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Edited Transcript of DDR earnings conference call or presentation 15-Feb-18 9:45pm GMT

Thomson Reuters StreetEvents

Q4 2017 DDR Corp Earnings Call

Beachwood Feb 16, 2018 (Thomson StreetEvents) -- Edited Transcript of DDR Corp earnings conference call or presentation Thursday, February 15, 2018 at 9:45:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brandon Day-Anderson

* Conor Fennerty

DDR Corp. - SVP of Capital Markets

* David R. Lukes

DDR Corp. - President, CEO & Director

* Matthew L. Ostrower

DDR Corp. - CFO, EVP and Treasurer

* Michael A. Makinen

DDR Corp. - Executive VP & COO

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Conference Call Participants

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* Alexander David Goldfarb

Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst

* Christine Mary McElroy Tulloch

Citigroup Inc, Research Division - Director

* Ki Bin Kim

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Michael Bilerman

Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research

* Michael William Mueller

JP Morgan Chase & Co, Research Division - Senior Analyst

* Ronald Kamdem

Morgan Stanley, Research Division - Research Associate

* Stephen Thomas Sakwa

Evercore ISI, Research Division - Senior MD & Senior Equity Research Analyst

* Todd Michael Thomas

KeyBanc Capital Markets Inc., Research Division - MD and Senior Equity Research Analyst

* Vincent Chao

Deutsche Bank AG, Research Division - VP

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Presentation

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Operator [1]

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Good afternoon, and welcome to DDR Corp.'s Fourth Quarter 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Brandon Day-Anderson. Please go ahead.

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Brandon Day-Anderson, [2]

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Good evening, and thank you for joining us. On today's call, you will hear from President and Chief Executive Officer, David Lukes; Executive Vice President and Chief Operating Officer, Michael Makinen; and Executive Vice President, Chief Financial Officer and Treasurer, Matthew Ostrower.

Please be aware that certain of our statements today may be forward-looking. Although we believe such statements are based upon reasonable assumptions, you should understand these statements are subject to risks and uncertainties, and actual results may differ materially from the forward-looking statements. Additional information about such risks and uncertainties that could cause actual results to differ may be found in the press release issued today and the documents that we file with the SEC, including our Form 10-K for the year ended December 31, 2016, and subsequent quarterly reports on Form 10-Q. In addition, we will be discussing non-GAAP financial measures on today's call, including FFO, operating FFO and same-store net operating income. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures can be found in our earnings release issued today. This release and our quarterly financial supplement are available on our website at www.ddr.com.

For those of you on the phone who would like to follow along viewing today's presentation, please visit the events section of our Investor Relations page and sign in to the earnings call webcast.

At this time, it is my pleasure to introduce our President and Chief Executive Officer, David Lukes.

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David R. Lukes, DDR Corp. - President, CEO & Director [3]

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Thank you, Brandon. Good evening, and thank you very much for joining us on our fourth quarter earnings call. I'd like to start by summarizing the 3 key points I'd like everyone to take away from this call: First, 2018 is the year in which restructuring and dilution from deleveraging will stop, replaced by growth and enhanced returns to stakeholders; second, this shift is possible because of the dramatic changes we made to our balance sheet, which is now among the best in the shopping center space; and third, there are substantial leasing opportunities embedded in the new DDR portfolio, including mark-to-market of anchor spaces and significant momentum in small shop leasing.

Now onto the quarter. I'll review our results and then provide an update on the spin of RVI and recent DDR transaction activity. I'll then hand the call over to Mike for comments on Puerto Rico and an in-depth look at the operating environment, and we'll close with some comments from Matt on the balance sheet and guidance.

Operating FFO per share growth for 2017 in the fourth quarter were negative largely because of dilution from the deleveraging process. We exceeded our 2017 transaction expectations handily, disposing of over $1.3 billion of assets and bringing pro-rata debt-to-EBITDA down from over 7x at the beginning of the year to 6.4x today. This has been painful for shareholders, but we continue to believe de-risking was the right decision given today's operational and capital markets uncertainties. Decisive actions in 2017 mean that dilution from de-leveraging should end in 2018.

Operationally, 2017 presented growth headwinds, primarily from exposure to several large anchor tenant bankruptcies and the impact of Hurricane Maria in Puerto Rico. Despite these headwinds, results exceeded our original budget, allowing us to avoid a contraction in Continental U.S. NOI. Looking forward, we still expect at least 1.5% same-store NOI growth in 2018 for new DDR, unchanged from December and a product of DDR's significantly improved portfolio following the completion of our $900 million disposition program and the spin of slower-growth assets and Puerto Rico. Mike will say more about Toys "R" Us shortly, but the announced closures in new DDR are great examples of embedded opportunities in our restructured portfolio. In fact, many of the assets in new DDR were selected precisely because of anticipated retailer disruption.

Toys "R" Us closures at 2 of our best assets will open up future redevelopment projects with potential value creation far exceeding loss NOI and downtime at other toys closures. We expect this story to recur at new DDR again and again, where incremental closures represent net opportunity for stakeholders.

