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Edited Transcript of SRC earnings conference call or presentation 7-Aug-19 1:30pm GMT

Q2 2019 Spirit Realty Capital Inc Earnings Call

SCOTTSDALE Aug 15, 2019 (Thomson StreetEvents) -- Edited Transcript of Spirit Realty Capital Inc earnings conference call or presentation Wednesday, August 7, 2019 at 1:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Jackson Hsieh

Spirit Realty Capital, Inc. - President, CEO & Director

* Kenneth Heimlich

Spirit Realty Capital, Inc. - Executive VP & Head of Asset Management

* Michael C. Hughes

Spirit Realty Capital, Inc. - Executive VP & CFO

* Pierre Revol

Spirit Realty Capital, Inc. - Senior VP and Head of Strategic Planning & IR

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Conference Call Participants

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* Brian Michael Hawthorne

RBC Capital Markets, LLC, Research Division - Associate

* Greg Michael McGinniss

Scotiabank Global Banking and Markets, Research Division - Analyst

* Haendel Emmanuel St. Juste

Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Equity Research Analyst

* John James Massocca

Ladenburg Thalmann & Co. Inc., Research Division - Associate

* Joshua Dennerlein

BofA Merrill Lynch, Research Division - Research Analyst

* Ki Bin Kim

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Shivani A. Sood

Deutsche Bank AG, Research Division - Research Associate

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Presentation

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Operator [1]

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Greetings. Welcome to the Spirit Realty Capital Second Quarter 2019 Earnings Conference Call. (Operator Instructions) Please note, this conference is being recorded.

I would now turn the conference over to your host, Pierre Revol, SVP of Strategic Planning and IR. Mr. Revol, you may begin.

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Pierre Revol, Spirit Realty Capital, Inc. - Senior VP and Head of Strategic Planning & IR [2]

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Thank you, operator, and thank you, everyone, for joining us today. Presenting today's call will be President and Chief Executive Officer, Mr. Jackson Hsieh; and Chief Financial Officer, Mr. Michael Hughes. Ken Heimlich, Head of Asset Management, will be available for Q&A.

Before we get started, I would like to remind everyone that this presentation contains forward-looking statements. Although the company believes these forward-looking statements are based upon reasonable assumptions, they are subject to known and unknown risks and uncertainties that can cause actual results to differ materially from those currently anticipated due to a number of factors. I'd refer you to the safe harbor statement in today's earnings release and supplemental information as well as our most recent filings with the SEC for a detailed discussion of the Risk Factors relating to these forward-looking statements. This presentation also contain certain non-GAAP measures. Reconciliation of non-GAAP financial measures to most directly comparable GAAP measures are included in today's release and supplemental information furnished to the SEC under Form 8-K. Both today's earnings release and supplemental information are available on the Investor Relations page of the company's website.

For prepared remarks, I'm now pleased to introduce Mr. Jackson Hsieh. Jackson?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [3]

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Thanks, Pierre, and good morning, everyone. Before I talk about the quarter, I wanted to remind you what we've been trying to solve for as a company since I became CEO to achieve a long-term competitive cost of capital. If you recall from my comments in our first quarter investor call that our team has been focused on the execution of our acquisition and disposition targets, maintaining high-quality operations and financial results, and assisting SMTA's independent trustees in their accelerated strategic process. I'm very pleased with the progress towards those 2019 critical initiatives that we achieved with our second quarter results. As an operating team, we are continuing to see the benefits of the many people and process changes we put in place over the last 2 years.

During the second quarter, we exceeded our acquisition expectations, continued to improve operations across the majority of our business units translating into improved metrics and assisted SMTA in securing a $2.4 billion sale transaction for the properties within the Master Trust 2014 portfolio. We also executed several important capital transactions with nearly $500 million in equity issued or available to be issued through our ATM program and underwritten public offering. $400 million of senior unsecured notes and extinguishing $402.5 million of convertible notes and remaining $158.5 million of secured Master Trust 2013 notes, encumbering over $400 million in properties.

In addition, our unsecured credit rating was upgraded from BBB- to BBB at both S&P and Fitch. We expect to receive approximately $247 million in proceeds related to the termination of the asset and property management contracts with SMTA, redemption of our preferred equity investment, the sale of the Flying Js and redemption of our Master Trust 2014 notes. The timing is currently expected on September 20.

