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Getty Realty (NYSE:GTY)
Q4 2017 Earnings Conference Call
Feb. 28, 2018 4:30 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, everyone, and welcome to the Getty Realty's Earnings Conference Call for the Fourth Quarter and Year End 2017. This call is being recorded. Prior to starting the call, Joshua Dicker, executive vice president, general counsel, and secretary of the company will read a safe harbor statement and provide information about our non-GAAP financial measures. Please go ahead, Mr. Dicker.

Joshua Dicker -- Executive Vice President, General Counsel, and Secretary

Thank you, operator. I would like to thank you all for joining us for Getty Realty's Fourth-Quarter and Year-End Earnings Conference Call. This afternoon the company released its financial results for the quarter and year ended December 31, 2017. 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 2018 guidance and may also include statements made by management in their remarks and in response to questions, including regarding future company operations, future financial performance, and the company's acquisitions, redevelopment 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, 2016, subsequent quarterly reports filed on Form 10-Q, and other 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 the date hereof. 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 AFFO, which was revised at the end of the quarter and year, and our reconciliation of those measures to net earnings.With that, let me turn the call over to Christopher Constant, our chief executive officer.

Christopher Constant -- President and Chief Executive Officer

Thank you, Josh. Good morning, everyone, and welcome to our call for the fourth quarter and year end 2017. With Josh and me on the call today are Mark Olear, our chief operating officer, and Danion Fielding, our chief financial officer. I'll begin today's call by providing an overview of our fourth quarter and year-end 2017 performance, touch on our 2018 strategic objectives, and then I'll pass the call to Mark to discuss our portfolio in more detail and then Danion will discuss our financial results.

Our results of business activities in the fourth quarter capped off what was a strong year all around for the company in 2017. We are pleased our portfolio of properties and roster of tenants grew significantly during the year and, more importantly, we are encouraged that the fundamentals of the convenience and gasoline station sector remain among the healthiest in the entire retail landscape. As we close out 2017 and look ahead to 2018, we remain focused on creating shareholder value by executing each of our stated growth initiatives, including realizing organic growth from our operating assets, enhancing our portfolio through accretive acquisitions, and unlocking embedded value through our selective redevelopments, all of which we believe we've demonstrated throughout 2018.Turning to our results for the quarter, we again produced growth in net earnings, FFO, and AFFO for the quarter as compared to the same period for the prior year. On a per-share basis, which takes into account our capital-raising activities during 2017, our quarterly AFFO per share was $0.42, which was $0.01 per share ahead of our performance for the prior year's quarter.

And for the year-end 2017, we reported AFFO per share of $1.66, which exceeded the high end of our revised 2017 guidance range of $1.64 per share. The strength of that quarter and year stems from our success in executing on growth, both in terms of acquisitions and redevelopment. On the acquisitions front, we invested $214 million to acquire 103 properties during the year in a combination of portfolio and individual transactions. With respect to redevelopment, rent commenced on two redevelopments during 2017, including a new-to-industry convenience and gas location which we delivered in the fourth quarter.

In addition to our recently completed transactions, we have a pipeline of acquisition opportunities and a growing number of redevelopment projects which are scheduled to come online in 2018 and beyond. Utilizing the financial flexibility that we've worked hard to create, we were able to finance our growth in 2017 with a combination of debt and equity, including a long-term fixed-rate debt private placement and measured use of our ATM program. We place a premium on being conservatively leveraged and are committed to maintaining a well-laddered and flexible capital structure as we look to grow the company.Looking ahead, we remain focused on our three-pronged growth platform, consisting of a combination of stable growth supported by asset-management activities in our core net lease portfolio; expanding our portfolio through acquisitions in the convenience, gas, and auto-related sectors; and selective redevelopment projects. We are confident that we will be able to continue to successfully execute on our strategy throughout 2018.

We remain diligent in our underwriting standards as we move forward. As such, we will continue to be focused on acquiring high-quality real estate and partnering with tenants who share our commitment to the growth and evolution of the convenience and gas sector. We believe these are critical components to driving additional shareholder value as we move through 2018 and beyond.With that, I will turn the call over to Mark Olear to discuss our portfolio of investment activities.

