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Monmouth Real Estate Investment Corporation, founded in 1968, is one of the oldest public equity REITs in the U.S. The Company specializes in single-tenant, net-leased industrial properties, subject to long-term leases, primarily to investment-grade tenants. Monmouth Real Estate is a fully-integrated and self-managed real estate company, whose property portfolio consists of 100 properties containing a total of approximately 16.6 million rentable square feet, geographically diversified across 30 states. In addition, the Company owns a portfolio of REIT securities.
Monmouth Real Estate Investment Corporation
Juniper Business Plaza
3499 Route 9 North, Suite 3-D
Freehold, NJ 07728
Investor Relations Contact
Susan M. Jordan
Paul Adornato: Good morning. My name is Paul Adornato. I'm an analyst with BMO Capital Markets here in New York. We're very pleased to have the team from Monmouth Real Estate presenting this morning. We'll follow the same format, that is, I'll turn it over to management who will make some initial remarks, and then we would welcome your questions. With that, I'd like to turn it over to CEO Mike Landy.
Mike Landy: Thank you Paul. Joining me today on the panel we have Eugene Landy, the Founder of Monmouth, Chairman of the Company and Kevin Miller, Chief Financial Officer. It's great to see everybody here this morning, so thanks for attending our presentation.
Monmouth Real Estate was formed in 1968. We've been a publicly traded REIT since that time, which makes us one of the oldest REITS presenting here at REIT Week. Our focus is a qualitative one. We invest in single tenant, net leased industrial properties, on long term leases to investment-grade tenants. Approximately 80% of our rental income is secured by investment grade tenants, such as Coca-Cola, Anheuser-Busch, Kelloggs’, Caterpillar, International Paper, Home Depot, Jim Beam, Sherwin-Williams, Siemens, United Technologies, and of course, our largest tenant, FedEx. The other 20% of our rental income is derived by very strong tenants as well. Although they are non-rated, they are, in our opinion, investment-grade quality tenants, such as Milwaukee Tool, Ulta Cosmetics, Cracker Barrel, and others. So when it comes to tenant quality, Monmouth Real Estate is the bluest of blue chip REITS.
Our property portfolio continues to perform exceptionally well. We have a current occupancy rate of 97.6%. Our gross leaseable area is now approximately 14 million square feet, consisting of 90 industrial properties geographically diversified across 28 states. As a result of our strong tenant base, Monmouth historically averages over 90% tenant retention, and this year we achieved a 100% tenant retention rate by renewing all six properties containing a total of 780,000 square feet and we were able to generate a 6.3% increase in rents in doing so.
Our property portfolio has a weighted average lease maturity of 7.3 years, providing excellent earnings visibility over the long term and we have a weighted average building age of only 10.3 years, representing the youngest and most state of the art portfolio in the industrial REIT sector.
E-commerce continues to be a really strong driver for industrial space demand. Our most recent acquisition was a 680,000 square foot E-commerce fulfillment center leased to Ulta Cosmetics in Indianapolis. We purchased this brand new, built to suit facility for 37.5 million dollars. Our tenant, Ulta Cosmetics, has made a substantial investment in the E-commerce infrastructure inside this facility, at a cost well in excess of our purchase price. Additionally, packages being shipped from this facility will flow through our FedEx SmartPost building, which is located nearby, and is situated at the Indianapolis International Airport.
This has been a growing trend, a recurring theme if you will, where retailers requiring new omni-channel distribution centers are seeking out locations near our FedEx facilities in order to increase their shipping efficiency. Monmouth has been very successful in realizing these types of synergistic benefits as a result of our vast FedEx Ground network. Needless to say, FedEx has been reporting excellent results due to the continued migration toward online shopping.
As I'm sure everyone in this room is well aware, location is a key factor, a vital factor, in investing in real estate. At Monmouth we invest conceptually. One of the concepts is to invest in business-friendly states. Another concept is that the expanded Panama Canal will result in shifting the global supply chain in a fundamental manner. The recent labor disruptions at the West Coast ports have produced really weak GDP numbers. This has caused manufacturers and transportation companies to rethink their supply chain, and to move to more business-friendly environments and locations that will benefit from the expanded Panama Canal. Given Monmouth's geographic footprint, we are certainly well positioned to benefit from these ongoing changes.