We're very excited because these key accomplishments result in us revising upwards our acquisition and AFFO earnings guidance assuming a full year of SMTA income, which Mike will cover in more detail during his prepared remarks. These actions are providing Spirit with a competitive cost of capital. It brings us another step closer to becoming a simplified triple net-lease REIT, the diverse revenue base and steady earnings growth. I referenced in our first quarter call that we were 90% of the way towards this goal. That number is now 95%. Here is a rundown of our second quarter operating results and key financial metrics. We generated AFFO per diluted share of $0.86, improved operational performance on all fronts with portfolio occupancy at 99.6%, lost rent below 0.1% and less than 1.6% property cost leakage. Grew same-store sales by 1.3% driven by health and fitness, movie theaters and medical office. Ended the quarter with leverage, calculated as adjusted debt to annualized adjusted EBITAre at 5.1x. Increased our master lease rent contribution from 39% to 42% and enhanced our available capacity for growth for the fully undrawn revolver and attractively priced unsettled forward equity at our disposal.

Turning to capital allocation, we acquired 104 properties during the quarter, totaling $286.9 million, an investment of additional $6 million in revenue-producing capital with an initial yield -- cash yield of 6.85%, an economic yield of 7.85%, weighted average lease term of 15.6 years and average annual rent escalators of 1.9%.

The investment activity for the quarter was both accretive to our property rankings in each of the respective industries and in large part, representing key attributes that we look for, including larger and publicly-listed tenants that are aligned with our industry view, accretive to our rankings that provide higher organic rent growth.

Investment categories included a vertically integrated party goods manufacturer, distributor and retailer, discount retail, manufacturing, dollar stores, health and fitness, C-store and QSR. Approximately 83% of the total investment was derived from public issuers and represent key real estate in their underlying business. The split in rents from service retail, traditional retail and industrial other were 17%, 28% and 55%, respectively. Since a spinoff, that same split has been closer to 47% service retail, 26% traditional and 28% industrial and other. Our top 15 tenancy will continue to evolve as we execute our investment strategy. Few notable additions to our top 15 tenants are Party City and Dollar Tree. We're especially excited about the investment in Party City who is now our #9 tenant. Party City is the largest vertically integrated global producer of mylar balloons and party goods in the world. We own one of their key 870,000 square-foot distribution facilities in Chester, New York, their mylar balloon manufacturing facility in Eden Prairie, Minnesota and Los Lunas, New Mexico. All mission-critical facilities for this leader in the party goods sector. Over 60% of the world’s mylar balloons are manufactured in the Eden Prairie facility under their proprietary-based balloon manufacturing processes. Dollar Tree stores we acquired were all structured as several pools of assets under master leases. With the unit level sales reporting and CPI rent escalators. Dollar Tree has moved into our top 15, currently #12, we like the Dollar store position and growth and we're particularly intrigued with the strong lease structure that these portfolios offered us. The Dollar Tree stores rank higher than our existing Dollar store portfolio.

During the quarter, we disposed of $83 million in occupied properties and a 7.2% cap rate and $31 million in vacant properties. Characteristics of the disposed assets included a multi-tenant property, flat, double net leases, risk mitigation and credit enhancement of the master lease. Notable dispositions in the second quarter included the PetSmart distribution facility, moving it from our #11 to our #59 tenant, which we discussed briefly on our last quarter call. A vacant former Haggen store in Las Vegas, Nevada and a Walgreens drugstore. All of these dispositions are examples of the type of assets we describe as part of our longer-term disposition strategy. We expect to continue portfolio shaping throughout the rest of the year. Sale activity in the second quarter, marks the peak of our disposition volume for the year. We've also cleared all hurdles to sell the 3 Flying Js to HPT for $55 million at a 5.7% cap rate as part of the SMTA transaction.

I realize that we are still relatively new team and operating platform. And the passage of time and more quarters like Q1 and Q2, we'll build even more investor confidence. But we do have a competitive cost of capital, and we are honored, excited to be back in growth business. Focusing on our existing tenants as well as new targeted tenants. As we deploy capital into real estate, we will continue to pursue quality real estate opportunities that rank well within our property ranking process with financially strong tenants that operate in industries that are well-positioned within the heat map. Our investment focus will continue to add real estate assets to our portfolio and enhance our current rental escalations, weighted average lease duration and property ranking scores.

With that, I'll turn the call over to Mike.

