Q2 2022 Orion Office Reit Inc Earnings Call

Greetings and welcome to the Orion Office, REIT second quarter 2022 financial results.

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A question and answer session will follow the formal presentation.

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Please note this conference is being recorded.

At this time I'll turn the conference over to Paul He was general counsel for Orion. Mr. Hughes you may now begin.

Thank you operator, good morning, everyone yesterday Orion released its financial results for the quarter ended June 32022 filed its Form 10-Q, with the Securities and Exchange Commission and posted its earnings supplement to its website.

These documents are available in the investors section of the company's website at Www Dot <unk> Dot com.

Forward looking statements made during today's call such as the Companys guidance estimates for calendar year 2022 are subject to a number of risks and uncertainties that could cause actual results to differ materially from our expectations.

These risks and uncertainties are discussed in our earnings release as well as in our Form 10-Q, and other SEC filings the company undertakes.

<unk> undertakes no duty to update any forward looking statements that may be made during the course of today's call.

Additionally, during the conference call today, we will be discussing certain non-GAAP financial measures.

Such as funds from operations or <unk>.

Core funds from operations or core <unk> the.

The Companys earnings release and supplemental include a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures.

Hosting the call today are Paul Mcdowell, the company's Chief Executive Officer.

Gavin Brandon the company's Chief financial Officer, and joining us for the Q&A session are Gary laundry, all our Chief investment Officer, and Chris <unk>, Our Chief operating officer.

With that I am now going to turn the call over to Paul Mcdowell Paul.

Good morning, everyone and welcome to Orion Office, REIT second quarter 2022 earnings call.

On behalf of our team I want to thank you all for joining us.

On the call today, I will discuss our performance during the second quarter, which is only our second full quarter of operations as well as highlight the progress we continue to make in optimizing O'brien for future success.

I'll, then turn the call over to Gavin to provide an update on our financial results and guidance.

As we have detailed since November 2021, following our spinoff of Realty income, we inherited a portfolio that needed some intensive asset management and repositioning to address significant lease maturities and vacancies. While this process will take time and certainly consists of a variety of challenges along.

The way we have made strong progress in the first half of the year. We remain excited about the importance of suburban net lease office and the evolving landscape of office space and the Workforces of tomorrow and have strong conviction in our ability to ultimately grow Orion and maximize long term value for our shareholders.

And as a quick reminder, Orion is unique in that we're the only public net lease REIT that is exclusively focused on owning a diversified portfolio of mission critical and corporate headquarters office buildings located in high quality suburban markets throughout the United States.

As a result, our business represents a specialized opportunity to invest in suburban net lease office.

At quarter end the portfolio consisted of 91 properties and six unconsolidated joint venture properties, representing 10 5 million square feet that was 86, 7% occupied.

The properties are leased predominantly to credit worthy tenants, primarily on a net lease basis.

As a percentage of annualized base rent as of June 32022, there was 67, 3% investment grade tenancy across the portfolio and approximately 80% of our leases are either triple or double net.

Our assets are also diversified by tenant <unk>.

Tenant industry and geography.

No tenant industry makes up more than 12, 8% of annualized base rent and.

And no single tenant makes up more than 12, 4% of annualized base rent.

Our largest market by state, our Texas, and New Jersey, which represents 14, 3% and 11, 2% of annualized base rent respectively and.

And approximately 31, 1% of our annualized base rent is derived from sunbelt markets.

We are continuing to make progress in renewing leases in the portfolio with our current tenants.

Last quarter, we secured a 178000 square feet of lease extensions and lease expansions in Texas and Georgia.

And this quarter, we garnered another 206000 square feet of lease extensions in Nebraska and Illinois.

With the new weighted average lease term of seven eight years.

Similar to Merrill Lynch, who signed on for an 11 year extension at the end of last year tenants have demonstrated a willingness to lock in multiple year extensions ahead of their current explorations.

It is great to see this continued positive leasing activity as we have highlighted on previous calls however, tenant retention will ultimately continue to be volatile specifically, we had two scheduled lease expirations during the quarter totaling about 157000 square feet.

We had 11 vacant assets as of June 32022.

There were occupancy held fairly steady.

Additionally, our portfolio's weighted average lease term remains four one years.

A critical component of our near to intermediate term asset management strategy is to sell vacant and identified non core assets that do not fit our long term investment objectives. The sale of these assets will allow us to both reduce carry costs and avoid the uncertainty and significant capital expenditures associated.

With re tenant it.

To date, we have closed on two dispositions totaling 210000 square feet for net proceeds of $9 2 million avoiding near term vacancies as the leases expired.

More importantly, we have six additional properties totaling about 338000 square feet under contract for sale for an aggregate sale price of approximately $19 million.

We have a further two properties totaling a bit more than 300000 square feet under LOI for an aggregate sale price of about $13 $8 million.

Several of these properties are currently vacant while the remainder have short lease terms, where we know the tenant will not renew.

We are also actively marketing a number of other assets for sale or lease that fall into the same bucket.

We anticipate that several of these sales will occur in the very near term, while one or two will trail into next year, allowing us to continue to harvest rent before the sale closes.

