Q1 2022 Office Properties Income Trust Earnings Call
Good morning, and welcome to the office properties income Trust first quarter 2022 earnings conference call.
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I would now like to turn the conference over to Kevin Berry Director of Investor Relations. Please go ahead.
Thank you and good morning, everyone and thanks for joining us today.
With me on the call are Opi's, President and Chief operating Officer, Chris Blotto, and Chief Financial Officer, and Treasurer, Matt Brown in just a moment they will provide details about our business and our performance for the first quarter of 2022, followed by a question and answer session with sell side analysts first I would like to note that the recording and retransmission of today's call.
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 29, 2022, and actual results may differ materially from those that we project.
The company undertakes no obligation to revise or publicly release the results of any revision to the forward looking statements made in today's conference call.
Additional information concerning factors that could cause those differences is contained in our filings with the securities and exchange Commission or SEC, which can be accessed from our website OPI reach dot com or the SEC's website investors are cautioned not to place undue reliance upon any forward looking statements and.
In addition, we will be discussing non-GAAP numbers during this call, including normalized funds from operations or normalized <unk> cash available for distribution or adjusted.
Adjusted EBITDA and cash basis, net operating income or cash basis NOI. A 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're not providing a reconciliation of these non-GAAP measures as part of our guidance because 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.
I will now turn the call over to Chris.
Thank you Kevin and good morning, everyone. Welcome to the first quarter earnings call for office properties income Trust.
At the beginning of 2021, we continue to see gradual improvement across office fundamentals supported by growing utilization improved leasing volume.
Iteration of sublease space and the general sentiment around 10, starting to re engage on overall office needs.
Evolving around events around rising inflation and the current interest rate environment are also on focus and we believe the progress <unk> made over the past few years to reshape our portfolio and strengthen our balance sheet better positions us for stability and growth during transition hurry periods.
Specific to this are the $1 1 billion of senior notes issued in 2021, extending our overall debt maturity and reducing our interest expense our purchase of two four properties in both the Chicago CBD market in Atlanta, Georgia, and more than 1 million square feet of new leasing activity.
Over the past four quarters and continued execution on our capital recycling program with a particular focus on reducing capital exposure and improving our portfolio geography footprint and operating fundamentals.
Turning to the quarter yesterday opioid reported first quarter results that reflect continued momentum across many parts of our business.
Normalized <unk> increased compared to the first quarter of 2021 and came in above the high end of our guidance. We signed 21 deals for 572000 square feet of new and renewal leases with a weighted average roll up in rent of five 1% and a weighted average lease term of more than 10 years.
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Currently at 91% same property occupancy was essentially flat over the prior quarter and decreased nominally by 50 basis points over the prior year our.
Our current leasing pipeline remains strong with a healthy mix of new and renewal deals and mark to market growth potential of close to 8%.
While the pace of tenant reentry plans continues to evolve we are encouraged by conversations with tenants across our national portfolio that indicate a growing appetite to consider office space as part of our long term plan.
We remain committed to our capital recycling program to enhance the portfolio with a focus on growing markets with sustained NOI growth newer buildings with less capital requirements for the use of proceeds to manage leverage levels and to strengthen our portfolio through our active development projects.
During the quarter, we sold or agreed to sell six noncore properties for aggregate proceeds of $67 8 million that contain over 800000 square feet at an average age of 20 years and an average cap rate of 6%.
For the full year 2022, we are maintaining our guidance for dispositions to be in the range of approximately 400 million to $500 million in total proceeds.
Turning now to the first quarter in more detail as we highlighted earlier, we completed 572000 square feet of new and renewal leasing activity during the quarter with a weighted average lease term of 10 seven years and a 5% capital. This marks the fourth consecutive quarter with new leasing activity in excess of two <unk>.
Third 30000 square feet, bringing total new activity over the prior four quarters to an excess of 1 million square feet or close to 460 basis points of occupancy.
