W. P. Carey Inc. (WPC) Earnings Call Transcript & Summary

Good afternoon, everyone, and welcome to W. P. Carey's Virtual NAREIT Q&A Session. I'm Greg McGinniss, the net lease gaming and retail REIT analyst at Scotiabank. And for those of you that don't know, W. P. Carey is a diversified net lease REIT, with a market cap of around $12 billion and a portfolio of over 1,200 properties, covering 142 million square feet across the United States and Europe. Today, I'm joined by Jason Fox, CEO since 2018, but has held various roles at the company since 2002; and Jeremiah Gregory, who has been with the company since 2013 and is currently the Head of Capital Markets, is also with us to help answer any questions. Now before we jump into Q&A, Jason, do you have any comments that you would like to add about yourself or W. P. Carey?

Yes. Sure. Thanks, Greg. And thanks for the intro, and thanks for moderating today's session with us. I'll make just a couple of brief comments maybe on things that investors are most interested in right now, but I won't go into a lot of details. Soon, we'll get to that in the Q&A. And certainly, collections is something that's been on an investor's mind. And throughout the pandemic, our rent collections have been consistently strong, among the best in the net lease group and really among the best in the broader REIT sector. Most recently, for the month of October, we collected 99%, which has been similar to where we've been since the beginning of the pandemic. A lot of that is a result of our deep credit underwriting and our focus on larger companies as well as our diversified approach and within that diversified approach, being underweight retail properties. Our balance sheet is also something that we've been focused on, and we've maintained a strong position. We completed an equity offering and a bond issuance since the start of the pandemic. We're in a very strong liquidity position at this point in time, which means we're very well-positioned to really execute on our pipeline. But also, we're in a very good position if there's any renewed economic uncertainty given the recent surges in COVID cases, especially if that leads to further lockdowns. On the investments front, certainly, there's a lot of interesting growth, and we're well set-up for that. Since the beginning of COVID, obviously, there was a big pause in the second and third quarters across the board, and that was no different from us. But we did stay in close communication with all of our tenants and continued to maintain and build a pipeline coming out of COVID, which we're now seeing the fruits of that labor. So we do expect deal activity to continue to pick up significantly as we go into the year. And because of that, we reinstated formal guidance on our last earnings call, formal guidance for 2020. And that reflects our confidence in our ability to continue to make acquisitions despite the tight cap rate environment, and we are focused mainly in industrial. And I think that we should expect to see an active end to 2020. So with that, why don't we move on to some Q&A?

All right. Appreciate the overview. We'll look to dig into some of those items with some of the questions we go through here. For those of you watching, I'm going to be running through my list of questions. But there should also be a box on your screen to submit questions, which I can ask on your behalf as well. So we're going to get into the hot topics of rent collection, COVID disruption, resiliency, acquisitions, but I want to quickly address 2 questions in order to kind of set the stage for the company. First is the simplification journey that W. P. Carey has been on over the last few years. And second is going to be the differentiated portfolio that you have versus more traditional net lease peers. So Jason, if you could just start by walking us through the simplification process that the company has undergone over the last few years and how the company has evolved through that process.

Yes, sure. So we've been a public company since the late '90s, but only converted to a REIT in 2012. And really, since that conversion date, we've been on this trajectory to simplify our business away from which the investment management business that has historically been one of the avenues in which we raise capital, to where we are right now, which is being a pure-play net lease REIT. Currently, our earnings are generated -- our AFFO has generated 97% from our Real Estate segment. So only 3% remains from the Investment Management platform in the fees we earn from managing those funds. We would expect the continued transition to happen over the next couple of years as those 2 remaining funds go through their natural liquidity event and at that point, will be entirely driven by our real estate revenue. But for all practical purposes, we've reached that point of being a pure-play net lease REIT at this point in time.

And I will say it's made modeling the company successively easier and more straightforward. So I do appreciate that evolution from a personal standpoint. And I think kind of the next question there though is how has this process kind of impacted the AFFO per share and dividend growth over the last few years. And how should investors really be thinking about the growth of the simplified real estate business itself and maybe the dividend payout ratio going forward?

Yes. It's a good question. I think that from a -- on first glance, if you look at our earnings over the last several years, you'll notice that they may appear flat, even slightly down. I think there's good reason for that. The biggest reason is that as we've exited these investment management funds, the fee income that we earned, which was finite in nature, is going to go away anyway and it was valued much lower by our investors. That trailed off. So while our total AFFO has dropped, I think what's important is we've continued to grow our real estate AFFO and those are earnings that are much higher-quality, they're perpetual in nature, and investors look for those and value those more highly as well. A big part of that shift occurred in 2018 when we merged CPA:17 into W. P. Carey. We were able to buy a very high-quality portfolio of net lease assets of $6 billion in total. We acquired that as what we believe was a very attractive cap rate at 7%. So the investment management fees for that fund rolled off, but we were able to add very accretively a significant amount of real estate earnings that, again, we think are much more highly valued. And with that merger, we became a top 20 REIT by market cap and became much more prominent in investors' eyes, and I think that is -- has shown in the increase in a lot of the larger REIT-dedicated investors and funds that are now part of our ownership roster.

