Postal Realty Trust Inc
NYSE:PSTL
Earnings Call Analysis
Summary
Q3-2023
In Q3 2023, Postal Realty Trust continued to exhibit strong performance, acquiring 70 properties at an 8% weighted average cap rate. By October 20, it added 153 properties for $58 million, working towards an $80 million target and projecting a full year weighted average cap rate of 7.25-7.75%. It maintains 100% on-time rent collection and an unchanged 5.5x net debt to EBITDA ratio with a completely undrawn credit facility, preparing for potential attractive opportunities. Net leasable square footage increased by approximately 165,000, benefiting from strategic partnerships and high lease retention. Despite higher expenses and lower NOI margins without one-time costs, FFO was $0.25 per share and AFFO $0.27. They strategized fixed-rate debt utilization over equity, depending on cost-effectiveness. Guidance on G&A and future cap rates reflecting the cost of capital will be provided in the upcoming quarter.
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Greetings, and welcome to Postal Realty Trust's Third Quarter 2023 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Jordan Cooperstein, Vice President of FP&A Capital Markets. Welcome, Jordan.
Thank you, and good morning, everyone. Welcome to Postal Realty Trust's Third Quarter 2023 Earnings Conference Call. On the call today, we have Andrew Spodek, Chief Executive Officer; Jeremy Garber, President; Robert Klein, Chief Financial Officer; and Matt Brandwein, Chief Accounting Officer.
Please note the company may use forward-looking statements on this conference call, which are statements that are not historical facts and are considered forward-looking. These forward-looking statements are covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those described in the forward-looking statements and will be affected by a variety of risks and factors that are beyond the company's control, including, but not limited to, those contained in the company's latest 10-K and its other Securities and Exchange Commission filings. The company does not assume and specifically disclaims any obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.
Additionally, on this conference call, the company may refer to certain non-GAAP financial measures, such as funds from operations, adjusted funds from operations, adjusted EBITDA and net debt. You can find a tabular reconciliation of these non-GAAP financial measures to the most currently comparable GAAP measures in the company's earnings release and supplemental materials. With that, I will now turn the call over to Andrew Spodek, Chief Executive Officer of Postal Realty Trust.
Good morning, and thank you for joining us today. The third quarter marked another strong period for Postal Realty. We demonstrated our ability to drive external and internal growth by expanding our asset base and achieving operating efficiencies. We acquired 70 postal properties across the U.S. during the quarter at an 8% weighted average cap rate, the top of our stated range.
Based on the acquisitions completed through October 20, we have added 153 properties to our portfolio for $58 million, continued to work towards our $80 million target and anticipate our full year 2023 weighted average cap rate to be between 7.25% and 7.75%. The increase in transaction volumes is encouraging, and we are optimistic that this will continue through the end of the year.
The high retention and occupancy rates across our portfolio are characteristic of the niche market we serve, where we receive 100% of our monthly rent 100% on time. This predictability of cash flow is a significant differentiator for Postal Realty. It's important to note that even as a discussion of a government shutdown persists, the Postal Service has affirmatively stated that not only will their facilities remain open, but their services shall remain uninterrupted.
We continue to be judicious with our deployment of capital. Our revolving credit facility remains completely undrawn, and we've maintained conservative leverage with net debt to annualized adjusted EBITDA at 5.5x. We have positioned ourselves optimally to capitalize on attractive opportunities that arise, and we are confident they will.
Our team has over 30 years of experience acquiring, operating and managing properties from small towns to big cities and everything in between. We take pride in the operation and management of each asset in our growing portfolio. The logistics network we invest in on a daily basis is irreplaceable American infrastructure, enabling the Postal Service to serve the American people through the 165 million distinct delivery points they reach 5 to 6 days a week.
This unique and niche space has proved its resilience in the past and present economic cycle. Regardless of whether the U.S. economy will face a soft landing, hard landing or no landing, we are exceedingly confident in the strength of our business, our tenant and our opportunity for future growth. I'll now turn the call over to Jeremy.
