Vornado Realty Trust Q4 2022 Earnings Call Transcript

Quartr
Provided by Quartr
February 14, 2023

There are 13 speakers on the call.

Operator

Good morning, and welcome to the Vornado Realty Trust 4th Quarter 2022 Earnings Call. My name is Sarah, and I will be your operator for today's call. This call is being recorded for replay purposes. All lines are in a listen only mode. Our speakers will address your questions at the end of the presentation during the question and answer session.

Operator

I will now turn the call over to Mr. Steve Borenstein, Senior Vice President and Corporation Counsel. Please go ahead.

Speaker 1

Welcome to Vornado Realty Trust's 4th quarter earnings call. Yesterday afternoon, we issued our 4th quarter earnings release And filed our annual report on Form 10 ks with the Securities and Exchange Commission. These documents as well as our supplemental financial information packages are available on our Reconciliations of these measures to the most directly comparable GAAP measures are included in our earnings release, Form 10 ks and financial supplement. Please be aware that statements made during this call may be deemed forward looking statements and actual results may differ materially from these statements information that may be accurate only as of today's date. The company does not undertake a duty to update any forward looking statements.

Speaker 1

On the call today from management for opening comments are Stephen Roth, Chairman and Chief Executive Officer and Michael Franco, President and Chief Financial Officer. Our senior team is also present and available for questions. I will now turn the call over to Steven Roth.

Speaker 2

Thank you, Steve, and good morning, everyone. It's Valentine's Day. As Michael will cover in a moment, 2022 was a strong year with comparable FFO up 10%. 4th quarter FFO was down 11% due to higher interest rates. Ex rising interest rates, our core business is performing quite well.

Speaker 2

Not surprisingly, we expect 2023 will be a down year, negatively impacted by a full year of higher rates. I'd like to share with you a few other thoughts. Notwithstanding all the noise, New York continues to be the most important city in America. We continuously survey dozens and dozens of our tenants, all of whom reaffirm their commitment to stay and grow in New York. And that goes for our clients who are headquartered in other cities who are making New York their, so to speak, second home.

Speaker 2

And it's not by chance that the New York area is the tightest residential Steel, concrete and curtain wall are important, But in our business, capital is the essential raw material. We are now in the middle of a Federal Reserve tightening cycle, the result of which is interest rates are up And capital is scarce and that's an understatement. Notwithstanding Fed funds at 5%, most run of the mill real estate operators can't borrow at 10% Well, can't borrow a bit of it all. So here's what we have done. 7 years ago, when we began the Farley Facebook PENN1 And PENN2 projects in our all important Penn District.

Speaker 2

We loaded in over $2,000,000,000 in cash to pre fund 100 percent of our development and construction We didn't know then how precious this would be. So Farley Facebook is now finished and paid for, PENN1 almost so and PENN2 will finish around year end. All three of these assets will be free and clear and unencumbered and that's quite a feat. We handled all of our 2023 2024 maturities. We put on a series of swaps and caps, While very helpful, they provide only partial protection.

Speaker 2

And I would observe that there really is no protection against loans that mature in a rising interest rate market. And a further observation is that the stock market prices at then current interest rates, giving no credit to a company which might have Lower rate loans even if they are locked in for term. Beginning Q1 of this year, we declared a rightsized dividend allowing us $128,000,000 of cash annually. And by the way, our stock still trades at a too high 6.5% yield. In January, we completed an important deal with Citadel at our 350 Park San Diego building, Which involved their mass releasing the entire 585,000 square foot building, essentially relieving us of 225,000 square feet of vacancy.

Speaker 2

This deal will almost certainly result in a teardown and a new build of a grand 1,700,000 square foot tower on a larger assembled site. Please see our press release of December 9, 2022 explaining the transaction. We have lots of friends on Wall Street and I might venture that by any measure return on equity or return per employee or whatever, Citadel is at the head of the class intensely focused and aggressively growing. This deal validates the quality of our site, our development team and New York. Interestingly, Ken tells me that a significant differentiator for his firm is the simple fact that everybody comes to work every day, 5 days a week.

Speaker 2

I think they start at 7:30. There is a learning here. Call me crazy, but I think companies that embrace work from home will be left behind. And I think it's absurd to think that years from now tens of millions of Americans will be working from home And by the way, Zoom may be a disruptor, but its stock is down You will notice in our supplement that We updated our development projections for Farley, PENN1 and PENN2, raising our aggregate projected returns. This based on the fact that in 2022 we leased 425,000 square feet at Penn 1 at average starting rates in the 90s And based as well on the outstanding market reaction we are getting to PENN1 and PENN2.

Speaker 2

Our strategy here is to achieve very strong returns That rents well below those required for new construction. The PENN1 ground lease process is now kicking off. As required by GAAP Accounting Convention, in the Q1 of 2023, we estimated a ground lease of $26,000,000 and reflected that in our statements. Based on current market conditions, we now think that number should be quite a bit lower. We expect 2023 will be challenging as business and consumers continue to feel the effect of the Fed's aggressive rate increases and generally tighten their belts and act with caution.