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Michael C. Hughes, Spirit Realty Capital, Inc. - Executive VP & CFO [4]

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Thanks, Jackson, and good morning, everyone. It was a very exciting quarter for Spirit, highlighted by capital markets activity and substantial capital deployment. Given the capital issuances and debt repayments, I'll start with the balance sheet. For the first 6 days of the quarter, we issued 1.4 million shares under our ATM program for $57.4 million in gross proceeds, block trades executed through reverse inquiries accounted for $42 million of those total proceeds. In May 2, we issued shares through an underwritten public offering. Demand for the offering was very strong and after upsizing the initial offering and the underwriter's exercise of the over-allotment, we issued 11.5 million shares under forward contracts. For June 30, 1.9 million of these shares have been settled, generating gross proceeds of $76 million. Approximately $375 million in expected net proceeds remain undrawn as of June 30. To account for the unsettled shares using the treasury stock method. On May 15, we drew $400 million on our delayed draw A-2 term loan and repaid the $402.5 million outstanding balance of our 2.875% convertible notes that were due. This leaves us with only 1 outstanding convertible tranche of 3.75% notes during 2021. On June 27, we issued $400 million of 4% 10-year unsecured notes and used the proceeds to extinguish the remaining $158.5 million outstanding balance for the Master Trust 2013 notes and repaid the outstanding draws on our revolving line of credit. This transaction, and on the heels of our credit ratings upgrade by S&P, it was very well received by investors and oversubscribed. We were able to reprice our credit spreads 35 basis points tighter and we were at [2,026] bonds were trading at the time.

Since the issuance, our credit spreads have continued to compress further enhance our weighted average cost of capital. The transactions this quarter also had a positive impact on our credit metrics. We funded our net acquisition of $180 million with the $130 million of net equity proceeds for 72%, bringing leverage down to 5.1x compared to 5.2x last quarter. Improved our fixed charge coverage ratio, expanded our weighted average debt maturities to 5.2 years, unencumbered 267 properties bringing our unencumbered to total assets ratios to 89.3%. On July 26, our senior secured credit ratings was upgraded by Fitch to BBB with stable outlook. We also continue to maintain a high level of liquidity with an $800 million undrawn revolving facility and the remaining equity available on the outstanding forward contracts.

Turning to the key operating metrics. During the second quarter, annualized contractual rent, which annualizes the rent in place at quarter end, grew $11.7 million compared to last quarter. Approximately $20.9 million of the increase was attributable to acquisitions and contractual rent increases, offset by a reduction of $9.2 million attributable dispositions. Unreimbursed property cost or leakage declined about $117,000 compared to first quarter driven by property tax recoveries. As Jackson mentioned, loss rent was effectively nonexistent. There are few other items to note this quarter that impacted our numbers. G&A was negatively impacted by 2 items, first, the SMTA board of trustees issued share-based awards to its CEO who is an employee of Spirit.

As our employee benefited from this award in accordance with the accounting rules on share-based payments, we recorded noncash asset management fee revenues of approximately $400,000 for the corresponding offset to G&A. Recording of this noncash transactions did not impact our net income or any of our non-GAAP earnings metrics. Second, due to the timing of the annual equity awards for our Board of Directors as well as the performance share awards for our executive team, we recognized an additional $300,000 of stock compensation expense during the quarter. Other income was also higher by $545,000, driven by the recovery of 2 lease termination payments whose terminations occurred in prior period.

Now turning to our guidance. Due to the announced sale of SMTA's Master Trust 2014 portfolio and the resulting termination of our existing management agreement with SMTA, expected to occur near the end of the third quarter. We're providing updated guidance with and without the impact of that transaction. For the full year of 2019 and excluding the sale of SMTA's Master Trust portfolio, we are raising our projected AFFO per share range from $3.35 to $3.39 to $3.39 to $3.43.

We're raising our projected capital deployment comprising acquisitions, revenue-producing capital and redevelopments from $450 million to $600 million to $700 million to $900 million. We're lowering our projected asset dispositions from $225 million to $325 million to $225 million to $275 million. And we're maintaining our adjusted debt-to-annualized adjusted EBITAre range of 5 to 5.4x. The full year 2019, assuming the SMTA transaction occurs on September 20, our projected AFFO per share range is $3.27 to $3.31. This projection assumes that upon the sale of the Master Trust 2014, Spirit will terminate the existing asset management and property management agreements with SMTA, which currently provide for Spirit to receive approximately $27 million in fees per annum and receive approximately $48 million in termination fees or $35 million net of estimated tax payments.

