Greetings. Welcome to the Regency Centers Corporation third quarter 2017 earnings conference call. At this time, all participants are on a listen-only mode. A question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Laura Clark, Vice President, Capital Markets. Thank you. You may begin.
Good morning. Welcome to Regency's third quarter 2017 earnings conference call. Joining me today are Hap Stein, our Chairman and CEO, Lisa Palmer, our President and CFO, Mac Chandler, EVP of Investments, Jim Thompson, EVP of Operations, Mike Mas, Managing Director of Finance, and Chris Leavitt, SVP and Treasurer. I would like to begin by stating that we may discuss forward-looking statements on this call. Such statements involve risk and uncertainties. Actual future performance, outcomes, and results may differ materially from those expressed in forward-looking statements. Please refer to our filings with the SEC, which identify important risk factors that could cause actual results to differ from those contained in forward-looking statements. On today's call, we will also reference certain non-GAAP financial measures.
We've provided a reconciliation of these measures to their comparable GAAP measures in our earnings release and financial supplement, which can be found on our investor relations website at regencycenters.com. Lastly, we will be hosting an investor day on January 11th in New York. Invitations with additional details are forthcoming. We look forward to seeing you there. I will now turn the call over to Hap.
Thanks, Laura. Good morning, everyone. Thank you for joining us. We are gratified to see that even with a more challenging retail environment, Regency's portfolio continues to perform well with leasing levels over 96% and year-to-date Same-Property Net Operating Income growth of 4%. Evidence that Regency's well-merchandised shopping centers, located in trade areas with substantial buying power, are positioned to attract better retailers, which are actively but selectively expanding their bricks-and-mortar footprints. In the ever-changing world of retail, it remains apparent that a well-located physical presence will continue to be critical to efficiently service customers. Following the close of Amazon's acquisitions of Whole Foods, Whole Foods is re-engaged and actively expanding again. We believe this is a validation by the world's preeminent online platform that bricks-and-mortar is a critical component to a retailer's success.
The winning grocers, retailers, restaurants, and service providers want to be located with other better operators in centers conveniently located in neighborhood and communities with strong purchasing power. While certainly not immune to accelerated store closures and the more deliberate manner tenants are expanding, we remain extremely confident in Regency's ability to sustain growth in Same-Property NOI, earnings, NAV, and shareholder value at or near the top of our peer group as we benefit from the following. First, owning a high-quality portfolio distinguished by trade areas with superior demographics and barriers to entry, highly productive grocers with average sales of $650 per square foot, relevant merchandising and placemaking, and a necessity, service, convenience, and value focus. Second, a conservative balance sheet that will be a critically important advantage in either allowing us to profit from compelling investment opportunities or endure challenging economic and financial conditions.
Most important of all, Regency's exceptional and deep team, guided by our special culture, coupled with their value-add asset management, development, and redevelopment capabilities. Before I turn the call over to Jim, I want to let you know how fortunate we are that our properties, and especially our people, fared relatively well in hurricanes Harvey and Irma, and how much we appreciate their extraordinary efforts that enabled us to keep operating and to recover so quickly. Jim?
Thank you, Hap, and good morning. As Hap indicated, in spite of store closures that are garnering headlines and a more deliberate pace of new store openings, our portfolio continues to perform well as retailer demand for top-quality space remains healthy. In the third quarter, Same-Property percent leased increased 20 basis points sequentially to 96.1%. The majority of this growth came from shop tenants, where we experienced a 40 basis point increase in occupancy and are at 92.5% leased. New rent spreads during the quarter were over 17%. We continue to have great success negotiating embedded rent steps in our new leasing transactions. Almost all new shop leases include annual rent steps averaging 2.5%. Tenant improvements and landlord work as a percent of average rent continued to be in line with prior years.
While move-outs remain at historically low levels, we are certainly aware of the potential for future store closures and are monitoring tenant performance and health. As you know, we have been in a heightened retail bankruptcy environment for nearly three years. During this time, Regency's portfolio has continued to outperform, posting Same-Property NOI growth in excess of 3.5% with occupancy levels exceeding 96%. Our exposure to tenant bankruptcies and store closures has been minimal, and when we have received spaces back, we've had success in re-leasing to better operators at higher rents.
