Getty Realty Corp. (GTY) Earnings Call Transcript

Good morning, and welcome to Getty Realty's earnings conference call for the second quarter 2023. [Operator Instructions] Joshua Dicker, Executive Vice President, General Counsel and Secretary of the company will read the safe harbor statement and provide information about non-GAAP financial measures. Please go ahead, Mr. Dicker.

Thank you, operator. I would like to thank you all for joining us for Getty Realty's second quarter earnings conference call. Yesterday afternoon, the company released its financial and operating results for the quarter ended June 30, 2023. The Form 8-K and earnings release are available in the Investor Relations section of our website at gettyrealty.com. Certain statements made in the course of this call are not based on historical information and may constitute forward-looking statements. These statements are based on management's current expectations and beliefs and are subject to trends, events and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Examples of forward-looking statements include our 2023 guidance and may also include statements regarding the company's future operations, future financial performance or investment plans and opportunities. We caution you that such statements reflect our best judgment based on factors currently known to us, and that actual events or results could differ materially. I refer you to the company's annual report on Form 10-K for the year ended December 31, 2022, and our subsequent filings made with the SEC for a more detailed discussion of the risks and other factors that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. You should not place undue reliance on forward-looking statements, which reflect our view only as of today. The company undertakes no duty to update any forward-looking statements that may be made in the course of this call. Also, please refer to our earnings release for a discussion of our use of non-GAAP financial measures, including our definition of adjusted funds from operations, or AFFO, and our reconciliation of those measures to net earnings. With that, let me turn the call over to Christopher Constant, our Chief Executive Officer.

Thank you, Josh. Good morning, everyone, and welcome to our earnings call for the second quarter of 2023. Joining us on our call today are Mark Olear, our Chief Operating Officer; and Brian Dickman, our Chief Financial Officer. I will lead off today's call by providing commentary on our financial results and investment activities and provide a perspective on the company's year-to-date accomplishments. As usual, Mark will then take you through our portfolio, and Brian will further discuss our financial results and guidance. In the second quarter, we produced healthy AFFO per share growth of 5.7%, which combined with our first half -- first quarter performance results in first half 2023 earnings growth of a strong 6.7% over the first half of 2022. This growth was driven by our robust investment activity and thoughtful capital markets execution over the past year, which we are particularly pleased with given the uncertain economic environment in which we've been operating. Year-to-date, we have invested more than $163 million, including $50 million in the second quarter and $52.5 million thus far in the third quarter. We were also able to increase our committed investment pipeline net of our aforementioned year-to-date activity to more than $140 million under contract for the development and/or acquisition of convenience stores, auto service centers, express time car washes and QSRs, all of which we expect to fund over the next 9 to 12 months. In addition to driving earnings growth, these investments reflect our continued emphasis on scaling and diversifying our portfolio. I am particularly proud of our investments this year given the choppy transaction market. The team continued to identify high-quality opportunities to acquire our target asset types in top MSAs around the country, while remaining disciplined and true to our rigorous underwriting standards. With respect to diversification, we have increased the percent of our ABR from our newer asset classes thus far in 2023 as more than 85% of our investments year-to-date have been directed to nonconvenient stores. We have also added 8 new tenants to the portfolio this year, all of which are strong operators with plans to grow their businesses, and given our increasing success in finding new investment opportunities to establish relationships, we will also seek to source additional transactions with these new tenants in 2023 and beyond. When we look at our pipeline, we have a strong alignment of interest with our tenants and like the incremental diversity that they bring to our portfolio. On the capital side, our year-to-date capital markets activity has provided us with attractively priced permanent capital that continues to support the [ committed ] investments. We ended the quarter with approximately $120 million of unsettled forward equity, an undrawn revolver and a conservative leverage profile that provides additional flexibility and access to capital. With regard to the health of the convenience store industry, the National Association of Convenience Stores recently published their state of the industry report for 2022. Based on the NACS annual survey data for convenience stores across every region of the United States, last year was another record year for inside-store sales with industry-wide sales growing more than 9% and topping $300 billion for the first time. The NACS survey highlights increases in transaction counts for both gasoline sales and C-store transactions as well as growth in gross profit for fuel, merchandising and food service. Food service, in particular, continues to be a key driver of inside sales. On the expense side, convenience store operators were not immune to significant increases in direct store operating costs with employee-related expenses and credit card fees both rising substantially. Despite these headwinds, the key takeaways from the report is the resilience of operators in the C-store sector who have invested in branding, technology and store operations help overcome these challenges and who continue to drive increased sales and profits. As we move through the balance of 2023, our team remains focused on growing earnings while scaling and diversifying our portfolio. We believe that in this market environment, we benefit from the targeted nature of our investment strategy and the competitive advantages resulting from our sector expertise and the direct relationships we have with operators in our space. Our disciplined approach, which emphasizes owning high-quality real estate in major metro areas and partnering with growing regional and national operators continue to yield attractive acquisition and development funding opportunities. We will continue to carefully underwrite each opportunity's real estate characteristics, site-level operations and tenant credit. Importantly, our conservatively leveraged balance sheet and demonstrated access to capital [ will ] continue to support this investment activity and create additional value for our shareholders. With that, I'll turn the call over to Mark to discuss our portfolio and investment activities.

