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Tanger Factory Outlet Centers Inc  (NYSE:SKT)
Q3 2018 Earnings Conference Call
Nov. 02, 2018, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Cyndi Holt -- Vice President of Investor Relations

Good morning. This is Cyndi Holt, Vice President of Investor Relations. And I would like to welcome you to the Tanger Factory Outlet Centers' Third Quarter Conference Call.

Yesterday, we issued our earnings release as well as our supplemental information packages and our investor presentation. This information is available on our Investor Relations website, investors.tangeroutlets.com.

Please note that during this conference call, some of management comments will be forward-looking statements that are subject to numerous risks and uncertainties and actual results could differ materially from those projected. We direct you to our filings with the Securities and Exchange Commission for a detailed discussion of these risks and uncertainties. During the call, we will also discuss non-GAAP financial measures as defined by SEC Regulation G, including funds from operations or FFO, adjusted funds from operations or AFFO, same-center net operating income and portfolio net operating income. Reconciliations of these non-GAAP measures to the most directly comparable GAAP financial measures are included in our earnings release and in our supplemental information. This call is being reported for rebroadcast for a period of time in the future. As such, it's important to note that management's comments include time sensitive information that may only be accurate as of today's date, November 2nd, 2018.

At this time, all participants are in listen-only mode. Following management's prepared comments, the call will be opened for your questions. We ask you to limit your questions to two, so that all callers will have the opportunity to ask questions. On the call today will be Steven Tanger, Chief Executive Officer, Jim Williams, Executive Vice President and Chief Financial Officer and Thomas McDonough President and Chief Operating Officer.

I will now turn the call over to Steve. Please go ahead, Steve.

Steven Tanger -- Chief Executive Officer

Good morning. Thank you for joining us today on our third quarter earnings call. We continue to execute on these strategic priorities that we have been focused on for a number of quarters. These include driving increased traffic to our centers, filling vacancies with new high quality in-demand tenants and ultimately positioning Tanger for the long-term profitable growth.

We are pleased that our results in the third quarter were ahead of our expectations and reflect rigorous effort of our team along with the benefit of the timing of some operating expenses and the related recovery income. Let me remind you that we typically experienced some variability in NOI quarter-to-quarter due to such factors as store openings, the timing of income and expenses and the impact of events such as a shift in holidays in a seasonably or severe weather, which do not necessarily align year-over-year. Our team has successfully increased occupancy by 80 basis points since the end of the second quarter to 96.4% of our consolidated portfolio. Additionally, sales at our centers are encouraging. On an NOI weighted basis, sales for our consolidated portfolio were $409 per sq. ft. in the trailing 12 months, up a healthy 2.3% from the prior year period. Unfortunately, seven of our centers or 13% of our portfolio were in the path of Hurricane Florence in September. While we are thankful that our employees were safe and that we had no significant damage at our centers, we were impacted beyond just the days the hurricane hit. Due to mandatory evacuations and severe weather in the affected areas, we had centers closed for a cumulative 27 days. This was a slow moving storm with a lot of media buildup, which resulted in a meaningful traffic slowdown leading up to during and after the hurricane. Tourists going into the area canceled their plans. And after the event, it took a while for the local consumers to return. We continued running successful marketing and engagement programs in conjunction with our tenants to help drive traffic and sales at our centers. We also remained diligent in expanding our loyalty program. Tanger club members are our best customers, shopping 50% more frequently and spending an average of 12% more than non-members. Over the past year, new loyalty membership sales are up approximately 12%, increasing our total paid Tanger club memberships to over 1,300,000 people.

Beyond these marketing efforts, the most important thing we can do is to merchandise our centers with the most popular and productive tenants. We have been diligently working to backfill the space that has been vacated over the past few years caused by bankruptcies and store closures. We are more comfortable with our tenant watch-list relative to recent quarters and importantly do not have any big box or department store exposure in our portfolio. We are actively having discussions with our tenant partners about increased open device and are seeing some tenants investing and updating and renovating their stores as they are feeling more confident about the future. Additionally, non-traditional retailers are opening stores and working to take their online presence direct to the consumer where they can try on test and discuss a product real time and walk out that day with the item. Over time and with our favorable occupancy costs, we provide a compelling solution for many online brands looking to add a retail store component to their growth strategy.

