Franklin Street Properties Corp. (FSP) Q1 2012 Earnings Report, Transcript and Summary

Good day, and welcome to the Franklin Street Properties Corp. First Quarter 2012 Results Call and Webcast. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mr. Scott Carter, General Counsel. Mr. Carter, please go ahead.

Good morning, everyone, and thank you for joining this Q1 2012 Earnings Call. With me this morning are George Carter, our CEO; and John Demeritt, our CFO. Before I turn the call over to John Demeritt, I must read the following statement. Please note that various remarks that we may make about future expectations, plans and prospects for the company may constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the Risk Factors section of our annual report on Form 10-K for the year ended December 31, 2011, which is on file with the SEC. In addition, these forward-looking statements represent the company's expectations only as of today, May 2, 2012. While the company may elect to update these forward-looking statements, it specifically disclaims any obligation to do so. Any forward-looking statements should not be relied upon as representing the company's estimates or views as of any date subsequent to today. At times during this call, we may refer to funds from operations or FFO. A reconciliation of FFO to GAAP net income is contained in yesterday's press release, which is available on the Investor Relations section of our website at www.franklinstreetproperties.com. Now I'll turn the call over to John. John?

Thank you, Scott. Welcome to our earnings call. We're going to be talking with you about our first quarter results, and I'll start with a very short overview, after which George Carter, our CEO, will further discuss the quarter in FSP. I'll be brief, and we'll be referring to our earnings release, the supplemental package and 10-Q that were all filed last night. As of March 31, we had cash of $29.3 million and $106 million in availability on our line, giving us about $135.3 million in liquidity in total. At March 31, we had unsecured debt on our balance sheet of $494 million, and our total market cap was about $1.3 billion. We only have unsecured debt in our balance sheet, so our debt to total market cap ratio was 36% as of March 31. The leverage ratio continues to provide an attractive loan to value for our lenders and affords our shareholders a significant and more conservative equity investment in our real estate. FFO for the first quarter of 2012 was up about $3.3 million or $0.04 per share compared to our first quarter of last year. The FFO growth was primarily from the benefits of 5 acquisitions we made since March of 2011 that we had for the full quarter of 2012, an interest income from a significant loan we made in the -- to a property in Minneapolis that recently signed a long-term lease, the Target Corporation. We also had the benefit of new leases signed over the last year over leases that expired, which raised our occupancy to 89% at March 31, 2012. So that's a brief overview of the performance. The earnings release supplemental and 10-Q go into further detail about our results, and we can take more questions at the end if you want to discuss these further. This concludes our financial highlights. And at this point, our CEO, George Carter, will tell you more about FSP, the results and where we are. Thanks for listening. George?

Thank you, John. And welcome to Franklin Street Properties' First Quarter 2012 Earnings Call. As usual, on my prepared remarks, I will follow my written remarks in our earnings release last night, and then we will open it up for questions. For the first quarter of 2012, FSP's profits, as represented by funds from operations or FFO, totaled approximately $19.6 million or $0.24 per share, an increase of approximately $1.1 million or $0.02 per share compared to the fourth quarter of 2011. And normally, in my written remarks, I do a sequential look at earnings versus year-over-year. And sequentially, our FFO is actually up about $3 million or $0.04 a share over the last 2 quarters. We have never given earnings guidance and aren't going to now, but I would say that the first quarter of 2012 is the first quarter without our investment banking business involved. And when we look forward over the coming years, the removal of that transactional component of our earnings stream does make forecasting a little bit easier, and so we're going to continue to work on that in the coming quarters. We do see continued potential increases in FFO in the coming years primarily through increased occupancy, which we believe we can attain in our portfolio; some new opportunistic real estate investments; and a recycling of capital from a number of our real estate assets that we believe will have the potential to be sold in the coming years accretively and reinvested accretively. The -- for those of you that have followed FSP over the last few years, you know that we had a lot of lease roll -- big lease roll for 3 years in 2008, '09 and '10. And that lease roll is over. And as we look ahead over the next…

[Operator Instructions] And our first question is from Dave AuBuchon of Baird.

George, you mentioned that you felt like the portfolio can see 90%-plus occupancy, I believe, by the end of this year. Can you provide maybe a little bit more context about what the leasing prospects was like in your markets and what sort of activity you have right now?