Turning now to the spin of RVI. We remain on track for midyear 2018 effective date, and we closed on the $1.35 billion mortgage just yesterday, a major milestone for the transaction. We expect to provide more details on the loan and its terms in the upcoming months when the loan syndication process is complete. And as we mentioned at the time of the announcement, we have already commenced the asset sale process with the majority of the Continental U.S. assets now formerly listed for sale with brokers. We expect RVI transactions to begin closing in the second quarter with larger volumes in the second half of the year.

Finally, I'd like to comment on our recent transaction activity. We sold nearly $600 million of assets in the fourth quarter at a blended 7.5% cap rate at our share and closed an additional $135 million subsequent to quarter end. For the full year 2017, we sold over $1.3 billion of assets at a sub-8% cap rate. Asset level debt markets are open, private market buyers are active and our sheer volume of recent activity gives us great confidence that we have clarity on current pricing.

This last quarter alone, we sold 13 assets to 12 different buyers. We have a dedicated and focused transaction team, and I'm incredibly pleased with their results. Their better-than-expected pace allowed DDR to pivot to leverage neutral capital recycling in 2018, something that energizes our entire company.

I'd like to reiterate how proud I am of our team's accomplishments in 2017 and how excited I am about new DDR's opportunities in 2018. Over the past 12 months, we streamlined our organization and significantly reduced cost. We fundamentally, restructured our balance sheet through deleveraging and over $900 million of securities offerings. We supported our employees in Puerto Rico and began the recovery process. And of course, we announced the final step in our strategic transformation through the spin of RVI, creating 2 different and focused business plans for 2 different portfolios.

I spent the last month visiting new DDR assets, once again, with our outstanding leasing and property management teams and then convinced that we have exciting opportunities embedded in our strong new DDR portfolio. We expect 2018 to be very different from 2017, especially as we return to a growth posture. But one thing will remain constant is our commitment to act decisively in order to create value for all stakeholders.

And with that, I'll turn it over to Mike to review some key operating conclusions.

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Michael A. Makinen, DDR Corp. - Executive VP & COO [4]

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Thank you, David. Fourth quarter same-store NOI growth for the Continental U.S. portfolio was negative 0.4%, in line with our budget. Better-than-expected occupancy would have resulted in flat NOI growth if it were not for a 30-basis-point negative impact from unbudgeted snow removal costs. Importantly, and as part of the theme, you will see with nearly all of our fourth quarter operating metrics, new DDR's roughly 1% same-store growth was measurably stronger than the combined portfolio. The combined company's lease rate declined 20 basis points sequentially to 93.5%. This was entirely a product of dispositions as the assets we sold in Q4 had a weighted average lease rate of 98.9%.

Total NOI growth in our Puerto Rico assets was negative in the quarter, a product of the lingering hurricane impact and the islands' weak economy. Electricity from state utility has been restored to all of our assets, and repairs to damaged spaces has begun. While year-over-year operating comparisons will remain challenging, I am encouraged by our significant positive sequential momentum highlighted by the opening of the first Dave & Buster's on the island mid-January, which has exceeded expectations. From a physical perspective, we reported that 75% of lease space was reopened at the end of October, excluding our badly damaged Palma Real asset. And that number rose to 85% at the end of January. More importantly, 92% of tenants open at the end of January were rent-paying as cash receipts have rebounded similarly.

I couldn't be happier with the progress to date and the current state of the assets, which, upon visit, are in excellent shape with full parking lot, heavy foot traffic and great sales volume. To show you just how far things have come, we produced a short video tour of footage from 2 weeks ago, which is available in our earnings call slide deck as well as the Investor Section of our website. I would encourage you to click on the link. You'll be amazed at the progress. All of this would not be possible without the Herculean efforts by our team on the island as well as our property and construction management teams.

On leasing economics, our fourth quarter results were strong, with ongoing healthy new lease volumes and better new lease spreads than year-to-date trends. Importantly, when combining new and renewal leasing activity, new DDR spreads of 9.5% were measurably above the combined company's 5.9%. We continue to make progress backfilling vacant anchor boxes from 2016 and 2017 bankruptcies. Backfilled tenants include Marshalls, AutoZone, Planet Fitness and Burlington.

At our Westlake redevelopment project here in Cleveland, we now have signed leases with Fresh Thyme, [Alta], HomeSense and Pet Supplies Plus. I have spoken previously about my view that there is a small shop leasing opportunity at DDR, and we now have 2 quarters of improving results to back up these leases. Specifically, third quarter's small shop leasing volumes were up 30% compared to those in the first half of the year, and fourth quarter volumes were up 48% on the same basis despite the smaller number of assets we were leasing. And we didn't achieve these volumes by sacrificing economics as the average double digits spreads we achieved on these spaces in the second half of the year attest. We see these new higher profitable activity levels as sustainable, given the 590,000 square feet of small shop space that is currently vacant in the higher-quality new DDR portfolio.

