Royal Oak Conversations – Bruce Bender

Welcome to the seventh episode of Royal Oak Conversations. This discussion features Bruce Bender, Chief Investment Officer of Royal Oak.

We're also excited to share that Royal Oak Conversations is now available on Apple Podcasts, Spotify, and Amazon Music. Please click to subscribe to the show in your favorite podcast player.

Transcript

Royal Oak Conversations is produced by Royal Oak Realty Trust for informational purposes only and does not constitute an offer to sell or a solicitation to buy any security. Investing in non-traded REITs involves risk, including potential loss of principal. Please consult your financial or tax advisor before investing.

Now, onto the show:

Josh Foladare (Host): So welcome back everyone to another Royal Oak Conversations. Today is a special one. I am joined by the first Royal Oak employee, our Chief Investment Officer, Bruce Bender. Bruce, thanks for being here.

Bruce Bender (Guest): Thanks for having me. I'm looking forward to talking about Royal Oak.

Josh: It's the best thing to talk about. So you were first person in the door after Dan started the firm. You've been with us since the start. You have been instrumental in creating really how we operate in terms of building out a portfolio, building out the business. But I want to start in level set because I'm not sure everybody knows who you are and your background - just how you got into real estate, and then what you were doing before you came over to Royal Oak.

Bruce: Sure. I'd be happy to. Well, in general, I've been in real estate for 40 years. It was one of those things where it just happened to have an opportunity to get into it after college, and I started out my career at Wegmans Food Markets in their real estate department, developing shopping centers, managing them. Along the way, I went to Xerox for many, many years and I like to tell people that I got a unique blend of skills, where I've represented tenants, I represented landlords, I represented buyers, and I represented sellers. So I've been on all sides of the equation, and I think it helps me do my job as far as understanding real estate in general.

Josh: I'm always impressed. I think a lot of shops, even our size but bigger, have a bunch of different people doing what Bruce Bender does on a regular basis. Negotiating contracts, some are looking at the underwriting, some are handling relationships with brokers. I've always been impressed with your ability to do all of those things.

Bruce: Thank you. So definitely is a unique piece on that side.

Josh: When we think about Royal Oak, what comes to mind for a lot of people outside of the investment success, I would say, is the industrial focus. We could've done a whole bunch of different things, right? Real estate's pretty broad. Why did we like industrial? What was the big impetus to say, "This is what we're going to focus on"?

Bruce: Well, and I want to expand on when you say industrial, there's a lot of different types of industrial product out there. We focus on manufacturing, light assembly. We're not buying warehouses. And you might ask, "Well, what's the difference? It's all industrial."

But when you look at our manufacturing light and assembly, you're going to see significant bolt-down equipment, heavy-duty infrastructure, a lot of electrical, plumbing, things like that. It makes the buildings what we call mission critical and they're very sticky. So compared to a, let's call it a Plain Jane warehouse, where you can pick that up and move it down the street with not too much pain. So our buildings, it'd be very difficult to move the operation, and we'll get into a little bit later, but that also allows the tenants to enter into long-term leases.

A lot of our leases are 20 years. You don't typically see that in a warehouse space. So I just wanted to expand on industrial, what it really means to us.

Josh: Yeah. The stickiness is key. I know I sit in and listen to your investment committee, your acquisition committee meetings, and who's in that building is super important not just because of the credit quality, but just we don't want them to go anywhere. It's enough work on the front end to make sure that they're good. We certainly don't want to have to deal with on the back end. Focusing more on that portfolio construction, the investment committee, talk a little bit about how we think about that construction.

Obviously, we're pretty agnostic to who's in our buildings, but we don't want concentration risk. We don't want certain things. So how do you think about that when you're reviewing individual opportunities against the whole that we already have?

Bruce: Well, we think about it a lot. We talk about it a lot. When you talk about our portfolio, we've got a diversified portfolio. And when we talk about diversification, we're talking about geographic diversification.

It would not make sense to have all your buildings in one city. If that city came across issues, it would not be good for the portfolio. We're in 24 states. We've got over 80 buildings in 24 states with about 9 million square feet of building space. So it really, I think helps us feel comfortable that for the long haul, we've got a diversified portfolio.

Our investors probably feel the same way. This is not like you're just buying into one building and it's all or nothing. We can handle a downturn with one or two or three of our tenants if that should happen. But having a nice diversification across, like I said, geographic and multiple tenants.

Josh: Yeah. And that even comes to the types of buildings, right? We don't want all very specific built to suit only for that user. You want almost a diverse building, right? Where there could be other users that could come in as part of the process. That is part of the underwriting.

