Federal Realty Investment Trust (FRT) Earnings Call Transcript & Summary

Well, good morning, everybody.

Hi.

I'm sorry. Go ahead, Craig.

It's Craig Schmidt of Bank of America Retail Research. I also have Alex Pernokas with us, who will be handling any incoming questions from the attendee. Welcome to Federal Realty Investment Trust Roundtable. From Federal, we have Don Wood, President and CEO; and then Dan G., the Executive Vice President, CFO and Treasurer. We're going to begin with a short overview of Federal, and then I will start with questions, and then we will -- again, if you do have a question, you can enter and submit them through Veracast and we will try to get them asked. But with that, Don, sorry, take it away.

Thanks, Craig. Sorry to step all over here this morning. I didn't realize there was a intro. So thanks. And I appreciate everybody else for being on the call this morning. Let me give you a few minutes about who Federal is. I think most of you know, but we'll do that for those of you who don't. We are a diversified retail company is the way I like to talk to us really. We really -- if you think about retail and Federal, we are pretty much every sector other than enclosed malls. About 1/3 of our business is mixed-use properties. About 1/4 of it is grocery-anchored. Another quarter is super regional and then other type of lifestyle and other properties for the rest of it. We're on the coast, by and large, between Boston and Washington, D.C. and then down in Miami on the East Coast. And then throughout California, in both Silicon Valley in the north and L.A. in the south. And we've been around for a long time since 1962. We pride ourselves on having what we believe is the highest quality public retail company -- retail real estate company out there. The company has -- only had 3 CEOs in the last 58 years, and we have really through -- really all of that time been only focused on high quality. We have not been acquirers of large portfolios. Accordingly, this portfolio that we have is really hand selected, one-off, over that period of time, which allows us to treat real estate on a very localized basis. And certainly, in a period like COVID, that's more important than ever. Individual deals, individual retailers, individual locations handled by senior people throughout this has been critical. Lots of conversations always during a time like this, about collection percentages. So let me get that out of the way, although I think it's only 1 metric that is to be discussed in the second quarter. We collected about 68% of our rents in July, that was up 76%. And in August, we collected 80% of the contractual monies that were owed to us. 80% is not good. It's certainly an improved trend, and I hope to see that trend continue. But it still means business is off 20%. Obviously, the stock is off 40% and the uncertainty that remains with respect to COVID over the next year or 2 or 3 remains. We are built to -- effectively with a balance sheet that's really strong and with a very diversified income stream, some of that is good during COVID. Some of that's not good doing COVID, but very diversified, nonetheless, which is good for -- certainly for the long term. We very much believe will come out of this stronger on the other side and effectively become the retail even more so of choice for demand in 3 areas that we see ourselves getting. That is, first of all, in open-air to open-air, tenants who are increasing. They're getting better quality real estate, then moving up, if you will. Certainly relos from mall to open-air, where we see as a second category. And because we're in those first-ring suburbs, urban to suburban, have seen a lot of that actually, interestingly, in the restaurant side, in particular, with respect to those restaurants that are looking for places outside city centers and looking at those first-tier suburbs. So that's kind of who we are. We have, as many of you know, seeing increased dividend every year since 1967. It's an important record for us, but it's not something that could not be broken to the extent this pandemic carried on for a number of years. But it is something that's important, and we do see a path on the other side to continue to pay for it -- pay it. So that's what we're trying to do. And with that, let me turn it back over to you, Craig.

Okay. You have -- you differ from your peers quite a bit in your portfolio. Maybe you could run us through how your different product types were impacted by COVID and where they stand now. And by that, I mean not only your major mixed-use projects, but some of your office and resi, along with your more standard shopping centers.