<unk> agencies accounted for approximately 40% of our total leasing volume followed by tenants in the manufacturing and transportation industry as well as real estate and financial sectors. We ended the quarter with investment grade rated tenants, representing approximately 64% of our annualized rental revenue.
Turning to a few highlights from our first quarter leasing transactions, we completed four lease renewals with the GSA for approximately 233000 square feet per weighted average lease term of 10, seven years and a rent roll up of five 5%.
As previously communicated in plantation, Florida signed a lease for 64000 square feet of space that the GSA will vacate in mid 2022. This building is now fully leased to a single tenant for a 14 year term and the pace at which we were able to fully backfill. The property is reflective of the creativity from our manage.
<unk> real estate team.
In San Jose, California, we executed two new full building leases for a combined 126000 square feet, which included 27% roll up in rent and a combined eight nine year term.
Now looking ahead to opioids upcoming lease expirations in 2022, 5% of our total annualized revenue is scheduled to expire we are managing through a limited number of known vacates that represent 2% of our annualized revenue.
Our tenant located in greater Denver, Colorado remains our largest known vacate for the year, representing 168000 square feet and 90 basis points of annualized revenue with an August 2022 exploration.
The property at the BOMA 360 award recipient and is well positioned within our heavily or monetize sub market, including its access within walking distance to the public light rail station.
We are investing in the properties to offer additional onsite amenities collaborative areas and move in ready space, which is fielding healthy interest from a variety of prospects looking to lease portions of the building currently we have close to 50000 square feet or 30% of the property, who have signed letters of intent.
Rollout in excess of 10%.
We also remain focused on lease expirations in the coming years as approximately 15% of Opi's portfolio is scheduled to roll in each of 2023 and in 2020 for our real estate services and asset management teams are proactively engaging with tenants to evaluate early renewals and maintain positive tenant retention.
<unk> trends.
With our active asset management discipline, we view opioids exploration schedule as an attractive opportunity to right size rents during the current inflationary environment at the same time, we are broad mechanism is embedded in our leases to protect us from inflation risk approximately 90% of opioids ranked contains either annual lease bumps or escalation.
It's tied to an inflation index.
Looking at our current leasing pipeline we are.
And more than $3 6 million square feet of activity of which $1 2 million square feet is attributable to leasing.
Nearly 1 million square feet of our pipeline is in advanced stages of negotiation, which includes over 300000 square feet of positive net absorption.
Based on the continued strong interest from our tenants as well as size across our nationwide portfolio that office fundamentals are improving we are reaffirming our expectations for year end 2022 occupancy of 89%, 90% along with our expectation for rent roll ups of 5% to 7%.
Turning to our developments.
We are making steady progress on our redevelopment efforts in Washington, D C and Seattle, Washington.
Both projects are scheduled to deliver in early 2023, and our pre leased dialogue with prospective tenants have been positive.
As we have discussed on prior calls our development at <unk> in DC is currently 54% pre leased to Sonesta International Hotel Corporation, which is expected to begin wellbeing welcoming guests in the spring of 2023.
And our life Science redevelopment project in Seattle construction commenced during Q1 with anticipated delivery in the spring of 2023.
The market continues to show strong signs of growth within the lab sector, including a growing pipeline of tenants in the market and year over year, asking rent increases of close to 29%. This momentum has supported strong activity for development and we are in advanced leasing discussions for approximately 30% of the property.
Finally, we are extremely proud of the progress we continue to make to strengthen opi's corporate governance earlier. This month, we welcomed Martin tally as the newest member of our board of Trustees, Mark has more than 25 years of commercial real estate industry experience with an extensive background in office real estate.
Towards a draw on his perspective as we continue our work to create value for OPI shareholders.
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 $62 7 million or $1 30 per share, which exceeded the high end of our guidance range by <unk>.
This compares to normalized <unk> of $58 1 million or $1 20 per share for the fourth quarter of 2021.
