Earnings Transcript for AAT - Q1 Fiscal Year 2023

Operator: Good morning, and welcome to the American Assets Trust First Quarter 2023 Earnings Conference Call. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. As a reminder, today's conference call is being recorded. Please note that statements made on this conference call include forward-looking statements based on current expectations, which statements are subject to risks and uncertainties discussed in the company's filings with the SEC. You are cautioned not to place undue reliance on these forward-looking statements as actual events could cause the company's results to differ materially from these forward-looking statements. It is now my pleasure to introduce your host, Mr. Adam Wyll, President and COO for American Assets Trust.

Adam Wyll: Welcome to American Assets Trust First Quarter 2023 Earnings Call. Yesterday afternoon, our earnings release and supplemental information were furnished to the SEC on our Form 8-K. Both are now available on the Investors Section of our website, americanassetstrust.com. With that quick intro, I'll turn the call over to Ernest Rady, our Chairman and CEO, to begin the discussion of our first quarter 2023 results. Ernest.

Ernest Rady: As we are all acutely aware, the market has become quite pessimistic about most public REITs over the past year, particularly those with any significant office exposure. American Assets Trust, along with virtually all of our peers continues to be faced with many macroeconomic headwinds, including volatility in the capital markets, rising interest rates, tech industry layoffs and the disruption caused by regional bank failures. However, a silver lining for us is that because we have been cycle tested many times over our 55-year plus history, we believe we have proven that we are prepared for almost any future scenario we may face, whether it be inflation, recession, depression, expansion or most likely the unexpected. We attribute our resilience to several factors, including the strength of our irreplaceable portfolio and its asset class diversity, our conservative balance sheet and ample liquidity. Our efficient operating platform and our talented people, each of which guides us as we exercise business prudence and discipline in every decision we make. As you know, our thoughtfully assembled portfolio is comprised of a combination of very high-quality office, retail, multifamily and mixed-use properties and desirable high barrier to markets in the path of growth, education, innovation and mass transportation. Since the founding of our company over 55 years ago, we have seen firsthand that asset class diversity makes our portfolio more resistant to volatility as each sector has a different times enjoyed periods of growth and weathered periods of adversity. Adam, Bob and Steve will go into more detail on our various asset segments, financial results and guidance. But first, I want to mention that the Board of Directors has approved and maintained a quarterly dividend of $0.33 per share for the second quarter, which we believe is supported by our financial results and is an expression of our Board's confidence in the embedded growth of our portfolio this year and beyond. The dividend will be paid on June 22nd to shareholders of record on June 8th. Again, on behalf of all of us at American Assets Trust, we thank you for your confidence and continued support in allowing us to manage your company. And in order to express our appreciation to those of you who are able to attend and assist in planning our Hawaii Investor Tour last month, showing our trophy properties in Waikiki Beach Walk, Waikele Centre on the island of Oahu. I'm now going to turn the call back to Adam.

Adam Wyll: We are pleased to report that despite the macroeconomic challenges mentioned by Ernest, we have continued to generate solid operating results from our diversified portfolio of high-quality office, retail and multifamily properties. Our best-in-class retail properties, which reside in supply-constrained intensely populated markets with favorable demographics have remained well leased with high foot traffic and are dominant in their trade areas. Our comparable retail leasing spreads continued their strong trajectory over the past year with a 9.5% increase on a cash basis and 28% increase on a straight-line basis for Q1 deals and a 9.7% increase on a cash basis and 21% increase on a straight-line basis for the trailing four quarters. Additionally, we expect to backfill the remaining 25,000 feet of our former Bed Bath & Beyond space at Alamo Quarry this quarter, which would bring that property to 99% leased. We also have recently signed amendments with Regal Cinema at our Alamo Quarry and Party City at our Gateway Marketplace, each stronger performers in their respective portfolios. Both are pending court approval and successful exits from bankruptcy, which appear on track for later in Q2 or Q3. Meanwhile, our multifamily communities, which reside among strong demographics with fairly low unemployment rates, strong income growth and high homeownership costs post results much better than our expectations in Q1. Despite some softening of rate increases, we saw our San Diego multifamily percentage leased, excluding our RV resort increased from 92% to 94% over the past quarter. And our same-store multifamily portfolio realized same-store cash NOI growth of 13% in Q1 2023 as compared to Q1 2022. Furthermore, in Q1 and San Diego, we saw leases on vacant units rent at an average of approximately 2% over the prior rates, while rates on renewed units increased on average of 11% over prior rents with minimal concessions. Additionally, in San Diego, net effective rents for new multifamily leases are now 30% above pre-COVID levels and 50% higher year-over-year compared to the first quarter of 2019 and 2022, respectively. In Q1 in Portland at our Hassalo on Eighth, we saw vacant units at Hassalo leased at an average of approximately 3% over prior rents, and renewal units leased at an average of approximately 5% over prior rates with minimal concessions. In Portland, net effective rents for new multifamily leases are now 2% above pre-covid levels and 12% higher year-over-year compared to the first quarter of 2019 and 2022, respectively. Briefly on the office utilization front, we continue to see employees gradually increasing the return to the office, particularly within our San Diego portfolio and continuing at our Landmark in San Francisco, but hybrid work and widespread tech layoffs are meaningfully impacting office utilization in Bellevue. Fortunately, we had negligible impact from the collapse of Silicon Valley Bank as we had no bank accounts, investments, loans or leases with Silicon Valley Bank. And just three of our office tenants had letters of credit with Silicon Valley Bank for less than $2.5 million in the aggregate, and each of those have been replaced by a new bank or reaffirmed by First Citizens Bank. We are not aware of any of our tenants finances or operations being materially impacted by regional bank failures at this time. On the development front, we have no specific leasing news to share in La Jolla Commons 3, but we are cautiously optimistic about several active space requirements in UTC that we are participating in the RFP process. And One Beach will likely take more time than anticipated due to prevailing challenges in San Francisco. Finally, in May, keep your eye out for our 2022 sustainability report, which will cover our 2022 operations and highlight our initiatives and commitments across a range of topics, including environmental, social responsibility, corporate governance and human capital. With that, I'll turn the call over to Bob to discuss financial results and updated guidance in more detail.

