Realty Income Corp (O) 2013 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by.

Welcome to the Realty Income third-quarter 2013 earnings conference call.

During today's presentation, all parties will be in a listen-only mode.

Following the presentation there will be an opportunity to ask questions and instructions will be given at that time.

(Operator Instructions).

As a reminder, this call is being recorded today, October 31, 2013.

I would now like to turn the call over to Tere Miller, Vice President of Investor Relations for Realty Income.

Please go ahead.

Thank you, Craig, and thank you all for joining us today for Realty Income's third-quarter operating results conference call.

Discussing our third-quarter results will be John Case, Chief Executive Officer; Paul Meurer, Executive Vice President, Chief Financial Officer and Treasurer; Sumit Roy, Executive Vice President and Chief Investment Officer.

Also joining us on the call are Gary Malino, President and Chief Operating Officer, and Mike Pfeiffer, our Executive Vice President and General Counsel.

During this conference call, we will make certain statements that may be considered to be forward-looking statements under federal securities law.

The Company's actual future results may differ significantly from the matters discussed in any forward-looking statements.

We will disclose in greater detail the factors that may cause such differences in the Company's Form 10-Q.

I will now turn the call over to Mr. Case.

Thanks, Tere.

Good afternoon, everyone, and welcome to our call.

We are pleased with the Company's operating performance for the third quarter with solid results coming from our areas of the business.

Paul is going to start and review the financial numbers.

So I am going to hand it over to Paul.

Paul?

Thanks, John.

As usual I am going to comment on our financial statement and provide a few highlights of our financial results for the quarter starting with the income statement.

Total revenue increased 70% for the quarter.

Our current revenue on an annualized basis is approximately $805 million.

This increase reflects positive same-store rent of 1.3% but, more significantly, it obviously reflects our growth in new acquisitions over the past year.

On the expense side, depreciation and amortization expense increased significantly to almost $81 million in the quarter as depreciation expense has obviously increased with our portfolio growth.

Interest expense increased in the quarter to $49.7 million.

This increase was primarily due to the $800 million of bonds that were issued last October and the $750 million bond issuance in July, as well as some credit facility borrowings during the quarter.

On a related note, our coverage ratios both remained strong with interest coverage at 3.5 times and fixed charge coverage at 2.9 times.

General and administrative expenses or G&A in the third quarter was approximately $16.6 million.

Our G&A expense has naturally increased this past year as our acquisition activity has increased and we did add some new personnel to manage a larger portfolio.

Our employee base has grown from 92 employees a year ago to 114 employees at quarter-end.

The other unique factor, though, in our third-quarter G&A was a $3.7 million non-cash expense related to the acceleration in July of our older 10-year stock grant to five-year vesting.

Overall, our total G&A year-to-date as a percentage of total revenues was still only 7.3%, compared to historically our G&A had a run rate of about 7.5% to 8% of revenues.

Our current projections for G&A for 2014 is about $50 million or less than 6% of revenue.

Property expenses were approximately $5.9 million for the quarter.

Our property expense estimate for all of 2013 is about $18 million and our projection for 2014 is $20 million.

Income taxes consist of income taxes paid to various states by the Company and they were $671,000 for the quarter.

Merger-related costs, obviously this line item refers to the costs associated with the ARCT acquisition earlier in the year.

During the quarter we expensed $240,000 of such remaining costs.

Income from discontinued operations for the quarter totaled $6.6 million.

This income is associated with our property sales activity during the quarter.

We sold 19 properties during the quarter for $22.4 million with a gain on sales of $6.2 million.

And a reminder that we do not include property sales gain in our FFO or in our AFFO.

Preferred stock cash dividend totaled approximately $10.5 million for the quarter, and net income available to common stockholders was about $41 million for the quarter.

Turning to FFO and AFFO.

Reminder that our normalized FFO simply adds back the ARCT merger-related costs to FFO.

Normalized funds from operations or FFO per share was $0.59 for the quarter, a 13.5% increase versus a year ago.

It would have been $0.61 but it was reduced $0.02 by the non-cash expense for the accelerated stock vesting I already mentioned.

Adjusted funds from operation or AFFO, or the actual cash we have available for distribution as dividends, was $0.60 for the quarter, a 15.4% increase versus a year ago.

We again increased our cash monthly dividend this quarter.

We have increased the dividend 64 consecutive quarters and 73 times overall since we went public over 19 years ago.

