Four Corners Property Trust, Inc. (NYSE:FCPT) Q3 2023 Earnings Call Transcript

Four Corners Property Trust, Inc. (NYSE:FCPT) Q3 2023 Earnings Call Transcript November 2, 2023

Operator: Hello and welcome to the FCPT Third Quarter 2023 Financial Results Conference Call. My name is Lauren, and I will be the operator for today’s call. There will be an opportunity for questions at the end of the presentation. [Operator Instructions] I would now hand you over to your host, Gerry, to begin. Gerry, please go ahead.

Gerald Morgan: Thank you, Lauren. During the course of this call, we will make forward-looking statements, which are based on our beliefs and assumptions. Actual results will be affected by known and unknown 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 inaccurate. For a more detailed description of some potential risks, please see our SEC filings, which can be found at fcpt.com. All the information presented on this call is current as of today, November 2, 2023. In addition, reconciliation to non-GAAP financial measures presented on this call such as FFO and AFFO can be found in the company’s supplemental report. And with that, I’ll turn the call over to Bill.

Bill Lenehan: Good morning. Thank you for joining us to discuss our third quarter results. I’m going to make introductory remarks. Patrick and Josh will comment further on the acquisition market, and then Gerry will discuss our financial results and capital position. We reported third quarter AFFO of $0.42 per share, which is up a cent from our Q3 last year and in line with expectation. Our existing portfolio is performing exceptionally well with 99.9% rent collections for the quarter and 99.8% occupancy at quarter end. FCPT has had a record acquisition year already with $322 million of capital deployed year-to-date that is up 13% from the full-year 2022, which was also a record acquisition year. We continue to see benefits of our investments in our people and the platform’s capacity.

These transactions were funded with equity raised in late 2022 and early 2023 at an average price above $27 per share and with our June debt offering where we benefited from hedge gains to lock in a 5.4% yield to maturity. Year-over-year sales for the restaurant sector as a whole remain positive in the third quarter in the 3% range according to Baird Research although the casual dining sector is seeing small declines off of a strong 2022. Garden was a standout from that trend, reporting same-store sales growth of 6.1% and 8.1% for Olive Garden and Longhorn respectively. Chili’s saw same-store sales rise 6%. As highlighted last quarter, restaurant margins are also improving as commodity and other labor inflation eases. Our EBITDA to rent coverage in the third quarter was 4.8 times for the significant majority of our portfolio that reports this figure.

This remains amongst the strongest coverage within the net lease industry and is a reflection of our underwriting standards. Turning to capital sources, which Gerry will discuss in more detail. We issued $100 million of private notes in July and did not issue equity during the quarter. We now start the fourth quarter with $220 million of availability on our revolver and no near-term debt maturities and very attractive properties to sell to 1031 buyers if we choose to access this liquidity source. As we look ahead, the current capital market environment is making it challenging to deploy capital accretively. In this environment, we remain disciplined allocators of capital. And let me say that again. In this environment, we remain disciplined allocators of capital.

Since our inception in 2015, we have established [Indiscernible] models and structured our team’s incentives that discourages us from deploying capital just to grow the company’s size without an increase in per share metrics of earnings or intrinsic value. Our compensation is not tied to acquisition volumes, and we have never given acquisition or earnings guidance. Finally, we benefit from low absolute and relative overhead costs and can be nimble and modulate investment activities up and down without negatively impacting the organization or employee morale. We believe that we are prepared to operate successfully in today’s environment and expect to ratchet up activity when it is a creative to do so. With that, I will turn it over to Patrick to further discuss the investment environment.

Patrick Wernig: Thanks, Bill. We had a busy quarter closing on $130.2 million across 31 properties. For 2023 year-to-date, we have acquired 90 properties for $322 million at a 6.7% cap rate, which is a record high volume for us. Year-to-date, our acquisitions have been roughly split between restaurant at 38% volume, medical retail at 37%, and auto service at 23%. We expect the mix to remain balanced based on the pipeline over the remainder of the year. We remind ourselves often that our business is relatively simple. We do not focus on long-term covered land plays or trophy properties that come to market every 10 to 20 years. Our investment decisions are based on a consistently applied scoring model and yield spread. If a tire store or restaurant does not pencil, we can be patient, pass on it, and wait for the next one to come along that does.

