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spk06: Good morning and welcome to the Industrial Logistics Properties Trust second quarter 2022 earnings conference call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing star then zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on a touch-tone phone. To withdraw your question, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to Kevin Berry, Director of Investor Relations. Please go ahead, sir.
spk05: Good morning, everyone, and thank you for joining us today. With me on the call are ILPP's President and Chief Operating Officer, Yael Duffy, and Chief Financial Officer, Rick Seidel. In just a moment, they will provide details about our business and our performance for the second quarter of 2022. followed by a question and answer session with sell-side analysts. First, I would like to note that the recording and retransmission of today's conference call is prohibited without the prior written consent of the company. Also note that today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other securities laws. These forward-looking statements are based on ILPT's beliefs and expectations as of today, Wednesday, July 27, 2022, and actual results may differ materially from those that we project. The company undertakes no obligation to revise or publicly release the results of any revision to the forward-looking statements made in today's conference call. Additional information concerning factors that could cause those differences is contained in our filings with the Securities and Exchange Commission, or SEC, which can be accessed from our website, ilptweek.com, or the SEC's website. Investors are cautioned not to place undue reliance upon any forward-looking statements. In addition, we will be discussing non-GAAP numbers during this call, including normalized funds from operations, or normalized FFO, adjusted EBITDA, and cash-based net operating income, or cash basis NOI. A reconciliation of these non-GAAP figures to net income and the components to calculate cash available for distribution, or CAD, are available in our Supplemental Operating and Financial Data Package, which also can be found on our website. With that, I will now turn the call over to Yael.
spk00: Thank you, Kevin, and good morning. Before I review ILPT's performance for the second quarter of 2022, I would like to start by discussing the announcement earlier this month that we have temporarily reduced ILPT's quarterly cash dividend. We recognize the value of the dividend to our investors and the decision was not made lightly. As you know, earlier this year, ILPT closed on the strategic acquisition of Monmouth Real Estate Investment Corporation. would significantly enhance ILPT's scale, tenant base, and geographic diversity. As we discussed on our call last quarter, our long-term financing plan predominantly included property sales and the sale of an additional equity interest in ILPT's consolidated joint venture. However, as interest rates have increased at rates significantly higher than projected, It has led to a meaningful deterioration in real estate market conditions with buyers seeking steep discounts on marketed properties or, in many cases, walking away from transactions. As we are not a distressed seller, we have made the decision to remove the 30 Monmouth properties totaling 4.9 million square feet from the market and plan to reengage in marketing efforts when debt and capital markets normalize. Additionally, we have paused discussions with potential partners for the Mountain Industrial Joint Venture. We continue to believe in the strength of these properties and the robust industry tailwinds underpinning demand for our real estate. Accordingly, we plan to remain disciplined when considering future sales of properties or equity interests to ensure that we maximize value. As it is taking us longer than we originally expected to complete our long-term financing plan, we felt it was prudent to temporarily reduce the dividend to provide us with short-term flexibility. The reduction of the dividend preserves approximately $20 million of cash flow per quarter, which will enhance the nearly $300 million of cash we had on hand at the end of June. Additionally, it provides us time to evaluate alternatives to repay our bridge facility. These alternatives may include entering longer duration debt, exploring additional joint venture opportunities with properties where fixed rate debt is already in place, and asset sales. To be clear, ILPT continues to operate business as usual, and