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W. P. Carey Inc. is a leading internally-managed net lease REIT that provides long-term sale-leaseback and build-to-suit financing solutions primarily for companies in the U.S. and Europe. At December 31, 2016, the Company had an enterprise value of approximately $10.5 billion. In addition to its owned portfolio of diversified global real estate, W. P. Carey manages a series of non-traded publicly-registered and private investment programs with assets under management of approximately $12.9 billion. Its corporate finance-focused credit and real estate underwriting process is a constant that has been successfully leveraged across a wide variety of industries and property types. Furthermore, its portfolio of long-term leases with creditworthy tenants has an established history of generating stable cash flows, enabling it to deliver consistent and rising dividend income to investors for over four decades.
Director of Institutional Investor Relations
Todd: Hi everybody. Thanks for coming to W.P. Carey's company presentation. My name is Todd Stender, I cover net-lease REITs for Wells Fargo Securities. W.P. Carey is a $6.4 billion market cap net-lease REIT. They're based here in New York City. W.P. Carey is an owner of over 850 properties that are spread across three property types within the single tenant net-lease group, spread over office industry and retail. Company is unique within our coverage universe. They acquire assets for their own balance sheet but also on behalf of the few non-traded REIT funds where it managers close to $10 billion in assets.
Today's format ... I'm going to turn it over to Trevor in a moment here. Trevor is the President and CEO of the company. He's also on the board and following Trevor's opening remarks we'll turn it over to the floor for some Q&A and take it from there. I'll turn it over to you Trevor.
Trevor: Thanks a lot Todd and thanks everybody for being here. I'm going to just adjust my microphone to make sure that I'm heard at the back of the room. We are different, we're one of the largest REITs and certainly one of the larger net-lease REITs. As Todd has mentioned, we have a few things that clearly distinguish us and our business model from some of our peers in the net-lease space. One of those is that we're quite diversified in terms of property type, industry and geography, which we think and have always thought is an important part of the whole value premise.
Net-lease lends itself in particular to a diversification strategy because it's not an operationally intensive asset class. The tenant is responsible for all the operations of the property. You have no cost exposure on that side, on the operating side, and no exposure to inflation either at the local level. Most of our leases however are tied to inflation. As inflation goes up in different sub-markets, we get the benefits of inflation but we don't suffer from cost inflation at the asset level.
Because of that, we've always pursued the diversification strategy because it helps us spread out the risk and it helps us to rotate amongst different opportunity sets as they arise in different property types, different industries and different geographies.
A second way that we are unique is that we have a substantial international presence. We've been leading investors in Europe for a number of years. We established our presence there in 1998 and now we have close to 40 professionals in Europe in two offices. One in Amsterdam and one in London, which gives us full capabilities with respect to acquiring assets and then also importantly, managing the assets as we get to the end of their respective lease terms and things like that.
The third thing that distinguishes us as Todd had mentioned, is that we have a robust investment management platform which actually was the original business of the company dating back to 1973 when we started. We're on our 42nd year now celebrating that anniversary. For a number of years, we operated just as an investment manager, a sponsor of public non-listed funds. We've got a very successful track record doing that. We've had 15 of them come full cycle over a long period of time. Investor performance, net of all fees has been very positive, averaging 10% per year. Again, net of all fees. No full term investor has ever lost money in one of our funds. Because of that, because of that track record and because the brand value that we've accrued over the years, we think that that investment and platform gives us a lot of strategic value and we're committed to try to unlock the value of that over the next few years. Those are the main characteristics. By which you could differentiate us from other net-lease companies that might pursue a more narrow focus, either as to geography or more likely a product type. Many of them are focused strictly on retail. As I said, while we have retail and we like retail, we also have the other property types as well. That's our general overview.
Todd: Let's go to the floor.
Trevor: If you have any questions, we're happy to entertain them.
Speaker 3: Can you just talk about some of the outlook for the net-lease portfolios both with the US and Europe in terms of new investment and what kind of growth expectations one should have in that side of business. Then talk a little about, you mentioned the fund business. How does an investor begin to value the fund business within W.P. Carey?
Trevor: Thank you. Those are both good questions.
Todd: Can you repeat the question?
Trevor: The question was with respect to how we view growth in the net-lease sector and the second question was how an investor who's looking at our company would evaluate or value the investment management portion of our business today. Capture that accurately?
