Retail Opportunity Investments Corp (ROIC) 2018 Q3 法說會逐字稿

Good day, and welcome to Retail Opportunity Investments 2018 Third Quarter Conference Call. (Operator Instructions) Following the company's prepared comments, the call will be opened up for questions.

Please note that certain matters discussed in this call today constitute forward-looking statements within the meaning of federal securities laws. Although, the company believes that the expectations reflected in such forward-looking statements are based upon reasonable assumptions, the company can give no assurance that these expectations will be achieved.

Such forward-looking statements involve known and unknown risks, uncertainties and other factors, which may cause actual results to differ materially from future results expressed or implied by such forward-looking statements and expectations. Information regarding such risks and factors is described in the company's filings with the Securities and Exchange Commission, including its most recent annual report on Form 10-K. Participants are encouraged to refer to the company's filings with the SEC regarding such risks and factors as well as more information regarding the company's financial and operational results.

The company's filings can be found on its website.

Now I would like to introduce Stuart Tanz, the company's Chief Executive Officer.

Good morning, everyone. Here with me today is Michael Haines, our Chief Financial Officer; and Rich Schoebel, our Chief Operating Officer.

We are pleased to report that the company posted another active quarter. Capitalizing on the demand for space, we achieved a new record high portfolio lease rate ending the quarter at a very strong 97.8%.

We executed over a 100 leases during the quarter with a good mix of new and renewed activity, while also achieving solid rent growth. As it is shaping up thus far, we are on track to lease a record amount of space for the year.

In addition to our success on the leasing front, we also strengthened our balance sheet during the third quarter, raising equity and paying down debt.

In terms of acquisitions, market conditions have begun to show signs of becoming favorable again, however, the recent jump in interest rates has brought back the uncertainty that we saw in the marketplace during the first half of the year. Therefore, we continue to be cautious and patient.

Turning to the redevelopment opportunities that we introduced on our call last quarter, we are continuing to analyze the feasibility of adding a mixed used component, namely multifamily, to a select group of our shopping centers. Our strategy is aimed at furthering the long-term competitive position of our shopping centers and enhancing the underlying intrinsic value of our portfolio.

Thus far, we have identified 20 properties that we think are potentially feasible for adding a multifamily component. Of those 20, we are currently underway with the entitlement process on 3 opportunities, specifically, at 2 of our shopping centers in the San Francisco Bay Area and 1 up in Seattle.

Based on our preliminary analysis, altogether, these 3 opportunities represent about a $200 million investment with a projected, unlevered yield in the mid-7% range.

One of the 2 San Francisco opportunities involves redeveloping a Kmart site that is adjacent to our shopping center in Pinole. Kmart had a long-term ground lease on this site, which we acquired during the third quarter, fortunately, just ahead of the Sears' bankruptcy filing, where we could have lost control of the site. Very important, this is the only Kmart exposure that we had in our entire portfolio.

As we move forward with these 3 opportunities, our goal is to carefully mitigate the development risk. To that end, we intend to partner with a seasoned multifamily developer that has considerable experience and expertise in building multifamily properties, specifically, in these markets, where we can best capitalize on our combined market knowledge and relationships with the local municipalities.

We are currently in discussions with several key players exploring a variety of partnership arrangements, ranging from us simply contributing the land as our equity contribution for taking a larger, more equal position. Assuming, we do take a more meaningful stake, we would look to potentially fund our capital investment in part for certain noncore asset sales.

Speaking of dispositions, during the third quarter, we sold one property for $28 million. It was the loan property that we owned in Nevada on the California border, east of Sacramento. Beyond this property, we also have a few other potential asset sales that we are contemplating, including additional properties in Sacramento. Our long-term goal is to exit the Sacramento market in an orderly fashion as we complete certain leasing objectives and then redeploy the capital in other core markets as well as redevelopment opportunities as they take shape.

Now I'll turn the call over to Michael Haines to take you through our financial results for the third quarter. Mike?

Thanks, Stuart. For the 3 months ended September 30, 2018, the company had $73.9 million in total revenues and $25.3 million in operating income.

GAAP net income attributable to common shareholders for the third quarter of 2018 was $14.2 million, equating to $0.12 per diluted share.

And in terms of funds from operations, for the third quarter, FFO totaled $35.1 million, equating to $0.28 per diluted share.

With respect to our financial results for the first 9 months of 2018, the company had approximately $221 million in total revenues and $76.4 million in operating income.

Net income for the first 9 months of 2018 totaled $32.2 million or $0.28 per diluted share. And in terms of FFO, the company had approximately $106 million in total FFO or $0.85 per diluted share for the first 9 months of 2018.

