Q2 2023 NETSTREIT Corp Earnings Call
Greetings and welcome to the net Street Corp, second quarter 2023 earnings call.
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Question and answer session will follow the formal presentation.
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Please note that this conference is being recorded.
At this time I'll turn the conference over to Amy <unk> with Investor Relations.
You may now begin.
We thank you for joining us for net Street second quarter of 2023 earnings Conference call. In addition to the press release distributed yesterday after market close we posted a supplemental package and an updated investor presentation, which can be found in the Investor Relations section of the company's website at Www Dot net street Dot com on.
<unk> call management's remarks, and answers to your questions may contain forward looking statements as defined in the private Securities Litigation Reform Act of 1995 forward looking statements address matters that are subject to risks and uncertainties that may cause actual results to differ from those discussed today for more information about these risk factors. We encourage you to review our.
Form 10-K for the year ended December 31st 2022, and our other SEC filings.
All forward looking statements are made as of the date hereof and that street assumes no obligation to update any forward looking statements in the future.
Certain financial information presented on this call includes non-GAAP financial measures. Please refer to our earnings release and supplemental package for definitions of our non-GAAP measures reconciliation to the most comparable GAAP measure and an explanation of why we believe such non-GAAP financial measures are useful to investors today's conference call.
Hosted by not Street, Chief Executive Officer, Mark Manheimer, and Chief Financial Officer, Dan Donlan.
We will make some prepared remarks, and then we will open the call for your questions now I'll turn the call over to Mark Mark.
Good morning, everyone and thank you for joining our call today as detailed in our quarterly disclosure, we reported another solid quarter of investment activity with continued improvement in many of our key portfolio metrics.
In addition, we recently completed a number of capital markets transactions that enhanced our balance sheet and strengthened our liquidity position, which Dan will cover in his section.
All in all our portfolio continues to perform at a high level and our opportunities for external growth continued to increase in both size and quality, which has it's highly optimistic about our ability to compound earnings and achieve attractive total returns for shareholders.
Starting with the portfolio as of quarter end, we had 531 investments that were at least 87 tenants that operate within 25 retail industries across 45 states.
With 82% of our portfolio as measured by a b are being leased to tenants with investment grade ratings and investment grade profiles and 87% coming from it necessity based discount or a service oriented retailers, we have not deviated from our focus on high quality tenants and defensive retail categories. Our occupancy remained stable at 100%.
Our weighted average remaining lease term of nine four years was unchanged quarter over quarter.
In terms of near term lease expiration of risk based on our strong tenant relationships and.
Visibility we have into the performance of our properties. We are highly confident in the renewal prospects for the two 5% of ABR that expires between now and the end of 2025.
Coupled with the strong balance sheets and ample financial resources of our high quality tenant base. We continue to believe that our in place cash flow stream shipper should prove highly durable in any economic environment.
Turning to capital deployment, we closed on $115 million of net investment activity. This quarter, which was primarily funded with attractively priced equity capital that we raised in August 2022.
Then it quality remained high at 81, 3% of our second quarter investments were leased to investment grade rated investment grade profile tenants.
Our second quarter investments had an initial cash yield of six 8% and a weighted average lease term of 11 six years.
Of note over half of our second quarter investment activity involved Tri party negotiations whereby the tenant agreed to extend out a large portion of their existing leases, but not street to 15 years as well as add rent escalation clauses to the new and existing leases that were previously flat.
These IRR accretive transactions, which modestly pressure cap rates in the quarter not only enhanced our portfolios internal rent growth profile, but also provided us with increased visibility into the desirability of our properties. We believe these collaborative industry relationships will drive additional opportunities for necessary as we look to become a greater part of Ambev.
I'd solutions for retailers and developers alike.
From a pricing perspective, while we believe cap rates have largely leveled off for assets that we pursue.
We do expect third quarter investments to have slightly higher cap rates than this quarter. Despite there being no change in tenant quality.
Turning to dispositions, we sold two properties with 4.6 years of remaining lease term in the second quarter from $4 $1 million at a six 7% blended cash yield.
In the back half of the year, we expect to see our disposition activity increased relative to the first half as we look to manage certain tenant concentrations.
No most of the planned disposition activity is being done to free up investment capacity with the same tenant, albeit at higher yields with better lease terms.
