Retail Opportunity Investments Corp. (NASDAQ:ROIC) Q1 2023 Earnings Call Transcript

Retail Opportunity Investments Corp. (NASDAQ:ROIC) Q1 2023 Earnings Call Transcript April 26, 2023

Retail Opportunity Investments Corp. misses on earnings expectations. Reported EPS is $0.06 EPS, expectations were $0.08.

Operator: Good day, and welcome to Retail Opportunity Investments First Quarter 2023 Conference Call. Participants are currently in a listen-only mode. Following the company’s prepared remarks, the call will be opened up for questions. Now I’d like to introduce Laurie Sneve, the company’s Chief Accounting Officer.

Laurie Sneve : Thank you. Before we begin, please note that certain matters which we will discuss on today’s call are forward-looking statements within the meaning of federal securities laws. These forward-looking statements involve risks and other factors which can cause actual results to differ significantly from future results that are expressed or implied by such forward-looking statements. Participants should refer to the company’s filings with the SEC, including our most recent annual report on Form 10-K to learn more about these risks and other factors. In addition, we will be discussing certain non-GAAP financial results on today’s call. Reconciliation of these non-GAAP financial results to GAAP results can be found in the company’s quarterly supplemental, which is posted on our website. Now I’ll turn the call over to Stuart Tanz, the company’s Chief Executive Officer. Stuart?

Stuart Tanz: Thank you, Laurie, and good morning, everyone. Here with Lori and me today is Michael Haines, our Chief Financial Officer; and Rich Schoebel, our Chief Operating Officer. As reported in our press release, Laurie Sneve is retiring in a couple of weeks. Laurie and I have worked together for over 20 years, first at Pan Pacific and then for the past 11 years here at ROIC. I am truly grateful for her invaluable contributions with some guidance and leadership over the years. She will be missed by everyone at ROIC and all of us wish her the very best in her retirement. With Laurie retiring, Lauren Silvera will become Chief Accounting Officer. Lauren joined ROIC back in 2013 as the company’s Corporate Controller and has been an important part of the ROIC team for the past decade.

Mike, Rich and I look forward to working with Lauren in her new role. Turning to our first quarter results. Our grocery-anchored portfolio and tenant base continue to perform very well. In fact, in terms of leasing activity, notwithstanding our portfolio being essentially full at over 98% leased at the start of 2023, we achieved the most active quarter in the company’s history, leasing a new quarterly record amount of space and driving our portfolio lease rate to an all-time high at quarter end. Additionally, we again achieved solid re-leasing rent growth. In fact, it was our 45th consecutive quarter over 11 years in a row of achieving re-leasing rent growth on both new leases and renewals. Speaking of renewals, we posted our most active quarter by far in terms of renewing tenants, including long-time valued anchor tenants as well as a broad range of strong non-anchored tenants.

Many of our tenants continue to reach out to us early to execute renewal options with a growing number looking to extend past the typical five-year option period. We think the renewal activity is indicative of the strength and long-term appeal of our grocery-anchored portfolio with its strong location attributes and demographics. It is also indicative of the strength of our tenant base today. Dampening our record-setting leasing during the first quarter, we had several expenses that impacted FFO and same-center NOI. Most notably, we incurred an inordinate amount of snow removal costs primarily as a result of the unusual severe snowstorms up in the Seattle area back in July and February. We also incurred a onetime expense during the first quarter related to concluding an open item with a seller of a property that we had previously acquired.

Notwithstanding these expenses, we remain on track in terms of our guidance for the year. Along with working to enhance our portfolio through our leasing initiatives, we are also working to enhance our financial flexibility, especially in light of the recent banking turmoil. During the first quarter, we extended the maturity date of our credit facility. While the facility wasn’t scheduled to mature until next year, we extended the maturity date out to four years from now with the flexibility to extend it by as much as five years. Additionally, watching the interest rate swap market closely during the fourth quarter, we swapped top of our floating rate term loan, reducing our floating rate debt considerably. Now I’ll turn the call over to Michael Haines, our CFO, to take you through the details.

Mike?

Michael Haines: Thanks, Stuart. GAAP net income attributable to common shareholders for the first quarter of 2023 was $8.1 million, equating to $0.06 per diluted share. Funds from operations for the first quarter totaled $33.8 million, equating to $0.25 per diluted share. As Stuart touched on, during the first quarter, we had several expenses that impacted our first quarter results. That said, property-level rental revenue from the quarter actually came in above our budget such that actual GAAP operating income for the first quarter was fully in line with our budget, notwithstanding the added expenses. With respect to bad debt for the first quarter, that debt was approximately $1 million, which was below our budgeted amount of 1.5% of total revenue.