Our total capitalization is now 1.1 billion dollars. As of our most recent quarter end, our debt coverage ratios consisted of 33% net debt to total market cap, fixed charge coverage of 2.3 times, net debt to EDITDA of 6.3 times. We have excellent capacity going forward. Our very strong balance sheet provides us with ample liquidity to fund our pipeline.
In conclusion, we've put together an excellent portfolio of class A properties and class A tenants. Due to the rampant growth in E-commerce, we've recently completed several building expansions for our largest tenant, FedEx. We have several additional building expansions underway. We're very fortunate to have a sizable acquisition pipeline of 2.3 million square feet, consisting of 250 million dollars in built to suit constructions that will help generate additional per-share earnings acretion in the ensuing quarters. Our common stock is currently yielding over 6% and represents, in our opinion, a very compelling, long-term, total return investment.
I'll stop right there and turn it over to Gene for his comments. We look forward to entertaining your questions. Thank you.
Eugene Landy: The first thing I want to point out is what a wonderful economy we have in the United States. We expect growth between two and four percent a year. The amount of industrial space you need in the country is directly related to the gross national product. If you get 4% growth for four years, for five years, that'll be 20% growth. Now just think about that a minute. Over the next five years, we may need 20% more industrial space than we presently have. Where do we get the land? Where do we get the people? Where do we get the roads, the infrastructure? It's an amazing problem, but this country will solve that problem. Of course, where do we get the capital? This great industry, the Real Estate Investment Trust industry, has the capital. We have the capital and the availability to get capital. We've been able to grow the company substantially over the last ten years. We expect even greater growth over the next ten years. The future of Monmouth REIT is sensational.
I want to thank everyone for coming. I want you to keep a perspective on the overall thing that REITS do because what REITS do is the important thing and the people that do it are the important thing, and if you think about that, you'll see that we add a great deal to the economy, and we add a great deal to the growth of the nation.
Paul Adornato: Great. Do we have any questions from the audience? If not, maybe I'll start off. You mentioned Ulta Cosmetics as a new tenant. Maybe you could drill down and describe their business a little bit. How many distribution facilities might they have throughout the country? How important is this facility to their overall US operations?
Mike Landy: Well this 680,000 square foot E-commerce fulfillment center is the first one that they built to exclusively do omni-channel. They have warehouses throughout the country, but now that their E-commerce sales are up 60% year after year, they're building E-commerce fulfillment centers. They have a building like this now going up in Dallas, which will be their second one. We're really excited to have them put this building next to our FedEx SmartPost, which is at the airport. This has been an interesting aspect of having a large FedEx concentration. The fact that our FedEx Ground network is now a magnet for retailers. We're getting a lot of benefits from these locations becoming stronger locations as shopping moves from brick and mortar to online.
Paul Adornato: Great. Maybe you could drill down a little bit and tell us about FedEx. How has their business evolved? What is your exposure to FedEx Ground versus other divisions of FedEx.
Mike Landy: Sure, Paul. We're mostly in FedEx Ground. We have about six million square feet of FedEx properties. I'd say 85% is with FedEx Ground, and I'm including SmartPost in that because SmartPost is a division of FedEx Ground. E-commerce grew this Christmas season from Thanksgiving to Cyber Monday at 25% year over year growth, but it still only represents one out of every ten dollars being spent. There's a huge runway for E-commerce to continue to grow. On this planet, there's over three billion high speed internet users and over 60 trillion individual internet addresses. The users are growing rapidly, the internet IP addresses are growing rapidly. FedEx is at the cusp of being the major artery between brick and mortar and cyberspace. FedEx is growing by leaps and bounds. They now have a division that does reverse logistics because a lot of people order online more than they need, and returns are a big component of online spending. It's hard to imagine FedEx not being a key part of the internet ecosystem for the rest of our lifetime.
Paul Adornato: Any thoughts from the audience? Yes, in the back.
Audience 1: [inaudible 00:11:17]
Mike Landy: I'm going to hand that to our CFO, Kevin Miller. The question is regarding our debt structure. How we look at secured versus unsecured debt. I'll turn it over to Kevin because that's certainly his jurisdiction.
