Brixmor Property Group Inc. (BRX) Earnings Call Transcript & Summary

Good afternoon, and welcome to the 245 Session at Citi's Global Property CEO Conference. I'm Katy McConnell with Citi Research, and we're pleased to have with us Brixmor Property. Before we get started, this session is for Citi investing clients only. So if media or other individuals are on the line, please disconnect now. Disclosures are available up on the webcast. For those of you joining us in-person, to ask management any questions, you can step up to one of the microphones located in the center aisle of the room. If you're joining us remotely, you can type your questions into the webcast screen and they will come to us and we'll do our best to ask them during the session. And now, Jim, I'll turn it over to you to introduce the company and your team and provide some opening remarks.

Thank you, Katy, and thank you for having us here, and thank you everybody for attending. I'm Jim Taylor, CEO of Brixmor. And I have with me Angela Aman, our EVP and Chief Financial Officer. And we also have Stacy Slater, our Head of IR, out in the audience there. Brixmor is one of the leading open-air platforms, open-air retail platforms in the country. We have about 400 shopping centers really distributed pretty evenly down the East Coast through Florida into Texas, California and the Midwest as well. I think part of what makes Brixmor different or unique as a company is our focus on value-add investing. And we are really capitalizing on that as had been demonstrated by our performance through the pandemic and now emerging from the pandemic, not only benefiting from improvements in our portfolio, but also capitalizing on strengthening retailer demand importantly to be in our shopping centers. You can see it in our results, you can see it in terms of the rents that we're achieving, the growth that we're achieving. So it's an exciting time for us here at the company. And Katy, we appreciate you having us.

So to start off each session, we're opening with the same question, which is, what are the top 3 reasons why investors should buy your stock today relative to all the other property REITs?

I think the first is the proven team and our track record over the last 5 years of really delivering value through this value-added approach in retail. As I like to say, we don't need more shopping centers in this country, we just need better ones. And we came into the company about 6 years ago and saw a marvelous opportunity to take older, well-located shopping centers, put a little capital to work, bring in better tenants at better rents and drive outsized returns really at low risk. And it's part of the execution of that strategy that drove our outperformance through the pandemic and now emerging from the pandemic. I'd say the second thing to consider is just the positive trends from a demand perspective that we're seeing in our industry emerging from the pandemic, including secular trends in terms of where people are living, how they're shopping, how they're getting their goods and how the retailers are approaching the market. We've been a real net beneficiary of that. And you can see it in demand, you can see it in our spreads and you can see it in the rates that we're realizing. The last thing I would observe is you consider making an investment in Brixmor and in this space in particular is that private capital, which is a significant investor in retail is coming into our space pretty significantly, compressing cap rates. And I do believe that the public markets are lagging where the private markets are in terms of understanding the real value and durability and resilience of the cash flows that the open-air asset class delivers, and in particular, what this platform has delivered.

So Jim, going back, can you discuss how the portfolio in the platform has changed since you joined the company? And how do you believe the company is differentiated in particular from your shopping center peers?

Well, it's part of where we are in our journey as a company. As I mentioned, we came here about 6 years ago, and what we saw was an opportunity embedded in the real estate itself. Not all the shopping centers we saw had long-term value potential. So we sold them. We sold a little over 1/3 of the company, assets that are in single asset, markets or assets that we didn't think had long-term viability and potential. As you know, Katy, we also fixed our balance sheet, extended our weighted average tenor, which gave us the flexibility then to pursue a value-added approach of reinvesting in these shopping centers. Oftentimes, increments of $3 million, $4 million, $5 million, $6 million, but importantly, a double-digit returns. In fact, to date, we've invested over $700 million in our properties, a close to a 10% incremental return. If you take a step back and think about that, you'd have to invest 4x to 5x that amount of capital to create the same value if you were doing ground-up development. The other interesting thing of that strategy is it's given us a tremendous tailwind as we come into the strong demand environment. Why? Because our assets are better. We've brought in better anchors, better tenants so that we're not only driving occupancy, but importantly, we're driving records in terms of rate and new lease spreads. So when you think about Brixmor today, it is really a fundamentally different company than it was 5 to 6 years ago. And I think it's also one -- a track record that sets us up well, not just for what we've done in the last couple of years, but what we have for the years ahead.