The bulk of the $1 million related to a combination of the onetime expense that Stuart mentioned and various tenant account adjustments. In other words, the bulk of our first quarter net debt was not related to 10 vacancies. Overall, our tenant base continues to perform well. In terms of financing initiatives, as Stuart noted, during the first quarter, we extended the maturity date on our credit line. Specifically working with our banking group, we extended the maturity date from February 2024 to March 2027, with the flexibility to extend the maturity for another year to March 2028. Additionally, borrowings on our line are now based on SOFR. We also have the flexibility to double the capacity on the credit line from its current capacity of $600 million, up to $1.2 billion.

As of the end of the first quarter, we had just $67 million drawn on the line. As Stuart highlighted, we continue to watch the debt market closely with an eye towards reducing our floating rate path, namely our $300 million floating rate term loan. During the first quarter, we capitalized on a favorable window and entered into two interest rate swap are fixed interest rate on $150 million of our $300 million term loan, locking in the rate at 5.4% through August of next year. With the swaps in place, we lowered our floating rate debt from 28% of our total debt, where we were started 2023, down to 16% as of March 31. Additionally, in terms of the company’s interest expense, our initial budget for 2023 assumed that the interest rate on our $300 million term loan would remain floating throughout the year.

Having put the swaps in place, we estimate it could lower our overall actual interest expense for the year by $0.5 million more depending upon the trajectory of interest rates as the year progresses. In terms of the $150 million that is still floating, we purposely held off swapping it out in order to give us flexibility in terms of refinancing options later in the year, including possibly refinancing the $150 million, together with the $250 million of fixed rate positive mature in December. Additionally, the term loan is repayable in full or part at any time and doesn’t mature until another two years, which also gives us considerable flexibility regarding refinancing strategies. Lastly, in terms of mortgage debt, with the banking terminal, there is currently a lot of concern regarding the commercial real estate lending market, particularly as it relates to mortgage refinancings going forward.

Given the original banks hold the bulk of mortgage debt, fortunately, we only had two mortgage loans on our balance sheet that together totaled about $61 million, one matures next year and the other matures in 2025. Our plan is to refinance both loans with unsecured debt. Now I’ll turn the call over to Rich Schoebel, our COO. Rich?

Richard Schoebel: Thanks, Mike. While the first quarter of each year has traditionally been relatively quiet in terms of leasing activity following the holiday season as existing and prospective tenants evaluate and set plans for the new year. In distinct contrast, in recent years, the first quarter has become increasingly active across our portfolio with more and more tenants buying for any space that may have become available following the holiday season. This is especially the case as it relates to shop space, where we continue to see a growing number of franchisees seeking to expand not only in the quick-serve restaurant sector, but more and more in the medical, wellness and self-care sectors, along with boutique fitness and child development.

A number of which are bringing new concepts to the market and all continue to seek out grocery-anchored shopping centers. Capitalizing on the demand, we posted our most active quarter on record for the company, leasing over 559,000 square feet. Additionally, our robust leasing activity helped drive our portfolio lease rate to a new record high of 98.3%. As Stuart highlighted, the bulk of our leasing activity centered around tenant renewals. Specifically, during the first quarter, 512,000 of the 559,000 square feet that we leased involved renewing existing tenants. In terms of anchor space, at the start of 2023, we had a total of 393,000 square feet scheduled to roll during the course of the year. In just the first three months alone, we have already renewed 384,000 square feet of anchor tenants.

Five of the anchor tenant renewals were long-standing supermarket tenants. Additionally, one of the anchor renewals involved a long-standing tenant whose lease wasn’t scheduled to roll until 2028, but they came to us wanting to exercise their five-year option now and extend their lease through 2033. We also had three anchor tenants that came to us about extending their five-year renewal option out to seven years. Taking all of our anchor renewal activity into account, as of March 31, we now have only three anchor leases scheduled to roll this year, two of which we expect to renew with one tenant seeking a seven-year extension instead of five, and they would also like to extend the leases similarly at several other locations within our portfolio that roll in future years.

With respect to the third anchor lease, which is a 17,000 square foot space, we are currently in discussions with several prospective new tenants to lease the space where we expect to achieve a significant increase in rent. Looking out further in 2024, we currently have 13 anchor leases scheduled to roll, of which we expect that 12 will renew. In terms of non-anchor space, at the start of the year, we had 466,000 square feet of shop space scheduled to roll. During the first quarter, we re-leased 175,000 square feet in total of shop space of which about three fourth of that were renewals. In terms of re-leasing rent growth, we posted another solid quarter, achieving an 11% increase in new leases signed during the first quarter and a 6% increase on renewals.

