Operator:

Good day, and welcome to the Realty Income Second Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would like now to turn the conference over to Mr. Steve Bakke, Senior Vice President of Corporate Finance. Please go ahead.

Sumit Roy:

Thank you, Steve. Welcome, everyone. In the second quarter, I am pleased we were able to deliver strong results of the economy as well as the transaction market, navigate today’s rate environment. We see to be real estate partners to the world’s leading companies and the diligent efforts of our dedicated team resulted in AFFO per share of $1.06 representing a robust 6% growth compared to last year. Combined with our annualized dividend yield in excess of 5% our shareholders owned a total operational return of over 11%. The power of our global sourcing and acquisition platform was on display this quarter as we deployed capital in the U.S. and Europe across retail, industrial and data center real estate, and the real estate-backed credit opportunities. In total, we invested $805.8 million into high-quality opportunities at a blended 7.9% initial cash yield, or an 8.2% straight-line yield, assuming CPI growth of 2%. Of this, approximately $262 million of volume was invested in the U.S. at a 7.6% initial cash yield. The balance of approximately $544 million was invested in Europe at an 8% initial cash yield, including a $377.5 million investment in a secured note at an 8.1% yield issued by Asda, a leading U.K. grocery operator. As we discussed in the past, we intend to pursue credit investments selectively, and only when it may eventually facilitate access to high-quality real estate opportunities, as has been the case with Asda. We also believe these credit investments represent a profitable means for Realty Income to participate in and benefit from the current rate environment. Furthermore, from a risk management perspective, we view these credit investments as a prudent, natural hedge to the inherent rate exposure as we have on the liability side of our balance sheet. Providing further detail on investments in the quarter, we executed 79 discrete transactions with 55 clients, including two new clients across 22 industries. 31% of direct real estate investment volume was allocated to new sale leasebacks. Touching on our sourcing activity, we were pleased that our transaction discipline earlier this year is bearing fruit. As this quarter, we began to see a greater number of opportunities available at pricing that aligns with our cost of capital. This improvement supported the $200 million increase in transaction volume sequentially, and it drove the investment guidance increase to $3 billion in June, a 50% increase from our prior guidance. We believe the higher closed volume paired with investment spreads that are largely consistent with last quarter are signs the transaction market may be moving towards normalization. Investment activity this quarter was funded in large part by adjusted free cash flow, which totaled approximately $200 million in the second quarter. Not having to rely on public equity enhanced the accretive nature of these transactions. The deployment of excess cash flow represents an important contributor to our growth. In fact, we believe we can utilize excess free cash flow together with our portfolio's internal rent growth to deliver an approximate 7% to 8% total operational return annually to shareholders without relying on public equity issuance. The portfolio's stabilized internal growth rate has risen in recent years, and now stands at approximately 1.5% on an annualized basis, in part because of the expansion of our European platform, where many leases are subject to uncapped CPI increases, as well as our expansion into the gaming and data center verticals, which where leases often include healthy annual rent escalators. With the benefit of excess free cash flow, second quarter capital deployment activity resulted in investment spread of approximately 293 basis points, which like the first quarter is well above our historical spread of 150 basis points, in part due to the utilization of excess free cash flow. As a reminder, these disclosed investment spreads utilize our short-term nominal cost of capital, which measures the estimated year one earnings dilution from raising capital on a leverage neutral basis to fund our investment volume. This is different from a higher long-term cost of capital, which applies a growth premium to our cost of equity to account for the long-term return requirements for our investors. While we remain vigilant in today's volatile environment, seeking only the most attractive risk adjusted return opportunities, we will also only utilize external capital opportunistically aiming to augment our growth rate at times when our cost of capital becomes increasingly attractive as compared to prevailing market investment yields. An additional source of capital in the second quarter was dispositions. We utilize proprietary predictive analytic tools in combination with the insights of our asset management and research teams to drive the decision to sell 75 properties for total net proceeds of approximately $106 million, bringing the year-to-date total to approximately $202 million. For the year, we expect to sell between $400 and $500 million of assets. As we continue to calibrate and hone our predictive analytic tools, advancing our investment pieces on each property in our portfolio, we may be more active on dispositions than in the past. We continue to optimize our portfolio composition and investment returns while broadening our use of organically generated capital to finance growth. Another critical point of differentiation for Realty Income is the strength of our balance sheet, underpinned by our low leverage of 838 minus credit ratings by Moody's and S&P respectively, and our access to capital on a global basis. During the second quarter of 2024, the combination of internally generated cash flow and disposition sale proceeds allowed us to fund most of our investment activity without settling any newly issued equity capital while still maintaining our leverage metrics at or below our long-term targets. Shifting to operations, our portfolio continues to generate very solid returns and to perform in a very stable fashion. Occupancy rose to 98.8% as of June 30th, a 20 basis point increase from the prior quarter. Additionally, our rent recapture rate across 199 leases was 105.7%, totaling approximately $34 million in new annualized cash rent. The size, scale, diversification, and consistency of performance from our global real estate portfolio continues to provide us with excellent visibility to revenue and is a key reason why we have not had a single year of negative operational return in our 30 years as a public company. Managing through periodic store closures is a natural part of our business model, and our top-tier credit research and asset management teams offer distinct competitive advantages, which have consistently enabled us to optimize value in these situations. To that end, we would like to provide remarks on a few clients that are currently managing through store closures or have been in the news due to credit-related concerns. Importantly, in the context of our portfolio's size and scale, the aggregate financial exposure of potential loss rent is not expected to materially impact our ability to generate the consistent operational returns our shareholders are accustomed to. And it is important to emphasize our recent increase in earnings guidance takes all credit considerations into account. Rite Aid, which represents 30 basis points of our total portfolio analyzed contractual rent as of June 30, 2024, is expected to emerge from bankruptcy in the third quarter. Through the remainder of the bankruptcy process, we expect to lose 12 basis points of rent prior to the resolution of assets vacated in the proceedings, which are ultimately released or sold. Red Lobster represents 1% of our total portfolio annualized contractual rents and it is currently moving through the bankruptcy process. At present, as publicly stated, Red Lobster is targeting to emerge from bankruptcy in the third quarter of 2024. We continue to believe that our visibility into rent coverage and our master lease structure across most of our properties mitigate some of our potential risk. And while not finalized, we currently believe our recapture rate will be roughly in line with our historical portfolio-wide average of 84% for client bankruptcy restructurings. Walgreens is considered closing certain stores. Looking out over the next two and a half years, we have leases representing only 26 basis points of our total portfolio annualized contractual rent that will expire over that time. Outside of a bankruptcy strategy, which we view as unlikely with Walgreens, these are the only stores Walgreens can legally seize contractual rent payments on once each lease expires. To provide context on historical capture rates in the drugstore industry, we have managed 166 lease expirations since 2013. 80% of these were renewed. That resulted in a blended recapture rate in excess of 100% of prior rent. Dollar Tree, which is investment-grade rated, announced the potential split of their Family Dollar brand from Dollar Tree. If this were to result in store closings, Family Dollar leases representing only five basis points of our total portfolio annualized contractual rent are set to expire between now and year-end 2026. And of course, in the interim, they are obligated to continue paying rent through lease expiration. Our historical recapture results in the dollar store industries have been similarly favorable. We have managed 263 lease expirations since 2013, of which 86% of the clients renewed at a weighted average rate well north of 105%. In case of our tier 1.5% of exposure, we feel the risks have notably diminished in the past 12 months. Cineworld reduced its debt by $4.5 billion through its restructuring, and AMC recently made improvements to its financial position by extending debt maturities and additional equity issues. It is important to note that in total, the rent at risk from Rite Aid, Red Lobster, Walgreens, Dollar Tree, as well as At Home and Big Lots, which is 11 basis points of rent, represents in total only 2.3% of our total portfolio annualized contractual rent through year-end 2026. And if we achieve the recapture rate in line with our long-term average for bankruptcies, which is 84%, this suggests only approximately 37 basis points of rent is at risk of ceasing, or an approximately $0.02 of AFO per share impact. In addition, if they do take place, advance notice of potential store closures are of incremental value to us because they provide years, in many instances, to plan the optimal outcome at those locations where the client's plan is to leave while we continue to be paid rent. This $0.02 per share potential impact is manageable and is counterbalanced by the power and stability of our net lease business model, which is underpinned by diversification across more than 15,000 properties, 1,500 clients, and 8 countries on 2 continents. Hence, we believe it is important to separate the store closing headlines from the manageable impact they have on our financials. With that, I would like to turn it over to Jonathan to discuss our second quarter financial results in more detail. Jonathan?