Looking at our investment pipeline, we are seeing increased opportunities for professional fee simple acquisitions due to the impact of higher interest rates.
Definitely less its less active at 10 31 market place and limited competition from highly Levered buyers.
As we touched on earlier, we are seeing both retailers and developers consider our capital as an alternative financing options given the.
Given the unattractive nature of the debt markets and are at the limited availability of financing for both small community and regional banks.
All of these market dynamics are resulting in more attractive cap rates. We're also seeing an increased willingness by retailers, especially those committed to growing their store count to sign leases with longer lease terms and embedded rent escalations and.
In addition, well loan origination opportunities remain plentiful, we have become even more selective in the types of loans that we may originate and how we allocate capital to these investments in short we are only focusing on those opportunities that can lead to sustainable long term value from a relationship perspective, and ultimately fee simple ownership.
In closing, we will continue to take advantage of our size in mind, our unique sourcing channels for attractively priced opportunities to drive outsized risk adjusted returns for shareholders.
$227 $7 million net investment activity closed in the first half of 'twenty 'twenty. Three we remain ahead of pace, which gives us the confidence to increase our 2023 net investment activity guidance to at least $450 million from our prior guidance of $400 million with that I'll hand, the call over to Dan to go over our second quarter financial results.
Thank you Mark and good morning, everyone.
Turning to our second quarter earnings we reported a net loss of $792000 or a penny per diluted share.
If I had totaled $17 $6 million for the quarter or 29 cents per diluted share a 12% increase from the prior year period.
If a phone totaled $18 $7 million for the quarter or 30 cents per diluted share a 7% increase from the prior period.
Turning to G&A total G&A expense, excluding onetime items increased 4% year over year to $5 1 million, which was primarily due to a higher employee count.
However, with total G&A, representing 16% of total revenues in the second quarter versus 21, and a half per cent to your prior you saw a considerable improvement in this ratio.
Really on a quarter over quarter basis, our cash G&A declined one 6%.
As we look out to the balance of the air and beyond our G&A should continue to rationalize relative to our asset base and total revenues as the company has reached a proper scale to effectively operate our business on a go forward basis.
Turning to the balance sheet, we had total debt outstanding of $489 4 million at quarter end.
The weighted average contractual interest rate, including the impact of fixed rate swaps are 3.49%.
During the quarter, we amended and restated our 175 million senior unsecured term loan to extend the maturity to January 227 from December 'twenty 'twenty four all details are in our supplemental. Please note that we fully had just term loan using a combination of forward starting swaps that resulted in an all in fixed rate of 1.37% through November 2023.
Which then adjusted $3 one 2% through December 'twenty, 'twenty, four but the final adjustment thereafter to $3 six 5% through the fully extended maturity of January 2027.
Additionally, and subsequent to quarter end, because on a new $250 million senior unsecured term loan with a delayed draw option, which is a fully extended maturity date of January 2029.
The term loan includes accordion feature that allows it coming to increase the total loan amount to $400 million.
At closing on July 3rd we drew down 159 and plan to draw the remaining $100 million in the first quarter of 'twenty 'twenty four.
We fully actually 250 of them in dollar term loan at an all in fixed interest rate of 4.99% through January 2029.
As a result of these debt transactions, we no longer have any debt maturing until 2027 and our.
Our only exposure to variable rate debt is via our revolving line of credit, which has nothing outstanding and as of today.
We'd like to thank our banking partners for executing these transactions during what remains a tight lending environment.
We also note that demand for both term loans far exceeded the principal bounces raised which we believe speaks to our ready access to efficiently priced capital.
At quarter end, our liquidity was $307 million, which includes 13 million of cash on hand, and $294 million available on our revolving credit facility.
However, when including the closing of our $250 million term loan in July our pro forma liquidity increases to $557 million, which provides us with ample dry powder to meet our increased net investment target for 2023.
From a leverage perspective, our net debt to annualized adjusted EBITDA was four six times at quarter end, which remains well within our targeted leverage range of four and a half to five and a half times.
Turning to the dividend on July 24th the board declared a quarterly cash dividend of 28, and a half cents per share, which represented two 5% increase versus the prior period and is our first increase in the companys dividend since our IPO.
The dividend will be payable on September 15th to shareholders of record as of September 1st base.
Based on this new dividend amount, our <unk> payout ratio for the second quarter was 68%, which we believe bodes well for future dividend increases.