Thank you, Andrew. In the third quarter of 2023, we added approximately 165,000 net leasable interior square feet to our portfolio, inclusive of 63,000 square feet from 45 last mile properties and 102,000 square feet from 25 flex properties.
During the quarter, we received the fully executed 2022 renewals with the Postal Service, marking to market expiring rents on 86 properties while also introducing annual rent escalations to these leases. The Postal Service is an exceptional partner to our company. Our discussions regarding the 2023 lease expirations remain ongoing, and we are making progress.
We have maintained a 99% historical weighted average lease retention rate over the past 10-plus years, reflecting the strategic importance of these properties to both the postal service and the communities they serve. I'll now turn the call over to Rob to discuss our third quarter financial results.
Thank you, Jeremy, and thank you, everyone, for joining us on today's call. We're pleased to discuss our third quarter financial results.
Funds from operations or FFO was $0.25 per diluted share and adjusted funds from operations, or AFFO, was $0.27 per diluted share. We've continued to manage our balance sheet prudently by maintaining low leverage and minimizing our exposure to variable rate debt. At the end of the third quarter, our debt outstanding had a weighted average interest rate of 4.04%, a weighted average maturity of 5 years and no notable debt maturities until 2027.
Our $150 million senior unsecured revolving credit facility was completely undrawn and 100% of all borrowings were set to fixed rates. Net debt to annualized adjusted EBITDA ratio was 5.5x at the end of Q3, well within our target of below 7x.
During our last call, we announced that we raised roughly $12 million by entering into forward sales agreements through our ATM program subsequent to the end of the second quarter. As of October 20, we settled these forward sales agreements, utilizing the $12 million in proceeds to repay the revolving credit facility and fund acquisitions.
Recurring CapEx for the third quarter was under $0.02 per square foot at $97,000. As we've discussed in prior quarters, we anticipate the figure for 2023 to be around $0.02 per square foot. We expect to complete additional R&M and CapEx projects prior to year-end, and our recurring CapEx guidance for the fourth quarter is between $200,000 and $300,000.
Cash G&A expense came in lower than expected during the third quarter as we continue to achieve cost savings and efficiencies throughout 2023. We do anticipate an uptick in expenses for the fourth quarter, and our guidance is between $2.2 million and $2.4 million, reducing our projected 2023 total to between $8.8 million and $9 million, which is a slight increase over last year.
The projected increase as compared to the third quarter is primarily related to additional hires, further investment in technology and the timing of work performed by our third-party vendors. As a reminder, the lower 2023 figures are a result of employees electing to receive equity as part of their compensation, reduce third-party expenses and internal operating efficiencies.
Consistent with our guidance throughout the year, 2023 cash G&A as a percentage of revenue will decline on an annual basis. Our Board of Directors approved a quarterly dividend of $0.2375 per share, representing a 1.1% increase from the third quarter 2022 dividend.
Our business model continues to provide investors with stable cash flows through turbulent times in the broader REIT market. We are exhibiting patience with acquisitions and prudence in the capital markets, which should reassure investors that our business will continue to thrive across all economic cycles.
This concludes our prepared remarks. Operator, we'd like to open the call for questions.
[Operator Instructions] Our first question comes from the line of Eric Borden with BMO Capital Markets.
I know you mentioned that the lease negotiation process is currently ongoing. But I was just hoping that you could tell us kind of what inning you're in, in terms of the process and how things are trending to date?
Sure, Eric. As you know, the process is around an entire year's vintage. And as you saw through the 2022 renewals, it's a process that takes time. We completed the 2022 renewals received, all the fully executed leases. And we're encouraged by the 2023 discussions. Our goal was to come up with a more efficient process. As we sit here almost through 2023, we would love to be in a position where we closed out the year with all of our 2023 leases done. And we're hopeful that the process that we have been working towards will allow us to achieve our goals.
