Four Corners Property Trust, Inc. (FCPT) Q2 2017 Earnings Report, Transcript and Summary

Good day, and welcome to FCPT announces earnings for second quarter 2017 conference call and webcast. All participants will be listen-only mode. [Operator Instructions] After today's presentation, there will an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would like to turn the conference over to Gerry Morgan, Chief Financial Officer. Please go ahead.

Thank you. Joining me on the call today is Bill Lenehan. During the course of this call we will make forward-looking statements which are based on beliefs and assumptions made by us and information currently available to us. Our actual results will be affected by risks, uncertainties, and factors that are beyond our control or ability to predict. Our assumptions are not a guarantee of future performance, and some will prove to be incorrect. For a more detailed description of potential risks, please refer to our SEC filings, which can be found in the Investor Relations of our Web site at www.FCPT.com. All the information presented on this call is current as of today, August 3rd. In addition, reconciliation to non-GAAP financial measures presented on this call, such as FFO and AFFO, can be found on the Company's supplemental report also on our Web site. With that, I'll turn the call over to Bill.

Thank you, Gerry, and good morning everyone. Let me first make a couple of comments on our second quarter acquisition activity, which included a meaningful transaction with Bob Evans, and a [repeat berthing] [ph] business with a large franchisee operating over 115 restaurants. The metrics of these transactions evidence both healthy credit and strong unit-level performance. Pricing on a blended basis was a seven cap, slightly higher than pervious quarters, but basically in line. During the quarter, we also closed the sale of one Olive Garden site in Lakeland, Florida, at a 5.1 cap rate, demonstrating the private market continues to have strong demand for Darden-branded properties. As highlighted in the press release, we just passed the first anniversary of having our acquisition team in place. Over that period, we've closed on over $160 million of acquisitions across 91 properties, a great result for our first year, and a success we will continue to build on. Regarding the net lease market overall, we are seeing higher cap rates; a more balanced dynamic between buyer and seller. This is a trend we discussed on prior calls. And at a recent net lease conference there was consensus the cap rates are trending up slightly, but certainly not dramatically. On the restaurant industry, I'd like to make three observations. One, Darden continues to execute at a very high level with a conservative financial profile. Two, many other casual dining companies are not doing well, and we've been avoiding these credits. And three, quick service brands we have been acquiring have been very stable. I would also add a further point on Darden. As you'll note, we have updated our overall EBITDAR lease coverage, and this statistic is for the entire company, including acquisitions post spin, with coverage from 4.1 at spin to 4.7 times today. This was driven by updated metrics from Darden, where coverage has strengthened given improved operations and sales growth overall since 2015. I am very pleased with the success of our capital markets activity for the quarter. Gerry will provide more details in his comments, but we've proved in Q2 that we have access to capital to grow our profitability per share, as well as diversify our tenancy, all the while maintaining a significant financial flexibility, and a conservative capitalization. The operations of our business are on very strong footing. Niccole, along with Gerry, runs our accounting function, has overseen a smooth internalization of all of our accounting functions, and which we anticipate will shorten our monthly closing process, increase our control over our reporting, and save us money over the long term. As part of this initiative we've added to our internal accounting and legal teams with some great new hires. We are making sure our portfolio, now consisting of 23 different tenants, does not outpace our internal resources. As an example, we have reached agreements to extend two short-term leases that were set to expire this fall that were required as part of a portfolio last year. As a result, our portfolio remains 100% occupied with no maturities until 2020. We are accomplishing this additional scope within our previously communicated overhead estimates. Now, Gerry will take you through the financial results. Gerry?