The industry story remains similar to recent quarters, where we’re seeing the effects of a tightening lending market, namely reduced private equity competition, fewer 1031 buyers and sellers, who are much more accommodating on compressed closing schedules and other non-price deal terms. Both developers and operators are more willing to engage with FCPT on portfolio opportunities than in prior years. We’ve also seen cap rates improve a great deal over the past several months as a reaction to the higher interest rate environment. There are opportunities for some really interesting portfolios that would have been priced 100 plus basis points tighter a year ago. Pricing has not moved enough in our view, but pressure is building on sellers as institutional net lease investors are largely holding the line and passing at current cap rates.

We expect cap rates to move up over the short-term in the absence of meaningful interest rate movement. We’ve been asked recently by some investors, what is the most interesting acquisition opportunity for Four Corners right now? The answer is the same, down the middle of the fairway deals we’ve been doing for years, but at more attractive pricing and even stronger tenant credit than previously available in our cap rate range. Josh, I’ll turn it over to you to discuss dispositions and releasing.

Joshua Zhang: Thank you, Patrick. We sold three Red Lobster properties in September and early October that were underperforming versus brand average for $15 million, representing a small gain. We had these dispositions in the works for several months, and it was just happenstance that they lined up with the right buyers at similar closing timelines. These stores were underperforming relative to others in our portfolio, and we are maintaining our discipline of proactive portfolio management housekeeping to sell them at an attractive exit price, particularly when we have ample opportunities to redeploy the proceeds to further diversification at a positive spread. Turning to leasing, since inception and through the end of the third quarter, we’ve had 81 leases reach term expiration.

Of these, 72 leases or almost 90% were renewed by the existing tenants, and another 7, over 8%, were released to new tenants, many of with a positive rent spread and or credit upgrade. Of the 81, only two remain vacant. The existing tenant is often the best candidate to continue on at a site, but in certain cases where there’s a higher and better use or rents are well below market, we have been able to capture that positive rent spread and create meaningful value. We have no lease expirations in the portfolio for the remainder of 2023, and less than 2% of the rent stream is maturing in 2024. Gerry, I’ll turn it over back to you.

Gerald Morgan: Thanks, Josh. For the third quarter, our cash rental revenues grew 12.3% on a year-over-year basis, including the benefit of rental increases and $439 million of acquisitions in the last 12 months. We reported $56.1 million of cash rental income in the third quarter after excluding $1.2 million of straight line and other non-cash rent adjustments. And on a run rate basis, our current annual cash base rent for leases in place as of quarter end is $215.3 million, and our weighted average five-year annual cash rent escalator remains at 1.4%. We collected 99.9% of base rent for the third quarter, and there are no material changes in our collectability or credit reserves nor any balance sheet impairments. Cash G&A expense excluding stock-based compensation was $4 million, representing 7.2% of cash rental income for the quarter.

We continue to expect cash G&A will be approximately $16 million for the year. And as a reminder, we take a very conservative approach to G&A and expense 100% of the costs associated with our internal investment program. We generated AFFO of $0.42 per share. Results were in line with expectations, but were impacted by higher interest expense on the $80 million of term loans that are unhedged and on the revolver balance. We also experienced a slight uptick in non-reimbursed property expenses from higher abandoned deal costs as we adjusted our deal pipeline to the rapid increase in treasury rates. With respect to the balance sheet at quarter-end, we held $6 million of unrestricted cash, $11 million of 1031 proceeds available to redeploy, and have $220 million of undrawn revolver capacity.