Maybe generally, Dave, sort of what I said, I mean, they're stable or improving in our markets. The one -- if you look at our list of properties, one big haul I can point to that I think we're very optimistic about is Greenwood Plaza in Denver. That property has a lot of activity on it right now and is one of the few large spaces available in the marketplace. That -- if we can achieve our objectives on that property alone, we would be moving up into those categories. And then just generally speaking, we are seeing occupancies tick up with small leases on a number of our properties, and again, it's a little back-and-forth on some. But I think, other than Greenwood Plaza, it's just a broad-based, positive leasing environment. What -- well, the caveat -- last summer, we entered that summer swoon in the economy, and the one caveat to all this is, I'm looking at these statistics, I know everybody else is, and they're mixed but generally starting to slow a little bit. And the whole employment growth thing is a little bit concerning. Having said that, the activity that we have right now broadly across the properties, Dave, and more specifically at Greenwood Plaza in Denver, lead us to believe we can get over 90% this year.

Now Greenwood is not -- if that's not the new development, is it the agenda market? Is that...

No, no, that's not.

Okay, okay. And then generally, and when you look at your lease expiration schedule for the balance of this year, is there any one particular lease or geography that maybe dominates that lease roll? Or is it again sort of spread out across the portfolio?

No, it's pretty spread. It's pretty spread, and that is the case for the next 3 years.

Okay. I don't want to parse your words too much, George, but when you said when a potential refinance at South Tenth Street could repair your bridge loan, is that -- should we just assume that, that would happen in that event?

Never assume anything. No. The lease that we signed with Target really has attracted very broad-based interests from a lot of lenders. We have -- at 50 South Tenth Street Corp., we have started a broad search for both lenders and reviewing the potential sales market in Minneapolis for the property. We have a number of lenders that are very, very interested in that property and are pursuing several of them vigorously right now and they're very positive dollar amounts, terms, et cetera. So again, I wouldn't assume anything, but we're very optimistic that, that bridge loan gets taken out pretty shortly.

Right, good. And then I guess, just relative to that asset and then Phoenix Tower as a candidate for acquisition into the REIT, can you just talk about that they'll both be stabilized, obviously South Tenth Street more so than Phoenix Tower. But if those stabilize, what sort of checkmarks are you looking for when you look at an acquisition to place into the REIT versus you'd just rather look somewhere else?

Well, Phoenix Tower -- FSP Phoenix Tower Corp. has made the decision to sell that property in the open market. CB Richard Ellis is handling the sale of that property. Franklin Street Properties Corp., other than its investment in the property, will not be involved at all. It will be sold for cash, we assume, to a third-party in a vigorous auction process, which is going on right now. On 50 South Tenth Street Corp., again we are just in the process of reviewing all of the potential options there, so we haven't run any further down that road than what I've talked about. The one thing on 50 South Tenth Street Corp. that is clear is that, now that we have the property stabilized with a credit tenant, the rate -- interest rate on a loan in terms of that lump are just much -- going to be much more advantageous to shareholders in that deal than the risk that was taken on the interim loans. So I think the "first things first" on 50 South Tenth Street is to get a -- we had an original piece of debt, effectively, acquisition debt, on that property and at $76.2 million. And to get the $106.2 million replaced with better terms is really the first objective.

Okay. And then regarding Phoenix Tower, I mean, can you maybe explain why you wouldn't be interested? Is it just the size of the asset or cap rate's too low or...

The market is -- in Houston for this particular property is pretty good right now. And we really think it's -- and again, you're talking about 50 South Tenth Street, thinking this way. We really think that the auction process in the third-party market can get us the best possible price. And Franklin Street Properties Corp., if you -- you sort of have to go one way or the other. If you think about trying to acquire one of the single-asset REITs through a merger or something, as we have in the past, that is sort of one process which you keep sure if you head in that direction. If you -- and in fairness opinions and all sorts of things involved in that process. The other process, which is truly a third-party auction process where you really do a vigorous auction. Franklin Street Properties Corp. doesn't want to be involved in that process because that process will potentially taint the auction process. You want it as pure as you can get it. The -- so you'd sort of a one way or the other, and again, we have a lot of experience in this over 20 years of doing this. The specific answer to your question right now is: Houston is pretty warm; prices for properties are pretty high; cap rates are pretty low; the auction process of 50 South Tenth -- Phoenix Tower Corp., that would be the best process to achieve the best price.

Got it. And then so -- and maybe a more global comment, but sort of Houston in particular, have -- cap rates for office assets that are well leased, have they dipped into the sixes at this point?

They have.

Okay. Just a couple of more questions. Is there any sort of -- in the event there is a refinance at South Tenth Street this year or, I guess, any year, any onetime fees or revenues sort of associated with that event to FSP?

This is John, Dave. There would be a -- there's a 50 basis point FSP can pick up on repayment. And we are also been amortizing in the one point we got up front. And that's to be amortized over the life of the loan and -- but obviously to be accelerated until the day that it was paid off.