Sure. Well, look, as you're sitting in the middle of a global pandemic, where you're basically closing down the global economy, I would certainly expect necessity-based retail to be in the best position to continue to pay the rent. And as they have in the 25% of our business that is grocery aggregate and drugstore anchored and other necessity-based businesses. And that's terrific. And you would also expect, I would think, whether you talking about theaters, which make up a couple of percent of our income stream, or whether you talk about restaurants, which make up 15% of our income stream, half of which is our quick-serve type of restaurants that continue to perform well in the other half. Being more sit down type of restaurants, which are harder to effectively be capitalized and work through this pandemic. And certainly, the 3% or so that is fitness uses. That have been greatly impacted. So there's certainly a piece of our business, in total 20% or 22%, something like that, that is significantly impacted by a global pandemic. Interestingly, I think -- and then over -- let me just go on to the mixed-use for a second. We also have 10% of our business, which is residential product all at our mixed-use locations, and they paid 95%, 96% of the rent that is owed, that is as normal, if you will put that way. And the office side, which to date has -- which includes our largest tenant called Splunk on the West Coast, that is -- they paid it all. And in total, the office tenants have paid upwards of 90% also. So they bring up the numbers, if you will, but those are part and parcel of the integration of mixed-use. And we look at that all as one, as you would expect.

Okay. And then we're experiencing record high bankruptcy in-store closings through mid-September. What do you expect the trajectory of store closings will be in the last 3.5 months of the year?

Yes. I don't know. Obviously, we're at a time where the -- those companies that entered into COVID week, and there were plenty of them. I mean look, retail has been -- we've been over-retailed as a country for a very long time. And this has certainly accelerated the failure rates of a lot of businesses. And so I do see -- we're certainly not done, in my view, with respect to the bankruptcies, whether that happens in this fall or whether it happens in the wintertime as there's more customer in our business, I don't know. It's a weird year to be guessing it, but we're certainly not done. And which really brings it to the big point. And it is what are you going to do on the other side of this? Where are you going to create the demand to fill those vacancies? And I just -- of all the things I worry about, and there are plenty of them. It's not finding tenants to effectively fill what we believe is the best quality portfolio in the country.

Okay. That's a good point. I mean who is out there right now looking for a new space? What -- how would you characterize your new leases?

It's very interesting. So it's kind of the 3 places that I went through. And I -- it's real estate upgrades, open-air is looking for better open-air. Got a great example of that. I'm not going to mention the tenant yet. But here in suburban Maryland, where you can kind of picture this, there is this -- there's a mall that's failing. Adjacent to the mall is a shopping center that had a Trader Joe's in it. The Trader Joe's leaves the marketplace. The rest of the tenants in that shopping center say, "Oh, no, we certainly won't want to be the last one out of here, where we're going to go? And so we're able to cut deals. And I've done one that I can't talk about just yet, but will, for certainly, more rent than that tenant was paying in our shopping center, which is much better located, close. That's a natural thing that's going to happen. Thinking about a tenant's mindset and the uncertainty of knowing who that tenant's co-tenancy is going to be over the next 5, 6 years, is a real important driver to where they're going to do deals. Just makes sense. The same thing, whether you're talking about in close to open-air. And -- but those conversations are very much in the works. They'll continue, and they'll grow. The same thing, as I said, from urban to suburban. The restaurants that we're talking to, who are in Downtown DC, that are looking at Shirlington in Northern Virginia, Bethesda in Maryland. And even up at Assembly. Those are downtown looking at Assembly and Linden Square, it's pretty interesting. When you sit back and you think and imagine from that retailer's perspective, it's not just rent. It's about where you're going to be able to do business. And where you're going to be able to do business has a lot to do with who else is going to be there. It's a really important distinction. And so the less risky, great real estate, where you have more clarity on who else is going to be your neighbor, rises way up on the total ball of risk mitigation.

Okay. And also, you seem to be adding new supermarkets to some of your centers?

Well, sure. That's because they were doing deals. And those were pre-COVID deals that were in the works, that finished up. I'm really interested and that's great. If that's the highest and best use for the community center, that's terrific. But it's really more about those deals going forward that are going to create the consolidated retail destinations because not everybody can be a winner here. There's too much retail. So where are you going to consolidate to, and with what tenant base? And that continues the need to be diversified in my view.

