Slate Grocery REIT

TSX:SGR.UN

Earnings Call Transcript

[Operator]

Good morning, ladies and gentlemen, and welcome to the Slate Retail REIT Fourth Quarter 2017 Financial Results Conference Call. As a reminder, this call is being recorded today, February 20, 2018, at 9 a.m. Eastern time. Your host for today's call is Ms. Madeline Sarracini. Please proceed, Mr. Sarracini.

[Madeline Sarracini]

Thank you, operator, and good morning, everyone. Welcome to the Fourth Quarter 2017 Year End Conference Call for Slate Retail REIT. I am joined today by Robert Armstrong, Chief Financial Officer; and Greg Stevenson, Chief Executive Officer. Before getting started, I'd like to remind participants that our discussion today may contain forward-looking statements and therefore ask you to familiarize yourself with the disclaimers regarding forward-looking statements as well as non-IFRS financial measures, both of which can be found in management's discussion and analysis. You can visit Slate's website to access all of the REIT's financial disclosure, including our Q4 2017 investor update, which is available now. With that, we will open the line for Q&A.

[Operator]

[Operator Instructions] Our first question comes from Troy MacLean from BMO Capital Markets.

[Troy Raymond MacLean, Analyst]

Just wondering, there's been news reports on the weekend that the parent company for Winn-Dixie and Bi-Lo is looking at potentially restructuring, including some store sales. Just wondering, if you heard anything and, kind of, how that would impact your capital program for 2018?

[Greg Stevenson, Chief Executive Officer]

Yes, we've read probably a lot of what everyone on this call has read. And I think what we read is that it's largely a leverage issue at the parent co and not an operating issue, i.e. Lone Star, who is the private equity parent company, has over levered the company. When we looked through to the operating business, which is the grocery store business, they operate just over 700 stores, so they are a large dominant player in the Southeast and next to the Publix, they're the largest grocer in the state of Florida. And so we're always talking with all of our anchored tenants, including Southeastern Grocers, and our view on the 10 stores that we have with them -- excuse me, the 10 stores that we have with them is that they would sit in the top rankings within their 700 store chain, so we can't speculate on what may or may not happen, but we do believe that if the parent co can solve the leverage issue, that there are positive operating fundamentals that their stores, including the ones that we own and that we stand to, benefit from the improvement in credit on our Winn-Dixie and Bi-Lo anchored centers, which today makes up about 4% of our base rent.

[Troy Raymond MacLean, Analyst]

You've mentioned, potentially higher redevelopment spend in 2018. I was wondering if you can give us some color on how large the program could be? And whether or not it's dependent on asset sales? I know you've targeted $30 million to $50 million in 2018, could that get higher?

[Greg Stevenson, Chief Executive Officer]

Yes, so as we outlined on Page 16 of the MD&A, the current pipeline is $26.7 million. If you add the $10.7 million from North Augusta that we've just completed in Q4, that's about $37.8 million, which is also highlighted in the investor presentation that you can find on our website. Today, we think that can continue to grow, not substantially, but as we stated, we think that the $26.7 million can grow to anywhere between $30 million to $50 million over the next 12 to 18 months, when we're targeting expected yield on cost between 9% and 11%, so very accretive to the underlying business, and where we'd like us to focus part of our development -- sorry, excess cash flow towards those opportunities. As it relates to out parcel sales, I mean other noncore sales, we target that to be about $30 million to $50 million, as you stated. We've completed 2 subsequent to the fourth quarter already, as we noted in the MD&A. So that's $15 million of that to $30 million to $50 million already in the door that we can deploy accretively. So those sales can come at cap rates sub-6% in some instances, so if we can redeploy that capital either back into the portfolio or by repurchasing units north of an 8% unlevered yield, we think that's a positive outcome for the REIT.

[Troy Raymond MacLean, Analyst]

And so, on the $30 million to $50 million of sales, will that be just on out parcels alone? Or will there be any store -- property sales there, like entire property sold as well?