And to your point, the portfolio has also undergone significant recycling over the last several years. So just taking a step back to the corporate strategy level, how would you expect the portfolio to evolve over the next 1 to 2 years?

Well, it's exciting, and you see it happening now. So having called most of what is non-core, we're now focused on opportunities to take this great platform that we've built, both from a leasing and redevelopment standpoint and find external growth opportunities or acquisitions in the markets where we're already present. So we know the markets well. We know the tenant demand to be in some of these assets. And if you look at some of the recent acquisitions that we've announced, for example, two here in Florida and Southwest Florida, what you see are great, incredibly well-located shopping centers, Tamiami Trail at Immokalee or Tamiami Trail in Bonita Springs Road, where we have the opportunity to lease up vacant space. We have the opportunity to reinvest and drive rate. We have the opportunity to add pads. And so even in an environment that I referred to before of compressing cap rates, what's I think particularly important for investors to understand is even in that environment, we can find opportunities to get to attractive returns. But there are assets that require a little bit of work. There are assets that require the type of skill set that we bring as a value-added investor.

And are there any new markets that you've seen come out of the pandemic stronger that you would consider entering if you could gain immediate scale on a fair basis today?

We are really focused, Katy, and disciplined on the markets that we're already in. Why? Because we know them. We know what the right assets to own are in the markets that we don't currently own. We have a long-term target list. And importantly, we've seen that you outperform as you build critical mass in these markets. And it's not operational synergies or savings, it's actually top-line growth. As you control more open-air product in a given market, you can demand higher and higher rents. You see every tenant that wants to be in that market. So we're finding great opportunities here in Florida where we own close to 60 assets. Georgia, Philadelphia, up in Boston, Texas are all markets where we see interesting value-added acquisition opportunities.

And we continue to hear about cap rate compression in private markets for shopping centers. Curious to your thoughts on where market cap rates stand today relative to pre-pandemic levels? And how much lower do you think cap rates could go over the next 12 months?

They have come in quite a bit depending on the property type, 75 to 125 basis points easily. And the biggest driver of that has been the pricing of alternative core asset classes for institutional investors. So when you look at where the cap rates have gone for industrial, multifamily, data centers, other property types like that, they're 200, 300 basis points inside of where retail assets trade. So investors have recognized that. It's an imminently durable and resilient asset class as it's demonstrated through the pandemic. It can attract attractively price financing. So I think that those cap rates are going to continue to come in and you're going to see several billion dollars of institutional capital come into our space over the next couple of years.

And coming out of the pandemic, can you discuss what you've seen in terms of suburbanization trends, especially in your secondary and tertiary markets? And which have seen kind of a better growth as a result of that?

It's actually been pretty striking across many regions, the home price appreciation that we're seeing, which is really a great indicator of what's happening in that market. I think the suburbanization trend was something that was happening going into the pandemic, but the pandemic only accelerated. And the retailers themselves see it as well. And when you look at where their pipelines of new stores are targeted, it's in many of those markets where you find rooftops where people live. And I think as we emerge and there's much more flexibility in terms of how people work, hybrid work schedules, remote work, et cetera, I think that's only going to continue to drive the trends that we were seeing, frankly, going into the pandemic, which were really much more demographic as the millennials were aging and looking to bring kids to school and stuff like that. So we're seeing it uniformly across the portfolio. There's certainly some markets like Southwest Florida that are hotter than others, but we're seeing the same things in Philadelphia up through the Northeast and in the Midwest as well.

And as we think about the consumer spending environment coming out of a really strong 2021, what's your outlook for this year, especially given some of the macro headwinds that are now at play? And aside from that, are you starting to see a notable shift in category spending in terms of goods versus services this year?

