Necessity Retail REIT Inc
NASDAQ:RTL
Earnings Call Analysis
Q2-2023 Analysis
Necessity Retail REIT Inc
When evaluating the prospects of a company, significant corporate actions like mergers can be transformative. The planned merger with Global Net Lease (GNL) is expected to result in RTL shareholders receiving a 35% premium and a 12% increase in their quarterly dividend. A potential credit rating upgrade post-merger could decrease borrowing costs, and the merger is projected to be 9% accretive to GNL's annualized adjusted funds from operations (AFFO) per share in the quarter following the merger completion compared to Q1 of 2023.
Strategic initiatives have led to reduced net debt by approximately $74 million from the previous quarter. RTL has completed over $100 million in strategic dispositions in Q2, leading to a total of $172.2 million for the first half of the year. A notable disposition was the sale of 44 Bob Evans restaurants, lessening the company's casual dining exposure from 4% to 2% of annualized straight-line rent, in anticipation of potential headwinds in a slowing economy.
Portfolio occupancy is expected to rise to 94.4%, and straight-line rent is projected to increase by $6.5 million with new and renewed leases, despite an environment where bankruptcies have led to rejected leases from former tenants. A diversified retail portfolio further bolsters the company with 991 properties spread across various industries and locations, featuring a lease term of 6.9 years on average. Moreover, approximately 64.9% of leases contain contractual rent increases that should grow cash dues under the leases by about 1% annually.
While revenue in the second quarter dipped to $106.7 million from $116.9 million year over year, AFFO per share fell to $0.21 from $0.29 due primarily to the absence of a one-time lease termination payment that benefited the previous year's quarter. Addressing balance sheet concerns, the company decreased net debt to $2.6 billion, lowering the net debt to gross asset value ratio to 51%. However, an uptick in net debt to adjusted EBITDA ratio to 9.9x from 9.6x last quarter was noted as an effect of write-offs resulting from tenant bankruptcies.
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Good morning, and welcome to the Necessity Retail REIT, Incorporated Second Quarter 2023 Earnings Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.
I would now like to turn the conference over to Curtis Parker, Senior Vice President. Please go ahead.
Thank you, operator. Good morning, everyone, and thank you for joining us. This call is being webcast in the Investor Relations section of RTL's website at www.necessityretailreit.com. Joining me today on the call to discuss the results are Michael Weil, President and Chief Executive Officer; and Jason Doyle, Chief Financial Officer.
The following information contains forward-looking statements, which are subject to risks and uncertainties. Should one or more of these risks or uncertainties materialize, actual results may differ materially from those expressed or implied by the forward-looking statements. We refer all of you to our SEC filings, including the annual report on Form 10-K for the year ended December 31, 2022, filed on February 23, 2023, and all other filings with the SEC after that date for a more detailed discussion of the risk factors that could cause these differences or otherwise impact our business. Any forward-looking statements provided during this conference call are only made as of the date of this call. As stated in our SEC filings, RTL disclaims any intent or obligation to update or revise these forward-looking statements, except if required to do so by law.
Also during today's call, we will discuss non-GAAP financial measures, which we believe can be useful in evaluating the company's financial performance. These measures should not be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP. A reconciliation of these measures to the most directly comparable GAAP measure is available in our earnings release, which is posted on our website. Please also refer to our earnings release for more information about what we consider to be implied investment-grade tenants, a term we will use throughout today's call.
I will now turn the call over to Mike Weil. Mike?
Thanks, Curtis. Good morning, and thank you all for joining us today. Before we get into our results, I'll provide a brief update on the proposed merger with Global Net Lease, which was announced in May and is expected to close next month. We expect that the merger with GNL and the simultaneous internalization of GNL's management and operations, paired with numerous governance enhancements will establish the third largest publicly traded Global Net Lease REIT with a portfolio that we believe is unmatched and positioned for long-term growth. GNL is one of the premier owners of international triple-net lease space and a leader in sale leasebacks, particularly with multinational companies.
RTL stockholders will receive 0.67 shares of GNL for each common share of RTL, which represented a 35% premium to RTL's 30-day volume-weighted average price as of the transaction announcement on May 23, 2023. RTL stockholders are also expected to receive a 12% increase to the quarterly dividend they currently receive from RTL, and there is the potential for a credit rating upgrade upon the close of the transaction, which could drive borrowing costs lower in the future.