That's helpful. And then maybe just on the acquisition funding for the fourth quarter. I know you guys had multiple sources. How should we think about the right mix between cash, equity, either from the ATM or OP units and debt?
Yes. Eric, this is Rob. I think that the story remains the same that we have a lot of tools in our toolbox. We continue to be vigilant on the markets, watching where our stock trades to see if ATM is viable and makes sense. We do have our full revolver undrawn. So we have the complete availability of that. And then yes, at times, there are OP unit transactions, and we'll do those as they're accretive to the cap rate of those transactions. So we still have the full load of things that we can use as equity and debt as we have in prior quarters.
And then last one for me, if I may. I just noticed that NOI margins decreased sequentially. Was there any onetime cost in OpEx for the third quarter that we should be aware of? Or is 3Q a good run rate for 4Q?
Yes. So there wasn't any onetime cost that we can point to. There's always things that are cyclical or that happen in a quarter and don't happen in other quarters. But I think part of the reason for the margin decline this quarter versus the prior quarters was really that while there was an uptick in expenses, there was also some increase in tenant reimbursements, and you'll notice that the 2 of those together kind of do decrease margin even though NOI may not be affected the bottom line NOI. So I think it is probably a good run rate as we noticed, expenses going up, but also reimbursement is increasing as well.
Our next question comes from the line of Rob Stevenson with Janney.
Rob, where is your marginal cost of debt these days?
So on our facility on our revolver, we have a rate that's SOFR plus 1 48 because it's 1 50, but we've gotten the 2 basis point reduction based on some ESG initiatives. So it's really wherever the term SOFR or daily SOFR, depending on which one we choose, plus that margin, plus the 10 basis points adjustment when we went to SOFR.
Okay. So there's not anything that you guys are looking at that would provide you any sort of cheaper rate over the line at this point that that's -- that the line is going to be the primary debt financing for acquisitions in the near term?
So that's the variable rate cost. When you're saying marginal, I was assuming you're drawing the line, that's your marginal cost of debt. Obviously, if we're to swap that out, the rates would be lower. The rates for, let's call it, a 5-year swap are probably somewhere in the low 6s at the time -- at the current time.
Okay. And if you guys do the $20 million plus of acquisitions in the fourth quarter, would that be your preference to do that? Or are you going to let that float for a while and see what winds up happening in early '24 in terms of rates?
So if we do use debt, I think our philosophy remains the same where we have typically borrowed on our revolver as kind of an acquisitions line. And then as we determine that, that debt is going to stay in our balance sheet longer term, we tend to swap it out so that it's fixed rates because we're not looking to arbitrage fixed versus floating. We'd rather have a fixed cost of debt. So -- and that's if we're going the debt route. Obviously, we're monitoring the markets. As I kind of mentioned to Eric on the prior question, we're monitoring the markets and we do each quarter have an ATM active and open unit transactions that can be done. So there are other sources and we may use equity just depending on share price, cap rate, et cetera.
Okay. And then Andrew or Jeremy, how are you guys thinking about the equity side of the equation at $13 and change where your stock is trading today? You did some OP units during the quarter. Are there big step-ups in some of these acquisitions that you think that you can get in the near term to make that work? And acknowledging that your cap rates are going up on acquisitions, are they going up enough to maintain the spread given the cost of capital today?
That's a great question. So we're constantly evaluating what our cost of capital is in relation to what we're purchasing. And as the OP unit conversation, we're getting interest from sellers to take operating partnership units, and we don't always say yes, it's opportunistic for us. The currency is very valuable, and it brings in deal flow, but we're not really so happy with where our stock price is today. And so we're not doing that many transactions with the use of it as a currency today.
Our next question comes from the line of Ki Bin Kim with Truist Securities.
Just going back to the topic of the lease renewals and that process. How would you describe the kind of key hurdle? Is it the fact that you're dealing with a kind of large -- much larger bureaucratic entity? Or is it really just trying to negotiate the right rental rate? Just curious if any kind of color you can provide?