We have leased or are in lease negotiation for nearly all of the spaces returned to us following bankruptcy over the past two years. This year alone, out of our 9,000-plus tenants, we have only 21 store closures expected from BK. While we're closely monitoring trends and have ongoing communication with our top retailers, our track record demonstrates the portfolio's ability to withstand and succeed in this ever-evolving and challenging retail environment. I will now turn the call over to Mac.
Good morning, everyone. We continue to make excellent progress on developments and redevelopments, which are growing NOI and NAV and enhancing the quality of our portfolio. Our in-process projects are performing well and attracting strong retailer demand, as evidenced by gains in percent leased. For example, The Village at Tustin Legacy in Orange County is 97% leased and committed. The majority of our tenants are now open, including Stater Bros. and CVS, both of which reported strong grand openings. In addition, our two Whole Foods projects in the Northeast, as well as our Wegmans project in Metro D.C., are approaching 90% leased and committed. At Serramonte Center in the Bay Area, our 250,000 square foot expansion is substantially complete. All six of our new junior anchors have opened, traffic is up, and the overall center is performing well.
Subsequent to quarter end, we started Midtown East, a Wegmans-anchored ground-up development in the affluent Midtown neighborhood of Raleigh. Midtown East will be Wegmans' first store in the state of North Carolina. Regency's first-class team continues to source compelling development opportunities in line with expectations. Although the development landscape remains challenging, our industry-leading platform is well positioned to create value from both new development as well as redevelopment opportunities within our portfolio. We look forward to discussing future development and redevelopment opportunities in more detail at our investor day. Moving to dispositions and acquisitions, we are executing on our plan to sell 1%-2% of our assets annually. Through October, we have closed approximately $45 million of properties and anticipate closing on an additional $180 million by early 2018.
Looking back, we have been very successful implementing capital recycling to further enhance the quality of our portfolio by supplementing cash flow to fund development and redevelopment and reinvesting into attractive acquisition opportunities offering superior future growth. This recycling has resulted in a fortified NOI growth profile with greater long-term value creation and reduced exposure to disruptors, as evidenced by the minimal impacts we have experienced from tenant bankruptcies. We plan to continue to execute on our capital recycling initiatives on a basis that mitigates earnings dilution and the impact from the embedded tax gains associated with our dispositions. On the acquisition front, valuations pricing are strong from the quality centers we own, develop, and buy. As you can see from our increased guidance, we have recently sourced compelling opportunities that meet our high standards for quality and growth and will match the timing of our targeted dispositions.
The centers, which are in various stages of due diligence, are located in our target markets of Seattle, San Diego, and New York. All benefit from strong demographics, productive anchors, and best-in-class shop tenants. These investments, along with the Northeast opportunity we have mentioned in the past, are valued at approximately $225 million, with anticipated closing dates spread over the next several months. I look forward to sharing more details on these premier centers in subsequent quarters after we have closed. I will now turn the call over to Lisa.
Thank you, Mack. The team posted another really good quarter. Most importantly, I want to echo Hap's comments. We are so grateful that our team members are safe following hurricanes Harvey and Irma, and that our property sustained minimal damage. I also want to reiterate our thanks to the team for their amazing efforts following the hurricanes. In the third quarter, we did take a one-time charge of approximately $1.9 million, or $0.01 per share, related to repair and cleanup work caused by these hurricanes. Consistent with our practice for nearly 10 years, gains and losses in our captive insurance program have been excluded from Same-Property NOI. Therefore, the charges incurred this quarter are excluded from Same-Property NOI, and given the non-comparable nature of the events, the charges also added back to Core FFO.
Turning to 2017 guidance, we are maintaining our Same-Property NOI growth of 3.2%-4% for the full year. The lower growth rate in the fourth quarter is driven by an anticipated decline in percentage rent, driven by a handful of tenants, as well as a tough other income and bad debt expense comp. Although we have experienced a moderate increase in bad debt expense here to date, it's important to remember that 2016 levels were far below historical norms, and current projections are more in line with long-term averages. We have also decreased our net G&A guidance for the full year by approximately $4 million at the midpoint. With the merger, we plan to hire 70 new positions, but these additions took just a little bit longer to fill than initially expected.