While this backdrop is encouraging, we remain cautious in our expectations going into next year. We anticipate that there will still need to be selective adjustments to rent in-terms. We believe it is important longer term that we maintain high occupancy and keep our centers well-merchandised and dynamic. As we have demonstrated through our history, the benefit of our proven approach working with specific tenants to maintain occupancy allows us to be opportunistic in our pursuit of long-term growth. Tanger continues to evolve along with the consumer. This includes tenant mix, amenities at our centers, digital initiatives and marketing programs with our tenants. However, the one thing that we continue to experience through every cycle is that consumers want the best brands at the best prices and that's what Tanger has consistently provided.

Finally, in terms of our balance sheet and capital position, we are in good shape with adequate financial flexibility supported by stable cash flows. Our dividend is well covered with an FFO payout ratio of 56% for the quarter. We had a 94% unencumbered portfolio, maintained solid interest coverage and have no significant debt maturities till 2022. We remain disciplined in our capital allocation decisions with a singular focus on creating shareholder value overtime.

With that I'd like to turn the call now over to Tom McDonough, who will discuss the current sales and leasing environment.

Thomas McDonough -- President and Chief Operating Officer

As, Steve mentioned, we are focused on our leasing activity and filling our centers with high quality productive tenants. To that end, during the trailing 12 months ended September 30th, we had 364 new and renewal leases commence, comprising 1.8 million square feet of GLA. That represents a 21% increase compared to the square footage that commenced in the same period of the prior year. This leasing volume was slightly offset by 17,000 square feet of space that was vacated during the quarter, bringing our year-to-date recapture related to bankruptcies and brandwide restructuring to approximately 123,000 square feet. We are seeing some benefit from our focus on leasing, as we achieved an 80 basis point sequential gain in occupancy, ending the quarter with a consolidated portfolio occupancy rate of 96.4%. While seasonal tenants contributed to the gain this quarter, this improved occupancy demonstrate the ongoing successful execution of our long time strategy of maintaining well-merchandised centers while optimizing revenues and tenancy overtime.

In terms of rent spreads for leases, which commenced in the 12 months ending September 30th, which includes the impact of our remerchandising activities and leases of less than 12 months, rents increased by 6.1% on a straight-line basis and declined slightly on a cash basis compared to the prior year period. The leasing spreads appear to be stabilizing, reflecting what we believe is increasing confidence that our tenants in the long-term growth and profitability of the outlet distribution channel. We continue to renew and retenant with extended terms that as market rents, the shorter-term leases we had previously signed. These leases will commence over the next several quarters. As we've previously discussed, the selective lease is less than 12 months has long been an effective strategy for us. The magnitude of rent adjustments and their impacts on our spreads compared to what we experienced in the first half of this year is moderating and returning to a more normalized historical level.

Traffic for our total portfolio was down 70 basis points for the quarter despite a 6.6% decline in September at the centers impacted by hurricane in both years. Additionally, the traffic we drove to the centers converted to sales growth. Average tenant sales for the consolidated portfolio was 363 dollars per square foot for the 12 months ended September 30th 2018 compared to $381 per square foot. in the comparable prior year period. Same-center tenant sales for the overall portfolio increased 1.1% over the same period.

We believe that the level of bankruptcies and restructurings that we saw in recent years in our portfolio is tapering. In addition, we're encouraged by the tone of discussions with tenants and prospects, but it is important to reiterate that we do not expect rental rate growth to meaningfully rebound next year. As indicated by leases that have been executed for 2019 but not yet commenced, cash spreads appear to be stabilizing at flat to slightly positive. I want to emphasize that based on our historical pace, these leases represent less than a third of what we are also going to commence for the year and the average commence rate might be meaningfully different relative to what we are seeing. Furthermore, as we mentioned, there could be selective lease adjustments, which could impact our NOI next year.