With respect to property level net operating income, on a same-center comparative basis, cash NOI increased by 2.5% for the third quarter of 2018, and by 2.6% for the first 9 months of the year. Included in the third quarter was a onetime expense, totaling roughly $200,000 in connection with an anchor lease that we recaptured. As Rich will discuss, we already have a new tenant lined up to take the space at a notable increase in rent. Excluding the expense, the increase in same-center NOI would have been closer to 3% for both the quarter and year-to-date.

As Stuart touched on, during the third quarter, we raised some equity through our ATM program. In total, we issued approximately 1.25 million common shares, raising $24.2 million in gross proceeds. Taking the equity proceeds together with the asset sale that Stuart spoke of, during the third quarter, we reduced our debt by $64 million. Including retiring a $9 million mortgage along with reducing our credit line balance.

As a result, at September 30, the company had approximately $1.5 billion of debt outstanding, the vast majority of which was unsecured. In fact, our secured debt is now down to less than $90 million, encumbering just 4 properties. In other words, over 95% of our portfolio, 87 out of our 91 shopping centers, is currently unencumbered. And with returning that one mortgage, we now have 0 debt maturing for the next 3 years, when our credit line comes up for renewal.

And with respect to our credit line, during the third quarter, we lowered our balance by $55 million, down to $137 million outstanding as of September 30. And in step of lowering our debt, our interest coverage increased to 3.3x for the third quarter.

Finally, in terms of the FASB accounting change requiring internal leasing cost to be expensed, rather than capitalized. When the accounting change takes effect next year, the impact to our financials will be modest, adding only about $1.2 million to $1.3 million annually to our G&A, equating to roughly $0.01 per share, which is less than 1% of our annual FFO.

Now I'll turn the call over to Rich Schoebel, our COO to discuss property operations. Rich?

Thanks, Mike. As Stuart noted, demand for space across our portfolio continues to be strong. National and regional grocers as well as other daily necessity and value-oriented retailers, continue to seek expansion and relocation opportunities on the West Coast.

Notwithstanding our anchor occupancy being at 100%, we continue to proactively seek out any underperforming space in order to capitalize on this anchor demand. As an example, as Mike mentioned, during the third quarter, we recaptured an anchor space, and replacing them with a strong value-oriented grocer that is expanding in the marketplace. Not only are we achieving a significant increase in rent, close to 3x what the previous tenant was paying, the previous tenant also had an old restriction on the property that's now been removed, enabling us to build an additional 5,000-square foot pad at the shopping Center.

In terms of smaller format tenants, the demand continues to be driven predominantly by service users, including wellness and fitness concepts; organic, health-oriented restaurants; and a variety of children-focused users, ranging from learning centers to daycare facilities. The common spread with all of these small format users is that they are all Internet resilient, and they are all looking for shopping centers conveniently located to their target consumers.

From our perspective, these are ideal tenants for us in several key aspects. Given their small format, we are able to fill those last bit of remaining hard-to-lease spaces, enabling us to bring certain properties to a full 100% leased, which in fact we accomplished at several of our properties during the third quarter.

Additionally, these types of users draw a consistent foot traffic to our centers, particularly, during weekdays and evenings, which serves to bolster sales and activity at our larger, daily, necessity anchor tenants.

To take you through our specific leasing results for the third quarter, starting with occupancy. As Stuart noted, we achieved a new record high for the company ending the third quarter at 97.8% leased.

Breaking the 97.8% down between anchor and nonanchor space, as I mentioned, our anchor space continues to be 100% leased, which is now the seventh consecutive quarter at 100%, and the 19th consecutive quarter at or above 99%.

In terms of our shop space, we continue to work hard at leasing the available space we have across our portfolio. In fact, during the third quarter, we increased our in-line space to a new high of 95.3% leased as of September 30.

During the third quarter, we executed a total of 106 leases, totaling 443,000 square feet, achieving a 10.2% increase in same-space cash rent on average.

With respect to new leases, during the third quarter, we executed 48 leases, totaling 139,000 square feet, achieving a 17.1% increase in same-space comparative cash base rent on average. That increase was largely driven by an anchor lease that we signed during the third quarter where we achieved nearly a 100% increase in base rent.

In terms of shop space, during the third quarter, the majority of in-line spaces that rolled were essentially close to market, so there was only a nominal increase. That's not indicative of a trend. It's simply a function of the specific leases that rolled and were re-leased during the quarter.

Much of the shop space that re-leased during the quarter were small spaces, many less than a 1,000 square feet where the re-leasing rents can vary widely depending upon the specific space and the prospective tenants. Looking ahead, we fully expect to continue achieving solid rent growth going forward.

In terms of renewal activity, during the third quarter, we executed 58 renewals, totaling 304,000 square feet, achieving an 8.6% increase in cash base rent on average.

And lastly, in terms of the economic spread between build and lease space, meaning newly signed tenants that have not yet taken occupancy and commenced paying rent, at the start of the third quarter the spread stood at $7.1 million in additional annual rent on a cash basis.