On Toys "R" Us, the bankruptcy will impact our portfolio in 2018. I'll walk through the results of our negotiations, thus far, though I would add that final closures and outcomes remain subject to change as their bankruptcy process continues. As of now, we expect 8 stores to close in the combined portfolio with 4 wholly owned stores in new DDR, including a previously announced re-tenanting of a dark but rent-paying store in Los Angeles.

The impact of 2018 NOI is expected to be $4.3 million for the combined company and $3.5 million for new DDR, a 73 basis point impact to same-store NOI. We do not expect any of these closures to trigger co-tenancy clauses. This bankruptcy scenario is an important case study for new DDR with an estimated marked-to-market in new DDR significantly higher than that in the combined portfolio. I'll close with some comments on the operating environment, which I will describe as generally unchanged from a quarter ago. We continue to see healthy demand for spaces, including our vacant anchors though the breadth of demand is certainly smaller than it was several years ago.

With that, I'll hand the call over to Matt for some comments on our balance sheet and guidance.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [5]

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Thanks, Mike. As David mentioned, the work we have done this year, both in terms of lowering leverage through asset sales as well as significantly extending our maturities, means that DDR is positioned to begin investing capital and growing FFO in 2018.

Pro rata debt-to-EBITDA declined from roughly 7x at year-end 2016 to 6.4x today. Additionally, repayment of debt, when combined with a 3 debt and preferred offerings completed this year, resulted in a significant lengthening of the combined companies' weighted average maturity from 4.2 years at the beginning of the year to 5.4 as of year-end. New DDR will benefit from all these changes with added de-risking through improvement in the overall quality of the unencumbered pool and extension of our weighted average maturity to 6.5 years through the application of proceeds from the $1.35 billion mortgage loan. We expect new DDR to have virtually no unsecured maturities until 2022, which significantly limits refinancing risk.

On the spin itself, we expect to confidentially file the Form 10 this quarter and make a public filing some time late in the second quarter. As David mentioned, we remain on track.

I'd like to now touch on a few fourth quarter financial statement items. First, our plan to sell the 50 spin assets caused a change in our projected holding period, which, in turn, triggered a $259 million noncash impairment on these assets, a significant portion of which is from Puerto Rico. Further impairments are possible if sale prices fall below new book values and/or from the ongoing process of rebuilding assets in Puerto Rico. This impairment does not change the year-end 2018 leverage or covenant forecast that we presented in December.

Second, we received and recorded $8.5 million of business interruption insurance payment in the fourth quarter. These payments represent a partial payment against our claim to date and are thus below the ultimate reimbursement amount we expect to receive for each period. We are working with our insurer to receive regular business interruption payments as we negotiate finalized claim amounts.

Finally, we received repayment of $49 million of the preferred securities associated with our Blackstone joint ventures in the fourth quarter as well as $36 million subsequent in January as a result of the ongoing liquidation of that fund. Since the third quarter of 2017, we have received $91 million in total preferred proceeds. Lastly, we made no significant other adjustment to the carrying value of the preferred securities this quarter.

I'll now make a few comments on guidance before turning the call back to the operator for questions. We have provided new DDR Operating FFO guidance of at least $0.15 per share for the third quarter 2018, the first quarter post-spin. We would expect to provide further new DDR FFO guidance as the year progresses. This is consistent with the dividend rates and AFFO payout ratios that we provided for new DDR at the time of the spin announcement in December.

Embedded in this guidance are several assumptions. First, the same-store NOI guidance of at least 1.5% that we provided at the time of the spin announcement remains unchanged and already anticipated significant Toys "R" Us store closures. G&A guidance of $70 million represents a run rate based on expenses in place in 4Q '17. This is consistent with our guidance for $10 million of external management fees for RVI that we have provided, which, itself, assumes no 2018 asset sales. In actuality, as RVI asset are sold, RVI fees will fall as well.

Finally, the year-over-year decline in interest income and JV fee income is largely a product of the aforementioned ongoing sale of properties within our 2 remaining Blackstone JVs and additional JV asset sales. As mentioned, we received $36 million of preferred equity in January, so please note that you will see a further step-down in interest income in the first quarter of '18.

With that, I would like to turn the call over to the operator for your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Christy McElroy with Citi.

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Christine Mary McElroy Tulloch, Citigroup Inc, Research Division - Director [2]

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Just on the disposition. Just wondering, excluding Whittwood, if you could provide some color around cap rates on the assets that you've sold in Q4 and so far in Q1. And understanding that you've closed on a few so far year-to-date, but just given the active marketing process that you've mentioned and others potentially under contract, maybe you can give us a sense for dispositions -- disposition volume expected prior to the spend.