I will now turn the call over to Jim to take you through our financial results and a balance sheet recap.

James Williams -- Executive Vice President and Chief Financial Officer

Third quarter adjusted funds from operations available to common shareholders was $0.63 per share, in line with the third quarter of 2017. Incremental income from our new developments and expansions completed in 2017 and reduced G&A expense were partially offset by same-store NOI decrease of 1% compared to the prior year quarter, driven primarily by 2017 and 2018 store closures and lease modifications. Our balance sheet remained strong. As of September 30th 2018, approximately 94% of the square footage in our consolidated portfolio was not encumbered by mortgages. Only $203 million was outstanding under our unsecured levels of credit, leaving 66% unused capacity or approximately $391 million.

We maintained a substantial interest coverage ratio during the third quarter of 4.5 times. Our net debt to EBITDA improved from the prior quarter. Our floating rate exposure represented 12% of total debt and about 5% of total enterprise value as of September 30th, 2018. The average term to maturity was 5.9 years and the weighted average interest rate for our outstanding debt as of quarter-end was 3.5%.

Last week, we amended and restated our bank term loan, increasing the outstanding balance to $350 million from $325 million, extending maturity to April 2024 from April 2021 and we are seeing the interest rate spread to 90 basis points from 95 basis points over LIBOR. The additional $25 million of proceeds was used to pay down the balances outstanding under our unsecured lines of credit. With the extension now complete, the weighted average term to maturity of our outstanding debt is approximately 6.4 years and we have no significant debt maturities until October of 2022. We continue to generate a strong levels of cash flow and with our plan to increase total shareholder return, we continually evaluate our priority uses of capital. As we mentioned earlier this year, we are focused on reinvesting in our assets, paying the dividend, timely repurchases of common shares and deleveraging the balance sheet while also evaluating potential opportunities for long-term growth.

During the third quarter, we reduced our consolidated debt by little more than $20 million and improved our debt to EBITDA metric to 5.8 times, down from 6 times last quarter. In addition, while we didn't make any share repurchases during the quarter, year-to-date we have repurchased approximately 919,000 shares or $20 million at a weighted average price of $21.74. This leaves approximately $56 million remaining under our $125 million share repurchase authorization. We also continue to demonstrate our commitment to a well covered dividend with a FFO payout ratio of 56% for the quarter. The strength of our balance sheet will allow us to take advantage of opportunities that arise as the cycle turns more positive.

Let me now provide some perspective on our center in Jeffersonville, Ohio where we took a non-cash impairment. Over the last three years, the centers were particularly impacted by bankruptcy filings and brandwide restructurings, which resulted in store closures of 13 tenants. To complement existing tenants like Kate Spade, Polo Ralph Lauren and Nike, we have proactively remerchandised the center in light of a shifting competitive landscape on bringing incentive such as H&M, T.J. Maxx, and Westdown.

We continue to position it to achieve long-term stability. Although the fitter ended the quarter at 97% accuracy, we anticipate that it will take additional time for NOI to recover. Based on these expectations, we brought the asset down with estimated current value. In terms of year-end expectations based on a slightly better than expected third quarter and further visibility into the remainder of the year, we are raising the midpoint of our range of FFO per share for 2018. We now expect FFO per share for the year to be between $2.43 and $2.46. We are also raising the midpoint of our same-center NOI down 1.5% to down 2%. Some of the variability in our expectations for the remainder of the year comes on the potential impact on sales and internal percentage rents from Hurricane Florence and Michael, which is not yet fully known.

I want to remind you that in quarter 100 basis points of NOI equates to approximately $800,000. We are raising our expectation for average occupancy for the year to be between 95.5% and 96%. And in terms of store closures, we are lowering our expectation for the year to a range of 125,000 square feet to 150,000 square feet from the prior range of 150,000 square feet to 175,000 square feet. Additional details distinct in our guidance can be found in the release we issued last night.

This concludes our prepared remarks. I'd now like to open it up for questions. Operator, we will take the first question.