Bruce: And in our perfect world, it would be a nice, let's call it rectangular box that any company could use it. If it becomes more tenant specific, then it gets tough to re-tenant. And we're always, and we'll get into it a little bit later, as far as always looking at if something should happen with our tenant, can we re-tenant it?

And there's a lot of different things that go into the underwriting to support our thesis as far as is it going to be redeployable if we should need to.

Josh: So I think what would be interesting, and it won't be exactly this way, but I almost want to go through that investment process, right?

What happens before all the way to maybe the end. So as we start, part of the role for you is an immense amount of relationships with everyone who could send us a deal Where do those deals typically come from?

Bruce: Yeah. Well, where do they come from? I break it down into three different categories, okay?

There are national brokerage firms, the JLLs, the Colliers, the CBREs, that specialize in capital markets. That's the business that we're in as far as buying these type of buildings. So they've got relationships with private equity firms. They have a whole team of folks that are out there calling up sellers and tenants or business owners to see if they want to monetize their real estate.

And so we're… That that's number one. That's the biggest funnel for us. The next is our existing investors. They're a good source of it. We've bought a couple buildings from existing investors. They've liked what we've done. They had buildings that met our criteria. And sometimes we've done it on a deferred, tax deferred nature.

So it helps them. It gets them out of a building ownership standpoint. They don't have to incur taxes. Other avenues are accounting firms, attorneys, our RIAs, the investment advisors that you guys deal with. From that standpoint, they all have clients that some of them have their own businesses, and some of them have their own real estate, and it's a great fit for, "Okay, we're talking to investing in Royal Oak.

By the way, you've got a building. What do you think? Maybe they might be a good fit for you to sell your building to." And then the last source, and this is one I think that we're really proud of coming from our existing tenant base. We're getting large enough now that we have enough tenants and they call us up and say, "Hey, we've got another building here. Would you like to buy that? And we'll lease it back."

This year alone, we've got five of those on our board that it just, it feels good when a tenant has that type of comfort and has a great relationship with Royal Oak that they're willing to expand that relationship.

Josh: I think it speaks to the relationship with you and your team, right?

The process was either easy or enjoyable or maybe less painful than it could be, and so they don't mind going through it again to get the same solution. And that's what we're providing, right? We want to provide solutions to a whole host of groups. It might be different for each group, but it's still a solution that we're providing.

Bruce: Well, we've always viewed it as a relationship and not a transaction.

And part of our acquisition process is interviewing these tenants, because we do mostly sale-leasebacks. So during those calls that we typically have our whole team on there, we have the president or the owner of the tenant, we talk about a relationship, and they're in a unique situation where they're the folks that are able to pick who their landlord's going to be theoretically for 20-plus years.

So you want to make sure it's a good fit both ways, that they like how we handle things. We always tell them we're very transparent. You've got our cell phones if the president of the company wants to call me. Now, I had one call me today. They were- had a question about something.

We're available and likewise for the tenant. We want to make sure it's a good fit for us. Sometimes we get through with those tenant interviews. This is before we've bought the property and so forth, and sometimes we walk away and go, "I'm not sure we really want this building or this company because we saw something." So that tenant interview actually is a really nice tool to really understand about the company.

Josh: So deals come through, they come across your desk, they come across your team's desk. What's the first thing that you're taking a look at?

Bruce: Well, if it's coming to me, the first thing that I'm looking at, it's high level.

Where's the building located? Is it in a market that's surrounded by other industrial properties? Is it in a tertiary location? Maybe we don't want it if it's out there. The type of building structure. Is it metal? Is it concrete? Things like that that we look at.

The tenant industry. Some industries we just don't want to get involved with, or we've had tenants in that industry, and they've been problem child for us, so we're probably going to stay away from it. So that's a high level. Once we say, "Yep, that's starting to check those boxes," then we're looking at tenant financials and a lot of other deeper dives as far as rental and so forth.

Josh: Yeah. And that gets into maybe the most important piece, maybe to me, I think to others, about the investment is the durability of the return. We look at our returns, talk to our investors. It's like clockwork, and that's the goal. And so when you're looking at those deals, I'm not just assuming, I know that's in your mind, right?

How do we make sure that we're bringing things that… What things stand out to you that help lead to that durable investment that's going to be… It's not up for 20 years, they're going to pay rent for 20 years. And what gives you that confidence when you look at it?

Bruce: Well, it's, once again, it's the building quality, the type, the location.

When you talk about durability, things change over time. We're talking long-term leases and is the tenant going to be bought or sold and so forth. Making sure that that building can be repurposed, re-tenanted. One thing we look at a lot of times is market rents.