Sumit Roy:

Thank you, Jonathan. To conclude our prepared remarks, the year is progressing largely in line with expectations, perhaps even slightly ahead. There are signs the transaction market is beginning to normalize as we find more opportunities to deploy capital into high-quality investments, meeting our minimum return requirements. Adjusted free cash flow and dispositions continue to be accretive sources of capital we can use to support future growth. Combined with the stability of our solidly performing client base and the strength of our balance sheet, we believe we are well positioned to deliver attractive risk-adjusted returns to shareholders in a variety of economic environments. I'd like to now open it up for questions. Operator?

Michael Goldsmith:

Good afternoon. Thanks a lot for taking my question. The largest component of your investment volume this quarter was the investment in the Asda notes. How should we think about the different investment buckets that you have when it comes to expectations for the back half of the year? Thanks.

Michael Goldsmith:

Got it. Then as a follow-up, can you talk a little bit about the opportunities you're seeing in the U.S. versus European markets? Outside the loan, you leaned a little bit more to the U.S. in the second quarter or a reversal from the first quarter. Can you talk a little bit about what you're seeing in these markets and the spreads in the U.S. versus Europe? Thanks.

Operator:

The next question comes from Joshua Dennerlein from Bank of America. Please go ahead.

Sumit Roy:

Yes. So Joshua, we've been very clear with the market that the credit investment side of the business is an addendum to what we are offering our clients. We believe that opportunistically, it makes a lot of sense for us to continue to be a partner to our clients, such as Asda. And when you look at the investment we made, $377 million at an 8.1% 6-year paper [ph] and you overlay the fact that we have maturing debt close to £600 million coming due in about the same time frame, this is one of the reasons why we did what we did. Let me put this in perspective in a slightly different way. If we were to go out and try to do a sale leaseback on Asda real estate today, it would probably be in the mid-6s, maybe even in the slightly inside of that. And so for the same credit, if you're able to get 160, 170 basis points of additional spread over a 6-year period. I think it's -- and get the same exposure in terms of the credit. It's something that for us made a lot of sense. The other reason is one that we've continued to share with the market around why we have gone down this path of credit investments. We've always felt like, okay, we want to be long-term partners to some of our clients. We are willing to do 20-year paper sale leasebacks on their real estate. We are along the credit. We like the credit and if we can continue to create an even closer relationship by participating, higher up on the capital stack, that is something that makes a lot of sense for us. Especially when you take it in the context stuff, we are experiencing the negative impact of higher interest rate environment on our own balance sheet. And if we can offset using this credit investment as a tool, this negative impact that we experienced by participating on the asset side by providing credit to some of our clients then this is a very nice way to hedge this negative impact. Having said all of this, we've also been very clear that credit investment is going to be a point in time. This is not a tool that will work in every environment, and we don't expect to do credit investments in a very low interest rate environment. And so for all of the reasons that I've just enumerated, it's a wonderful tool to have. And thankfully, we have the relationships with clients who want us to participate, we would like to participate and it acts as a natural hedge to some of the negative headwinds that we encounter in this environment. So that's why we did what we did.

