Eastgroup Properties Inc (EGP) 2017 Q2 法說會逐字稿

Good morning, and welcome to the EastGroup Properties Second Quarter 2017 Earnings Conference Call. (Operator Instructions) Please note, this call is being recorded, and it's my pleasure to introduce Marshall Loeb, President and CEO. Please go ahead.

Thank you. Good morning, and thanks for calling in for our second quarter 2017 conference call. As always, we appreciate your interest. Keith McKey, our CFO; and Brent Wood, Senior Vice President and CFO in waiting are also participating on the call.

Since we'll make forward-looking statements, we ask that you listen to the following disclaimer.

The discussion today involves forward-looking statements. Please refer to the safe harbor language included in the company's news release announcing results for this quarter that describes certain risk factors and uncertainties that may impact the company's future results and may cause the actual results to differ materially from those projected.

Also, the content of this conference call contains time-sensitive information that's subject to the safe harbor statement included in the news release is accurate only as of the date of this call. The company has disclosed reconciliations of GAAP to non-GAAP measures and its quarterly supplemental information, which can be found on the company's website at www.eastgroup.net.

Thanks, [Kina]. The second quarter saw a continuation of EastGroup's positive trends. Funds from operations came in at the high end of our guidance, achieving a 6.1% increase compared to second quarter last year. This marks 17 consecutive quarters of higher FFO per share as compared to the prior year's quarter. The strength of the industrial market is demonstrated through a number of our metrics, such as another solid quarter of occupancy, record leasing volumes for the first half of the year, positive same-store NOI results and double-digit positive re-leasing spreads.

In summary, our increasing FFO and dividend proved the success we're seeing in all 3 prongs of our long-term strategy. At quarter end, we were 96.8% leased and 94.9% occupied. And as market commentary, we've never achieved this level of occupancy for this long.

Drilling into specific markets at June 30, a number of our major markets, including Orlando, Jacksonville, Charlotte, Phoenix, San Francisco and Los Angeles, were each 98% leased or better. Houston, our largest market with over 5.5 million square feet, down from over 6.8 million square feet in the first quarter 2016, was 95.6% leased.

Supply, and specifically, shallow bay industrial supply, remains in check in our markets. In this cycle, supply is predominantly institutionally controlled and as a result, deliveries remain disciplined. And also as a by-product of that institutional control, it's largely focused on big box construction. In fact, a recent CBRE study showed shallow bay deliveries still below pre-recession levels.

Rent spreads continued their positive trend for the 17th consecutive quarter on a GAAP basis, rising 14%. Overall, with 95% occupancy, strengthening markets and disciplined new supply, we continue seeing upward pressure on rents.

Second quarter same-property NOI rose on a GAAP and cash basis by 2.5% and 2.4%, respectively. Average quarterly occupancy was 94.9%, which is down 60 basis points from second quarter 2016. A material portion of our occupancy decline came via acquired vacancy and value-add acquisitions, which impacted average occupancy 110 basis points. Also of note, in our June 30 results is the 190 basis point margin between percent leased to occupied. This is an atypically large margin and it's being driven by several larger second quarter lease signings, where build-out and permitting are under way. It will take a couple of quarters to begin seeing the full impact in our results, and the other benefit lies in lower risk shifting from projected leases to actual signed leases. We expect same property results to remain positive going forward, though increases will likely to continue to reflect rent growth as with mid-'90s occupancy, we view ourselves as fully occupied.

The price of oil and its impact on Houston's industrial real estate market remains a topic of discussion, and we thought it appropriate for Brent to again join today's call. Brent, until next Tuesday, has run our Houston office, with responsibility for EastGroup's Texas operations. Brent?

Good morning. Our Texas properties finished the second quarter at a combined 95% leased, while our Houston portfolio finished the quarter at 95.6% leased, up slightly from last quarter and ahead of projections. The Houston industrial market exhibited solid fundamentals at quarter end. The market vacancy rate was 5.5%, extending the consecutive quarters that the rate has been below 6%, coupled with positive net absorption to 24.

Meanwhile, developers continue to show restraint with the construction pipeline containing only 2.2 million square feet of speculative space, which is down to a level not seen since 2011. Even though the overall Houston industrial market remains stable, there is an undercurrent of tenants downsizing upon their lease expiration, which is producing a lot of movement within the market.

We have not been immune to this trend and have incurred vacancy as a result. However, there continues to be prospect activity in the market. In 2016, we signed 30 leases totaling 836,000 square feet. By comparison, through the first six months of 2017, we have already signed our 30th lease for virtually the same amount of square footage. Our leasing efforts have reduced our scheduled expirations for 2017 from its peak of 17.7%, down to 5.1% as of June 30, and we have also reduced our 2018 exposure to just 5.4%. This is a welcome reprieve after the past 2 years, which were in the 17% to 18% rollover range.

Although we still have some known move-outs throughout the remainder of the year, our leasing results to date have been better than our projections. Due to that activity and the sale of Techway Southwest, our leasing assumptions for the remainder of 2017 now reflect occupancy reaching a low of 90% in the third quarter versus the prior expectation of 87%. Marshall will go into more detail regarding the Techway Southwest sale in a moment, but I am pleased that over the past 18 months, we have sold over 1.3 million square feet of buildings and 12 acres of land for gross proceeds of $88 million, with book gains of $53 million. This significantly reduced our Houston footprint, and we've now successfully deferred all of the material gains via 1031 exchange transactions.