Speaker 3: Mm-hmm (affirmative).
Trevor: With respect to growth, obviously, the best kind of growth from my point of view is internal growth that's generated from rent growth or AFFO growth, net of all expenses of course. For us, to really drive that, you're better off in an environment of higher inflation. I'd say that the last couple of years, where last year our same store growth was around 1.7% — apples to apples, same store growth. Based on rent increases, in an inflationary environment, we would expect to improve upon that because 70% of our leases are CPI-based in some way. Within that, of that 70%, more than half of it is full CPI.
We're actually thinking that notwithstanding the trepidation with which the market views, rises in interest rates. That's something that we typically, and others, associate with inflationary expectations. We're not afraid of interest rate increases because we think that it will drive rent growth. Because it means higher inflation our leases will adjust up by the terms of the contract as inflation grows. But that could be some time, so in the meantime, we're somewhat conservative about what the same store rent growth will be until you do start to see inflation kick in.
The second way that net-lease companies grow as you probably know is that they grow their balance sheets by tapping into the public markets. The public debt markets and the public equity markets and while keeping the leverage ratios constant, you tap into those markets, and add assets to the balance sheet that are accretive so that you're buying things at risk adjusted returns that are more attractive than your cost of capital. Again, that's something that can change from time to time in a volatile environment where it's somewhat difficult to peg what you're exact cost of capital is at any time. Because bond markets might be spiking and equity markets might be up and down. It's a challenge and it's something that we all have to master. A skill that you have to master over time and you have to be patient and wait for the right time to buy your deal. That's essentially how we would grow those two ways. External asset growth and internal growth through the leases themselves.
Now, with respect to the investment management platform, it's a very good and pertinent question and one that we get quite often, we don't provide valuations of what that investment management business is. The analysts who cover our stock typically will take a crack at it. Typically, what's going to happen is they're going to come up with some measure of the EBITDA, Earnings before Interest, Taxes Depreciation and Amortization. Then apply some kind of a multiple to it. It's a little challenging to decide what's the right multiple, what's the appropriate multiple because it can be anywhere from 5 to 15 times or even more. Obviously, we favor the higher end of that range. We think it's very valuable.
Part of our job is educating REIT dedicated investors and others who may not have a feel for valuations and of the investor management business and guide them towards the higher number, because we do think that it adds a lot to the platform. It enhances the business model in many ways. Mostly, over the course of our history, it's enhanced our business model by providing another set of revenue streams that we can rely upon to smooth out any kind of ups and downs that may come about because of lower rental increases or things like that. It's been a very additive revenue stream. It does not distract us from our main business which is running that core net-lease portfolio. What it does is it allows to take advantage of skills that we've developed inside the company to look at other types of real estate products that might be appropriate on the investment management platform.
We can develop new product types and sell it through this retail-oriented channel to a different set of investors. In that way, we're using our G&A and our overhead productively, getting better operating leverage out of our fixed costs and driving revenue growth in that way.
The other thing that we like about the business is that it's a very light on equity requirement. Given a certain margin for that business, it’s almost an unlimited ROE because it doesn't require capital. It doesn't require us to access the capital markets the same way that growing our balance sheet does. That became very important during the financial crisis when many of the public REITs found themselves having to de-lever and tap into the public equity markets at a particularly low point in the cycle which was very dilutive.
What we found is that we had no need to do that because we've always been very conservatively leveraged anyway. We had no looming debt maturities we had to worry about. Yet, we were able to raise other people's money through this retail fund raising channel and then get fee business from investing other people's money. We were able to drive revenues even without issuing dilutive equity. From my point of view, as the steward of the company, the leader of the company that's had this platform throughout its 42-year history, the challenge for us is to make sure that people understand the value of it, even though the traditional REIT dedicated investor might not think first about investing in an investment management business.
Todd: Yes, sir?
Speaker 4: Just to follow up because of the changing FINRA rules. How do you ... how should one think about that today, it will be more clear in four years but were investing today?
Trevor: Thanks. The question is with respect to the impact of the FINRA rules on the investment management business I think and where that would will lead us. Specifically, the FINRA rule is designed to take effect as of April 2016. As of that date, there are new rules about how a customer's investment in a non-traded REIT will be listed on the customer's statement. You'll need to list either the NAV, the net asset value, on the customer's balance, net account balance or net of the cost of the offering. We think that's a positive change. We embraced it and we support it at all along. It's a more transparent approach.