Operator

Thank you. Your first question comes from the line of for Christine McElroy with Citigroup. Please go ahead.

Christine McElroy -- Citigroup -- Analyst

Hi, good morning everyone. Just wanted to thank you for the color on the 2019 executed leases and the additional spread disclosure in the supplemental, it's extremely helpful. Just with regard to the 80 basis points of occupancy growth during Q3, given that that will be straight. Just trying to understand how that translated into actual move-ins in Q3 or should we expect sort of the bulk of that rent commencement in Q4 in terms of flowing through same-store NOI?

James Williams -- Executive Vice President and Chief Financial Officer

Good morning, Christy. And thank you. Before we start, I just want to be sure the record is correct. The average tenant sales for our consolidated portfolio was $383 per square foot for the twelve months ended September 30, 2018, I think inadvertently it was sustained at $363 per square foot. With regard to your question, most of the increase in occupancy will be benefiting both Q4 and the calendar year of 2018.

Christine McElroy -- Citigroup -- Analyst

Okay. And then you talked about it being more of a seasonal uptick or normal seasonal uptick. It seems like the pace of space recapture is moderating. When do you sort of see that that level getting back closer to 97% more of a normal level in terms of how you're thinking about that space recapture rate into 2019?

Thomas McDonough -- President and Chief Operating Officer

We don't really want to give any guidance yet for 2019, but with the rate of bankruptcy continuing to moderate and our aggressive efforts to add terrific tenants to our portfolio, we're fighting to get that level back up to 97%, but we're not there yet.

Christine McElroy -- Citigroup -- Analyst

Okay. And then just lastly on share repurchases, you mentioned it briefly, maybe you can just update us on how you're thinking about buybacks versus other uses of free cash flow here given that you are more active earlier in the year in share repurchases?

Steven Tanger -- Chief Executive Officer

Well, you know us for a long period of time. We're try to be thoughtful in our capital allocation and we have a number of factors to balance; one is the share repurchase, second is the pay down of our existing debt, third is continuing to raise our dividend and then the fourth is continuing to invest in our assets to be sure we have the best presentation possible to our (inaudible) at our properties. We so far this year have repurchased about $20 million of our stock and we've paid down our debt by about $20 million and we've raised our dividend and we will invest somewhere between $35 million and $40 million into our assets. So we will continue to be thoughtful going forward. We have not come up with a 2019 capital allocation strategy yet. I just want to underline that we are very proud and we value our investment grade rating with those agencies. We are very happy that one of the agencies turned positive on retail, but you should consider that we will remain on hold and continue to pull all those levers with the free cash flow we generate.

Christine McElroy -- Citigroup -- Analyst

Thanks, Steve.

Operator

Your next question comes from the line of Craig Mcinnes with Deutsche Bank. Please go ahead. Craig Mcinnes, please unmute your line and go ahead.

Craig Mcinnes -- Deutsche Bank -- Analyst

Sorry about that. Good morning, everyone. Tom echoing Christy's comments. I do appreciate the clarity you're giving on leasing expectations and I just wanted to kind of dig into that a bit more. I think the language last quarter was the expectation to be flat to slightly down on 2019, which is now flat-to-slightly positive. Just curious what changed over the last quarter that's given you confidence this trend is going to continue. And if that expectation is inclusive of yours and Steve's comments on select lease negotiation as well going into next year.

Thomas McDonough -- President and Chief Operating Officer

Good morning and thanks for your compliment on the clarity we are providing. We appreciate that notice. We are turning a little bit more constructive on next year's leasing spreads. We're still, let me say optimistically cautious as the lawyers look at me. We have increased the size of the pool of our executed leases from last quarter from 20% to about a third so far to the end of this quarter to commence next year where this number could possibly change obviously as we execute more leases, but we are very encouraged by the tone of our conversation with our tenants in our prospects.

Craig Mcinnes -- Deutsche Bank -- Analyst

So that is inclusive of what your expectations are then on when you talked about some of these selected negotiations?