Lastly, <unk>.
Equity market sentiment, we have all the components in place to execute on our external growth plans and to provide the best risk adjusted returns to our shareholders. Therefore, we are updating our 2023 <unk> per share guidance to $1 $22 23, and increasing the midpoint by one and a half sets.
We will now open the line for questions operator.
Yeah.
Thank you well now be conducting a question and answer session.
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One moment please poll for questions. Thank you.
Okay.
Thank you and our first question today, which comes from the line of Wes Golladay with Baird. Please proceed with your questions.
Yeah. Good morning, everyone. You mentioned you're building in higher escalators of some of the new deals is this something you've tried before in the past or is this something new that the tenants are more open to.
Yeah. No. This is something that tenants are more up into I think yeah out of necessity. You know just with a 10 31 market that's not nearly as active as it was you know call. It 18 months ago, we've been able to negotiate those and anytime that we're at the table negotiating directly with the tenant we're trying to push for better escalators and it's always a challenge with what.
More of an investment grade and investment grade profile.
Type focus where that where the leases tend to be flatter.
Okay, and then maybe a comment on dispositions I want make sure I understood. It correctly. It sounded like you said youre going to do some I guess, maybe asset management, maybe get rid of the cycle some of the bad or I guess more riskier tenants. Within you also said you're going to sell some of the same tenant and go buy them.
How should we look at the mix of what you're doing on the disposition front.
Yes, I think overall similar to what we've done in the past and that's you know we'll look at potential credit risks. We will look at concentrations that can kind of can get a little bit higher with a smaller portfolio and then as it relates to the second part of your question that was kind of more directly related to you know tenants, where we see a lot of opportunity with getting.
Yeah, very attractive new leases.
And then cycling out of some of the shorter term leases, where we can sell those assets are at or below the cap rates that were acquiring assets at.
Got it and then maybe just one final one can you maybe talk about your tenant watch list now I know you have a pretty pretty high export to the the idea or do you like assets, but just maybe the balance of the portfolio.
Yeah sure. So I mean, we yeah. We you know credit score every single asset in our portfolio and that's held up to be very strong.
You know there are a couple of assets with one particular tenant that you know that we may look to to sell out of <unk>. During the quarter. So I think you may see some exposure.
Oh, yeah, reduce where you know where there might be a little bit of risk, but feeling really good about the portfolio.
Great. Thanks for the time.
Thank you. Our next question is from the line of Eric Wolfe with Citi. Please proceed with your question.
Thanks, It's actually Nick Joseph here with Eric maybe just on cap rates. It sounds like <unk> may be trending a bit higher than what you saw in two Q. It's six eight so I was hoping you can quantify that.
Yeah sure I mean, I wouldn't expect to see a really big move I mean, when you look at the fee simple acquisitions that we've done really since the fourth quarter of last year, they've been pretty it's been pretty flat kind of year 6869 up to maybe a 7% yeah.
Cap rate I think we're likely to be at the high end of that in the third quarter.
Thanks.
When you're at six nine or seven does that give sufficient them kind of spread versus history in terms of investment spreads.
Yeah, Hey, Nick it's Dan Donlan. It does at these levels, we can definitely sufficiently raise accretive equity and I think the magnitude of what should we raise that capital is just ultimately depending on the sizing and pricing of the Aspen investment opportunities. We see ahead of us.
Thanks, and maybe just on that when you talk about accretive equity how are you thinking about that either relative to investment spread or is it.
Seems like in the second quarter was a bit below where street NAV. So how do you triangulate between that would make the decision.
Yeah, I mean look we look at next 12 months. So youll look at run rate as well so you're on and we look at implied cap rate when we think about raising equity, but as you, but yeah as mark alluded to in the quarter, we did have $90 million of well priced capital from the August 2022 race and so we we definitely achieved a nice.
Spread call. It you know 30 40 basis points relative to our all in.
Equity that we pulled down this quarter. So you know going forward if the spot cost of equity continues to be favorable.
So that's you know I think if you think about where are we just raised the debt at 5% you know if we're looking at investment spreads you know kind of around 130 120 basis points.
Thank you very much.
Our next question is from the line of Todd Thomas with Keybanc Capital markets. Please proceed with your questions.
Yeah, Hi, thanks.
Wanted to follow up a little bit on that discussion.
Just around you know.