Dividends paid per common share increased 23% this quarter versus the same quarterly period a year ago.

And our current monthly dividend now equates to a current annualized amount of just over $2.18 per share.

Our AFFO dividend payout ratio is currently about 89%.

Briefly turning to the balance sheet, we have continued to maintain a conservative and very safe capital structure.

As you know, in July we raised $750 million of new capital with a 10-year bond offering.

Earlier this month, we did a $397 million common equity offering.

And just this week, we closed on the accordion expansion of our acquisition credit facility for a new capacity of $1.5 billion.

We currently have about $100 million of borrowings on that line.

We do want to take a moment to say thank you to the investment banks and commercial lending partners who have helped us access this capital over the past several months.

And we are grateful to the bond and equity investors who continue to support us with their capital as we continue to grow as a Company.

We did not assume any in-place mortgages during the quarter so our outstanding mortgage debt has decreased to approximately $780 million.

As for debt maturities, we have $11 million of mortgages coming due in Q4 this year, $64 million of mortgages due in 2014 and $125 million of mortgages in 2015, and our next bond maturity is only $150 million, due in November of 2015.

Our overall current total debt to total market cap is 30% and our preferred stock outstanding is only 4.5% of our capital structure.

And our debt to EBITDA today is currently only 5.8 times.

So, in summary, revenue growth this quarter was significant, and our expenses remained moderate so our earnings growth was very positive, and our overall balance sheet remains very healthy and safe, and we do continue to enjoy excellent access to the public capital market to fund our continued growth.

Now let me turn the call back over to John who will give you more background on these results.

Thanks, Paul.

I will begin with an overview of the portfolio which continues to generate consistent cash flow.

Our tenants are doing well and based on what we're seeing now we do not anticipate any issues in the foreseeable future.

We ended the third quarter with 98.1% occupancy based on the number of properties, with 73 properties available for lease out of 8,000 -- out of 3,866 properties.

Our occupancy is up from 97% one year ago.

Occupancy based on square footage is 98.9% and economic occupancy is 99%.

Our occupancy remains stable and strong and we expect our occupancy at the end of the year to be in these areas so we are comfortable where they are.

Same-store rents increased 1.3% during the quarter and year to date versus the same period last year.

We are pleased with this level of growth and think it will continue over the next few quarters and perhaps be even a touch higher.

At the end of the third quarter, our 15 largest tenants accounted for 44.4% of our revenue.

That is down 2.4% from the same period one year ago.

However, it is up about 1% from last quarter and, as you know, this number will ebb and flow from quarter to quarter, but generally speaking our acquisition efforts will continue to diversify our rental revenues.

We've continued to make progress on this over time.

You look back to 2008 and the top 15 accounted for 54.3% of revenue and, again, today it is 44.4%.

We continue to diversify our overall portfolio, again, with 3,866 properties leased to 200 commercial enterprises in 47 different industries across 49 states plus Puerto Rico.

We remain well-diversified by industry.

No industry accounts for more than 11.2% of our revenue.

Convenience stores are our largest industry at 11.2%, and that is down 5.1% from a year ago.

Drugstores are now at 9.3%, up 5.8% from a year ago.

Restaurants, if you combine both the casual dining segment and the quick service segment, are now at 9.2% of our revenues, down 4% from a year ago.

As you may recall, in early 2008, restaurants were approximately 24% of our revenue.

Dollar stores are now at 6.3%, up 3.3% from a year ago.

Health and fitness is at 6.1% of revenues, virtually unchanged from a year ago.

Theatres are at 5.9%, down 3.6% from a year ago.

And, finally, transportation services are 5.3%, up 2.8% from a year ago.

All other industry categories are below 4.5% of revenue.

So we are in good shape keeping our revenues diversified by industry.

Looking at individual tenants, our largest tenant remains FedEx at 5.1% of revenue.

Walgreens and Family Dollar are our second and third largest tenants at 5% and 4.9% of revenue, respectively.

Walgreens is up by about 1% from last quarter and Family Dollar is up by about 1.5% from last quarter.

LA Fitness is now at 4.2%, which is down 30 basis points from last quarter.

All other tenants are at or below 3.1% of overall revenues.

When you go down to our 15th largest tenant, which is Walmart and Sam's Club, it represents only 1.6% of revenue.