Sure. is, this is Andrew. So I think, in general, it's complicated to negotiate 100, 200 leases at one given time, right, depending on how many we have rolling in that particular year. Dealing with a government agency adds a layer of complication to it, analyzing each individual properties' market and what the rates are and negotiating that adds another layer to it. So I think it's just the process of going through it. I don't think there's a particular hurdle that's specific to it.
Okay. And in terms of G&A, any kind of ballpark idea of what we can expect going forward? I think last year -- I mean this year compared to last year, G&A went up about $2 million. Is that -- that's reasonable to expect next year?
So we haven't given guidance for next year. We plan to do that in the next quarter. But no, we don't believe that some of the onetime increases will be recurring in the coming year. So the increase shouldn't be large, but we'll give you guidance in the next quarter as to how '24 is going to look.
[Operator Instructions] Our next question comes from the line of Ki Bin Kim with Truist Securities.
Yes. That was a quick turnaround. Just a quick question on the acquisition yields. I didn't want to hog up the call. I guess where would you peg seller expectations to this kind of new cost of capital environment? Have they kind of fully embraced it and realize what's happening to -- especially to buyers like yourselves in terms of your increased cost of capital? And what do you think cap rates can kind of drift to as we look forward?
It's a great question, and I wish I had a great answer. We do a tremendous amount of volume. And so every seller's expectation is very different. And actually, every seller's asset is very different, right? And so this particular quarter, our team did very well, closing out the quarter around an 8% cap. But that was really because of the mix of assets that we bought within the quarter. From the first half of last year, where we closed out a 6.5% cap to where we are today, let's call it, a 7.5% to 8% cap, that's a big move. But this is not a market shift. We're still having to negotiate to get these cap rates on an individual deal basis. We're hoping that next quarter is going to be 7.5% or higher. I don't want anybody to expect this 8% cap quarter to be a change in the market itself. But we're working on getting the best pricing that we possibly can, and we're taking into account our cost of capital as we do those deals. Can I tell you that the sellers recognize the cost of capital shift? If they are recognizing that they're not voicing it to us, they're still saying that they want their price, which I guess is part of the game.
Our next question comes from the line of Jon Petersen with Jefferies.
I was just curious if there's any maybe updated trends on where you're seeing the post office make investments today, especially as it relates to your business. I know in the past, we talked about them upgrading their fleet of trucks or I don't know if there's different store designs or things like that, that we should be aware of. Just curious if you -- if there's any trends in that regard that are impacting your business that we should be aware of?
So I believe that there are trends, but I don't know that it's directly impacting our business. They have been investing heavily in their own facilities and the modernization of those facilities, which is a good thing for the operations of their business. I don't know that it's directly impacting our properties.
Our next question comes from the line of Tony Paolone with JPMorgan.
You have Nahom on the line for Tony this morning. Congrats on executing the 2022 leases with the USPS with the 3.5% escalators. I guess going forward, are you negotiating similar types of leases with the USPS? And is that maybe causing some of the holdup in renewals?
As Andrew referenced, this is a process. The number of leases that we're going through on an annual basis is voluminous and facing off with the postal service and the back and forth just takes some time. And we've been at this for many, many years. This has been the experience over the history. And right now, we're more focused on developing with them a more efficient process. So we don't have to go through this year in, year out. Our goal is to achieve the best outcome for our shareholders on any type of lease renewal. And so that's where we are today. And again, our goal is to try to bring this to a head as soon as we can.
We have reached the end of our question-and-answer session. And I would like to turn the floor back over to CEO, Andrew Spodek, for closing comments.
Thanks. On behalf of the entire team, thank you for your continued support and taking the time to join us today. We look forward to connecting with you over the next coming months. Thank you again.
Thank you. This concludes today's teleconference. You may now disconnect your lines at this time. Thank you for your participation.