Thank you, Chris. As of the end of the quarter, our lease portfolio included 1,045 net lease properties and 4 active redevelopment sites. Excluding the active redevelopments, occupancy was 99.6%, and our weighted average lease term was 8.7 years. Our portfolio spans 39 states plus Washington, D.C., with 64% of our annualized base rent coming from top 50 MSAs and 82% coming from the top 100 MSAs. Our rents are well covered with a trailing 12-month tenant rent coverage ratio of 2.7x. Turning to our investment activities. We had another strong quarter, which showed Getty invested $50 million across a number of different property types and attractive MSAs. Highlights of this quarter's investment activities include the acquisition of 3 car wash properties located in diverse markets across the U.S. for $15.1 million, 1 drive-thru quick service restaurant in Louisiana for $2.7 million, 3 under construction car wash properties in Southern California for $6.4 million. As part of this acquisition, we will provide additional funding during the construction period to complete these projects. We also advanced development funding in the amount of $25.7 million, including accrued interest for the construction of new-to-industry carwashes, convenience stores and auto service centers. As part of these funding transactions, we will accrue interests on our investments during the construction phase of the project and acquire these properties via sale-leaseback upon completion and final funding. In the second quarter, the aggregate initial cash yield on our investment activity was approximately 7.2% and the weighted average lease term for acquired properties was 17.2 years. Subsequent to the quarter end, we invested an additional $52.5 million for the acquisition and development of 12 convenience stores and car wash properties in various markets across the U.S. The cumulative result of our investment activity year-to-date is gross investments of $63.2 million at an initial cash yield of 7.2% spread across 4 of our targeted industries. Looking ahead regarding the $140 million of commitments to fund acquisitions and developments that Chris referenced, we expect to fund these transactions in the next 9 to 12 months and average initial yields consistent with our year-to-date activities. We continue to evaluate and underwrite a variety of potential investment opportunities across our target asset classes. Cap rates have expanded approximately 75 basis points on average over the last 18 months with variability depending on asset class and tenant profile. As the market continues to adjust to the changed economic landscape and tighter access to credit, we are pleased that we are sourcing the vast majority of opportunities through our broad network, which includes repeat business with several high-quality tenants and leveraging our reputation and proven ability to perform to create new relationships. We believe we are well positioned to invest accretively as we move through the remainder of 2023. Moving to our redevelopment platform. During the quarter, we invested approximately $1 million in projects, which are in various stages in our pipeline. We completed 1 redevelopment project where rent commenced on a new convenience store in the Austin MSA, which is leased QuikTrip. We invested a total of $1.2 million in the project, which included the acquisition of adjacent land and generated a return on invested capital of 10.5%. We ended the quarter with 4 properties under active redevelopment and other in various stages of feasibility planning for potential to capture from our net lease portfolio and expect to continuously complete projects over the next few years. Turning to our asset management activities for the second quarter, we exited 1 leased property and there were no property dispositions. With that, I will turn the call over to Brian to discuss our financial results.