Thanks. First a few comments on our results for the second quarter. We generated $25.9 million of cash rental income after excluding non-cash straight-line rental adjustments. As shown on page eight of our supplemental package and for purposes of modeling, the current cash-based rent for leases in place as of June 30, 2017, is $105.2 million. I would highlight for everybody that in prior quarters we were listing on this page in the supplemental the estimated calendar year cash rent, including rent increases during that year. Starting this quarter, we are instead showing the current in-place cash rents as of quarter end from which investors can add estimated future rent escalators as they would like. As a reminder, the average annual rent escalator for our portfolio is approximately 1.5%, and all of the Darden property cash rents increased by 1.5% each year, on November 1st. Cash interest expense excluding amortization of deferred financing costs and other non-cash interest was $4.1 million for the quarter. Interest was higher than Q1 given the increased borrowing on the revolving credit facility to fund acquisitions, and $125 million unsecured note offering which funded on June 7th. There was no outstanding balance on our $350 million revolving credit facility at quarter end. We reported $2.8 million of cash, general and administrative expenses after excluding non-cash stock-based compensation. As expected, results were slightly higher than Q1 mainly due to the overlap of internal and external accounting costs as we completed the internalization of those systems, as Bill mentioned. The conversion was completed in July, and we expect to achieve meaningful expense savings going forward. We reiterate our previous guidance for 2017, of an annual G&A run rate cost of approximately $11 million, again excluding non-cash stock-based comp, and acquisition transaction costs. In addition to the seven-year and 10-year note offering, as Bill mentioned, FCPT also issued $28.3 million of equity in the second quarter at a weighted average share price of $24.29 via the ATM program, and ended the quarter with just over $80 million of cash. These transactions are consistent with our focus, not just on the quantity, but also the quality of earnings. We estimate the net effect of these two capital events of about $0.05 of dilution to Q2 AFFO per share given the cash balance and the higher cost of interest expense on the fixed notes versus variable financing on our revolver. However, in the long run, we like the dry powder to fund future acquisitions, and accessing the capital markets from a position of strength. Two final comments on our balance sheet; first, we welcome the group of 11 top tier insurance companies who participated in our inaugural note offering. We look forward to working with these investors and our existing credit facility banks to continue prudently capitalizing our business. Second, the notes brought our average debt maturity to 4.6 years at quarter end, and represented an important expansion of our access to diverse and cost effective sources of capital. Our net debt to EBIDA stands at 4.4 times at quarter end, and we remain committed to maintaining net debt to EBITDA levels at or below 5.5 to 6. With that, I'll turn it back over to the operator for Q&A.

We will now begin the question-and-answer session. [Operator Instructions] This question comes from Collin Mings of Raymond James. Please go ahead.

Hi, good morning guys.

Good morning, Collin.

First question for me just as far as leverage, net debt to EBIDA, 4.4 times is what you finished the quarter with. Is 5.5 to 6 times still the right target for you guys going forward. And how do you think about maybe maintaining kind of a lower leverage levels, and the potential benefit that could mean for your valuation as far as the stock price.

Well, Collin, it certainly seems like conservative financial position and low leverage correlates highly to AFFO multiple and overall valuation. And that's one of the reasons we raised equity in the quarter preemptively. We still think long term, 5.5 to 6 times is quite conservative, and is consistent with what we've communicated to the rating agencies, but we're in no hurry to get there.

Okay, understood. So we should continue to anticipate some level of maybe match funding or some opportunistic ATM issuance or given the cash balance that you guys currently have following the debt offering, is the runway maybe a little bit longer before you go back and issue stock through the ATM?

I think it's something that we assessed in real time, but I think you have a good flavor of where our head is at.

Understood. And then just one last one from me, I'll turn it over; just far as the deal pipeline, you did touch on maybe some upward pressure on cap rates. But just in terms of volume and then in particular for you guys, how are you looking at again it's been a little bit more of the smaller portfolios that you guys have closed on versus one off opportunities, how much time or what does the current deal pipeline look like as far as maybe just single, one off, or one or two assets versus call it smaller portfolios out there right now for you?