You move another five spots and go to our 20th largest tenant, it represents just 1.3% of revenue.

So we are still very well-diversified by tenant.

The credit quality of the portfolio continues to improve with about 40% of our revenue generated from investment grade tenants.

This is off about 1.5% from the last quarter and 19% from quarter-end 2012.

In terms of our top 15 tenants, about 26% of that rent is generated from eight investment grade tenants.

As recently as 2010, there was only one investment-grade tenant in our top 15, and that tenant generated just over 5% of revenue.

So we remain comfortable having a significant portion of our rental revenues coming from high credit tenants.

In terms of lease length, the average remaining lease term is just under 11 years at 10.9 years.

Relative to property dispositions, we continue selling select properties to further strengthen the portfolio.

During the quarter, we sold 19 properties for $22.4 million, which brings us to 53 properties sold for the year for $106.1 million.

The sales this quarter were primarily in the restaurant, child daycare and convenience store industries.

For the year, we are looking at approximately $125 million in property dispositions.

Moving on to property acquisitions, during our third quarter we completed approximately $503 million in property level investments at a yield of 7.1%.

This gets us to $1.37 billion for the first nine months of the year excluding the $3.2 billion acquisition of ARCT that closed in January of this year.

So we are raising our acquisitions guidance for 2013 to approximately $1.5 billion from the previously at least $1.25 billion.

We are quite pleased with the continued momentum we are seeing on the acquisitions front.

And now I would like to hand it over to Sumit Roy, our recently appointed Chief Investment Officer who has headed acquisitions for about a year now, to discuss acquisitions.

Sumit?

Thank you, John.

We remained active on the acquisition front.

During the third quarter, we made $502.7 million in property level investments in 219 properties at an average initial cash yield of 7.1%, with a weighted average lease term of 14.7 years.

72% of the revenue generated by these acquisitions is from investment grade tenants.

These assets are leased to 20 different tenants in 15 different industries.

Four of the tenants are new to our portfolio and most significant industries represented were discount store, drugstores and health and fitness.

The properties are located in 33 states.

81% of the investments are comprised of our traditional retail properties.

We were successful in accelerating the closing on a number of transactions in the third quarter and were pleased with the activity this quarter.

Through third-quarter 2013, as John mentioned, we have invested $1.37 billion in 407 properties at an average initial cap rate of 7% and lease term of 14.1 years.

65% of total rents are generated by investment grade tenants.

These assets are leased to 35 different tenants in 21 different industries.

The properties are located in 40 states.

84% of the investments are comprised of our traditional retail properties.

Including ARCT, year-to-date we have invested approximately $4.5 billion in total investments.

Regarding our outlook, given our current pipeline for the remaining quarter and as John has mentioned, we now think 2013 acquisitions will pencil in at approximately $1.5 billion for the year versus our last guidance of at least $1.25 billion.

The $1.5 billion in forecasted acquisitions is in addition to the $3.2 billion in acquisitions of ARCT during the first quarter.

On transaction flow, we continue the theme of seeing a record amount of transaction flow this year.

We sourced $37 billion in acquisition opportunities through the third quarter, $17 billion of which were sourced in the third quarter alone.

To put it in perspective, the $17 billion sourced in the third quarter is equal to the volume sourced in all of 2012, which was a record year of sourcing for us.

The volume of opportunities were primarily driven by large portfolios and entity level transactions as compared to one-off transactions.

We have remained very selective in our acquisitions and are pursuing only those that match what we are trying to do strategically with the portfolio.

We continue to analyze a number of fee-sourced opportunities but have ceased to pursue a majority of these transactions that came in the third quarter.

In a large portfolio, unless the vast majority of the properties fit our investment strategy, we will elect to pass.

Overall, we are pleased with the acquisitions volume and a lot of it has been smaller, organic relationship-driven property transactions that offer superior risk-adjusted returns and fit where we are trying to go with the portfolio.

As to pricing, cap rates have stabilized at the levels where they were at the end of the second quarter.

Still a lot of capital pursuing transactions.

Investment-grade property cap rates range from 6.25% to 7.25%.

Noninvestment grade properties are trading from 7.25% to 8.25% cap rate.

Looking at spreads, third-quarter investment spreads remained healthy.

We invested $502.7 million at a 7.1% cap rate.

As we have frequently discussed, we look at our investment spreads relative to a nominal cost of equity and that has averaged 111 bps over the last 20 years with most of that leased to noninvestment grade tenants.