Our development platform within Texas continues to produce positive results and further portfolio diversity. Our 2017 development starts include additional phases to existing parts in Dallas and San Antonio, and our first Austin land acquisition where we plan to start construction before year-end.

In summary, the fundamentals remained strong for the Texas markets outside of Houston. Marshall?

Thanks, Brent. Given the intensely competitive and expensive acquisition market, we view our development program as an attractive risk-adjusted path to create value. We believe we effectively manage the development risk as the majority of our developments are additional phases within an existing park. The average investment for our business distribution buildings is below $10 million. We developed in numerous states, cities, and sub-markets. And finally, we target 150 basis point minimum projected investment return over market cap rates. As of June 30, the projected return on our development pipeline was 8%, or as we estimate, the market cap rate for completed properties to be in the low to mid-5s.

Further, we're continuing to see cap rate compression in the majority of our markets. During second quarter in our development pipeline, we began construction in 3 existing parks on 7 buildings, totaling 507,000 square feet, with a total investment of $41 million. Those starts were in Dallas, Phoenix and San Antonio.

And on the other end of the pipeline, we transferred 5 properties totaling 867,000 square feet into the portfolio at 86% leased. As of June 30, our development pipeline consists of 14 projects containing 1.9 million square feet with the projected cost of $150 million, which is 47% leased. And during the quarter, we acquired 2 new development sites: the first being 30 acres in Round Rock, Texas, which is just North of Austin with plans to develop 4 buildings totaling approximately 340,000 square feet; the second site came via part of our Broadmoor acquisition in Atlanta, where we acquired adjacent land to develop a building slightly in excess of 100,000 square feet. Our goal is to break ground on both late this year or first quarter 2018. And for 2017, we project development starts of approximately 100 million and 1.3 million square feet. What's gratifying about these starts is we can reach this level again in 2017 with no Houston starts, demonstrating the value of our diversified Sunbelt market strategy.

Our asset recycling is an ongoing process, and year-to-date, we've sold $39 million in assets, with a couple of other opportunities we're evaluating pending pricing. Including in this figure was a $33 million disposition at Techway Southwest, of 4 building, 415,000 square foot, EastGroup development in Houston. In addition to Techway, we sold a 99,000-square foot Stemmons Circle in Dallas for $5.1 million. And over the past 18 months, as we've recycled capital, the portion of our NOI coming from Houston declined, while the quality of that portfolio has risen. Specifically, at the beginning of 2016, Houston represented over 20% of our NOI, with 3 properties under development. Today, Houston represents 15% of our 2017 projections, and following the Techway sale in fourth quarter 2017, Houston falls under 14% of our projected NOI.

Our second quarter acquisitions included a $5.8 million investment in the 84,000 square foot multi-tenant Broadmoor Commerce Park in Atlanta and the 99,000 square foot Southpark buildings 5 through 7 in Austin, Texas for $10.3 million. These buildings are immediately adjacent to our Southpark 3 and 4 properties, and both the Atlanta and Austin properties are 100% leased. Keith will now review a variety of financial topics included in our updated 2017 guidance.

Good morning. FFO per share for the quarter was $1.05 compared to $0.99 for the same quarter last year, an increase of 6.1%. Operations have benefited from an increase in property net operating income related to same properties, developments and acquisitions, and we had lower interest rates on replacing maturing debt.

FFO per share for the 6 months was $2.04 as compared to $1.90 for last year, an increase of 7.4%. Debt to total market capitalization was 27.2% at June 30. For the quarter, the interest in fixed charge coverage ratios rose to 5x, and the debt-to-adjusted EBITDA was 5.9.

The adjusted debt-to-pro-forma-EBITDA ratio was 5.5 for the quarter. Floating rate bank debt amounted to only 2.2% of total market capitalization at quarter end. These stats are some of the best we have had.

In the second quarter, we saw $30 million of common stock under our continuous equity program at an average price of $79.59 per share. For the remainder of 2017, we are projecting new debt of $60 million and no sales of common stock. We do have one mortgage coming due in the second half of the year, and we plan to pay off the $45 million mortgage on August 5, 2017. It has an interest rate of 5.57%.

In June, we've paid our 150th consecutive quarterly cash distribution to common stockholders. The dividend of $0.62 per share equates to an annualized dividend of $2.48 per share. Our FFO payout ratio was 59% for the quarter, and rental income provides almost all of our revenues, so our dividend is 100% covered by property and net operating income. Earnings per share for 2017 is estimated to be in the range of $2.41 to $2.49. FFO guidance for 2017 is estimated to be in the range of $4.19 to $4.27 per share, and the midpoint stayed the same as previous guidance, or $4.23 per share.

Guidance changes from previous estimates include an increase in same-property NOI, the effect of dispositions, an increase in stock sales and the timing of leasing on new developments. At the midpoint, we are projecting a 5.2% increase in FFO per share compared to last year.

Now Marshall will make some final comments.

Thanks. Thank you, Keith. Industry property fundamentals are solid and continue improving in the vast majority of our markets. Based on this strength, we continue investing in and geographically diversifying our portfolio. We're also committed to maintaining a strong, healthy balance sheet with improving metrics as evidenced by our equity issuance year-to-date.

Overall, we're excited about our 2017 opportunities.

