move towards redevelopment or should we just expect it to stay there and secondly is that occupancy did that kind of weighed down debt.
Portfolio, we noticed a modest downtick in total portfolio occupancy is at Boston responsible for that.
Brian This is Chris.
I think on the first part of your question certainly the goal is to.
Go after short term leases in the interim while we evaluate our larger plant for the.
Eight of the assets that we put together in Boston So.
I think some of the space within that building is relatively turnkey. So we expect that.
We won't have any challenging over the kind of improved leasing on a short term basis for that project.
And then with respect to occupancy.
No I wouldn't say that that project would weigh down on occupancy I mean, thats scheduled to close.
And in May.
And then I think from the change in occupancy from Q4 to Q1, it's really driven by.
From known move outs at a building and the Chicago Submarket, where two tenant vacated one day.
Vacated just as part of its natural expiration on the other.
Vacated given you as part of a renewal on downside so they've got a long term renewal on a larger portion of the space on the balance the downsize vacated.
Okay, Great and then thanks for that update on debt for big properties for this year, but on mass Av with that property now vacating.
I'm, assuming you guys are definitively moving forward with the redevelopment correct me if I'm on there and if that's the case can you give us an updated on your thoughts on cost and timing has that changed since you last discussed it.
Yes. The plan right now is to continue to move forward.
With respect to timing. This is looking for a Q1 2023 deliverable.
In total construction costs are about $150 million and then with leasing its upwards of about $200 million.
And we were targeting about <unk>.
Percent to 10% cash return.
Okay, and then last from me you touched upon your acquisition pipeline I think you might've said, it's around $400 million.
How competitive is the bidding there and.
At rate basis, and is that expected to grow meaningfully the potential opportunity.
Do you see the cap rate shifting upward down with what's going on bigger picture in the economy and all the discussion regarding the need for office space.
Yeah, I mean, I think the cap rate for the type of assets that we're looking at.
Those kind of with long term leases credit tenants or other synergies around market has continued to remain competitive and so.
There's not been a material shift in cap rates other than Theres, just a lot of capital chasing similar type assets and so I would say that for some of the assets that we've been looking at and active on the smaller deals just have a lot of different type of buyer.
Chasing that and so it just becomes extremely competitive and then some of the larger deals.
I think it's very similar but.
Cap rates are really going to be.
Just on based on market and kind of some of the parameters around that I think we've targeted.
Cap rates from 6% to 7% I think we showed some of that with the acquisition in Q4 of.
The building from the Charlotte MSA.
But as we look at other opportunities I mean, we're seeing cap rates that are five 6% as well. So I think it's really kind of part of a multi tier strategy, where we're going to start buying some properties that are lower than others that are at the higher range to kind of get to the balance we're looking for.
Okay. Thanks, that's all from me.
Thank you.
The next question is from Elvis Rodriguez with Bank of America. Please go ahead.
Hi, good morning, and thank you for taking the question.
On your your lease percentage went down but yet you had the big tenant move out.
At quarter end I'm, just curious was that tenant included in the numbers are not included in the numbers just wanted to make sure.
Okay.
When you say the occupancy went down.
The lease percentage went down about 40 basis points, but your last call. It 220 basis point tenant at the end of the quarter, but just wanted to make sure. If that tenant is included in the numbers are not and should we see that come out on <unk>.
Yes, I mean I think.
Think that for the quarter.
With that March 31 exploration we.
We recognize that through quarter end and so we will see that drop off in Q2.
Great and then with that are you able to share trajectory of what will happen with occupancy throughout the year.
Obviously, it's going to dip into two but where do you what do you see sort of occupancy ending at the end of the year.
I mean at the end of the year. There's a couple of different factors that are going to impact that.
Most notably around some of the dispositions that we're looking at we've talked about Fresno, That's 500000 square feet on so certainly.
If that building transact that will have a favorable impact on occupancy if they vacate in November.
That will have a negative impact on occupancy, but I think.
Right now with that set aside I think occupancy for us is looking at $89, 90%, assuming kind of all other factors.
Aligned.
Okay.
Great. That's helpful. And then I just have a couple more questions, but I'm happy to hop on the queue. After this next one.
You took the 16th impairment in the quarter I know you highlighted a bit on it in the Q, but maybe if you can share any details just so we have you on the call that'd be helpful. Thank you.
Yes, the impairment charge in the quarter was related to the two properties that we had classified as held for sale at quarter end, one of which was the Huntsville, Alabama property that we sold in April for $39 million.
Thanks, I'll hop on the coupons.
The next question is from Jason Idling with RBC capital markets. Please go ahead.
I had a question just on the Boston acquisition. So I guess last quarter you guys acquired the property in Boston that was.
Those two are sharing walls with.
One of your existing properties on that it looks like this quarter you did as well.
And both last quarter and this quarter the occupancy rate on those two properties was lower so I guess.
It was the best New acquisition in that same area with the one from last quarter on your existing assets on I guess, if you are building scale there what's the long term goal.