During the third quarter, tenants representing about $3.7 million of that incremental $7 million started paying rent of which $487,000 was received in the third quarter. Taking the remaining $3.4 million, together with our leasing activity during the third quarter, as of September 30, the spread was about $5.5 million.

Now I'll turn the call back over to Stuart.

Thanks, Rich. It's safe to say that this has been an unusual year for us. As it relates to acquisitions, we are accustomed to acquiring $300 million to $400 million each year. However, as I noted in my opening remarks, we continue to be cautious in this current environment.

That being said, we are, as we always have, proactively seeking out off-market opportunities and continue to explore a number of interesting transactions.

In terms of our FFO in same-center NOI this year, there have been 2 underlying factors that have impacted our performance. First, is the slow permitting process as it relates to both our ability to deliver newly leased space, which ties the GAAP rent commencement. And then once we do deliver the space, as it relates to the tenants getting final sign-off from the city to open their stores, which ties to our cash NOI. In our 25 years of operating in these markets, we've never experienced this type of delaying backlog with the various municipalities, which in turn has made it increasingly challenging in terms of our ability to forecast our results.

The second factor, which ties to the slow permitting process is the extended downtime between leases. As the year has progressed, the downtime is proving to be longer than what we originally projected, as it relates to our property-level budgeting for 2018.

Notwithstanding being on pace to lease a record amount of space this year and averaging 20% growth thus far in terms of new leasing spreads, unfortunately, the record leasing, together with the slow permitting process, does mean additional downtime, which in the short term impacts both GAAP and cash-based rents as well as CAM recoveries.

To be clear though, we are still achieving growth this year in terms of our total GAAP rent, total FFO and same-center cash NOI. In fact we had expected the grow to be a bit higher based on our original budgeting, which we would've achieved had it not been for the slower-than-anticipated permitting process and added downtime.

Taking these factors into account, together with the equity issuance in the third quarter along with asset sales, our FFO guidance range for the year is now $1.13 to $1.15. In terms of same-center NOI, we expect the year-over-year increase to be between 2.5% and 3%.

While this has been an unusual year, the fundamentals of our markets, our portfolio and our business, remains sound. As Rich highlighted, retailers continue to push forward with expansion plans on the West Coast. In fact, we just met a few weeks ago with many of our key tenants at the Los Angeles ICSC Conference. And I can tell you that they all remain very upbeat about growing their presence on the West Coast.

Additionally, our core Metro markets remain among the most highly protected, supply-constrained markets in the country. Our portfolio is well situated in these markets.

With that as a backdrop, we continue to be confident in the future, long-term prospects of our portfolio and our business overall. We look forward to completing 2018 and turning our sights to 2019 and beyond.

Now we'll open up the call for your questions. Operator?

(Operator Instructions) And our first question comes from the line of Collin Mings from Raymond James.

First question from me just -- Stuart, just as you kind of explore options for the redevelopment opportunities that you outlined, the 3 projects, can you maybe just talk a bit about how you're thinking about the trade-off between potentially having a larger stake in projects and sharing more on the upside versus complicating what has historically been a pretty straightforward story?

Collin, at the present time, we have no intention in getting into the multifamily business. We are very proud of the straightforwardness of the -- and transparency and simplicity of the company. So as we move forward, we still are a bit -- we haven't yet determined the final structure of these transactions but right now we're just looking at contributing the land. And really that's the role we are playing at this point in terms of moving this process forward. So I really can't get -- there are lots of options, but the key for us is to keeping that decision really on the basis of what we've done in the past, which is simplicity, straightforwardness and transparency.

Okay. So it sounds like maybe the -- in the prepared remarks, you're just making the point that there's a lot of optionality there, but in terms of a go-forward strategy, the focus is kind of what you've historically, done. Is that fair?

That is correct.

Okay. And then as far as the guidance reduction, I appreciate the details and some of moving pieces there. I mean, can you just talk a little bit more, just 2 parts, in terms of clarifying. So when we think about the $0.04 reduction at the midpoint, is that really all just lower NOI than had been previously forecast? And then really the second part of that, how are you working with some of the municipalities and other constituents as it relates to kind of getting this process to move quicker going forward?

Well, I'll let Rich answer the second part of the question, which is the municipalities. And then Mike, you can jump in and share it in more detail.

Collin, it's Mike -- as far as the components of the guidance lowering. There's a couple of different things -- obviously, you've picked out most of the stuff from the press release. We raised some equity in Q3, so that's going to impact Q4 and the year-to-date. We had the asset sale, so the NOI off of that asset's going to be nonexistent in Q4. And you look at anchor revenue coming from the one anchor that we did recapture in the third quarter, that's going to impact it as well. And then we're also taking into account the continued downtime due to the permitting delays in getting tenants open. So those 4 primary factors are what caused us to kind of reguide to a lower number.