all leasing efforts and capital projects are progressing as scheduled. Now turning to portfolio fundamentals and operating results. As of June 30, 2022, ILPT's consolidated portfolio included 412 warehouse and distribution properties in 39 states, totaling approximately 60 million square feet with occupancy of nearly 99%. The total portfolio has a weighted average remaining lease term of approximately nine years, with 78% of our revenues coming from investment-grade tenants or subsidiaries or from our secure Hawaii land leases. During the second quarter, ILPT continued to benefit from favorable operating trends, which included record leasing activity of 3.9 million square feet at weighted average rental rates that were 61.3% higher than prior rental rates for the same space. Normalized FFO per share was 43 cents and same store cash NOI grew 2.6% year over year. We executed eight new leases for approximately 2.7 million square feet and an average roll-up in rents of 104.7% and 22 lease renewals for approximately 1 million square feet and an average roll-up in rents of 29.1%. In total, new and renewal leasing yielded a weighted average roll-up of 82.8%. New leasing activity was driven by two leases with Home Depot in Hawaii for approximately 2.5 million square feet and an average roll-up in rents of 110.3%. By way of background, last year Home Depot submitted a request for proposal for an 84,000 square foot ground lease for its retail operations. As discussions progressed with the RMR Group's property and asset management teams, a strategic opportunity emerged with Home Depot committing to a larger retail footprint of nearly 300,000 square feet, as well as a 2.2 million square foot parcel, which will serve as a warehouse and distribution hub. We are thrilled to expand our relationship with Home Depot, an A-rated investment-grade tenant across three states and totaling 3.4 million square feet. Home Depot ranks as our third largest tenant, representing 5.7% of ILPT's lease square footage and 4.4% of annualized revenues. Renewal leasing activity included five lease extensions with FedEx for approximately 396,000 square feet at an average roll-up in rents of 17.2%. I highlight this as I believe there is a misconception in the market that all FedEx leases are above market, which we do not believe to be true. As we work through the portfolio and see firsthand the intense market demand and record low vacancy in the markets which our properties are located, we continue to achieve roll-ups in rent as these leases expire. We spent $3 million on recurring capital expenditures, including $2.6 million, or just 7 cents per square foot per lease year, attributable to tenant improvements and leasing commissions. Additionally, we spent $7.1 million on development activity, predominantly related to multiple parking lot expansions for FedEx. As a reminder, by partnering with FedEx on these projects, there is an opportunity for ILPT to grow rents ahead of natural lease expirations while achieving a return on capital of 8% to 10%. Now turning to our leasing opportunities. Given all we have accomplished over the last year, with nearly 100 leases signed totaling 7.1 million square feet, Only 2.2% of total annualized revenue is set to expire during the second half of 2022. As such, our focus is on addressing lease expirations in the upcoming years where approximately 22% of ILPT's portfolio is scheduled to roll by the end of 2025. We believe there is ample opportunity to maximize mark-to-market rent growth and increase cash flows consistent with the 39% roll-up in rents we achieved over the past 12 months. Our leasing pipeline includes 33 deals for approximately 4 million square feet, and we anticipate a near-term conversion of approximately 25% of our pipeline, given that roughly 1 million square feet of current activity is in advanced stages of negotiation or lease documentation. Before turning the call over to Rick, I wanted to make you aware of the recent publication of the RMR Group's Annual Sustainability Report. The report highlights insights, accomplishments, and data regarding our managers' commitment to long-term ESG goals. Also, for the first time, there is a sustainability supplement focused specifically on ILTT. We are proud of the progress made to strengthen ILPT sustainability practices and enhance our ESG transparency and disclosure. You can find links to the complete report as well as the ILPT sustainability supplement on our website at ILPTREIT.com. I'll now turn the call over to Rick to review our financial results.
