
Kite Realty Group Trust
10/31/2023
Good day and thank you for standing by. Welcome to the third quarter 2023 Kite Realty Group Trust earnings conference call. At this time, all participants are in a listen-only mode. After the presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 11 on your telephone. You will hear a message advising your hand is raised. To withdraw the question, press star 11 again. Please be advised that today's conference is being recorded. I would now like to turn the call over to the Senior Vice President of Corporate Marketing and Communications, Mr. Brian McCarthy.
Thank you, and good afternoon, everyone. Welcome to Kite Realty Group's third quarter earnings call. Some of today's comments contain forward-looking statements that are based on assumptions of future events and are subject to inherent risks and uncertainties. Actual results may differ materially from these statements. For more information about the factors that can adversely affect the company's results, please see our SEC filings, including our most recent Form 10-K. Today's remarks also include certain non-GAAP financial measures. Please refer to yesterday's earnings press release, available on our website, for reconciliation of these non-GAAP performance measures to our GAAP financial results. On the call with me today from Kite Realty Group, Our Chairman and Chief Executive Officer, John Kite. President and Chief Operating Officer, Tom McGowan. Executive Vice President and Chief Financial Officer, Heath Fear. Senior Vice President and Chief Accounting Officer, Dave Buell. And Senior Vice President, Capital Markets and Investor Relations, Tyler Henshaw. I will now turn the call over to John.
Thanks Brian and thanks everyone for joining us today. KRG demonstrated another quarter of exceptional execution across our best-in-class operating platform. Since the outset of project focus in late 2018, we've strategically positioned our portfolio and balance sheet to thrive in any environment. As a result of our operational intensity, we've outpaced our peers in three key metrics, ABR growth, blended cash spreads, and FFO growth. Regardless of how the next few years unfold, KRG is in the enviable position of moving forward with confidence. Turning to our third quarter results, we generated FFO per share of 51 cents. Our same property NOI grew by 4.7% as compared to the same period in 2022, primarily driven by minimum rent growths lower levels of bad debt and overage rent. All right, our outperformance year to date is allowing us to increase our NAE REIT FFO guidance by 3 cents at the midpoint. We're also increasing our same property NOI growth assumption by 100 basis points, moving from 3.5% to 4.5% at the midpoint. Heath will give more details around the quarterly results and our updated guidance. During the third quarter, KRG signed 214 leases representing approximately 1.4 million square feet, producing 14.2% blended cash spreads on comparable new and renewal leases. Notably, our non-option renewal spreads for the quarter were 17.8%. This is an incredibly strong number for deals that require minimal capital. More importantly, KRG earned a 30% return on capital for all new leases for the trailing 12-month period. In addition to the strong leasing volume, spreads, and return on capital, we've been successful in achieving higher fixed rent bumps and CPI protection. Through the first three quarters of 2023, 82% of our new and non-option renewal leases have fixed annual rent bumps that are greater than or equal to 3%, and 41% of those leases include CPI protection. The average annual fixed rent increases for the new and non-optional renewals year to date was 2.5% for both our small shop and anchor tenants, which is 100 basis points higher than our portfolio average. Redefining our long-term embedded growth profile remains a top priority. Last quarter we noted our plan to leverage our robust leasing demand by being more proactive in recapturing small shop space. The initiative has been very successful as evidenced by the 80 basis points sequential increase in our small shop lease rate. Small shop demand has been very diverse and in the past quarter we signed deals with restaurants, medical users, health and beauty, and fitness concepts. On the anchor front, Our lease rate took a predictable step backward due to the Bed Bath & Beyond situation. But we could not be more pleased with a flurry of activity on our empty boxes. This past quarter, we signed a total of five box deals at 53% comparable cash spreads. To date, we have addressed five of the Bed Bath boxes with an additional eight leases in negotiation and seven in LOI negotiation. I'm confident we should have the vast majority of our bed bath exposure addressed by our next earnings call. What's even more impressive is the variety of anchor tenants we're partnering with, including grocery, big box wine and