[Greg Stevenson, Chief Executive Officer]

There may be 2 or 3 properties in that number that are from the 2011, 2012 vintage that we've largely executed our business plan on, and they are stabilized, and that we think that we can sell realized maximum potential from a value perspective and redeploy into other opportunities at higher unlevered yields within the portfolio today but largely out parcels.

[Troy Raymond MacLean, Analyst]

And the 2 sales completed so far in 2018, so what cap rates -- were they in a sub-7% range?

[Greg Stevenson, Chief Executive Officer]

One was in the sub-7% range and one was in the mid-7% range.

[Troy Raymond MacLean, Analyst]

And then just finally, on the 112,000 square feet of new leasing in Q4, how much of that was related to North Augusta?

[Greg Stevenson, Chief Executive Officer]

Say that one more time, sorry?

[Troy Raymond MacLean, Analyst]

So -- for Q4, there was new leasing of about 112,000 square feet. I was, kind of, curious, if that included the completed redevelopment from North Augusta. Is that where it showed up or [other than all this]...

[Greg Stevenson, Chief Executive Officer]

No new leasing in that number is from North Augusta. A large part of it was actually related to the development that we have ongoing at Hocking Valley, where we signed 2 new leases. And to give you a background on that, so that also shows up in our redevelopment table, so that was an asset that we bought with the Kroger and the Kmart. We have moved the Kroger into the Kmart space. They are now operating and open for business. We signed a 20-year lease with Kroger there, and a lot of the new leasing that you've read in this quarter was executed leases backfilling the former Kroger space at rents that are more than double what Kroger was formally paying, so that makes up a large portion of what the new leasing in this quarter was.

[Operator]

Your next question comes from the line of Himanshu Gupta from GMP Securities.

[Himanshu Gupta, VP & Equity Research Analyst]

In the letter you mentioned that power centers and enclosed malls are the most impacted from store closures due to large fashion exposure. Just wondering, how the cap rates have moved for power centers versus say neighborhood and community centers in the last year or so?

[Greg Stevenson, Chief Executive Officer]

Yes. I think that it is an important distinction to make, because a lot of the pain felt at enclosed shopping malls and power centers are from either large 100,000-plus square foot department stores for example, Sears, or at power centers, where you have large 30,000 square foot to 40,000 square foot general merchandisers, largely apparel, electronics or bookstores, of which Slate Retail REIT has an immaterial amount within the portfolio, which is what we wanted to highlight. It's not a huge impact of shop space tenants moving out of malls and coming into our centers. Although, it is there, and the demand is there, where they are looking to leave those either power centers or malls and looking to relocate next to a grocery-anchored center, largely because the grocery store generates natural demand as our customers visit grocery stores on average 2 to 3 times in United States.

[Himanshu Gupta, VP & Equity Research Analyst]

Sure, and just a follow-up. Obviously, retailers are closely looking at the cost for occupancy, as they focus on profitability, so what is base rent per square foot differential between, say, neighborhood versus a power center or a regional mall? I mean, we're trying to see, is there an opportunity to upgrade the tenant mix over the medium term?

[Greg Stevenson, Chief Executive Officer]

Yes, I mean that's a stat that we focus very heavily on. And we think that if your gross rent as a percentage of your sales is low enough, someone, the grocer or otherwise, will want to be there over the long run. And for us that number is below 3%, and for power centers or enclosed shopping malls, it's more than 2x that amount. so not only do you get better foot traffic, improved visibility, you also get lower fixed cost and better margins at our centers, so I think that's going to be very important for retailers going forward, and it's why we focus meaningfully on that number.

[Himanshu Gupta, VP & Equity Research Analyst]

Sure. And just switching gears, how's the debt environment,I mean, in terms of lending spreads heavily change in underwriting, any lead on CMBS financing?

[Greg Stevenson, Chief Executive Officer]

I'll let Bobby answer that question.