Thomas McDonough -- President and Chief Operating Officer

Well, negotiations are not signed leases. So I want to be very clear, what our discussion includes is executed leases.

Craig Mcinnes -- Deutsche Bank -- Analyst

Okay. And then the 30% or a third of leases that you've signed is that typical for this time of the year?

Thomas McDonough -- President and Chief Operating Officer

It's consistent with prior years.

Craig Mcinnes -- Deutsche Bank -- Analyst

Great, thanks. And just one final question. On the impairment charge, is that related to a potential disposition?

Thomas McDonough -- President and Chief Operating Officer

We are studying all the alternatives available to us with that asset.

Craig Mcinnes -- Deutsche Bank -- Analyst

Okay, thank you.

Operator

Your next question comes from the line of Caitlin Burrows with Goldman Sachs. Please go ahead.

Caitlin Burrows -- Goldman Sachs -- Analyst

Hi, good morning. Just maybe on occupancy, which as you've mentioned increased nicely in the quarter. Could you just discuss who those incremental tenants have been and whether there are generally what you guys have in terms of off-price concepts of national brands or if you're doing any expansion into more local and regional retailers?

Steven Tanger -- Chief Executive Officer

Good morning, Caitlin. We are very happy to have opened several great tenants either in the fourth quarter or third quarter or maybe early in the fourth. We recently welcomed Tory Burch in Sevierville, Tennessee; Polo Ralph Lauren has opened a wonderful new store. In several of our centers, we installed our first Carolina Pottery store, which is a 52,000 foot unique tenant in Myrtle Beach, South Carolina. So I think as you can see the traditional outlets tenants are expanding and feeling more comfortable with the long-term prospects of our distribution channel and we also are attracting wonderful existing retailers such as T.J. Maxx, Marshals, HomeGoods, H&M, Forever 21. I know I'm going to get in trouble because I am not mentioning some but we've expanded the reach of the co-tenancy in our centers to give our guests the shopping experience that they want.

Caitlin Burrows -- Goldman Sachs -- Analyst

All right, OK. And then maybe could you just talk about tenant allowances and what you're seeing in terms of what retailers are looking for when they open new stores in your centers now?

Steven Tanger -- Chief Executive Officer

It obviously is dependent upon the tenant. I think the request for assistance are pretty consistent by tenant as it has been in the past couple of years.

Caitlin Burrows -- Goldman Sachs -- Analyst

Okay. And then maybe last one in terms of just average store box size, would you say there is any trend there in terms of increasing or decreasing size and just kind of on the definition does that impact your leasing spread info or is leasing spreads showing just said that irregardless of size just kind of one space and what the new rent is versus the old rent?

Steven Tanger -- Chief Executive Officer

Answering your last question first. The spreads reflect comparable size space with the same tenant. If they change and get larger against smaller, we would adjust the spreads accordingly. You know what, I forgot the other two parts to your question. If you want to tell me again, I'm happy to answer.

Caitlin Burrows -- Goldman Sachs -- Analyst

It was just on that average store size, do you see any trend in terms of getting larger or smaller?

Steven Tanger -- Chief Executive Officer

Again that is dependent upon the tenant. We have some tenants doing so well that they continue to look to expand their footprint and we have some tenants that are still viable exciting brands, but they've decided to narrow the presentation or take out certain categories and product and they would like to rightsize their store. So it's a combination of both. But as you can see overall, as 96.4% occupancy, we're doing just fine.

Caitlin Burrows -- Goldman Sachs -- Analyst

Okay. Thanks for the commentary.

Steven Tanger -- Chief Executive Officer

Thank you.

Operator

Your next question comes from the line of Todd Thomas with KeyBanc Capital Markets. Please go ahead.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Hi thanks, good morning. Just Tom, you mentioned the seasonal tendencies. I was curious what that amounted to in the quarter in terms of occupancy? And then, I'm not sure if that contributed to the big percentage rent increase in the quarter, but maybe you could just comment on that as well and what we should expect in the fourth quarter?