From a holistic standpoint, our expectations are for another solid year. I used holistically as I mean it in 2 ways. First, I like the current industrial market, I like where we fit in the food chain and the consistent steady value per share we're creating each quarter. Secondly, I'm using it in terms of people. We're excited to have Reid Dunbar as Senior Vice President for Texas; as well as Ryan Collins, our Senior Vice President for the Western region. They brought with them years of industrial real estate experience, excellent reputations and their solid additions to EastGroup's culture and team.

Secondly, I'm excited to welcome Brent Wood, who I've known over 20 years, as our new CFO. I've worked with Brent when he transitioned from accounting to our operations side, so it seems fitting to work with him on the transition bank. And as excited as I am about these moves, it's truly bittersweet to see Keith retire. Keith has been with us over 37 years and I've known him since my first day in the office. We're in sound hands, but we'll miss him and I'm simply not articulate enough to adequately thank him for all that he's done for EastGroup and for me, personally.

But with that said, I'm excited he's off to enjoy himself and he's agreed to our, if we'll buy lunch, consulting arrangement. We'll now take your questions.

(Operator Instructions) We'll take our first question from Manny Korchman with Citi.

This is Jill Sawyer, here with Manny. My question's regarding via the Techway Southwest disposition. Who is the buyer for that position and who's the buyer, if you like, overall, in the Houston market?

Yes. I don't think we're under any sort nondisclosure with the sale, but it was purchased by Cabot. And the buyer pool, we had entertained selling this property 12, 18 months back when we begin our disposition program. It did have some leasing risks, so we decided to hold it and just stabilize the rent roll moving forward. But there's so many people looking for investments and there's nowhere to put the money. We were approached by different groups, over time, but in this case, the price was attractive. They were willing to price it and take on the leasing risk. So at that point, we were willing to sell and so we're excited about the timing and the price. And like I say, it was on our disposition list, and we're -- it was a good property we developed. I think it's the first time we've sold a property that we've developed. That submarket we viewed is that we'd likely wouldn't add to that cluster, over time, maybe even a declining submarket, in our review, over time. So we were happy to sell.

Okay. And staying on the buyer pool amusement. Do you find that pool any different or more active role last active now than, say, 6 months ago?

It's probably been a little more active. I think we're the majority of the way through our dispositions in Houston. I mean, we'll sell maybe a few more. There's a property in Central Green that we signed a lease on thankfully. In the second quarter. We're doing the buildout now. We may bring that to market once that tenant's in. We saw the buyer pool contract the second half of 2016, and it feels like there's still demand and it's picked backed up, and in fact, someone was just recently telling us about how barely North of the 5 cap sale of transaction in Houston that traded. I think if it's solid, these are newer assets, kind of middle of the fairway, there's certainly a buyer pool. And it does feel like it's maybe opening up a little bit more in Houston. And as Brent said, this was an asset we had on our list. We really had pulled it off. And through a broker, both entities new, we' got approached and they were able to hit kind of within our target pricing range.

Congrats, Keith, on your retirement.

Thank you very much.

We'll take our next question from Blaine Heck with Wells Fargo.

So recent commentary from some peers has suggested that merchant builders have come back and are increasing supply in some markets. Are you guys seeing any increase on the supply side in your market from merchant builders? And then, I guess just more generally, can you talk a little bit more about your expectations for supply as we head into the end of this year and into 2018?

Good question. We are seeing a little more -- there's certainly more supply out there, over all, but I would bifurcate it in that what's -- where we like -- perhaps we've mentioned, we like where we fit in the food chain, recently saying, Atlanta and then, I was in San Antonio looking at a project we're considering there, some land and so much of the new supply is all big box. So we've simply not designed, with that average tenants size of about 26,000 square feet, probably a little bit larger than that in our new developments, but the vast majority of the new supply is noncompetitive. If you and I are on the ground and we drove around Broadmoor and Atlanta, you'd see new buildings, but they'd be 250,000 square feet and up that are around us. So supply has picked up a little bit maybe and in Orlando and things like that. The merchant builders are typically not working with that, but, really, with our way for institutional capital to acquire industrial, they're really, I'm going to call it a fee developer, but close to that, maybe a 10% partner with institutional capital as the investor. And so we're seeing a little bit of that. But if you said what keeps us up at night, one of our main answers would be finding next land sites. So probably the biggest hurdle we've got to new supply is we simply have struggled to find new land sites as do our peers. So it keeps getting pushed further and further out of town. And then usually, once you're there, they're building something that's noncompetitive to our design projects.

Yes, that's very helpful. And then maybe for Keith or Brent. G&A came in lower than the original guidance for this quarter, which was good, but can you touch on what caused it to come in lower and whether there's any chance of that happening again?

We've got a lot of noise in G&A this year. We had -- we're changing our plans, and we put out a press release first of the year and said that, that was causing $0.03 a share. And then we've had some terminations over the time and my best and accelerating, and we do expect G&A to be down next year. I have not come up with the final numbers, but it should be less than this year.

We'll take our next question from Alexander Goldfarb with Sandler O'Neill.

First, Keith, congrats. So hopefully, we'll see that handicap continue to come down. So 2 questions here. The first one is, now that you have some new folks in Texas and out west in the managerial roles, I realize it's only been a little bit but already, we've seen some improvement out of Arizona. So can you just talk a little bit about their coming in to a firmly entrenched culture where you guys obviously have a formula that works. But at the same time, you went outside the company to get new blood. So just trying to balance what new ideas the new folks will have coming in versus them just operating under the EastGroup MO? And again, I'd just point to the pickup in lease rate in Arizona. So obviously, it seems like some things are changing.