Right. I guess next up, just thinking about portfolio composition, which we briefly touched upon in the opening remarks, and that's diversified. But let's dig into that a little bit more. Could you just talk about the asset types, the geographies and the tenants that make up your portfolio? And could you also touch, you mentioned the high collection rate, but just how the portfolio really performed throughout the pandemic, how tenants were impacted by COVID restrictions and potentially more restrictions coming?

Yes, sure. I mean we've always believed that being diversified is the best way to invest in net lease assets. Certainly, it provides, from a growth standpoint, a wider opportunity set from which to choose the best deals and to now take capital to those deals. But also, on downside, you not having overexposure to any one asset class or particular geography that could be overly impactful is something that we value. And as part of our diversified model, we've always been underweight retail, and that's especially true in the U.S., where we feel there is an imbalance of supply. There's significantly more supply in the U.S. than Europe. As part of the diversified model, we are diversified geographically as well, which is really split between the U.S., which is about 2/3 of our portfolio, and Europe, the mainly Northern and Western Europe, which makes up about 1/3 of the portfolio. It's in Europe where we've invested in retail. It's mainly in asset classes or the tenant types that are more immune to, say, e-commerce disruption and in this case, the pandemic as well. That is grocery, do-it-yourself home improvement stores is a big component of our portfolio, and we also have a number of automotive dealerships over there. I think, going forward, we're more focused on buying industrial assets. That's what I would view are part of our core portfolio. It makes up, at this point in time, just under 50% of our total ABR, but it's also comprising probably 3 quarters, if not higher, of the new deals that we've been buying. So there's a real focus on growing that part of the portfolio. And it's also the -- we recognize it's the place where there has been the most cap rate compression recently. But we've had success acquiring those through sale-leasebacks, where we can take advantage of the complexities and the smaller universe of buyers that have the experience to do sale-leasebacks and therefore will generate some incremental yield. You asked about how we fared so well during the pandemic. I think there's a couple of reasons. Number one is I talked about being underweight retail, especially in the U.S. and especially in asset classes that have been most impacted by the pandemic, the experiential real estate, such as theaters and restaurants and fitness facilities, which comprise a very small part of our portfolio. In fact, only 2% of our ABR or less than 2% of our ABR is in those categories, and that's been most impacted. The other area that we focused and we think has been very beneficial is our tenant base consists mainly of very large tenants. 97% of our ABR comes from tenants who generate $100 million or more in sales. And these tenants -- these types of tenants tend to have better liquidity, institutional balance sheets that allow them to have access to capital even during times of distress, even during times of pandemic, and that's helped us really fare well throughout this period.

So you've got the diversified portfolio of large tenants, 99% collections in October. So it seems like it's fairly well-positioned, with strong underlying rent streams, which points to a good defensive story. However, I think net lease REITs, at least in my experience, are generally rewarded a bit more for growth than defensive cash flows. So I just want to shift focus a little bit towards acquisitions. Maybe give Jeremiah a chance to jump in on some balance sheet items and investing. But you ended up giving reinstated investment guidance last quarter for 2020. And given that we're right in the middle of the quarter, just curious if everything is proceeding as expected at this point. And in an attempt to give the people what they want, maybe what level of annual acquisitions might you be comfortable with going forward?

Yes. I mean we've really seen the momentum pick up on the deal side of our business. And a lot of that is the work we did during the pandemic to maintain those relationships and stay in front of opportunities as they arose. And that's a big part of the reason why we reinstated our guidance. We're guiding people for the remainder of 2020 for full year deal volume, as you mentioned, $750 million to $1 billion. And we've completed a little over $700 million year-to-date at this point in time. And we have a healthy pipeline right now. Just to kind of give a little bit of color in that pipeline, it is skewed more towards the U.S. We're seeing more active opportunities in the U.S. right now. We're also, as I mentioned earlier, very focused on acquiring industrial real estate. So most of this deal flow in our pipeline is industrial. It's really a split between [Audio Gap] where tenants have a lot of capital invested into the properties above and beyond than what we're purchasing. So end of lease terms, they tend to have high renewal likelihoods. And in the unlikely event there are some downside scenarios, where there's credit events, we tend to have lease affirmations and the continued operations of these properties because they tend to be highly critical to the company's overall business. So right now, we have a pipeline that, at this point, gives us a great deal of comfort to be well within that range. And if deals go our way and the timing works out where they do close by the end of this year, there certainly is a real scenario where we could end up in the top half of that range. So we feel good about where all that shakes out. Now keep in mind that this updated guidance of $752 million for the year, that's despite the fact that we've been effectively on pause for the second quarter and third quarter. Like most of the real estate world, there was very little transaction activity that happened during those 2 quarters. So I'm not going to give any numbers or expectations for 2021 at this point. We'll do that on our fourth quarter earnings call in February, when we issue guidance for the year. But I think it's important to note that the 2020 deal volume that we're talking about, that really only represents 6 months of the year. I think there's some pent-up deals that are coming out now that may have come out during that period of time. But a lot of it is something that we think we can continue on into the year. And really, we have the team in place and the relationships, the infrastructure, the balance sheet and liquidity to really have a significant year next year, and we would expect that to be the case.