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David R. Lukes, DDR Corp. - President, CEO & Director [3]

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Sure, Christy. Happy to. If you look at Page 21 of the sup, you'll see that the pro-rata share of ownership of the assets were sold in the fourth quarter. Only 5% comes from Whittwood. So the relative impact on the cap rates that we've talked about, the 7.5% for the fourth quarter, isn't really going to have a dramatic effect. I think the bigger question is what have we seen since then. And out of the $135 million we've closed year-to-date, the blended cap rate is a bit lower than the average for fourth quarter. So it really depends on the inventory. In general, the longer our disposition process goes, the better the assets are there being sold. And so we haven't really seen a whole lot of change in cap rates over the past couple of quarters. Projecting on the future, your guess is as good as mine. I feel very good about our team being able to get such a large quantity of assets into the market in January. I think we've got a lot of active buyers that have successfully bought assets from us over the course of the past 12 months. And we're feeling pretty good about where the market stands today.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [4]

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We can reiterate that, as you would have heard, and I think in the prepared remarks, is that we expect that the RVI process and those dispositions will accelerate through the year, right? So I would have more modest expectations, especially for the sake of conservatism, more modest expectations for that portfolio is in the first half of the year and higher expectations in the second half.

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Christine Mary McElroy Tulloch, Citigroup Inc, Research Division - Director [5]

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Okay. And then just a bigger picture, I realized that you're just coming off of a very long deleveraging period, which has, given where your shares trade today, just such a massive discount. When you get to a point, in terms of the new DDR, and there's a lot to talk about that, when you can start doing share repurchases on a leverage-neutral basis, where you can say, okay, we're going to take most of our free cash flow and sort of limit redevelopment and not buy any assets and just buy back your stock.

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David R. Lukes, DDR Corp. - President, CEO & Director [6]

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Well, probably the most important and exciting part of that question is that we're actually able to discuss it. And I feel great about what's ahead of us in the next 12 months. I think whether it's an asset purchased externally, whether it's a share repurchase, it falls to the same thesis, which is, we're going to be on our front foot, we have things to do, and nothing is off the table when trying to make an accretive purchase.

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Operator [7]

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Our next question comes from Todd Thomas with KeyBanc Capital Markets.

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Todd Michael Thomas, KeyBanc Capital Markets Inc., Research Division - MD and Senior Equity Research Analyst [8]

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Just following up on the dispositions. So you completed $246 million of asset sales at DDR share in the quarter. I think that compares to the $450 million expectation that you laid out at the announcement of the spin, which was to be completed through the year end for 2018. Is there a desire to potentially raise more capital to the extent that you can through asset sales and that the demand is there? And to the extent you do, where will incremental proceeds be applied?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [9]

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Yes. Look, I think the message is, we move from -- in 2018, we move from outright delevering, right, which kind of forecloses a lot of options to a capital recycling position, right? So as ever, and I think you'll see that our overall strategy over time is going to be to constantly look at the assets that are the lower-growth-rate side of the spectrum that have attracted pricing and look to recycle those into higher-growth assets. So I think that answers -- I hope that answers your question. I think we really will be -- we'll be selling other things, but it won't be for the sake of delevering.

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Todd Michael Thomas, KeyBanc Capital Markets Inc., Research Division - MD and Senior Equity Research Analyst [10]

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Okay. And then the -- this financing, the $1.35 billion financing that you announced yesterday, I was just curious if you could comment on how that changed, if at all, since the announcement through closing, whether there -- the structuring change at all or pricing or anything at all changed since the December announcement.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [11]

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Yes, Todd. The reality is not much. So the way the process worked and what we announced in December was something that we had a commitment on, right? So we had signed the term sheet. And in those term sheets, you commit to all the major terms of the loan. You have to then pay for the loan, which I shouldn't underestimate the importance of and the kind of length of. But in reality, all the major negotiations, all the key business points should be done by the time you signed that commitment. And I would say that was very much the case in this instance. So nothing really changed.

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Todd Michael Thomas, KeyBanc Capital Markets Inc., Research Division - MD and Senior Equity Research Analyst [12]

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Okay. And I don't know if I missed this at all anywhere, but can you comment on the pricing?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [13]

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Yes. It's difficult. The loan provides the lenders the right to syndicate, which would ultimately, we think, impact the interest rate on the loan. So we do expect to provide more information on the loan's rate and terms once we have greater clarity on that process.

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Operator [14]

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Our next question comes from Alexander Goldfarb with Sandler O'Neill.

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Alexander David Goldfarb, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst [15]

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So just a few questions here. First, just given -- actually, let me ask this guidance one first. Matt, did you go over how much of the at least 1.5% same store, how much of an impact Toys and any other lease restructurings or closings that you guys may be budgeting? So is that like -- is there 50 basis of NOI impact or some way to quantify the impact from what you expect from toys and others?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [16]

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Yes. We said in the prepared remarks that there was a 70-or-so basis point impact this year from Toys.

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Alexander David Goldfarb, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst [17]

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Okay. So...

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [18]

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On the new DDR side, which is consistent with that 1.5% guidance.