Thomas McDonough -- President and Chief Operating Officer

Well, roughly half of the increase was due to the (inaudible) tenants and that's part of our total slightly elevated from historical levels, which are generally in the 3% to 4% range.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Okay. And in terms of the percentage rent, in terms of what we should think about in the fourth quarter?

Steven Tanger -- Chief Executive Officer

Well, I think Todd, this is Steve. We still have not seen the impact of Hurricane Matthew which came in October and Hurricane Florence, which came in September on our percentage rent number which will be reflected in the fourth quarter and that's why, that's part of our cautious approach to giving you year-end guidance because component part of our NOI is the percentage rent and we haven't seen that flow through yet.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Okay. And then in the comments around the impairment that you took at Jeffersonville, you mentioned the expanded reach that you've had at some of your centers with the addition of like T.J. Maxx and H&M and a few others, but you characterize that leasing as part of the repositioning at Jeffersonville, which caused the impairment. I'm just curious you've remerchandised other centers with those tenants and some other non-factory outlet center tenants. Does that leasing activity have implications for some other centers that are in the portfolio or there's been some similar leasing?

Steven Tanger -- Chief Executive Officer

I don't believe so Todd. We carefully assess each of our properties every quarter. And with regard to Jeffersonville, this is a property we purchased. So the basis was higher and we are thrilled with the tenancy that's signed now and actually opened, but it's going to take a little time for the -- it's going to take a little longer than we had anticipated for the NOI to get back to historical levels. So we've decided it was prudent to take the impairment at this time.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Okay, thank you.

Operator

And your next question comes from the line of Craig Schmidt with Bank of America. Please go ahead.

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

Thank you. Your sales metrics and sales productivity metrics, does that include the seven centers that lost I guess 27 days as well as traffic before and after the event?

Thomas McDonough -- President and Chief Operating Officer

It does, Craig. We don't have any exceptions to our numbers. You can see in our supplement. You have everything including everything.

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

So barring that event that you'd expect your numbers to be somewhat higher.

Thomas McDonough -- President and Chief Operating Officer

I think that's a reasonable conclusion considering we had zero sales during the time of the hurricanes was impacted our properties.

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

Okay, great. And then on your return to tenants, do you happen to know what percent are apparel?

Thomas McDonough -- President and Chief Operating Officer

I could easily get you that number, but I think we can get you an exact number offline, but our leasing still continues to be primarily apparel and footwear and we have some jewelry presentation and some food, but I don't think that our retenanting is different than the historical levels.

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

Great. Okay. And then just I understand the priority here is still filling vacancies, but are you still looking at opportunities that could possibly give you a new outlet center by the end of 2020?

Thomas McDonough -- President and Chief Operating Officer

Yes. We continue to study markets. We have a shadow pipeline. We are ready to move when our tenant partners are ready to invest in new assets. I think everybody would agree there is not much need for additional retail at this time. We have always maintained a very cautious, disciplined approach to new development. We will not buy a single square inch of property and so we are ready to break ground and build a great new center. That discipline requires 60% pre-leasing and all non-appealable permits. I don't see that happening. It's certainly not going to happen. I don't believe in 2019. It's too early for us to even talk about 2020. But yes, we have a shadow pipeline ready to go when our tenants are ready to start expanding again.

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

Great, thank you.

Operator

There are no further questions in the queue.

Steven Tanger -- Chief Executive Officer

I want to thank everybody for joining us today. We look forward to seeing you next week at NAREIT, and have a good day. Good-bye now.

Operator

This concludes today's conference call. You may now disconnect.

Duration: 37 minutes

Call participants:

Cyndi Holt -- Vice President of Investor Relations

Steven Tanger -- Chief Executive Officer

Thomas McDonough -- President and Chief Operating Officer

James Williams -- Executive Vice President and Chief Financial Officer

Christine McElroy -- Citigroup -- Analyst

Craig Mcinnes -- Deutsche Bank -- Analyst

Caitlin Burrows -- Goldman Sachs -- Analyst

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Craig Schmidt -- Bank of America Merrill Lynch -- Analyst

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