Entering into an interim asset management agreement with SMTA, provided the company will receive $1 million in fees per annum during the initial 1-year term plus certain cost reimbursement. So the fee interest in 3 Spirit owned properties for $55 million in gross proceeds at 5.7% cap rate. We received a $150 million through repurchase of Spirits preferred equity interest in SMTA which currently provide Spirit with $15 million in dividend payments per annum. We received approximately $33.5 million for the redemption of Spirits Master Trust 2014 notes, currently paying Spirit interest at a rate of 4.6% per annum and extinguish approximately $26.4 million in related party notes for a coupon of 1% per annum. Please be aware that the timing of the SMTA transaction is subject to change and the transaction requires extinguishment of the Master Trust 2014 notes and only accrue on a payment date. The timing of the transaction shift past the September 20 payment date, the next available date to close the transaction would be October 20.

The impact to our guidance inclusive of the transaction for a 1-month shift in the closing date equates to approximately $0.04 of AFFO per share. In addition, as I noted on our previous calls, the repayment of the 2.875% convertible notes in May will cause approximately $0.01 per share per quarter of earnings dilution for the remainder of the year. So please keep that in mind for your earnings models.

With that, I'll open up the call for question.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Haendel St. Juste, Mizuho.

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Haendel Emmanuel St. Juste, Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Equity Research Analyst [2]

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I guess first question on investment volume. I guess, most of us on the call aren't surprised by the increase in the acquisition guidance to the new range, $700 million to $900 million. I guess I'm curious, is that more the annual volume that we should be thinking near term? And maybe is part of that, you can talk a bit about what is perhaps new or interesting today in light of your heat map analysis and the decision to increase your -- add Party City exposure and some color around the -- maybe, the rent coverage, rent bumps, cap rates? A bit more color on that Party City.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [3]

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Okay. Haendel, this is Jackson. Not a lot has changed in terms of our investment outlook. If you go and look on pages 27 and 28 of our investor presentation that we have on our website, a layout or heat map in our Spirit Efficient Frontier and if you look at the categories that we feel like we have -- we see interest in -- they fall into couple of different segments, industrial distribution, home furnishings, warehouse clubs, discount retailers, building materials. So we feel like there is plenty of opportunity for us to add into industries and areas that we think are constructive from a Porter's Five Forces and kind of Amazon effect if you'll recall that.

As it relates to Party City, one of the things that was really unique about this opportunity was -- it's really 2 businesses, there is a business called Amscan. Amscan is the largest sourcer and distributor of party goods in the world. So they sell and originate balloons and cups and napkins and they sell to Amazon, Walmart, Target, I mean, they're the largest in the world by a multiple factor. They also own Party City, which is the retail operation, which owns and operates about 900 stores in North America. So the way to think about this company is, it's very unique. It's a vertically integrated business that does about $2.5 billion in revenues, about $400 million of adjusted EBITDA. They're #1, they're about 4x in sales between them and the #2 competitor in the world. If you think about that market share if you look at other consumer goods companies like Adidas and Under Armour, that ratio is more like 1.5% or 1.5x.

So we like the dominant share, we think people are going to continue to have parties for a long time, the balloon manufacturing that they do is really bar to none. I visited both the Chester and the Eden Prairie facility, both facilities and it's just really -- very, very nice company. They happen to be public, which is also a big benefit for us and so we really like the business. And to get your final question, as it relates to a longer-term guidance, look, we haven't given next year's guidance, but I'm still pretty comfortable that, that's a pretty good range for us as we chart moving forward with this cost of capital that we have right now.

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Haendel Emmanuel St. Juste, Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Equity Research Analyst [4]

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That's helpful. Certainly, I can share your thoughts on Party City where they're quite few times of the year for birthday parties for our kids. A question on the disposition side, perhaps. I know in the past you've talked about being opportunistic there and that you weren't selling troubled assets. But also that the improving your cost of equity also made that a favorable alternative source of capital. So maybe a bit more color on the volume of assets still in the quarter seemed a bit higher than people were expecting especially again in light of spinoff of SMTA.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [5]

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I think that the PetSmart facility had a big impact, obviously, and that was a large asset. Next quarter or the third quarter, the Flying Js are going to be a larger portion of the disposition activity. Look, as Ken has said in the past and we've said, there are certain assets that we inadequately would like to sell, multi-tenants don't really fit in our portfolio, we don't like double net leases, flat leases. So if we have opportunity to cycle out of those kinds of properties, especially in combination with the blend and extend or some other type of transaction like that, it creates value, we're going to try to take advantage of that, even though we might have a strong cost of capital. We think it's the right thing to do, so it, kind of, build the duration and the rent escalators in our portfolio. And I think the second quarter volume is going to be at peak for what we expect going forward.