With over 72% of acquisitions investment grade, our cap rate of 7.1% represents a spread of approximately 110 bps to our current nominal cost of equity.

We like the ability to continue to upgrade the tenant credit quality and yet remain close to our historical average spread.

So in conclusion, we continue to see an exceptional level of volume in the sector and have been pleased with our $1.37 billion in acquisitions to date.

Including ARCT, we have closed $4.5 billion in acquisitions.

John?

Thanks Sumit.

Obviously we are pleased with the acquisitions we closed this quarter and our level of activity and we expect acquisitions to remain active for us for the foreseeable future.

Acquisitions also continues to be the primary driver of our revenue earnings and dividend growth.

We are pleased with our earnings in the third quarter.

Our growth in normalized FFO per share is 13.5% versus the third quarter of 2012 and our growth in AFFO per share is 15.4% versus the third quarter of 2012.

As Paul mentioned, our balance sheet and access to capital remain strong, so we have plenty of flexibility to pursue acquisitions.

Just last week, we completed our second-largest equity offering in the history of the Company by raising $378 million in net proceeds.

We used the proceeds to repay borrowings under our credit facility to permanently and accretably finance third-quarter acquisitions activity.

Additionally, you may have seen two days ago we announced the expansion of our credit facility from $1 billion to $1.5 billion by exercising the in place $500 million accordion feature that Paul spoke to a few minutes ago.

Given the level of acquisitions activity we had been experiencing, we like the additional flexibility the $1.5 billion capacity gives us.

We currently have $1.4 billion in available credit capacity on our facility.

Relative to the earnings guidance for this year, we have tightened our range for FFO, and raised and tightened our range for AFFO.

We now expect normalized FFO per share to be $2.38 to $2.42 for the year which represents 18% to 20% FFO per share growth.

We also adjusted our AFFO per share to $2.38 to $2.42, which represents 16% to 17% AFFO per share growth.

AFFO continues to be a primary focus of ours as it best represents the recurring cash flow from which we pay dividends.

We have also established earnings guidance for 2014 with normalized FFO estimated to be $2.53 to $2.58 per share which represents 5% to 8% FFO per share growth over the 2013 estimated range.

AFFO is estimated to be $2.53 to $2.58 per share as well which represents, again, 5% to 8% AFFO per share growth.

Regarding dividends, we remain optimistic that our activities will continue to support our ability to increase the dividend.

Last month, we announced the 73rd dividend increase since the Company went public in 1994.

This brings the annualized dividend amount to just over $2.18 per share.

Our dividends paid year to date have increased just under 22% over the same period last year.

Our payout ratio is currently at about 89% of our AFFO, which is a level we are comfortable with.

And, finally, I would be remiss if I did not note that this is our Company's first earnings call since our former CEO Tom Lewis announced his retirement.

I want to take a moment to thank Tom for leading the Company as CEO for over 16 years and helping produce outstanding results for our shareholders.

So, Tom, if you are listening out there, thanks.

With that, I would like to open it up for questions.

Craig?

(Operator Instructions).

Daniel Donlan, Ladenburg Thalmann.

Good afternoon.

A couple questions here.

On the office that you acquired in the quarter, could you maybe tell us if that was above that 7.1% cash cap rate range or was it above it or where do those come in if possible?

Yes, so on the office activity for the quarter which represented about 18% of the quarterly volume, we are not at liberty to discuss the exact economics there.

It was a situation where we invested in the office facilities of one of our largest retail clients with an investment-grade rating.

They brought the opportunity to us and it was an attractive opportunity on an economic basis with the added benefit of enhancing our overall relationship with that tenant.

We are not at liberty to discuss the economics related to the transaction, though.

Sure, understood.

And then just as far as the third-quarter activity was concerned, how much was sourced direct -- directly from tenants or retailers versus marketed transactions?

Yes, I would say around 30% to 40% was directly sourced from relationships with tenants and other retailers, and the rest was sourced either from private developers or private owners or through marketed transactions through the advisory and brokerage community.

Okay, appreciate the color there.

And then just two questions for Paul.

Paul, it looks like your stock comp as a percentage of G&A is moving towards this 30% number.

I think previously it would be kind of in the low to mid 20% range.

Should we expect that level of stock comp as a percentage of overall G&A going forward?

No.

I think this year you are seeing two events.