Lastly, with respect to getting new tenants open and operating, we had another active successful quarter. At the start of the year, the spread between leased and build space stood at 3.9%, equating to $7.6 million of rent from new tenants that have not yet taken occupancy and commenced paying rent. During the first quarter, new tenants representing $2.1 million of the $7.6 million took occupancy, taking into account new leases signed during the first quarter. At March 31, the spread stood at 3.2%, representing $6.5 million of rent that has not yet commenced. We expect the bulk of the $6.5 million will come online as we move through the year. Now I’ll turn the call back over to Stuart.

Stuart Tanz: Thanks, Rich. Our continued success with leasing and the ongoing demand for space against the backdrop of increasingly challenging and uncertain economic environment speaks volumes as to the fundamental strength of our portfolio and the benefits of our hands on approach. As we continue to capitalize on the demand, we are focused on making the most of every opportunity to enhance our already strong necessity and service-based tenant mix. Importantly, as always, we continue to be disciplined and selective with the tenants that we are renewing and the new tenants that we are bringing to our portfolio. In terms of acquisitions and dispositions, we currently have one property under contract to sell for $15.4 million.

It’s a property up in the Portland market that we acquired back some years ago as a value-add reposition play. Since acquiring the property, we fully re-tenanted and remerchandised the center, increasing the NOI substantially along the way. While the center is a stable property, it is one of the few properties in our portfolio that is not grocery anchored. Beyond this, we have several other properties that we are exploring selling. However, at the moment, we are currently holding off with moving forward until there’s more clarity in the market. Just a few short months ago, the acquisition market was starting to show encouraging signs of becoming active and favorable again. However, the sum banking turmoil has caused traditional mortgage lenders and other capital sources as well as buyers and sellers to pull back significantly.

As a result, activity in the market in terms of actual deals being consummated is currently very limited. With respect to the few transactions that have occurred recently in the grocery-anchored sector on the West Coast, cap rates have been in the low-6s, but there hasn’t been enough activity to really know with confidence where the market is heading. While we are being patient, we continue to be proactively engaged and continue to have discussions with our off-market sources, so that we are in a strong position to move forward once there’s clarity in the marketplace. Based on our experience over many years through numerous challenges, market conditions often change rapidly and opportunities quickly arise, especially in terms of off-market acquisitions.

In the meantime, we intend to continue working diligently in enhancing the value of our existing portfolio. Notwithstanding all of the various macroeconomic challenges, our portfolio remains rock solid, and the fundamental drivers of our grocery-anchored business remains sound. Now we will open up the call for your questions. Operator?

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Q&A Session

Operator: Thank you. Our first question will come from Craig Mailman of Citi. Your line is open.

Craig Mailman : Good morning, everyone. Hey, Stuart. How are you?

Stuart Tanz: How about you?

Craig Mailman : I’m doing good. I wanted to follow up on your kind of commentary on tenants looking to extend beyond that five-year term and maybe come in to you early. I guess other than the rent spreads that you’re getting, which has been healthy, kind of what other concessions have you been looking for? Or are they willing to give up to go to lock in longer at this point?

Richard Schoebel: Sure. I mean it really depends on the situation. In a lot of cases, the tenant may come to us and have limited options remaining, and they want an additional option. And in exchange for that, we’ll insist on additional committed term. In other situations, we may have two anchors that are expiring simultaneously, and we want to start splitting those expirations up so that we don’t, in the future, have a bunch of anchor tenants expiring all in the same year. So it really depends on every situation, and we evaluate those requests, and there’s always some form of a trade-off where we’re getting some form of value for that additional committed term.

Craig Mailman : When you say some for value, like are you looking — are you able to put in better escalators? Are you getting kind of encumbrances taken off that they may have had on the parking field or kind of what’s your goal to improve the NPV of those leases to go out kind of longer?

Stuart Tanz: Yeah. There’s a number of items that we’re dealing with in terms of this first one is ESG. We’re able to very successfully incorporate now what we need at the property level from an ESG perspective. Second thing is exclusive or uses in the leases. We’re very active on that front to make sure we can do whatever we can. The third is no build zones from the anchor tenants. Give us the ability to build more pads and create more NOI going forward. So it’s really a combination of a series of different things but we’re trying to, obviously, in giving them more term, incorporate all of this in terms of the actual extension.