Kevin Miller: Yes, currently we have about $350 million of secured debt compared to about $65 million of unsecured debt. Our secured debt is all fixed rate. Weighted average interest rate is down to 5% now. The way we look at that, is that our new acquisitions, with interest rates being so low right now, we like to lock in that low interest rate, fixed rate over the life of the lease to match the income from the rental stream with the debt, so that we have a fixed rate and level returns. For example, on the Ulta Cosmetics, we locked in on 3.91% on 15 year money with the income generating about a 7% cap rate over the life of the lease, which generated almost a 15% leveled return. We like that.
As far as unsecured debt, which is floating, we understand that is something that the rating industries look at. They like you to have more unsecured debt. What we've been doing in order to achieve that, is as these mortgages on some of the older properties mature, rather than refinance them with secure debt, we've just been paying them off and having those properties unsecured to increase our availability on that unsecured debt. We feel by the next time this year we'll more than double our capacity based on our unencumbered assets currently.
Mike Landy: Just to piggy back on that ... This protracted period of low interest rates has enabled us to take our weighted average interest expense from, not too long ago 6.5%, down to 5%. We've benefited from this environment. As Kevin said, these are fully amortizing loans. As they become free and clear we increase our unencumbered asset pool to grow our unsecured borrowing ability. Kevin recently locked in 3.5% financing for 15 years fully amortizing. Even the inevitable tightening that's coming we’ll still benefit for years to come from this low interest rate environment because we're locking in 15 year money sub 4%. You've got to assume rising rates going forward. It's hard to believe we're living in a period where you have negative short term rates. I think one day we'll look back and say, "did that actually happen?" It's happening and it's going to continue to happen. But if you look at the REIT market as a leading indicator you see that the market is saying it wants higher yielding REITS. Meanwhile, in the private market, industrial cap rates have never been lower. They're compressing as we speak. But our assumption is there will be rising cap rates in the near term.
Paul Adornato: Maybe you could tell us the relationship between the build to suit market and the overall industrial market, especially during this cycle when the general thought is that there are far fewer spec developers out there. How does that translate into your business during this cycle?
Mike Landy: One of the interesting aspects of this downturn was that there wasn't over-building in any of the property types. Usually, a real estate downturn is precipitated by excess supply. That wasn't the case, and especially with industrial it wasn't the case. We had very little excess supply going in, and occupancy rates fell to mid-eighty percent. New construction, which usually is one to two percent of in-place inventory, about 150-250 million square feet of new construction was curtailed dramatically. It was 40, 50, 60 million square feet in new construction over the last six years. Now new construction has risen dramatically, but it's still only 100 million square feet, so well under the norm of about 200 million square feet of new construction.
We're very fortunate that we put together these pipelines of 2, 3, 4 million square feet a year in new build to suit constructions. That's just a result of our relationships with the merchant builders. When you have a 47 year track record, you provide certainty to these merchant builders of execution. You have long term relationships, so you get a certain amount of deal flow that enables us to grow our portfolio.
Another factor about new construction is, distribution now, industrial is the new retail. Industrial used to just put palletized boxes on a forklift into a truck to go to the shopping centers. They do that, but they also have to do individual pick and pack packages to be delivered to your home. So you require a whole new infrastructure, a whole new building. The building has to be bigger, the cube space has to be larger, ceiling height is higher, employee parking is greater, truck courts are bigger, acreage is greater. A lot of the industrial portfolios are still relevant for business to business distribution, but they're obsolete as far as omni-channel.
You have a lot of new demand as industrial continues to acquire retail market share, you're going to have a lot of new industrial construction. Again, a good example is that Ulta Cosmetics facility. We purchased the building for 37.5 million dollars. Ulta has spent over 50 million dollars in the E-commerce infrastructure inside the building. They have drones flying around inside the building taking videos to show all the intricate pick, pack, sort infrastructure. It looks like a water slide theme park inside there. It's totally different from the old racking and palletizing and forklift type distribution center.
Paul Adornato: So a lot of it is automated, but there are still more employees required? How would you describe the technology that they're employing?
Mike Landy: You know, everybody shops online. You're not ordering crates, you're ordering sometimes a single item. Ulta is cosmetics and fragrances. People are ordering that which can't be packaged automated. People have to pick and pack and then put on the automation. You need a lot of employees. A lot of these facilities run 24/7. The capacity during peak season, from November through January for the Christmas season, is a multiple of the capacity of the other 8-9 months of the year. While you may have 50 employee for 8-9 months of the year, at a FedEx facility it will go from 50 to 550 people from November through January. You've got to be ready for peak. A lot of the goods are consumed over Christmas season. Valentine's Day ... 80% of the flowers shipped for the whole year are shipped around Valentine's Day. You have to be ready for that. You have to be able to have peak capacity, not minimal capacity.