Speaker 2

This will likely be reflected in lower leasing volumes and frozen capital markets. We believe quality product wins today. Just look at our new builds, new lobbies, amenities at PENN1, Nu Skin at PENN2, etcetera. Not long ago, new construction commanded a $20 premium. Now it commands a $100 premium or more.

Speaker 2

Does anybody think that's too high and that the market will adjust. One more point and this is an important one. In the history of New York real estate, All great upward landlord markets followed a period of constrained supply and here we are. Capital markets are now making it almost impossible Bill New, which will be the foreteller to the next bull market and landlord's market. Now over to Michael.

Speaker 3

Thank you, Steve, and good morning, everyone. As Steve mentioned, we had a strong year despite experiencing headwinds from rising interest rates. For the year, comparable FFO as adjusted was $3.15 per share, up $0.29 or 10.1 percent from 2021. 4th quarter comparable FFO as adjusted was $0.72 per share compared to $0.81 for last year's 4th quarter, A decrease of $0.09 or 11.1 percent. While earnings for the quarter were down, driven primarily by higher net interest expense from increased rates And the non cash straight line impact of the estimated 2023 Penn 1 ground rent expense, our core business had strong performance from the rent commencement on new office and We have provided a quarter over quarter bridge in our earnings release and our financial supplement.

Speaker 3

We have several non comparable items in the quarter, primarily gains from 220 Central Park South sales and other non core asset dispositions, which in total increased FFO by $0.18 per share. As previously announced, we recorded $595,000,000 of non cash impairment charges during the Q4, of which approximately $483,000,000 relates to our equity in the 5th Avenue and Times Square Retail Joint Venture. It should be noted this impairment charge is not included in FFO. Company wide same store cash NOI for the Q4 increased by 7.9% over the prior year's 4th quarter. Our overall same store office business was up 8% compared to the prior year's Q4, while our New York same store office business It was up 5.4%, primarily due to cash rents at Farley coming online.

Speaker 3

Our retail same store cash NOI was up a very strong 7.9 primarily due to the rent commencement on several important leases. Now turning to 2023, while the current economic environment makes forecasting More difficult than usual, we expect our 2023 comparable FFO to be down from 2022 given the known impact of certain items. These include roughly $0.40 from additional interest expense as a result of a full year of higher rates on a variable rate debt, Net of higher interest income and capitalized interest, assuming the current silver curve. $0.10 from the prior period property tax accrual at the March It was recognized during the second half of twenty twenty two and $0.05 of lower FFO from the sale of assets in 2022. These reductions could potentially be offset by a lower result on the PENN1 ground rent reset that is currently running to our earnings, which Steve mentioned earlier.

Speaker 3

Now turning to the leasing markets. We see 2023 as a year of both challenges and opportunities. The pace of leasing has slowed in the past few months The activity is lumpier as businesses generally are feeling cost pressures and are exercising more caution. Companies are still grappling with hybrid work policies and the right level of flexibility, but overall sentiment is shifting more closely at pre pandemic norms. We are seeing a real pickup in the return to office throughout our portfolio, particularly Tuesday through Thursday.

Speaker 3

Utilization rates are approaching 60% And momentum is improving month by month. Both employers and employees clearly recognize the productivity, collaboration, Creativity and cultural benefits of working in the office together. Flight to quality continues to be the prevalent theme for tenants. However, leasing activity is broadening out. We are seeing a pickup in activity in the traditional multi tenant Class A buildings As tenants are dealing with the aforementioned cost pressures and are not all willing to pay new construction rents.

Speaker 3

One thing we do think We'll begin to emerge this year as a heightened focus on the quality of the landlord. Many landlords, particularly private ones are beginning to struggle with high leverage levels, which may limit their ability to invest capital in their buildings or in some cases even retain their assets. Tenants and their brokers are smart enough to figure out which buildings these issues are at and avoid them. Strong well capitalized landlords like Vornado will benefit. A perfect example of Flight to Quality with strong sponsorship is the previously announced 350 Park Avenue transaction with Citadel.

Speaker 3

We began our relationship with Citadel at 350 Park in the beginning of 2020 with With an initial 120,000 square foot lease and are proud of the relationship we have built with our team, which has culminated in this master lease and the future potential partnership Our overall leasing pipeline in New York remains healthy at almost 1,200,000 square feet of leases with 275,000 square feet of leases being finalized and another 900,000 square feet of activity With the rebound in tourism and daily workers, we are continuing to see more retailers search Manhattan for new store locations. Retailer sales are generally back during pandemic levels, We're just spurring retailers to become more confident and active in taking new spaces. They're still concerned about inflation in the overall economy, We're starting to lock in deals given rents are much more attractive levels. Turning to the capital markets now. The financing markets remain highly constrained, Driven by the volatility from the Fed's sharp rate increases.