Sumit Roy:

Yes. So the areas that give us that higher internal growth largely are the two you've mentioned and the international market. And obviously, this is not a new vertical for us, but industrial does tend to have higher internal growth as well. And the combination of our investments in these areas have resulted in the profile of internal growth changing from circa 1% in our business to 1.5%. And that will continue to be the areas that we focus in, in the future. I think this was a question that was asked in the previous call as well. Are there any new verticals that we are looking at? And the answer is no. We have a very well-defined total addressable market based on the verticals that we've already articulated to the market, and we are very comfortable continuing to play in those specified verticals. And there's plenty to be done. So we're very happy with that.

John Kilichowski:

Hi, thank you. So the amount of IG tenants as a percentage of acquisitions was 10%, which I believe is lower since the third quarter of 2017. Maybe how should we think about that and your appetite to move down the risk curve to generate yields here?

John Kilichowski:

Understood. And then I guess maybe jumping to bad debt here. On the last call, you mentioned the conservative nature of your bad debt number. I don't believe you provided it, but maybe could you talk about where it is today and if there's upside to your guide here?

Operator:

The next question comes from Haendel St. Juste from Mizuho. Please go ahead.

Sumit Roy:

So Haendel, yes, the last comment you made is accurate. We are not anticipating doing any credit investments in the second half but just to be very clear, credit investments is something that we have used opportunistically in the past, and we will continue to use opportunistically going forward. But it is not contemplated that we will do any in the second half. Having said that, you're right, this is a secured bond offering. And so it is the security that we have is obviously a lot of the unencumbered real estate that as continues to own. You're also correct in assuming that we are very comfortable going along the credit. You might recall in the third quarter of last year. We did a fairly large -- I want to say, norther $600 million of sale leaseback with Asda. So this is a credit that we are very comfortable with. We like the operators. We like what they're trying to do with their business. And this is a way for us to continue to strengthen that relationship going forward. But yes, part of what we are trying to do is in the event they decide to go down the path of doing sales leasebacks, we're going to be first in line. There are no guarantees, but we will be first in line for those conversations. And that's exactly the type of position we would like to be in going forward with clients such as this.

Sumit Roy:

Sure. Good question, Haendel. Look, I think it's a little too early, but the reality is that in the event that interest rates do start to come down, private equity that has largely been absent from the market should start to come back in. We are not currently seeing that in the transaction that we are pursuing. We are seeing some institutional capital, I wouldn't call them private equity coming into the market and becoming a bit more aggressive. But it's not prevalent yet. But yes, if the interest rate environment continues to be positive, i.e., rate cuts start to materialize, finding private equity as a competitor is certainly something that we should expect. You talked about us becoming more aggressive given our cost of capital having improved, especially over the last couple of weeks. That is true. And our cost of capital has improved. But the point I want to keep making, Haendel, is we want to remain very disciplined. We do believe that there will be more transactions that should take place just given the backdrop that we've talked about. But we don't have to do a whole lot to generate the earnings guidance that we've shared with the market. And if the market opportunistically produces transaction for us, that we feel like makes a lot of sense for our portfolio, we will absolutely be first in line to take advantage of that. And that's the position that we want to be in. And -- but I don't think the fact that our cost of capital has improved, that's going to be the impetus to go out there and start doing more transactions. I think the materialization of actual transactions that we would like to be successful pursuing that is going to drive what we do in the second half. And we feel based on everything that we are seeing, plus the pipeline that we have, very confident that the investment market will continue to improve.

Smedes Rose:

Hi, thanks. Just on that, I was just wondering about the transaction activity that you kind of had in your pipeline. I mean do you see more kind of larger portfolio deals in the offering? Or is it more kind of smaller kind of one-off transaction opportunities, just insert changes since your last quarterly call?

Smedes Rose:

Okay. And then I just wanted to ask you, too, I'm sorry if you maybe address this, but the termination fees you received in the quarter, they were related to one particular client or with a bunch of fees that happen to cut it at once. So just kind of wondering what they were related to?

Operator:

The next question comes from Greg McGinniss from Scotiabank. Please go ahead.

Sumit Roy:

Sure, Greg. So a lot of it is very, it's opportunistic. It is an analysis, a very deep analysis that the asset management team takes on looking at assets for existing clients that may not have the right return profile that longer term because the markets have changed, or that particular location is not what it used to be. There could be several reasons as to why they get into the disposition list, one of which could be credit as well. And so we are using our predictive analytic tools to help monitor these 15,000 assets that we have at any given point in time and it's coming out with a rating that then suggests that, hey, this one may have a high location risk or low fungibility available to these locations. And then we overlay the credit on top of that. And then asset management goes through those and tries to create various different areas of what is the economic outcome going to look like under , for instance, a client that may not have any credit issues will pay rent. But at the end, this asset may not have other alternatives available to it outside of a vacant sale. And that return profile will be compared with selling it today to see what yields a better outcome. And that's the analysis that the asset management team is undertaking far more directly today than I think we've done in the past and that's the reason why we've come up with the $400 million to $500 million of assets that we feel like does not necessarily have a long-term future in our portfolio. And that's how we come up with the list.

Sumit Roy:

Greg, as you know, I think I don't see the cap rates moving out from these levels. And in fact, they probably are going to start to come in going forward just given the backdrop that we are all experiencing with better cost of capital, more competitors are going to start to come in. It's going to put pressure on the cap rates. So, but in terms of spread, which is how we think of our business, we are very hopeful of maintaining the spreads that we've achieved thus far. And it could be a combination of our improving cost of capital despite perhaps a slightly lower cap rate environment. But we are going to be very selective in what it is that we pursue, which is why we have not gone out and increased our acquisition guidance. But let's wait and see what happens over the next couple of months. Things are fairly volatile with elections coming up later this year. And obviously, we see what's happening on the geopolitical side. So it is a bit of a volatile period. But having filtered all of that, I think you should expect to see us trying to maintain the spreads that we've achieved thus far.

