Paramount Group, Inc. (NYSE:PGRE) Q3 2023 Earnings Call Transcript
Paramount Group, Inc. (NYSE:PGRE) Q3 2023 Earnings Call Transcript November 5, 2023
Operator: Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Paramount Group Third Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note that this conference call is being recorded today, November 2, 2023. I will now turn the call over to Tom Hennessy, Vice President of Business Development and Investor Relations. Please go ahead, sir.
Tom Hennessy: Thank you, operator, and good morning, everyone. Before we begin, I would like to point everyone to our third quarter 2023 earnings release and supplemental information which were released yesterday. Both can be found under the heading Financial Results in the Investors section of the Paramount Group website at www.pgre.com. Some of our comments will be forward-looking statements within the meaning of the federal securities laws. Forward-looking statements, which are usually identified by the use of words such as will, expect, should or other similar phrases are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Therefore, you should exercise caution in interpreting and relying on them.
We refer you to our SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial condition. During the call, we will discuss our non-GAAP measures, which we believe can be useful in evaluating the company's operating performance. These measures should not be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP. A reconciliation of these measures to the most directly comparable GAAP measure is available in our third quarter 2023 earnings release and our supplemental information. Hosting the call today, we have Mr. Albert Behler, Chairman, Chief Executive Officer and President of the company; Wilbur Paes, Chief Operating Officer, Chief Financial Officer and Treasurer; and Peter Brindley, Executive Vice President and Head of Real Estate.
Management will provide some opening remarks, and we will then open the call to questions. With that, I will turn the call over to Albert.
Albert Behler: Thank you, Tom, and thank you all for joining us today. Yesterday, we reported core FFO of $0.22 per share for the third quarter, which was in line with consensus estimates. In the quarter, we leased over 298,000 square feet, which was 123% higher than our quarterly average during the first half of the year. This activity was driven by robust leasing in both of our markets, New York and San Francisco. As you may recall, while our leasing results were trailing midpoint of our guidance at the end of the first half of the year, we did not adjust the downward as we believed we would make up lost ground during the third quarter, and that's exactly what we did. Our year-to-date leasing velocity now sits at about 566,000 square feet, putting us squarely at the 750,000 square foot midpoint that we established at the beginning of the year.
Notwithstanding that, we expect to achieve the leasing goal that we set earlier, we do not expect to do the same as it relates to our occupancy goal. We had some unexpected surprises in 2023 in form of the regional bank crisis and a few lease terminations during the year, which has forced us to reduce a robust leased occupancy expectations we hope to achieve. Our new range calls for leased occupancy between 87% and 88.6%. Wilbur will provide further details on our financial results and guidance later. We continued to be in a period of economic uncertainty. While headline inflation is moderating, it is still ahead of the Fed's target. Low unemployment and strong payroll data further complicates this dynamic. Add to this geopolitical issues, and you can see why things continue to remain in flux.
Equity markets have sold off as interest rates have moved higher and while most economists have been wrong thus far about the timing of the recession, I do not believe they are wrong altogether. Higher rates and a higher for longer narrative has and will continue to stress valuations and the dearth of liquidity in the market will compound the problem. That said, we have built the company to withstand economic downturns and this time will be no different. We have a fortress balance sheet with ample liquidity and debt that is non-recourse by design. Our portfolio continues to be leased well above market levels to a roster of blue-chip tenants and we continue to capture more than our fair share of leasing in our markets, as demonstrated by our leasing results.
Turning to our operating businesses. Our New York portfolio has remained stable at 90.4% leased. During the third quarter, we leased almost 185,000 square feet in New York or approximately 106% higher than the quarterly average during the first half of the year. New York has led the way in enforcing in-person work mandates, resulting in increased foot traffic and increased office utilization. Last quarter, I touched upon our highly talked about amenity center at 1301 Sixth Avenue, which will serve all the tenants in the Paramount campus. This 30,000 square foot amenity center is dubbed the Paramount Club and is set to open in the second quarter of 2024. Peter will provide additional color on this, including the impact it has had in our pursuit of inviting companies to join the Paramount campus.