And then in terms of trying to get ahead of the permitting process, we do several different things. One is we use expediters when available. We also require the tenants to hire an expediter for their permitting process. And then in certain municipalities, I think like we've touched on before, like the city of Seattle, where it takes 6 months just to get an intake appointment. We are just scheduling those appointments even when we don't have something to submit, so that we're in the queue. So we're trying to be as proactive as we can, looking for every opportunity to shorten that time frame.

All right. And then just one last one from me, just on the focus on deleveraging, Mike. Just in the past, you guys touched on being below 6x by year-end -- I'm sorry, below 7x by year-end. Is that still the goal? At this point of the year, how should we think about additional asset sales closing before year-end?

Asset sales probably, you will see more of that before year-end. And again, we've taken that into consideration on our guidance. But Mike, the first part of the question?

Well, as far as delevering out, obviously, we would like to do more acquisitions that's going to be subject to market conditions. We originally communicated $25 million to $50 million before the end of the year, we're halfway there. And we'll see as the market plays out. Pricewise, we'll see if we can execute some more before year-end.

And the next question comes from the line of Jeremy Metz from BMO Capital Markets.

Going back to the densification, kind of bigger picture here. You mentioned the 3 that are close to ready out of the 20 you've initially identified. Just wondering how much more we can expect over the next, call it, say 12 to 24 months? How realistically close are some of these other projects you're looking at versus the 20 being maybe a bigger 10-year type of plan. How should we think about that?

Well, it's going to vary for each project. But generally speaking, we currently expect that it will take around 12 months, give or take, to complete the entitlement process on the 3 that we're working on now. In terms of the balance of these -- of the 20 -- and just quickly one thing to mention on the 3 projects, most of these projects are excess land. So from an NOI perspective, the only impact in developing these 3 come from the Kmart that we bought, which is of course, taken into consideration with the downtime of the other anchor in our guidance in terms of the fourth quarter. But in terms of this -- of these projects, the only NOI from these projects that get impacted is the Kmart. Everything else has no impact going forward in terms of our NOI. And then in terms of the balance of these opportunities, it's too early to really comment on how fast these opportunities will come. And the simple reason why is because we're -- there is a number of tenants that we're currently talking to, because those tenants' leases will need to be terminated and renegotiated. And that's what makes, sort of, the balance of this a bit more complicated. So hopefully, we'll be able to give you some more detail on that in our next call.

Okay. Appreciate that. And then looking at acquisitions, if we go back last quarter, you were -- you mentioned seeing some increased activity. And now it sounds like sellers are hitting the pause button a little bit again. Stuart, can you just give a little more color on what you're seeing out there because it sounded like maybe you were close on a few things, at least on the last call?

Sure. I mean the West Coast -- the grocery, drug anchor assets continue the most -- to be the most sought after product or segment of retail, with the West Coast certainly being one of the most sought after markets in terms of capital. In terms of what we're seeing, certainly, widely marketed very high quality assets have continued to trade in the sub-5 cap range. Going forward though, what we are continuing to see when interest rates do pop up, is the uncertainty of sellers either coming to the market at better pricing or us continuing to work on OP transactions. And that will fluctuate depending on both interest rates, timing in terms of dealing with these sellers and the market itself. So it's hard to sit here today and tell you, what we're going to be acquiring. We haven't really taken our foot off the pedal, per se. We're just being very focused as it relates to underwriting risk. And more importantly, we want to continue to use our relationships to buy transactions that will be accretive to our capital.

And have there been any changes in your underwriting here in the past, call it, 12 months?

The only change...

Have you gotten more conservative? Sorry.

We haven't gotten more conservative in our underwriting but what we have been a lot more conservative at looking at is the -- to make sure that if we have more than 2 anchors in a possible acquisition, that we really don't want to be buying something with more than a drugstore and a grocery store. And if we do have to look at a third anchor, it's got to be one of the top, what I would call, value retailers out there, from a risk perspective, that we believe will continue to do well as we look into the future.

And our next question comes from the line of Brian Hawthorne from RBC Capital Markets.

My first question is on the lease-to-occupied spread. And just kind of how you guys expecting that to trend in 2019?

As you've seen in the past, it's going to really be dictated by the leasing activity we have. You know the anchor space is a 100% leased. But as I think we touched on in the script, we're always looking for opportunities to upgrade that tenancy. And in those circumstances it's going to take some NOI offline for a period of time in order to get that upside similar to what we talked about where we took out the anchor. And we're getting 3x the rent, but that's going to come with some associated downtime in the NOI. So it's really hard to predict. But I think that it would probably be consistent with the levels that it has been this year.