The investments that were completed in the quarter being funded with attractively priced equity that was sort of agreed to or.
Issued on a forward basis, almost one year ago at your cost of capital is higher than it was last year. So I'm just curious how that.
Might impact how you think about investments heading into 2024 as you work through you know sort of your dry powder during the balance of the year.
Yeah look I'll, just kind of echo what I, just said to Nick.
We're first off we're at four six times leverage relative to our targeted range of four and a half to five five times. So thankfully, we have dry powder to deploy.
And as we think about our cost of equity it's a spot cost of equity today. It is accretive and you know we'll be judicious with how we raise capital.
And I think that you should expect from us going forward.
Okay.
Are you able to share.
Sure, where you expect leverage to tick.
At year end, just given the increase in net investment activity that you're you're you're anticipating.
And is there any additional equity.
Equity capital raising activity or any capital raising activity embedded in the updated guidance.
Yeah look I think you should expect us to manage our leverage within the four and a half to five five times range.
<unk>, which is consistent with what we provided in our guidance range.
Okay.
And then just as we as we think about you know.
Moving forward here you know clearly you have a you know a sense around the pace of investments in the pipeline that you're working on.
Just curious just in the current environment.
I would expect the pace of investment activity to remain relatively steady from 2023 levels as we begin to think a little bit about 2024.
Yeah, I think a little premature for us to start thinking about you know what we're going to do in 2024, it's been a pretty.
Volatile.
Market and need to understand kind of where where our cost of capital is.
And what the market looks like and what our opportunity set as you know looking at our opportunity set right now it's as robust as we've seen but we really only have visibility going out you know call. It 75 to 90 days out so a little bit difficult to say, what the opportunity set looks like in 2024 and kind of what the macro backdrop looks like but.
But yeah, I mean, I think the general idea for the company is to continue to grow.
Alright, great alright, thank you.
The next question is coming from the line of keeping Kim with true Securities. Please proceed with your question.
Thanks Al and good morning.
You know Dan given the timing of the equity <unk> towards the end of the quarter. How should we think about the cadence of earnings going into <unk> should there be a little bit of a debt before it comes back.
Look I think the impact to earnings it really come from the.
The term loan that we refinanced that's going to be moving from 137%.
At the end of November of this year too.
$3, one 2% and so I think that's really you know.
Obviously, that's going to be dilutive as you think about kind of.
Where we are but I think there's plenty of offsets to that and I think the idea around you know swapping the term loan and extending it out was to smooth out earnings growth between.
2024, and 2023, and then 2025 versus 2024.
And could you just provide any kind of high level color on big lots.
I guess, what your plans are for that tenant if you're looking to sell and.
Potentially what kind of recovery ratio.
That looks like.
Yeah sure. So I mean, I think you know they did just do a.
Sale leaseback, which says providing them.
A lot of liquidity for a period of time, so I and I think they should be just about done what their promotional activity I think we might have one more quarter of seeing margins you know it kind of that kind of in the low thirties.
You know, which is lower than they've been historically.
And so hopefully they can kind of start to turn the corner after that but then kind of turning to the assets that you know that we own.
I you know predominantly very low rents you know kind of around $7 a foot on average are and kind of almost 10 dollar market. So I feel like the real estate, we were pretty well covered with that but you know there are buyers out there that are not your typical net lease buyers that are more focused on kind of a value add type situations. So you know I think that.
It can be very attractive for those types of buyers.
And I wouldn't be too surprised to see us selectively decrease our exposure there.
Okay. Thank you.
Thanks Steven.
Our next question is from the line of Joshua then the underlying with Bank of America. Please proceed with your questions.
Hi, This is Phil Green up on behalf of Josh down the line.
I was hoping you could give a little bit more color on your new term loan specifically on maybe your rationale on the 10 year and extend ability to add a five and a half.
Yes.
Yeah, Hey look the the term loan market is an extremely attractive market right. Now when you are relative to kind of do the private placement in the unsecured bond market.
And certainly at our size you know call. It 171 8 billion in gross assets.
It's a it's a tool that we can utilize going forward as we think about you know that raises you know.
In a year or beyond the private placement market or.
Or the public unsecured bond market would then become more attractive as we'll get to the proper scale, which is basically 2 billion before you can start to access that market efficiently. So.
That's why we chose to go with what we did.
Great. Thank you.
Yeah.