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Alexander David Goldfarb, Sandler O'Neill + Partners, L.P., Research Division - MD of Equity Research and Senior REIT Analyst [19]

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Okay. Great. And then as far as the dispositions side, and we'll talk more about the U.S. assets, not the Puerto Rico one that you're trying to sell, have you noticed any change in the buyers? Like, it seems on this quarter's earnings calls, all the REITs collectively are speaking about a better retail environment and sort of people feeling better coming off the sideline to buy more assets. Are you seeing buyers willing to take on releasing risks? Or everyone pretty much wants 95% full assets and no one is saying, "Hey, don't renew that space or that space. We'd like to crack at it."

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David R. Lukes, DDR Corp. - President, CEO & Director [20]

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This is David. It's hard to note changes. And the reason I say that is we're trying to be very careful about talking about what has happened and not projecting what may happen. But what has happened is a fairly consistent pace of dispositions with a pretty wide pool of buyers, most of which are using leverage. And I would say depending on the asset for sale, for instance, triple net lease Walmart, there is a certain type of buyer that is not active in releasing. Other properties in secondary markets that have some shop occupancy or a junior anchor vacancy, there are buyers that would like to have that leasing risk. So I think the pool is wide enough that there is both types of buyers out there.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [21]

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And to be clear, we're selling an incredibly wide variety of assets, right? We're selling some single-tenant Walmarts, which is obviously not going to be any lease opportunity. And those buyers want a full bond-like asset, and there's others where there is a vacancy whether we like it or not. So it really is -- I mean, you can see with these volumes, there's just a wide spectrum of what we're selling. It's really hard to generalize.

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Operator [22]

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Our next question comes from Richard Hill with Morgan Stanley.

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [23]

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This is Ron Kamdem, in for Richard Hill. Just a couple of quick questions here. The first one is on RVI. Obviously, looking at the dispositions that were done in the 4Q, just thinking about the assets in the RVI portfolio, if you could just provide more color of maybe how those compares in terms of size, maybe in terms of anchor mix and so on and so forth, and whether you're feeling more or less comfortable about the velocity given what you've done in 4Q.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [24]

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Are you -- I'm sorry. Just to be clear. Are you asking about RVI assets that we sold in the fourth quarter?

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [25]

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No. I'm asking about RVI assets that you're going to sell potentially.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [26]

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Oh, compare those to the ones that we sold in the fourth quarter.

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [27]

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That's right.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [28]

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Okay. I think the message has been pretty consistent on this, which is that we think the RVI assets are actually a good notch higher in quality than what we've been selling. Again, really hard to generalize. And just because they're higher in quality, doesn't mean the buyer pool is necessarily more robust. But all else being equal, if you want a generalization, I think we would say that the cap rates we're getting and the volumes we're seeing should be a very positive indicator for the process we're going to go through with RVI. The problem is things can change, and cap rates can change, and debt availability can change, and so there is some uncertainty about that. But just comparing apples-to-apples, the RVI stuff, we think, is better.

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [29]

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Great.

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David R. Lukes, DDR Corp. - President, CEO & Director [30]

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Ron, the other way to add to that is to say that when we started selling assets for the purpose of deleveraging, we tended to choose assets that we thought had some risk. When we talked about splitting the company and have a spin occur, we stated that we were taking the durable assets that were strong but slower growth because they don't leave enough growth left in new DDR. So I would say if I had to put a title on them, I would say the RVI assets are very durable and safe. They just have to be slower-growing than the one we're left with.

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Conor Fennerty, DDR Corp. - SVP of Capital Markets [31]

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And Ron, if you recall, we had a slide in the December presentation as well. I walked through the demographics, lease rate and AVR per square foot for the RVI assets versus what we sold as well.

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [32]

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Great. That's useful. And then just on the debt. I was just wondering if you guys have any color on investor feedback or reception on the pricing and on the deal.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [33]

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No. No feedback on that at this point.

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Ronald Kamdem, Morgan Stanley, Research Division - Research Associate [34]

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Great. And then so my last one would be, just looking at the presentation, the monthly cash receipts for Puerto Rico, I just was curious if there was any color in terms of -- obviously, you had a big bounce-back in January. But if I'm looking at this correctly, it looks like it's even back to levels of July of '17. I will have thought you will have had more deceleration. Is that because of the Dave & Buster's? Just trying to understand what that's driving that.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [35]

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Tenants are reopening and paying rent. And I know Mike talked about it in his part of the presentation, but I really would encourage you to look at the video. I think -- we've had a variety of people go to Puerto Rico and take a look at the assets. And whether they're self-taught analysts or buy siders or other people just with interest, the feedback is that, my goodness, I expect something really, really difficult. And what I saw were assets that didn't, obviously, haven't had -- obviously haven't had anything happen to them. So I really would encourage you to take a look for yourself. But the -- and the cash receipts show it. There is a rebound taking place on that island.

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Operator [36]

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Our next question comes from Steve Sakwa with every Evercore ISI.

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Stephen Thomas Sakwa, Evercore ISI, Research Division - Senior MD & Senior Equity Research Analyst [37]

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I was just wondering if you could speak a little bit about the redevelopment program and I guess the desire to play a little more offense and defense. And you talked about some of these boxes that you're getting back. Can you just remind us what you're planning to spend on redevelopments and expansions in '18 and how that may unfold into '19?