spk02: Thanks, Yael, and good morning, everyone. During the second quarter, total portfolios same property NOI grew 10.8% from the prior year. This reflects the favorable impact of approximately $3.4 million due to the non-cash write-off of a below-market lease that we terminated in order to execute one of the new leases with Home Depot. On a cash basis, same property NOI increased 2.6% year-over-year, driven by a 3% increase in Hawaii and a 2.1% increase on the mainland. This growth was due to higher rental rates and contractual rent steps in our leases across the portfolio. Adjusted EBITDA increased nearly 100% year-over-year to $80.8 million, which reflects our same property NOI growth and the Monmouth acquisition. Interest expense came in at $77.5 million during the second quarter. This includes approximately $34.4 million of amortization of financing fees, of which $30.3 million are related to our bridge loan facility used to fund the acquisition. The balance, or $43.1 million, is related to cash interest expense. Second quarter normalized FFO was $28.3 million, or 43 cents per share, which includes the favorable impact of approximately 5 cents per share related to the write-off of the below-market lease obligations I mentioned a moment ago. Net loss for the quarter was $151.3 million, which included a non-cash impairment charge of $100.7 million. This charge was related to our decision not to sell in the current environment and subsequently reclassify 30 properties from held for sale to held for use due to the deterioration of the real estate transaction market caused by rising interest rates. While we have seen stable and strengthening operating trends throughout our portfolio, the accounting rules required that we adjust the properties to fair value upon reclassification. Our estimate of fair value was partially based on the offers we received as well as trends we are seeing in the financing and transaction markets. We continue to believe in the long-term prospects of these properties and are not willing to transact in the current environment. Turning to our balance sheet and financing activities. At the end of the quarter, we had total consolidated debt of approximately $4.5 billion. It had a weighted average interest rate of 4.2% and a weighted average maturity of 4.1 years. The components of the debt included the following, a $1.4 billion bridge loan facility at a floating interest rate of 4.2% that matures in February of 2023, $1.4 billion of JV CMBS loans at a floating interest rate of 4%, and approximately $1.7 billion of fixed rate loans with a blended interest rate of 4.2%. While interest rates have continued to increase since the end of the second quarter, it is important to note that we do have interest rate caps in place that begin to protect us against further increases in interest rates if SOFR exceeds 2.7%. We ended the quarter with $292 million of cash on hand and debt to annualized adjusted EBITDA of 12.4 times. As Yael mentioned, the implementation of our long-term plan to finance the Monmouth acquisition is taking longer than expected. Since we committed to the acquisition, the term SOFR forward curve for the end of 2022 has increased by approximately 300 basis points. To allow maximum short-term flexibility as we evaluate alternatives to repay our bridge facility, we reduced our quarterly dividend to one cent per share. This equates to more than $20 million cash flow each quarter and provides us with sufficient cash reserves to give us refinancing options and continue operating business as usual. That concludes our prepared remarks. Operator, please open up the line for questions.
spk06: Thank you. We will now begin the question and answer session. To ask a question, you may press star then 1 on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. And our first question will come from Brian Mayer with B. Reilly FBR. Please go ahead.
spk01: Good morning, and thanks for that information. And maybe just sticking with the debt for a moment since you just addressed it, the cash on hand and the availability of the dividend for the next couple few quarters, do you suspect that the combination of those two items when we get to February of next year, assuming you haven't layered on another JV partner and assuming you haven't sold any assets, would give you the capital available to get into some type of refinancing agreement with the banks to address the bridge loan?
spk02: Thanks for the question, Brian. Yeah, that's right. I mean, we feel really good about the assets. We're going through the process to, you know, have the banks update appraisals and all the things you need to do to get secure debt in place. You know, we are glad to see that the market, the CMBS market in particular, is open. There is certainly still some price discovery that we'll need to go through, but it is positive that the market's open. We are continuing to monitor that closely, and we do have additional options to, you know, consider refinancing, you know, with our bank group and everything else. So the extra liquidity provided by the dividend reduction just gives us additional flexibility. You know, we don't have to finance at the same loan to value. We'd be able to bring it down if that's what, you know, if that'll help us get a better price on a refi. So we felt it was a prudent thing. And, again, the real positive here is the assets are great.
spk01: Thanks. And on the JV partner, I believe, Io, maybe you said that that has paused. Is there just one JV partner in addition to the one already onboarded in the mix or is there more than one potential second JV partners you're speaking with?
spk00: So we had been talking to multiple groups and we were, you know, I would say further along with one additional partner, but with the volatility and the interest rates and the JV does have floating rate debt in place, I think we just felt it was best to pause conversations until things stabilized.
spk01: Okay, thanks. And maybe last for me, on the 30 MNR assets that you kind of withdrew from marketing, Is it safe to say that at some point you plan on remarketing those in the next couple few quarters? Might you market some but not all and maybe just keep some for the long term? What are the thoughts there over the next maybe six to 12 months on those 30 properties?
spk00: I think we're flexible. Again, it depends on where the markets land. I think we feel these are really good assets that are representative of the larger Monmouth portfolio. I think the problem today was that we had gone down the path and had awarded 27 of the 30 properties and we had come to a price which you know, reflects the $100 million impairment that Rick talked about. But these buyers were coming back and asking for additional price reductions given the volatility in the market. And it was just something that we felt was unwarranted given the class and, you know, quality of these assets. And so, and also no assurances that they weren't going to come back to the table asking for more. So I think we feel, again, really good about these properties and are willing to hold them if that's what we decide to do.