Speaker 3

Banks are dealing with an increase in prodded loans and remain cautious in lending And the CMBS market is still largely closed. While financing is available for the highest quality sponsors and properties, the markets will take some time to thaw, On the asset sale front, there continues to be active interest from investors in New York office and retail assets. Without a stable financing market, it remains difficult to transact large assets without in place debt right now. In these volatile times, we remain focused on maintaining balance sheet strength. Our current liquidity is a strong $3,400,000,000 including $1,500,000,000 of cash, restricted cash and investments in UST bills and $1,900,000,000 undrawn under our $2,500,000,000 revolving credit facilities.

Speaker 3

In addition, as a result of our refinancing activities early last year, we have no significant maturities through mid-twenty 24. With that, I'll turn it over to the operator for Q and A.

Operator

Thank you. We will now begin the question and answer Our first question comes from Steve Sakwa with Evercore ISI. Please go ahead.

Speaker 4

Thanks. Good morning. I guess I wanted to Start with the developments and the yield, Steve, that you talked about. I guess I can understand maybe the PENN1 Return going up a bit since you've got kind of active leasing and maybe good mark to market and a little more visibility there. But I guess I was a little curious about PENN2.

Speaker 4

You did take the yield up there, but I don't think you've done any incremental leasing, but Maybe that's part of the pipeline that Michael talked about. So could you maybe just sort of address those 2?

Speaker 2

We took the yield up on PENN1 and PENN2. We took the yield down very marginally On Farley, we did that based upon now we have a year, year and a half, even 2 years of experience with these assets. We know what the market's reaction is. We have signed 220,000 square feet of leases at PENN1. We know what the bid and ask is for PENN1.

Speaker 2

We know what the bid and ask is for PENN2, and it exceeds our initial underwriting, and that's why we made We adjusted the returns.

Speaker 4

Okay. And then maybe as a follow-up, Michael, I just when you talked about Some of the headwinds to growth in 2023, I kind of get the interest expense hit, the $0.05 of sales. It sounds like the ground lease may be a little bit better. I didn't quite understand the $0.10 from the property taxes. I was just hoping you could maybe clarify that, because I thought in the first half of the year that might have been A bit of a tailwind, but just wanted to make sure I understood that point properly.

Speaker 3

We had a prior period accrual, obviously, it benefited us at the end of 'twenty two. We didn't have it in the first half of 'twenty two. And so that gets reversed At the beginning of this year and that's a ding. So the timing difference would benefit last year, get hurt at the beginning of this year. Net net, there was a reduction, but we it affects us in the beginning half of twenty twenty three.

Operator

Great. Thank you. The next question is from John Kim with BMO Capital Markets. Please go ahead.

Speaker 5

Hi, thank you. I wanted to ask about the write downs you took, particularly at 650 Madison. That's an asset where it was Pretty well occupied, there's no loan upcoming. I was wondering why you decided to impair it now and what are your plans with the asset?

Speaker 3

Good morning, John. The accounting for joint venture assets is different from wholly owned assets. And as a result of that process, and if you look at what's happened since we bought the asset, resulted in an impairment this So retail rents are obviously not what they were at the time we bought the asset And what we underwrote, we had a large tenant move out unexpectedly in the hospital last year. And so you run it through the accounting model and that's the conclusion. Now again, keep in mind, it's a non cash item.

Speaker 3

We still own the asset, the value could recover. We have debt with term on that asset at very favorable rate and we'll continue to work the asset and hopefully create value. But on a As we sit here today based on the accounting methodology, that's the byproduct. John,

Speaker 2

you used the words in your question why we decided to take an impairment. The impairment process is rigorous, is and is to a large degree formulaic And is to a large degree overseen by our independent accountants. So we try to keep And some much subjective judgment as possible out of it and make it more of an academic formulaic kind of an exercise. And it may have showed that the write down was appropriate there.

Speaker 5

Okay. My second question is on the March, With the occupancy falling this quarter, really driven by the showroom and trade show, what's going on with Such a big drop in occupancy this quarter. And if you could also comment on variable businesses, which in the past few quarters have been a driver of earnings growth and it's not really Disclosed so much this quarter, I wanted to know what's been going on with signage and trade show?

Speaker 6

Yes, I'll start. Hi, it's Glenn Weiss. So on the March, the increase in vacancy was due to the casual business leaving Chicago for Atlanta. We are converting that showroom business into office space, and that's the increase in the vacancy at the mart. There are headwinds in Chicago, not unlike New York in terms of leasing volume, pipeline, etcetera.

Speaker 6

Our 2.0 program is coming along great that we expect to be complete in June. Our tour volume has been very good of late. We have a couple of leases in negotiation right now, but the increase in the vacancy is the casual business, which moved out of town to Atlanta in the fall.

