City Office REIT Inc. Q1 2023 Earnings Call

Good morning, and welcome to the City Office REIT, Inc. First quarter 2023 earnings conference call at.

At this time, all participants are in listen only mode.

A question answer session will follow the formal presentation.

To ask a question you May Press Star then one on your Touchtone phone.

If youre using a speakerphone please pick up your handset before pressing the keys.

So withdraw your question. Please press star followed by two and as a reminder, this conference call is being recorded.

Do you require operator assistance. Please press Star then zero.

It is now my pleasure to introduce you to Tony <unk>, The company's Chief Financial Officer, Treasurer, and corporate Secretary. Thank you. Mr. <unk> you may begin.

Good morning, before we begin I would like to direct you to our website at <unk> Dot Com, where you can review our first quarter earnings press release and supplemental information package. The earnings release and supplemental package. Both include a reconciliation of non-GAAP measures that will be.

Just today to their most directly comparable GAAP financial measures.

Certain statements made today that discuss the company's beliefs or expectations or that are not based on historical fact may constitute forward looking statements within the meaning of the federal securities laws although.

Although the company believes that these expectations reflected in such forward looking statements are based upon reasonable assumptions, we can give no assurance that these expectations will be achieved.

Please see the forward looking statements disclaimer in our first quarter earnings press release, and the company's filings with the SEC.

For factors that could cause material differences between forward looking statements and actual results.

Company undertakes no obligation to update any forward looking statements. We made in the course of this call.

Review, our financial results after Jamie Farrar, our Chief Executive Officer discusses some of the quarters operational highlights I will now turn the call over to Jamie.

Good morning, and thanks for joining today.

Since our last earnings call at the end of February we've continued to track our expectations in terms of operations and per share performance with.

With our results this quarter, we have reiterated all aspects of our guidance, including strong core <unk> per share expectations and positive same store cash NOI growth.

Despite considerable volatility in the broader markets and the banking sector. Our premium Sunbelt platform provides an enduring competitive advantage.

On our last call I highlighted our Pima center property in Phoenix, which is benefiting from an adjacent new entertainment development.

On this call I want to focus on our city center property in downtown St. Petersburg, Florida.

St. Petersburg continues to generate very strong population and economic growth metrics due to its vibrant lifestyle and its unique waterfront location.

An influx of new restaurants and entertainment venues downtown.

Bind with limited available land has driven real estate values.

From an office market perspective, the St. Pete CBD has among the lowest vacancy rates in the country at approximately 7%.

In addition year over year in Q1 rents have increased by a healthy 8%.

Our building Citycenter has direct water views and is situated near the waterfront and marina various restaurants shops and mixed use developments.

It is 92% occupied today, when including signed and committed leases.

Our parking garage also sits on a prime location, which may be suitable for future residential development.

Well, we're at an early stage of unlocking that potential value City Center is a great case study in the tailwind is associated with a monetize sunbelt locations.

Relating to the outperformance of our Sunbelt markets next I would like to discuss space utilization across our portfolio, which continues to trend higher.

At the end of March approximately 60% of our portfolio wide tenant offices or workstations were being utilized.

Raleigh, and Tampa exceeded 70%.

Overall these levels have increased dramatically from the low 30% utilization range at the same time last year.

To highlight this we provided a new chart in our May investor presentation that shows utilization levels over time.

It is noteworthy that these results are trending towards the approximately 85% utilization that we estimate occurred pre pandemic when factoring in travel vacation and sick days.

Our expectation is that increasing utilization levels in our cities will translate to greater leasing activity over time.

In terms of new leasing newer and amortize properties in the best locations are continuing to outperform.

We're also seeing prospective tenants start to scrutinize the financial position of building ownership when evaluating their leasing options.

Across our industry many of the buildings that we compete with are owned by higher leveraged investors that are not as well capitalized in today's environment, a growing share of these owners don't have the capability to fund required capital and tenant improvements.

As the year progresses, we believe that our strong financial position will help to enhance occupancy levels.

Also to further advance leasing activity and property level cash flow, we continue to execute renovations and spec suites across our portfolio.

During the last 12 months, we signed 87000 square feet of new leases perspective.

We currently have only 14000 square feet of built spec suites, and our inventory, but we're advancing over 100000 square feet, which is either under construction or will be later this year.

We've started to benefit from these investments in this program, but the full extent will be realized over time as suites or at least an initial free rent periods burn off.

While we continue to take active steps to optimally position our portfolio for long term success. We're also very mindful of broader market volatility and headwinds.

The combination of rising interest rates and the recent banking sector challenges is impacted debt availability across the commercial real estate industry and in particular the office sector.

We anticipate that these challenging conditions will continue for smaller and regional banks that have been important capital providers to the commercial real estate industry.

Given the backdrop of these conditions, we believe its particularly important to operate conservatively.

And we announced today that we have reduced our quarterly dividend <unk> <unk> per share for an annualized rate of <unk> 40 per share.

As I mentioned on our last earnings call. Our board has been pragmatically reviewing the challenging operating conditions, each quarter and assessing the appropriate direction.