spk01: Okay, thank you.
spk00: Thank you.
spk06: Our next question will come from Michael Carroll with RBC Capital Markets. Please go ahead.
spk09: Yeah, in your prepared remarks, you kind of highlighted that you might look to joint venture other properties. I mean, has that process started yet? Have you identified any other properties that you might joint venture?
spk00: So we haven't identified anything yet, but we do have 203 properties both on the mainland and in Hawaii that have, you know, $1.7 billion of fixed-rate debt in place at an interest rate of, you know, approximately 4.2%. So, I think that just presents us another opportunity if, you know, our potential partners are uneasy with the floating rate debt.
spk09: I guess, when does that process start? Like, if you started that now, I mean, how quickly could you execute a JV deal?
spk00: So, again, I think we haven't gone down the path yet, and I think for the same reasons why we took the other properties and, you know, halted discussions with potential partners for the mountain industrial, I think it really will be, you know, further down the line if we need to.
spk09: Okay. And then can you talk a little bit about the interest in the Hawaiian portfolio? I'd imagine that there would be some interest within those assets. I mean, would you look harder to joint venture some of those properties to pay down the bridge loan?
spk00: I don't think that it would be, you know, I don't think we'd do it to pay down the bridge loan. I think our first action would be to enter into longer-duration debt to repay the bridge facility just because it provides us flexibility. And, again, those Hawaii properties are so valuable. We've seen... you know, significant growth in rent. We've improved the credit profile and, you know, the scarcity of industrial land in Hawaii is, you know, I think the vacancy rate is 1% right now. So we wouldn't do anything, we wouldn't enter into any joint venture at pricing that wasn't at a premium.
spk09: Okay. And then can you talk about the refinancing options that you have for the bridge loaned? It seems like that's your number one goal. I mean, when could something be announced there?
spk00: I think we'll definitely have something done before February 23.
spk09: And what's the current rates that are being quoted on refinancing that?
spk00: We don't have rates yet.
spk02: It's a little early to put a price on it at this point, Mike. We are watching the market pretty closely. Back in February, we were 276 or so basis points over SOFR. We saw a transaction in the market last week around 300, so it's possible that it's a little higher, but again, really great quality assets. We'll see where it lands, and we'll look to provide those updates as we can.
spk09: Okay. And then, Rick, I know you mentioned that you could reduce the LTV to probably get a little bit of a better rate. I mean, what's the LTV that the bridge loan is based off of right now, and how far would you have to reduce that to get a more attractive rate?
spk02: It's a good question. I guess it'll depend on where the market is. But I mean, the good news again, Mike, is that the markets are open. And we do have cash on the balance sheet in order to bring down the LTV. So we've got some flexibility in the dividend further as to that. The bridge loan was probably in the mid to high 70s loan to value. So We have the ability to bring it down to a, you know, more conservative number and, you know, to get the refinancing done. But we're going to evaluate all our options.
spk09: Okay. And then, Rick, can you talk a little bit about the credit facility and what's helped the discussions of reimplementing a credit facility for the company? Okay.
spk02: Yes, the credit facility, we had gone fairly far down the road. I think we were pretty much ready to go, but a lot of it was contingent on the new credit facility was the last piece to take out the bridge, and we needed to execute on the sale of the JV interest and the 30 properties, and because of what's happened with interest rates in the market. You know, that just didn't happen, but that's not because of our bank group. Our lenders were fantastic going through that process, and I think a number of them are still kind of disappointed that that deal didn't close. But, you know, we're, again, going to continue to evaluate all of our options and seek flexibility where we can and, you know, think we'll be in a good position.
spk09: Okay. And then just last, can you talk a little about the – I think the Home Depot lease is probably the bigger lease that's kind of impacted your leasing stats. When did that lease commence? I mean, did they start paying cash yet, or is that the reason why your straight-line rent jumped up pretty significantly this quarter compared to the prior quarter?