Thanks. Good question. Maybe a little bit -- both are a little bit different. In Texas, we've got -- both places, we have good teams. We have 2 seasoned vice presidents in Texas that are continuing to perform well, and we had known Reid Dunbar, really, from when he came from Charlotte when he was with Prologis in Charlotte, followed him, certainly has a lot of good ideas and a lot of good experience that stepped into an ongoing situation and is really continuing our development program in Dallas, in San Antonio, really with the next phases of buildings. And it's thankfully been a nice seamless transaction. Reid was just here in Jackson last week, so got to meet more of our team and he's kind of hit the ground running and had a set runway in front of him out west. We opened an office in Los Angeles for Ryan, so it's really been a way to be, we've used the phrase patiently optimistic. He is from Texas. He moved to Los Angeles a few years ago with Clarion, has a great kind of rolodex of contacts and experiences in Southern California, growing Clarion's portfolio. So he's hit the ground running. We've turned down any number of projects that just didn't quite fit us, but seeing such a large market in California, turned down opportunities, but are a couple that are on the radar that may come in, yes, that we're still evaluating. And again, he's just finishing his second month there. And then, really Mike Sacco, he's come into his own, as you mentioned, in Phoenix, where we are 90%, about 90.5% occupied at June 30, but 98% leased. So he has stepped in and done a ton of development leasing and done a big driver of that delta that I mentioned, a 190 basis points between percent leased and percent occupied of a lot of first-generation space that he stepped in. And he's really -- kind of with the opening of the California opening office, has led the Arizona office, more or less, be his office to run and do as he wants to. And I'm happy for Mike and I'm pleasantly surprised that he got as much done as he did as quickly as he has. So I guess, the other side of that, I'll just add, what's nice is on the side, we had shut down our Phoenix development program because of the vacancy we had in the first quarter of 2016. But now that we're 98% leased and Mike even got a nice prelease in some land that we have, part of our pickup and really our timing of development has been stabilizing the Phoenix market. It's let us really move from playing defense to playing offense this past quarter in that market.

Okay. So it sounds like you may ramp up some development there.

Yes. He got some space pre-leased. We're 36% leased on new buildings, so we're going to finish out our Kyrene Park. And soon as our earnings call is over and sales down, I promised him to come out to Phoenix. He's got another new land site that we'll drive around while it's 115 degrees still out there, and see what we think of that site, if it's our next park or not. So we're excited and, yes, he's doing a great job.

Okay. And the second question is just on the external side, the acquisition market sounds like it's still pretty tough. Dispositions, it almost sounds like you're fine with where Houston is, like it's settling out. So the big rush that you guys have had on the disposition side over the past year or so, is that sort of coming to an end? Or do you think that even if you can't find the acquisitions, you would still continue to do dispositions to fund development?

I think we would -- even if we couldn't find the acquisitions, we'll probably be looking more towards value-add acquisition these days. I like the 2 or 3 assets we bought at the end of last year. We were achieving yields that are higher than core markets, but maybe a little bit below what if we had built it our results are coming in. And I guess, answering your question, the pace will probably slow down a little bit, but I think we should always be pruning our portfolio. We still have some service center buildings in Florida and things like that, that I think, for our shareholders, it's a good set of market to sell into, so we should continue to sell and move assets out. And I'm happy the team has done a great job managing through the 1031 process this last 1.5 years, and we'll probably keep that process going and match it as best we can.

We'll take our next question from Rich Anderson with Mizuho Securities.

Good luck to you, Keith. I understand ol' Miss needs a new football coach, just saying. So just going through the math on the guidance, I understand same-store, up; dispositions, up; stock, up. So those kind of net out. But Keith, you mentioned timing of leasing a new development. Has there been a slowdown there? Is that the message you're sending?

No. We are happy with where development -- I'll let Keith chime in. The other one we did bump our interest rate assumption a little bit this quarter. So that was the other thing, that was -- we debated and kind of went through internally issuing -- updating our guidance. Happy with the development leasing. It's moving ahead with our size and especially with development. If a space or 2 gets pushed up versus an assumption a month or 2, it's 0 or 100,000 maybe within that space. And so a couple of those and all of a sudden, we're at 200,000, and that's the difference between raising guidance if any or holding it steady. So we're not saying the development market slowed, but versus assumptions and what we're happy with as we're able to shift some of those assumptions to actual signed leases and scrambling to get permits and subcontractors and things like that to get the space built.

Okay. And you mentioned the 100 basis points spread between leased and occupied. What should we think of as typical?

We've averaged about -- if we went back to '14, maybe 170 to 100 basis points has been probably typical. First quarter had jumped up to 150 basis points. And in this quarter, it's all the way up to 190. So a lot of that is that development leasing where the buildout takes a little longer. As Brent has mentioned, the Houston retention ratio has really inverted these past 2 years, so more new leasing in Houston. So that's some of what's caused the delta between those 2 numbers to grow, but it's about twice our normal run rate at the end of this quarter.

Okay. And if you would just allow me, did you give a cap rate on the Houston sale?

We didn't. Probably if we were underwriting it to acquire it, as Brent mentioned, it had some vacancy, it would be a low 6% kind of cap rate.

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Low 6%, fully occupied?