We did not take the decision to reduce the dividend lightly and we continue to believe the dividend is an important component of total shareholder return.

This adjustment is expected to result in the retention of $16 million of incremental cash annually, which will use strategically to best position ourselves.

This may include investments into our portfolio to enhance value.

Leverage reduction or share purchases.

So in summary, we will continue to evaluate market conditions and operate in a cautious and strategic manner.

Our initiatives will ensure we maintain a premium core sunbelt portfolio enhance our liquidity and provide us with the flexibility to pursue opportunities as they arise.

I look forward to providing future updates on our progress and we'll hand, the call over to Tony <unk> to discuss our results.

Thanks, Jamie.

Our net operating income in the first quarter was $28 2 million, which is 600000 higher than the amount we reported in the fourth quarter.

This increase is primarily a result of the occupancy gains at our block 23, and block 83 properties, which are recently constructed and still undergoing first generation lease up.

We reported core <unk> of 15 million or <unk> 37 per share, which was 400000 lower than in the fourth quarter.

The drivers of that decrease was primarily higher interest costs and higher G&A, which offset the net operating income increases.

Our first quarter <unk> was $8 2 million or <unk> 20 per share the largest impact to <unk> was continuing investment and ready to lease spec suites and vacancy conditioning, which is a key part of our business plan.

The total investment in spec suites and vacancy conditioning in the first quarter was $1 3 million or <unk> <unk> per share.

Moving on to some of our operational metrics, our first quarter same store cash NOI change was in line with our expectations at positive, 3% or 700000 higher as compared to the first quarter of 2022.

Block 83 block 23, and park tower had the largest year over year increases due to higher occupancy.

Our portfolio occupancy ended the quarter at 84, 9%.

Including 158000 square feet of signed leases that have not yet commenced our occupancy was 87, 5% as of quarter end.

Our total debt as of March 31 was $708 million.

Our net debt, including restricted cash to EBITDA was six five times, we have two smaller maturities in the fall of 2023 and both of these loans are secured by high quality properties at relatively low leverage levels.

With respect to the potential disposition of our 190 office Center property that I mentioned on our last conference call. We continue to explore all of our options and are in discussions with the lender we have nonrecourse property level debt on the property, which is advantageous to us.

In the event that we were to dispose of the property to the lender. We expect there would be an immediate positive impact on our financial position. We anticipate our total debt will decline by approximately $39 million and our net debt to EBITDA would improve modestly.

As far as our liquidity as of March 31, we had approximately $100 million of Undrawn availability on our credit facility.

We also had cash and restricted cash of $52 million as of quarter end, along with finance symbol unencumbered properties as an additional source of liquidity.

As we discussed in our last call during the first quarter, we executed two debt related transactions.

Which enhanced liquidity reduce our exposure to interest rate fluctuations and give us better visibility into our future earnings.

Following those credit facility expansion and interest rate swap transactions over 90% of our total debt was effectively fixed as of quarter end.

Related to our capital structure, we also announced today that our board approved a new $50 million share repurchase program subsequent to quarter end, we have not completed any repurchases to date. Our intention is to continually evaluate market conditions and weigh any repurchases versus added liquidity for other uses of cash.

We continue to track the 2023 guidance ranges that we issued last quarter that.

That concludes our prepared remarks, we will open up the line for questions operator.

Okay.

Thank you if you'd like to ask a question. Please press star followed by one on your telephone keypad if.

If you'd like to withdraw your question. Please press star followed by two when preparing to ask a question. Please ensure you are locally.

Mind, you that star followed by one on your telephone keypad now.

Our first question comes from Rob Stevenson of Janney. Your line is open. Please go ahead.

Hi, good morning, guys.

Jamie how are you and the board thinking about share repurchases at this point you just put the new plan in place, it's 50 million sort of the upper end of where you think you could legitimately do given your size and liquidity is it more than that is it less than that how should we be thinking about that and how are you guys thinking about that.

Thanks for the question, Rob So top of mind for US is shrinking our market cap overall, so we view this as a tool that we have and we're going to keep it in mind as we're making future decisions, but for US first priority is building additional liquidity and then we will consider all our options at that point.

Okay and I guess the question is besides the money that you save.

After dividend.

And the potential of turning in keys on 190.

Are there other dispositions that you guys are thinking about at this point given the fairly substantial spread between where you could probably sell some of your assets at versus where the implied cap rate is on your assets via the stock price.

Top of mind for US Rob is the market right now is somewhat frozen on acquisitions and dispositions and that's really driven primarily from the banking market being closed and an inability to get loans. So as.

As far as we're concerned.

Not an ideal time to be disposing of assets and so we're positioning ourselves to keep those options open but it will be down the road when market conditions are better.

Okay, and then Tony where is the.

The new dividend versus where you are likely to be on taxable earnings I mean, just trying to figure out I think that given the first quarter dividend youll be sort of 50.

For 2023 is that about where you would have to be for your minimum payout for REIT rules or is there additional.