spk00: Yeah, so for the larger of the two deals, there was, you know, one for 300,000 square feet and one for 2.2 million square feet, and so the larger... of the leases actually doesn't commence until another lease, another tenant lease expires in early 2024. So it was, they did a proactive strategic, you know, lease to make sure that they got that property.
spk09: Okay. So will earnings, how much will earnings tick higher next quarter? It sounds like that most of the leasing activities in 2024, so the near-term earnings won't be materially impacted.
spk00: Well, we have, I mean, we do have, we have some good, you know, we have 3.5 million square feet coming up on the mainland in 23, and then another 4 million in 24. So, I mean, we still do have some good opportunities to continue to drive rents in the next coming years.
spk02: Mike, overall, from an earnings perspective going into next quarter, the results of the portfolio are continuing to be really strong. But the interest headwinds are real. So, you know, based on where interest rates are today, we expect to see further deterioration in FFO. But, again, I mean, I think we're being pretty transparent about looking to move forward and refinance the floating rate debt that we have.
spk09: Okay, great. Thank you.
spk06: Again, if you have a question, please press star then 1. Our next question will come from James Feldman with Bank of America. Please go ahead.
spk04: Hi, everyone. This is Suri Ganglarpu on for Jamie. Thanks for taking my question. Could you talk about what you were seeing in terms of how much deals were repricing by or where cap rates were trending for the assets you had on the market before you stopped marketing?
spk00: Hi, good morning. So I think we're seeing generally a 50 to 75 basis point swing in cap rates. And again, I think that's the initial, in that range is the initial. And then I think buyers are being opportunistic and coming back and asking for additional discounts, just assuming that some sellers are desperate to sell, which we are not.
spk04: Okay, great. Thank you. And then can you talk about what a 50 or 100 basis point increase in interest rates would mean for your interest expense or FFO per share?
spk02: Yeah, so we mentioned last quarter that every 50 basis points increase in interest in SOFR translates to about 4 cents of FFO. per quarter, and that will continue for, well, it's actually hard for us to go up 50 basis points from where we are today. So far, I think yesterday was 2.32, and our caps kick in at 2.7, so another 40 basis points or so, and we'll start to see some of the protection from the caps, but the rule of thumb was every 50 basis points translates to about 4 cents of FFO.
spk04: Okay, great. Thank you. And then, Are you seeing a pullback in leasing activity from any of your tenants and specifically what you're seeing from investment grade tenants versus non-investment grade?
spk00: No, I think really, I mean, I think our demand has been throughout, I mean, throughout the pandemic and even this inflationary market and rising interest rates. I think if anything, I think there's a lack of supply and the demand continues to be there.
spk04: Okay, great. Thank you. That's all for me.
spk00: Thank you.
spk06: Our next question will come from Tom Catherwood with BTIG. Please go ahead.
spk08: Thanks, and good morning, everybody. Just trying to triangulate a few things here. So, Yael, you mentioned 27 of the 30 assets were in contract. I get the buyers trying to retrade and then pulling them off the market. for that hundred million dollar impairment, was that kind of representative on the pricing on the 27 assets or is that across the full 30 that you pulled from the market?
spk00: That's across the full 30. So, you know, when we bought the Monmouth portfolio, we assigned a value of approximately 725 million to those 30 assets. And then as we, work through and we kind of came to terms with buyers, we had a value of 625 million. And since we had agreed to sell 27 of the 30 properties at that 625 million, and they were held for sale and then we put them back into service, we had to adjust that difference in valuation.
spk08: So let me just clarify that. So the 625 was for the 27 assets.
spk00: It was for the whole 30.
spk08: Okay. Okay. Got it. Got it. Got it. Then I want to do a bit, I'm going to get a sense of timing here because something doesn't line up for me. So the Monmouth deal was originally announced November 5th. The deal closes end of February, you know, three and a half months later. At what point in time did those packages or what have you on those 30 assets get out to market?