Upal Rana:

Great. Thanks for taking my question. Sumit you touched on dispositions already, but I wanted to get your reasoning on providing guidance at this point? And is this a product of better visibility or a shift in strategy you did mention that you do impact -- expect to be more active on that front than the past. So you have sold a number of vacant properties already this year, but you still have another 185 more to go. So I want to get any color on that, that would be helpful.

Upal Rana:

Okay. Great. That was helpful. And then you mentioned in your prepared remarks about the transaction market moving towards normalization. What did you mean by that? Did you mean in terms of volume, cap rates investment spreads, seller sentiment, competition? Maybe if you can give more any detail on that, that would be helpful.

Operator:

The next question comes from Linda Tsai from Jefferies. Please go ahead.

Jonathan Pong:

Yes. So Linda, first of all, there's some moving pieces with this year's guidance of approximately 1% on same-store. It's a difficult year-over-year comp because we did have some reserve reversals and deferment payments that we realized last year. Last year, we had 1.9% was our same-store number. This year at 2%, you're kind of averaging -- this year at 1%, excuse me, you're kind of averaging outside 1.5 or so level. And so next year, there should be an easing of the difficult comps, but what we've always been framing for investors, especially more recently is that we are around 1.5% on a contractual rent basis, growth basis. And we would expect that to continue next year and beyond.

Sumit Roy:

Linda, the way to think about bad debt is we start the year expecting a certain percentage of bad debt expense. And in certain years, we either meet bills in a lot of years, we beat them. And in certain other years like the pandemic year, it goes beyond what we had originally gone into the year with. I think this is one of those -- like last year, for instance, we had positive outcomes on what our initial expectation was, which was, I think, 40, 50 basis points of rent. And all of last year, we not only did not have any bad debt expense, we actually ended up collecting on rents that we had on cash accounting. So that was a positive outcome. This year, this seems to be trending more in line with what we had anticipated at the beginning of the year. And there is some potential upside, but we are not -- we've still got five months left, and we'll see how things play out. But traditionally, it's been right around that 23% absent the pandemic year. And inclusive of the pandemic year, it's been right around 37%, 37 basis points, sorry, 37 basis points of rent that has basically been bad debt expense. So do we expect 2025 to be similar, yes? But we generally don't talk about years well in advance, which is why I'm pointing to what historically has happened at Realty Income.

Unidentified Analyst:

Hi, thanks for taking my question. Kind of to go back to the C-store client, that litigation. Do you have that space back? And is there already a replacement tenant for that asset?

Unidentified Analyst:

Got it. That's helpful. And then maybe for Jonathan. What are you thinking about future debt issuances, what currency is currently most attractive? And at what rate can you issue that?

Operator:

The next question comes from Spenser Allaway from Green Street Advisors. Please go ahead.

Sumit Roy:

For the first half of the year spent it was here in the U.S. That's the reason why our volumes were much lower than what was -- that's what was traditionally seen in what we've done. I think that's starting to compress that bid-ask spread, which is the reason why we feel pretty confident that the markets here in the U.S. is going to start to materialize favorably for us. And yes, so that's what we see.

Ronald Kamdem:

Hey just two quick ones for me. Just one, just on the interest cost. Can you remind us how much of the guidance this year, the FFO growth, how much of it was a drag just from higher interest expense and so forth? And how are you thinking about sort of the maturities in 2025?

Ronald Kamdem:

Great. And then my second question was just on the new growth verticals specifically, just double clicking on sort of data centers and sort of gaming. Obviously, you've done two great deals with two great partners. But just wondering as you're thinking about sort of the future deals opportunity, is there sort of any bless and learns any way that you want to structure it differently maybe that you're thinking about as the opportunity gotten more attractive, less attractive? Just trying to get a sense of where we are 12, 24 months into this process? Thanks.

Operator:

We have a follow-up question from Linda Tsai from Jefferies. Please go ahead.

Sumit Roy:

No. The 84% is our historical average through the bankruptcy process. So any client that goes through a Chapter 11 process and if you compare the emerging rent to the pre-bankruptcy rent, that recapture rate is 84%. And Linda, if you look at the amplitude within that 84%, if you actually look at individuals, we've had situations where we've collected 70% or 65% of the rent. And then there have been situations where we've collected 100% of the rent pre-bankruptcy versus post-bankruptcy. So there is variance around this 84%, but that has historically been what we've achieved. And that's the number that we are sharing with the market.

Sumit Roy:

Thank you.

Sumit Roy:

Thank you all for joining us today. We look forward to speaking soon and seeing you at conferences in the coming months.

Operator:

Good day, and welcome to the Realty Income Q1 2024 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would like now to turn the conference over to Mr. Steve Bakke, Senior Vice President of Corporate Finance. Please go ahead.