I think that the true impacts won't be felt as you alluded to for another couple years down the road. In April of 2016, you'll have some customers who are surprised by the fact that their broker took a commission from the deal. Then, there will be a lot that already knew that and that have always known that. We prefer to associate with the types of financial advisors who alert their customers to that fact. I think that in that case, we won't be catching our investors off guard.
Of course, from our point of view, our funds that are already under management and Todd had mentioned we have assets under management of $9.5 billion. This has nothing to do with our balance sheet. That's assets under management for which we get fees. Those are funds that are relatively mature at this point. Their NAV's are already at the point where it's really not going to be an issue as of April 2016. The customers in our existing funds are not going to have really a problem that we have to deal with. I think that the challenge is for people who are just now ... for sponsors who are just now raising funds. The challenge is, you are raising a fund now knowing that in April of 2016, you'll need to reveal to the customer what I mentioned — the NAV on the customer statement. I think that the upshot of this is that there may be some surprises in the early going. It may mean that some of the marginal players in the business suffer adverse consequences to that and reduced sales. Those companies that have been responsible about communicating and investing the money, will come out of it looking pretty good and I think we'll be one of them. That's my hope, we’ll then end up being consolidators in the business or at least, will enjoy a stronger market share. Perhaps, though, of a smaller market.
Just to follow on to my comments there, we've always viewed that's space where the name of the game is not, "Who can sell the most shares. Who can raise the most money in the non-traded REIT space?" It's always been our contention that we really only need enough money raised in the non-traded REIT space to match the opportunity set that we actually see. The real risk is raising too much money at one time and then having too much dry powder to invest. From our point of view, a smaller ... a larger share of a smaller market is perfectly appropriate if we're able to match it with the dollar's raised in equilibrium with the investment opportunities. Yes?
Speaker 5: Can you contrast the opportunities for your business in Europe say versus the United States? I guess, there's a different dynamic to deal with on the quantitative easing policy, so that makes me think maybe there's a different opportunity set as well in terms of asset values.
Trevor: Thanks for the question. The question is to contrast our approach in Europe in light of the different stages in the economic cycles in which the two regions find themselves. It's a point that we address a lot because 30% of our portfolio is in Europe. As I said, that's a significant differentiating factor for us. We're pretty excited and have been about the opportunity in Europe for a number of years now. I had mentioned that we'd been there since 1998. There was a period in the post-crisis period where we in fact, were not investing in Europe because we felt it would be prudent to just hold off. At that time, we didn't invest anything.
Then, we began investing it more in earnest and when we began seeing conditions changing on the ground. More recently, there's this divergence between Fed policy and ECB policy, European Central Bank policy that you're referring to. That's caused expectations of a rate increase here in the US obviously and fear that comes associated with that. The opposite in Europe. Nobody is worried that the ECB is suddenly about to stop quantitative easing which they just started. There's no talk of tapering and therefore, no tapered tantrums and things like that. At the same time, the markets there are just coming off the bottom. In terms of the initial yield on properties the cap rates, you still have ... cap rates have not yet compressed yields and not going down. Therefore, prices have not gone up yet, in Europe. We really do think, there's a significant opportunity to take advantage of our deep experience over in Europe and our origination capability, asset management capability, and everything like that. That's why those who have followed our announced acquisition activity in Europe have seen that we have weighted more of our acquisitions towards Europe in the past year or so. I think we'll continue to do that. Part of the thesis there is that European debt markets are operating at such a point where it's just cheaper. To give an example, W.P. Carey issued a euro-bond offering, a 500,000,000 euro-bond offering. Roughly, $600,000,000 of proceeds. Back in January and the coupon was for 8-year debt was 2%. A week later, we issued a US bond offering, $500,000,000, 10-year deal at a coupon of 4%.
All the proceeds that we raised in euros, we can use because we have a business there. For us, that's not only low-cost financing but it's also a perfect hedge because we're generating millions in euro revenues through our long term leases there. Obviously, we want to be able to hedge that and we have office expenses there and whatnot. Having debt in Europe is a good hedge on the back end of the value as well. I'd say that's the real opportunity. Because Europe is just coming off the bottom of the cycle and the initial yield, the cap rates are higher and more attractive. Then debt is lower, you have even wider spreads between cap rate and debt there than you have here in the US. Which as most of you know gotten very competitive, particularly in the net-lease sector over the past couple of years. Sir?