So when we're doing a sale-leaseback, the private equity firm or whoever's selling it, they want to maximize their sale proceeds. Well, how do you do that? You increase the rent. So, and we see this on a regular amount of deals where, let's say the market rent is $5 a square foot.

They come to market at $8 or $9. And we're like, if something happens to that tenant, we're never going to find another tenant to lease that building at that $9 a square foot. So typically, it's not uncommon for a situation like that, we'll still submit an LOI, but at $5 a rent.

If the broker receives offers and everyone's coming back at $5 a rent, well, he's got to tell his client that you're only going to get this much in sale proceeds because the rent is only at market at $5. When you talk about durability, things are going to change. Tenants are, like I said, going to come and go as far as who owns them.

They're a private equity firm. That's where the lease comes into play, and it's really important concept here, and it's probably the most heavily negotiated concept in a lease. It's the assignment and change of control concept. And it's gotten to the point where a lot of these sophisticated brokers and PE firms, we are negotiating that as part of our LOI.

We don't want to sign an LOI, start all this due diligence, we send out our contracts, and then we're negotiating over change of control or an assignment. That's not a good time to do it. So we address it upfront and sometimes… It's only fair also. We're giving a decent amount of cash equity to these sellers, and we expect in return to have them fulfill their lease requirement.

And let's say the tenant today is leveraged at 2X. It's not fair to us if they go and sell next year to a company and now they're levered at 7X or something. That's not what we signed up for. And not that we wanted to have them 7X, but then typically, they could be maybe four or five.

But we'll work with them as far as agreeing on a credit enhancement. Is it a guarantee from a higher level entity? Is it a security deposit? Is it a letter of credit? Things like that that will help us get comfortable. And at the end of the day, we've been in this long enough that these private equity firms, they're going to hold these operating companies for five, six years and they're going to sell.

So it's important for them to have a way out and not having the landlord preventing them. So we always tell the folks that, "Yeah, we're going to let it go through, but we're going to get some sort of credit enhancement."

Josh: Especially recently, I think I've gotten asked about why so many of our tenants are private equity backed or owned.

You mentioned it right there. I think it's if we're doing our job right, we're finding really strong middle market tenants. They're not just targets for us, they're targets for strategic acquirers. They're targets for private equity. So we almost have to go into it assuming that there's going to be a change of control at some point.

And so that's maybe leads into the next question. Thinking about the types of deals We'll leave the fun ones for after, but the no deal, right? We see 4 or 500 deals a year. We close 6, 8, 10, 12. That's certainly not all of them. So as you go through that process, what makes you say, "No, this is not happening"?

Bruce: Well, to start off with, sometimes we're going to see an offering and the cap rate that the seller's asking for is just not market. They're still living four or five years ago when interest rates were low and the cap rates were low. And if someone's really going to be sticking to a lower cap rate, they're probably not a market seller.

And we're probably not going to be able to proceed with them. Another thing that you might have a nice looking building and say, "Well, that's great. It looks good. It's in a good market," and so forth. You get the floor plan and 40% of the building is office. And we're…

That's not so much an industrial building, and those type of buildings are difficult to re-tenant. So once again, we're looking at the layout. Is how much office space is in it? How many docks does it have? Is it close to an expressway? Things like that that make the whole story, the criteria behind what we want to buy.

So we look at a lot of different things. It's not just, okay, it's the tenant and the rent and stuff like that. There's a lot… I joke that when I started this 13 years ago, we had a few boxes. Now we've got a bunch more boxes that we're trying to check, and it is difficult, but we want to make sure that we're deploying our investors' equity appropriately.

Josh: Yeah. It's almost like we try to find a way to say no, and if we get to the end and we just can't say no, then we're going to do the deal. Which, to me, is the right way to do it, but it was eye-opening the first time I listened to these calls and- My favorite joke is when I first started, I think I sat down with you, I talked to Dan, and both of you said, "We can move really quickly."

And I've still not seen it, but I know that we can. I think we're, on purpose we take our time, and so we go through these often and we ask the same question to make sure. And that's why we've had the track record we've had because you and your team go, "Okay, well, that's fine, but what about this? Is this a yes or a no?

Well, okay, it's still a yes. All right. Can we keep moving forward?" And there's just an immense amount of opportunity to remove it through the process. Ones that fit are typically pretty good.