Thanks, Mark. Good morning, everyone. Last night, we reported AFFO per share of $0.56 for Q2 2023, representing a 5.7% increase over the $0.53 per share we reported in Q2 of 2022. The AFFO and net income for the quarter were $0.52 and $0.26 per share, respectively. Our total revenues were $44.7 million for the second quarter, representing an 8.5% increase over the prior year. Base rental income, which excludes tenant reimbursement and GAAP revenue adjustments, grew 7.6% to $39.6 million. This growth continues to be driven by our acquisition activity and recurring rent escalators in our leases with additional contribution from rent commencements and completed redevelopment projects. On the expense side, G&A costs were $5.9 million in the second quarter as compared to $5.3 million in the second quarter of 2022. The change in G&A was primarily due to increased personnel costs, including noncash stock-based compensation. Total property costs were $4.8 million for the quarter as compared to $5.3 million for the second quarter of 2022. Property operating expenses declined by $400,000 due to reductions in rent expense and reimbursable real estate taxes. Leasing and redevelopment expenses also declined slightly due to reductions in demolition costs for redevelopment projects. Environmental expenses, which are highly variable due to a number of estimates and noncash adjustments were $300,000 in the quarter as compared to a credit of $15.9 million for the second quarter of 2022. As a reminder, the credit in 2022 was due to the removal of previously accrued reserves for unknown environmental liabilities at certain properties. Turning to balance sheet and our capital markets activities. We ended the quarter with $675 million of total debt outstanding, consisting entirely of senior unsecured notes with a weighted average interest rate of 3.9% and a weighted average maturity of 7 years. As of June 30, net debt-to-EBITDA was 4.9x and total debt to total capitalization was 28%, while total indebtedness to total asset value as calculated pursuant to our credit agreement was 35%. Taking into account unsettled forward equity of $120 million, net debt-to-EBITDA would be approximately 4x. Our $300 million revolving credit facility was completely undrawn at quarter end, and our nearest debt maturity is in 2025. Moving to the ATM program. During the quarter, we settled approximately 1 million shares of common stock subject to forward sale agreements for net proceeds of $31.2 million. We also entered into new forward sale agreements for approximately 218,000 shares of common stock, which will generate anticipated gross proceeds of $7.6 million. We currently have a total of 3.7 million shares subject to forward sale agreements, which upon settlement, are anticipated to raise gross proceeds of approximately $120 million. Returning to the $140 million committed investment pipeline, as Chris mentioned, we anticipate funding these transactions from proceeds from our outstanding forward equity agreements as well as our undrawn revolver. Pro forma for these investments in capital activity, we expect our balance sheet to remain well positioned to support continued growth. Leverage is expected to remain in line with our target range of 4.5 to 5.5x net debt-to-EBITDA and we expect to maintain ample capacity under our revolving credit facility. As our investment pipeline evolves, we will continue to evaluate all capital sources to ensure that we're funding transactions in an accretive manner while maintaining our investment grade profile. With respect to our environmental liability, we ended the quarter at $22.9 million, which was a reduction of $238,000 from the end of 2022. Our net environmental remediation spending in the second quarter was approximately $1.2 million. Lastly, we are narrowing our 2023 AFFO per share guidance to a range of $2.23 to $2.24 from our previous range of $2.22 to $2.24. As a reminder, our outlook includes transaction and capital markets activities to date, which does not otherwise assume any potential acquisitions, dispositions or capital market activities for the remainder of the year. Specific factors which continue to impact our guidance include variability with respect to certain operating expenses and deal pursuit costs and approximately $300,000 of anticipated demolition costs for redevelopment projects, which run through property costs on our P&L. With that, I'll ask the operator to open the call for questions.

[Operator Instructions] The first question comes from the line of Joshua Dennerlein with Bank of America.