Room in there how should we be thinking about that.

Yes, that's a good question Rob.

For our 2023 estimates.

The new dividend level is above.

Where our minimum is it just a little bit above it gives us some some some cushion beyond there. So it is not the absolute minimum and we do have.

Some ability to to have additional.

Accelerated depreciation to kind of lower that amount a little bit more in the future years, if we need to offer if our net income continues to grow.

Okay. Thanks, guys I appreciate the time.

Thanks, Rob.

Thank you. Our next question comes from Barry, Oxford <unk> Sorry. Your line is open. Please go ahead.

Hey, guys. Thanks for taking the question.

Real quick looking at the occupancy going from <unk> to <unk>.

A bit of a drop there down to $84 nine and then in particular, just kind of matching up <unk> and <unk>.

Three buildings kind of came out.

To me.

In particular that had drops which would be.

Superior point.

Denver Tech.

And $5 90 north.

Jamie do you want to comment on maybe what's going on in those those three buildings.

Yes, good morning, Barry It's Tony here I can say I can tackle that question and so and so.

Alright, great.

Yes, the two largest vacates during the quarter.

We're within the buildings that you mentioned so there was a 49000 square foot tenant at our $50 90 building in Phoenix.

That's a part of it during the quarter. This was a known vacate we had talked about it on previous calls and then the other one.

30000 square foot tenant at Denver Tech.

Also vacated during the quarter. So those two were the largest drivers of that decrease.

Alright.

What do you see over the next couple of quarters as far as.

No known move outs.

Sure. So we've got a schedule on page 15 of our deck that kind of breaks it down.

And so we have roughly 733000 square feet rolling over the next four quarters.

If you put aside 190 office center, which we've talked about which has vacates of approximately 174000 square feet.

That leaves us with just five tenants that are greater than 30000 square feet that are rolling and of those five two are actually known renewals. One is actually designed in recent days.

Two are known Vacates and one is unknown at this point, which is a 2020 for expiring.

Those two known vacate.

The largest is a.

49000 square foot tenant at our Cascade station property in Portland.

Okay.

Alright, great.

When you look at signing leases new leases on two fronts. One have you noticed that the tenants are taking less space or are they just kind of re upping for there.

Current space needs and then our T is starting to create more into the negotiations.

So a couple of different questions there.

Barry what we're seeing with our smaller tenants is more consistency on renewals.

What we're seeing with much of the larger tenants corporate America is really assessing their options downsizing, where they can in many cases looking to move to higher quality properties. The flight to quality, we're seeing that and so we're positioned well with a number of our properties, but we also have a few that are very suburban.

<unk>.

Our 190 is a perfect case, where youre seeing downsize overall and so I think most of our portfolio are on the smaller sized tenants. We have about 350 tenants in total I think the average size is about 15000 feet. The medians about six and so I think once we get through a few of these <unk>.

Larger rules, we're going to have much more stability.

But as we have larger roles in the near term, we're seeing a higher vacating downsize in terms of <unk>.

Leasing best right now is the highest quality space.

So <unk> have been increasing costs have increased.

What we're seeing and what we're factoring into our spec suite program is really building out very high quality space, because thats whats leasing and Thats whats leasing at the best rates and there is a healthy return on those and so we're trying to take advantage of that in properties, where rents are much lower.

It's a little tougher on the economics, but for very high quality properties. The math is compelling.

Alright, great I appreciate the color on that guys.

Thanks, Greg.

Yes.

Thank you as another reminder, if you wish to submit a question by the telephone lines you can do so by Questing Star followed by one on your telephone keypad now.

Our next question comes from Craig <unk> of B Riley Craig. Your line is open. Please go ahead.

Yes, thanks, and good morning, guys.

Tony the spec suites spending in the first quarter was a little out of what we were anticipating are you still anticipating an incremental $10 million call. It between that and vacancy reconditioning in 2022 or is that programs slowing down at all.

Good morning, Craig.

That's a very good question and a good observation.

So there is no intention to slow down the program, maybe a little bit on the margins, but effectively thats still the number that we're expecting to get to by the end of the year subject to obviously there is what happened to us in Q1 is a little bit of permitting and construction delays, which slowed down the pace of activity.

But we are still committed to invest in our properties and invest in that program.

Okay, Great and just one more for me.

Appreciate the color on the on the buyback but.

Is the board also potentially looking at the preferred I think it's now trading the yield call. It 10, 5% to 11%.

Obviously, a lot more thinly traded but is that also come into the equation as well.

So we have flexibility to purchase both common and preferred and so what youre, saying.

Has been observed in.

We factor in decisions going forward that is a potential as well.

Okay. Thanks I appreciate it.

Thanks, Greg.

Thank you. We currently have no further questions. So I'll hand back over to Jamie for a CEO for any closing remarks.

Thanks for joining today, we look forward to updating you on our progress next quarter Goodbye.

Ladies and gentlemen. This concludes today's call. Thank you for joining you may now disconnect your lines.

Okay.

[music].

Okay.