Bruce: Well, and let's call it what it is. We're conservative. And that's not a bad trait, and I think our investors, obviously you're going to hear it now with this, but if they knew about that, I think they would be very happy that we're not going out and buying properties just to deploy equity. That's never been the model, and we won't do it. So we want to make sure that I think this year is a good example compared to last year. Last year we had plenty of cash. We could've gone out and bought a lot of stuff in the first half of the year.

We didn't close our first acquisition till June 30th, and the reason why is we were not seeing good product. So we would rather just be conservative. We'll find the product eventually, and it just, it's not good to go and enforce acquisitions. We see deals that were sold, I don't know, four, five years ago that we were interested in, we would've liked to, maybe we lost out on it, and they come back to market.

They did transact, and now the owner who bought it five years ago, they're trying to sell it, but they bought it at such a low cap rate, or they bought it, once again, at a rental that's above market that we're like, "You know, we're not interested in it now." I mean, you guys ruined the deal because of you were so aggressive back then and there was a lot of firms that were just spending money to spend money, and we did not do that.

Yeah. I think to our credit.

Josh: So on the positive side What is a yes deal? We've done nine deals this year, we did eight last year. What do those yes deals look like when they come into Royal?

Bruce: Well… Yeah, I'll give an example where couple months ago we were approached by a brokerage firm.

They had their client, which was a private equity firm, had two operating companies that totally separate operating companies, but they wanted to transact with the same buyer. And the issue was that they wanted to make sure that they got the deal closed before the summer came along. They didn't want to drag it into summer.

Next thing you know, the attorney's on vacation, the buyer, the seller's on vacation, things just drag out. So we committed to them we would get it done, and it was a nice deal from a standpoint where good operating companies, good markets, good buildings, 20-year absolute net lease with 3% annual increases.

So it was right down the middle of the fairway. If we could do one of those a week, we would be ecstatic. But there's always deals that go off into the rough a little bit and those are the ones that we stay away from. So that was something that we really liked and that it…

Also, the seller was committed to getting it done. We knew that they were going to be committed. They had a timeframe that they wanted to get it done. And just to build on how we operate, we had weekly meetings. So it was only a 30-day process, so it wasn't like it was a lot.

Every Monday, we would meet buyer, seller, our attorneys were on the call. We had a checklist of everything that needed to get done. And who was assigned to doing that. Friday afternoon, we'd send out an update where everything stood. So I think the seller really felt comfortable that they picked a excellent partner.

Somebody who was committed, somebody that was going to make the deadline that everybody wanted to make. And after the fact, we got all sorts of praise from the PE firm that just they were so pleased with how organized that we were and professional we, that we were throughout the whole process.

Josh: I'm going to stand corrected. That was quick. Yeah. That we did move quickly when we need to. Yeah. No, that does make sense. I think the counterparty is an interesting factor to that. We get approached with tons of deals, and you can tell pretty early if this is someone who's serious or this is someone who's testing a market or wants a stalking horse or is going to move it somewhere else.

We don't really like to waste our time, which is fair. So part of our process, which I think is a great check and balance, is that we have an acquisitions committee. They sit and you meet every two weeks. There's Three members. One is Dan Goldstein, the other two are shareholders and are part of the fund as well.

One's on the real estate side, one's on the finance side. Talk a little bit about that process. I know it can… I don't want to say it slows things down, but it's another layer that you have to work through. But what does that feel like? Is it a good collaborative environment? Yeah. Why do we like it?

Bruce: Well, let's start from the beginning of the process. We get all these offerings, and Hank Guido, who works for me, he's senior director of real estate acquisitions. He has a few folks on his team that they're reviewing the deals, deciding if they really fit into our box.

Then on a weekly basis, I'm meeting along with Hank and the team to go through those acquisitions and say, "You know, sometimes we'll kill them, sometimes we won't." Next up we have an, what we call internal acquisitions meeting. Okay? That will be the acquisitions department, but also we have Dan Goldstein, chairman and CEO.

We have our chief operating officer. We have our CFO on there. We have our portfolio manager in the, these meetings. Additionally, folks from your team from investor relations join just so they can get a flavor of what we're working on and so forth, just to keep them more educated as far as what we're going through.

And so it's fully vetted there and, as part of the process, we are bringing up… Google Maps is a great tool. Okay? People use it for getting around. But we bring up the building so we can see where it is, are surrounded by other industrial properties.

Go to Street View. That's another beautiful tool where you can see, what's the building made out of? Is it made out of metal? Is it made out of concrete? You can even inspect the parking lot. Is it in good shape or does it need to be repaired? Another thing with Google Maps, you can see how the roof is.