We have now filled these positions and expect next year's net G&A to be in the $67 million range. Despite this delayed hiring, the merger integration has progressed extremely well. At $67 million of net G&A in 2018, we will realize the $27 million in synergies. Lastly, we have raised our full-year NAREIT FFO and Core FFO guidance, reflecting the later timing of our dispositions this year and the lower-than-expected net G&A expense.
This concludes our prepared remarks, and we now welcome your questions.
Thank you. Ladies and gentlemen, at this time, we will be conducting the question and answer session. If you would like to ask a question, please press star one on your telephone keypad. The confirmation tone will indicate that your line is in the question queue. You may press star two if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment please while we poll for questions. Thank you. Our first question is coming from the line of Christy McElroy with Citigroup. Please proceed with your question.
Good morning. This is Katie McConnell in for Christy. Can you update us on the timing of anchor commencements, which are largely released at this point, and the CapEx that is involved in backfilling some of that space? Then maybe if you could talk about how you're thinking about the potential for further tenant fallout as we go into 2018.
Hey, Katie, this is Lisa. I'll let Jim handle more detail, if he wants to add some color. Just from a general perspective, when we look at our Same-Property Net Operating Income growth, an important thing that we can see, which you all can't see, is that our base rent growth contribution to that in the first half of the year was in the mid threes, and that's accelerating in the back half of the year, to the high threes. Some of that is driven by these anchor rent commencements. I think that's one of the key factors. From a capitals, we're seeing a really healthy net effective rent growth. Even though it is taking some capital to prepare the boxes, we're seeing rent growth at really healthy, robust levels.
Katie, the only thing I'd add is Sports Authority, we had five. We have four leased, and all of them will commence rent by the end of this month. We're in good shape on our re-lets.
Okay, great. Thanks.
Thank you.
Thank you. Our next question is coming from the line of Craig Schmidt with Bank of America. Please proceed with your question.
Yeah, thank you. I just wondered in terms of the feeling in the transaction market, it looks like you have a number of high quality, mostly general markets, closing soon. Are people more willing to strike deals before the end of the year, or are you seeing little change in terms of just the cadence and appetite for transactions?
Thanks, Craig. This is Mac. There is a typical seasonality that goes with transactions, where people do want to transact by the end of the year. I don't see that being different this year versus past years. There certainly is a steady appetite for people to transact, both on buying and selling. Not a big shift that we're seeing in that regard. Not a whole lot of color to add to that question.
We have seen some of the projections for holiday 2017 that seem relatively robust to past years. Are you hearing any of that same sentiment when you deal with some of your retailers?
Well, in terms of retailer expansions, is that what you're talking about, Craig?
No, just are they feeling better? We've heard that Halloween was up this year. That holiday 2017, depending on which estimate, anywhere from three and a half to four and a half up. Sales.
I think it's so early to tell.
It is early to tell.
Okay.
I think when you look at the demand, our demand for space continues to be very robust. That, to me, translates to retailers continue to do business and are comfortable growing their business.
To the better spaces.
To the better spaces, obviously.
They are being more deliberate. They're being more selective, the successful operators and tenants are continuing to expand at a pretty active pace.
Okay. Hap, congratulations on the ULI Visionary Award.
Craig, thank you very much. As you know, in my case, it really does take a village and a team.
Yeah. Well, it just means that because you're such a great visionary, you'll provide excellent guidance next quarter.
I'll do whatever Lisa lets me do.
Okay. Thank you, guys.
Thanks, Craig.
Thanks, Craig.
Thank you. Our next question is coming from the line of Mike Miller with J.P. Morgan. Please proceed with your question.
Yeah. Hi. I guess quick question on operating trends. Same store stats and occupancy and everything's really positive, and your rent spreads are nice and healthy, but it looks like there was some moderation that's occurred over the past several quarters. Just wondering, what's the color behind that? Is it just your things are good, but you're just bumping up against tougher comps? Does it feel like you're in a level off at this level, or we could see a little bit more on the moderation front? Just any color there would be helpful.