Sure. It continues to be a mix bag. And I think it's very hard to read into any trends quarter to quarter. But I think you'll see us continue to announce individual properties. We closed two units [indiscernible] recently with a great franchise. You'll continue to see us do all three originated sales lease bags, larger portfolios and one off deals. And the mix will change quarter to quarter really without any observable trend would be my guess. I would say the individual property market, which is predominantly 1031 Exchange buyers, remains very competitive. And, that's where we tend to find that our LOIs that we are submitting are most off from the asking price, if that helps with the commentary. But it would continue to be a mixed bag. And we are really agnostic to what sort of channel the assets come from as long as they are operated by strong franchises with good rents and good real estates.

Appreciate the color, Bill. I'll turn it over. Thanks.

Next question comes from Dan Donlan of Ladenburg Thalmann. Please go ahead.

Thank you. Good morning, Bill and Gerry. Just wanted to get back to Collin's question on the acquisition, given how price agnostic sometimes these 1031 buyers are, what is it in to for some of these franchises to work with you given maybe you are paying a slightly higher cap rate than some of these 1031 investors?

Sure. I think the first premise to start with is that 1031 Exchange buyers -- and we say this because we occasionally sell properties into this market, do not provide much certainty of close. They are allowed to identify 2x what they are seeking to exchange. And then of course, there is the risk of what their underlying property sale following through. So they tend to close far less than half the time. So when there is a desire for certainty, we are certain counterparty. And I would also add you saw the recent K-MAC transaction. That was a transaction where Josh and Pat exhibited a lot of creativity in identifying a property with very short lease term with a need for remodel. And we came to a price on with the seller. And then went back to the franchisee, negotiated a slightly different rental rate and a much longer term where we will end up having a refreshed asset and at a very acceptable price. That's something that the typical 1031 Exchange buyer is just not interested in putting the leg work to do things like that. But to be clear, we submit a very large number of LOIs where we are 50, 75, 100 basis points off on price. And quite often, we get the call after their aspirations of selling to the 1031 Exchange market have been foiled one or two or three times.

Understood. I appreciate that. And then sorry if I missed this, but the terms of the leases that you extended out, did you have to lower rent a touch or any type of concessions you gave there? Or is that kind of what's discussed with re-modeling?

On these transactions we lowered rent a minor amount. And we provided a subsidy to help remodel the store. But we knew the economics of both that remodel and the different rents going into it. So, felt very, very good that we purchased the assets at a price that was well in the money.

Okay. And then as far as the asset sale in the quarter, I think it's the third one you sold since been a publicly traded company, I think all three have been in Florida. Is there any trend to look into there? And then just kind of curious on the cap rate, you achieved 475 on the first to last year, and then you got a 51 here. Is that kind of a general range in what you are seeing as you are getting potential and solicited interest and/or kind of putting stuff out to maybe just to see what were you comprised some of your [indiscernible] things like that?

Yes, let me make a couple of comments. Florida is a market underlying the 1031 Exchange. To really simplify it quite often it's people who are selling apartment buildings in the Northeast and exchanging them into the net leased assets in where they retire to that's just a common trend. I think it was the case in all three of these sales that we have made. That's one. Two, Florida is one of seven tax free states which is not very relevant to us a REIT, but as an individual it is a -- it just makes the economics a little bit better versus buying in the state that we have to pay income taxes. And as to cap rates, yes, I think you'll see very consistent cap rates within a 25 -- 40 basis point range on where we see people having interest in our portfolio.

Okay. Appreciate that.

[Indiscernible] inquires at least once a week if not more and we really are pursing it very aggressively but we think it's a nice twist to our overall strategy; helps the diversification. It allows us to risk manage in certain circumstances. You'll see us continue to do it in the normal course.

Okay. That provides a lot of visibility on the valuation I think. And then, just lastly on the acquisition side, some of the fast food chains that I have visited recently have moved to electronic cashiers, is that something that you are looking for in future acquisitions? Is it something that maybe you are providing capital to some of your existing fast food concepts to switch over to? How should we think about that?