Following the closing of the merger, RTL shareholders are expected to benefit from becoming shareholders of the company that has a credit facility with an interest rate that we believe is 100 to 150 basis points lower than similar financing at RTL. By combining two complementary and sizable portfolios, we expect the merger to be 9% accretive to GNL's annualized AFFO per share in the first full quarter after the merger is completed compared to the first quarter of 2023. Additionally, we anticipate the combined entity will have increased scale and operating efficiencies, along with reduced leverage and lower G&A expenses.
In July, the SEC declared the registration statement for the merger and internalization effective, and we have set a record date of August 8, 2023, for the special meeting of stockholders to vote on the proposed merger, which will be on September 8, 2023. Based on the expected time line, this may be the last time I get to provide a quarterly update for RTL, and I look forward to updating you next quarter as Co-CEO of GNL, along with Jim Nelson. We're both very excited about the opportunities that lie ahead, and we'll work to harness the potential of our large asset base, scale post-closing capital structure and deep tenant relationships to drive accretive growth for many years to come.
During the quarter, we continued to make great progress on many of our key strategic objectives. We proactively leased available space, renewed leases with existing tenants and enhanced our balance sheet through strategic dispositions. As a result, we reduced our net debt by approximately $74 million from the prior quarter. Our high-quality portfolio features an impressive top 20 tenant roster that is 69% actual or implied investment grade with no one tenant representing more than 5% of annualized straight-line rent as of June 30, 2023.
We completed over $100 million in strategic dispositions during the second quarter, bringing total dispositions for the first half of the year to $172.2 million. As previously announced, the largest disposition during the quarter was the $93 million sale of 44 Bob Evans restaurants, reducing our total portfolio exposure to casual dining to less than 2% from 4% based on annualized straight-line rent. We believe the reduction of our exposure to this industry is prudent in a slowing economy. As we indicated we would on prior calls, we've been using the net proceeds from these sales to fortify our balance sheet by reducing our net debt as we had previously.
The significant commitment we've made to asset and property management continues to deliver results. Our executed leases at the end of the second quarter 2023, plus our leasing pipeline as of August 1 will raise occupancy in our portfolio to 94.4%, up 2.3% from actual occupancy at the end of the previous quarter. In addition, we'll increase straight-line rent by $6.5 million, assuming executed leases commence and signed LOIs lead to definitive leases on their contemplated terms. New and renewal leases signed during the second quarter in our multi-tenant portfolio totaled over 710,000 square feet. This includes 245,000 square feet across 26 new leases with a combined $3 million of annualized straight-line rent, plus 465,000 square feet on 41 lease renewals, representing $7.1 million in annualized straight-line rent. In our single-tenant portfolio, we completed 17 lease renewals for 248,000 square feet with annualized straight-line rent of $3.4 million.
Our leasing results continue to illustrate the quality of our assets, driving leasing rates higher even in the current environment. During the second quarter, the multi-tenant lease renewals we signed achieved a positive spread of 4.6% between the previous rent and the rent payable under the terms of the renewal, demonstrating the strong renewal demand for our suburban multi-tenant assets. The positive spread on renewal leases is both encouraging and consistent with the high demand we're experiencing at our shopping centers. Moreover, we have a robust leasing pipeline as of August 1, which includes leases executed after the end of the second quarter and LOIs of over 463,000 square feet for $5.5 million in annualized straight-line rent in the multi-tenant portfolio.
One of the strengths that RTL will contribute upon the completion of the merger with GNL is our broad diversified retail portfolio. At quarter end, our $4.9 billion portfolio was comprised of 991 properties with executed occupancy plus leasing pipeline of 94.4%, up from 91.3% a year ago and a weighted average remaining lease term of 6.9 years. We own properties in 46 states in the District of Columbia, and our tenants operate across 40 different industries, with no single state or single industry, representing more than 8% of our portfolio and no tenant representing more than 5% of our portfolio based on straight-line rent.
As of the quarter end, the tenants in our single-tenant portfolio were 65.9% actual or implied investment-grade rated and 36.5% of anchor tenants in our multi-tenant portfolio or actual or implied investment-grade rated. Based on straight-line rent, 64.9% of leases across the portfolio include contractual rent increases that grow the cash that is due under the leases over time by approximately 1% per year on average. At quarter end, 69.3% of our top 20 tenants were actual or implied investment-grade rated. The necessity-based nature and high percentage of actual or implied investment-grade tenants in our portfolio provide dependable long-term cash flows, and we believe the potential for continued rental growth remains through leasing up available space.