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Operator [6]

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Our next question is from Ki Bin Kim, SunTrust Robinson Humphrey.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [7]

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Just a couple of follow-ups on the acquisitions. The Party City related warehouses, the ones that were for manufacturing, is that the only 2 that they have in the entire company or is it, like, 2 out of a couple more. And on the Dollar stores, can you just provide little more color on the investment merit and things like rent basis, rent coverage, things like that?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [8]

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Okay. Well, on Party City, so they have 2 large, I'll call, classic distribution facilities. We own one of the 2 now. They have a separate B2B facility, which is not part of these 2 and in terms of their manufacturing facilities, they own several manufacturing facilities in the United States. The 2 properties that we own are principally the metallic balloons, which is one of their bigger profits segments. So these are like NFL balloons, the NBA balloons. And so one of the things, that's another thing that I didn't mention on Party City is what's unique about them is about 20% of their business is all licensed business. So they're licensed with Disney, NBA, NHL and basically produce balloons with those thematic costumes and stuff like those. So it's really a unique business and it's so dominant. And like I said, we feel like we've got the critical facilities.

To shift questions on the Dollar stores, we -- our existing Dollar store portfolio is primarily single site flat leases. That's more of a historical legacy portfolio that we acquired through the Kohl's merger. These new Dollar Tree portfolios that we acquired, were pretty unique. They were under master leases. They provided unit financials, they had rent escalators. Just really different than the kinds of lease structures that we had in our existing portfolio and I think, I've said, we have looked at Dollar opportunities, but we sort of shied away from what I'll call the single site typical developer type opportunities. And so when this opportunity popped up, we thought it was a pretty unique opportunity for us to kind of add that into our segment and we like it. So that might -- but we don't give, obviously, individual rent and coverage like we've had so -- but that was a principal driver for what attracted us here.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [9]

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And what are the some of the other investment verticals you're looking at? I know you've done hotels, things like that. So anything little bit different than what you're used to?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [10]

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We did 1 hotel.

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Ki Bin Kim, SunTrust Robinson Humphrey, Inc., Research Division - MD [11]

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Yes, 1 hotel.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [12]

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1 hotel. And I think, I've said too -- and Haendel's, we are -- I feel like our -- if you go through pages 27, 28, on our investor deck, you're going to see it. It's like, where we're going to be fishing is on the far right of Page 28. So you would expect us probably to see more warehouse clubs coming, continuously more discount retail like the Kohl's opportunities, Dollar Tree, Burlington, things like that. We like building materials. We can continue to focus effort on that area. Still, like entertainment, home furnishings, you'll continue to see us do industrial distribution, manufacturing, select office.

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Michael C. Hughes, Spirit Realty Capital, Inc. - Executive VP & CFO [13]

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Auto service.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [14]

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Auto services. Yes. So all that stuff, yes. And there's a lot of different things out there, as you know.

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Operator [15]

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Our next question is from Brian Hawthorne, RBC Capital Markets.

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Brian Michael Hawthorne, RBC Capital Markets, LLC, Research Division - Associate [16]

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How do you guys underwrite when we have large interest rate movements like we've seen recently? Like how does that impact to your investment analysis?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [17]

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I guess it starts with. -- I'll start with the kind of the credit first. When you, sort of, see changes in interest rates, changes in liquidity, maybe the first question you got to ask is can your tenant operate for 20 years? That's the first. Are they in the right business vertical, do they have liquidity, do they have access to capital? That's obviously really important. Second is, how does the industry that we're investing in corresponds to changes in rates and it's not just rates, it's competition, tariffs, obviously there's a lot of different factors. So you want to make sure that they're durable. Then finally you get down to the specific quarter. Is it a good piece of real estate, is it the right rent?

How mission-critical is this asset relative to what this operator is dealing with, if things were to get into trouble for whatever reason, is this going to be the surviving real estate that will come out in a restructuring. So it's not just rates, it's kind of all those things. But I think, it starts with kind of the operator's ability, in my mind, 20 years. That's the first fundamental question we'll ask and then there's obviously a lot of things that can impact that.