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David R. Lukes, DDR Corp. - President, CEO & Director [38]

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I don't believe, Steve -- and good evening. I don't believe we have guided to a specific dollar amount of redevelopments nor have we really described the breadth of the portfolio. I mean, obviously, in the supplemental, you're seeing a fairly small amount of redevelopment activity that's getting smaller every quarter. You can probably imagine from our skill sets and interest in redevelopments, we're laser-focused on building that portfolio, and we'd certainly look forward to describing in more detail in the near future.

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Michael A. Makinen, DDR Corp. - Executive VP & COO [39]

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Steve, over the next 2 years, we have obligations of about $40 million for the major redevelopment project. But to David's point, that really just encompasses what's in the program today.

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Stephen Thomas Sakwa, Evercore ISI, Research Division - Senior MD & Senior Equity Research Analyst [40]

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Okay. And then maybe just to circle back a little bit on the 1.5% internal growth. I can appreciate the Toys impact. I think you said it was specifically 70 basis points. But just to be clear, are there other just kind of catch-all buckets that your putting in there for other potential tenants? And if so, was there a range of NOI hit that you're taking above and beyond the Toys that's embedded in the 1.5%?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [41]

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Yes. So it's less about buckets, more we do a kind of space-by-space analysis, right, as one does to understand what you expect in the coming year. We try to be conservative in that forecast. And then we obviously tried to put some contingency into our expectations to make sure that we're not overpromising anything. So I think where I could guess, there's a variety of paper cuts out there for us in 2018. But we have -- as you can imagine, we're trying to make sure we're providing you with some guidance that we know we can hit. So we're providing for there to be more bankruptcies, et cetera, less about a specific tenant. Things like -- some of the big names are gone for us now, right? In new DDR, we'll have no Sears exposure. So there's not a bucket for Sears specifically, but we are thinking there's a variety of other tenants. You can -- you hear about them on a daily basis that are having some struggles, and we're trying to make sure we account for those.

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Stephen Thomas Sakwa, Evercore ISI, Research Division - Senior MD & Senior Equity Research Analyst [42]

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Okay. And then, I guess, just last question, maybe to go back to some of the asset sales and kind of the funding and the leverage. I've realized each buyer is a little different, but do you have a sense for sort of the type of leverage or the amount of leverage that your average kind of purchaser is using? And obviously, rates have backed up maybe 50 basis points since the beginning of the year and how that might impact the potential sales going forward.

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David R. Lukes, DDR Corp. - President, CEO & Director [43]

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It's a really good question, Steve. I mean, if we had a tremendous amount of transparency as to exactly what the buyers were doing, it would be an interesting note. The problem is, of course, that even if you look at the supplemental of all the assets that were sold over the course of last 4 quarters, there's a pretty wide variety, and it's all over the country. And so it's hard to come up with an average of what people are using for leverage. I do think the CMBS marketplace are rolling it. And I think if you're going to see an impact in cap rates due to changes in interest rates, then that's something that's probably more on its way as opposed to something in the near-distant past.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [44]

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The only thing I would add is -- and we certainly learned through our process. You can imagine we have some insight from the CMBS market now, and I know people have concerns about how that market is functioning for certain types of assets like B malls specifically or C malls, as it were. I would tell you that our experience is that, that market is alive and well. I think if you talk to people who actually do those syndications and the securitizations and are involved in that market, they will tell you that it's functioning very normally for the assets we're trying to sell as well as a wide variety of other ones.

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Operator [45]

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Our next question comes from Vincent Chao with Deutsche Bank.

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Vincent Chao, Deutsche Bank AG, Research Division - VP [46]

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Just a quick question. Just on the leasing side of things. It sounds like conditions have stable -- relatively stable from maybe 3 months ago. But just curious, is -- given the spinout announcement, I mean, does that change of the discussions at all with the tenants as you're trying to renegotiate? I mean, is there any concern out there from them about the potential for the assets to be moved into the spinout? Or I guess, does it change the conversation in any way?

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Michael A. Makinen, DDR Corp. - Executive VP & COO [47]

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No. In fact, it hasn't changed at all. I mean, we're basically talking to the tenants about leasing space in both properties, in both sets of properties, and it really feels exactly the same.

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Vincent Chao, Deutsche Bank AG, Research Division - VP [48]

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Okay. And then just maybe a follow-up on Steve's question about the bankruptcy because, I mean, there is some level of additional closures expected in the guidance range. But I'm just curious, relative to -- on a year-over-year basis, I mean, is it assuming an improvement in the closure rate similar to last year? Or worse?

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David R. Lukes, DDR Corp. - President, CEO & Director [49]

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I would say about the same. We were assuming that -- and I think we believe that the bankruptcy environment is likely to stay challenging for a period of time. So we built our forecast around a pretty tepid environment or a pretty tepid level of change as far as bankruptcies are concerned.

