Orion Properties Inc.

Greetings. Welcome to Orion Office REIT's fourth quarter 2023 earnings call. As a reminder, this conference is being recorded. I would now like to turn the call over to Paul Hughes, General Counsel for Orion. Thank you, and you may now begin.

Thank you. Good morning, everyone. Yesterday, Orion released its financial results for the quarter and year ended December 31st, 2023. filed its Form 10-K with the Securities and Exchange Commission, and posted its earnings supplement to its website. These documents are available in the investor section of the company's website at onlreit.com. Certain statements made during this call are not strictly historical information and constitute forward-looking statements. These statements, which include the company's guidance estimates for calendar year 2024, are based on management's current expectations and are subject to a number of risks that could cause actual results to differ materially from our estimates. The risks are discussed in our earnings release as well as in our Form 10-K and other SEC filings. The company undertakes no duty to update any forward-looking statements made during this call. Additionally, during the conference call today, we will be discussing certain non-GAAP financial measures such as Funds from Operations, or FFO, and Core Funds from Operations, or Core FFO. The company's earnings release and supplement include a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measure. Our presentation of this information is not a substitute for the financial information presented in accordance with GAAP. Hosting the call today are Paul McDowell, the company's Chief Executive Officer, and Gavin Brandon, the company's chief financial officer. And joining us for the Q&A session are Gary Landrieu, our chief investment officer, and Chris Day, our chief operating officer. With that, I am now going to turn the call over to Paul McDowell.