Sumit Roy:

Thank you, Steve. Welcome, everyone. Our results for the start of 2024 illustrate our focus on thoughtful, disciplined growth and continue to demonstrate the consistency of our global operating and acquisition platform. We believe our value proposition to investors is a simple one. Our demonstrated ability to generate consistent positive operational returns regardless of market volatility and economic environment. Our projected 2024 operational return profile of approximately 10%, which comprises an anticipated dividend yield close to 6% and AFFO per share growth of approximately 4.3%, assuming the midpoint of guidance is a validation of our value proposition. To summarize the results from the quarter, we would highlight several key takeaways. First, diversification. Diversification by geography, asset types and client relationships. We believe our business model is unique in the real estate sector as we have optionality to grow in different regions with investments in a multitude of real estate products where we see superior risk-adjusted returns. During the first quarter, we invested $598 million at an initial weighted average cash yield of 7.8% across three property types

Sumit Roy:

Thank you, Jonathan. In summary, the year is off to a solid start that is in line with expectations. Our earnings growth profile for the balance of the year remains consistent with our outlook and earnings guidance we gave in February. The tempered pace of activity in the first quarter reflects our long-standing capital allocation discipline, and we will remain selective as cap rates adjust to the current rate environment. In the meantime, the levers we can exercise from an internal funding standpoint, in particular, free cash flow and capital recycling, allow us to continue investing at spreads well over 200 basis points on a leverage-neutral basis. Our approximately 4% AFFO per share projected growth rate, paired with our estimated annualized dividend yield of approximately 6% is why we believe our platform offers one of the most compelling investment opportunities in the S&P 500. With that, I would like to open it up for questions.

Nate Crossett:

Hey, good afternoon. I was wondering if you could just talk about the current pipeline what does pricing look like so far into 2Q? Where is the pipeline weighted? And I know it's this most sample size, but pretty attractive yields in Europe in the quarter. Is there anything to note there?

Nate Crossett:

Okay. That's helpful. And then if I could just ask one on the tenant credit side. What's on the watchlist right now that we should be tracking and maybe you could speak to Red Lobster, specifically because that's been in the news recently

Operator:

The next question comes from Greg McGinniss of Scotiabank. Please go ahead.

Sumit Roy:

Sure. Good question, Greg. So, what we are hoping to achieve is circa $400 million to $500 million of asset dispositions this year. We can't be very precise around it because part of it is a function of the market. We expect that the occupied sales and the vacant asset sales is going to be approximately 50/50. Obviously, in the first quarter, it was disproportionately vacant asset sales. I think $82 million of the $96 million was vacant asset sales, $14 million were occupied. But what we are trying to do is intentionally get ahead of some of these assets that happen to be on our watch list. And not always is it being driven by a credit issue. It's -- sometimes it is purely a real estate issue that our asset management team has concluded, does not have a long-term position in our overall portfolio. And then there are certain trends that we are seeing that we want to try to get ahead of based on client conversations, et cetera, that is also going to allow us to be a lot more proactive and get ahead of situations, well in advance of it becoming an issue downstream. In terms of the actual concepts themselves, it is along the lines of what we have been selling. Some of it is automotive services. There are some drug stores that we believe are not part of the overall strategy. Some of it is going to be the Cineworld assets that, by the way, the sale process is going, I would say, ahead of what our expectations were. And then some that are perhaps not, like I said, core to what our overall strategy is on the discount store side as well that we want to try to get ahead of. So, those are the components that will make up what we want to try to get disposed of this year.

Sumit Roy:

Look, we've got to execute our plan based on what we believe is the right portfolio that's going to take us into 2025 in a position of strength. We have grown our business through M&A. There have been two very large M&A deals done in the last two and a half, three years. We've been, I believe, very open about not all of those assets have been core to our long-term strategy. And so some of this is largely a function of trying to get back to that core portfolio. We have obviously underwritten the impact of 50% of circa $400 million to $500 million in dispositions being occupied assets. But what you'll find is some of these assets are actually being sold. Look at what we sold or -- and I know it wasn't a big number, but the occupied assets, we actually sold them at a 7% cap rate, cash cap rate and we are reinvesting it at 77%. So it is actually an accretive disposition strategy that we've been able to implement at least for the first quarter. So for us, it's about creating the portfolio that we want to go into 2025 and beyond with. And this is a program that will consistently be executed on going forward. When we are doing sale leasebacks, it's not an issue. When we're doing portfolio transactions on existing leases, not always do we get 100% of what we want. And so being a bit more proactive around culling the assets that is not core to our overall strategy upfront is something that I think we are going to be a lot more intentional about. But we feel very good about our ability to continue to grow despite the strategy in 2025 and beyond.

Unidentified Analyst :

Hi. Good afternoon. This is Farrell [ph] on behalf of Josh. I was wondering if you could clarify how bad debt is currently trending. I know you made some comments on the watch list. And perhaps if that has changed at all in your outlook of how much bad debt is baked into guidance?

Unidentified Analyst :

Great. And second question about given the cap rates that you're seeing in Europe with coming off of acquisitions, has your thought process or thesis change when you're thinking about development and the yield you can get off that versus these straight-up acquisitions.

Operator:

The next question comes from Brad Heffern of RBC Capital Markets. Please go ahead.

Sumit Roy:

Yes, Brad, what the cost of debt is certainly lower in Mainland Europe. It's not lower in the UK. I would say trying on top of each other, John. Jonathan is nodding. So the big difference that we see and why potential sellers are willing to transact at the yields that we were able to realize, they're twofold. One, there are funds that have had redemption pressures where they need to monetize real estate, and they are more than willing to reflect what the current cost of capital environment is because they need the capital. And the second, which works really in our favor is the fact that we have established ourselves as the go-to buyer of these types of assets and recognizing that the surety of close, which is very important for these potential sellers is going to be met. And that reputation really does accrue to our benefit, when we are sort of having these conversations, and somebody requires capital near term, and we have the ability to close on these transactions as and when we agree on a particular price. I think it's those 2 factors that's allowing us to be very successful in the UK and in Europe, and is how it's playing out. Here, unfortunately, you don't have similar pressures. Yes, there could be operators that might be willing to transact. But if they have any ability to wait, which in the US, they have a lot more alternatives, they are sort of standing on the sidelines, waiting for the environment to improve for potential buyers to then be able to get the cap rates that they're willing to transact in. So I think that's how I would frame, why we are being successful. One of the reasons is obviously very idiosyncratic to us and the other is it's a reflection of the market.