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Operator [50]

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Our next question comes from [Steve] Ki Bin with SunTrust.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [51]

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This is Ki Bim. So just a few follow-ups here. The one thing I get maybe more concerned than just pure bankruptcies is as your tenants expire and as [maybe] Staples or Office Depots come back, how much is -- how much of the conversation is, what will renew but only for half the space? And how is that baked into your guidance?

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David R. Lukes, DDR Corp. - President, CEO & Director [52]

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I'll take the theory side, and then Mike can add to it. And then Matt can talk about the guidance. But that's the subject matter that we talk about most frequently, particularly when it comes to budgeting. Because the larger risk in this type of portfolio today is that rents change the worse as opposed to the positive at a renewal. The reality is that reductions in size are somewhat uncommon because it's very expensive for the retailer. It's very hard to relay out of store. And once they have sales in a specific neighborhood, it's very difficult to have that sales volume transition. They're taking some risk. And to date, I would say, unless you disagree, Mike, that the amount of risk that a retailer is willing to take to put their sales at risk is just not happening.

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Michael A. Makinen, DDR Corp. - Executive VP & COO [53]

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Right, right. I think the most important thing David had said is that from a retailer perspective, the inside of the store and the layout of the store is incredibly difficult to change for 2 reasons: One, because it's expensive physically; but two, because from the merchandising standpoint, everybody is scraping and clawing for their space. And when you downsize a store, something's got to give. And typically, retailers become very reluctant to downsize. And historically, there's been very few who actually do it. So that conversation doesn't often come into play. Occasionally, it does. But for the most part, it doesn't represent a major proportion of our conversations.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [54]

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From a forecasting perspective, it's not really not an issue for 2018, right, because 2018 is all about rent commencements. So those leases, for it to have any impact on our actual results in '18, you can imagine that we signed these leases some time ago. We do our forecast lease by lease, so we already know. And even for leases we haven't signed yet, the leasing team is usually far and advance of those expirations or having those conversations. So we have an enormous amount of transparency on that particular issue for the next 12 months at least.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [55]

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Okay. And are lease modifications or rent release in your spreads?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [56]

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In what spread? Sorry.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [57]

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The spreads that you report.

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [58]

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Yes. It's a fully loaded number.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [59]

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Okay. That's helpful. And is it too early to give any kind of broad range of FFO for RVI -- RVT?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [60]

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Yes. Yes, it is too early. And I'm not actually certain that we're going to provide that guidance, Ki Bin. It's really not an FFO story. It's going to be a story about generating proceeds for shareholders as quickly as we possibly can. And so FFO is going to be entirely dependent on transaction volumes, which, I'm sure, you can hear us say already, are just very difficult to predict. So recurring FFO is not, I don't think, the way investors are likely to look at that investment.

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Operator [61]

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Our next question is a follow-up from Christy McElroy with Citi.

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [62]

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Yes. It's Michael Bilerman. I just had a number of questions. The first is just relating to release time and holding this call. And I recognized there's a lot of stuff going on the back half of last year. The 20 minutes to review a 50-page sup is not really that much time. So are you going to think about changing your reporting and conference call schedule in the future?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [63]

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That's actually the first time I'm hearing of that, Michael. But as ever, we're always willing to think the feedback and consider things.

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [64]

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99% of the industry does it a different way. So I think more time would lead to more thoughtful questions to better analysis. The second question is just, Matt, can you walk through -- you did $0.28 in operating FFO this quarter. New DDR will be at $0.15 in the third quarter at a minimum. Can you walk through the buckets that get you from $0.28 to $0.15?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [65]

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I'm sorry. I didn't hear the last part of your question that get from what to what?

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [66]

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So taking yourself from today, the $0.28 you reported to new DDR's FFO of $0.15, can you just walk through the pieces and the components that get you there?

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Operator [67]

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(technical difficulty)

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Operator [68]

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(Operator Instructions)

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [69]

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Can you hear me now? I'll start off -- maybe I'll start off nicer. So I was trying to just -- there's a bunch of things in the supplemental of new DDR and RVI in Puerto Rico. What I'd love to be able, if you can go through, is you -- obviously, you reported $0.28 of operating FFO this quarter. You're presenting a minimum of $0.15. For the third quarter, $62 million of FFO between those 2 numbers. Can you walk through the building blocks, some positive and some negatives, of getting from point A to point B?

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Conor Fennerty, DDR Corp. - SVP of Capital Markets [70]

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Yes, Michael. It's Conor. Sorry we got cut off there. If you look at Page 5 of the slide deck, you'll see the major sources and uses for the first quarter. Obviously, that will have a fairly negative impact in terms of higher cost of debt or asset sales paying off, some debt with a lower cost. As well as Page 13 of the supplement, we break out the NOI for DDR and RVI. Those 2 pieces should get you the majority of the framework. The other 3 things I'd add is we sold quite a few assets at the end of the fourth quarter. Obviously, that NOI would be included in the fourth quarter run rate. Happy to help you there. And then the last thing is, Blackstone, we've had quite a bit of a preferred repaid, as Matt outlined in his prepared remarks. So you'll see a fairly significant decline in interest income starting in the first quarter from the fourth quarter. So those 3 pieces, the source and uses for the first quarter, as well as the breakout on Page 13, the supplement should get you there. Again, happy to spend more time with you, if you like.