Speaker 3

John, on the variable businesses, I think the punch line, if you will, is that All the variable businesses except for the trade shows are back to pre COVID levels. We had a very strong 2022. I think signage had our Most successful year ever, and that was with a little bit offline. 4th quarter saw a little bit more of that. We've got a couple of signs located at Pen 2 and Hotel Pen that are impacted by the development.

Speaker 3

And so Q4 was a little bit off Q4 2021, but really everything, whether it's signage, garages, BMS had a strong year, generally up, As I said, except for signage quarter over quarter or year over year, I should say. And then the trade shows, a little bit of timing difference from the prior year Q4 when we were cranking it back up, Some of the shows got moved to Q4 and this year back on their normal pace. So trade shows are not back to peak yet. We think they'll get there in the next couple of years, but the rest of the businesses are performing quite well. And I think our particular, the signage where we got the dominant signs in Times Square, we're actually redoing The sign on 1540 right now, which will bookend both sides of the Bowtie and hopefully allow us to drive additional revenue given the fact We control 2 mega signs at the heart of the bowtie.

Speaker 3

We think that's a positive. And then obviously what we're doing in Penn over time, We think we'll perform continue to perform well once the construction is completed. But that's in a nutshell where we're at on the aero businesses.

Speaker 5

So net is variable going up or down this year?

Speaker 3

In 2023, we're going to have I mean, like, the answer is, It's hard to predict. I would say, because we've took a couple of signs offline in Penn. A lot of this is based on what comes in 3rd party roadblocks. So net, we think it's probably comparable to 2022. It could be down a little bit just because of what's offline on the signage side and the fact that we're, as I said, rebuilding 1540, right.

Speaker 3

So we're taking some revenue offline. So I think overall, probably down a little bit just given the fact we're taking some stuff offline.

Speaker 5

Great. Thanks and happy Valentine's Day.

Speaker 3

You too.

Operator

The next question is from Camille Bonnell with Bank of America. Please go ahead.

Speaker 7

Hello. I know the opportunity with Citadel is still a bit down the road, but are you able to speak to the financing Strategy there in context with your existing development pipeline around Penn District, just generally like how are you thinking About the capital allocation and sourcing for these future projects?

Speaker 3

Camille, I think the good news is we don't have to do it today, because it would be very, very difficult to line up construction financing and Very expensive. So with respect to 350, that project is not ripe yet, right. It's It'll be right in 2, 3 years, but it's not right today. And so hopefully, the markets More hospitable than we expect it will be. And I think the same goes with respect to Penn.

Speaker 3

Again, we're not as I think Steve commented on the last call, the market Really is not conducive for new development today. Construction financing is very expensive, if available, which it genuinely is not As banks have pulled back, so I think it's challenging. And again, today, It's not the day we have to line that up, but in the future, the markets should settle down. And with respect to 350, We'll put on a traditional construction loan at 50% to 60% and the partners will fund the balance of equity. Most of our equity will come from our land contribution.

Speaker 2

So we're pretty excited about 350 Park Avenue and Maybe even more importantly, Ken is even more excited about it. Our strategy there is actually very simple. The land value our land value will constitute our equity contribution. So our land value We'll represent the equity. We will not have to put in maybe another Very tiny $10,000,000 $20,000,000 $30,000,000 of cash to represent our share of the equity.

Speaker 2

The balance of it should be easily in a normalized market Borrowable under in a construction financing or permanent financing. The deal comes along with a very substantially sized anchor lease. And so everything is in place. Our land will be our equity and we have an anchor tenant. And so that all is very, very I think very well conceived.

Speaker 2

What's more, our development teams and construction teams that are hard at work down in Penn will have We completed PENN1, PENN2 at Farley, and we'll swing right into 350 Park. Part of our arrangement is that we are Immediately starting the design of the building, actually we're probably halfway through it. And we are immediately starting the approval process so that in A relatively short period of time, maybe not more than 2 years from now, we would be ready to demolish and start construction. But the cash requirements in any kind of a normal financing market are basically almost 0 on our part. Really appreciate By the way, it's going to be a great one.

Speaker 7

Yes, really appreciate all the details on 350 Park. Just for my follow-up, you've done a great job in terming out your maturities, So your leverage on a net debt basis is above 10 times. So can you talk to how you're thinking about leverage today and Where are your near to medium term targets?

Speaker 8

Michael?

Speaker 3

Our leverage is I think you characterized it by a little bit lower than we characterized. Our goal over time is to have less leverage. I think importantly, we don't have any maturities this year. As many know, we have a couple of small which are in process of being pushed out. But our preference is to have less leverage and over time, We think that will be accomplished through growing earnings and likely some asset sales.

Speaker 3

So is that going to change in the next 24 months, just given the environment? Probably not. But over time we foresee that happen.

Speaker 7

Thank you.

Operator

The next question is from Michael Griffin with Citi. Please go ahead.

Speaker 2

Hang on. I want to go back for a second. I want to emphasize what Michael said. In terms of the leverage ratio that you referenced, Camille, We sort of have our hands tied behind our back. So number 1, we've had a decrease in earnings, which is going to recover Variable businesses and what have you.