spirits, home furnishings, sporting goods, and discount retailers, among others. For the next 18 to 24 months, our best opportunity is to drive value as simple, lease space and commence rent. KRG has a significant organic growth opportunity at a time when open air retail is experiencing favorable tailwinds. While our top priority is leasing, we've been consistent in our match funding transaction strategy to further improve the portfolio and minimize earnings dilution, while keeping our rock solid balance sheet intact. Our transaction activity year to date has been a perfect example. We sold four assets, bought an asset, and used excess proceeds from the dispositions to pay down debt. We recently sold Ricertown Plaza in the Baltimore MSA and Eastside in the Dallas MSA. We determined the downside risk at each asset eclipsed our ability to drive above average returns. Conversely, we acquired Prestonwood Place in Addison, Texas, an affluent, highly desirable suburb of Dallas. The asset's existing tenancy shows demand for the property is strong, but will further upgrade the merchandising mix and drive operational efficiencies. Prestonwood Place instantly enhances the quality of our already dominant Dallas footprint. We will be showcasing several of our assets to the investment community next year with our 4 in 24 series. We look forward to seeing many of you at our first event in February in Naples, Florida. I started the call discussing the transformation KRG has made over the past five years. We've always been a team with unparalleled operational acumen and pride in ourselves being a real estate first organization. Now we've implemented a best in class operating platform onto an expanded high quality portfolio while possessing one of the best balance sheets in the sector. Thank you to our team for its continued dedication and commitment. And now I'll turn the call to Heath.
Good afternoon. In this industry, we are fond of saying good things happen to good real estate. With that in mind, I'm pleased to report that KRG team has produced another spectacular quarter. For Q3, KRG earned 51 cents of NAVY FFO per share based on same property NOI growth of 4.7% on a year-over-year basis. The quarterly same property outperformance was driven by a 240 basis point increase in minimum rent, a 30 basis point increase in net recoveries, a 160 basis point increase due to low or bad debt, and a 40 basis point increase in overage rent and other revenue. Year-to-date, KRG has earned $1.54 of NAREIT FFO per share and increased same property NOI by 5.5% on a year-over-year basis. The components of our year-to-date outperformance closely track the quarterly themes. We are raising our Navy FFO guidance to a range of $1.99 to $2.03 per share, representing a three cent increase at the midpoint. Two and a half pennies are attributable to same property NOI outperformance, while the other half penny is related to non-cash rent associated with rejection of certain bed, bath, and beyond leases. At the midpoint, our updated full year guidance assumes bad debt of 45 basis points of total revenues for the full year of 2023, no additional termination fees, and no further transactional activity. We continue to operate the business from a position of strength, in large part based on our balance sheet. I'm pleased to report that S&P has upgraded our rating outlook to positive from stable, and we are optimistic that this will result in a full upgrade to BBB rating in the next 12 to 18 months. We've come a long way in five years. and we are uncompromising in our commitment to maintaining a balance sheet that affords us a disproportionate amount of security and optionality. We continue to remain opportunistic as it relates to the unsecured bond market, while our abundance of liquidity affords a patient posture as we contemplate our 2024 maturities. KRG is a dedicated and committed organization anchored in an efficient operating platform and a strong balance sheet. I'm proud of the progress we've made, and I'm excited for what the future holds. Thank you for joining the call today. Operator, this concludes our prepared remarks. Please open the line for questions.
Thank you. And as a reminder, to ask a question, simply press star 1-1 on your telephone. One moment while we compile our Q&A roster. Thank you so much. One moment for our first question. And it comes from the line of Craig Mailman with Citi. Please proceed.
Hey, guys. John, I just want to go back. It sounds like that's actually going to be done pretty quick here. And you'd always said you want the right opportunity versus kind of just the speed and backfilling them. clearly you obviously feel like you've got the right tenant mix here. How did the rents kind of stack up versus what your original pro forma was on the back of those boxes? And how many of them were you able to keep single tenant versus ultimately having to split up?