That's the most costly part of a building is the roof. So if the roof is looking old, you can take that into your thought process or at least try to address it when you're going through the process there. So we do all that with the team and everybody that's there. And then, like I said, every two weeks, we meet with the acquisitions committee.

That's made up of Dan Goldstein, once again, chairman, CEO, but also Pat Burke, who is a former banker and finance executive. So he's looking at it, let's call it more from the financial, the credit of the tenant, things like that. And then we've got Bob Moore, whose family has had a real estate, industrial real estate brokerage firm here in Rochester for 50 years.

I think a year or so ago they celebrated their 50 years. So Bob's been in and out of a lot of industrial buildings. Great wealth of knowledge as far as when we're talking about buildings. And the acquisition committee has to approve Every opportunity here. So if they don't approve it, we're not moving forward to buying it.

Josh: So as we think about the future for this, right, this is how the deal gets done. We've created this billion-dollar portfolio. What do you see as maybe the risks or the advantages of staying industrial moving forward? What makes you excited for Royal Oak, but also keeps you up at night still thinking about what we're looking at?

Bruce: Well, the risks are always, is the tenant going to do well in business? Are they in an industry? So you've got the tenant to worry about and then the building. And I think I've already spoken about how do we minimize those risks. By getting tenant financials.

We get the… When we're bidding on an opportunity, we will see the tenant's financials for the prior three years, okay? Also, as part of our lease agreement, they're required to give their audited financials annually. Plus, we typically ask for internal a couple times throughout the year.

Our portfolio management team is checking in with them a couple times a year, how is things going, and just talking about business in general. So it helps minimize the risk, but it also helps us get ahead of if there is an issue. If we see something going on with the tenant, we can think about do we want to sell the asset?

Do we, what do we want to do here? So there's different things that we do to minimize it, and obviously the building quality helps minimize those risks. But things are going to change.

Josh: Yeah. No, that's totally fair. An interesting part of this role is not only talking to investors about an interest in this, it's trying to provide reasons why their hard-earned capital should go here as opposed to anywhere else, right?

So from your vantage point, sitting over the process, seeing basically the portfolio from start to now, what should advisors or investors be thinking about that maybe differentiate us, maybe what they should understand about our approach that makes it a worthwhile place to put capital?

Bruce: Well, if they look at our executive of summary, our PPM and things like that, all of our marketing information, they'll see that we have long-term leases That are typically have 2% to 3% annual increases.

They're absolute net lease. So if the roof needs to be replaced, if the parking lot needs to be replaced, if the air handling units need to be replaced, the tenant is paying for that. Okay? So I'm sure when you're talking to potential investors or the other folks on the team are, we always talk about clear and consistent cash flow.

Well, how do you do that? It's structuring it as an absolute net lease. So if real estate taxes increase, if utility costs increase, that's all paid directly by the tenant. If the roof needs to be replaced, that's paid for by the tenant. So it's not coming out of cash flow that's coming to Royal Oak.

Or to Royal Oak's investors. So it helps us make sure that it's going to be clear, consistent cash flow, and there's not as much risk to these type of leases.

Josh: That makes sense. I didn't prep you for this one, but I'm going to end here anyway because I think it's important.

We acknowledged at our annual meeting, right, this is your last year at Royal Oak, which is great. For you, it's very exciting, but you've created an incredible structure and team. I think there's a tremendous amount of kudos that you deserve for doing that and building things out. The team is in a great place.

I know you have confidence in them moving forward. Maybe not from an outsider view yet, but what makes you excited for Royal Oak's future, making you feel like you've left it in a really great place when you do end up being done?

Bruce: Well, I think that the thing that helps me sleep at night is that we've got a large portfolio that, to be honest with you, it's probably just starting to take off.

We've always talked about the billion-dollar threshold. We're going to get more investor interest. It's more diversified. When we started this journey, we had one, two properties. And we did have all of our eggs in one basket or two baskets, things like that. So knowing that we've got a great team, and it's not just in acquisitions, it's across the company that we should be in it for the long haul.

We are in it for the long haul, and I think only good things are going to come to it. I'm a little bit jealous that I'm not 10 years younger. That I could be around to help grow this thing. But we've got talented folks that are ready to move forward.

Josh: Yeah. Well, I have to thank you for being a tremendous asset for me learning the business as I jumped on board, and I'm excited for you to have come on. I appreciate the time, and I know people enjoy it, so thanks again.

Bruce: You bet. I appreciate being here, and I could talk, as you can tell, I could talk about Royal Oak all day long.

It really is, it's personal, it's exciting, and hopefully is very informative as far as what we talked about here today.

Josh: It's perfect. Thanks, Bruce. All right. Thank you.