We really haven't. Our core categories have all been strong, whether it's value, grocery, service, health and wellness, beauty. Those categories have been quite strong and continue to be strong. And one of the things that we're able to do now that just a few years ago we couldn't is we can actually track traffic going into our centers through cell phones that have geolocation apps on. And we're seeing traffic levels continue to be strong through early this year. And also, we're seeing tenant demand importantly be very strong. So we're able to create an environment of competing demand for the space that we have available, which helps us drive rate, but also importantly, it helps us drive the underlying lease terms, which is -- sets us up for additional value creation, additional density, other uses that we think can improve the centers.

And you've outlined expectations this year for, I believe, 90 to 160 basis points of bad debt expense, but it feels like the retail environment has continued to be pretty healthy so far this year. So just kind of curious, your comments on how bad debt or the tenant environment has trended so far this year and what the watch list looks like?

Do you want to take it? The watch list continues to be really healthy. If we look back and sort of watch the evolution of the watch list over the last couple of years, we have a lot of tenants that were on the watch list prior to the pandemic that actually have improved that caused some tailwinds based on the way spending patterns changed and how that spending was happening changed. So we definitely have had many categories that improved from kind of a macro standpoint. Many of those retailers, most importantly, have monetized those improvements in their operational business into actual balance sheet improvements. And so we've seen leverage come down for a number of those retailers and feel better overall about many of the names that were on the watch list going into the pandemic. The 90 to 160 basis points of bad debt you mentioned really isn't related to national retailer bankruptcy activity, of which there has been effectively none year-to-date so far and what is traditionally a more significant bankruptcy season in January and February. It's much more related to kind of just the ongoing recovery of the portfolio through the pandemic. We still have about 14% to 15% of our total ABR on cash basis. And we continue to work with some of those tenants to close the remaining collections gap. And so that guidance in terms of bad debt as a percentage of total revenues is really related to getting those tenants back and fully rent paying over the course of the year.

And just thinking about how this translates to leasing activity. Now that COVID is hopefully mostly behind us, are you seeing any notable changes in types of tenants that are newly looking for space in your centers today? And then is the strong leasing momentum that we've heard about starting to translate into your ability to push rents above 2019 levels?

It already has. Look at our numbers in the latter half of last year in terms of the spreads as we were seeing new lease spreads in the 40% range. And we continue to see that very same type of strength through strong tenant demand across multiple categories. One of the things that's I think particularly attractive about the open-air asset class is the breadth of uses that make a home in our shopping centers, services, value, grocery, specialty grocery, fitness, restaurants, health and wellness, beauty, medical. And the common denominator of a lot of these uses is the ability to have a store front of reasonable cost of occupancy and a convenience to the customer and a proximity to the customer that frankly a few other asset classes offer these businesses that want to come into open-air. So we've been really encouraged by the breadth of demand that's coming in, the types of uses. Angela referred to this, we also are seeing strengthening credit profiles really across the board as many of these national, regional and even local tenants were able to recapitalize during the pandemic. And so what that means for us is we have I think a better overall credit profile. The tenants importantly are investing in their stores to get the prototype which they see drive huge sales increases. All of that benefits our value-added strategy.

How much demand are you seeing today coming from traditional mall-based tenants?

It's actually pretty significant, and particularly in those submarkets where you have a mall that's struggling and not driving the same traffic levels. So you're seeing the vision concepts, the jewelry concepts, the shoe concepts and many of the other tenants that were traditionally more mall native, health and beauty, looking to relocate into open-air centers. In some cases, they're opening up additional stores in the open-air and keeping a presence in the mall. In other cases, they're relocating. But it's been something that's not just been the last couple of quarters. It's something that we've seen happen over the last few years. And it's really driven by the fact that some of these lower-tier malls just aren't drawing the traffic, and we've all seen it. We've been to some of these malls, they are in every one of the communities that most of us live in. Those -- the business model has fractured. And so these retailers who traditionally were relying on the anchors to drive traffic into the malls are now realizing that that co-tenancy doesn't serve their business and that they actually do better in centers that have a lot of daily needs type traffic.