Okay, all right. And then last question is, what was the same-store growth in the quarter?

I actually don't have a comment or a number for you on that one. I'll see if I can get back to you later on it, Dave.

The next question comes from Jeff Lau of Sidoti & Company.

For some reason or other, I couldn't access the supplemental. Can you talk a little bit more about rents and how they, I guess, progressed since last year or sequentially?

You mean in terms of rental rates?

Yes, rental rates.

Rates themselves?

Yes.

I think they were kind of mixed. And in some cases, they -- we extended leases and renewed them. That rates that were at, as good or higher than what we had, and in other rates, they were down depending on the market. So I don't have a good general rent rate.

It's sort of the same-store sales. It's the same thing.

Yes.

But I think, Jeff, that overall -- again, property by property can be very different. It depends on when the original lease was signed and a sub market that -- or the market the property is in. But generally speaking, we are through our biggest lease roll-down. We don't have much lease roll-down going on anymore. Now it's a question of occupancy. Now again broadly speaking -- again, not on every property and not in every market, but broadly speaking, rents have gotten reset in the portfolio. I'm talking, on average, 15%, but again, on some markets, more, and in some markets, much less. But the continued downtrend of rent levels is pretty much over in most of our markets. So again, that's part of the view of moving FFO at this point.

Okay. And going back to what you said earlier about, without doing the transactional revenue anymore, and it's easier to kind of predict your -- I guess, your revenue. Did you mean that you would eventually provide guidance? Or are you going to continue more than likely not to do that?

I think -- we've always thought about it. It's something that we wouldn't mind doing if we thought we could be accurate at it. I mean, it doesn't make any sense if you can't be accurate. We're still fairly small. A few properties can make a big difference in our FFO in any quarter. We are, again, an investment company that specializes in real estate, so we do a variety of different types of investments, including investing in our single-asset REITs, mortgage investments, et cetera. And so we still have a transactional component to our profit stream. As the portfolio grows over the next few years, which we anticipate it to do, and more and more revenue comes from pure rental income, I think guidance is something that we could provide in the future. It's just not in the immediate future.

Okay. And then I guess, more granularly, that SG&A that kind of fell, was that mainly due to, I guess, the not doing single-asset REITs? Or is it -- was there another factor to that?

Well, SG&A is -- was allocated, in prior years, between the investment bank and the real estate segment. And you only need to look at SG&A in our discontinued operations, but know where we call out the amount of SG&A, that was put in disc ops. And I think, if you take that number and add it to our Q1 '11 SG&A and compare it, it compares favorably to our Q1 of this year. Some of that has to do with acquisition fees from some assets we bought in Q1 of last year that are in SG&A, and some of that is some savings with some of the salaries and benefits of the people who are no longer here.

Okay. And lastly, I guess, are there any other properties that you can talk about that are being looked at to be sold? Or is that anything that you can elaborate on?

We wouldn't want to do that specifically right now, Jeff, because of the whole competitive thing. But we do -- we had several properties during 2011 that we were looking at and didn't, in the final analysis, sell because the markets just weren't strong enough. Now we did sell in 2011 a couple of properties , the big one being the Falls Church property. Some of those properties that we were looking to sell last year, we are carrying over and watching those markets carefully, but we wouldn't want to talk about them before they're actually out in the market and being sold.

Sure. And I hate to ask, but I guess I don't know why I couldn't access that supplemental. Is there any way I -- someone could email that to me?

Yes, no problem. I'll send it off to you, Jeff.

This concludes our question-and-answer session. I would now like to turn the conference back over to George Carter for any closing remarks -- Oh, I apologize. We do have a follow-up now from Dave AuBuchon. Would you like to take that?

Sure.

I guess I have one more question, sorry. A number of the office REITs so far this quarter have reported some pretty favorable comps on the operating expense line, I think, primarily related to pretty warm winter across the U.S. Did you -- how much of a impact did you see in the quarter from that? Or have you drilled down that far in the numbers?

We haven't drilled down that deeply in terms of climate change, but we did see some favorable tax abatements and that sort of thing in the rental operating expense line from some of the work we've done there. Some of the rental operating expenses were generally lower. A lot of what we have in the first quarter are true-ups of TAM for year end that relate to reimbursed expenses, so it's a little bit of a mishmash of numbers.

And that is our final question.

I have one other comment before I pass over to George. George Carter, Jeff Carter and I will be at Nereid in New York, and we would be very interested in anybody wanting to schedule appointments with us. It's going to be the week of June 11. And I just wanted to say that. Thanks.

I'll reiterate that: I hope to see a lot of you in New York at REIT Week the week of June 11. Thank you very much for tuning into the call. Talk to you next quarter.

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