Gladstone Commercial Corporation (NASDAQ:GOOD) Q3 2023 Earnings Call Transcript

Gladstone Commercial Corporation (NASDAQ:GOOD) Q3 2023 Earnings Call Transcript November 7, 2023

Operator: Greetings, and welcome to the Gladstone Commercial Corporation Third Quarter Earnings Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Gladstone, Chief Executive Officer. Please proceed, sir.

David Gladstone: Thank you so much for that nice introduction, and thanks to all of you for calling in. We enjoy this time we have with you on the phone and wish we had more time to talk with you. Now, we’ll first hear from Michael LiCalsi, the General Counsel and Secretary, who gives us good legal and regulatory information. So, Michael, go ahead.

An aerial view of a REIT operated commercial building.

Michael LiCalsi: Thanks, David. Good morning, everybody. Today's report may include forward-looking statements under the Securities Act of 1933 and the Securities Exchange Act of 1934, including those regarding our future performance. These forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. Many factors may cause our actual results to be materially different from any future results expressed or implied by these forward-looking statements, including all risk factors in our forms 10-Q, 10-K, and other documents we file with the SEC. You can find those on Investors page of our website, gladstonecommercial.com, on the SEC's website, which is www.sec.gov.

Now, we undertake no obligation to publicly update or revise any of these forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by law. Today, we’ll discuss FFO, which is funds from operations. It is a non-GAAP accounting term defined as net income excluding the gains or losses from the sale of real estate and any impairment losses on property, plus depreciation and amortization of real estate assets. We'll also discuss core FFO, which are generally FFO adjusted for certain other non-recurring revenues and expenses. We believe these metrics are a better indication of our operating results and allow better comparability of our period-over-period performance. Please go to our website, once again, gladstonecommercial.com, sign up for our email notification service.

You can also find us on Facebook, keyword The Gladstone Companies, and Twitter, and that’s @gladstonecomps. Today's call is simply an overview of our results, so we ask that you review our press release and Form 10-Q, both issued yesterday, for more detailed information. With that, I'll turn it over to Gladstone Commercial's President, Buzz Cooper.

Buzz Cooper: Thank you, Michael. Thank you all for calling in. Today, we will discuss our operations and topics that are top of mind. Before discussing portfolio developments, I would like to briefly highlight the broader economic backdrop in which we operate In July 2023, the Fed raised rates by 25 basis points, raising the target policy rate to its highest level in 22 years. The impacts of the Fed's policies are becoming more pronounced in the real estate world, with new construction starts across all asset classes slowing significantly. The office market continues to feel the impact of work from home dynamic, while, despite a slight slowing in rent absorption, the industrial market continues to outperform, which is driven primarily by e-commerce demand and reshoring initiatives.

Uncertainty in geopolitics, capital markets, and Fed policies, continue contributing to volatile real estate markets today. Despite this uncertainty, we are sticking to our core strategies, divesting non-core office assets, acquiring mission-critical industrial assets in the path of growth markets, and diligently underwriting tenants credits. By focusing on these strategies, we believe we position our portfolio for growth and outperformance. With that, I would like to highlight a few portfolio developments for the third quarter. First, as of September 30th, our industrial concentration as a percent of annual straight-line rent increased to 59%, a strategy we initiated and have stated since before 2019. We acquired 100,000 square foot industrial manufacturing distribution facility in Cedar Hill, Texas, for $9.1 million in a 20-year sale leaseback transaction at a GAAP cap rate of 10.1%.

We acquired a 7,714 square foot medical property in Burleson, Texas, with a 10-year lease in place. We sold three office assets in Pittsburgh, Pennsylvania, Eatontown, New Jersey, and Taylorsville, Utah, for a combined $19 million in three separate transactions. We extended two leases on our Wilmington, North Carolina industrial asset, and New Albany, Ohio, office property. The new leases resulted in term extensions through 2037 and 2042, respectively, and straight-line rent increases. During the quarter, our asset management team grew same-store revenues by 5.4% Q3 2022 to Q3 2023. Subsequent to the end of the quarter, we acquired a 69,920 square foot industrial manufacturing distribution facility in Allentown, Pennsylvania, for $7.8 million in a 20-year sale leaseback transaction at a GAAP cap rate of 9.2%.

Again, subsequent to the end of the quarter, we also acquired a 67,709 square foot industrial manufacturing distribution facility in Indianapolis, Indiana, for $4.5 million in a 20-year sale leaseback transaction at a GAAP cap rate of 10.8%. These developments are all consistent with our outlined strategy and our team continues to create value through the repositioning and sustained disposition of our legacy office assets. Year-to-date, we have sold six office assets and executed new leases or extensions at an additional five office assets. The combined GAAP cap rate on new acquisitions during the third quarter was 9.54%, and the disposition cap rate on stabilized office sales was 8.23%, resulting in 130 basis point increase in yield. This capital recycling is highly accretive to the portfolio in the short term, and better positions the portfolio in the long term.

