Getty Realty Corp
NYSE:GTY
Earnings Call Analysis
Q3-2023 Analysis
Getty Realty Corp
Investors will be heartened to see the company's strong performance in the third quarter, where Adjusted Funds From Operations (AFFO) per share grew by a robust 5.6%, continuing a positive trend for the year with AFFO per share rising 5.7% over nine months. Emphasizing confidence, the Board approved a 4.7% increase in the recurring quarterly dividend to $0.45 per share, marking a decade of consistent dividend growth that aligns with the company's earnings expansion.
The company has demonstrated vigorous investment activity, deploying a record $269 million year-to-date, with $155 million in the third quarter alone. This aggressive investment strategy not only surpasses previous annual records but also sets a strong foundation for sustained growth, with visibility into the fourth quarter earnings and next year's prospects.
With an attractive investment pipeline exceeding $95 million, the company is strategically positioned to fund these acquisitions and developments over the next 6 to 9 months. Offers are now being submitted at rates approximately 150 basis points higher than previous years, reflecting a proactive adjustment to the shifting economic landscape. The focus is on creating value, with the company expecting an average initial yield around 20 basis points higher than its year-to-date investment activity.
As the company expands, it has managed to maintain a balanced sheet with $750 million of total debt outstanding and a leverage ratio in line with its targets. The recent closure of a new $150 million senior unsecured term loan further bolsters the balance sheet, demonstrating continual access to capital even in current market conditions. This financial groundwork allows the company to sustain its growth trajectory while keeping an investment-grade credit profile.
Reflecting the positive momentum from both investment activity and financial management, the company has raised its 2023 AFFO per share guidance to $2.24 to $2.25, marginally up from the earlier range of $2.23 to $2.27. This uplift in guidance, coupled with careful management of operating expenses and redevelopment costs, underscores a prudent yet optimistic outlook for the year ahead.
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Good morning, and welcome to Getty Realty's Earnings Conference Call for the Third Quarter 2023. This call is being recorded. [Operator Instructions] Prior to starting the call, Joshua Dicker, Executive Vice President, General Counsel and Secretary of the company will read a safe harbor statement and provide information about non-GAAP financial measures. Please go ahead, Mr. Dicker.
Thank you, operator. I would like to thank you all for joining us for Getty Realty's third quarter earnings conference call. Yesterday afternoon, the company released its financial and operating results for the quarter ended September 30, 2023. Form 8-K earnings release are available, Form 8-K and earnings release are available in the Investor Relations section of our website at gettyrealty.com.
Certain statements made in the course of this call are not based on historical information and may constitute looking statements. These statements are based on management's current expectations and beliefs and are subject to trends, events and uncertainties that could cause actual results to differ materially those described in the forward-looking statements.
Examples of forward-looking statements include our 2023 guidance and may also include statements made by management, including those regarding the company's future operations, future financial performance or investment plans and opportunities. We caution you that such statements reflect our best judgment based on factors currently known for us and that actual events or results could differ materially.
I refer you to the company's annual report on Form 10-K for the year ended December 31, 2022, and the subsequent filings meeting with the SEC for a more detailed discussion of the risks and other factors that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. You should not place undue reliance on forward-looking statements which reflect our view only as of the date hereof.
The company undertakes no duty to update any forward-looking statements that may be made in the course of this call. Also, please refer to our earnings release for a discussion of our use of non-GAAP financial measures, including our definition of adjusted funds from operations, or AFFO, and our reconciliation of those measures to net earnings. With that, let me turn the call over to Christopher Constant, our Chief Executive Officer.
Thank you, Josh. Good morning, everyone, and welcome to our earnings call for the third quarter of 2023. Joining us on the call today are Mark Olear, our Chief Operating Officer; and Brian Dickman, our Chief Financial Officer. I will lead off today's call by providing commentary on our financial results and investment activities, along with some perspective on our outlook in light of the ongoing economic uncertainty.
As usual, Mark will then take you through our portfolio, and Brian will further discuss our financial results and guidance. In the third quarter, we produced strong AFFO per share growth of 5.6% and for the 9 months ended September 30, our AFFO per share grew a healthy 5.7%. This growth continues to be driven by our robust investment activity and thoughtful capital markets execution. Year-to-date, we have surpassed the company's previous record for annual investments by deploying $269 million, including $155 million in the third quarter.