I'm very proud of what we've accomplished at RTL in a turbulent market. Our team is consistently looking ahead to anticipate challenges and to develop new ways to grow while maintaining the size and diversity of our portfolio to ensure no individual tenant or industry has outside effect on our results.
I'll turn it over to Jason Doyle to take us through the numbers in greater detail. Jason?
Thanks, Mike. Second quarter revenue was $106.7 million compared to $116.9 million in the second quarter of 2022, reflecting the disposition of 53 properties in the first half of the year. Second quarter revenue last year also benefited from a nonrecurring $5.7 million lease termination payment. The net loss for the quarter was $53.5 million compared to a net loss of $56.3 million in the second quarter of 2022.
Second quarter AFFO was $27.9 million or $0.21 per share, down compared to same quarter in 2022, which was $0.29 per share due to the benefit of the $5.7 million lease termination payment. AFFO per share decreased $0.02 from the prior quarter, primarily due to rejected leases related to the bankruptcies of former tenants, TOMS King and American Car Centers. As always, a reconciliation of GAAP net income to non-GAAP measures can be found in our earnings release, supplement and Form 10-Q.
From a balance sheet perspective, net debt decreased by $74 million in the second quarter, down to $2.6 billion with a weighted average interest rate of 4.7%. Our net debt to gross asset value was 51% as of the end of the quarter. As Mike mentioned, although our net debt decreased from the strategic disposition, our net debt to adjusted EBITDA ratio ticked up this quarter to 9.9x from 9.6x last quarter. This increase is due to GAAP write-offs for lease rejections due to the tenant bankruptcies we've discussed. Excluding the impact of these nonrecurring write-offs, net debt to adjusted EBITDA would have been 9.3 times this quarter.
As of June 30, 2023, the components of our debt included $604 million drawn on our credit facility, $1.6 billion of outstanding secured debt and $500 million of senior unsecured notes. The amount drawn under our credit facility represents the entirety of our floating rate debt. Liquidity, which is measured as undrawn availability under our credit facility plus cash and cash equivalents, stood at $101.5 million based on our June 30 cash balance and borrowing availability.
With that, I'll turn the call back to Mike for some closing remarks.
Thanks, Jason. We continue to execute on our asset management strategy while we work toward completion of the proposed merger with GNL. We believe that the RTL portfolio will be complementary to GNL's assets and the combined company will enjoy the benefits of reduced leverage and increased prominence in scale as the third largest Global Net Lease REIT. The all-stock merger represents a 35% premium to RTL shareholders at the time it was announced, and the RTL shareholders are expected to see a 12% increase in dividends as a result of the transaction.
The anticipated corporate synergies are expected to result in cost savings and G&A, along with the savings expected to be realized from the internalization of GNL's management team, which is expected to be accretive to AFFO in the first full quarter after completion of the merger. We also believe that upon the closure of the merger, the simplified corporate structure and enhanced corporate governance of the combined company will drive increased value. Given the increased size and scale, we expect to see growing institutional investor interest over time.
We look forward to new opportunities and the bright future for the combined company. I want to thank you all for your ownership of RTL, your thoughtful insight and your trust in our management team. I look forward to talking to you next quarter as GNL shareholders after the closing of the merger.
Operator, please open the line for questions.
Thank you. Our first question comes from Bryan Maher with B. Riley Securities.
Thank you and good morning, Michael and Jason. Just a couple of questions from me. Can you maybe give us a little bit of an update on some of the problem childs’ of last quarter. It seems like you were able to resolve kind of quite a few of those. I think maybe the Burger Kings went to -- predominantly went to another franchisee. And am I seeing this correctly in the deck, the Imperial Alliance, is that who took over the bulk of the Mountain Express properties?
So, yes. In this quarter, from an accounting perspective, we did what was necessary to address what we announced in the previous quarter. From an activity and a go-forward operation between leasing and dispositions, we were very successful and the team did a great job. So to your comments, on the Burger Kings, 28 of the 41 locations were assumed by a combination one existing Burger King franchise operator that Burger King Corporate put in place to take the leases. And the other was Burger King Corporate Direct. So 28 of the 41 are leased and operating, that left us with 13, and we are in various stages of completion of leasing and dispositions. 10 of the remaining 13 stores have that activity, and we look forward to completing that. So it puts us in really great shape for the balance of the year.