Yes, if we stabilized it at market rent and some of the things, that's kind of how we underwrote it as "what are we selling?" And then if we were the buyer, what we will be looking at, and that got us to the low 6%.

And Rich, it was at that 6% or low 6% with -- it was fully occupied, but we had a tenant that was about 20% of the project that we knew was going to vacate July 1. So we knew that, that was going to go down from there. So the buyer was willing to price through that and take that lower yield for however long it takes them to restabilize the property.

We'll take our next question from Bill Crow with Raymond James.

Keith, God bless. Enjoy. We look forward to seeing you in the golf course at some point. Marshall, a question for you. In talking to one of your peers back in NAREIT, they suggested that World Houston was perhaps the best industrial part of the country, which you probably would agree with. Then they suggested it's simply located in the wrong part of Houston. And I was just wondering if you could address that part of it and how transitory that statement might be. In other words, how big of a gap do you get when you come up the other side?

I'll take a stab, and Brent, chime in maybe between this, and Brent's really seen the world of Houston grow up. Not unexpectedly, we agree with the first half of your statement. We think it's the best industrial park, arguably, in the country. What I love about it, you really shoehorned in between Beltway 8 and George Bush Airport and a fast-growing, fourth-largest city in the country. So I think our location and the access is really strong, and it's proven itself out over the years with the demand there. I think the North submarket had more available land, so it had more development hitting into this kind of oil price shock. The other thing that makes it, maybe where you're, I'm picking up on your word, Bill, transitory of what we've seen. We have more -- because of its location near the airport and near the freeway, there's been more 3PLs and freight forwarders. So those guys may have 5 or 6 locations, and I -- my mental image is almost like an accordion. As they lose contracts, it's easy for them to contract organically versus if you and I owned the manufacturing business, but by the same. So we felt that on the contraction, by the same token, and this may be the optimist in me, but as they pick up new contracts, they will expand much faster than a typical, say, closely held or wholly owned 3PL would be. So we probably do have more transitory freight forwarders because of the location adjacent to the airport. But long term, I like -- I love being next to George Bush Airport. Brent?

Yes, no, I would agree with that. We love the location, love the submarket. The North became softer than the other submarkets just because of its desirability. It became a victim of its own success when, as Marshall mentioned, there's more land opportunity there initially. So as the market continued to grow and to be hot, more developers entered into that submarket. So as -- when the music stopped, everything began to slow down. Again, it had more space and it was softer. But down the road, whether that's 1 year, 2 years, whatever, when things pick back up and spec development picks back up, you'll absolutely going to see that occur in the North submarket, there's no doubt about it.

We'll take our next question from Rob Simone with Evercore ISI.

On Houston, could you guys just breakdown how much of that spread narrowing on your same-store guidance, both with and without Houston, is attributable to the sale? Just trying -- I know that it's some combination of sale plus improving market, just trying to just aggregate that a little bit?

Yes, we looked at that -- I mean, it helped -- we have 2 things that are helping us there that were -- incrementally, we're doing better with -- on leasing. And certainly, the sale of Techway, as I mentioned, we have that large tenant right around 100,000 square foot tenant that was originally budgeted to vacate, would have been empty the rest of the year had we continued to hold the project. So Houston, specifically, the improvement there in the same-store forecast, I would say, a lot of it was related to a Techway, and then some portion to better leasing. But it was probably, with 2 quarters to go, a little more related to the Techway disposition. But we were very pleased with the timing. We were able to operate it 100% for 6 months and then right as the vacancy's impending and approaching, we were able to sell an asset that we had already desired to sell for probably going on 24 months now.

The other nice driver in our same-store results kind of for the balance of the year is that lease up in Phoenix, as I mentioned. We had projected leasing in the balance of the year, but not getting to 98%. And a couple of cases within that, it would fall -- one of them would definitely fall into same store. It was a development that had sat vacant for a while. So that will roll into our same-store pool later this year, and that project is at 100% now. So that's kind of the other pickup of really just exceeding what our assumptions were 90 days ago.

Our next question comes from Eric Frankel with Green Street Advisors.

Keith, I'm going to miss our spirited discussions that we always have. So best of luck in retirement and, hopefully, I will see you at some point in my life in Mississippi.

Thank you.

Maybe just to quickly follow-up on Houston. Kind of -- it seems like fundamentals are improving a little bit there, so with better investment sentiment. Do you have a new target of where you want to get Houston to in terms of the percent of the portfolio on a square footage or rent basis?

We've talked about that. I think we'll be below 14% in fourth quarter, really, with no new developments planned. I mean, we might -- maybe, pending the market, least we could think about it, maybe in '18, where we didn't really think about it this year. I think if we stay 12%, 13%, 14%, that's probably towards the high end of it. And really, more of that will be driven by how fast we can build out, say, Miami, how fast we can get up and running. And I realize it's incredibly competitive in California, but that's certainly an under-allocation within our -- if you look kind of at our investment spectrum. And so if we can -- what I would hope is each of our major markets, we have runway when we find the right opportunities to step forward and, hopefully, that let's Houston, in the near term, drift or settle back to that 13-, 12-type percent within our portfolio.

Okay, helpful. I dialed in on the call a bit late, so maybe you addressed this a little bit earlier. But Brent, now that you've certainly taken control of the balance sheet, do you -- what are your observations kind of stepping to the CFO role? And do you see the balance sheet structure different at all going forward?