Okay. At this point, Alex, are there any questions from the field?

We have a few questions from the field. So what is the impact of an over-retailed country on effective rents, which I believe Federal has had some of the highest in the industry?

Sure. So there is no question that supply and demand is still very much alive in the country. And certainly, there is downward pressure on rents and -- from a macro sense of supply and demand. But we're not in the macro business. We're a local business. And the reality is, the answer to your question depends on how successful we are in creating 2 people who want every spot. 2 people want a spot. There -- it's that simple. There's a horse race. And there is a -- there is upward pressure on rent. That's not going to be possible everywhere. There's no question. And so there will be downward pressures on rent. I can certainly see in certain markets that, that will be more so than in other places. But at the end of the day, every one of these deals, too, by the way, more and more require capital. So the notion of taking low rent and having the low rent go up by -- from $7 to $7.70, right? We're having low rent go up by 10%, but the capital necessary is the same cost about everywhere, plus or minus. And so putting in that additional capital with $0.70 more rent often doesn't make any sense. At the end of the day, those tenants want to be in a place where they can make money, where they're going to do the sales levels, where they're going to have the tenants around them that will send business their ways and do business because of them together, et cetera. And so rent doesn't become the #1 thing. We'll have our share of successes there, we'll have some negatives. When you have such a macro event like this. But overall, I can tell you how we're going to create value at Federal shopping centers over the next 3, 4, 5 years. I'm not sure everybody can.

Great. And you answered one of the other questions during that response. So I'll move on to the last one. As online becomes more important for retailers, this ends up being a margin negative for retailers. As a result, will these retailers not be able to pay higher occupancy costs? And how susceptible is your portfolio to this?

Yes. This is such an important -- it's such an important point. The notion of how goods are delivered to the end user. It's still something that has hardly been solved. It's still better almost any way you look for a -- to the end user to come and pick up the good at the store. There's no more profitable way for that to happen. As a result, one of the things that we are so focused on here is the ability to pick up at our shopping centers for a plethora of retailers, to have our places, be the place that important parcel of everything you do in your life. So I think we're one of the only landlords to have a company-based landlord sourced full-time program called The Pick-Up that allows for that to happen throughout most of our shopping center portfolio now certainly in our mixed-use properties, where it's working particularly. Well, that's an important component to get to the answer to your question because the bottom line is -- here is, at the end of the day, profitability comes in a number of ways, prices will try to be raised, expenses will try to be reduced, all of that. But at the end of the day, demand has to exceed supply for -- from a real estate company's perspective, for a landlord to make any money. We ought to be looking at demand drivers.

Great. Back to you, Craig.

Okay. I also have a question, and it's just where do you see Federal's occupancy going for this portfolio in early 2021?

Yes. I do think, as a result of everything that's going on in the world, it is probably going to be that first quarter of 2021, second quarter of 2020 -- first half of 2021, that will be the low point. I see us in the 80s. I don't know whether that really means 89%, 87%, 86%, something like that, but probably in an area like that, given how it takes to take conversations to turn them into leases, to turn them into building out the space, to turning them -- turn them into occupation and rent start. That takes time. And so I would certainly expect from an occupancy perspective, that first half of 2021 to be the low point.

Okay. And then do you think there's going to be a reset on market rents in terms of you finding new tenants to replace vacancy, but at what rents?

Exactly. I don't know, right? What I do know is what is really important right now is to do what you need to do to keep the strong tenants in your places to be able to attract other tenants on the other side. And so what we're trying hard to do is to effectively cut the deals that have to be cut even on a percentage rent basis for shorter terms to be able to get through this on to the other side. On the other side, again, whether those rents come up or go down or come up or where they go, I don't know for sure yet. I know that the answer to that question lies in the demand side. And can you create that auction, if you will, for the best spaces. I know we got the best chance of doing that given the quality of the real estate, but it remains to be seen.

Great. And maybe you could talk a little bit about the approximately $425 million of spend over the next 3 years for mixed-use and the $155 million over the next 3 years for the other projects?