Speaker 2

Number 2 is we have 0 income coming in Basically from Toopen, which will be over $100,000,000 of income when it gets online. And we have less than underwritten optimal earnings from OnePet. So if you pro form a forward, when we get all these different Parts of our business stabilized, our leverage ratio will come down very significantly. I'm sorry, go

Speaker 8

ahead. Mr. Griffin, please go ahead.

Speaker 9

Yes. Hey, thanks. Michael Griffin here with Citi. Just maybe getting back to leasing. Michael, you mentioned in your prepared remarks, your leasing has slowed, transactions are lumpier, you pointed to about 1,200,000 Square Feet in the pipeline.

Speaker 9

Just looking over the cadence of this year, with some bigger upcoming maturities, I mean, how Confident are you in executing on that? And is there any update on maybe some of those more larger notable upcoming expirations? I think there's one It's 770 Broadway coming up here maybe at the end of this quarter. So any update there would be great.

Speaker 3

Yes. Go ahead, Glenn.

Speaker 6

Hi, Michael, it's Glenn Weiss. So we really had 4 bulky expirations that constitute our expirations in 2023. 1 was 350 Park, which is now taken care of by Citadel. The other 3 is continuous expirations coming off low rents from PENN1 And then 2 blocks, one of which comes back this quarter, 3 quarters from Verizon at 770. And then at the end of the year, we get the AXA Back at 12.90.

Speaker 6

As you can imagine, we're all over it. We're attacking the market, presenting the buildings, Marketing the product towards weekly, we think both assets are very high quality assets. 770 is probably the most unique block of space in Midtown South, excellent building, great bones In the market now with those 3 floors in 1290 by the end of the year, we'll be ready for action, already showing the product, Showcasing some amenity program that we're going to undertake in 2024. So that's the real outline of what's coming this year in terms of

Speaker 9

An asset like 770 Broadway maybe doesn't really fit into that strategy. So I guess how do you measure demand relative to that versus Any opportunities you might have within the Penn

Speaker 6

District? 770 is a great spot. It's right at the subways That link is at Grand Central and Penn very easily. It's right at NYU, right in the Village. It's in the sweet spot of Midtown South.

Speaker 6

So geographically, we think it's excellent.

Speaker 9

Okay, thanks. And then maybe one for Steve. I'm just curious, you focused some of your prepared remarks about The importance of getting employees back to the office, in your conversations that you're having with business leaders, I mean, how much more do you think they can really push Your employees to get back in and I think you talked about that 60% kind of occupancy number maybe on Tuesdays Thursdays. Do you see that Potentially getting back to that pre COVID, call it, the 70% to 80% range?

Speaker 2

I I think normal is more like 70% because there's always people who are traveling, not in the altars and what have you. So to try to get to 90% is fictitious. So I mean, I think we're getting close to 60% now on Tuesdays, Wednesdays and Thursdays. I think you can assume that Friday is dead forever. Friday is going to be a holiday forever.

Speaker 2

Monday is touch and go. So I think that The world is coming back to normal slowly but surely. So multiple things are Number 1, every boss want his people back. Number 2 is now many of the people They want to come back. They find that being alone, they find that they want to come back with their colleagues, they want to get back into The activity, excitement and what have you, collaboration and being in the city.

Speaker 2

So Slowly over time, I think that, that will all revert to normal. Your question was what power do the bosses have? Well, some of the bosses have total power and some of the bosses have no power. And I can't comment on that either way. But the most important trend is people are wanting to come back themselves.

Speaker 2

Employees actually do want to come back.

Speaker 9

Great. Well, that's it for me. Thanks for the time.

Operator

The next question is from Alexander Goldfarb with Piper Sandler. Please go ahead.

Speaker 10

Hey, good morning, Steve. And first, Mazel Tov on 350 Park, Awesome deal. So well done to you and Michael and everyone. So that's awesome. Two questions.

Speaker 10

First, on the retail JV, the impairment that you guys took, what prompted that? And big picture, As we think about the rents that are in place versus the market and it seems like the market has settled and hopefully is recovering, Where would you peg the mark to market? And then do you think that there will be future impairments? Like is this an annual exercise? Just trying to get some more color on this.

Speaker 2

Well, I can't predict the future, Nor do I want to. We went through a rigorous process. The math shows that there was an impairment, and we knew what the math shows. So there's that. What the market rents are, is something that it's a very thin market.

Speaker 2

There are not a There are very few transactions on Fifth Avenue and at Times Square. So and you can make the assumption that this is still A sluggish impaired market. It hasn't recovered entirely. There is not the same, lust for space That there was 5 years ago. But that will come back to for sure.

Speaker 10

Okay. And then the second question is, you guys appeared in the press recently that you're still in the hunt for a casino. It's been a while since you talked about movie studios. The Manhattan Mall seems to be a great spot for potential studios. So So just sort of an update of what you can provide us.