Another example of the strength of our portfolio, we were able to generate a same-store GAAP rent increase of 38% at our Fort Lauderdale office asset by executing a full building lease. This was a tremendous outcome for our shareholders, and allows us to be strategic with our long-term plans for that asset. Since 2019, our industrial concentration as percentage of annualized straight-line rent has increased from 32% 59%. Furthermore, all industrial acquisitions are mission-critical to quality tenants in well-located growing MSA. Our new acquisitions are all poised to benefit from reshoring initiatives as corporations try to insulate themselves from geopolitical tensions to bring their manufacturing operations back to the United States. I would also like to point out that the company has collected 100% of rents since the beginning of year.

Going forward, we plan to continue targeting industrial assets, particularly leveraging our experience in negotiating acquisitions for sale leaseback transactions. We appreciate these transactions as opportunities to negotiate leases that are mutually favorable for both the buyer and the seller, and utilizing our tenant underwriting skills. We will always evaluate third party transactions as well, with a goal of further increasing our industrial concentration in the next six to 12 months. As of the end of the quarter, our pipeline consists of $366 million of opportunities. $45 million were in the LOI stage, with the remainder under initial review. While the bid-ask spread between buyer and sellers narrowed somewhat in the third quarter, we expect to see more opportunities at attractive yields in the new year as seller expectations normalize.

I'll now turn the call over to Gary Gerson, our CFO, to review our financial results for the quarter and our liquidity position. Gary?

Gary Gerson: Thank you, Buzz. I'll start my remarks regarding our financial results this morning by reviewing our operating results for the third quarter of 2023. All per share numbers referenced are based on fully diluted weighted average common shares. FFO and core FFO per share available to common stockholders were $0.33 and $0.34 per share for the quarter, respectively. FFO and core FFO available to common stockholders during the third quarter of 2022 were $0.43 and $0.44 per share, respectively. FFO and core FFO For the nine months ended September 30, were $1.10 and $1.11, respectively. FFO and core FFO for the same period in 2022 were $1.21 and $1.22 per share, respectively. Core FFO was affected this quarter by one-time expenses related to property distribution, professional fees, and increased interest costs.

FFO was further affected by derivative maturities and defeasance costs. Our same-store rent in the first three quarters of 2023 increased by 5.4% over the same period in 2022. This was due to a one-time accelerated rental and increased recovery revenues. Our third quarter results reflected total operating revenues of $36.5 million, with operating expenses of $29.6 million, as compared to operating revenues of $39.8 million, and operating expenses of $37.2 million for the same period in 2022. Operating expenses were lower in this period, mainly due to $6.8 million of impairment charges taken in 2023 versus $10.72 million taken in the same period in 2022, waiver of the incentive fee in 2023, and reduced depreciation expense in 2023 due to revisions related to tenant-funded improvement assets also resulted in lower operating costs.

Looking to our debt profile, 41.6% is fixed rate, 49% is hedged floating rate, and 9.4% is floating rate, which is the amount drawn on our revolving credit facility. As of September 30, our effective average SOFR rate was 5.31%. Our outstanding bank term loans are hedged with $310 million of interest rate swaps and the remainder with interest caps. We continue to monitor interest rates very closely and update our hedging strategy as needed. As of today, our 2023 and 2024 loan maturities are manageable. We have no further maturities in 2023, and $19.6 million coming due in 2024. As of the end of the quarter, we had $70.95 million of revolver borrowings outstanding. We had no activity this quarter in issuing equity through our at-the-market or ATM program.

We received net proceeds of $900,000 from sales of our Series F preferred stock. We continue to manage our equity activity to ensure that we have sufficient liquidity for upcoming capital requirements and new acquisitions. As of today, we have approximately $6 million in cash and $43.6 million of availability under our line of credit. We encourage you to also review our quarterly financial supplement posted on our website, which provides more detailed financial and portfolio information for the quarter. Our common stock dividend is $0.30 per share per quarter or $1.20 per year. Our common stock closed yesterday at $12.53 per share, with a yield of 9.58%. And now, I'll turn the program back to David.

David Gladstone: Wonderful, Gary, good report. Good one from Buzz and Michael too. The team has performed very well and reacted admirably, I'd have to say, to the various challenges presented by the lasting impact of much higher interest rates, which were always very difficult for real estate companies. Overall, though, very nice quarter, and the company's doing well. You heard a lot today and in summary, during the third quarter, we acquired two industrial facilities. We sold three non-core properties. All of them are office buildings, so you can see we're continuing to get out of the business of renting office space. We also renewed or leased two of our properties. Subsequent to the end of the quarter, we acquired one industrial facility as well.

The commercial team is growing the real estate we own at a good pace, and the team's doing a great job of managing the properties we own, especially during these times with these very high interest rates. Our team of strong professionals continues to pursue potential quality properties on the list of acquisitions they're reviewing. Acquisition team sees a little pickup in opportunities for us. So, I'm going to stop at this point in time and have the operator come on and get some questions from the people who are on the phone.

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