And maybe you could speak to what you're seeing on the outparcel side in terms of demand and what that's driving in terms of development opportunities for your portfolio?

It's hugely significant. And you see it across a lot of the quick service concepts that are demanding quick pickup or drive-through. The ability to do that is much more flexible on an outparcel or in some instances, an end cap. So those outparcels are driving premium rents. And importantly, one thing to understand about our business is that the leases oftentimes control what we can do in the parking lot. So through the pandemic and really emerging from the pandemic, we've done a lot of work with some of our core tenants to give us the flexibility to add that additional density to open up those out parcels. And so you're seeing that in our supplement the activity that we have teeing up. And those are some of the most accretive reinvestments you can make in the portfolio oftentimes with very little capital because they're ground rent type transactions with very good credit.

We've heard about how curbside pickup and buy online pick up in store can be much more profitable for the retailers versus delivery. So I'm curious, have you seen your tenants start to provide economic incentives for customers to come to your centers and pick up?

Well, I think it's the absence of fees, sometimes it's better pricing. Really it's about the convenience. I think what retailers are getting now more than ever is that the consumer really places a great premium on their time from a value perspective. So any way the retailer can make the transaction or the interaction more efficient and create less friction around that interaction with the consumer, the more the retailer thrives. Oftentimes, that consumer will still go into the store, still buy additional items, but is significantly benefiting from the click and collect or online order, pick up at store business models. And what's interesting is, folks are all doing it slightly differently, but generally, they're all very successful. And one of the other things the pandemic did was it forced more retailers outside of some of the traditional categories like grocery to consider buy online pick up in store, and that has been very sticky. So you see it in electronics, you see it in health and beauty, you see it in many of these categories that before didn't provide that type of service to the customer. And again, having a store front with parking right in front provides a really easy and convenient format for retailers to execute that service model.

We have a couple of questions online here I'll go to. The first is, if you are concerned about an economic slowdown, would you consider getting more aggressive on leasing?

We are capitalizing on what is a really robust environment. And one of the things that folks have to appreciate is that we're actually signing leases for deals that we'll be commencing in '23 and beyond. Much of the activity that we have done for '22 is already in the bag, so to speak. And you can see it in that gap between signed and not commenced. And we talk about it every quarter in terms of how that's going to deliver. But that very same forward nature of our business of now signing leases for deals that won't commence until '23 and '24 works on the other way too and that you've got leases in place. And generally speaking, you can't accelerate much past what you have in terms of the space available. The other thing I would tell you is that from a philosophical standpoint, we run this company focused on driving rate and long-term growth. And we'll take some near-term vacancy with a view towards how do we improve the shopping center, how do we make it better connect with the community versus simply taking a deal to backfill space. Our purpose as a company is to create and own centers that really are the center of the community. It's the community shopping center. It's vibrant. It drives traffic. It has a wide mix of uses. It gives that local consumer multiple reasons to shop there and spend time there. And so, therefore, we're less focused on just trying to backfill space as fast as we can and much more focused as we've been delivering on driving growth.

And how is inflation impacting your ability to raise net effective rents and maintain growth that's going to be exceeding inflation?

Well, the best tool we have for dealing with inflation is driving rental rate growth. And with new lease spreads in the 40% range and the company realizing record new rents on an absolute basis, that's the best tool we have for addressing inflation in addition to ensuring that we have good intrinsic lease escalators in each of our leases and that we protect ourselves on TAM for increases in costs, which is something that we of course are very focused on. The issue of inflation is something that we've always been focused on. And I think we're pretty well positioned to weather that.

I have another one from online here. What does the cash basis tenant have to do to be reclassified or converted back to accrual method?