During the third quarter, we leased over 113,000 square feet in San Francisco. Just like in New York, our San Francisco leasing not only eclipsed the quarterly average during the first half of the year by 155%, and it also represents the highest quarterly leasing volume we have had in San Francisco since the fourth quarter of 2021. Leading San Francisco-based companies continue to announce and enforce their return to office plans as concerns mount regarding productivity of remote workers. This has resulted in a steadily improving utilization figures across the San Francisco market and in our own portfolio post Labor Day. This trend, together with the changing political landscape, driven by voter awareness about the challenges facing the city will undoubtedly support improved leasing activity going forward.
Pivoting to the transaction market, activity remains subdued due to elevated interest rates, volatile equity markets and white bid-ask spreads. With no debt financing readily available, limited activity to date has been driven by smaller deals and all cash buyers. To-date, there have been very few high-quality assets brought to market, but there are signs of capitulation in the market. We will remain disciplined in our approach and deploy capital if warranted only in an asset-light approach. In closing, let me emphasize that our approach to business is rooted in a long-term perspective. Our Class A buildings and the coastal gateway markets in which we operate have demonstrated resilience, consistently evolving and growing over decades and numerous economic cycles.
With that, I will turn the call to Peter.
Peter Brindley: Thanks, Albert, and good morning. During the third quarter, we leased approximately 298,000 square feet. Our third quarter leasing activity was balanced relative to our portfolio composition. During the third quarter, we leased approximately 185,000 square feet in New York and approximately 113,000 square feet in San Francisco, including the renewal of San Francisco Health Authority at 300 Mission, one of San Francisco's top 10 largest deals of the year. We continued to execute on our business plan while navigating the many different currents influencing market conditions in both New York and San Francisco. This period of uncertainty has caused many companies to exercise caution when making long-term real estate decisions as reflected in the broader leasing fundamentals in our two markets.
On the other hand, it has also prompted many companies, particularly those with near term lease expirations to think critically about how best to use real estate as a lever to enhance the workplace experience and support a widespread return to the office. This trend has resulted in companies ongoing and ever-increasing desire to prioritize the highest quality assets with stable ownership. Interestingly, it has also resulted in a reduction of competitive supply in our two markets as tenants and brokers alike aim to focus on well located, amenity-rich buildings run by best-in-class, well-capitalized owners, all of which benefits Paramount. We are encouraged by the utilization figures in our portfolio and expect the accelerating return to work trend to result in increased leasing activity as sentiment improves.
At quarter end, our same-store portfolio-wide leased occupancy rate at share was 88.1%, down 150 basis points from last quarter and down 330 basis points year-over-year. The drop in occupancy was largely driven by the known move out of Uber at Market Center. As we look ahead, our remaining lease expirations in 2023 are manageable with 1.3% or approximately 105,000 square feet at share expiring by year-end. Turning to our markets, Midtown's third quarter leasing activity was approximately 2.9 million square feet, excluding renewals, was up 13% quarter-over-quarter, but 16% below the 5-year quarterly average. Availability in Midtown remains elevated at 18.1% and absorption was positive during the third quarter as there were limited space additions coupled with space withdrawals.
Tour activity in our New York portfolio continues to increase as does our pipeline of prospective tenants, most significantly on our vacant space along Sixth Avenue. At 1301 Avenue of the Americas, our market-leading amenity center, Paramount Club is set to open in Q2 2024 and continues to be a difference maker in our pursuit of leading companies. The Paramount Club will be a destination for Paramount tenants throughout our portfolio can collaborate, engage in intellectual exchange, build camaraderie and partake in curated experiences that enrich both their professional and personal lives. Communication regarding the Paramount Club will be powered at Paramount's newly introduced tenant experience app that will offer details regarding the Paramount Club as well as other benefits of being in a Paramount building, including digital access and retailer perks.
Paramount Club membership is exclusive to our tenants and offers expertly appointed dining, wellness, conferencing and entertainment. Needless to say, existing tenants and prospective tenants alike have shown a keen interest in the Paramount Club. Our offering is resonating in the market and is timely, given company's strong desire to deliver an elevated experience to their employees. Our New York portfolio is currently 90.4% leased on a same-store basis at share, down 10 basis points quarter-over-quarter and down 170 basis points year-over-year, largely as a result of the known lease expiration with Credit Agricole at 1301 Avenue of the Americas earlier in the year. During the third quarter, we leased approximately 185,000 square feet at a weighted average term of 6.6 years with an initial rent of approximately $73 per square foot.