One was the July acceleration relative to the 10-year-old, 10-year vesting converting to the five-year which is how our stock vests now for all outstanding old 10-year grants.

And then the other is the process of our transition at the executive suite level and as it relates to what I would describe as a slight anomaly in the level of stock issuance this year versus a run rate going forward.

I guess given that your AFFO is equal to your FFO, are you going to see then -- since you are probably going to have less stock comp next year are you going to see maybe a drop-off then in CapEx versus what you recognized this year?

That's part of it.

The other thing you are seeing in the AFFO calculation is a little bit more amortization related to above market leases in our FAS 141 work, if you will.

So there's offsetting factors there that historically we didn't have in the portfolio, whether it be assumed mortgages or assumed existing leases and the accounting related to them that created -- creates differentials between FFO and AFFO.

In the past all we had was adding back amortization, financing costs and stock comp offset by straight-line rent and CapEx.

As for CapEx, specifically to answer your question, we see a similar run rate for next year.

Call it a $8 million projected number as it relates to 2013 as a whole and 2014 as a whole.

Okay.

Thank you very much.

Juan Sanabria, Bank of America.

Good afternoon.

I was just wondering for 2014 what you are penciling in for acquisitions.

I don't think you touched on that in the prepared remarks and as well as on same-store NOI growth or rent growth.

Sure.

We are expecting approximately $1 billion in acquisitions at roughly the yields we are seeing today in the market.

So that is what we've budgeted for 2014.

And with regard to same-store rents, we think they will continue around 1.3% or be perhaps a bit higher.

So those are the numbers we are using in our estimates for 2014.

Okay, great.

In those indy acquisition pipelines you look at are you looking at all or interested in going forward and looking at potential public transactions -- in terms of publicly traded companies?

We look at really everything that comes across our desk.

And I'd say this.

As the largest player in the sector and one of the more active players in the sector with a long successful history, we believe we see most major opportunities, whether it be at the property level, property portfolio level or entity level.

So we will consider all of that, but it will need to meet our investment strategy.

So we've been, as Sumit mentioned, quite selective this year, relative to the transactions we sourced and a lot of that is just remaining true to what we want to accomplish with the portfolio.

So we have passed on a number of opportunities obviously, based on the source transactions and what we have done year to date.

Just one other quick question.

With regards to the payout ratio, it seems like CapEx is going be fairly stable, but as we think of the portfolio longer term with a greater percentage of office and industrial versus your historical retail focus, how should we think of CapEx as leases mature and thinking about your payout ratio needing to retain presumably some CapEx to release the space?

Yes, that's a good question and we are comfortable with it at 89%, as I said.

But we would expect it to move into probably the mid-80s over time and that is primarily to accommodate a little bit more on the CapEx side associated with the nonretail properties.

Thank you very much.

Emmanuel Korchman, Citi.

Maybe with the CEO transition, could you discuss any potential changes in strategy or should we just expect status quo going forward?

Yes, I don't see any major changes in strategy.

We are going to remain careful and selective in our underwriting approach.

We will maintain our conservative balance sheet philosophy.

Our focus will be on the income generation from which we pay dividends that we intend to increase over time.

The core team remains in place as you well know, and Tom will continue as Vice Chairman of the Board and he is also serving as an executive advisor.

So we see a fair amount of him.

One thing I am looking at are our internal systems and staffing and making sure we are adequately structured for the anticipated growth we will have in the future on those fronts.

So we could see a few changes on that front or some additions, I should say.

But overall the successful philosophy we have implemented here over the last cycle will continue.

And then maybe we can go back to a point that you had made on G&A earlier and that's you are building up staffing to deal with a larger portfolio.

I think you could take that and contrast it to what you guys did when you bought ARCT where you didn't bring any staff on board.

Can you help me connect the dots and why didn't you bring any ARCT people on board if you were going to effectively hire?

And how do we think about scalability going forward?

I think the [triple net] model has always worked as one where you need limited heads to make the model work.

How do we think about that?

Yes.

Well, our staffing has grown less than our overall portfolio has grown.

So the business remains scalable.

A lot of the staffing we have added and we are considering adding is related to what we anticipate will be additional growth in the future.

We were able to take on the ARCT acquisition without bringing in any of their people and do it primarily in-house.

Historically, our G&A has run probably between 7.5% to 8% of revenues.