We also continue to maintain an attractive investment pipeline with more than $95 million under contract for the acquisition and development funding of convenience stores, auto service centers and express time carwashes, all of which we expect to fund over the next 6 to 9 months. When combined with our investments to date, our pipeline provides visibility into our earnings for the fourth quarter and our growth prospects for the next year.
The ongoing success of our investment platform and steady growth in our cash flow and earnings can be attributed in part to our successful capital markets activity. Since January of 2022, we have raised more than $600 million of attractively priced capital, much of it with a forward or delayed draw execution, including our recently announced $150 million unsecured term loan, $225 million of long-term unsecured notes and more than $230 million of common equity.
Our strategic approach to raising capital has enhanced our ability to lock in accretive investment spreads, support a committed investment pipeline that is fully funded and maintain a balance sheet with moderate leverage and ample capacity for future transactions. We believe that Getty's business model of focusing on convenience and automotive retail assets provides us with a competitive advantage in the market, given our sector expertise, tenant relationships and track record of execution.
Many of our completed transactions this year have come from repeat business, meaning we already have a lease in place with our counterparty and are capitalizing on our relationships and transaction experience to bring new properties into the company's portfolio with tenants that are well known to us and we have a proven record of performance through economic cycles.
We have also successfully increased our initial yields with these tenants to reflect current market pricing while not sacrificing our rigorous underwriting standards. The net result is that we continue to buy the same quality properties in sectors where we have a significant knowledge of industry trends and with tenants we know well, but our prices that reflect the rapid rise in financing costs. As we look beyond our pipeline and deal activity, the real estate market has changed significantly since the end of the second quarter.
Rapid changes in the availability and cost of capital have outpaced sellers' expectations for the value of their properties. For Getty specifically, we believe prospective tenants who are often making long-term financing decisions related to M&A or development are in the process of reevaluating their capital structures to reflect less access to capital and lower values attributable to real estate financing.
While we continue to identify opportunities to acquire assets that meet our rigorous underwriting standards, we expect to be disciplined in our capital deployment, while the market continues to fully digest the reality of higher cap rates for the foreseeable future. Given our performance year-to-date, committed and funded investment pipeline and earnings growth expectations, our Board approved an increase of 4.7% in our recurring quarterly dividend to $0.45 per share. This represents the tenth straight year we have grown the dividend alongside our earnings growth.
Our Board believes this annual increase is appropriate as it maintains a stable payout ratio and continues to increase Getty's retained cash flows to have more eventful capital to meet our growth objectives. Additionally, as a result of our year-to-date investment in capital activities, we are raising our 2023 AFFO guidance by $0.01 to $2.24 to $2.25 per share. Getty is well positioned for the current environment, given the essential nature of our assets, the operating strength of our institutional tenant base and our well-positioned balance sheet, including low to moderate leverage and ample liquidity.
In a challenging market, we believe that we benefit from the targeted nature of our investment strategy through our sector expertise and strong relationships with operators in our space. Our disciplined approach, which emphasizes owning high-quality real estate in major metro areas and partnering with growing regional and national operators will continue to afford us with attractive acquisition and development funding opportunities to underwrite.
As a result, we remain confident in our ability to create shareholder value through earnings growth and portfolio diversification. With that, I'll turn the call over to Mark to discuss our portfolio and investment activities.
Thank you, Chris. As of the end of the quarter, our lease portfolio included 1,074 net lease properties and 3 active redevelopment sites. Excluding the active redevelopments, occupancy was 99.7%, and our weighted average lease term was 9 years. Our portfolio spans 40 states plus Washington, D.C., with 61% of our annualized base rent coming from top 50 MSAs and 79% coming from top 100 MSAs.
Our rents are well covered with trailing 12-month tenant rent coverage ratios of 2.7x. Turning to our investment activities. We had a record quarter, so Getty invest $155 million, net of amounts previously funded across 50 properties and a number of different property types and attractive MSAs. Highlights of this quarter's investments include the acquisition of 9 convenience stores located in Las Vegas and various markets across Texas and the Southeast was $55.1 million non-carwash properties, which are located through the U.S. for $48.5 million.