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [71]

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And then how do we think about -- when you did announcement of the spin, it was a $0.40 dividend, 75% targeted payout ratio. Historically, you've been FFO to AFFO, about 80%, low 80s. So the $0.15 would take you down to $0.12 a share in AFFO. So I'm just not sure how all that sort of ties together with the way you presented your math, whether the $0.15 is an absolute bottom end range and it's going to grow? And how we should think about the FFO versus AFFO drop?

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Matthew L. Ostrower, DDR Corp. - CFO, EVP and Treasurer [72]

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Yes. I mean, you've heard us talk about the fact that the goal for 2018 is to begin to grow. So I think that's the most important comment. Did you want to add something, Conor?

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Conor Fennerty, DDR Corp. - SVP of Capital Markets [73]

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Yes. No, I'd say, on Matt's prepared remarks, we talked about that at least $0.15 is -- ties to the numbers we've provided in December. So the $0.10 dividend, 75% payout ratio. So you could -- there's an implication there in terms of the growth for the fourth quarter, Michael. The other thing I'd add is, CapEx levels today are going to come down. We provide the breakout of CapEx again on Page 13 for new DDR. And also as our leasing volume as these leasings come back online or come online the fourth quarter. You'll start to see CapEx come down and NOI come up. So those factors kind of tied to our 75% payout ratio number that we've provided in December.

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [74]

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And then just thinking about earnings and cash flow growth over time. Because RVI is going to be, effectively, a liquidating entity in its NAV story, Matt, you talked about non-earning story, how do we think about the $10 million of fee income? Are you going to be able to cut the DDR organization by the same $10 million so that there's not earnings hit in a year, 18 months or 24 month’s time that it won't be something else that we would sort of how to deal with at that point?

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David R. Lukes, DDR Corp. - President, CEO & Director [75]

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Michael, I think -- this is David. We thought very carefully about how we structure the fee arrangement between the 2 companies and have been very careful to make sure that we're not under a whole lot of pressure with respect to time. Certainly, as time goes on, we have to make some decisions as to how much G&A we have in DDR, and we'll make those decisions. But I can assure you that we haven't structured the fee so that we're going to get underwater or have an earnings risk at some point.

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Michael Bilerman, Citigroup Inc, Research Division - MD and Head of the US Real Estate and Lodging Research [76]

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Last question. Just where are you guys currently on the board refresh? Obviously, you're trying to get 2 or 3 new board members at DDR. Can you share with us where the board is in that process of identifying candidates and when those would be announced?

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David R. Lukes, DDR Corp. - President, CEO & Director [77]

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I can tell you that we are at the point we're at a proxy season here. We've got a spin that was announced. And so I think there's a lot of movement. The board's been active in dialogue and thinking about, strategically, what we need for skill sets for these 2 different business plans. And we're [at the end] of the proxy season here pretty soon, so I think we'll have more information as we get closer to it.

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Operator [78]

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Our next question comes from Mike Mueller with JPMorgan.

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Michael William Mueller, JP Morgan Chase & Co, Research Division - Senior Analyst [79]

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Just 2 quick ones here. Mike, you were talking about small shop opportunity. Can you quantify about how much small shop occupancy pickup you think you could have over the next 12 to 18 months? And then on the dispos, I just want to make sure I'm thinking about it the right way. For the $900 million bogey, that is comparable to the $763 million that you -- your pro-rata share that you've sold year-to-date, so you're looking for a ballpark, another $150 million-or-so in sales to close that out. Is that correct?

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Michael A. Makinen, DDR Corp. - Executive VP & COO [80]

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Yes. Correct. With regard to the shop leasing question, we really initiated our amplified shop leasing efforts in the third quarter. And so far, our progress has been very encouraging. I think the most important thing to mention is that shop leasing is really the blocking and tackling of the leasing effort, and it is decidedly unglamorous. And I think the most important thing to do in order to drive that business is to make the team culture built around recognizing that driving that effort really can drive a lot of NOI growth and, effectively, reward it so that it becomes glamorous. And what we're doing here is really no different than what I've done in some of my past experiences in former companies, and that is to use that philosophy to drive the growth. Right now, we don't really have a specific target as to where we're going to peak as far as the occupancy for shop growth, but the results over the last few quarters are very encouraging and we should have more color on that in the next few quarters.

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Operator [81]

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This concludes our question-and-answer session. I would like to turn the conference back over to David Lukes for any closing remarks.

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David R. Lukes, DDR Corp. - President, CEO & Director [82]

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Thank you all very much, and we will talk to you next quarter.

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Operator [83]

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The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.