We continue to evaluate that population. We did move a handful of tenants back to accrual basis in the third and fourth quarter. In the fourth quarter obviously we were very cognizant of what was happening with Omicron and took a slightly more conservative posture in terms of waiting and seeing on more tenants. But we're evaluating their payment history over the course of 2021. We're evaluating whether or not they have any remaining deferral outstanding that still needs to be repaid. We're being thoughtful about everything we know about that tenant specific credit profile, their performance in the locations. Really, it runs the gamut, what merchandise category they're in and how we feel about that category in terms of the impact it saw throughout the pandemic. So it's a very multi-faceted lease-by-lease approach that we go through in terms of making decisions in terms of when to convert tenants back to accrual basis. Importantly, I'll just underscore again, anybody on cash basis who's paying the rent, the accounting recognition is effectively the same. So there's -- outside of straight-line rent, there's really not an issue with a tenant on cash basis that's current on the rent and continues to pay from a P&L perspective. So it's continuing to work closely from a collection standpoint with those remaining cash basis tenants where we do see collection shortfalls, continuing to get them back on track or in certain cases, work them out of the portfolio. And so we can get control of that space and re-lease it in an environment that has such robust demand.

And outside of one-time noise associated with cash basis accounting and prior period collections, how should we think about your earnings growth profile over the longer term the next few years beyond that? And what are some of the key buckets of that growth?

I mean, I think when you break down sort of the guidance we've provided for this year, I think one thing I'd really underscore is the top-line revenue guidance we gave, the base rent contribution, which is 400 to 500 basis points this year. That will be the strongest top-line performance in the company's history and is really being driven by the reinvestment program and all of the progress we're making there in addition to closing sort of the occupancy gap that this portfolio has historically had relative to the peer group as we have continued to transform the portfolio, sell weaker assets and continue to reinvest in the assets we have in the portfolio today. So that's a very strong number. And we're certainly hopeful as we continue to execute on the program we'll be able to drive very strong top-line growth going forward. As you point out, there's certainly some noise, particularly in 2022, as it relates to bad debt expense. But I think that top-line number gives a better sense of where this portfolio is performing from an intrinsic growth perspective.

Maybe just shifting gears towards your capital strategy. What steps are you taking to protect your balance sheet and plan for a likely rising rate environment?

I think we've done all that work over the last few years. We've really focused on liquidity and on continuing to term out our debt and continuing to make sure that we have many sources of capital available. We ended the year with $250 million of maturities in February of 2022. The maturity has been repaid with cash on hand. We have no remaining debt maturities until 2024. We have continued -- I think we issued -- we executed 4 different bond deals throughout the pandemic when it was opportunistic to do so to continue to extend duration. And we're pleased to see that we recently received a positive outlook from S&P and continue to be focused on ratings momentum to continue to support our continued execution in the unsecured bond market. We also, since Jim and I have joined the company, have repaid a tremendous amount of short-term floating rate bank debt and have continued to term that out and just extend the weighted average duration of the portfolio. So I don't think there's anything different we need to do in this environment. I think all the steps we've taken over the last several years have prepared us for really any environment and with an acknowledgment that the capital flows and the strength of the capital markets over the last several years couldn't last forever and that there would be choppiness and we should always be prepared for that. So nothing incremental. I think we're very well positioned.

It's an all-weather strategy which allows us to always be opportunistic as market windows open. And as Angela pointed out, we did that even in the middle of the pandemic at all-time tight spreads and all-in coupons. So I think we've got a posture that allows us to be opportunistic, and importantly, doesn't put us in the position of having to raise capital at any particular point in time.

And how are you thinking about leverage levels going forward, particularly, if external growth is ramping from here?

We've said for years now we feel like the right leverage level for this portfolio from a debt-to-EBITDA perspective is in and around 6x. That number and our view that that's the right leverage level for this portfolio is really driven by the fact that we are significantly and continue to be significantly below market from a rent basis. So on a look-through basis, pro forma for that mark-to-market opportunity in the portfolio of that 6x is more in the mid-5s, and we continue to think that's a really healthy level to execute at. Those are the targets regardless of the external growth environment. We are excited by the opportunities we're seeing on the external growth side, but continue to be committed to the progress we've made on the balance sheet and those long-term targets.