Our overall lease expiration profile in New York is manageable with 1.3% or approximately 77,500 square feet at share expiring by year-end. Shifting our focus to San Francisco, leasing activity remains muted. However, we are optimistic given San Francisco remains a hotbed for premier tech talents with high-growth potential. San Francisco-based companies have raised approximately $27 billion in venture capital funding year-to-date, accounting for more than 14% of venture capital investment in the United States and more than half of the venture capital investment in the Bay Area. As a result, venture-backed companies, particularly AI, have contributed more than 1 million square feet towards tenant demand in San Francisco, which is currently 5.2 million square feet and moving closer to San Francisco's historical average of approximately 7 million square feet.
At quarter-end, our San Francisco portfolio was 82% leased on a same-store basis at share, down 520 basis points quarter-over-quarter and down 730 basis points year-over-year driven by the known move out of Uber, which we have partially backfilled with the previously announced Waymo lease. Looking ahead, our San Francisco portfolio has 1.4% or approximately 28,000 square feet at share expiring by year-end. We look forward to updating you on our progress. With that summary, I will turn the call over to Wilbur, who will discuss the financial results.
Wilbur Paes: Thank you, Peter, and good morning, everyone. Yesterday, we reported core FFO of $0.22 per share, which is in line with consensus estimates. Same-store growth in the quarter, as expected, was negative 7.1% on a cash basis and negative 10.3% on a GAAP basis, bringing our year-to-date same-store results to negative 3.9% cash and negative 2.9% GAAP. As highlighted previously, our negative same-store growth this year was driven by the two large known lease expirations in our portfolio, namely Credit Agricole in New York and Uber in San Francisco. During the third quarter, we completed 298,259 square feet of leasing at a weighted average starting rent of $75.65 per square foot and for a weighted average lease term of 6.5 years.
Mark-to-markets on 220,495 square feet of second-generation space was essentially flat, with GAAP mark-to-market at positive 0.5% and cash mark-to-markets at negative 0.4%. Turning to our balance sheet, in late September, we refinanced with the existing lender the debt at 300 Mission, which was scheduled to mature in October. The new $232 million loan has a fixed rate of 4.5% and matures in October 2026. It replaces the previous $273 million loan that bore interest at a fixed rate of 3.65%. Needless to say, this was a terrific outcome for us and our partners. The $41 million paydown, which our share was less than $13 million was funded through existing property cash reserves. Notwithstanding the decline in cash flow from two significant lease expirations this year, the regional bank crises' that affected two of our tenants in clearing our largest tenant.
The pay down of a portion of the debt at 300 Mission and CapEx spend, we have managed to increase our cash flow and liquidity position from year-end, which now sits at $1.217 billion compared to $1.203 billion when we began the year. We have done this through a series of austerity measures in clearing expense management and a dividend reduction, thereby enabling us to maintain our fortress balance sheet. Our $1.217 billion of liquidity is comprised of $467 million of cash and the full $750 million of capacity under our revolving credit facility. Our outstanding debt at quarter end was $3.66 billion at a weighted average interest rate of 3.9% and a weighted average maturity of 3.4 years. 87% of our debt is fixed and has a weighted average interest rate of 3.28%.
The remaining 13% is floating and has a weighted average interest rate of 8.01%. We have no debt maturing for the remainder of 2023 and $478 million at share maturing in 2024, which primarily represents our share of debt at One Market Plaza, which matures in February '24. Turning now to our 2023 guidance. Based on our year-to-date results as well as our outlook for the remainder of the year, we have maintained our core FFO guidance of $0.86 per share by narrowing the range to be between $0.85 and $0.87 per share. We have also maintained the midpoint of our leasing guidance of 750,000 square feet by narrowing the range to be between 650,000 square feet and 850,000 square feet. Our same-store expectations were left unchanged. And as Albert highlighted earlier, our leased occupancy range was lowered to a range between 87% and 88.6%.
With that, operator, please open the lines for questions.
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