[Robert Armstrong, Chief Financial Officer]

Yes, well we're not in the market, we have been standing abreast of it. I think -- we did the last revolver in term loan in the fall of 200 over. I think currently, if we're back at the market, we probably have to be able to get inside of that, say 10 to 15 basis points. So for well-positioned, high-quality property, which we think Slate Retail REIT has, we think the spreads are today better than they ever have been. Maybe some of the other terms would changed, based on overall leverage and what rates have done, but I think with rates are, kind of, increasing up, you're seeing a little bit of spread compression but not on a one-to-one basis.

[Operator]

[Operator Instructions] Our next question comes from Sumayya Hussain with CIBC.

[Sumayya Hussain, Associate]

It looks like in 2018, there's going to be a greater focus on organic growth versus acquisitions. Just to that end, where do you guys see a same-property growth in occupancy turning over the course of the year?

[Greg Stevenson, Chief Executive Officer]

Yes, absolutely. I think almost the sole focus on our organic growth versus external growth. Same-property growth, much like it did for the full year of 2017, where we were almost 1%, 1.4% when you include North Augusta, we expect the positive trend to continue and likely increase, as our redevelopment comes online, and a lot of the leasing that you've seen this quarter and in prior quarters flow through into our results. So the last 5 quarters that we had from same-property NOI growth perspective have been positive. This quarter is a 90-day period, and it was large related to onetime items, so we don't expect that trend to continue. We generally expect the same-property trend to revert back to positive going forward. And I think that because our same-property portfolio only accounts for about 58% of our total, you're susceptible to some of these blips. But overall for 2018, we see positive trends much like in 2017. And I think that will flow into FFO growth much like it has in the past. And again I think, if you look through at the leasing trends and the stuff that we've been posting, the fundamentals are still very positive inside the portfolio.

[Robert Armstrong, Chief Financial Officer]

I'd just add as well, coming there in 2017 with close to $400 million of acquisitions, the team has done a great job with the leasing and a lot of leasing already been done on those properties, but it's going to be a lag in the lease deal to when that gets the results. So as a result, we're really positive on 2018, but we think we're going to see the big benefit of all leasing done as of late, coming to Q3 and Q4.

[Greg Stevenson, Chief Executive Officer]

Yes, I think that's an important point. We've completed 78% -- by the end of 2017, we've completed 78% of contractual 2018 expiries. So that -- all of that, we expect to flow through into the latter half of 2018 results.

[Sumayya Hussain, Associate]

Okay, great. I guess, kind of, on the same vein, the retention rate for the nongrocery space in the quarter was -- or for the year was about 77% from 84% last year, so how does this compare against, what you guys have seen historically? And then, what would you expect to see for retention in non-grocery space in 2018?

[Greg Stevenson, Chief Executive Officer]

Yes, I think we're very pleased with almost an 80% retention rate in shop space. I think part of it is strategically improving the tenant mix within our stores, to bring in synergistic uses and uses that, we think, can improve the overall desirability of our centers. And I think that 80% is a good number. I think that going forward, something that we can continue. It's not something that we project. I mean, we generally look for highest and best use, and sometimes that takes 90 days, sometime it takes 24 months, but I think the important thing is if we can continue to do 100% of renewal rates in anchors and 80% on shop space, with 3 developments coming online, all of which to say, organic NOI growth will continue into the future.

[Robert Armstrong, Chief Financial Officer]

Yes, I would just add that looking back over the last couple of years that, that rate's been about that the entire time, it's going to oscillate from quarter-to-quarter. But overall, since Slate Retail REIT has been around, we've been in and about the same occupancy we are now, and the retention rate continues to remain extremely high. Notwithstanding some of the discussion going on in the retail industry, we've been really happy with what the teams have been able to do so far, and we see nothing that would change that going forward.

[Operator]

And there are no further questions. I will now turn the call back to management for closing remarks.

[Madeline Sarracini]

Thanks, everyone for joining the call. Have a great day.

[Greg Stevenson, Chief Executive Officer]

Thank you.

[Operator]

This concludes today's conference call. You may now disconnect.