Craig Mailman : That’s helpful. And then moving to the acquisition market. It sounds like you guys don’t have anything under contract but at the time of our conference, it sounds like you had one deal. Can you kind of talk to what happened there? And then on kind of the discipline you have in the market, maybe the buyer pools that you’ve been talking to, the nature of the buyers. Just a little bit more color overall.

Stuart Tanz: Sure. Well, the buyer pool, I think as I mentioned in my prepared remarks, obviously, has thinned out. So as once in a while when we see a very good grocery drug act center come to the market, we are tracking things extremely closely. And — but again, the buyer pools are very thin out there. In terms of the deal that we currently have, that deal is still around for us. We’re dealing with a couple of items at the property level, primarily some environmental issues. But that particular transaction is still on the table for us. I will tell you, there’s been a lot of ongoing discussions on OP units again with some of those sellers, which is encouraging. And then more importantly, we certainly have our pulse on a pipeline of off-market transactions, which we think will play certainly very well into our game plan as we move through the balance of the year on the external side.

Craig Mailman : And those I assume kind of it’s still in that low 6% going in cap rate range?

Stuart Tanz: Yes. Most of the — the very small number of deals that it had, which have been primarily 1031 buyers have traded in that high 5%, low 6% cap rate range.

Craig Mailman : Great. Thanks, Stuart.

Stuart Tanz: Thank you.

Operator: Thank you. One moment please for our next question. Our next question will come from Juan Sanabria of BMO Capital Markets. Your line is open.

Stuart Tanz: Good morning, Juan.

Juan Sanabria : Good morning. Just hoping to — if you could spend a little bit more time talking about some of the onetime expenses and where those are included in the P&L, just to have a better sense of what the growth forward run rate is? And I know you mentioned the snow removal cost, but anything kind of orbit above that would be helpful just to have some confidence on how to model and your conviction on the previous same-store NOI guidance range.

Michael Haines: Well, the snow removal cost, one is going to be in the operating expense, and I know it’s because as Stuart mentioned the significant snowfall that occurred on the Pacific Northwest region, we had to plough parking lots numerous times, keep them open and operating. And then there was a onetime item where we finally resolved kind of a disputed issue with the seller of the property that we bought a couple of years ago, we finally came to resolution and took a bit of an expense on that side. I think that was in our other expense, not our operating expenses. So those — if you exclude those, I think our operating performance is right in line with budget.

Stuart Tanz: Yeah. I mean, look, in terms of modeling, obviously, we do very detailed budgets every year, and we incorporate increases in expenses in those buckets. So going forward, Juan, I don’t think you’re going to see. Hopefully, we won’t see any items like you’ve seen in the first quarter, which, again, are very, very focused and relative to situations that were out of our control.

Juan Sanabria : And how much was that the onetime item with the dispute with the seller, roughly?

Michael Haines: It was just over $300,000, I believe.

Juan Sanabria : Okay. And then just curious, you mentioned bad debt was kind of running in line. What’s assumed for the balance of the year? You’ve obviously had some known kind of tenants finally fall out just if you could remind us of your exposure, which I think is fairly de minimis, but what’s assumed for the balance of the year, given we’re already almost in May, which is kind of crazy to think about. But just.

Michael Haines: The range for the full year is the $3 million to $5 million, which should more than — Morgan covers our typical operating and any other onetime that might pop up. To your point, I think we have very minimal exposure to any of the headline retailers out there. So that $3 million to $5 million range for the entire year should stand well.

Juan Sanabria : Thank you very much.

Operator: Thank you. Again, one moment for our next question. Our next question will come from Lizzy Doykan of Bank of America. Your line is open.

Lizzy Doykan : Good morning.

Stuart Tanz: Good morning.

Lizzy Doykan : I was just curious about any changes in your assumptions around the pace or amount of acquisitions and dispositions that was put out in guidance from last quarter. I guess, would you be willing to take on slightly higher leverage? Or is the priority still on maintaining net debt to EBITDA in the low-6s as you put out last quarter? Just wanted to see if there’s any changes in the pace — assumptions on pace.

Stuart Tanz: Yeah. I mean, I’ll speak to the — Mike, you can answer the question on the second half of the question. But in terms of guidance, I mean, we’re still on track to get $200 million as the goal this year. Obviously, that will be funded a lot through sales and other things that we’re doing. But the — there’s no change to guidance. The more important thing is that we have guided and modeled the acquisitions in the second half of the year.

Michael Haines: In relation to our debt leverage ratio, that’s all keeping those intact where they are or lowering them.