Yes, Brian, I guess the one point that I'd like to make on this is that when we make decisions at this company, we make decisions for shareholders for the long term. And we're still playing offense on the West Coast. So once in a while, like we saw during the third quarter, you're going to have a situation where an opportunity is going to pop up where we're going to be able to recapture something very quickly. But at the same time, like we did in the third quarter, we're going to find an opportunity to lift rents by close to 300% on this particular situation. Those decisions are being made very quickly for the long term, although it does impact the short term. So the one thing that hit the quarter that we knew would cause a bit of an issue would be the proactive, aggressive way we manage our real estate. But more importantly, we're managing the real estate to create value for shareholders long term. So that's what -- that's why when you've got a portfolio that's as well leased as we have, that -- those are really the things that we focus on today in terms of playing offense.

Okay. And then so on that recapture then, how much -- can you guys talk about when that happened? And how much NOI we should assume will come out in the fourth quarter?

So it occurred during the third quarter, where this prior tenant had been sitting with this location dark but paying. It was, obviously, having an impact on the rest of the shopping center. They had proposed to bring in some subpar, subtenants into the property, which would've not done well for the property. So we took the opportunity to take them out. We -- there's other consideration that we received as part of this transaction, at other locations with this particular tenant, which include an operating covenant. So there was a lot of incentive for us to do this deal. As we mentioned, the rent was very low, way below market. This lease was about 45 years old. And so the impact to the NOI will not be as large as other situations, just given the low rent that this tenant was paying.

Sure. And then any more of those -- that I guess you guys kind of see opportunities coming up?

Absolutely.

Yes.

We have a few leases, not as large as this particular one but more in the midbox range that are significantly below market that we are currently working on. Some where the tenant no longer has any options to remain. And some where we know that they will not likely want to stay. So yes, we expect more activity like this in the coming year.

And our next question comes from the line of Michael Gorman from BTIG.

Quick question. Just if I could go back to the recovery ratio. Stuart, you mentioned that some of the timing on the leasing was impacting that. Just as I look over the history, as that leasing and as that timing kind of resolves, should we expect the recovery ratio to move back up kind of towards where it was in 2016? Which is you kind of averaged over 90%. Or what's a normalized run rate here for a recovery ratio at the portfolio level?

Yes, this is Rich. Yes, you will definitely see that recovery ratio come up as these new leases come online. I think all of our new leasing is done on our lease form, which has much broader recovery language in it, allowing us to recover many more items, including management fees and administrative fees. So we expect that, that will continue to go up.

Okay, great. And I apologize if I missed it, did you guys mention like the pricing that you achieved on Round Hill? And what you're looking at some of the Sacramento assets as we move through the back half -- back quarter of the year?

Some 6 on Lake Tahoe and probably around a 6.5 to 7.5 on the balance of the properties in Sacramento.

Okay. Great. And then last one from me just kind of from a strategic level, Stuart. Obviously, if the capital markets kind of improve and in that way the acquisition pipeline gets more active again, I'm just curious because you guys have focused a lot in recent years on acquiring assets with upside potential, bringing them onto your platform, managing them with your team. If the acquisition environment doesn't kind of free up in the next few quarters, can -- what happens in the same-store environment, right? Can we get back to some of the same-store numbers we saw in '15, '16? Or is it more of a stabilized 3% to 4% without the acquisitions feeding into those kind of upside opportunities?

Well, with such a highly occupied portfolio, and even continuing to play-off and assuming that the markets stay as good as they've been, the run rate on a same-store NOI basis will probably continue to be in the 3% to 4% range.

And the next question comes from the line of R.J. Milligan from Baird.

Just one quick question for you, Mike, on the sort of AFFO deduct, TIs/LCs CapEx. Obviously, up year-over-year this year versus last year. And I'm curious where you think that might trend, without obviously giving guidance for 2019. Given the fact that you guys are 100% occupied in anchor space. So probably not a lot of charges there. But as you think about maybe replacing lower rent paying tenants in '19. I'm just curious what you anticipate sort of that growth rate being for those TIs/LCs CapEx as we get into the fourth quarter and into 2019.

I guess, the first I'd like to say is that we've been on this anchor repositioning initiative for a couple of years now. We're on the, kind of, the tail end of that. But the reimbursements back to the tenants for those TI dollars is a lagging thing. So that's the cash payments going up by quarter. So I would expect those to be trailing down. As far as the in-line shop space, that's going to be a function of what the tenant is? Whether it's a restaurant user? It depends on the use type that drives that TI dollar. So I don't know if Rich, you want to jump in on that as far as the -- what space we've left to lease? Or what our average TI is?

Yes, I mean I think as Mike touches on, one of the biggest categories we have right now are our restaurant-type tenants. And we continue to convert retail space to restaurant because that's where we're able to achieve the highest rents and the best return. The challenge there is predicting the velocity going forward. So I would expect that, that shop space would sort of be in line with what it has been last year going into '19.