Speaker 6: Can you just give analysis of long term profits, with respect or growth margin or a dividend growth?
Trevor: The question was whether we've given long term targets with respect to dividend growth and which other metrics?
Speaker 6: Basic business growth.
Trevor: Basic business growth. Well, because sometimes visibility on the future is difficult to come by especially with volatile market conditions and things and the different cycles that we're always in. We limit ourselves to annual guidance that we generally release towards the end of one year, at the beginning of the next year. We have issued guidance that can be found in all our disclosures and we did not change our guidance with our most recent earnings release. But those can be found in the disclosures themselves.
Todd: Trevor, I think a meaningful piece of the W.P. Carey story is the transition or the pivot that on-balance sheet investments that currently, so to speak, compete with the CPA funds. The W.P. Carey's non-traded arm at looking at net-leases assets. However, as of really this time next year, that's not going to be the case where the CPA funds are no longer going to be investing in net-lease assets. Which really just leaves the WPC on-balance sheet as the net-lease buyer. Which might clean up the story and create a little bit of multiple expansion. Can you just describe the thought process providing a little more visibility on where WPC is heading without that embedded conflict?
Trevor: Yes, I think that's a good question. As you said Todd, until now, because we're fiduciaries to the investors in our non-traded REITs. We’ve raised the money under the premise that we're going to invest that in net- lease. We've given the first look and every time we look at our new net-lease deal, we give the first look to the managed fund. It's only after the managed fund ... we've priced it through the model of the managed fund and determined that it's not appropriate. Usually because the cost of capital of the managed fund is too high for a given deal. Only then would we put that on the W.P. Carey Inc. balance sheet.
In that case, the shareholders of W.P. Carey Inc. are still benefiting from that purchase because they're getting the fee income associated with having that asset under management. It's a different revenue stream to our REIT shareholders because it's fee instead of rental income. We've always thought that there are ... it's good to have both. What we have found overtime, is that there are investors who are concerned about having the dual model and concerned about having the allocation decision be made between one or the other. What we've decided is that after CPA:18, our most current fund, is fully invested, we're going to remove that conflict so as to make the decision very, very clear that W.P. Carey Inc. will have the first look at all net-lease deals.
That will have not just the advantage of increasing transparency and removing this appearance of a conflict, but it will also help us grow our balance sheet that much faster. Which as I referenced earlier, is a key source of growth for us. I think it will widen out the range of opportunities that W.P. Carey can look at.
Todd: Trevor, you highlighted the debt that W.P. Carey has tapped in denominated in euro and in the dollar. How about on the equity side? You guys did an overnight offering, I believe in the fall.
Trevor: Mm-hmm (affirmative).
Todd: Most recently, you've initiated your first ATM. How do you think about one your cost of equity and two, your use of equity going forward?
Trevor: The ATM program was not something that we did because we have imminent need or any kind of urgent need to raise equity for instance, to de-lever or anything like that. I want to be clear about that. We instituted that just because everybody has one and we wanted one, too. To be honest, through our history, first, we were an investment management company and then we became a REIT in 2012. We've grown significantly. That equity offering that you mentioned back in September was our inaugural equity offering. We had never done a public offering despite being in business for 42 years and being public since 1998, the predecessor company. We wanted to have an inaugural equity offering at that time, it was prudent for us to do so in order to keep our balance sheet in line with our leverage ratios and things. In anticipation of the pipeline that we then closed subsequently.
The ATM is more about just taking advantage of the potential tools that might be available to us. Obviously, the advantages that you issue at a much lower discount. It's much more efficient and you can do it over a period of time. It's not something that we anticipate hitting hard because we have imminent needs for it as I just mentioned. It's just ... I think it's useful for a company like ours to have that, in case we need it and transactions will come up from time to time.
And it's helpful to have the ATM to take them down. To close on those transactions that would be smaller than the average deal that we would do. For instance, we couldn't do a bulk deal using the ATM but it would come in handy if we have deals in the $40-$50,000,000 range and we have the lead time to see. We have visibility on the closing. It's nice to know that we won't have to enter the public markets with the big marketed offering in order to close a deal like that. It's just really useful to have. What was the ... I'm sorry. What was the other part of the question that you [crosstalk 00:24:50].