Robert Barton: Last night, we reported first quarter 2023 FFO per share of $0.66 at first quarter 2023 net income attributable to common stockholders per share of $0.27. First quarter 2023 FFO increased by approximately $0.10 to $0.66 per FFO per share compared to the fourth quarter of '22, primarily from the following three items

Steve Center: At the end of the first quarter, our office portfolio was 88% leased with our same-store portfolio now at 91.4% leased, primarily due to rightsizing at City Center Bellevue as follows

Operator: [Operator Instructions]. Our first question is from Haendel St. Juste of Mizuho.

Haendel St. Juste: Can you comment on foot traffic and physical occupancy on your office assets, how has it trended over the last few quarters? And what have your tenants been communicating with you regarding badge swipes and physical occupancy?

Steve Center: I would say the trend is up. It's clearly up. And our tenants want their people back in the office. And so we want some new office leases for that reason where we amenitize the space, we've amenitized the buildings, and they made the choice that come to our property to take advantage of that so that people would come back to work. Things are trending positively. And even in San Francisco, with Google and Autodesk, both are ramping up the occupancy of the space.

Haendel St. Juste: Just one or two more here. Specific with office, your walls have hung around five years for a couple of quarters now. Is that a function of tenants requesting shorter deals? Or what should we expect that wall number to go looking forward on new leases, what do you guys forecasting on that?

Steve Center: And the weighted average lease term is largely determined by the size of the tenant. But what we are seeing, I mentioned in our comments that we are seeing larger tenants become active. And those larger tenants are doing 10-year deals. We just did a 10-year renewal with one of our existing customers has been with us for 24 years. And I've got another customer that's relocating and expanding at La Jolla Commons into 24,000 feet, and that's a 10-year commitment as well, plus any proposals that we're engaged with in terms of La Jolla Commons 3, are longer-term deals as well. We're seeing tenant step up, even smaller tenants, we just came to terms with a smaller accounting firm that was previously just kicking the can year-over-year. Now they're committing to a 5-year term. Just across the board, we're seeing longer commitments and tenants stepping up.

Haendel St. Juste: Are you targeting a biotech or pharma or anything like that less given recent issues with VC financing?

Steve Center: We're an office player. We do have some life science companies that are tenants of ours that aren't lab uses. We've got several, their headquarters is office space, and they have their labs elsewhere. But it's not a specific target. It's a function of where we are in terms of our location and that industry continuing to grow here.

Operator: The next question is from Michael Manos with Green Street.

Michael Manos: Just quickly, and I know it kind of comes up on most of these calls, but on our numbers, you guys are kind of, call it a double-digit implied cap rate. Just curious as kind of the public market has presented this opportunity in your own stock, how you guys and the Board kind of way share repurchases in this environment?

Ernest Rady: Bob said earlier that our target is to reduce our net debt to EBITDA. We also are a midsized REIT, but on the small side, we'd like to get larger if we could, for the economies of scale. Stock repurchases are really not on our agenda.

Michael Manos: And then one just quick follow-up. Kind of in the local media mileage tax has been proposed in San Diego. Curious if you guys have any insight to that? And then how that may potentially impact both your office, retail and multifamily portfolios?

Ernest Rady: I can answer that personally, and I think it's preposterous and probably won't get passed, but you never know. Government has done things that have surprised us all. And I would be surprised if that passed.

Operator: This concludes our question-and-answer session. I would like to turn the conference back over to Ernest Rady for any closing remarks.

Ernest Rady: Thanks particularly to the management on this call, you're exceptional and your much appreciated and much admired. And for the questions of our investors, we appreciate your interest, and we hope you maintain that interest, and we hope we continue to satisfy you. Thank you all for your participation, and look forward to seeing you soon.

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