And our next question comes from the line of Todd Thomas from KeyBanc.

Stuart, just circling back to the transaction market in your prepared remarks. You mentioned that you're seeing some impact from the rise in interest rates. Can you just discuss that? And is there any evidence that rising rates are having an impact on the market today?

Sure. I mean what we've seen is interest rates have gone up quite dramatically, quite quickly, is that a number of transactions that were under contract have fallen out. But those are transactions that are typically in secondary or tertiary markets or transactions on the segment of retailing that continues to be more tougher in nature. Power centers, malls, things like that. As it relates to grocery, drug anchored assets, those continue to be the most sought after product in the market, and we haven't really seen any deterioration yet in that segment of the market. So it really is -- it really goes to what I would call more of a second tier type of shopping center versus what we typically buy.

Okay. Do you expect to see cap rates widen a little bit from here?

Given the demand for our product in the most sought-after markets in the country, I think cap rates and valuations are going to stay pretty well in a tight range. I think they could go up and in some cases they could go down depending on how much product comes to the market. But all in all, I think that spread will remain pretty tight over the next several months. All of course, on the base of that interest rates either stay where they are, but if they continue to go up even further, you could see a change in the market.

Okay. And then Stuart, I was just wondering if you could comment about the dividend policy a bit. How you and the board are thinking about things here? You've raised every year since the IPO, just there's a swallowing external growth that you're seeing today, does that suggest that we might not see an increase this year?

Well, of course, that policy is driven by the board. But certainly I think as Michael articulated, we do believe our cash flow is going to improve as we move -- our free cash flow as we move through '19 at this point, which will give some emphasis in continuing to raise the dividend. But at this point, again, the policy is really driven by the board. So I think that's really all I can comment looking at '19 at this point.

And our next question comes from the line of Christy McElroy from Citi.

Just wondering with regard to the $200 million planned spend on the 3 projects, maybe a little bit more clarity there. In terms of what would be your share? And then does that include the land value? Or is the land value that you would contribute incremental? And similar question around the 7% yield. Does that yield include the value of the land you're contributing? Or is that just on incremental spend there?

The yield does include the land. And in terms of the contribution, it would -- the land is included in the numbers that we threw out. And of course, that value is going -- be different from property to property, but our goal there is to contribute the land so that we have a minimal amount of equity required in terms of moving these transactions forward.

Okay. Got you. And what's your estimate of the land value on that $200 million?

I would tell you probably in the $30 million range. But again, I can't give exact numbers. Hopefully, by our next call, Christy, we'll have something more -- definitely something more definite to give you in terms of that number, but that's just an guestimate at this point.

Okay. And then just as you think about your capital allocation priorities in terms of funding the pipeline with dispositions -- noncore dispositions versus your leverage in any sort of debt pay down, is deleveraging any more of a priority for you today? And then to Todd's question, how does that play into free cash flow coming back at some point?

Well, delevering is certainly important to us. There's no question about that. We will continue -- I think as Mike, again, mentioned, to work on the balance sheet from a delevering perspective. In terms of capital allocation, it's really going to be -- we'll look at capital allocation as it relates to the selling of these assets in terms of the redeploying that capital. And depending on our stock price, we may even, hopefully, at some point, if not this year, next year going in and do a bit more equity. Mike, I don't know if you want to add to that in terms of capital allocation.

I would just reiterate, obviously, my #1 focus is to try to delever the balance sheet to replace equity that we should have raised last year where we were held up by that OP unit transaction. So given market conditions, I would like to use the ATM to raise some more equity if it makes sense to do so.

What sort of levels -- it's Michael Bilerman speaking, so you raised in the low-$19 range during the third quarter, Street NAVs are circa $20, I think our estimate's a tad lower. You've, obviously, been talking about the redevelopment and ability to densify is adding incremental value. I guess what level are you comfortable issuing equity at?

Well, Mike, in terms of what we did during the third quarter, that number was about -- I think it was around $19.37. So I think around that number. Obviously, we'd liked to have raise the equity a lot higher but we just felt when that opportunity opened up, it was important for us to issue some equity. Going forward, we are cognizant of how precious that equity is. And more importantly, that we certainly want to be issuing that equity above our NAV. So any of these are different, obviously, with everyone. I mean -- but certainly, management's current thoughts on NAV is that, that equity was issued really at or a touch lower than our -- what we think our NAV is. So we will keep monitoring the situation. But more importantly, we are very cognizant in terms of how that equity -- how and when and how much that equity gets issued.

And then in terms of -- instead of using equity because you don't know where the equity market is going to be, right? I mean their stock is down a bunch today on what was very much weaker results than The Street was expecting, so you don't know when it could recover, right? And you have additional capital that you want to commit. I guess how do you think about using your assets? I recognize you like simplicity so you don't like joint ventures. But would that be an area that you would look towards on liquefying some of your higher-quality assets at low cap rates, rather than issuing your equity potentially below NAV to be able to delever as well as fund your incremental capital commitments?