Mark Olear -- Executive Vice President and Chief Operating Officer

Thank you, Chris. In terms of our investment activities, we had a very productive year as we added high-quality assets to the portfolio, both including those with gas and convenience uses, as well as properties with potential for alternative use. Substantially all the properties acquired have full-service C stores and competitive gas operations, and many have either in-line or stand-alone QSR offerings, which add to a site's earnings potential. During 2017, Getty's pipeline of potential transactions increased significantly.

For the year we underwrote more than $1.3 billion opportunities which meet our initial screening process, the result of which was the acquisition of 103 properties for the year ended 2017. Our total acquisition volume was approximately $214 million, our weighted average return exceeded 7.3%, and the weighted average initial lease term was 14.4 years. To review a few highlights of our investment activities, for the year we added six new high-quality tenants to the portfolio, including Applegreen, Circle K, Empire Petroleum, and Jiffy Lube, among others, further advancing our goal of diversifying our rental income by additional tenants with strong operations and financial quality. We also added several new geographic areas to our portfolio, chiefly our expansion into both the southeastern and the southwestern United States.

We are now represented in 28 states. Moreover, post our 2017 investment activity, we now have 62% of our rental income coming from the top 25 national MSAs. While the acquisition market continues to be competitive in the convenience and gas sector, we remain disciplined in our underwriting criteria, our pipeline of actionable opportunities remain strong and we are in the process of reviewing and pursuing several additional acquisition opportunities for both single assets and portfolios.Moving to our redevelopment platform, we delivered our third redevelopment project during the quarter. In December, rent commenced for a new-to-industry convenience and gas location leased to Sheetz in central Pennsylvania.

Our total investment in the project was $392,000, and we will generate a return on this investment of more than 20% on an incremental basis. In terms of redevelopment projects, we ended the quarter with 13 signed leases and NOIs, which include nine active projects and four additional projects on properties which are currently included in our net lease portfolio. All these projects are continuing to advance through the redevelopment process. We expect substantially all these projects will be completed over the next one to three years.

In total, we've invested approximately $1.1 million in the 13 redevelopment projects in our pipeline and we expect to have rent commencements at several sites during 2018. On the capital-spending side, we estimate that these 13 projects will require total investment by Getty of $10.5 million and will generate incremental returns to the company in excess of where we could invest these funds in the acquisition market today. For more detailed information on the redevelopment pipeline, please refer to Page 14 of our investor presentation, which can be found on our website. We remain committed to transforming selective sites in our portfolio and look forward to updating everyone as we make progress.

As a result of all of our activity, we ended the year with 890 net lease properties, nine active redevelopment sites, and eight vacant properties. Our weighted average lease term is approximately 11 years, and our overall occupancy excluding our nine active redevelopments remains constant at 99.1%.With that, I'll turn the call over to Danion.

Danion Fielding -- Vice President, Chief Financial Officer, and Treasurer

Thank you, Mark. For the first quarter, our total revenues and revenues from rental properties, which excludes tenant reimbursements and interest on mortgages receivable, were $34 million and $28.2 million respectively, representing increases of 14.4% and 13.7% over the prior year's quarter respectively. The growth was driven primarily by the benefit of our Empire and Applegreen transactions. During the fourth quarter of 2017, our cash operating expenses, consisting of property costs and G&A expenses, increased by $0.3 million quarter over quarter.

In addition, our environmental expense increased by $2.1 million in the quarter. For more information on specific expense, please refer to this afternoon's release. Our FFO for the quarter was $20.2 million, or $0.51 per share, as compared to $17.9 million, or $0.52 per share, for the prior year's quarter. Our AFFO for the quarter was $17.3 million, or $0.43 per share, as compared to $14.5 million, or $0.42 per share, for the prior year's quarter.

It should be noted that beginning in the fourth quarter of 2017, the company revised its definition of AFFO to exclude three additional items-environmental litigation accrual, insurance reimbursement, and legal settlements and judgments-because the company believes that these items are not indicative of its core operating performance. As a result, the company will no longer highlight notable items when discussing the comparability of its AFFO from period to period. For the year ended 2017, our total revenues and revenues from rental properties were $120.2 million and $101.3 million respectively, representing increases of 4.2% and 4.8% over the prior year's result. Again, this growth stems from our 2017 acquisition activities, and we expect the full-year impact of this growth to be felt in 2018.