Todd: No. You nailed it.
Todd: It was just the reflection of how you're going to tap into the equity markets and you answered that. Thank you.
How about the mix, if we can look forward 12 months and just not being specific of course. If you can give us a look inside the pipeline. We've heard a lot from the larger net-lease REITs, looking at more sale-lease backs this year, particularly, as portfolio premiums have largely gone away. Is there a way to give color on how much sale-lease back activity W.P. Carey looks at? How often are you participating in the auction markets?
Trevor: Sure. We look at an awful lot and so we see a wide range of deals. It's safe to say that every major deal that's announced has had us as a participant in the marketing process, in the bidding process, one way or another. Whether we're put in a formal bid or whether we've evaluated the package. We have a pretty good view on the larger deals and the higher profile deals. I think that we've become very cautious in this current environment especially with the volatility in the bond markets. It's very important to know what your cost of debt's going to be when you're under-writing the transactions. If you don't know, you're going to be more conservative in your bid. You're going to leave room in your bid for an interest rate increase that might happen before you get to the closing table.
We're being more cautious. We're hoping that some of the transactions that get signed up will fall out on the way to the closing table because of the volatility in the markets. The reason that we're hopeful of that is that it tends to set in people's minds a re-pricing type environment. It's only when you have that kind of an environment that you can have adjustments in cap rates and get us back to better values. We are value buyers.
It's hard to say where we're going to end up with that. I think that there's going to be some interesting transactions over the next couple of years. Some larger scale op-co prop-co type situations where instead of creating a single prop-co with tremendous tenant concentration risk that might not trade that well in the aftermarket, some corporations will choose to auction off their real estate in smaller portfolios, so that they themselves don't have a single landlord risk either. That can be a problem for a company. They may try to get some value from their companies that way. When portfolios are carved up into more sensible levels and I mean $2-$300,000,000 per package, then I think that could be an interesting way for us to grow our balance sheet too. Provided the pricing is reasonable.
Todd: One of the last questions, by property type, do you have a higher comfort level with where we are in the cycle in sticking with more industrial distribution facilities?. Do you err on the side of retail and maybe layer in office?
Trevor: We've always liked retail. It's just that, it's always been very, very expensive and throughout our history, we found that retail assets tend not to be as critical to the tenant. Since mission criticality has always been one of our themes, at times we've avoided retail for that reason. And then we recognize that there's very, very good quality real estate. Good land underneath, good buildings leased to retail tenants. But then the pricing just gets away from us some time.
We're not willing to pay the premium that you need to pay for retail. Except in Europe where we are active buyers of retail properties because it's harder to build retail in Europe. It's therefore, harder for a company to close its retail down in Europe. Because it's hard for them to relocate elsewhere. There's just much less retail square footage per capita in Europe than there is in the US. We'll continue to look at that in a variety of other things. Did I answer the ...
Todd: Industrial, I think we hear more industrial distribution demand I think. Even from some of the players that play in the 5 to 7-year lease category as well as the 12 plus. What's ... I guess, what's your appetite as cap rates continue to compress in that space?
Trevor: Yes, I think ... we're really typically not players in the 5 to 7-year range. We recognize that the yields are wider. Certainly, the cap rates are wider if you're willing to take the risk of a lease rollover in 5 to 7 years. That's never been our premise. Our premise is to stick with 10 years, 12 years, even 15 and 20 years. So that when we do buy industrial real estate, that's going to be closer at 10 years, we're really looking for rents that are at market or below market. We're looking for properties that we feel very comfortable with. We're going to get other tenants to lease should our tenant leave. I think that the big problem in the reason that the yields might be higher with 5 to 7 years left, is that the rents are above market.
The market is essentially demanding a higher yield because there's more risk that when the lease expires, you're going to have a roll down. I think that's something that we try to avoid wherever we can and price in appropriately. Generally speaking, we're looking for longer term leases. We do find the track of industrial deals for the very reasons that you mentioned. Companies will want to be expanding as the economy improves. We also like actual industrial space where things are made. Because there's very good tenants stickiness in that type of asset. In factory space, with light industrial and things like that. We find that at the end of the lease terms, that tenants like to stay because it's too hard for them to move. We like both those categories.
Todd: Great. Thank you, Trevor. That will do it and thanks everybody for joining us.
Trevor: Thanks everyone.