The increase on a sequential basis was driven by the factors that we highlighted on last quarter's earnings call consisting mainly of termination fees recognized in the first quarter, which enabled the commencement of our Seattle redevelopment project, adding strategic full building lease in San Jose, California.
The increase was also attributable to lower G&A expense, primarily due to a state franchise tax refund received in the quarter.
<unk> increased 20% on a sequential quarter basis to $51 million or $1 six per share for the first quarter. Our dividend is well covered with a rolling four quarter <unk> payout ratio of 67%.
Turning to property level results for the quarter.
Same property cash basis, NOI was essentially flat compared to the first quarter of 2021, which was in line with our guidance range. Our results were positively impacted by increases in cash rents related to free rent that rolled off during 2021 offset by increases in expenses related to increasing building utilization levels and cost pressures on <unk>.
Rates for utilities and cleaning.
Looking ahead to our normalized <unk> and same property cash basis NOI expectations in the second quarter, we expect normalized <unk> to be between $1 11, and $1 13 per share the key drivers compared to our Q1 results are the following 15 cents due to termination fee income and the February lease expiration of that five during the first quarter.
<unk> and <unk> due to increased G&A, mainly attributable to trust the compensation expense in Q2.
This guidance takes into account our planned disposition activity and includes a range of 26% to $27 million of interest expense and seven two to $7 $3 million of G&A expense during the second quarter.
Our G&A expense forecast in the second quarter includes expected annual trustees share based compensation that occur in conjunction with our annual board meeting in June .
We expect same property cash basis, NOI to be down 2% to 4% as compared to the second quarter of 2021, mainly driven by expense increases, resulting from improving utilization levels and cost increases.
Turning to capital expenditures and the balance sheet.
We spent $11 $4 million on recurring capital and $37 $5 million on redevelopment capital during the first quarter consistent with last quarter's call. We continue to expect 2022 recurring capital to be elevated as compared to 2021 as a result of our plans to drive strong leasing activity this year and <unk>.
Kris redevelopment spend to support our 20 mass Av and Seattle redevelopment projects from.
From a financing perspective, we believe we are in great shape. The actions, we took last year to refinance higher rate debt strengthened our balance sheet reduced our weighted average cost of fixed rate debt and provides us with ample liquidity to pay off our $300 million of senior notes maturing in July and to fund our capital spend ahead of market conditions.
<unk> that are meaningfully less favorable today.
These refinancings largely resulted in a decrease in interest expense of $1 4 million or approximately 5% year over year.
100% of our $2 6 billion of outstanding principal balance is fixed at a weighted average interest rate below 4%.
Our exposure to the rising interest rate environment is limited to a revolving credit facility, which was undrawn at March 31, and we ended the first quarter with nearly $850 million of total liquidity.
In April we repaid $25 million of mortgage debt with cash on hand, resulting in less than 3% of our debt being secured.
Beyond our July notes, we have no senior notes maturing until May 2024, leaving us well positioned in this environment.
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.
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At this time, we will pause momentarily to assemble our roster.
And our first question will come from Bryan Mayer of B Riley FBR. Please go ahead.
Good morning, Chris and Matt and thanks to those comprehensive prepared comments that's very helpful.
A question that I might on the assets that you plan to sell in 2022 is there any common denominator or characteristic on those properties that we should be thinking about when we look at the total portfolio I would guess it stuck with.
Nearer lease term explorations and or higher capex needs, but is there anything else.
No I mean that that's really kind of what the focus is as we've talked about.
For our disposition program, it's really to kind of.
Kind of get out of markets, where we don't feel like we can grow NOI or those that are going to kind of have larger capital burden for varian circuit various circumstances and so as you look at kind of the weighted average lease term or the average building age and other things. Those are all kind of I think where we're focused and I think occupancy to itself.
Saying that.
Most of what we're selling you know.
Also has kind of some occupancy challenges as well and so we.
We kind of look at what we're seeing that occupancy range kind of in the 8% and so.