It is going to be just over 7%, I think, for this year, we would expect that number to decline closer to 6% of revenues next year.

So you can see the impact of the scalability.

Thanks, guys.

Jonathan Pong, Robert W Baird.

Good afternoon.

Like to dig in a little bit on the office asset topic and maybe just what you guys think about your exposure going forward.

You are at about 6% today.

Are you thinking about doing just more of these strategic types of deals or could you see that percentage booking higher because you see attractive risk/reward on a valuation basis for those assets?

Yes, well, with regard to office.

Typically, when we acquire office it is part of a broader portfolio of properties that we like that happens to have an office component.

There are a couple of exceptions to that.

One is, if we find a facility that is associated with the retail operations of one of our major tenants and they ask us to take a look at that, we will pursue that on a one-off basis.

But our real emphasis continues to be on retail as demonstrated by the completed acquisitions to date, as well as industrial and distribution, leased investment grade tenants with tenants that have generally Fortune 1000 characteristics and good revenue basis, and are in industries that we are comfortable with and locations that are strategic to their business.

So on the office front we will -- that was a heavy quarter for us on the office side, and I really wouldn't expect that sort of percentages going forward.

So with regard to office those are our views, Jonathan.

Great, thanks.

And maybe on the implied guidance for fourth-quarter acquisition activity.

It does seem a little conservative at about $130 million.

Are you seeing a slowdown in attractive opportunities for the one-off deals and I hear what you are saying on the M&A side, but are you seeing people pulling back a bit on sourcing for the one-off ones?

Yes, well as you know our acquisitions have always been lumpy.

That is the word we used to describe them.

In the first quarter of this year they were $128 million at the property level, $738 million in the second quarter, which was a record quarter, and then another heavy quarter, $502 million.

So, 75% of these acquisitions really come in, in the form of portfolios, and if you miss a portfolio or two or win a portfolio or two, it can really swing your numbers.

And then if they slip a date or move up a couple of weeks into a new quarter they can really make the quarters quite lumpy.

So it has never been a smooth acquisition process for us.

We have pretty good visibility with just a couple of months remaining in the year.

So we feel comfortable with the approximately $1.5 billion in guidance we have given you.

Great.

Thanks for the color.

Wes Golladay, RBC Capital Markets.

Good afternoon and congratulations, John.

Wondered if you could touch upon the disposition side of the equation.

I think you guys had done an extensive analysis in the past of all of the properties you wanted to sell.

Just wanted to get some color on where you guys are at in the process of that and how big is the bucket?

Yes, with regard to dispositions, we are going to end up the year having sold about $125 million which is a pretty good number for us in terms of size.

Last year, that was closer to $50 million.

Next year we are anticipating in excess of $75 million -- $75 million to $100 million.

And most of what we are selling is coming out of what is our bottom bucket, which is a watchlist.

And as we have grown the Company through acquisitions and made dispositions, we brought the watchlist down or the black, as we call it, group of companies from 23% in July of 2011 to 9% today.

Now that doesn't mean we want to sell everything that is in that 9% category.

That just means those are properties that we are watching.

Maybe we have industry concerns or credit concerns or specific real estate concerns.

So generally the dispositions will come out of that pool.

So we will remain active on that front, but as you know our ability to transact in very large quantities there is offset by what we acquire in order to minimize the dilution from the activities.

We normally budget on the property dispositions, 8% sales cap rate.

I will say that that is a bit conservative.

This year we have run around the mid-7%'s in terms of sales cap rate so we are pleased with that.

But we will continue to budget for conservativism right around an 8% for the disposition cap rates.

Thanks for the color.

Ross Nussbaum, UBS.

Good afternoon.

I missed last quarter's call so I would be remiss if I just didn't give a big shout out to Tom and I had the pleasure of working with him for most of his 16 years with the Company and I always said I thought he was one of the most underappreciated CEOs in the business.

That means, John, you have got some big shoes to fill.

Can we talk a little bit --?

I might have missed this.

Did you give the underlying assumption behind that 5% to 8% FFO growth next year?

What is the acquisition volume that is behind that?

Yes, it is approximately $1 billion at cap rates consistent or in the area where we are seeing them today so the low 7s.

Got it.

And can we talk a little more about your portfolio strategy?

Because if I think about the last couple of decades of Realty Income and I think about the ARCT transaction that took place, that was the first -- in my mind -- the first big departure in terms of buying a large group of assets at a premium to what was then the NAV.