To drive through quick service restaurants and an auto service center, we totaled $3.5 million and 9 under construction car wash properties for $31.5 million. As part of this acquisition, we provide additional funding during the construction period to complete these projects. We also advanced incremental development funding in the amount of $16.6 million, including accrued interest for the construction of 20 new-to-industry car washes, convenience stores and auto service centers. These assets are either already owned by the company and are under construction or will be acquired via sale-leaseback transactions at the end of the project's expected construction periods.
For the third quarter, the aggregate initial cash yield on our investment activity was approximately 7.2% and the weighted average lease term for acquired properties was 17.2 years. Subsequent to quarter end, we invested an additional $3.3 million towards the development of an express tunnel car wash property. Cumulative results of our year-to-date investment activity is $269 million deployed an initial cash yield of approximately 7.2% across all of our target asset types.
Looking ahead regarding the $95 million of commitments to fund acquisitions and developments, we expect to fund these transactions for the next 6 to 9 months at an average initial yield of approximately 20 basis points in excess of our investment activity year-to-date. From a market perspective, in many cases, we are now submitting offers that are approaching 150 basis points more than where we transacted in 2021 and 2022.
The amount of cap rate expansion, combined with the short duration in which these moves in asset pricing have occurred, has caused many sellers to pause. We believe the market will adjust to a changed economic landscape and will stabilize as sellers evolve and modify their expectations. The direct nature of our investment strategy affords us the opportunity discuss these changes directly to the decision-makers, and we believe that we can continue to identify accretive investments as we move through the remainder of 2023 and into 2024.
Moving to our redevelopment platform. During the quarter, we invested approximately $460,000 in projects which are in various stages in our pipeline. We completed one redevelopment project where [ Red comment ] on an automotive parts store in Pennsylvania, which is leased to AutoZone. We invested a total of approximately $200,000 in the project generated incremental return on invested capital of approximately 21%.
We also completed the renovation of a convenience store property in Connecticut, which was already subject to a long-term triple net lease. In this project, we invested $450,000 in our incremental return on the investment capital was 7.5%. We ended the quarter with 3 properties under active redevelopment and other various spaces feasibility planning for potential recapture from our net lease portfolio and expect to continuously complete projects over the next few years. Turning to our asset management activities for the third quarter. We exited 1 week's property and sold 2 properties for aggregate gross proceeds of [ $1.9 million ]. With that, I turn the call over to Brian for our financial results.
Thanks, Mark. Good morning, everyone. Last night, we reported AFFO per share of $0.57 for Q3 2023 representing a 5.6% increase to [indiscernible] $0.04 per share we reported in the prior year. FFO and net income of the third quarter were $0.53 and $0.31 per share, respectively. Total revenues were $50.5 million for the third quarter, representing a [ 23% ] increase over the prior year.
Base rental income, which excludes tenant reimbursements and GAAP revenue adjustments grew 10.5% to $40.9 million. This grant continues to be driven by our acquisition activity and recurring rent estimates, our leases, the additional contribution from rent commencement and completed redevelopment process. On the expense side, G&A costs were $5.7 million in the quarter as compared to $5 million over the third quarter in 2022.
Change in G&A was primarily due to increased personnel costs, including noncash stock-based compensation. Total property costs were $8.7 million for the quarter as compared to $5.7 million for the third quarter 2022. This quarter included the [indiscernible] in operating expenses primarily [indiscernible] real estate tax payments, partially offset by lower rent expense and also included an increase in leasing on [ detail ] expenses due to additional professional fees and demolition costs for these [indiscernible] projects.
Environmental expenses, which are highly variable due to a number of estimates from noncash adjustments of $313,000 in the quarter as compared to $632,000 for the third quarter of 2022. Turning to the balance sheet and our capital markets activities. We ended the quarter with $750 million of total debt outstanding. This consisted of $675 million of senior unsecured notes with a weighted average interest rate of 3.9% and a weighted average maturity of 6.7 years as well as $75 million drawn on our $300 million revolving credit facility.