Sure. I mean, overall, it's tracking as we've been talking about. I would say the rents are probably in the 20% to 30%. you know, range in terms of a premium over past rents. We continue to get very strong returns on capital, just as important as the spread. And the timing is, you know, look, I think it's probably been more robust than we thought in terms of how quickly we've been able to assimilate the roster. But, you know, we're still maintaining the discipline around making smart decisions around which tenants we're doing business with. So, No real change there, Craig. Tom, you want to add anything?
Yeah, I think a simple way of looking at it is right now we have 16 boxes that we're negotiating leases with and 14 negotiating LOIs. And inside that we have nice numbers of bed, bath, eight on negotiating leases and seven in negotiating LOIs. So you can see there's tremendous activity on that front. But in reality, we look at it, we have 35 vacant anchor boxes. And that's what we're really focused on is making sure we get those those all taken care of, and that's simply a subset of that. So as you go through these numbers that we're talking about today, we're going to be down to just several boxes, and we're going to continue to bang on those as we work through the end of the year. So we're very encouraged on our progress and what all we've accomplished.
Great. Thanks for that. Keith, you kind of touched quickly on evaluating opportunities in the debt market here. I believe you guys have some legacy RPI debt rolling. Could you kind of talk about what may be the cash impact or gap impact of those where you had some purchase accounting issues and what the ultimate impact could be? And I don't know if you have it handy, but just in 24 and 25, kind of what the gap coupon of those RPI maturities look like relative to kind of maybe returning to the P&L.
Sure. Thanks, Craig. So we discussed last time on the call that the non-cash impact from retiring the RPI debt in next quarter, it's around two cents into 2024. And then in terms of the cash impact, I mean, listen, you can make your own sort of a assumptions here. And based on timing, do we take out the 270 maturities early? Do we take it out late? The debt that we're paying off is at 3.75%. And so currently, indicative rates right now in a 10-year deal are somewhere around 7%. So obviously, there'll be some negative interest rate arbitrage into 2024. But again, it'll be very dependent on timing. The earlier, obviously, the more impact into 2024. But yeah, so on the non-cash basis, it's $0.02. And then on the On the negative refinancing arbitrage, you know, call it somewhere between two and four cents.
Okay. Depending on the time. Okay, and if I just looked at, you know, running your, look at your total debt at the interest rate, I think you get to like 31 or 32 million of interest expense run rate versus 25 that's running through. That $7 million gap, is that predominantly all just as RPAI differential or is there anything else running through that?
Yes, predominantly yes.
Okay, and then just one last quick one. Did you guys have any below-market lease adjustments that impacted same-store FFO this quarter?
Yeah, I think it was like, oh, not same-store. I thought you meant FFO, not same-store, no.
We had about a million dollars impacted from bed, death, and beyond rejections in the quarter on an FFO basis, but not on a same-store basis.
Great. Thanks, guys.
Thanks. Thank you. One moment for our next question, please. And it comes from the line of Lizzie Joykin with the Bank of America. Lizzie, please go ahead.
Hi, good morning. I was hoping to get some more color around the dispositions that closed during the quarter, particularly just, you know, on pricing.
During the quarter? Are you, yeah, I mean, look, I think we talked a little bit about the fact that the assets we were selling, we believe didn't meet kind of our long-term goals. So that being said, I mean, the pricing was pretty attractive. So I would say the assets that we dispose, if you look at the total of 2023 versus just the quarter, so all the assets we've disposed in 23 would be like in the high five cap range. So we've done pretty well on the dispose. Again, a lot of that is you know, people aren't really necessarily pricing things at just going in cap rates. They're looking at what their potential IRR is. So some of these had some lease-up opportunity as well.
Okay. And just one of the slides in your most recent deck details, you know, anchors like Adidas, Kendra Scott, Sephora, opening in power centers, and we're definitely seeing tenants become increasingly agnostic to So just curious on what the pricing power is like on tenants of this type. You know, wanting to open in space is not so typical to their typical format and how that might impact terms of the lease.