Paul Adornato: Great. Any questions? Yes, sir?
Audience 2: In terms of your 2015 renewals, the rate increase that you got, is that 6.3% straight lined, or is that a step change?
Kevin Miller: Yes, the 6% is straight lined. It's the GAAP based, so it includes a straight line.
Audience 2: Over how many years then is that?
Mike Landy: Almost four, 3.8.
Kevin Miller: Right, that's correct, 3.8. On a cash basis it's up 1%, in case you were wondering.
Paul Adornato: You've been talking a lot about the Panama Canal and its impact on supply chain in our country, but some of the industrial peers really don't see too much change to their business based on the Panama Canal. I was wondering if you could drill down and tell us what sort of impact we're seeing. Do we see any specific tenants changing their behaviors already in anticipation?
Mike Landy: I'm going to turn it over to Gene. He's the old merchant marine, and he was at the Panama Canal very recently visiting, so I'll let him go first.
Eugene Landy: It is always amazing to me that people think that things happen over night. They don't look forward two, three, four years. The Canal will not be finished in 2015. It may not be finished in 2016, but when they finish the expansion, there will be ships going through which will have 10, 12, 14, 18 thousand containers on them. When they come into Bayonne, New Jersey and unload there will be sixty miles of containers between the first container that goes off and the last one. They've got to put all these containers somewhere, and we envision California not losing 10% of its business, but 10% of the business it would otherwise have. I think California gets about 60-70% of the imports into this country, so it's a massive swing to the Gulf Coast, to the East coast, and we're not ready for it. That doesn't mean we won't be able to handle it, but it won't be handled overnight.
Already in states with good ports, with 50 foot depths, they're finding that they don't have sites, that the competition for available space is beginning to come, but it's not going to come in 2015, 2016. We plan a company for what our properties are going to be worth ten years from now. As Michael pointed out, we have 14 million square feet. Everybody looks at this FFO as if it was the end of the world, the constant FFO. How much are you going to make in 2015, 2016? The real question is what is this 14 million square feet going to be worth in the year 2025? Now that may not be important to me, but it's very important to long term investors. The numbers that you should take a look at ... We think the total return on our investments are going to be significantly higher than the current returns because the demand for this space is going to be great. These assets will be very difficult to replace. There’s going to be such a great demand for them. The world is growing, the population is growing, the international traffic is growing, and the industrial space is going to be in great demand over the next ten years. You should invest where you think the demand is going to be.
Mike Landy: I'll just piggyback a little bit on that. It used to be 80% of imports and exports flowed through California. That gave the shipping unions a lot of leverage. These disruptions take place periodically. They're able to renegotiate their contracts. This Christmas they held the whole global supply chain hostage. Goods did not make it on to the shelves in a timely manner. Now, with the expanded Panama Canal, it's not even online yet, and less than 70% of imports and exports are flowing through California. As my father is mentioning, you look long term, and why should things be bottlenecked? There were ships sitting out there for weeks. It's incredibly inefficient and expensive for these ships to be held hostage out there.
You're seeing a lot of manufacturers build plants in more business-friendly environments. GE is in Alabama, AirBus is in Alabama, Boeing moved to South Carolina, Bridgestone and Nissan are in Memphis. They're moving to more business-friendly locations. The long shore men will not have the leverage that they've had in the past. The final point I'll make is that it's very backwards looking that the cap rates in California are the lowest in the whole country. Everybody's rushing to own California assets, and some of these industrial assets are trading sub-4% cap rates. Then you go to these markets where they have these inland ports: like Dallas Fort Worth, Memphis, Kansas City; or you can go to the ports themselves: Jacksonville and Savannah, and you're getting a 350 basis point yield premium above California.
It seems like the future demand is going to be in those locations. In our opinion ... I understand, what Paul’s saying a lot of the industrial REITS are downplaying the significance of the Panama Canal. Time will tell. Reality will be the ultimate arbiter here. Don't forget they have huge investments in California, so there's some bias to what they're thinking.