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Brian Michael Hawthorne, RBC Capital Markets, LLC, Research Division - Associate [18]

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Sure. Okay. Great. And then I guess, across your different asset types, where do you see the deepest buyer pool?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [19]

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Well, as you know, we just went through the sale process for the Master Trust REIT portfolio. The way I would describe the market is, it's very deep. There is -- it's not just us public triple-net REITs buying assets out there, there is private funds. There is 1031, there is private capital sources out there. It's very, very diverse funding sources out there and there is no real 1 deep area, it seems like there is -- the business is very fragmented. So transactions are both large and small, and what we find is that there seems to be ample kind of opportunities within the segments that we're looking at, we're up for good risk-adjusted opportunities, it's a very liquid market.

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Operator [20]

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Our next question is from Greg McGinniss, Scotiabank.

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Greg Michael McGinniss, Scotiabank Global Banking and Markets, Research Division - Analyst [21]

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Jackson, as Haendel mentioned the increased acquisition guidance, it was not a huge surprise based on prior messaging. But considering some of your peers maintain the acquisition ranges for the year while Spirit raised guidance like 50%. I'm curious if the increase is due to a few specific deals you're able to close? Or it's becoming more capable of sourcing and closing deals versus initial expectation? Any details on specific drivers for the increase to guidance would be helpful.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [22]

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Yes. I'll flip that to Mike, Mike.

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Michael C. Hughes, Spirit Realty Capital, Inc. - Executive VP & CFO [23]

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Yes. Greg, this is Mike. I think it's more from a capital availability standpoint. Now if you go back to the beginning of the year, go back to our original guidance, our capital was a bit more constrained, our cost capital was more constrained then it is today. As we move forward through the year, we raised a lot of equity, we raised debt. We're kind of flush with cash right now, we've got some SMTA proceeds coming. And so really -- when we kind of hit that window starting in -- really in early May and we have the capital to actually deploy, and we're able to really bring up our acquisition pipeline.

So I think it's really a function of having the availability of capital, had we had that capital at the beginning of the year than our guidance for acquisitions would've frankly been higher. So it's not -- we're seeing more opportunities than we did earlier in the year it's been -- the market is really liquid there's a lot of stuff out there. You just have to have the capital to go buy it and the -- so the opportunities are always there once we got the capital, we're able to really deploy that and that's what really drove increase in guidance.

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Greg Michael McGinniss, Scotiabank Global Banking and Markets, Research Division - Analyst [24]

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Right. That's helpful. And then based on what's going on with rates cuts this year. Is there any opportunity to refinance debt in near term at lower rate? I'm just trying to understand what the next steps might be regarding the balance sheet or how you might take advantage of the lower rate environment?

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Michael C. Hughes, Spirit Realty Capital, Inc. - Executive VP & CFO [25]

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Yes. Like, I mean we're watching the rates go down. I mean a couple things for us have really changed, one of our spreads have come down significantly. Since we did our last bond deal and those were done at T plus 200. We could probably borrow at T plus 175 today. And so our spreads have come in 25 basis points, obviously, we're all seeing what the 10-year treasury has done. So we're definitely looking at that. I'd say, we've got some term loans that we took out earlier in the year, which we always come back and take one of those out, they're prepayable. We have those converts due in 2021, which now I think, our borrowing cost is below where those are.

So that becomes very interesting. Those are little tricky because they're not callable, but it's really something we could look to attack. So I'd say we'll be opportunistic and it's not lost on me where rates are and we still have balance sheet work we want to do if there's a window as you've seen us do throughout the year. If there's a window we tend to be pretty active.

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Greg Michael McGinniss, Scotiabank Global Banking and Markets, Research Division - Analyst [26]

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Great. Congrats on the 52-week high rate now.

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Operator [27]

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Our next question is from Shivani Sood, Deutsche Bank.