As we sell out of these.
These properties those are really the primary factors we're looking at.
Got it and then as it comes to receiving those proceeds how should we think about re deployment is going to be a combination of delevering and capital recycling into new properties.
Or is it mostly going to be geared towards the redevelopment projects in Seattle and Matt that you know how should we be thinking about those proceed.
Brian It's a good question and it's a little bit of everything that you just highlighted.
As I did mentioned in prepared remarks, we had $300 million of notes coming due in July we will use our liquidity position and additional asset sales.
Hey, those off when they become due without penalty in June and then its continued focus on our redevelopment projects.
We do continue to look at acquisitions, but really the focus is more on the redevelopment.
Thank you and just two more quick ones for me how much of an impact did the F. Five termination and moved to redevelopment in Seattle impact occupancy in the quarter.
Well I think that if you look at it from.
It was 2% of annualized revenue that burned off and if you look at it from an occupancy standpoint, I mean, it was really nominal in the sense that.
That building was 300000 square feet and at the same time, we did just over 230000 square feet of new leasing and so I think kind of the net impact of occupancy was really nominal which is a testament as to why.
Our same occupancy trends didn't really have much of an impact quarter to quarter.
Okay, and just last for me, Matt I think you talked a little bit about the Capex numbers I don't think I caught you mentioned catch you mentioned, a 2022 full year capex.
Do you have that you can share.
Yes, it's consistent with last quarter I would say, it's around $100 million for the full year, plus or minus $10 million.
Thank you very much.
Thank you.
Once again, if you would like to ask a question. Please press Star then one.
Our next question will come from Ronald Camden of Morgan Stanley . Please go ahead.
Hey, Thanks for taking the question just first is just a big picture question on the return to office.
If you can update us there sort of what are you hearing from clients. What are you hearing from tenants.
In terms of that process. Thanks.
Yes. So thanks, Ron this is Chris.
I think burst.
Last quarter, we kind of talked about utilization being in the high thirties and that just continues to improve.
I think we feel we're kind of north of that 40% utilization now and and really kind of with additional return to office occurring over the next several months and even the next quarter and so I think we'll continue to see that trend progress and thats consistent with a lot of what tenants are telling us and even when you kind of look.
At maybe more at the government level, given our GSA portfolio Youre seeing kind of a lot of guidance out there across these agencies were returned to office, whether it's an portion or a full really kind of starts to evolve, let's just say kind of starting March April and in making its way into kind of mid summer and so.
That trend progresses, and we're consistent I think overall with the national average of what we're seeing for reentry.
Yeah.
Great and then.
You know I think obviously, there's sort of a two.
Development and redevelopment projects going on just can you give us a sense.
What's after that how are you guys thinking about sort of future opportunity for new development redevelopment as you as you're thinking about the portfolio.
Yeah. So you know I think redevelopment is something and development is something we'll continue to do across the portfolio. I mean as you know some of these projects can take time to evolve in and really what our focus is is on opportunities within our existing portfolio today I mean, you've heard on prior calls over the last.
Year, plus about assemblage, we've done in downtown Boston.
We think there is kind of good prospects long term there we've looked at other opportunities across markets.
For potential conversions, whether it be to life science or other alternative uses.
Those are all kind of active discussions in the Q I mean, ideally if we can retain a tenant and renew them and it looks favorable I mean, thats, a focus of ours and but I think kind of given the makeup of our portfolio and a lot of the.
Kind of diversity across geographies, we tend to kind of have varying levels of opportunity for repositioning or development, which we think is kind of a good good opportunity for the portfolio over the medium and long term.
Great. That's all my questions. Thank you.
This concludes our question and answer session I would like to turn the conference back over to Chris <unk>, President and Chief operating officer for any closing remarks.
Thank you everybody for joining us and we look forward to seeing many of you at the upcoming NAREIT and other meetings.
Yeah.
The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.
[music].
Okay.
Yes.
Sure.