I would say that it's part of an overall trend. And we have some material in our presentation we put on our website last week on this. An the overall trend of the larger brands be more technology focused and older franchises selling assets to growing franchises with more interest in maintaining the space and increasing the amount of technology that's available as they operate the restaurants. And that technology can be as you mentioned electronic ordering boards, in-store kiosks where you don't have to wait in line. You can do it at a kiosk. More technology drive through, mobile and web enabled ordering and delivery. So it's something…

Okay.

We do think it's a trend. It's another reason that we focus our efforts on large well-capitalized brands who have the resources to invest in technology. And Dan, I would agree with you the time that we spent in restaurants, you have seen much more technology in what many people would think of is a non-technology industry.

Okay. Thank you, Bill.

And of course, Darden was a leader in this, in putting the [indiscernible] tablets on all the tables and [indiscernible] with strong results from that. Thanks, Dan.

Thank you.

Operator, furthermore questions.

Yes. The next question comes from Mitch Germain of JMP Securities. Go ahead.

Hey, Bill. Just curious there has been a push for some of the larger retailers department stores to be maybe monetize their real estate, is this a trend that you are seeing across the restaurant this year as well?

I think it's largely a trend that's already played out over the years. And so, there're some exceptions to that. Darden was an exception to that. [Indiscernible] and Blue Man have all sold a lot of the real estate and most of the quick service brands have been asset like for a long period of time. So I think that's well-trodden ground in the standalone net leasable restaurant business.

Got you. And then the last one from me, I know you spent a lot of your time before and post-spin with franchisees, just to gain credibility and such, and I'm curious about where that effort stands, is that still really a big focus to get out and talk to these individuals or do you think a lot of that effort has already been done and now it's just really a function of time before you can get some of those transactions with those individuals?

I think well if you were to roughly to find the addressable unit versus the franchise Times 200, I think we had a very strong start but that's a large universe to address and we think we have a lot of runway there. But we're pleased with the progress we've made, we've found that the franchisees that we've done business with many of them have come back and we've done repeat business which is obviously easier on both sides and as we support these franchisees and they grow, it helps the underlying credit in the first place. So I think Mitch, we've got a good start going but there is still lots of work to do.

Great, thank you so much for your time.

Yes of course, thanks Mitch.

The next question comes from Peter Abramowitz of Canaccord Genuity.

Good morning.

Yes this is - good morning, this is Peter on for Ryan actually sort of hit all my questions regarding funding your acquisitions. So I'll hop in the queue.

Okay, thank you. Operator, are there any additional questions?

Last question comes from R.J. Milligan of Baird. Please go ahead.

Hi, good morning guys. This is Will Harman on for R.J. Just wanted to go back to your comments build on Cap rates moving a little higher basically and just want to dig into that a little deeper, what do you think are some of the factors that are driving the movement upward and are there sectors where you're seeing rates move higher than others?

Sure. Well obviously interest rates are higher than their low, they come up a little bit and so, I think that has some impact. Last summer, sort of hard to imagine things getting more aggressive so, this is maybe more of a reversion to a more reasonable mean and then what I would say is within our space clearly cap rates on Applebee's and some of the other casual dining brands have gone up in some cases meaningfully. In the QSR business, again, very slight changes maybe even 10, 15 basis points type range then, at least more broadly obviously all real estate that, that is included to have some Impact on Amazon or Amazon could have an impact on whatever kind of real estate it is has traded off slightly restaurants probably the least of the different property types. Hopefully that's helpful.

Yes, appreciate the color. Thanks guys.

No problem at all.

[Operator Instructions] These conclude our question and answer session. I would like to turn the conference back over to Bill Lenehan for any closing remarks.

Great. Thank you. As we're coming up on 25 minutes and I will keep my closing remarks brief again. Thank you so much for your support. As a shareholders and analyst we're always willing to take time to answer questions, if you have follow up questions. With that thank you and we'll conclude the call. Thank you.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.