Addressing the portfolio vacancies and significant lease roll over the next several years has and will remain our priority until we reach stabilization and enhance our portfolio's weighted average lease term.

We will continue to dedicate our time capital and resources to this initiative.

Again, we highlight that this will take time and put continued pressure on our earnings performance over the coming quarters and years, but we are confident in our experience and expertise the track record of these assets and the strength of many of the properties we already have in the portfolio.

While we are hard at work on repositioning the portfolio, we remain excited about orion's growth prospects and opportunities.

We have a good pipeline and continue to actively review a number of acquisitions for both the joint venture as well as orion's own balance sheet.

However, given the macroeconomic environment, our current valuation and our capital allocation needs. We will remain highly disciplined and strategic when it comes to adding new properties to our core portfolio.

We recently paid our second dividend and our board has just declared our third quarterly dividend.

As we have previously cited it is our objective overtime to pause.

<unk> in the portfolio to a place where we can increase our current payout ratio.

We are acutely aware of our capital allocation obligations and in conjunction with our board, we carefully weigh where best to apply our operating cash flow.

The proceeds from our property sales and borrowings under the revolver.

While current market conditions are dynamic our long term plans remain firmly in place.

We have a strong portfolio of occupied assets some of which will require significant capital outlays as we renew our tenants.

We have several current or near term vacancies, where we believe the quality and location of the properties Merit holding these assets repositioning them as necessary and re tenant that makes sense.

These assets, we will also take significant amounts of capital to carry and that attract new occupants.

Our belief is that rather than make orion's equity based smaller over time, our shareholders best interests will be served by preserving and then growing our core portfolio.

Importantly, we are pleased with the engagement we are observing with tenants. The progress we have made in leasing the portfolio and our ability to dispose of vacant and noncore assets.

Despite market disruptions, we are continuing to make steady progress in 2022 on our key goals and believe in our capabilities to actively manage recycle capital and ultimately grow this portfolio.

We remain enthusiastic about <unk> future and are steadfast in our commitment to delivering value for our shareholders.

With that I will now turn the call over to Gavin Brandon, Our CFO , who will discuss our second quarter 2022 financial highlights our balance sheet dividend and outlook for the remainder of the year Gavin.

Thanks, Paul I'll begin by discussing Orion's GAAP results for the second quarter of 2022, which is our second full quarter operating as a public company.

Orion generated total revenue for the second quarter 2020 to $52 8 million in reported net loss attributable to common stockholders of $15 6 million or a loss of 27 per share core funds from operations was $26 8 million or <unk> 47.

<unk> per share and adjusted EBITDA was $34 7 million.

G&A in the second quarter of 2022 was $3 3 million Capex tenant in property improvements and leasing commissions this quarter were $2 $4 million consistent with last quarter.

As we have discussed capex timing will be dependent on when leases are signed and work is completed our properties and likely will increase over time as our leases rollover.

Turning to the balance sheet, we ended the quarter with $628 3 million of outstanding debt, including Orion's proportionate share of.

Of that and the joint venture.

During the quarter, we repaid $20 million outstanding on our revolving credit facility to bring the balance down to $71 million from $91 million.

As of June 32022, we had total liquidity of $374 million, consisting of $354 million of available capacity on our revolving credit facility and $20 million in cash and cash equivalents, including Orion's proportionate share of cash in the joint venture.

We have no debt maturities this year and over 84% of our debt is fixed or swapped to fixed rate.

Our net debt to annualized adjusted EBITDA was 438 times at quarter end.

We also want to highlight that Orion's board of directors has declared a quarterly dividend of <unk> 10 per share for the third quarter of 2022 to be paid on October 17, 2022 to stockholders of record as of September 32022.

With our current liquidity anticipated proceeds from dispositions and the cash flow of the business is generating itself. We believe we are in a strong financial position to weather the current and anticipated market volatility, while setting out to achieve our near and longer term objectives.

Due primarily to the impact of a variety of accounting and one time items such as the recent finalization of purchase price allocations related to the spinoff and Realty income the timing of amortization of stock based compensation under GAAP and an additional one year delay in the SEC requirement for an internal control audit.

And the delay in hiring for a number of roles that are now filled we are updating our 2020 outlook.

That being said these updated ranges should not be extrapolated to future years, given the impact of the lease expirations this year.

Coupled with the anticipated explorations in the portfolio over the next two years and the associated expected decline in revenue due to the smaller portfolio side.

In addition, future years will also be affected by increased G&A related to the timing of certain expenses as well as the and certain operating subsidies. We have received from royalty income that's part of the spinoff.

Specifically, our G&A is now anticipated to range from 16 million to $16 5 million down from 17 million to $18 million. Our core <unk> is now expected to range from $1 74 to $1 78 per share up from $1 66 to $1 74 per share.

Lastly, our net debt to adjusted EBITDA is now expected to range from four seven times.

To 5.0 times down from four seven times to five five times.

With that we'll open the lineup for questions operator.

Thank you well now be conducting a question and answer session.

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One moment please poll for questions. Thank you.