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Shivani A. Sood, Deutsche Bank AG, Research Division - Research Associate [28]

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So on the acquisition channel, you've been building that pipeline for almost 2 years now. So just curious if you're seeing any change in terms of the quality and the depth there? And can you give us an amount of -- an idea of the amount you are ultimately closing in terms of -- in regards to what you're presented with?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [29]

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I would say the -- with this drop in interest rates, I think you're seeing -- if people are looking to, you say, leasebacks right now or capital transactions, obviously, they've kind of gotten the joke and they're out there exploring it. So I would say that the volume of opportunities has increased dramatically from where I can see if -- for instance compared to a year ago. It's just -- in terms of quantum and exploration, which is a good thing. I think for us, we've really in earnest started the acquisition process about middle of last year with the closing of the spinoff of SMTA in earnest. So I feel like our acquisition effort really began in earnest about year ago in June and it's just continued to build and it's building every quarter. It's getting better, the teams are more integrated, working better with the asset management teams.

So I feel very good about directionally where we're going, and we're fortunate to have the market constructive where there's lots of different opportunities for us to look at it and evaluate, we're not giving you specific volumes, is that bad? You did ask a question of how many deals or sort of we're doing. And I would say like today, I'm not sure this is where the run rates going to be but we're probably targeting about an average of 10 transactions a quarter, if you think about it and so it's about what we've been sort of trending out or targeting, as we've come out in this first full year of acquisitions. Obviously, that's a lot less than some of our peers. So you should expect that we're looking at a lot of different things and not a lot things get to that top 10 for us. Hopefully, in time, we'll be able to increase that number of transactions. But for right now, it seems to be -- we feel right at about 10 per quarter, and I think in time it'll continue to increase.

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Shivani A. Sood, Deutsche Bank AG, Research Division - Research Associate [30]

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And apologies if I missed this in the press release and other stuff, but what was the recapture rate on leases in the quarter?

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Michael C. Hughes, Spirit Realty Capital, Inc. - Executive VP & CFO [31]

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We don't give quarterly. We do that annually, but I can tell you through midpoint in the year, we're tracking right around the 100% mark.

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Operator [32]

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Our next question is from Joshua Dennerlein, Bank of America Merrill Lynch.

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Joshua Dennerlein, BofA Merrill Lynch, Research Division - Research Analyst [33]

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On the 1Q call, you guys talked about the expanded relationship with At Home. Sounds like the situation might have changed a little bit over there. How do you feel about At Home today? And was there anything you might have changed post At Home transaction in your underwriting?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [34]

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No. Look, At Home, first of all, we like to segment the rent. We've talked about home furnishings as being one of those verticals. At Home, as you know, is a public company, I think, their next earnings announcement is on September 4. We like the business and we spoke to management team after their last quarterly call. Look, it wasn't a great call but drove their stock price down, but we've certainly have experienced that from our seat. But the business itself is still, in our estimation, very solid. They just opened their 200 store in San Diego, California, the West Coast is a very large development opportunity for them. They just increased their ABL back in June by another $75 million. Our 2 portfolios, we have 2 master lease portfolios.

So we had an existing one and then we added this last transaction with them. Both are north of 4x unit coverage. They are 2x north of corporate coverage. Now the real estate scores were 2/2.0, [2.2] for these portfolios. The property's ranked in our top quartile where rents were below $7 a square foot, long-term leases. So we really -- same-store sales -- the sales were at least were good in these units. So all things are right, just the stock price for them, unfortunately, was the negative reaction but we still think that the business is relevant. We like what they do and obviously, we'll learn more when they talk about their quarter. But we did have a call with senior management recently, and we felt pretty good about our real estate underwriting at this point and their ability to pay rent for a long time.

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Joshua Dennerlein, BofA Merrill Lynch, Research Division - Research Analyst [35]

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Okay. Awesome. And then just maybe you could update us on what's on your watch list is there anything on there that changed recently?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [36]

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Ken, you want to take that?

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Kenneth Heimlich, Spirit Realty Capital, Inc. - Executive VP & Head of Asset Management [37]

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John, this is Ken. Yes. There is -- I use the word stable, continues to be (inaudible) a few folks on there. We take a closer look at and we remove some folks there, we've had a chance to do a deep dive on. But overall, it remains stable.

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Operator [38]

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Our next question is from John Massocca, Ladenburg Thalmann.

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John James Massocca, Ladenburg Thalmann & Co. Inc., Research Division - Associate [39]

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Should we maybe expect the -- given the industrial initial assets that you acquired in the quarter and the amount of the acquisition activity in the quarter that was industrial. What should we kind of expect with regards to that mix as part of your acquisition strategy going forward? Should it kind of be pared back starting maybe in 3Q or is that really going to be a focus?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [40]

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Well, look, I've kind of have you go back to, John, on that Page 28 in our deck. It's -- manufacturing, industrial and there are other segments in there, there's a lot of room there for us relative to how we see our Efficient Frontier for the asset allocation standpoint going where we can add more in that area. Industrial assets were about 7% -- just under 8% of our rents through the last quarter.