Hey, Mike, good morning. I'll answer on the same property kind of NOI growth trend line, and then I'll let Jim address rent spreads. I think that they're the two areas that what appears to be moderating. I'll reiterate how I started with my answer to Christy, well, to Katie, in that our base rent growth is actually accelerating throughout the year. The same property NOI growth moderation that we're seeing is some noise in some of the other line items. We're up against tough comps for other income as well as bad debt expense. We're expecting a decline in percentage rent, and some of that was translated and transitioned to base rent, that is driving some of that base rent growth, but we'll take base rent over percentage rent any day.
We're not necessarily seeing a moderation in same property NOI growth. It's just timing throughout the year. I think, as you know, quarterly numbers are not going to be smooth. There's some lumpiness. We feel really good about our guidance range of 3.2%-4%.
Yeah. I think as to rent growth specifically, obviously, as I mentioned, our new growth was 17% for new deals and renewals were at 5.7%. There's a couple of things going on in the renewal. We had a very large pool, almost 84% renewed this past quarter. Several anchors were embedded in that renewal pool that had flat option renewals, which obviously drove the average down. When you look at the deals that we were able to negotiate, we drove a 10% rent growth number, which I'm very comfortable with and is consistent with expectation.
At the same time, we know that we're in a really challenging retail environment, and if we can achieve high single-digit rent spreads, we'll be really happy with that.
We'll take it.
Agreed.
Got it. Okay, that's helpful. Thank you.
Thank you. Our next question is coming from the line of Wes Golladay with RBC Capital Markets. Please proceed with your question.
Hey. Good morning, everyone. Looking at your occupancy, it's pretty high right now. Are you becoming more selective on who you allow into the center? How is the quality of the demand overall versus prior years?
This is Jim. Again, I think our pipeline is robust, continues to be very solid. We are seeing good demand. Yes, we continue to be selective in our merchandising. I think that's something we've taken a lot of pride in over time. We continue to look for the best retailers in given categories and folks that we believe will be relevant in the future in this changing environment. We're finding good retail demand at this point.
Okay. Some of the peers have commented on delayed tenant openings. Are you experiencing this to any degree?
As Hap mentioned, I think deals are taking longer from start to finish. A lot of negotiation. Good retailers know they're good retailers, and we feel like we've got good product, and we know good retailers want to be a good product. What that turns into is a detailed negotiation process.
Okay. Lastly, the company you acquired, Equity One, they used to have a slide in their presentation called 50th Birthday of Grocery Shopping Centers, where they'd get big upticks in these flat rents for the past 50 years. Are you seeing any of those roll next year, anything that will be meaningful on the new lease side?
Hey, Wes. This is Lisa. Just very generally, if you recall, when we first announced the merger and talked about the strategic benefits of the merger, one of the key items is the fact that we believe that it would be accretive to our Same-Property NOI growth, which has proven out. As a result of the fact that there was some embedded mark to market in the leases, we are beginning to see some of those. Yes.
Okay. Thank you.
We'll talk.
More to come for 2018, but expect that we'll see some more benefit next year.
Thank you.
Thank you, Wes.
Thank you. As a reminder, ladies and gentlemen, if you would like to ask a question at this time, please press star one on your telephone keypad. Our next question is coming from the line of Vince Tabone with Green Street Advisors. Please proceed with your question.
Morning. The spread between physical and leased occupancy continues to widen in the quarter and remains wider than some of the recent norms. This seems at least partially driven by some of the Sports Authority leases you mentioned earlier, is that the only reason? When do you expect that spread to tighten to where it has been in the past?
I'll let Jim give some specific color if he'd like to add after, but we're at 240 basis points currently. We were only at 220 a quarter ago, so it hasn't increased that much. It would not be related to Sports Authority because those were already leased. To be related to some other new redevelopments that are underway, because if you'll recall, we're already 98% leased in our anchor boxes. It's one or two anchor deals, and Jim can talk about those.
It's-
Historically, we've been in a range of I think maybe one quarter, we may have hit 150, but we're typically in the 180 to 250 range. It's not out of the norm.