So the acquisition is one on the same it's just been delayed with respect to closing given kind of some ongoing diligence at the properties. So.
It's the same asset.
And then really.
What this does is it gives us.
Seven acres within kind of a combined parcel on I think the goal is just to.
To evaluate what our options are I mean, we do have leases in place with the adjoining buildings that have some term on them, which gives us plenty of runway to evaluate decisions and see where the market growth.
So on the near term I think we would benefit from those in place leases.
While we kind of evaluate plans and so my guess is that.
Any updates on opportunity for this project are likely going to be something we would see maybe next year.
A major repositioning here, it's pretty far out so.
Okay.
Could you provide some color on the leasing pipeline it sounds like a dropped about 700000 square feet since last quarter. So just wondering if that's all due to leasing activity.
Yes. It is I mean, I think in part we converted.
575000 to executed deals and so we are left with the $3 1 million and so that pipeline generally ebb and flow, but as I have noted I think it's been consistently above $3 million for three quarters, which is on the high end of the range. When you kind of look back over the last.
Couple of years.
Okay. Thanks.
Thank you.
The next question is from Vikram Malhotra with Morgan Stanley. Please go ahead.
Thanks, so much for taking the question good morning, everyone.
Maybe just first to clarify on the Capex.
You you plan for this year I think it's modestly lower than the last call, where you said about 85 million. So just wondering if there's been a push out or just a change in plan just whats the difference.
Yes, the difference is really tight.
Timing of expected leasing capital being pushed out.
That's really caused the number to come down $5 million to $10 million from our initial projection.
Got it okay.
And then the occupancy target debt you have does that assume the sale of certain assets specifically Fresno.
Not Fresno there are some assets in the pipeline, albeit much smaller.
And size.
That does not assume present, so I think that was Fresno.
Increased or helped increase occupancy if that would increase okay.
Okay that makes sense.
And then just on two more quick ones just overall the.
The incentive fees that you had this quarter I know, it's a it's a calculation every quarter, but you know.
<unk> the incentive fees, assuming that the next two quarters.
You still have to you know theres still a and allocation what is the dividend kind of coverage force the incentive fees.
Sure So our year end projection right now.
Including the $28 million incentive fee would be a payout ratio of about 84%, excluding the incentive fee that payout ratio would be about 72%.
Got it and that's on a fad or a CAD basis.
Alright.
Okay, and then just last one if you could just clarify.
You outlined obviously last quarter, all the vacates, but I'm just wondering over the next like 12 to 18 months have there been any moving pieces to the Vacates that you had outlined light last quarter. If you could just clarify the the larger ones in the magnitude.
Yeah, I mean, I think last quarter.
We talked about the known Vacates and where we are today for 2021.
Seven 2% of annualized revenue is still on target and again, that's going to come down as the.
On the 20th mass Av.
Kicks in with the next quarter and really the four assets that we continue to go talk about represent over 6% of that total number so other than that it's just smaller moving pieces across the portfolio. So that's what we expect for 2021.
Great. Thanks, so much.
The next question is from Ohio, Okusanya with Mizuho. Please go ahead.
Yes.
On the 3 million leasing pipeline could you break that out in regards to watch on new leasing versus what the potential renewals.
So, it's probably 60 40, so 60% renewable 40% new leasing.
Okay.
Helpful and then the bank of America.
Yeah.
One of your top five tenants it looks like there was a sequential decline in the annualized rent.
Was there a reduction of space associated with Bofa.
Bank of America was one of the tenants.
That expires 12 31.
Which was a known vacate and.
So that was I think close to 40000 square feet or 700000.
Debt.
Fell off at year end.
Okay.
Just to clarify did renewed but took less space going forward or just is.
Is that what happened.
Can you repeat that.
What was it that day, they just moved out of that particular space and the remaining balance of four other space. They have within the portfolio correct. Yes. So bank of America, we have various locations with them and so that was one of the spaces that they moved out of.
Okay, great. Thank you okay.
The next question is a follow up from Elvis Rodriguez with Bank of America. Please go ahead.
Thanks, guys just one more on.
The incentive fees being backed out of FFL can you just share what you've done historically with these incentive fees and how you will recognize these in the future.
Sure so for recognition in net income.
$5 2 million as part of that which is the accrual at $3 31. We don't include any estimated incentive fees in Q1, and Q2 or Q3 in our normalized <unk> or adjusted EBITDA or E metrics because they are just estimates during the quarters.
And the fee can be pretty volatile quarter to quarter, depending on our share price performance relative to the peer group.
When we calculate our final fee at the end of December 31 of this year any fee will then be deducted from normalized <unk> on adjusted EBITDA at that time.
So we should see we should be adjusting our models, we'll call. It a 20 million fee in <unk> is that correct that's right yes.
Okay. Thank you.
This concludes our question and answer session I would like to turn on the conference back over to Christopher <unk> for any closing remarks. Thank.
Thank you for joining us today, we look forward to updating you on our progress this year and hope to see many of you at the upcoming conferences and events.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
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