And to your question about Mountain Express, we had done the work in the background while all of this was going on. We had been working very closely with a known operator of ours, Imperial. They're an implied investment grade rated entity. They have tremendous experience in the convenience and gas business. And we worked out with them that they would be taking all 71 of the Mountain Express or former Mountain Express locations as soon as we got control of those properties. Our general counsel and legal team did a very terrific job is the only way I can describe it, very aggressive, very clear in our motive and focus, we were able to force the rejection of all 71 of our stores because we didn't want to be entangled in whatever the workout was going to be or wasn't going to be. And the agreement we had with Imperial was the day we got any stores back, the pre-negotiated leases with Imperial would go into effect. So on June 30, we got 28 stores back. Imperial took them that day. We then got the final 43 stores back at the end of July, Imperial took over the operation of them.
So, a very important outcome for the portfolio. And I think it's a testament to the benefit of strong asset management and just relentless pursuit of our rights and our shareholders' rights under these leases. So I know it was a tough announcement when we made it, but I think it's important that you can count on us being very transparent with what's going on in the portfolio, and I'm really happy today to be able to give you that kind of update on where we are go forward and the impact for the balance of the calendar year will be minimal.
Thanks for that. And then on the Bob Evans sales, those 44 properties, was that a marketed transaction? How does that come about?
That was a transaction that we had a relationship with a buyer. They had done some things with us over the years. We knew that they were a casual dining landlord, something that they like. They're a private company. And we reached out to them. The Bob Evans stores were performing fine. They weren't dark. They weren't under threat of any type of financial problems, et cetera. We intentionally wanted to divest of casual dining. You and I have talked about it in the past. I feel that casual dining has a much higher risk profile than QSR or fast food, especially in times of inflation or slowing economy. And we saw this as an opportunity to dispose at a very strong price and move on and reinvest or balance sheet manage as we saw appropriate in this period.
Thanks. And just last for me and maybe for Jason. The G&A number was meaningfully elevated versus kind of that normal $8.5 million. I'm assuming a lot has to do with Blackwells and maybe the merger, some legal fees in there. Jason, can you give us a little bit of color on that? And kind of on a go-forward basis, obviously, we know you probably end up merging with GNL, is $8.5 million the run rate zip code?
So thanks, Bryan. And Hello. I would point you to the earning supplement. On Page 11, we actually call out the amount that's in G&A for the proxy contest and related litigation, $7.2 million for this quarter and about $2.2 million for the first quarter. If you back those out and then just take the first half year run rate, you're right in that neighborhood normalizing back to about $8.5 million.
And Bryan, if I can. First of all, I'm very optimistic that this merger will proceed. As we talked about in our earlier comments, special meeting is set for September 8. And I think that there are a number of very motivating reasons for both the RTL shareholders and the GNL shareholders to approve this deal. One of them is, of course, the internalization. And as you recall in our merger decks, that does include $75 million of operating savings. $54 million of that $75 million, we anticipate to be immediate and the balance of $21 million over the first 12 months post-closing. So G&A is going to change as an internalized company, and that's something that we're very excited about. As we've mentioned, the merged company, we expect to be 9% accretive to GNL's Q1 2023 AFFO per share.
So there was a lot in this quarter, all very important. Much of it, I think of as cleanup that was necessary as well as steps leading up to us being able to complete this merger. So a lot of really positive things. And on that same vein, I just want to point out, as we've talked about before, part of the benefit to the RTL shareholders in this merger, besides being the third largest net lease company with a global focus, the RTL shareholders are expected to receive a 12% increase to their current quarterly dividend as a part of the merger with GNL. So really exciting, not only the work that we completed in the second quarter, but the work that's being completed to ready for the merger.
Right. We have gotten here very little inbound pushback to this deal. So I think the merits of the transaction have kind of resonated with shareholders at least those that we've talked to once we kind of walk them through the term fee payment. So good luck with it.
Great. All right. Thank you, Bryan.
Thank you. There are no further questions at this time. I would like to turn the floor back over to Michael Weil, President and Chief Executive Officer for closing comments.
Great. Well, thank you. And thank you all for joining us. Obviously, we look forward to keeping everyone updated as we get closer to the special meeting, as I said, that is set for September 8. Proxies have been mailed and please, as you'll see, the RTL Board of Directors recommends that RTL's shareholders vote for each of the proposals to be considered at the RTL special meeting. If you do have any questions, please let us know. We'll be happy to walk through anything that you may want to go over.
And again, not only are we excited about the size and scale of the company, but the change to internalized structure and the changes to corporate governance, we feel really puts us right on par with our peers in the industry. So thanks again for joining us, and we look forward to talking to you again as GNL shareholders.
This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.