Yes, Keith, look -- took control of what? But much like Marshall said when he took over for David, I mean, me, taking over for Keith, I very much just view it as putting hands on the steering wheel. We have a great accounting team, a great -- have a great support. And no, our conservative balance sheet, keeping 65-35, 70-30 debt-to-market cap, being very judicious with issuing new equity. My primary goal is to try to do my first loan at just even one basis point lower than what Keith did, just so I can needle him with that. But it will be very similar. I mean, our structure is very simple and straightforward, and we'll continue -- my goal is just to continue to -- I hope Marshall and the guys in the field are finding lots of great opportunities that we're -- hope we're making decisions about equity versus debt and those type of things going forward.

Okay, great. A final question. You might have addressed this earlier as well. Are there any particular industries that are doing particularly well? Are you seeing increased leasing activity? Obviously, the term last mile might be a little bit over used, but certainly, there's a little bit more -- there's certainly good e-commerce demand. Have you seen any other particular industry or segments that are doing well and leasing well in your markets?

You mentioned e-commerce, so that -- probably steady demand, steady growing demand quarter-after-quarter. I mean, one, we mentioned we just signed the lease with Wayfair, for example, and Florida and they popped up on our radar as a growing e-commerce and it surfaced in other markets as well. So that segment, which is maybe an easy one. Homebuilding is another one. It feels like it's picked up, some more people related into the home building industry, and that probably fits our type sized buildings. But that -- those tenants have picked up a little bit. Thankfully, it's been very broad based and a little bit of everything, so it's hard to pick any one sector. It feels like the homebuilding industry is doing well these days, and that's it. Some of -- thinking like a tenant that's expanded, if you talk to Nick Jones, who run Charlotte for us, a couple of examples of his comment was, "All of my leasing of late has been expansions. We've expanded heart and home as a tenant, one tenant into another tenant space. What organically we like is seeing that much more expansion. Charlotte, that's really driven a lot of our leasing. And then in Tucson, we have a tenant. It's -- basically, it's a garage door opener company that outgrew their building. One of our developments is a 300,000-foot building for them. We were worried about -- previously, about getting there 100,000 and a little over 150,000 square feet back. But an existing tenant grew and has taken 80% of that building when they vacate next spring. So it's one of those kind of a seamless transition that outside of EastGroup people wouldn't notice. But we were concerned about getting 150-something thousand feet back in a market that's not huge like Tucson but it was nice to see public company auto-parts supplier take 80% of their stays. And when they're out, we're working on an existing tenant with an LOI, moving the lease to take the balance of their space. So we had a leasing call just recently, and we continue to hear more and more about expanding tenants really across a broad spectrum than -- which I like better than us taking a tenant from one of our other industrial REIT peers, which is a zero-sum game.

Okay, it's helpful. So once again, Keith, congratulations on your really successful career, and best of luck with your hopefully lighter schedule.

Okay. Please come to Jackson.

We'll take our next question from Joshua [Dinnerland] with Bank of America.

I just wanted to get back to Houston. One thing you've said in the past is that, I guess, some of the lingering drag in this 3PL leases where the customer shutdown a few years ago, but the 3PL lease of the landlord is only just expiring now. How much longer do you expect that overhang will last?

Well, it's hard to tell for us just internally within our portfolio. As I mentioned, we're excited that we only have 5% rollover for the remainder of this year and just a little over 5% for all of next year. So we're looking at just around 10% rollover for the next 18 months. That just, by default, is going to insulate us from that activity. So within our own portfolio, that's mitigating, I think, for the most part within the Houston market. Most of that has shuffled and played itself out as tenants have rolled and have the opportunity to resize. As I mentioned, these tenants aren't leaving, they're just readjusting. We've signed 30 leases in the first 6 months of this year. That equaled what we did all of last year, and we were excited about what we did last year. So I would like to think that things are getting incrementally better as opposed to going the other way.

Got it. And then for the -- why do you think there's less development in the shallow bay market versus big box? Is it just big box is sexier or?

I don't -- good -- sexier, probably a little bit of it. It's always more fun to build bigger things than smaller, but a lot of it is the dollars you can place. And so we're an institutional investor, but so many of our peers are larger than us, especially when you get to the pension funds, and they have dollars to place and it's, call it, in our average building maybe $9 million to $10 million. It's minimum wage or manual labor for them to put the dollars out. They've got to keep pace and go -- if you go by a 600,000-foot or 700,000-foot building on the edge of town, you can place dollars so much more efficiently than putting it out -- describe our development program as a subdivision. But a $10 million home after another, and we add one when the next one gets leased up -- when the last one leased up. So I think they just -- it's an inefficient way for them to place the size capital they have to invest. And for the merchant developers, the fees are larger on -- absolute fees are bigger on a larger building than a smaller building. That's a little bit -- we're happy with the assets, long term, but what we saw in Fort Worth where a good market, a growing market, long term, but where they built 4 buildings at once, where we would have built probably 1 to 2 buildings at a time. And then I'm thankful for it. It's just an interesting fact in our market.

We'll take our next question from Craig minimum with KeyBanc Capital.

Marshall, just curious, a follow-up on the fact that shallow bay, there's less development than big box here. Just thinking, the tenant profile is different than what you see in big box. I'm just curious, with more limited development, do you think you'd be able to push rents even harder than you would in larger distribution facilities. I'm just curious if that's what you're seeing on the ground or if cost structures for the supply chain differ that much between the 2 tenant basis that it becomes harder.