Speaker 10

Do you have an operating partner for Studios? Do you have an operating partner for Casino? Or are both of those 2 items things that more are back burner and less front of house, if you will?

Speaker 2

The answer is yes and yes in terms of operating partners. And no, they're not really MacVera.

Speaker 10

Anything more to elaborate or?

Speaker 2

Not really. I mean, we have a wonderful Manhattan property that is going to be converted The studios, we have a great operating partner. We are in conversations With multiple users and the demand is actually very actually extraordinary. With respect to the casinos, I don't have a lot to say. We're still mulling and studying and thinking and what have you about that.

Speaker 2

We have a great site, And whether we throw it into the game is to be decided.

Speaker 10

Okay. Thank you, Steve.

Operator

The next question is from Vikram Malhotra with Mizuho. Please go ahead.

Speaker 8

Good morning. Thanks for taking the question. So just First one going back to sort of your view of the dividend or the Board's view. If you can just give us some more color, what are you baking in, in terms of Occupancy for the core portfolio, just the business as it stands in terms of street retail, I asked that because it sounded like the 4 key You outlined, am I correct in that they're all move outs? I just wanted to understand like what is baked into the core portfolio relative Where the dividend is, just some big picture metrics or guideposts would be helpful.

Speaker 2

Well, the dividend is based upon a minimum of taxable income. Our taxable income allows us to reduce or I like to use the word rightsize our dividend. I mean, our dividend was 9.5% on our stock price, which everybody knows is Kind of like mispriced and mistake. And we felt That it was inappropriate to overpay the dividend substantially over our taxable income. And we felt The Board felt also that it was appropriate to retain the extra $130 odd 1,000,000 of cash.

Speaker 2

That's what happened with the dividend.

Speaker 8

Okay. And then if my just follow-up, if I can dig into street retail, Two parts to it. First, I think you have a couple of key expirations in Times Square in 2023 and I'm wondering the latest Renewal there. And then second part of that is just, I think there were there are 2 big leases, if I'm not wrong, Swatch And Levi's that have early termination rights in 2023 2024, they don't expire till 31, but I believe they have the option to terminate. Any updates or color you can give on those 2 as well would be great.

Speaker 8

Thank you.

Speaker 2

We are as you would expect, we are in active negotiations With those clients, those tenants as well as all the other tenants, we are hopeful to retain all of the tenants, But the rents will be lower than the in place rents. The market is lower than it was years ago when we made those late.

Speaker 3

So you can assume that we

Speaker 2

will retain the tenants, but at lower rents.

Speaker 8

Okay. I just thought because Swatch and Levi, I thought they would have had to give you notice if they were going to terminate. But is it just sort of like a rolling Like they can elect any time in the year to give you that notice.

Speaker 3

So, hey, Victor, just to feel, put a finer point on. So Swatch Had to exercise their notice in fall of 2021 And they did. And we have, as Steve alluded to, we finalized a Agreement for them to stay at a lower rent. So they at the time they exercise the termination, we didn't know what they're going to do, but that agreement has recently been finalized. So they will stay.

Speaker 3

And as Steve said, a lower rent. And with respect to Levi's, They as well have a termination option, I believe that comes up in 2024, not this year. And We'll see what they do. But again, as Steve alluded, the likelihood is that Just as Swatch did, they may exercise that and our hope expectation is we'll keep them, albeit at a lower rent. The other leases that expire in 2020 Great.

Speaker 3

Some of those are those have been sort of, I'll call it, shorter term leases, which we've Continue to keep those tenants in place. I think we'll continue to do that. And beyond that, I think there's probably only one substantive exploration In 2023 in Times Square and that happens middle of the year and that's an active discussion right now.

Speaker 8

Great. Thank you so much.

Operator

The next question is from Dylan Brubzinski with Green Street. Please go ahead.

Speaker 5

Hey, guys. Thanks for taking the question. I'm just curious on the overall strategy of the company. I think in the past you guys have mentioned about possibly doing a tracking So just curious, is that still on the table? And if so, could we see that happen in 2023?

Speaker 2

Yes, it's still very much on the table. We are not ready to talk about the timing, Which will not be set until we actually make the decision and announce it.

Speaker 5

Okay. And then just going back to the ground lease reset, I think you had mentioned that $26,000,000 might be less today. Just curious, can you kind of give us an update on how that process works? I think our initial thought was when we saw that the yields increased at the Penn District redevelopment that we thought that The program might reset higher. So just curious to see kind of an update on sort of the arbitration process and how that works?

Speaker 2

Oh, boy. Well, the each ground lease is a little bit unique and a little bit different. This one Basically involves brokers negotiating if they can't agree, Then a third party is appointed as a neutral. The interpretation is that it's a determination by Brokers with 20 years of experience and active brokers of what the value of the land vacant and unimproved would be. So I interpret that to mean what could you sell that piece of land for now, which is somewhat different than what an appraisal This might be, which is a willing buyer and a willing seller, etcetera.