So as you look at acquisitions going forward, can you talk a little bit about how do you balance what the underlying market real estate value is versus how accretive that portfolio might be to your bottom line?

Because as I'm sure you know, the math works out that you could pay all day long 10% and 20% premiums to what an asset or a portfolio is worth and still make it accretive.

Right, right.

Well, we are out there and I think we are as active as anyone in the sector in terms of investing and purchasing property.

So it is important to us to do transactions that are accretive.

But it is also very important for us to be protected, relative to replacement costs and relative to market rents.

So we look at all of that.

In terms of asset values, we see transactions that we like where we don't win those due to pricing.

So we try to be quite cognizant of that.

ARCT was a transaction that accomplished a lot for us on the strategic side and as you know we financed it two thirds equity, one third debt and locked in the spreads there.

It was at a cap rate that was below what we were achieving at the time on our organic property level acquisitions.

It was in the high 5s.

But we looked at that transaction differently than we do some of our property level organic acquisitions.

Yes, and that is sort of where I am going because, as you might expect, we have received quite a few phone calls over the last week or two from folks wondering if you would be interested in going in and topping ARCT's deal with Cole basically on the same premise as hey, you have paid the premiums to NAV before, you can still make the deal accretive.

So can we maybe just nip that one in the bud to start with?

Do you have any intent of -- is Cole on the table for you or not?

We don't comment on pending merger and acquisition activity.

I will say this with regard to the activity that has occurred in the sector, I think it is positive.

We have seen a lot of private to public consolidation, public to public consolidation in the sector which I think attracts more interest into the sector.

And being the largest company with the longest operating track record, I think that interest in the sector with new investors and a new awareness can only help us.

But I can't speak specifically on any pending acquisition opportunities.

Let me see if I can tackle it this way strategically.

So clearly the ARCT deal was a bit of a game changer for you strategically.

Are you -- is the portfolio at where you would like it to be from that perspective or do you feel like you need another quote/unquote game changing transaction to ultimately meet your strategic goals?

Yes.

Well, ARCT was a very, very strong strategic fit for us.

And when we pursue entity level acquisition we look for a number of checks.

The transaction needs to be immediately accretive as ARCT was on a leverage-neutral basis.

It needs to generally improve our overall diversification and our portfolio credit quality.

Ideally it would improve occupancy and lengthen our average remaining lease terms and reduce concentrations in our portfolio.

We see few of those opportunities.

But ARCT was one of those.

Thanks, John, appreciate it.

Todd Lukasik, Morningstar.

Good afternoon.

To follow along the same line of questioning there with regards to the large entity deals.

The ones that you have seen come across the desk recently, have they been relatively quick no's or have they been interesting enough where you spend a lot of time looking at them and the final details just didn't work out?

Yes.

We thoroughly analyze everything that comes through the door with our acquisitions team and the broader team here and make decisions either prior to investment committee or within the investment committee in terms of what we do on all acquisitions.

So seldom do we dismiss things quickly, but it does happen.

And on the acquisitions guidance for 2014, of the roughly $1 billion would you expect more of that to be in the investment grade area or the noninvestment grade area?

And what is the spread that you are seeing between those initial yields today?

Yes, I would think it would be consistent with the percentages we have seen this year.

Maybe a little bit lower.

In terms of spreads Sumit touched on those.

The cap rates seem to have stabilized and adjusted to the change in capital costs that occurred really in May.

So cap rates seem to be holding steady at where they are today.

In terms of spreads our spreads are actually better relative to our weighted average cost of capital on our acquisitions this quarter than where they have been historically.

We are running at about 165 basis points spread relative to our weighted average cost of capital currently and over the life of the Company that has been about 145 basis points.

So our spreads to debt have gotten better while our, as Sumit mentioned, our spreads to our nominal cost of equity have come down a little bit to the average levels during the life of the Company.

So I think those spreads, I don't know where capital will be priced next year, but we are anticipating the spreads to hold for now.

And maybe a couple of questions for you too, Paul.

If you could just first comment on what was in the other revenue line this quarter and accounting for that increase.

And then, secondly, just I don't know if there are any major takeaways from the increase with the revolver, but I am wondering if one of them is that you guys keep a balance on there accumulating a little longer and go to market with larger capital transactions like we have seen recently?

Yes.