This is Farrell Granath on behalf of Josh Dennerlein. My question is about specifically your investment pipeline. Considering what you've already announced for closing for Q3, I'm curious if you can make a comment about maybe the pacing for the rest of the year?

Farrell, it was a little bit hard to hear you. I think you're asking about the pipeline, what we expect to deploy the balance of the year?

Yes. Especially considering the pace that has already been announced for Q3.

So we said that the pipeline on a go-forward basis, we expect those transactions to close over the next 9 to 12 months. Some of that pacing is dependent upon in the development funding program, the timing of construction completion and permits and actual closeout of those particular transactions. But that's a forward look over the next 2 to 3 -- 3 to 4 quarters, I would say.

Yes. Farrell, we typically guide when we put out that pipeline and the timing for deployment, the best estimate is usually going to be some kind of straight line deployment. Those that are acquisitions will come out a little bit sooner. And then to Mark's point, that which is development funding will be a little bit later. But I think from a modeling perspective, we generally assume that it will happen relatively evenly throughout that time period.

Next question comes from the line of Todd Thomas from KeyBanc Capital Markets.

First question, you commented that the investment yield on acquisitions was 7.2% in the quarter. It sounds like that's what's anticipated on the committed pipeline moving forward or what's locked in there. Do you see any additional upside in investment yields moving forward as you underwrite new deals? Or do you expect pricing to remain stable at these levels? And then at those price levels, I guess it appears investment activity is picking up a little bit. Can you just talk about the pipeline and volume of deals that you're seeing?

Yes. I would say, with respect to yield, there might be a modest expansion over the balance of the year. I think the movement we referenced and we've seen over the last 12 to 18 months has moderated slightly. That said, within different asset classes, we'll continue to push pricing. So different assets are stickier than others. But I think specific to your question, the yields of that 7.2-ish percent are probably a good way to think about the forward pipeline.

Okay. So 7.2% is the right yield to think about for the committed pipeline. But new deals that you might put under contract, there could be a little bit additional cap rate expansion moving...

Yes. There could be some modest expansion there, but I wouldn't put it in the same pace as we would have the 18-month look-back in that 75 points. There's -- it's going to be much more modest than I think. I think in many of our asset classes, those cap rates are somewhat stabilized.

Okay. And then can you remind us or talk about how the yield that you achieve on development, development funding and properties that you'll acquire at completion, how those yields compare to the pricing on stabilized acquisitions, what the spread looks like? And is there a preference in terms of how you allocate capital between those 2 buckets?

Yes. That's a couple of questions, I guess. So the blended return that we referenced includes obviously, the traditional sale-leaseback deals and development funding deals. Specific to the range within those 2 type of deal structures, we'll see anywhere from roughly 0.25 point premium -- 25 basis point premium on development funding because of the value we offer to it, the forward commitment and some of the timing of the deployment of those funds. There are some collars for deals that go out further than that to protect against market fluctuations. With regard to our preference, they're both good products for us and for our partners. Our tenant partners that are developing is a great source of capital on a forward committed basis for their new-to-industry construction. And over a year look, I would say it's roughly balanced between both products pretty close to evenly across all the investments.

Okay. And then I know it's a small tick down in occupancy, but occupancy across the portfolio decreased another 10 basis points. It was the second straight quarter. And I was just wondering if you could talk about that. And you have a very limited role in the next 2 or 3 years. It's less than 2% of ABR through '24. But just curious what you're seeing and whether you expect any additional occupancy loss or any move-outs or anything of that nature?

Todd, this is Chris. I wouldn't read too much into that. We're talking, I think, literally about 1 property from quarter-to-quarter. As you said, our portfolio is largely leased, very little rollover the next 12 to 24 months. So again, we don't expect that number to move materially in the near term.

The next question comes from the line of Mitch Germain with JMP Securities.

I think you mentioned 85% of investments kind of other assets rather than C-stores. Is the lack of deal activity in the C-store front, is that a function of pricing or competition or inventory? Is there anything to read there?