Let me just start macro and Tom can kind of jump in too. The pricing power that we believe we have is really a function of the real estate, and that carries through regardless of the tenant that we're working with. I would say that tenants such as the ones you mentioned, generally speaking, are coming out of shopping centers or malls that have higher costs to operate in than they would in an open-air center. So, you know, it gives us plenty of opportunity to price it effectively, but certainly we still see excellent opportunities to drive the spreads, as you can see from our results. But, Tom, if you want to give any color.
Yeah, I mean, we have quite a few tenants in that category. If you think about it, RE, Athleta, Aritzia, Nike, and the list goes on and on. So we are able to drive rents without question. Sometimes when you deal with this type of tenant, the tenant allowance number may be elevated a little bit differently than what we would see typically inside our shopping centers. But what we're looking for ultimately is a strong return, and we've been successful on all counts getting those type of tenants to pay what we need and generate strong leasing spreads. But they've been a welcome addition to our tenant lineup for sure.
Okay. And to confirm on the bad debt reserve assumption for the full year, that's 45 basis points, was that reaffirmed for the year or lowered? And how does that compare to what we should expect as a normal run rate?
Yeah, so again, it's 45 basis points for the entire year, but it's 75 basis points of revenues for the fourth quarter. And I tell you that a typical run rate is somewhere between 75 and 100 basis points. So we are running below typical bad debt this year. And I believe last quarter, our total blended for the first part of your question, was something like 85 basis points for the year. But based on the only 10 basis points of bad debt in the third quarter, so now our full year blended number is 45 basis points. But when you're looking into next year, think about 75 to 100 basis points of bad debt as a normalized number.
All right.
Thanks very much.
Thank you. One moment for our next question, please. And it comes from the line of Connor Mitchell with Piper Sandler. Please proceed.
Hey, thanks for taking my question. So just thinking about since COVID, the municipal approval process has been pretty slow. You know, some of the employees were still working from home for a while. So I guess first, has there been any change in that? Maybe it's sped up a little bit or it's still, you guys really still have to push them along. And then just a few other follow-ups on that is, Are there any markets or certain geographies that are slower than others or are you kind of waiting on the process to speed up still? And have you guys adjusted the timeline for opening locations for retailers and how are those conversations going?
Well, as far as the approval process, I mean, there hasn't been a lot of change in that really over the last several years. It's never easy. really in any particular market to get the approvals on the kind of timeline that we'd like to. But that's our job. That's what we do. And we push that very hard. And I think we're quite successful at it. In terms of timing with tenants, I mean, if anything, they're trying to get as open as fast as possible in this environment. And so we try to do everything we can to create a situation where we can get tenants open. and you have to realize that it's not just getting open as fast as possible. You also have to deal with tenants who have certain restrictions on the time of year that they'll open, which I think people always underestimate the impact that that has. But overall, I mean, we're in an environment where the retailer recognizes that opening a store a quarter early is a tremendous benefit to them, perhaps even more so than it is to us. So I think we're going to keep trying to push that as much as we possibly can.
Yeah, and one other thing that we do to help expedite is we get to the tenant. Last week we were at TJ Maxx. Tomorrow we're taking off to get with Five Below. And that's another key point of being able to push deals along is get in front of the customer, which we're doing a lot of right now.
Okay. Appreciate the caller. And then thinking about the competition for available space and then the growing demand, in terms of that, thinking about the ability for you guys to kind of backtrack some tenant-friendly terms and maybe flip that around to landlord-friendly terms. You talked a little bit about the small shop piece of that? And then overall, is there a way to maybe accelerate the mark to market or just recapture some more upside with all the competition for space?
I mean, look, I mean, the competition is, is for spaces is robust. So, you know, I think all you really have to do right now is look at, look at our results and, you know, some of the other players results in the sense of what we're able to drive and, and certainly you can see the economics of what we're doing, but beyond the economics, certainly we're very engaged, and that's what takes time in this process to try to get the best possible lease that we can, but recognizing that we're partners with our customers, the retailers, and both parties have to be successful, so it's a process, but there's no question that Supply and demand is quite favorable for us right now, and it continues to look that that's going to be the trend for certainly at least the medium term. So we will continue to lean into that and do what we do. Okay.