For the year ended 2017, our cash operating expenses decreased by $1.1 million. Our FFO for the year was $74.6 million, or $2 per share, as compared to $64.2 million, or $1.87 per share, for the prior year. Our AFFO for the year was $52 million, or $1.66 per share, as compared to $57.1 million, or $1.67 per share, for the prior year.Turning to the balance sheet and our capital markets activity, we ended the quarter with $380 million of borrowings, which includes $155 million under our credit agreement and $225 million of long-term fixed-rate debt. Our balance sheet is strong and well-positioned.

Our weighted average borrowing cost is 4.8% and the weighted average maturity of our debt is 3.3 years, with approximately 60% of our debt being fixed-rate. Our debt-to-total capitalization currently stands at approximately 28% and our net debt-to-EBITDA is 3.8 times. In addition, we judiciously utilized our ATM program during the quarter and issued $5 million of capital at an average price of $28.70 per share. For the year, we raised $117.8 million of capital, $104.3 million through our follow-on offerings at $23.15 per share, and $13.5 million through our ATM program at an average price of $27.28 per share.

Our environmental liability ended the quarter at $63.6 million, down $11 million for the year. For the quarter and year ended December 31, 2017, the company's net environmental-remediation spending was approximately $3.3 million and $12.9 million respectively. Finally, we are introducing our 2018 AFFO per-share guidance at a range of $1.68 to $1.74 per share. Our guidance does not assume any acquisition or capital market activities, although it does reflect our expectation that we will continue to execute on our redevelopment, leasing, and disposition activities.

Specific factors which impact our guidance this year include 1) the full-year impact of earnings from the Empire and Applegreen transactions; 2) our expectation that we will forgo rent when we recapture properties for redevelopment; 3) our expectation that our cost of borrowings will increase in 2018 and 4) the full-year impact of the dilution associated with company's 2017 capital-raising activities.With that, I will turn the call back over to Chris.

Christopher Constant -- President and Chief Executive Officer

Thank you. That concludes our prepared remarks. So, let me ask the operator to open the call for questions.

Questions and Answers:

Operator

Thank you. At this time, if you would like to ask a question, please press * followed by the number 1 on your telephone keypad. If you're calling from a speakerphone, please make sure your mute function is off to ensure your signal can reach our equipment. Again, *-1 to ask a question.

We'll go first to Mitch Germain from JMP Securities. Your line is open.

Mitch Germain -- JMP Securities -- Managing Director

Good afternoon. So I recognize your weighted average maturity is just over three years, your lease term 11. Is there a comfort level? Do you want to push that out a little more? How do you think about matching the two up a little more closely?

Christopher Constant -- President and Chief Executive Officer

Yeah, that's a great question. We're certainly mindful of our maturity schedule and the percentage of debt that's floating versus fixed. The floating percentage is elevated this quarter because of the closing of Applegreen inside of the quarter. I think as we look forward, we're certainly evaluating additional balance sheet transactions to reduce our exposure to rates and also extend our debt maturities to more closely align with where our leases are maturing.

Mitch Germain -- JMP Securities -- Managing Director

Got you. So, should we be assuming some sort of private notes offering in the year? Is that contemplated in guidance?

Christopher Constant -- President and Chief Executive Officer

It's not contemplated in the guidance. I'd say right now we're evaluating a few different alternatives for more long-term capital. So I think that's about all we'll get into at this point on the call.

Mitch Germain -- JMP Securities -- Managing Director

I gotcha. OK. And then how do you view liquidity? I say that with regards to your -- what's available today and then kind of factoring in where the pipeline stands, it seems like activity's picking up a bit there.

Christopher Constant -- President and Chief Executive Officer

Yes, sure. We certainly believe sitting here today we have access to capital that we need to achieve our growth plan, both in terms of raising additional data and/or equity. And so, utilizing our ATM program further. On the debt side, we maintain that sort of sub-four times debt-to-EBITDA level on a pro forma basis.