In total, that gives us $237 million of available capacity as the fourth quarter begins. In the third quarter, we funded the $130 million of acquisitions with cash on hand, the $100 million private note offering that funded in July, and $15 million of net revolver borrowings. On overall leverage, our net debt to adjusted EBITDA in the third quarter was 5.6 times, and our fixed charge coverage ratio is a healthy 4.7 times. We remain focused on maintaining a conservative balance sheet and extending and layering our debt maturities. Our only debt maturity before November of 2025 is a $50 million private note, due in June 2024, and otherwise our net — next debt obligation is $150 million of term debt due in November 2025. And with that, we’ll turn it back over to Lauren for investor Q&A.

Operator: Thank you. [Operator Instructions] Our first question comes from Rob Stevenson from Janney Montgomery Scott. Rob, please go ahead.

Rob Stevenson: Good morning guys. Can you talk about what you’re seeing in terms of the differential, if any, between cap rates for restaurant assets that you’d want to own and add to the portfolio and the non-restaurant medical and auto assets? Any real gap there?

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Q&A Session

Bill Lenehan: Not really. It’s, I think, really being driven by rates and availability of credit, and that affects, you know, not just all net lease, but all real estate generally.

Rob Stevenson: Okay, so if those are on top of one another, how are you thinking about it today in terms of at the same return, whether or not you do the incremental restaurant asset or non-restaurant asset to diversify the portfolio given the scarcity of capital these days?

Bill Lenehan: Yes, it’s really about scoring the assets Rob, which is a process and you know model that we’ve had in place now for years. And so, you know, we really look at properties and we’re thinking more of this one’s an 80 and this one’s a 74. And the model really builds in our preferences for different building types. And not to get too into the weeds, but there tends to be more prevalence for double net buildings or double net leases in auto service. So if anything, maybe a little bit of preference to stay away from that or ensure that we’ve got a brand new roof.

Rob Stevenson: Okay. And then Jerry, anything that we need to be thinking about in terms of FFO going from third quarter to fourth quarter beyond acquisitions and dispositions, the impact of higher rates and any capital raising you do, anything sticking out as abnormal between either the third or fourth quarter that we need to take into consideration?

Gerald Morgan: No, not really. I think as you highlighted the one item that’s variable, and that is what is the interest rate on the unhedged portion of our debt, which is $80 million of term loans and whatever the revolver balance is. Otherwise, typically the fourth quarter is a fairly normal quarter, “from a G&A perspective”, we don’t have big proxy costs or other things like that. And generally nothing that we see on the horizon with respect to property expenses that would be larger in the fourth quarter.

Rob Stevenson: Okay, thanks guys, appreciate it.

Gerald Morgan: Yes, of course.

Operator: Thank you. Our next question comes from Anthony Paolone from JPMorgan. Anthony, please go ahead.

Anthony Paolone: Yes, thank you. Maybe I’d like to start with just how you’re thinking about where spreads need to be compared to your weighted average cost of capital? Because I know, you know, cap rates are expected to go up, your capital costs have gone up, but just trying to understand, like, if you’re looking at this in terms of a target spread, or just what would get you to do something or make sense?

Bill Lenehan: Yes, you know, we don’t have a specific number that, you know, is in the bullpen of our acquisition group that they know specifically. You know, we’re looking — we’re calculating our cost of capital, which really today is our cost of equity, frankly, because the debt markets are so dislocated. And then comparing how we think about the quality of our portfolio versus what we’re buying. So we don’t get into specifics for competitive reasons, but I think our view is, you know, we have this mental model that we’ve taken most people through of sort of the green zone, yellow zone, and red zone. Our stock is right now, you know, right at the bottom of the yellow zone. It’s gone up a little bit in the last couple days.

So we’re pretty cautious. And that’s a mental model we’ve had, again, since inception. In preparing for this call, I went back and read transcripts from 2016, our first handful of conference calls. And what I would say is our thought process about this business is remarkably similar to where it was then.

Anthony Paolone: Got it, and so just to kind of push a little, just to understand your capital cost and how you’re thinking about it, when you say your equity, are you actually looking at just the inverse of your multiple, like a longer term number and [Indiscernible] cap rate, like what’s most important to you on that front?