My guess is, yes, we're going to continue to see more of those opportunities. I mean we're with the right industries like the Party City you get mission-critical facilities. You get long-term leases, you get annual escalators. You get really good visibility from the unit, from -- visibility on the -- from a corporate standpoint. So I think you'll see us continue to do that amount and I don't think we're going to wholesale change our allocations, but there is a lot of room there relative to where we see our Efficient Frontier to add more, selectively, if it fits the right criteria for us.

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John James Massocca, Ladenburg Thalmann & Co. Inc., Research Division - Associate [41]

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And is there a big enough portfolio, I guess, of acquisitions from a pricing -- from a price perspective given improved cost of capital but still Industrial been a pretty in-demand sector. I mean, is it just manufacturing as more of a focus and that's where you can get kind of an appropriate yield for your cost of capital?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [42]

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I think what we're seeing is probably better opportunity. Manufacturing is tricky. You have to be very selective as to how we're -- yes, I would say, it's more industrial distribution. But for us, we're focused on sort of long-term leases with certain industrial assets. And quite frankly, I think a lot of the really low cap rate industrial that you're seeing out there from core buyers is actually shorter lease term opportunities where they feel like they can re-lease at higher rates and that's kind of not the typical opportunity that we're focused on.

We're looking at much more of a direct sale-leaseback with a critical -- with a good company, good industry, good fundamentals where it's a mission-critical asset. They're doing kind of a balance sheet work to try to redo their balance sheet, I mean, we can kind of lock into a 20-year lease. That's really what we're looking for. And so we don't feel like we're competing with, what I call, the really large wedge that's buying industrial out there in a 5 to 6 years weighted average lease duration where they are looking at buying an industrial parks and looking to re-lease and move tenancy around. That's not the kind of industrial that we're looking at.

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John James Massocca, Ladenburg Thalmann & Co. Inc., Research Division - Associate [43]

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Okay. Then shifting gears to the, kind of, in place portfolio. Given all the news around Walgreens kind of looking to optimize its real estate footprint. Are there any Walgreens, kind of, in the portfolio that are on a shorter lease term potentially? And then maybe kind of what the rough weighted average of lease term for that tenant in your portfolio?

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Kenneth Heimlich, Spirit Realty Capital, Inc. - Executive VP & Head of Asset Management [44]

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This is Ken. We were -- we definitely are reengaged at Walgreens constantly on renewals. We have a mixed outcome -- we've got -- we've already taken care of all of our 2020 renewals. We're already talking about 2021 and 2022 cohorts. We have -- its kind of spread out all the way out to 2035. But we have a great relationship with them, and we've -- there's nothing in that pipeline that concerns us.

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John James Massocca, Ladenburg Thalmann & Co. Inc., Research Division - Associate [45]

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Okay. Then lastly on the disposition side. You mentioned the vacant Haggen in Vegas that was sold. But anything else on the vacant side? Just kind of color on what was being sold in the quarter?

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [46]

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It's just simply continuing to keep an eye on how many vacants we have. We prefer to relet them when the opportunities arise, and we continue to pursue that. But sometimes there comes a point in time when we feel like it's makes a lot more sense to go ahead and exit given new cost and what not. But I don't know that there is anything crazy going on. It's just simply trying to keep our eye on it. We've always maintained our desire to maintain at least a 99% occupancy and so that's kind of a guiding light for us.

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Operator [47]

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(Operator Instructions) There are no further questions at this time. And I'll now turn the call back over to Jackson Hsieh for closing remarks.

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Jackson Hsieh, Spirit Realty Capital, Inc. - President, CEO & Director [48]

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Thank you. Thank you all for participating in this morning's quarterly earnings call. Just 1 final statement. As we get closer to completion of the sale of the Master Trust out of SMTA and ultimately the final completion of the liquidation of the assets in that company, I do want to make sure I remind all of you that we're going to be able to dedicate, obviously, 100% of our time to the Spirit assets. And that's something we're all really looking forward to do is we get closer to the end of this year. So we're very excited about that and our prospects. Well, thank you very much.

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Operator [49]

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This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.