As of September 30, net debt to EBITDA was 5x and total debt to total capitalization was 35%, while total indebtedness to total asset value as calculated pursuant to our credit agreement was 37%. We taking into account unsettled forward equity of $48.4 million, net debt to EBITDA will be approximately 4.7x. Subsequent to quarter end, as Chris mentioned, we closed on a new $150 million senior unsecured term loan. Term loan matures in October 2025 with a [ 12-month ] extension options. The term loan includes an initial draw of $75 million that was funded at close and used to repay amounts outstanding under our revolving credit [indiscernible] and an additional $75 million that can be funded at our option any time over the next 6 months.
In connection with the closing of the term loan, we entered into interest rate swaps to fix SOFR for the full principal loan. Including the impact of these swaps, the effective interest rate on the term loan is 6.13% based on our leverage ratio as of September 30. So a little bit more color on the term loan. We are obviously pleased to secure this financing in the current environment. It demonstrates continued access to capital and the support of our banking relationships, while providing us with a flexible loan that we can refinance in 2 to 3 years as the capital markets stabilized and importantly, as we continue to scale our platform and position our balance sheet for additional credit ratings at a possible total of issuance.
While the shorter term prevented us from taking greater advantage of the inverted yield curve upon fixing the rate, we were still able to lock in material accretion relative to the returns on our invested capital while keeping our investment pipeline funded and retaining the flexibility I mentioned. Moving to our equity capital markets activities. During the quarter, we settled 2.2 million shares of common stock are subject to outstanding forward sale agreements, which generated $71.6 million in net proceeds.
We currently have approximately 1.5 million shares of common stock still subject to outstanding forward equity agreements, which upon settlement are anticipated to raise gross proceeds of approximately $48.4 million. Returning to the $95 million of committed investment pipeline. As Chris mentioned, these transactions are fully funded through a combination of proceeds from outstanding forward equity agreements and the new [indiscernible]. Pro forma for these investments in capital activity, we expect our balance sheet to remain well positioned to support the company's growth.
Leverage is expected to remain in line with our target range of 4.5x to 5.5x net debt to EBITDA we expect to maintain ample capacity under our revolving credit facility. As our investment pipeline evolves, we continue to evaluate all capital sources to ensure that we're funding transactions in an accretive manner while also maintaining our investment-grade credit profile. With respect to our environmental liability, we ended the quarter at $22.7 million which was a reduction of $438,000 since the end of 2022. Our net environmental remediation spending in the third quarter was approximately $1.6 million.
Finally, with respect to our 2023 earnings outlook as a result of our year-to-date investment activity and capital transactions, we are raising our 2023 AFFO per share guidance to a range of $2.24 to $2.25 from our previous range of $2.23 to $2.27. As a reminder, our outlook includes transaction and capital markets activities to date, but is not otherwise assume any potential acquisitions, dispositions or capital market activities for the remainder of the year.
Specific factors which continue to impact our guidance include variability with respect to certain operating expenses to deal pursuit costs, as well as $300,000 of anticipated demolition costs for redevelopment projects that run through property costs on our P&L. With that, I'll ask the operator to open the call for questions.
Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question comes from Todd Thomas from KeyBanc. Todd.
This is Antara [indiscernible] on for Todd Thomas. I was just wondering if you could disclose what the blended cash investment yield was on the 3Q investments? And could you break out the yields on the acquisitions versus the development funding?
Yes, in the remarks, 7.2% was the initial cash yield in the third quarter. And then roughly, we're the same return between acquisitions and development funding.
Okay. And do you see yields trending higher given the rise in borrowing costs? How should we think about the yields given that you already have a committed pipeline in place?
Yes. Again, with the $95 million that's committed, as we mentioned, we think that, that's going to be about 20 basis points over where we invested in the third quarter. And then as Mark mentioned in his remarks, we are putting out new letters of intent and rates are significantly higher than those levels.
And the one nuance I'd just add -- this is Brian. So to Chris' comments is development funding transactions by design are dying 15-month type transaction. So some of the dollars that are going out in development funding still at yields from transactions that were cut 12, 18 months ago versus the sale leasebacks or the more traditional acquisition activity, obviously shorter time frame a little bit more reflective above the current environment. So I think it's consistent with what Chris said, we're seeing yields absolutely move up. with some dollars going out or still based on transactions that were cut a while back versus others will reflect the current environment.