For Applegreen and Empire at year-end we've said publicly that we can operate at higher leverage level, about 4.5 to 5.5 times. With that said, Getty's always been conservative from a leverage standpoint and I don't think that we're planning to deviate from that philosophy. On the ATM side, we plan to continue to use the program where we have opportunities to issue at prices which we find attractive and where there are immediate uses for our capital in terms of growth from the acquisitions pipeline or from the redevelopment portfolio, and we do believe that as we look ahead into 2018, we believe we can execute that into some of our projects that we plan on completing during the year.

Mitch Germain -- JMP Securities -- Managing Director

Got you. And then, you guys -- it sounds like, based upon Mark's comments, you guys had about a 15% capture rate on your acquisitions that you underwrote throughout the year. I'm curious if that is a percentage that is consistent with history or has the competitive environment gotten a bit more challenging?

Christopher Constant -- President and Chief Executive Officer

Yeah, it is really hard to say that there is a particular number, that 15%, plus or minus in various other years. Our portfolio acquisitions generally stem from industry M&A, where we're partnering with an operator who's acquiring an operating business. So, the level of transactions that we have historically reviewed has moved from year to year, and obviously, transactions are competitive and have historically been competitive. So the rate of actually closing on industry M&A has been higher in certain and, quite frankly, lower in others, just given the lumpiness of the M&A in the industry.

The one thing I would add to the comments, though, apart from your question, is I do think that as a company, our growth in the industry is being recognized and we are seeing more opportunities. We continue to be very selective and have a real focus on certain markets and acquiring certain types of real estate. So nothing's changed from an underwriting respect but I do think we are seeing more activity, which we're excited about.

Mitch Germain -- JMP Securities -- Managing Director

And are you seeing these larger -- I guess it was MLPs and some private equity, are you seeing a lot of these deals still in the pipeline?

Christopher Constant -- President and Chief Executive Officer

Considering out of the markets, some of it's a cost-of-capital game. I think that the MLP market has kind of come back a little bit and their cost of capital is maybe less competitive than others. There are certainly private equity and private real estate funds that are very active in this sector that we see quite often and we continue to see other REITs, public and private REITs that like the sector and are often looking at similar assets to the ones we're trying to acquire.

Mitch Germain -- JMP Securities -- Managing Director

Thank you.

Operator

And again, if you'd like to ask a question, please press *1 on your telephone keypad at this time. We'll go next to Anthony Paolone from J.P.Morgan. Your line is open.

Anthony Paolone -- J.P.Morgan -- Executive Director

Yeah, thanks. Just following up on some of the discussion with Mitch. Can you talk about cap rates and sort of what you're seeing out there? And I think you'd mentioned over $1 billion of stuff that you've looked at over the course of 2017. So can you talk also a little bit more about the range of things that you looked at and what that [Inaudible] looked like?

Christopher Constant -- President and Chief Executive Officer

Yeah, let us start with that piece of the question first, Tony. That figure of 1.3 that Mark quoted includes everything from single-tenant lease acquisitions, where we're looking at acquiring the existing triple net lease for assets that met our initial real estate screening -- so obviously there's a ton of one-off net lease activity in the market but it has to meet our initial screen in order to even get to Mark's team in terms of underwriting -- all the way up to some of the larger M&A deals in the sector where we looked at. The Empire deal was north of $100 million. That certainly qualifies as a larger portfolio transaction but other similar transactions in terms of size to the Empire deal, we certainly looked at.

So there's quite a broad range of different types of transactions, both lease acquisitions as well as M&A and [Inaudible] leaseback opportunities that we're trying to generate that we underwrote during the year. In terms of cap rates, what I'd say is, we continue to see a significant amount of capital looking at deals in our asset class, coming from all types of either institutional buyers and/or the 1031 markets. I think that cap rates continue to be aggressive and while there's certainly been a recent spike in rates, and you'd expect to see cap rates moving along with that, I think there is certainly a lag in the market as we've not seen cap rates really slide up to meet that increase in borrowing cost.