Sumit Roy:

Yes. Look, I don't think that the impact for us is going to be disproportionate. We have about 3% of our rent that is Dollar Tree, Family Dollar exposed to Dollar Tree, which obviously is the owner of Family Dollar. And I would say about 60%, circa 60% is Family Dollar and the rest of it is either Dollar Tree or the dual banners that they have. There's about, I want to say 3% of the 3.3%. So that's nine basis points of lease expirations over the next two years, 2.5 years that will materialize. So even if there are these closures and even if some of these assets are named on the closing list, our impact is basically nine basis points. And I can assure you that our asset management team is already working on resolutions given that it is part of the pipeline. Anything beyond that will potentially be closed and will remain dark. We are still going to collect rent. And let me tell you that the pressure on Family Dollar and Dollar Tree is going to be a lot more acute than it is on us to try to find a substitute to step in and take over these leases. And just episodically, there's a fair amount of interest in some of these locations that we've received just along the lines of some of the news that's out there about potential closings, et cetera that we feel pretty good about our ability to resolve the Family Dollar assets. The one thing I'll add, which may not be apparent, Family Dollar tends to be in urban areas and in much more densely populated areas than Dollar Tree or Dollar General. And so the attractiveness of those locations to alternative retail clients is a lot more, and that's borne out by the fact that we have received inbound. So for us, this is no different than learning well in advance that, hey, these particular leases are not going to get renewed and it gives us time to work on some of these leases well in advance of the actual lease expiration. So that's how I would frame it.

Unidentified Analyst:

Hi. This is Katherine Grey [ph] on with Michael. Thanks for taking my questions. My first is, you touched on this a bit at the opening, but how are you thinking about -- if you could maybe just provide some more color, how you're thinking about the cost of free cash flow within the context of your investment spreads?

Unidentified Analyst:

Got it. Thanks so much for the color. And my second question is on the development piece. So do you expect to see an acceleration of yields for your development projects as we progress through 2024 or even into 2025?

Operator:

Our next question comes from Anthony Paolone of JP Morgan. Please go ahead.

Sumit Roy:

Yes. So a lot of these were retail parks. And let's talk a little bit about retail parks because there's a confusion when you say multi-tenanted, we think in terms of what -- how we define multi-tenanted here in the US. This is not like multi-tenanted here in the US. A lot of these are I would say 80% of them are Tier 1 or Tier 2 as we define them, clients that we are pursuing on a freestanding basis. And they happen to be located in a contiguous part. And each one of these units basically has a flow-through from rent to NOI, very similar to what you would find on a freestanding basis. So the growth in these leases, they tend to be shorter, anywhere between five to 10 years. And the growth in these leases could be open market reviews or they could have some of the larger boxes could have more of the regular way growth that we've seen that are tied to inflation, et cetera. But when we are underwriting these assets, we are looking at the composition of the tenants. We're looking at the flow through. We're looking at are these rents above or below market? We're looking at what the long-term profile of the return is going to be. And then we are comparing it to what are we getting these assets at day one in terms of the initial yield. And these assets have really done very well. And some of the numbers, a lot of the renewals come strong, these retail parks that we bought because the freestanding assets haven't gone through a renewal process yet. And the fact that they are very similar in nature to our overall portfolio of 104.3% that we were able to generate this quarter is a reflection of how we are underwriting each one of these retail parks. But that's where we are seeing the value. And the fact that we are now starting to consolidate and control swaps of retail parks across the UK is a massive advantage for us because the kind of conversations we can have with clients that we've obviously wanted to grow with is very different when we control major locations that they would like to continue to stay over the long duration. And I think that's how we are able to generate the value that we are able to generate. And we are doing it at a time point in time where should be told retail parks are starting to change. If you look at the vacancy that you have, it's circa 2%. If you look at the actual growth that we are being able to generate, it's much higher than what was traditionally achieved. And if you also look at the free rent concept that used to exist, we are being able to compress on that concept, just given the fact that we control so much more of retail parks. So this has been a great investment for us. And I just want to make sure that people realize that the flow-through is very similar to a stand-alone net lease business that we've traditionally been involved in. So I'm glad you asked the question, Anthony. Thank you.

Sumit Roy:

Yeah. So look, we've gone through one of them already with Cineworld. AMC represents about 1% of our rent. We have, I believe, 39 assets. AMC continues to be able to raise capital in the equity markets. And 2024 is not going to be a great year for the box office. We recognize that. It may be equivalent to last year, maybe it will be even a little bit less than last year given some of the disruptions that occurred in 2023. But the expectation is that 2025 will supersede 2023 and the quality of movie releases will be much higher in 2025 than in 2024. Is it possible that AMC goes through a BK process? Yes, it's absolutely possible. But I can tell you, our experience on Cineworld gives us a lot of confidence that the assets that we have and the resolutions that we've been able to achieve and the restructuring of the rent that was achieved is still going to create an outcome that is very acceptable to us. Tony, just to put things in perspective, our history, and we've had several bankruptcies in our history, our recapture rate has been north of 80%. And I believe if we were to do the full analysis, once we go full cycle on the Cineworld, it's going to be in that ZIP code. And it's not actually even better than that. given some of the resolutions that we are finding on the vacant asset sales that we had touched on last year on Cineworld. So, I believe AMC is going to be a similar story, but it is not trade comp that they're going to go through a BK process, we believe they have enough liquidity to certainly withstand this year and potentially most of next year as well. But if they were to go through a BK process, it's not necessarily a bad thing. I think it will allow them to restructure the debt, which I think continues to be a massive burden and they will emerge stronger for it. And we believe that, again, just like in the Cineworld situation, we have some of their better assets and we will do fairly well even if they were to go through the BK process. So, that's our thoughts on AMC.