Paul Adornato: Sure. Any questions? Yes?
Audience 3: How much of your growth do you expect in the East Coast gateway cities over the next decade? Especially point of purchase, E-commerce, with so many people wanting to get their goods the next day whether you're in a major city like New York, Philadelphia, Boston or Miami opposed to just near ports.
Eugene Landy: Well when you say percentage growth, I still have to come back to we expect 20% growth in the need for industrial space in five years. It is changing rapidly where that space is going to be. As you know, people are already pointing it out that in areas of New Jersey, there's no land left. People bought buildings on spec, and now it looks like they made a wise choice because you can't get the space. We think there will be an overall growth. Even California will grow. There will the growth in areas like Philadelphia, New York, Baltimore and down to Charleston is going to be above average. As long as demand exceeds supply, prices will rise and values will rise.
Audience 3: I have a question about the ... We talked a little bit about the cap rates and cap rates revised a little bit, but not in a linear fashion. As interest rates rise, the cap rates aren't just going to go up point for point. With the demand you're mentioning, I think cap rates may still be compressed or lowered for the product type that you're looking at and you're invested in. Do you think that cap rates will go up? I think they're going to go up less than they think.
Mike Landy: Paul has asked that question on our earnings call periodically. The key to your question is the spread. Cap rates could go up or down. What do you think the spread is over your interest cost, and what do you think the potential is for NOI growth as well? Because cap rates could go up and property value could actually increase if NOI is growing at a higher rate.
The spreads have been tremendous for quite some time. We're happy with the 200 basis point spread. We're investing at, let's say, six and borrowing at four. Lately, we've been investing at seven and borrowing at sub-four. Getting over 300 basis point spreads, and that's the 15-16% levered return on equity Kevin was talking about. It's highly acretive for us to get a 15, 16% levered return on equity on a long term lease to investment grade tenant, brand new built to suit property is unprecedented. In real estate, the norm is a 10-12% return, so 15-16% and the quality of earnings ... We've got to focus on the quality of earnings ... The tide went out in 2008, 2009 REIT dividends were decimated. Because of the quality of our earnings, our occupancy and earnings were strong throughout, our dividend was maintained throughout, so you can't forget the quality of earnings that Monmouth produces, and yet has a dividend yielding over 200 basis points higher than the average REIT yield.
But out sense in bidding on new properties, even though if you look at the IndCor portfolio transaction, and you look at the KTR transaction, those were ... It's a feeding frenzy out there ... and those were sub-six percent cap rates. Stabilized they're hoping to get 5.5%. That's assuming great things happen. That's kind of like in 2007. There were a lot of really aggressive assumptions going on into the analysis. We're conservative, and the stuff we're bidding on is at increasing cap rates, not decreasing cap rates.
Kevin Miller: I just wanted to add one thing just about the interest rate risk of the interest rate rising. We've minimized that or, mitigated that somewhat on the 248 million dollar pipeline that we have. We've actually locked in about 120 million of that with about 78 million dollars of loans. We've locked four out of the nine at interest rates at 15 year money at 3.69%. Based on the cap rates they should generate a levered return of about 15.5%. Some of the pipeline has been locked in to mitigate that risk that cap rates won't rise with interest rates.
Paul Adornato: Yes, Bill?
Bill: With your expectation that interest rates will rise, will that change your view point on the preferred stock[inaudible 00:30:07] strategy on the balance sheet?
Eugene Landy: Not really. We maintained a REIT stock portfolio, which I break into two parts: common stock and preferred. Common, we look, as a proxy for direct property investment. The preferred is there for liquidity, and it has performed amazingly well. Even in this market it's held its value. We earn 7% on cash balances we would have to hold otherwise in another form. So we're very happy with the REIT portfolio, including the preferred portfolio. It is becoming a smaller part of Monmouth REIT because Monmouth REIT is a one billion, three hundred million dollar entity today, and what do we have in preferred?
Mike Landy: We have about 20 million ...
Eugene Landy: 20 million dollars and one billion, 300 million in portfolio. We like it because its liquidity, and we're able to do what other REITS are not doing. We're always happy about that. If you do what everybody else is doing, why do you expect different results? You have to do some things differently if you want superior results.
Paul Adornato: Thanks so much for a great discussion. Thank you.