Anthony Paolone -- J.P.Morgan -- Executive Director

What would be the range for [Crosstalk]?

Christopher Constant -- President and Chief Executive Officer

Yeah, sorry. The market for credit transactions has been in the mid- to high 6s, so call it six and three-quarters up to seven and three-quarters. The range I've quoted in the past, and I really don't think you've seen a tremendous amount of movement across that yet. Obviously, you'd expect there to be some at some point, but I do think given the size of the assets, the strength of the 1031 market, I think you'll see maybe more of a, more of a delay than you would otherwise expect.

Anthony Paolone -- J.P.Morgan -- Executive Director

And has your acquisition criteria been solely focused on C stores with fuel or gas stations, or have you widened it out a bit to anything else?

Christopher Constant -- President and Chief Executive Officer

We typically lead with convenience and gas. That's the backbone of the company. That's the history of the company which we've certainly widened to look at more auto-related themes. We've looked at and acquired during the year some other auto-related sites, such as the Jiffy Lube, which Mark talked about.

The Applegreen deal included five stand-alone Burger King restaurants. Those are now six properties that are in the portfolio. So, we certainly cast a little bit of a wider net. The car wash sector is one that we've been studying and that we're somewhat familiar with, given that a lot of our C&G locations have car washes on them.

So, we're certainly casting a bit of a wider net but still leading with the core of the convenience and gas business.

Anthony Paolone -- J.P.Morgan -- Executive Director

And then last question. Did you actually give -- I may have missed it when you were talking about the debt and duration in that discussion -- a target net debt-to-EBITDA for the company?

Christopher Constant -- President and Chief Executive Officer

Sure. We've said we're comfortable operating in the 4 1/2-to-5 1/2 range. We were just under 4 on a pro forma basis at year-end. So, I think there's a little room to run on the leverage but the company's always been conservative and I don't think that's something that we anticipate changing.

Anthony Paolone -- J.P.Morgan -- Executive Director

Thank you.

Christopher Constant -- President and Chief Executive Officer

You're welcome.

Operator

And next, we'll go to John Deysher from Pinnacle.

John Deysher -- Pinnacle -- Portfolio Manager/Fund Adviser

Hi. I just have a quick question on the income statement. The other-income number was up substantially, and I was just curious what exactly is embedded in that number.

Christopher Constant -- President and Chief Executive Officer

Yeah, that's a great question. The other-income number this year for the year was $8.5 million. A lot of that was money that we took in from either insurance reimbursements or legal settlements and judgments. If you look at the last page of our earnings release, where there's a reconciliation of net earnings to AFFO, you can see the big swing, the biggest of which was $6.381 million from legal settlements and judgments, and that's the geography on the income statement.

John Deysher -- Pinnacle -- Portfolio Manager/Fund Adviser

OK. So, that's probably not going to stay at those elevated rates going forward?

Christopher Constant -- President and Chief Executive Officer

Those are income streams that are due to individual cases or individual matters that are hard to predict the timing of and, quite frankly, those which are one-off in nature that we don't expect to recur with any sort of frequency or predictability.

John Deysher -- Pinnacle -- Portfolio Manager/Fund Adviser

Great. That's helpful. Thank you.

Operator

And we have no further questions. So at this time, I'd like to turn the call back to Mr. Constant for any further remarks.

Christopher Constant -- President and Chief Executive Officer

Thank you all for joining us for our year-end conference call for the year 2017. We look forward to a productive 2018 and look forward to speaking to everyone again when we report our first quarter in May.

Operator

And that does conclude our call for today. Thank you for your participation. You may now disconnect.

Duration: 28 minutes

Call Participants:

Joshua Dicker -- Executive Vice President, General Counsel, and Secretary

Christopher Constant -- President and Chief Executive Officer

Mark Olear -- Executive Vice President and Chief Operating Officer

Danion Fielding -- Vice President, Chief Financial Officer, and Treasurer

Mitch Germain -- JMP Securities -- Managing Director

Anthony Paolone -- J.P.Morgan -- Executive Director

John Deysher -- Pinnacle -- Portfolio Manager/Fund Adviser

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This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see our Terms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

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