Right. Lisa hit on it. It's predominantly redevelopment with Serramonte being a big part of that. 40 basis points kind of baked into Serramonte. Obviously, the new leasing that we've done in the last quarter or two adds to that number. The good news is obviously that's a good tailwind going into 2018.
Okay. That's helpful. Yeah, Serramonte. Yeah, totally makes sense. One more on just acquisitions. It sounds like all of them this year are going to be in coastal markets. Is that solely where you're focusing your external growth, or would you consider acquisitions of high-quality assets in secondary markets? How do you think about what is the appropriate cap rate spread between coastal and non-coastal major markets?
Vince, as you're aware, our target markets include not only the gateway coastal markets, but also the STEM markets and growth markets, are 24 terrific markets throughout the country. We really, really like the canvas in which we're able to own, operate, buy, and invest, and we would certainly buy, invest, and interested in a Raleigh or a Denver as we would in a coastal market. Just where these opportunities, most of which we've been able to negotiate on a negotiated basis, which we're real pleased with. To a certain extent, there is a difference between markets from a cap rate and from a development return standpoint. You have other issues related to the quality of the trade area.
A trade area with strong barriers to entry and population density and above average household income and a strong anchor is going to trade pretty strongly in pretty much every market throughout the country. We're also looking at what's the embedded growth rate that's going to be there. From a development standpoint, it depends on the risk involved and where the project is, and when we get involved from a return standpoint. I don't know if you have anything that you want to add to that, Mac.
It's really case-by-case basis. It's really almost more about the immediate trade area and the customers being served and the job growth than it is the greater metro area. We're looking at all these different markets, and by having a local presence in these markets, that really gives us an advantage. Some of these, four out of the five of the acquisitions that we're targeting, were off-market, as Hap said. We've sourced these directly, and we think that's a real competitive advantage.
If I may, Mike is far enough away from me that he can't kick me. I don't want to take any of our material that we plan to share at Investor Day. We have done a lot of work for what we call our DNA project, and it would be very similar to what one house on the street has, like a TAPS score. We think that as Hap mentioned, and Mac both mentioned, it's really important, the quality of the center, and then that has to actually interact with the quality of the market. We do have internal guidelines and thresholds and return thresholds related to those scores, if you will. We do look at it that way, and we will share more detail when we have our Investor Day in January.
Perfect. Thank you. That's all I have.
Thank you, guys.
Thank you. The next question is coming from the line of Linda Tsai with Barclays. Please proceed with your question.
Hi. In your opening remarks, you discussed how Whole Foods is expanding post-acquisition by Amazon. Do you have any color on how these stores might be different from when the stores were just owned by Whole Foods? What's the Amazon influence? Do you have any thoughts there?
Linda, this is Mac. It's pretty early. They play their cards very close to the vest by design. We don't have a lot of great color to give you. What I can tell you is we've been working on a redevelopment in suburban Virginia, very good quality location. They've affirmed that lease. They had time to think about it. They recently stepped up to it. We're seeing good positive signs about that. A lot of good body language, but you're not going to get a lot of details at this point. We have close relationships with them and their teams and their brokers throughout the markets, and they are engaged. We're working on future opportunities, but still too early to say if their format's going to change dramatically. We hear lots of little things, but we haven't actually seen anything physically.
I think the Amazon acquisition of Whole Foods is a really good thing for Whole Foods. They're reengaged. They're expanding a combination, I'd say, of robustly, but still on a very rational basis. We feel very, very good about future prospects to continue to do business with a grocer who's a terrific anchor as far as attracting better side shop retailers, restaurants, and service users.
Thanks. Any changes in the average length of leases that are being signed?
I've heard discussion about that from my friends in the industry talking about, but more on the mall and fashion, et cetera, but we have not seen anything to date with the community neighborhood retailers.
Thanks.
Thank you.
Thank you. It appears there are no further questions at this time, so I'd like to pass the floor back over to Mr. Stein for any additional concluding comments.
We appreciate your interest and your involvement, and hopefully you didn't stay up too late watching the World Series last night and your team won or enjoyed what was a great World Series. Thank you very much. Take care. Enjoy the rest of the week. Bye-bye.
Ladies and gentlemen, this does conclude today's teleconference. Again, we thank you for your participation, and you may disconnect your lines at this time.