spk00: We began marketing them almost simultaneously with when we closed. If you might recall, I think we talked about this at NAVY, we had originally planned to sell either one large portfolio or two portfolios. I think that's when the markets had started to erode. And so our brokers suggested that we try to market them individually or in small clusters because they thought we'd be able to maximize value. So we had come to an agreement, as I mentioned, on 27 of the 30 properties, I would say, in late April and May. And the buyers kicked off diligence. We were working through legal docs. And as everybody was going through the process and working towards closing, these buyers, a lot of them, some withdrew altogether, and others came back and asked for meaningful price adjustments, 10% or more, and really provided us with no assurances that they weren't going to come back to the table and ask for more of a price reduction as they completed their diligence or the interest rates continued to rise. And it just was something we couldn't We couldn't get behind because we really feel that these are really good assets and assets ILPT would be happy to continue to own. So that was kind of the background of why we pulled them.
spk08: Got it. Understood. And then kind of final one for me. You mentioned in your prepared remarks this market impression that the FedEx leases are above market, and that was not the case in the two that you addressed this quarter. In general, when you look at that portfolio now that it's under your umbrella, do you have a sense of where those assets overall, the FedEx ones, are per market? And then kind of maybe more broadly, do you have a sense for your mainland portfolio overall what that looks like on a mark-to-market basis?
spk00: Yeah, so we actually did five lease renewals with FedEx this quarter. And so I think it really depends market by market and also the expiring rent because in some cases it has amortized TI into those rents. And so I think the markets generally where these FedEx locations are are experiencing rent growth and so we've been able to continue to push you know FedEx does have a hesitancy to put annual increases into their lease structures but we've been really the team's really been pushing to try to get those when we can and then I think we again with Monmouth we didn't have too many empty buildings when I think we had one vacant building that we acquired and we have a couple that we think we're going to get back. And we've been, I mean, I think we'll have, we've executed one since we've subsequent to Q2, but we've, we've been able to get 10 to 15, in some cases, 20% rollups and rents on those mainland properties.
spk08: Got it. And just on those, amortized TIs, is that all of the FedEx leases? Is that half the FedEx leases?
spk00: I think it's, I mean, maybe 25%, I think, have it. But again, I think as the market rents have grown, we've been able to bridge the gap of, you know, we're able to recoup it as we do renewals. So it might not be a 30% roll-up, but it's still a 5% roll-up.
spk08: Understood. That's it for me. Thanks everyone.
spk01: Thank you.
spk06: Our next question will come from Connor Seversky with Barenburg. Please go ahead.
spk07: Good morning out there. Thanks for having me on the call. I just wanted to touch again on the comments related to that 60 to 75 basis point increase in some of the cap rate estimates on those properties that were previously held for sale. Just considering that all of those lease terms and durations weren't the same for the Monmouth portfolio, was there any material difference in those assets with shorter durations versus those with, say, the full 15- or 30-year lease term? What I'm trying to get at here is to see if there was less of a movement in the shorter-duration leases versus the longer ones.
spk00: It's actually an interesting question because we joke here that it used to be great to have long-term waltz, and now in the way that the market rents have been growing that all buyers and investors are looking for shorter waltz. I think it was kind of a mixed... A mixed bag, again, like some of the buyers were smaller local players who actually wanted the long-term so they could have steady cash flows. But I think in general, you know, 50 to 75 basis points was kind of across the board.
spk07: Okay. That's all from me. Thank you.
spk06: Our next question will come from Mitch Germain with JMP. Please go ahead.
spk03: Thank you. I think you might have just answered it, Yael, but was there any sort of characteristics about the profile of the buyers you were talking to?
spk00: It was, I mean, there was some, you know, we had 10 unique buyers, and I would say 50% of them at least were institutional and some were local players.
spk03: Last question from me, given your commentary about additional JVs, can we just interpret it that if it's not in a JV right now, that the property could potentially be either an L candidate or a JV candidate, anything that's wholly owned? Is that the way that we should be thinking about this now?
spk00: I think that's a fair way to look at it. Thank you.
spk06: This concludes our question and answer session. I would like to turn the conference back over to Yael Duffy, President and Chief Operating Officer, for any closing remarks.
spk00: Thanks, everyone, for joining us on the call today. ILTT's operating performance remains solid, and we expect demand for our properties to persist as we execute on our financing plans. We look forward to providing you with updates on our progress and speaking with you soon. Thank you.
spk06: The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.
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