Okay. And where are you still seeing the best opportunities in pricing? Has convenience store competition alleviate? Or what about automotive and car wash?
Yes, it's Mark. So we're very active in all our asset classes. We're getting a lot of momentum across all the categories. Certainly, some of the asset classes tend to be a little stickier on pricing as market cycle through, but we remain competitive and a tremendous amount of opportunity certainly in the convenience store, car wash, automotive parts, I would say that the most competitive probably now is the quick service restaurant category as far as pressure on pricing. .
Our next question comes from Wes Golladay from Baird.
Just a follow-up on the question about the cap rates moving higher. I guess, how do you balance that versus having rent coverage maybe come under a little bit of pressure? Or are you seeing the operations of the tenants kind of grow in line with this more inflationary environment?
Wes, it's Mark. So we certainly haven't deviated from our underwriting model and our total valuation look at each deal and each portfolio. Yes. So we haven't seen much of a deterioration in Tier Red coverage on the underwriting of new opportunities. So I think the answer is yes. The performance of the tenants, at least that we're underwriting is a lockstep with the move in market generally.
The other factor was on proceeds that tenants received. That is if you think of a typical sale leaseback transaction, right, where we're going to set rent at a rent coverage ratio and then apply some cap rates to that to determine proceeds to the tenant, right? The math would lead to either higher risk, which is what you're alluding to, but given our underwriting and the consistency there, as Mark mentioned, the net result would be less proceeds to the tenant, which is reflected [ but ] Chris has opening comments about folks in the space just having to come to the realization that the real estate isn't as worth as much today as it may have been 18, 30 months ago.
Okay. Yes. I appreciate that, Brian. I guess then with capital becoming a little bit more scarce and maybe looking at alternative forms of equity for you, you do have -- part of the portfolio that's probably not appreciated by the market where you could probably still get relatively low cap rates. Do you have any increased appetite to start monetizing some of these lower cap rate assets?
Yes. We certainly look at the portfolio and are aware of where we think there is maybe outsized value. And we do dispose of properties, and we have disposed of small portfolios over the past couple of years. Certainly something we're aware of. We'll look around. But right now, I think the balance sheet is in great shape. The term loan certainly helps with that, but we still have roughly $50 million on sales for equity. So we're looking at all the various forms of capital, Wes, and again, we'll transact. Maybe that makes sense. .
Our next question comes from Mitch Germain from JMP Securities.
This is Jodi for Mitch. One of the first questions I had is just understanding the composition of the pipeline in terms of asset class and also if you're seeing any changes in the lease structure, maybe more term or escalators?
So we continue to balance out the pipeline, again, across all our asset classes. During the course of the year, there's always ebbs and flows as deals cycle through. Their goal to be fairly well distributed across all asset classes, geography had a mix, be mindful of the tenant concentration and geographic concentrations. With regard to terms, yes, we've been able to not only push pricing and return, but also in shop or put some pressure on annual escalators where appropriate, the term -- the actual lease terms are still roughly that 15- to 20-year base term on the initial commitment. But yes, the market certainly is -- conversations certainly have yielded well all deal points to create overall value for us. .
Fair. Yes. So I mean, C-stores have been declining in composition overall, but in terms of asset pricing there, are you seeing similar price declines for those as compared to other assets in your pipeline? How is that faring? .
Yes, I think, well, there are 2 thoughts on that question. So first off, if you look at our portfolio, one of our objectives is to diversify across convenience and automotive retail real estate. So with a background of our business being primarily C-store, it's natural in our eyes that you see the composition of our rent become more balanced across all the categories that we're investing in. So we're still very comfortable with the C-store sector, acquired 9 great assets this quarter. They certainly see store assets in our pipeline. But -- so I think that's a natural evolution for Getty to be more balanced from a rent perspective.
In terms of pricing within the various asset classes. Again, I'm going to come back just [indiscernible] those in my remarks, which is I think in retail real estate today, I think there is an expectation that has to be understood by sellers that pricing has changed. Financing costs, I have dictated that. In order to transact where sellers have to kind of have an expectation that rates are going to be higher for longer, meaning that cap rates are coming -- are going [ up too ]. And therefore, the value of their real estate is going down.