Yes, I mean look from a capital commitment standpoint of -- in terms of redevelopment, the goal there is really to contribute the land and put in virtually no or very little equity. So in terms of looking at capital allocation as it relates to growing our portfolio, it's really a combination of selling and redeploying some of the equity in terms of selling assets. And then -- but at this point, we really have no interest in doing joint ventures. We're just going to continue to do what we do best, which is manage our real estate and create value for shareholders long term. And to take advantage of continuing to play offense on the West Coast. That's our goal right now in terms of '18 and '19.

And then just in terms of disclosure, and I'd like to get your -- the management teams' thoughts. Have you sort of maybe sat back and reevaluated what you're putting out in terms of guidance pieces each quarter, the components of guidance? Number one. Number two, given this lag between basically rent-paying economic occupancy and lease rate actually providing those statistics each quarter in your supplemental. So the market is not surprised when you put out results that may be different from what the expectations were. I guess if you rethought disclosure and communication to be more best of breed in the industry.

Look, Mike, we do our best. And I think the company and Michael Haines does a great job in terms of disclosure. Can we do better? Sure. But the bottom line is we look at best practices in terms of what we do and what we disclose. Maybe we can give you a call off-line, and we can talk about some of the more important details from your perspective. But the answer is yes, we will continue to look at best practices.

I would, respectively, disagree in terms of where your disclosure is relative to the peer set, right? The peer set has all of the components of their guidance every quarter. The peer set has got economic occupancy, not just leased rate, so that we can really understand that spread in the supplemental. So there's a lot of different areas, happy to share with you our best practices report to go through that. But I do think that there's certainly some room. Last question just in terms of the interest rate swap that's expiring at the beginning of next year. What are your plans? It's sitting there at a pretty low 2% rate, how should we and The Street think about the role of that? And where that goes in early '19?

Well, as far as the swap that burns off -- it's about $100 million burns off in January -- end of January. We've been talking internally about reswapping that either for a short period of time or through the end of the maturity of the term loan. Obviously, sensitive to where interest rates are moving around a bit, their swap rates have changed in -- kind of in relation to where the 10 year and that's been bouncing around a little bit lately. So not committing to anything, but we're looking at the current time of maybe swapping on a -- reswapping that $100 million on a shorter-term basis, to see where rates really go over the next 12 to 24 months.

Is that a dilutive event for that $100 million?

Well, the swap rate currently is going to be higher than where it's currently locked in. Yes, so there'll be some dilution from that higher interest expense, yes.

And our next question comes from the line of Jeff Donnelly from Wells Fargo.

Just a few follow-ups. I guess maybe one for Rich. I guess a two-parter. I'm curious what you think is going on with asking rents out there in the last few months for small-shop space? Have you really seen any kind of discernible trend or change? And then maybe secondarily, I'm curious, what's your gut sense of the market impact. The Sears' Kmart ultimately decides as a chain to close all their stores. I'm curious how significant of an overhang you think that could be on anchor asking rents in the markets you guys operate in?

Yes, I mean I'll talk about the Sears' closure and then let Rich certainly dive in, in terms of the first part of the question. But we don't see a lot of impact in terms of the Sears' Kmart issue. Very much so -- and when I say that, I'm really referring to the metro markets on the West Coast. A number of those stores -- if you look at what had -- has happened over the last several years, most of the strongest assets that Sears owned have already traded into the market and are currently being redeveloped at the present time in the Metro markets on the West Coast. So I really don't see much impact in our markets. Step out of the West Coast, it's a whole different story, Jeff. But most of the best assets were traded into the market several years ago. And those assets, or that shadow supply, is currently being redeveloped right now on the West Coast. So again, I don't really see much impact.

And then in terms on the shop rents, I mean I think as we touched on in the prepared remarks, just coming out of ICSC in LA, the tenants were all very positive, looking for locations. There's very limited good opportunities available on the West Coast. It is to the point where certain tenants were leaving meetings with our leasing people, and then pulling Stuart and I aside to tell us that it was very important that they were going to get an opportunity that hasn't even come available yet. And I'm speaking of a pad where we're taking back a pad and dividing it up into shop space. And people trying to use their relationships to make sure that they're at the top of the list to get that location. So we see -- still a lot of demand for that space, which will support good rents going forward.

And just one more, just concerning the comment about exiting Sacramento. If I'm right, or am I right, I should say, you just have 2 to 3 assets in that area, and would you guys also consider exiting Stockton? I think that market is also a little bit of an outpost for you guys too.

Yes, that's correct. 2 or 3 assets do include Stockton. So you're absolutely right, Jeff. The answer is yes. We're currently negotiating right now on a number of those assets.