And then on the disposition side of things, can you discuss what the tails of your portfolio look like today? And does it make sense to ramp asset sales more this year just given the strength of the buyer pool today?

We have been opportunistically capitalizing on cap rates for some of our non-core assets. Our strategy has always been to be somewhat balanced, albeit as we move into this part of the cycle, we're seeing probably more net acquisition activity than what we have ready to be teed up for dispositions. As we've talked about over the last 6 years, ongoing dispositions are part of just prudent portfolio management, as is making sure you're selling the assets at the right time. So for some of the assets that are in our non-core pool, we have additional leasing, additional tenants, additional, you mentioned pads. We have additional pads to deliver, which allow us to harvest that value even in a cap rate environment that might not be as attractive tomorrow as it is today. But importantly, I think this is something for folks to appreciate. We've done most of the culling of the portfolio that we set out to do when we first joined. And as such, with having sold over 1/3 of the portfolio, the balance is much better intrinsically. And we see that what we will be selling net-net, will be better intrinsically as we move forward as well.

We have another one online here. Where do you see occupancy stabilizing? How long do you expect it to get there? And how much of the portfolio at this point has been stubbornly vacant for 24-plus months that may remain a headwind or an opportunity?

There's been -- actually, I think it's been the other side. What we've seen in this environment is the ability to lease space that had been long-term vacant. So as I think about the portfolio, there's very little sort of long-term stubborn vacancies that we have to address. And we're leveraging this demand environment, not just to lease up that vacancy, but again, importantly, to bring in better tenants into the space that we have. We do believe because of the transformations that we've executed in the portfolio that this portfolio will stabilize at a much higher occupancy level than it ever has been historically. You're already seeing that in our small shop momentum where we're setting records in terms of small shop occupancy. But again, as I highlighted before, we're about driving rate. And what I'm really proud of is how you see that rate and the improvement in rate coming through in our performance. It's part of what drove our portfolio to be the least impacted by the pandemic. Who would have thought Brixmor. We were the least impacted of any of the open-air peers in the industry. And we're also coming out of it I think having gotten back to 2019 levels among the first in the industry and have given guidance for this coming year that I think is pretty robust. And that's really a function of not just focusing on occupancy, but making sure we're bringing in better tenants at better rents.

So before we wrap up here, what would you say is the biggest opportunity for the company that you think might be misunderstood or not fully appreciated by the market today?

I think the market is only just beginning to appreciate how the work that we've done over the last 5 to 6 years has positioned us to grow intrinsically at a very robust pace. I think it's beginning to be understood, but I don't think it's fully understood. And I think a corollary to that is that the market doesn't fully appreciate how this portfolio has been transformed. You actually have to get out and see the real estate. It's been a very granular execution, as I mentioned before. A $3 million reinvestment here, a $5 million anchor repositioning there, additional pads. But we've been doing that and it impacted well over 1/3 of the portfolio. And as I mentioned, we put over $700 million of capital to work at a double-digit incremental return unlevered. So I see it in the portfolio. We're excited about it. We're confident in how we're going to continue to perform. But I don't think that that is fully appreciated yet. And we'll just continue to execute and bring up that level of appreciation.

What would you say is the company's #1 ESG priority for this year?

Without a doubt, human capital, our team. We believe very strongly that great real estate matters but great people matter far more. So we're very focused as we navigate these uncharted waters to make sure we put the team at the core, that we continue to attract and retain the best talent, that we maintain an environment of diversity and inclusion because we believe the best ideas come from many different areas. And continuing to support people by providing additional flexibility, a hybrid work schedule, personal development, a real focus in the company on talent development, which is something we do off the compensation cycle importantly. And that's always our #1 focus from an ESG perspective.

Well, we'll go to our rapid fire now. What will your same-store NOI growth be for your property sector overall in 2023?

3%.

What will the 10-year treasury yield be a year from today?

2.25.

And will your property sector have more or fewer companies one year from now?

Fewer.

Great. Well, thanks, Jim and Angela. I appreciate it.

Thank you. Appreciate it.