And I'll just add to that, which I think is implicit in what Chris is saying is something we've talked about before but the nature of the sale-leaseback business, which is our primary origination platform versus just aggregating assets from a variety of sellers. Our counterpart, when we're sitting across the table from somebody, they're not just looking at a price to sell an asset and what return that generates for them or does not, right?
These are our finance professionals that are raising capital right, for their companies from store growth, for acquisitions for technology initiatives, whatever it may be that they're making, we're making real estate investments, but they're making financing decisions, right? And so they're looking at their financing alternatives and sale leaseback financing is just one of those, and we happen to be particularly competitive in that area today. So as long as our cost of capital or turn their cost of capital allows them to meet their hurdle rates, right, we can find opportunities to transact.
But I think the main point you're hearing from all of us is that there's some transparency in our discussions, right? And given our relationships, our knowledge, what we're saying that these tenants look our costs are going up. We're hoping for a business we can transact, has to meet our real estate underwriting expectations and it has to meet our pricing expectations. And we've had some success certainly over the last year in being able to drive those conversations to transact.
Fair. So just on that point, are all the different asset classes in our pipeline seeing similar kind of price pressure? Or is it different for different categories?
This is Brian. I think it's really driven by where we are in our life cycle with the different asset classes. So certainly, Car Wash and CNG, where we are going direct to those tenants frequently and primarily, you see that the most [indiscernible] we just ramping up our relationships as we just entered that sector, say, within the last 18 to 24 months. And QSR, we've really just started dedicating efforts to within the last 12 months. So we're still working to build up those relationships so that we can have those conversations.
So it's a long way of saying probably see it more in car wash in CNG and we're getting there in auto service. And in QSR, we're still sort of making our way through ramping up in that sector so that we can, again, drive that type of activity.
And just the last one for me. You mentioned that the pipeline is fully funded and part of that was a term loan. So do we have any expected time line for the second tranche of the term line?
Yes. It will be within the next 6 months, right, because that's the term of that. And as always, we're looking to balance, funding the transactions, maintaining our leverage profile, maintaining liquidity. So between that and the equity, we'll draw on each of those pools as it makes sense to maintain the balance sheet and that will occur over the next 6 months.
Operator, are there any more questions on the line?
Okay. It does look like we have one more Akhil from JPMorgan.
This is Akhil from JPMorgan. My first question is on how does the cost of a sale leaseback compared with your operators, other financing alternatives right now?
I think your question was how does the pricing of sales leaseback compared to the various other financing alternatives that our tenants have. And when I say -- what I'd say is that most of our tenants being private large regional or national operators, their access to capital is generally private equity or the bank market or private lending market. All of that has gotten more expensive and tougher to transact, quite frankly. So I think what we're seeing is a lot of lot more underwriting opportunities where sale leaseback probably looks a little more attractive to our tenants.
All that said, I think that we maintain a fairly rigorous underwriting process here and a focus on real estate and tenant and property -- over down to the property level. So I don't think it necessarily changes our view of what's attractive or not. But I'd say that sale leaseback certainly looks more appealing to the tenants today than it did probably 6, 9 months ago.
Understood. Yes. One last question. How much opportunity do you think is there in the car wash business as operators consolidate locations in that space?
Yes. I think car wash was a sector that had a lot of capital flowing into it over the last several years. Obviously, the view of the tenants in that space, there is a lot of room for new store development as the express tunnel model take share from traditional car washes. Again, our view in that space has been we want to be with large established operators who have a track record of operating as well on the growing in the sector. And I think we've done a pretty good job with that in terms of picking our relationships there.
We're focused on not only providing capital to the sector, but really partnering with the right tenants long term in the power space. And I do think you're going to see some consolidation there. And again, our view is that our tenants are going to do well in this environment and they'll probably continue to grow, whether that's due to sort of development or through M&A.
This concludes our question-and-answer session. I would like to turn the floor back over to Chris Constant for closing comments.
Great. Thank you, everyone, for joining us for our third quarter earnings call. We look forward to getting back on everybody. We report our fourth quarter and full year results for 2023.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.