Our first question comes from the line of Mitch Germain with JMP Securities. Please proceed with your questions.

Hi, Good morning, this is Judy.

Mitch.

So my first question is Paul you mentioned.

Opening remarks about asset dispositions.

Going from the number of landlords.

Sealy sales efforts.

So just curious about your view on potential volume and timing of your sales.

Yes.

We're lucky the assets that we've been looking to sell are sort of the assets that fall a little bit in the more specialized category versus our typical institutional investment asset so the markets or the markets in which we're operating to sell our properties.

Seem to be functioning pretty well, we've got very strong number of.

Bids for the properties that we've been looking to sell we've got as we said in the remarks six properties under contract in a couple of more under LOI and we see continued demand in the market for the types of properties that we're selling so we feel pretty good about our expectations for selling this non core portfolio over the <unk>.

A couple of quarters.

Okay. Thank you.

Second question that I have.

So the 'twenty to 'twenty two guidance midpoint is up from the first quarter.

Okay.

It kind of implies 40 cents a quarter going forward compared to 47 cents in the second quarter.

How do you think what would cause this change with key competence.

Well I mean I think.

Look we our guidance is our guidance and we don't give quarterly guidance, but I think that we will begin to see the impact of some of the lease expirations that we've had earlier this year on revenues and that will impact revenues in the current quarter that by that I mean, the third quarter.

And then again in the fourth quarter and of course to some extent next year as well.

Right, Okay that makes sense.

And then last one from me.

This is some sort of guidance that you have on the capital expenditure.

Thank you, ladies and strategy going forward.

We haven't we haven't issued guidance on capital expenditures, but what we have said is that we see capital expenditures running anywhere between five and $10 per square foot per year for new and renewed leases.

Okay.

Thank you so much that's all.

Thank you.

As a reminder, you May press star one to ask a question.

The next question is from the line of Edward Riley. Please proceed with your questions.

Good morning, gentlemen, so a bunch of housekeeping.

You had three properties under LOI for an aggregate sale price of 13 point email.

I think we have to.

Okay 2.9.

$13.

Two $813 eight Eddie.

Okay, and so theres a property is in the queue right now to.

To be sold or could you tell us how many of these are currently vacant.

About half of them are vacant.

<unk>.

And the remainder as I mentioned in my prepared remarks.

Short lease terms, where we expect the tenant will not renew.

Okay got you so let's see here so theres currently 11 vacant properties.

So you expect there to be maybe seven vacant properties. So all of these I was wondering.

<unk> costs for the seven vacant properties are.

I'm going to let Chris to answer that.

Average roughly around $7 per square foot per year.

Some are higher summer.

Your properties.

In the Chicago area, typically have higher property taxes et cetera versus a property at a smaller market, but on average they are.

So around $7 per square foot.

Okay Gotcha and of these remaining seven.

Or are considered.

<unk>.

Well I would say.

More generally when we look at the remaining vacant properties we have.

Several of them, we may in the future decide to sell.

Several of them. We think are good properties, and we think deserve a very solid and strong effort to re lease them. We're prepared to spend money on updating those properties and repair to spend money to attract new tenants to those properties.

And the expectation is that we will.

But if for some reason we feel like leasing has stalled or we're not seeing the momentum we hope to see.

We recognize how expensive it is to carry these properties will then take a hard look at them and we may sell those as well.

Okay Gotcha.

I'm wondering what industries.

The most lease explorations in 2023 and 24.

Okay.

I don't think I have that data right in front of me Eddie Let me just look that up and we'll get it we'll get we'll get it back to you.

I mean do you think there's a strong probability of hmm.

To.

Some of the tenants that have.

Only three in 2024.

Sorry can you repeat that you were sort of going in and out a little bit.

Sorry.

No I was just wondering if there is a strong probability of re leasing.

To the tenants that have lease expirations in <unk>.

'twenty, three and 'twenty 'twenty four.

Yes, we've got you know I would say that our hour.

Last quarter, I think our recapture or.

About 50, 556%.

Tenants.

About half renewed half have terminated I think looking forward, we don't know exactly where thats going to come out but.

Third quarter will be very very volatile. So we may have one quarter, where we have very strong renewal because if you have two leases expire and they both renew you're at 100% renewal and then if you have two leases and they both don't renew you're at zero percent, but we think over time.

We will have strong renewal in the portfolio, but there will be some volatility quarter to quarter next looking into.

The coming periods, the coming two quarters remaining two quarters of this year and then looking into next year.

It will be a mixed bag like it has been this year, we'll have some very good renewals, we've got some good new leasing.

Visibility on properties that are going vacant.

And we'll have some we'll have some departures and additional vacancy.

Okay, great. Thanks, guys I appreciate it.

As a reminder, you May press star one to ask a question at this time.

Thank you.

We've reached end of our question and answer session I will now turn the floor back to Mr. Macdonald for closing comments.

Okay. Thank you all for joining us today, and we look forward to updating you on our next quarterly conference call.

Good weekend.

This concludes today's conference you may disconnect. Your lines at this time. Thank you for your participation and have a wonderful day.