I think the traditional kind of net lease focus is primarily just on the acquisitions front, but you guys have also been fairly successful investing in the current portfolio and capital projects in the current portfolio. So I'm just curious, what's the -- can you just talk about that business a little bit more, the level of success that you've had there? And how much of that total investment for the year will that actually construe?

Yes. It's a good point. I think that's -- that opportunity set is a bit unique to us, especially given the type of portfolio that we have. And I didn't -- I haven't emphasized a lot, but most of the deals that we do are sale-leasebacks, where we can dictate structure, terms with our tenants. And included in that, in many cases, we'll acquire as part of the lease premises some excess land, which gives us future opportunities to do expansions with these tenants as their businesses continue to grow. So that's become a real sizable component of our annual deal volume. I would say, typically, it's in the 15% to 20% range on any given year that our total deal volume is made up of expansions, follow-on deals with existing tenants or build-to-suits. In other words, construction projects that we enter into a lease, build the building for a tenant and upon completion, the rent will commence and get added to our ABR. It's important in our business for a couple of things. Number one is these type of deals are captive deals for us. When we expand our buildings, we have a better ability to dictate pricing terms. And we're able to generate, as you would expect, higher yields in those type of transactions. To put a number to it, maybe it's somewhere between 100 to 200, maybe even as high as 300 basis points of incremental yield relative to that same asset if it was sold in the open market. So that's number one. Number two is, in addition to this higher-yielding, we're also typically on expansions able to extend the existing lease term for that asset. So for instance, we might have 7 or 8 years on an asset that our tenant wants us to expand. Once we expand that, we likely will be able to reset the lease back to, say, 15 or 20 or even 25 years, in many cases. And that's a big benefit to the existing asset and a real value creator. So again, something that's unique to us, something that we focus on. Our Asset Management team is very good about maintaining dialogue with our tenant base, understanding how they use our existing portfolio and what their needs may be, and that's going to be a big benefit. And built into next year at this point is already about $170 million of in-progress construction projects that we'll deliver next year. Rent will commence, and for all practical purposes, we'll be adding that to our 2021 deal volume. I would also expect us to close probably a couple of new build-to-suits by the end of this year, which, once built and online, will get added to that rent roll in our deal volume next year as well.

Great. So if I'm thinking about the guidance this year, the $750 million to $1 billion, the slowdown in transactions because of the pandemic, it points to potentially a strong 2021, and I'm not pushing for guidance or anything like that, but let's call it -- let's just call it $1 billion, maybe more. Just curious what liquidity looks like today. What's the balance sheet and capital market strategy that's really going to continue supporting this growth and this investment for now?

Yes. Sure. Jeremiah, do you want to talk balance sheet liquidity?

Yes. I think the -- I mean, for those that have followed us, I think people are aware that we've actually been in the market a couple of times this year, and we've had great execution. We did a forward equity offering, middle of the year, offered investors buying stock at $70 a share. We also recently completed a $500 million bond offering at a 2.4% coupon, which was, far and away, the lowest coupon at also the tightest spread that we've ever achieved. It was, in fact, the lowest coupon for a 10-year deal in the history of the net lease sector. So we've had great access to capital, and in fact, really effectively prefunded a lot of this investment activity. So the investments, the capital that we're deploying today is capital that's already been locked up, already been raised. This is certainly accretive capital to invest at the yields that we're able to achieve. And I think we're, I think, optimistic, given the pace of the deal volume that will deploy much of that capital, perhaps all of that capital, even by the end of the fourth quarter. But I think either way, going into 2021, another thing that we actually accomplished earlier this year was we renewed our credit facility [Audio Gap] making new investments and acquiring new deals. The -- I think the revolver also allows us to -- if we think that there's good opportunity to access capital, we can certainly do that. And I think we would be interested in doing that to continue funding deals. But we have the flexibility on the revolver, I think, to make substantial investments in Q1 or Q2 without accessing capital. The markets are volatile. So I think the bottom line on our liquidity is that we're really well-positioned to keep making new investments, which is our focus. But even if markets are volatile, I think there remains certainly some uncertainty and challenges here with rising COVID cases. And even in that type of environment, I think we feel really well positioned to continue focusing on investments. So I think that also speaks to our strong rent collections that I don't think we feel we're going to have to spend much time being distracted with the portfolio and managing it. We're going to be able to continue to focus on deploying capital and then raising capital when there's good windows. So we've been fortunate this year to have those windows. And I think even in a volatile environment, we would expect to continue to have those windows in 2021.

And if we just think about equity, debt, the cash flow, cost [Audio Gap] assets, what's your general investment spread that you're achieving?

Yes. And Jason, do you want me to take that?