And our next question comes from the line of Chris Lucas from Capital One.

Just one detailed question. It's related to the Kmart at the Pinole Vista. Is that store open? Is that still paying rent? And then sort of when do you expect the impact of a closure to occur?

Well, I mean the store is closing. We anticipated that. We expect the store -- I mean we don't know exactly when they're shutting down. But in terms of our agreement, they have to be gone by the end of the year.

Correct.

Okay. So rent will cease at that point?

Yes, correct. And we may have lost a bit of rent in between the bankruptcy, but just between the time the rent was due and then the company going bankrupt, which is standard for companies that are in that position. But we should hopefully be getting rent.

Yes. No, they actually -- the month they filed bankruptcy, they actually had paid the rent already, which was somewhat unusual for a tenant planning to file. And they are obligated to pay us through the end of the year. And that's really just the base rent, because we settled up completely for the taxes and the triple nets as part of the termination. So it’s just a rent component through the end of the year.

Okay, great. Thanks, and then just Mike, I appreciate the guidance on the lease accounting change. I guess a bigger picture question on that topic is just simply next year's lease expiration schedule's comparatively light to what we'll see the following next several years. As we think about how to model out that number and recognizing, in your case, it's a relatively small number. But just how impactful is the volume of whether it's the number of leases' square footage AVR to that number? And how should we be thinking about the drivers to either increasing or decreasing that number over time?

I would expect the number to stay relatively consistent. It's our internal leasing staff and the listing velocity based on the expiration's just one of the drivers of the things that they work on. A lot of times, they work on leases that are not even on the expiration schedule. So it's just -- I don't expect any real meaningful change in that number going forward.

And I think the reason '19 may look a little lighter is we've dealt with some of those renewals already this year. So some of them have already come off ahead of the year starting. But the compensation isn't necessarily one-for-one in terms of velocity. That's why being internally leased, we're able to control that cost better than if we had a broker working on a commission.

And then just from a presentation perspective, Michael, where should we expect that expense to line up? Is that a G&A or an operating expense line item?

It's going to be a G&A expense increase versus operating.

And our next question comes from the line of Michael Mueller from JPMorgan.

Just a question going back to the 3 redevelopment projects. Is it the scope of all 3 solely going to be adding multifamily? Or will there -- can there be retail components or other components that you'd more naturally be a direct investor in? Or is it just picture the existing center with a resi building and you'll own a portion of that building by way of either contributing land or deciding to put more capital into it.

Well, it depends on the municipalities. Some municipalities will want a bit of retail and some won't. On what we're moving forward on right now, it's a very small component of retail. So it's primarily going to be multifamily.

Okay. And again, it sounds like the base case is, at a bare minimum of that $200 million, on the low end if you just do the contribute land route, your investment in it is $30 million at a 7.5% return, unless you decide to take a bigger stake in the project. Is that the right way to think of it?

Yes. Although, if you put debt on top of the equity, Mike, we may have to put a bit of that portion onto our balance sheet. So we think about that as well as it relates to the capital side, so -- or the balance sheet side. So -- but, yes, you're very close in terms of the numbers.

And our last question comes from the line of Craig Schmidt from Bank of America.

I just wondered on the mixed-use densification efforts, are you looking exclusively at residential or are you examining office, hospitality or other mixed-used formats?

Well, Craig, we have looked at hospitalities, we have had -- we have offers from hotel operators, but the economics don't line up. And when I say that, we're looking at hospitality from a land lease perspective. I know it's a lot less capital obviously. But the NOI is in a whole different sort of -- the NOI is a lot different. So we have looked at other alternatives but certainly as it relates to both timing and NOI growth, certainly multifamily is the place to go. And more importantly, remember we're building in the most sought-after markets in the country where there is very strong rent growth. And more importantly, that these municipalities really need housing. That's the key here in terms of getting these entitlements because there's a lot of municipalities we went to where they said, come in and densify, however, you'll never get a permit, because of how highly constrained and how antidevelopment some of these municipalities on the West Coast are. So that's sort of the overview in terms of how we've gone through this process.

Okay. So at this point, the entitlement process is going pretty well?

It is. We are a bit further down the road at the crossroads Phase 2, because we started that process almost 2 years ago. We're getting very close to getting those entitlements. The other 2 are at the beginning stages. But from our discussions with the municipalities and potential partners, we believe that the entitlement process will go pretty quickly.

And at this time, there are no further questions.

In closing, I would like to thank all of you for joining us today. If you have any additional questions, please contact Mike, Rich or me directly. Also you can find additional information on the company's quarterly supplemental package, which is posted on our website. Lastly, for those who -- that are attending NAREIT's annual conference in San Francisco in a few weeks, we look forward to seeing you there. Thanks again and have a great day, everyone.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude your program. And you may all disconnect. Everyone, have a great day.