Good question. We -- our rent spreads are up. One thing that's been nice this year, our leasing volume is higher through the first half of the year. We're a little bit bigger than it's ever been, but also, our rent spreads are up. We were up about 12% and 15% -- I'm doing this from memory, 15% and 16% and we're 16% year-to-date. So our rent spreads are up. And really, there's -- I say there's less supply, but there's always competition, and it's usually always pretty good competition. So when we're out with space, especially if you have a little more leverage on the renewal, then you do a vacant new space. But they always have options, and we are pushing rents and we don't see a trend of it turning down. But I always thought the best brokers really know what your competition is, what your -- here's the 2 or 3 spaces they're looking and here's the pros and cons of each of those spaces. So I like that everyone is full for the most part, but there's always still seems to be -- every tenant has an option or 2, where the tenants are usually can be a bit flexible in their ranking or what size square footages they can use, things like that. Brent, can you...

Yes, I'd say there's still strong demand in the big box. So it's not as though they don't have the power to push their rents as well. So part of that factors into it. And so you push a couple of big 500,000-square foot leases on the rental rate. That will move the needle quicker than, say, if we move a handful of small tenants' rental rates. But the good news, we're both in the position to lever. And just following up on that in terms of small box, our peer group, the idea of building a 100,000 square-foot building and leasing it to 4, or 5 or 6 tenants, it just doesn't move fast enough. And even from an institutional buyer standpoint or development standpoint, they don't like the intents, rent rolls, where you have maybe a portfolio where you've got 20, 30 tenants versus where you might have 2 or 3 tenants in large buildings for the same amount of square footage. So sometimes, they just -- thankfully, they just shy away from that type of administrative work.

Helpful. And then, Marshall, you had indicated that you're still seeing cap rate compression across almost all of your markets. Just curious where you've seen the biggest moves lower? Kind of which market you're seeing the lowest cap rates and across your portfolio as well.

Well, kind of the feedback we get, and we talked to a couple of the different national brokers, their commentary was along the lines of, say, the top 5 markets. And maybe I'll use Inland Empire in California, where it was already 4 or really a little bit below 4. Those have pretty much stabilized. But what we're hearing industrial is a safe haven and, certainly, we are enjoying that from the equity side. But for institutional capital, they started under-allocated to industrial and now compared to retail or maybe some other sectors. So we're seeing, really, those markets that maybe 1 through 5 have held steady, maybe markets 5 through 15 or, really, probably up even in the low 30s, where it would be a San Antonio, a Charlotte, a Tampa, some of those markets where it's probably come down 25 basis points is what the brokers are saying. Nationally, their transaction volume is pretty consistent with 2016, but because people are underwriting higher rent growth, their comments were more total deferred expectations are about the same. But because everyone is seeing a rent growth, they're willing to -- more importantly, underwrite more rent growth. It's pushed cap rates down maybe another 20 to 25 basis points this year. And really, kind of how do we think about it, it's a good time to continue selling assets where we can. It probably pushes us. It makes our development program all that more attractive and really pushes us more towards a value-add type acquisition. If it's a building that's been built and vacant that we can step in and continue spending capital on like we did in South Florida and Las Vegas and some others, that's probably where our strategy will take us. Just-to-go-head-to-head with an institution on a Class A project with credits in it, it is just a tough fight, and I'm not sure anybody wins that right now.

Keith, congrats again. Enjoy, and thanks for all the help over the years.

Thank you very much, Craig.

We'll take our next question from Ki Bin Kim with SunTrust.

Congrats, Keith and Brent. So just a broad question on Houston. Do you think we've reached the bottom in the north submarket fundamentals? And maybe you could tie that with any kind of commentary on what you're seeing in market rents in that market?

Yes. It's hard to say it's at the bottom when you -- the vacancy rate of the market has stayed under 6 the entire time. But for the North, specifically, I would think so. I mean, certainly, there's been no, there is no and has been no spec development, so that alone is allowing it to get more stable. In terms of rental rates, I mean, we've been very pleased and satisfied with rental rates. All in all, as you can see, our spreads have tightened some. And I was just looking back World Houston, for example, in second quarter alone, we signed 5 leases and those leases were signed at an average rental rate of $0.53 a foot. So I've seen a lot of press about rates being well below that. I guess, I would just say, I'm glad those brokers aren't doing our leasing, but they've held in there well. When we've leased our Central Green building, 80,000 square feet had been vacant for a while. We were able to get a really good rental rate there, and that's really what drove our positives this time. We had 2 prospects that got into a hotly contested desire to have the building. And so one of them ramped up and went through the leasing process very quickly and signed the lease for it. So again, incrementally better. I don't like the deflection straight up, but we were feeling positive, feel good about the rates we achieved for the quarter. And again, the low rollover, going forward, we're looking forward to that.

All right. And a quick on maybe what you're seeing in terms of any large known tenant moveouts in the foreseeable future. I'm just looking at your top 10 tenant page. I know you guys only showed the expiration date there, but if I look at you older ones, it seems like Mattress Firm or Essedant, Iron Mountain, maybe a few of those that might be popping up in the next year. Any sense today on what's happening with those?