Speaker 2

So we think it's a brokerage process. So that's the way it's set. We think that the value of the land is lower today than it was 1.5 years ago when we set the $26,000,000 actually maybe even quite a bit lower. And so that's the determining factor. The fact that and most of these analysis are done by What is the return to a new building and what the residual value would be for the land?

Speaker 2

So if we think we can get $5 or $10 a foot more on a $90 or $100 lease One pen that has no bearing on what the value of the land might be.

Speaker 5

Okay, that's helpful. Appreciate that.

Operator

The next question is from Anthony Paolone with JPMorgan. Please go ahead.

Speaker 11

Great. Thank you. Michael, you went through a whole number of the parts of the business in terms of the impact on FFO in 'twenty three versus But can you maybe help bottom line just the core office and retail NOI and whether that's higher or lower this year?

Speaker 3

Tony, you're trying to box me on the guidance here. Look, we're in a fluid environment, right? It's hard to predict. Overall, we think the Performance will be comparable to this year, I would say. And that's not trying to give you guidance.

Speaker 3

It's just We have some ins, some outs. We can't predict exactly what will come along. It depends on which tenants we renew, which may roll out. But In general, like we have some known positives, we have some known move outs as we just talked about. Overall, As we sit here today, it's probably neutral.

Speaker 11

Okay. Thanks for that. And then the second Question is on 350 Park. I mean, you crystallized value there at a level that seems to be pretty well north of what Yes, I think most people probably had in their numbers and where you're getting credit for it in the stock most likely. So just Wondering how you thought about the ability to just completely exit, I think, next year versus staying in what could be another, I guess 7 plus years or so, like how you think about that being worth it versus just saying you did well with the deal you cut, use that capital otherwise.

Speaker 2

Well, first of all, I would quibble with Well, north of value. The pricing of that deal, we think, was fair to both parties. In terms of what our financial strategy will be a year or 2 from now, what we have to make the decision as to whether to Invest in the long term building project and own 40% of a 1.7000000 Square Brand new super duper Times Square Tower, want to take the money and run, that's a decision we'll make at the time. But it is an interesting fact that we have the option to do either.

Speaker 11

Okay. Thank you.

Operator

Yes, Jim. The next question is from Nick Yulico with Scotiabank. Please go ahead.

Speaker 12

Thanks. I just wanted to touch on the St. Regis Retail, where you had to default in the JV. Can you just tell us why the lender not Refinance the loan and can you explain the earnings impact from this, I guess right now how it's working since it looks like there's some sort of cash flow sweep? And then if for some reason you can't get this resolved, does the joint venture just walks away from the property?

Speaker 12

How does that ultimately Get resolved and what could the earnings impact be?

Speaker 3

Look, The loan matured at year end and the asset is not refinancable today, right? Quite frankly, like many assets in this market, We signed 2 leases at the peak of the market. One of those, we just discussed, Terminated and we re let at a lower rent. And so the asset was not refinanceable, loan lending default. We were talking with the lenders before that happened.

Speaker 3

We continue to talk to them today. And we're in active discussions to restructure the loan and extend the maturity. If we We can't and we ask them to go back to lenders. Just like everything we do, we're going to be disciplined and thoughtful about whether it's worth Staying with the asset, investing capital, etcetera, and we're sort of groping towards the deal that we think Makes sense for the partnership, but that's the benefit of non recourse debt. If you can't reach an agreement, we have the option to walk away.

Speaker 3

Do I think that will happen? Probably not. I think we'll end up with a deal because it's in the lenders' best interest too. But that's the state of play. To date, I know there was some commentary in a couple of the reports about 8.5% interest The answer is that's the case, but if the deal the answer is that that rate is never going to get paid.

Speaker 3

We're either going to toss the keys back Well, we're going to restructure the deal and the rate will get reset to what it's supposed to be and that interest is not going to get paid. So that's the state of play. I don't think the earnings impact is really if it went away today, I think Based on frankly where it was in the Q4, I don't know if there's that much FFO that's flowing through given the fact that it's a floating rate loan where Relevant income, there's some cash flow, but it's not significant.

Speaker 12

Okay, understood. Thanks, Michael. Appreciate that. And then going back to 650 Madison, I know you talked about this a little bit. I mean, it looks like That asset got refinanced in 2019.

Speaker 12

I think there was a $1,200,000,000 appraisal on it. There's $800,000,000 of debt on the asset right now. And so if you're saying the equity is 0, basically, I guess the building is worth $800,000,000 So that would be about a 35% asset value decline since 2019 when it was refinanced. So please correct me if I'm wrong on those numbers, but I guess what I'm wondering is from that standpoint, you did talk about occupancy being down. I know Rates are higher as well, but how would you kind of frame out that level of an asset value decline for office and retail now versus 2019?

Speaker 12

Is that A lot of the portfolio or only the pieces where you do have some more structural vacancy right now?