Good morning, everyone, and thank you for joining us on Orion OfficeReit's fourth quarter 2023 earnings call. Today, I will discuss our portfolio, performance, and operations for the fourth quarter and full year 2023, as well as our progress on executing our business strategy and our general forward outlook. Following my remarks, Gavin will review our financial results and provide our 2024 outlook. At year end, we own 75 properties, and six unconsolidated joint venture properties comprising 8.9 million rentable square feet that were 80.4 percent occupied. Adjusted for properties that are currently under agreement to be sold, our occupancy rate was 87.2 percent as of December 31st, 2023. The properties in the portfolio are predominantly either triple or double in that lease to creditworthy tenants. As a percentage of annualized base rent as of December 31st, 2023, 70.6% of our tenants were investment grade. The company's strong portfolio of assets is well diversified by tenant, tenant industry, and geography. Our largest tenant by annualized base rent remains the United States government, and our two largest tenant industries are healthcare and government. representing 15.3% and 13.9% of annualized base rent respectively. Over 35% of our annualized base rent is derived from Sunbelt markets. On an annualized base rent basis, our largest markets by state are Texas at 17.2% and New Jersey and New York at 10.2% each. Our portfolio's weighted average lease term stayed steady at four years at year end. During the fourth quarter, we gained some traction on renewals and new leases. We entered into a 10-year early lease renewal for 90,000 square feet in Memphis, Tennessee, where the investment-grade tenant's lease term will now run until year-end 2034. We also secured a five-year early lease renewal out of 39,000 square foot property leased to the United States Postal Service in Minneapolis, Minnesota, where the post office's lease term will now run until April 30, 2030. We also signed a new 10-year lease for 3,000 square feet of retail space at our Covington, Kentucky property, leased primarily to the United States government. Including these leases during the full year 2023, we entered into new leases and lease renewals for 250,000 square feet across six different properties as well as a lease expansion with an existing tenant covering an additional 11,000 square feet at one other property. Overall lease terms for this activity averaged 10.6 years. Shortly after year end, we entered into two long-term lease transactions with the United States government, a 17-year lease renewal for 9,000 square feet at one of our Eagle Pass, Texas properties, and a new 15-year lease for 86,000 square feet at a Lincoln, Nebraska property. The United States government will be backfilling space that is currently vacant at the Lincoln property and is expected to take occupancy in the third quarter of 2025, following landlords' build-out of the premises, at which time the Lincoln property will be fully leased to two tenants. All told, since the start of the fourth quarter of 2023 through yesterday, we have executed 227,000 square feet of new and renewal leases. Further, we continue to have accelerating activity on our forward leasing pipeline with more than a million square feet in various stages of documentation and discussion. Turning to dispositions, we remain aggressive in rightsizing our portfolio, and we have made a lot of progress here. Since the spin, we have sold 17 properties or more than 15% of the initial portfolio for a total of 1.8 million square feet with total gross proceeds of $59 million, much of which has gone to pay down debt and to repurchase shares of our common stock. Importantly, since the spin, we have reduced debt by more than $145 million. As we have progressed over the past year, we found it increasingly challenging to get sales accomplished, which can be seen to some degree in the declining price per square foot. Even so, in the fourth quarter, we successfully closed the sale of four non-core vacant properties representing a total of 575,000 square feet for an aggregate sales price of approximately $11.4 million. For the full year of 2023, we sold six vacant properties representing a total of 849,000 square feet for an aggregate sales price of approximately $25.4 million. We also have agreements to sell seven additional properties representing 694,000 square feet for approximately $46 million and are actively reviewing selling several additional properties. The properties under agreement include the six-property former Walgreen campus in Deerfield, Illinois, that is expected to be redeveloped and we have had under contract to sell for the past year. While the project has experienced some delays, the buyer continues to make progress with its redevelopment plans, and we now expect this sale to close in the fourth quarter of 2024 or the first quarter of 2025. We also have a vacant property in Denver, Colorado, which we put under contract to sell during the fourth quarter to a buyer who intends to redevelop the property over the next several years. This sale is scheduled to close in the first half of 2025 and is subject to the buyer's satisfactory completion of its due diligence and governmental approval process. While the closing of these sales is not immediate, by working with the buyers who wish to redevelop them, We expect to provide the best economic outcome for our shareholders. Executing on the sales of vacant and non-core assets is critical, as controlling carrying costs is necessary to maintain a strong, low-leverage balance sheet in the current environment. Vacant property operating expenses for the year ended December 31, 2023, were $11.5 million, as further detailed on page 18 of the supplemental. As we have said before, while asset sales reduce operating expense drag in the short term, it will pressure our ability to grow earnings in the future as we become smaller with fewer buildings to lease. That said, we continue to believe our aggressive sale of vacant properties is the best approach under current market conditions to maximize the long-term value of the overall remaining portfolio and position the company to grow profitably in the future. As a reminder, Our portfolio comprises primarily single-tenant leases, and tenant retention remains a significant challenge, as we have faced and will continue to face significant lease role in the next few years, including approximately 1.9 million square feet in 2024 alone, as disclosed in our supplemental. Highlighting these challenges, are we expect that several of our largest tenants with leases rolling in 2024 will not renew, causing revenues and earnings to decline materially and carrying costs to rise until we can get these properties released. While we are extremely proactive in our efforts to retain tenants, when they leave, it takes longer to release a full building vacancy, and this timeline is further pushed out by market conditions. Therefore, Expiring leases and the associated declines in revenues over the past couple of years have had an outsized material effect on our results, and that impact will accelerate in 2024. However, beginning in 2025, the impact on results will begin to moderate as we will have less than half the lease withdrawal we have this year, and then earnings should begin to grow in the out years, As expirations improve, we fill vacancy, market demand improves, and financing costs fall. This is not just an Orion issue. The hybrid workplace model has become the mainstay, and office tenants continue to need less square footage, creating leasing activity for the industry that has not returned to pre-pandemic levels. Despite these significant secular pressures, it is important to remember that we do have a good portfolio of stable assets supported by a low leverage balance sheet that provides a solid foundation for future growth. We continue to prioritize current and expected future capital spend for building improvement allowances and lease incentives to retain existing tenants and attract new ones in order to extend our existing portfolio's weighted average lease term and drive sustained cash flows. Given persisting economic conditions, especially in the commercial office real estate sector, Maintaining a strong capital structure that can support the necessary investments in our core portfolio is a critical part of our business plan. While market challenges persist, our strategic pillars, retaining existing tenants, filling empty spaces, and strategically streamlining through non-core asset disposals remain firmly in place. The lease role we face the next few years will create ongoing pressure on per share results. which we may seek to partially offset through targeted capital recycling efforts. While we remain confident in our plan and committed to its execution, we expect that it will take a few more years to fully reposition our portfolio at a smaller base than when we spun. Finally, I also want to stress that we remain flexible and non-dogmatic in our approach to our business plan. With our board, we are constantly assessing our options and strategies given the market realities and are open to making changes to our plans if we believe doing so will generate the best outcome for shareholders. With that, I will now turn the call over to Gavin.