Haendel St. Juste:

Hey, good morning out there. Sumit, you mentioned thoughtful and disciplined growth selective a few times about your prepared remarks, clearly suggesting that the activity will remain subdued as you push the more yield and quality, but you did leave the door open in capacity in the gas a little bit more compelling opportunities to emerge in the back half of the year. So, I guess I'm curious maybe some more thoughts on that and how you think about balancing the pace of investment versus your longer term earnings growth target if you'd be willing to push a bit more in the second half, even if that would make -- right opportunities came along? Thanks.

Haendel St. Juste :

Thank you for that. And just a follow-up on Europe since we're talking about it here. I think you have close to $10 billion or so, plus or minus asset value there. So I guess I'm curious if there's any change or update on the thinking of a potential spin-off of that platform? Is it large or mature enough? And maybe when do you think that it could be ready to stand on its in? Thank you.

Operator:

The next question comes from Nick Joseph of Citi. Please go ahead.

Sumit Roy:

Thank you for your question, Nick. Yes, I would say about 6% of our investments in the first quarter went towards the digital JV that we have formed. As you may recall, Nick, that is an asset that is being currently developed in Northern Virginia, in Loudoun County. And it won't be operational until the end of this year, the first phase, maybe -- actually, it's the first quarter of next year. And then there could be the second phase that gets kicked in. So as of right now, that is the only investment that we have on the data center side. There are other opportunities that we are looking at. We do have an investment that we will make, we will continue to make in Spain, that is also looking at a data center side that we believe is very well located, and there seems to be a lot of interest in that particular side. That will be our additional spend on the data center side, but that hasn't been substantial to date. But those are really the only two opportunities that we are looking at. We are obviously involved in multiple conversations with multiple operators to try to understand where the real opportunities are versus the optimism that continues to play out in this particular space. And we are hopeful that we can grow our high percent part of our portfolio in a meaningful way over the next few years. But as of right now, a lot of it is just in the initial stages of conversations with potential operators outside of the JV that we have with digital.

Sumit Roy:

On the gaming side, things continue to look interesting. We've obviously made two investments. It represents slightly north of 3% of our rents and we are in conversations with other opportunities, including potential development opportunities in large cities. There's a very long tail to some of these development opportunities. But we'll see how some of these conversations translate into actual transactions. But I will say that there was an interesting conversation we were having earlier this year, which has been kind of put on hold for right now that would be a continued growth of our gaming business, but it hasn't quite materialized yet. So we'll see how that plays out.

Wes Golladay:

Hi, everyone. You highlighted all the levers you have to pull. And when you created last year was the credit investment platform. Can you give us an update on that?

Wes Golladay:

A quick follow-up on that one. So when you talk about the natural hedge, would you look to keep these more SOFR based loans?

Jonathan Pong:

Yes. Well, just to add to that, when we think about it in a natural hedge, I think it's more so a lot of lines of lenders that actually matures, because we look at our maturity schedule, we've got a decent amount of debt coming to well staggered, but on a nominal basis, still pretty significant, $1.9 billion next year, for instance, or $3.26 billion at almost $3 billion in 2027. And so when you have a corresponding asset that could get cold or will get repaid and it's hard to replace that coupon in a lower rate environment, chances are we're much better off as we're refinancing our liabilities and our cost of capital is obviously much lower. So I think that's another way to take through the natural hedge element.

Harsh Hemnani:

Thank you. So not a good jump of acquisitions this quarter came from ones that needed the capital and some redemptions. How would you contrast that opportunity set for acquisitions versus maybe the traditional sale-leaseback market when realty income could provide a solution for [indiscernible] financing. It sounds like based on interest rate hopes -- hopes of interest going down, more tenants are looking towards the traditional credit market and trying to look for finite sources of capital rather than locking in sale-leaseback capital for a perpetual period of time. Is that something you're seeing more so in tenant conversations today than compared to a year ago?

Harsh Hemnani:

Thanks for that. I'll leave it there.

Operator:

And our next question comes from Linda Tsai of Jefferies. Please go ahead.

Sumit Roy:

Yes. That's where the secret sauce is, Linda. But all right. Let me -- and I don't want to get to pedantic, so try to keep it pretty high level. The way our predictive analytics were it is by industry and even at times by client. But largely, the models work by industry. And it tries to identify the key variables, which could be 20, 30, 40 variables that dictate the predictability of a renewal outcome or a leasing outcome. So the pieces around how we created the predictive analytic tool was to figure out, what was our leasing activity going to look like, where will we -- the risk was defined as, are we going to be able to maintain the rent that we currently have during a renewal period? Or are we -- is it going to go less? Or is it going to be more -- and that's how we define risk, and that's how we've sort of created these algorithms by industry to identify where does risk lie in our portfolio. And as you can imagine, each industry has its own set of variables that dictate that particular outcome. But the biggest piece of all of this. I think the creation of the algorithms, et cetera, is a fairly simple task. I mean it's taken us 3.5, four years. So I don't want to minimize that piece. I've got me looking at me strangely here. But it is the data that we have that allowed us to back test these models and continue to refine and calibrate these models to improve their predictability. I think that's what is whether the true value lies in our platform, having been around for 50 years. And I think that's why you see the kind of results that you see when we are posting the release -- the re-leasing spreads, when we are trying to get ahead in terms of identification of assets that we should, where we are maximizing the return profile of those assets given what we think will happen some lease renewal. I think that's where the predictive analytics tools, along with the asset management team was using on-the-ground experience to sort of share their perspective along with the credit view, that group together is what's dictating how we try to stay ahead with the portfolio. And it's -- it has to be tools driven. It has to be technology driven. When you have 15,400 discrete locations with in 80 different industries with 1,500 different clients I mean it can't be done manually. And so that's the reason why we chose to make this investment Linda, five years ago and several millions in -- this is a tool that we are very, very proud of. And it's now very much part and parcel of every decision we are making. Be it acquisitions, be it disposition, the hold decisions and also, this tool is now being used to dictate the highest and best use for potential vacancies, which may or may not be the old use of that particular asset. And we've seen some of the value creation that, that prediction has yielded for us as a platform. So hopefully, I didn't get too much into the details, but that's really how the pretty expanded tool works