Speaker 3

Yes. Look, I think, first of all, you referenced 2 or 3 things. We did refinance in 2019. It was pretty outstanding execution by our team, frankly, And pushing that loan out till 2029 at about 3.5%. So we have time, right?

Speaker 3

As we talk about this impairment today, I think the most important thing to recognize is that's a non cash We continue to own the asset. We continue to work if we have time. Secondly, the appraisal that was done So it was a lender appraisal. Sort of Steve's comments before, was that where the asset would have traded when the loan was made? I can't comment.

Speaker 3

I can't think back to 2019, the exact circumstances at that time. So it was an appraisal done at the time. There's some specific facts that have changed since then. Probably most notably, we had a major tenant move out And the reality is rents, I think generally office and retail have declined since then To varying degrees. So I think all that's reflected in there and as Steve talked about, the impairment analysis, particularly for joint ventures is a very much accounting driven methodology and that's what the accounting produced today and nothing that says that over time that value can't Go back up, but as we sit here at the end of 2022, that's the net result.

Operator

Thank you. The next question is from Ronald Kamdem with Morgan Stanley. Please go ahead.

Speaker 1

Hey, good morning, guys. This is Tobey on for Ronald Kamdem. Just you guys laid out the some of the FFO headwinds next year pretty clearly in In the prepared remarks, just as we think about PENN1 and maybe some of the upside there in 2023 versus 2022, French are $76 a foot today embedded. Where do you think that is year end 2023? Thank you.

Speaker 6

Hi, it's Glenn Weiss. So we're coming off rents in the high 60s, low 70s. We have leases out right now that are piercing 100 in the tower of this building. So that gives you a feel of where we believe rents will go as we Sign up leases for our in place vacancy and for the expirations going forward.

Speaker 1

Great. Thank you.

Operator

The next question is from a Follow-up from Steve Sakwa with Evercore ISI. Please go ahead.

Speaker 4

Yes, thanks. Just one follow-up, Michael, on some of the swaps And caps that are maybe burning off or coming to maturity here in 2023 and 2024, should we assume that you're just going to let those kind of float? Are you going to put new caps and swaps in or just how should we be thinking about that as the Fed kind of nears the end of the tightening cycle?

Speaker 3

Yes. Some we wrestle with every day, Steve. I mean, some of those are probably about 23, because 24, again, we have a loan maturity. We have to determine what type of loan we're going to refinance that with, which is more of a 24 issue than the 23 issue, right? So On the mature in 2024, we roll into a fixed rate loan, obviously, no need to swap there.

Speaker 3

So we'll see. I think Maybe expectation for most of the loans that expire certainly on caps as we roll those And I'm looking down our list right now. So we got 2 or 3 that expire Middle, the latter part of the year, I would expect that we would roll those in the next few months. Those tend to be an annual On a basis, although you can go out a couple of years. And then on the swaps, we'll continue to look for opportunities to term some of those out Yes.

Speaker 3

You are getting to the point where the Fed is looking like they're close to being done and the curve is coming down. And so I think we've benefited waiting a little bit and locking some of those in more recently, but we'll look at that as well and terming some of those But again, we got a couple of that expire this year with maturities next year and we have to make a decision on what type of financing we're going to do on the asset before we

Operator

And the next question is a follow-up from Vikram Malhotra with Mizuho. Please go ahead.

Speaker 8

And thanks for being the follow-up, Michael. Just on the $0.55 you outlined in terms of the headwinds, does that incorporate these The known office move outs and the lower street retail rent that you referenced?

Speaker 3

I mean, Vikram, the only Data points I gave you were on interest in margin and asset sales. The rest is we'll see how the business As I said, I think there's some pros, cons, by and large, we think probably neutral, but we can't predict. It Depends on what happens in terms of Peso Leasing.

Speaker 8

Okay. And then just the other follow-up, just I know there are those moving pieces. So do we take that as Based on your current view of taxable income for 2023, you kind of right size the dividend, but if some of these moving pieces don't go your way, You might have to revisit the dividend or have you incorporated some of the slack basically that you just outlined?

Speaker 2

The dividend is a Board decision and we're certainly not going to speculate On what might happen to the dividend and certainly not from a negative point of view. So that's a question that we

Operator

There are no further questions at this time. I would like to turn the conference back over to Stephen Roth for any closing remarks.

Speaker 2

Thank you, everybody. This is an interesting time. We're in the middle of a Federal Reserve tightening cycle. I think Owen Thomas said in his opening remarks of his call a couple of days ago that commercial real estate is in a recession. I don't want to I wouldn't quibble with that either way.

Speaker 2

But markets are soft, which We think it makes it a fairly exciting time. We will get through this easily. We will see what opportunities come up, And we think the world will be a lot better on the other side. Happy Valentine's Day, and we'll see you at the next quarter.

Operator

Ladies and gentlemen, this concludes today's conference. Thank you for your participation. You may now disconnect.

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Earnings Conference Call
Vornado Realty Trust Q4 2022
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