Nothing. Good question. Nothing within our top 10 tenants, thankfully. I mean, Essedant, we actually did a long-term renewal with last year. So they should be put to bed. Iron Mountain, again, knock on wood, we've had a good portfolio-wide retention rate with them. I know (inaudible) is a tenant we get questions about because they're a retailer and they've actually -- they've got term left on their lease and are actually in the market looking for additional space for distribution in Charlotte. So thankfully, there, we've got a couple of moveouts in Houston. And then the other move-out that we're working our way through, but I would describe our 240,000 feet in Santa Barbara, it's 4 buildings. 3 of them are full, but we had one tenant that had been there 20 years that grew and grew and really took the entire building at just over 50,000 feet and they vacated during second quarter. So the tricky part in Santa Barbara. The good news is that it's a high rent market. The bad news is when it's vacant, it's an expensive vacancy and it's more of, as you'd expect for Santa Barbara, smaller tenant R&D projects. So it's one of our challenges this year, right after Houston, is probably re-leasing that square footage in Santa Barbara. We have prospects, but it's a thinner market, so we'll work our way through it. But if you said, overall, where have our moveouts been, it's a couple more coming still in Houston, probably between now and or will between now and year-end. And we got hit with one, a tenant move out in Santa Barbara that we're working to re-tenant.

Anything notable on Mattress Firm or is that kind of steady?

They have term on the Houston lease side. Yes, there's nothing really there.

No. I know they were required by a South African firm, I may be off on that but I believe. So I think nothing that I'm aware of, seemed to be fine, and no news one way or the other. We get questions about retailers within our portfolio and thankfully don't have that many. I know -- like Nordstrom is in Southern California, but they've been there 20 years in our Walnut project, so not that many retailers.

And we'll take a follow-up from Eric Frankel with Green Street Advisors.

Yes, just commenting on the acquisitions market. Do you think it's pretty -- certainly, competitive we certainly see that as well. It's worth understanding that I think, obviously, your share prices are up a pretty good bit over the last year or so. Have you thought about taking a plunge just in terms of more acquisitions, just as a result of your cost of capital being a little bit lower? And maybe you could also talk about how acquisitions compared to development and what do you think your competitors are underwriting in terms of development profit margins and what you're underwriting as well?

Okay. Our development yields, well, this quarter, we're at 8% lead. We keep thinking it will come down and it will trend down just because we worked really through most of our inexpensive land. We've put it into service, everything we're acquiring land-wise. So our development yields could come down, but we've been thankfully able to stay well above that -- a 150 kind of basis points over what a fully-valued -- what we think we could exit it for to kind of justify the development risk. In terms of acquisitions, and then, we minimally try to decouple. I mean, it's almost like on or off. Maybe when we're in early 50s or low 50s a little over a year ago, thankfully, on the stock price, we weren't very active. We're looking for acquisitions. As our stock price moved up and our cost of capital came down, we started looking more and more for acquisitions, and we're active in that market at the end of last year and have been this year, trying to decouple those as much mentally. If we don't like it, I don't think we should buy something just because we have capital. I'd rather you not be grilling -- thankfully, Keith will retire, but you'll be grilling Brent and I about it 2 years from now if we buy it simply because we have the capital. So try to mentally decouple it, but we are active and looking, and it's kind of one that's you know it and when you see it, probably in Atlanta or in Southern California or Northern. And it probably steers us more towards value-add again because people -- if there's nothing wrong with it, people are willing to pay such great prices for it. And I also like the fact that we're a long-term holder. It helps us kind of underwrite and look further down the road. I think our peers are within the reach so much, but again, what we were hearing, those people are willing to underwrite more rent growth, and so that's what's driving the compression in cap rates and the underallocation. Probably, if you can't get into Dallas, Chicago, Southern California, Northern New Jersey, then Tampa, Phoenix, Orlando, any number of our other markets just get that much more attractive. So it probably helps from an NAV perspective or where we're looking at it. But it's -- the acquisitions won't be our primary path to growth and probably shouldn't be right now, unless it's buying vacancy where we can take on some risk that others are uncomfortable with.

Okay. And just to comment, obviously, your development yields are obviously on legacy land, certainly good. But if you had to buy a land at a pseudo-market value today, do you think cap rate -- what do you think your spread would be, relative to prevailing cap rates on stabilized assets?

We'll probably -- a couple that were looking, like Austin, where we're not finished there, but we'll probably be mid-7s in Austin. And probably if we sold them, mid-5.5, 5.75%. I'm estimating, brand-new product in Austin, in Atlanta, it's an allocation with the building, but we'll be a high 7 development when we do it, when we finish it and that's probably easy 5.5 brand-new building. And along I-85 in Atlanta would be a low 5 cap rate, so the spreads are hanging in there. We're looking at something else that's about a 7.5%, that's going to investment committee this week elsewhere in the country. And probably, again, easy 150 basis points spread.

And that, Eric, will vary by market. When we get active with our Dade County development project when we bought the land last quarter, that spread will be tighter. But again, that's different market dynamics and has different long-term growth. Certainly, if Ryan unearthed something in California from a development standpoint. Again, that spread would look different just because of the market dynamics. So it’s not a one-size-fits-all necessarily, but for most of our markets, it's along the lines of what Marshall described.

It appears we have no further questions. I'll return the floor to Marshall Loeb for closing comments.

Thank you, everyone, for your time this morning. I appreciate your interest in EastGroup, and I will join the chorus of wishing Keith well on the golf course. So thanks, everyone.

And this will conclude today's program. Thanks for your participation. You may now disconnect.