Our next question is from the line of Greg Mcginniss with Scotiabank. Please proceed with your question.
Hey, good morning.
Good morning, Greg touch on that term loan again real quick so was the thought process on issuing a new term loan versus maybe using the accordion feature on the the other terminal is already in place.
Yeah.
Yeah look I think we wanted to raise new capital five and a half years.
Go out as long as he possibly could.
That's really the rationale around doing the five and a half year.
Yeah.
So as the accordion is still something that you'd think about tapping or no.
For the five and a half I mean look it's a I think it all just depends on where the market is Greg.
Now thankfully for us we.
Basically locked in our long term debt needs through 2025 so.
To the degree that.
The opportunity set in front of us increases.
You know the long term rates remain pretty unfavorable it could be something we'd look at but I think longer term, we'll want to match fund our.
You know, our long duration leases, which with longer duration debt.
Mhm.
Hey.
Switching gears a bit could you provide some color on maybe the discussions that you're having with merchant developers any interesting deal structures or cap rates that you're negotiating there.
Yeah sure I mean, I think that is certainly an area that's been under pressure.
The commuter community banks and smaller regional banks.
I have much more limited ability to lend them attractive capital like they had in the past you know really for the past call. It 10 to 15 years.
And then with a much shallower 10 31 market are they need to rely on institutional capitals. So those conversations are ongoing and it certainly has been a part of what we've done over the past couple of years and a larger chunk of what we've done over the past couple of quarters and I think that's likely going to continue as long as the REIT.
<unk> continued to want to grow and developers have that need for our capital.
Okay. Thanks.
Sorry, so is there any sort of change in cap rate trends there that you can comment on.
I mean, I think overall, you've seen over the past year since the fed started increasing rates you know 525 basis points. You know 16 months ago, you know you've seen.
Cap rates move up and I think it's maybe moved up slightly more as it relates to the developers that were at one point in time be able to get very aggressive cap rates from a 10 31 market. That's now essentially gone.
But it's nothing more than maybe 150 basis points from yes from the peak.
Alright, Thanks Mark.
Thank you as a reminder to ask a question today you May press star one from your telephone keypad.
Our next question is from the line of Nate Crossett with BNP. Please proceed with your questions.
Hey, good morning.
The lease escalation you talked about I think it might be helpful. If you just quantify what it is zero to know one.
You know what percent of the tenants are going to be kind of migrated over at lease escalation.
Yeah, I think yeah, though the retailers that we've worked with that are you know really trying to grow and feeling a little bit of a pressured up again, some institutional capital or are likely to kind of need to adjust what they are at lease terms or whether that'd be you know.
The the tenor or the or at the least pumps and what we've been able to get up to now has been in some cases, 1% annually.
And in some cases, 5% every five versus completely flat in the past.
Okay. That's helpful.
I don't know if you guys are running just disclosed we've closed so far in three Q maybe.
Maybe just like what does the pipeline look like in terms of loans versus acquisitions and then if you can just maybe talk to like the difference in current pricing between doing alone in straight acquisition.
Yeah sure so.
Yeah, I mean, yeah, we don't usually get into what we've closed so far in the quarter, but that being said the pipeline is very.
Very strong with a lot of opportunity out there are you know we're not as focused on adding as you know loans to the portfolio, but as I said in the prepared remarks.
We could consider adding some loans if that creates a path.
To sum fee ownership of some assets that we really like at attractive pricing.
Okay.
Maybe just like a strategy question here like investment grade percentages incredibly high now.
Feel like that gives you more leeway.
I guess do non investment grade stuff if the yield.
You can get a little extra yield there.
What's the thinking on that.
Yeah, and we're probably a little bit less dogmatic about whether something is investment grade or investment grade profile or if it's just a credit that we really like so we have always added.
<unk> properties to the portfolio that we feel really good about the operator and feel like there's not a lot of risk. So not just looking at whether it's investment grade or not investment grade, but I would expect our investment grade percentages to likely continue similar to what we've done in the past if we're just looking at the forward pipeline.
Okay, Okay I'll leave it there thank you.
Thanks.
Thank you we've reached the end of the question and answer session and I will turn the call over to Mark Manheimer for closing remarks.
Thanks, everyone for joining the call today and we appreciate everybody's time.
This will conclude today's conference you may disconnect your lines at this time and thank you for your participation.