The other income line is one that I typically don't comment on because it is not a line that we want people to underwrite from a run rate perspective.

It typically includes ongoing property level type issues like easement or eminent domain taking where you receive a payment.

Those are usually very positive cash flow transactions by the way, but they flow into that line, as well as interest income we might have cash on hand, rent come in early if you raise money that sits for a week before you invest it, things of that nature.

It kind of flows into that line.

So it is not one that we try to project out to have people underwrite in their projections or earnings for us.

But there is always going to be something there and that is what fell into that line as is the norm.

In terms of the credit line, we are real pleased with our existing bank group of 15 lenders all saying, yes, and participating in the increase there and the exercise of our accordion.

And what it does do is give us more flexibility as John referenced; on the acquisition front it gives us more flexibility.

The ability for Sumit to proceed with LOIs that have no financing contingency in them because we have a large line to draw upon so that it makes your offer naturally stronger when you have the ability to do that.

And then, yes, on the permanent capital financing front gives us more flexibility and patience to wait for the appropriate market windows whether that be for equity or bonds or preferred but to be able to carry a little bit of balance and wait for a good market window in order to raise the permanent capital.

So kind of gives us flexibility on the front end with acquisitions but also in the Capital Markets front as well.

Great.

Thanks a lot.

Todd Stender, Wells Fargo.

Is your visibility -- would you say is your visibility better on deal flow as we sit here today?

I mean if you look back this time last year your original guidance for 2013 was $550 million and now you are saying you could do $1 billion next year.

Is that just a reflection that you are a bigger company at this point or is there anything to look at just the pace of deal flow?

We are seeing activity based on our sourcing numbers that are very high.

So we continue to work some of that.

So we do have some visibility over the next few quarters.

It remains very difficult to predict and project, but we felt it would be more appropriate to come out with a number of approximately $1 billion next year and part of that is guided based upon our view of what is happening today.

It may spill over into the early part of next year.

And you also indicated it was the office property acquisition that you highlighted or a previous caller highlighted, leaseback to your second-largest retail tenant.

That did not close yet, did I get that right?

No, it is closed.

It's closed.

You can't disclose any color on that?

No, we can't.

Subject to a confidentiality agreement we signed with the tenant.

Will that unlock at some point to get more information?

Or is that -- what kind of window is that?

It is as long as we own the building.

Okay.

And just switching gears, Paul, your operating expenses, I think you indicated that you can look at maybe a $20 million number for next year.

What is in that number?

What kind of property operating expenses would Realty Income be responsible for?

We, historically, as you know, the property expense line was going to be related to taxes, maintenance, insurance, utilities on vacant property.

So it was a catchall line for the 50 to 100 properties at any given point of time we were carrying until we released them or sold them where we were responsible for those expenses.

And that was a different number.

That was a number that was more in the $12 million to $13 million, $14 million type range I would call it.

And that is still in that number and part of that.

The reason it has increased a bit from a run rate, obviously, it is still a pretty manageable number is that we have had a portion of our portfolio grow into more of a double net structure.

Some assets that we bought do have leases that give us some responsibilities as landlords that's primarily [root constructure].

Those costs are not on an order of magnitude that are concerning.

They are ones that we budget for and they could range from $0.05 a square foot to $0.30 a square foot if you will, in terms of what we are budgeting for those.

And that what has increased that run rate.

It started to hit $15 million area beginning of the year and now we are looking at more of a $20 million run rate into next year as we look at our existing portfolio.

Thanks for that.

Would you purchase new acquisitions in the double net lease or that is just going to be legacy assets?

Well, I think we would be open-minded.

Yes, we would be open-minded.

I mean it depends on what the property is and the overall return in economics.

But in the industrial sector they often refer to triple net lease in a manner a bit different than we do in the retail sector and it is triple net in that the tenant is responsible for maintenance, insurance and taxes, but there may be some structural components that the landlord is responsible for, and that is the primary difference and that is what Paul was alluding to.

So having those responsibilities would not preclude us from pursuing the right assets there.

Thanks.

And this concludes the question-and-answer portion of Realty Income's conference call.

I will now turn the call over to John Case for concluding remarks.

Okay, thanks, Craig, and thanks, everyone, for joining us today.

We appreciate your time and we look forward to seeing many of you at NAREIT and speaking to you again at the beginning of the year for the fourth-quarter call.

Everybody have a great Halloween.

Take care.

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