Sumit Roy:

Yes. For us, having geographical diversification, the advantages of it played out in the first quarter, right? I mean you saw we were able to find transactions in the UK that had a return profile that far superseded what we are able to find here in the US. And then that will flip, so I think the geographical diversity is a good thing. In terms of the actual composition of the portfolio, we clearly have what we are viewing as an optimal portfolio. And an optimal portfolio, we might like, let's call it, grocery. But we want grocery to be 13% to 14% of our overall portfolio. If that creeps into the 19% to 20%, that's not a good thing. And by the way, I'm giving you an example, that's not the case, grocery happens to be only 10% of our portfolio today. And then there are other areas like apparel that we may not necessarily want to be exposed to at all. But again, using very broad brushes across particular subsectors is not the right answer either. And that's the reason why this tool along with credit, et cetera, they help us devise what we believe to be the optimal portfolio. If you think retail and you step back, we like service-oriented businesses. We like low price point businesses. And -- that's sort of the overarching nondiscretionary overarching elements that we look for on the retail side. That doesn't mean that we won't deviate from this. But over 90% of our retail portfolio, by the way, has one or more of these characteristics. But that's, I think, how you think about the composition and geographical diversification is something that sits on top of that.

Sumit Roy:

Thank you all for joining us today, and we look forward to speaking soon and seeing you at the upcoming conferences. Thank you.

Operator:

Good day, and welcome to the Realty Income Fourth Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, today's event is being recorded. I would now like to turn the conference over to Steve Bakke, Senior Vice President of Corporate Finance. Please go ahead, sir.

Sumit Roy:

Thank you, Steve, and welcome, everyone. Our fourth quarter and 2023 full-year results demonstrate the unique platform value that Realty Income has built, which differentiates us as a real estate partner to the world's leading companies. During the year, we accomplished several milestones, which illustrate the benefits bestowed to us by our size, scale and relationships. First, we set an annual high in property level investment volume closing on over $9.5 billion in high-quality diversified investments across eight different countries and through 271 discrete transactions at a weighted average cash yield of 7.1%. The year was punctuated with a particularly active fourth quarter as we closed on $2.7 billion of investments at a weighted average cash yield of 7.6%. Our fourth quarter activity included a $527 million sale leaseback transaction with Decathlon, one of the world's leading investment-grade rated sporting goods retailers and included properties located in Germany, France, Spain, Italy and Portugal. Despite a volatile capital markets environment, we achieved an investment spread of approximately 115 basis points in the fourth quarter and approximately 120 basis points in 2023. We were able to achieve these spreads without sacrificing our focus on the quality of real estate or security of cash flow, which is a testament to our experienced team and the merits that sophisticated sellers see in transacting with our platform. Second, during the year we established a presence in the data center sector through a build-to-suit development joint venture with Digital Realty. And we incubated new relationships with blue-chip partners such as Blackstone and the EG Group through large scale investments, including the $950 million investment for a 21.9% stake in the Bellagio and the $1.5 billion sale leaseback involving primarily Cumberland Farm convenience stores. Third, and in addition to the achievements noted above, we also announced the $9.3 billion merger with Spirit Realty Capital in an all-stock transaction in October, which closed subsequent to year-end on January 23. These accomplishments contributed to our 2023 AFFO per share of $4, representing an approximately 7% total operational return for the year, and importantly, together with the Spirit merger, set us up to deliver a compelling earnings growth backdrop in 2024. We believe that the close of the Spirit merger last month along with meaningful debt and equity capital raising activity completed at attractive prices in December and January that Jonathan will describe in more detail, leave us well-positioned to deliver robust growth in 2024. We here initiated an AFFO per share guidance range of $4.13 to $4.21 per share for 2024, which represents an annual growth rate of 4.3% at the midpoint. We believe we can achieve this growth rate without the selling of additional public equity. Inclusive of our dividend, this positions us to deliver a total operational return of more than 10% at the midpoint of the guidance range based on the trading price of our common stock as of February 20, 2024. In addition to the $9.3 billion Spirit merger, we're also providing 2024 acquisitions guidance of approximately $2 billion, which is expected to be fully funded via a combination of our portfolios internally generated cash flow now exceeding $800 million after dividend payments on an annualized basis, as well as approximately $605 million of unsettled ATM proceeds and our $3.7 billion of cash and unutilized availability on our revolving credit facility as of year-end. While we continue to source and review high-quality investment opportunities, we remain highly selective deploying capital only into attractive risk adjusted return opportunities that meet both our near-term and long-term investment spread requirements. Of our $2 billion initial investment volume forecast, approximately half is expected to come in the form of development financing, the vast majority of which is already identified. To reiterate, our favorable return profile in 2024 carries very little execution risk from an investment standpoint, allowing us the flexibility to remain patient, disciplined and opportunistic from a capital deployment standpoint. That said, as we demonstrated during the height of the pandemic, our platform affords us the opportunity to pivot quickly back into growth mode should market conditions change. While we intend to remain disciplined in our investments to ensure appropriate risk-adjusted returns for our investors, we continue to highlight why we are best positioned to capitalize on compelling opportunities over the long term. First, the opportunity to consolidate the fragmented net lease real estate market is vast. We estimate $14 trillion total addressable market in the U.S. and Europe across traditional net lease and emerging verticals like data centers and gaming. Second, we have firmly demonstrated our capabilities deploying capital, having invested $9 billion or more including public M&A in each of the last three years since exiting the pandemic year of 2020. Over this time, we have generated annualized AFFO per share growth of approximately 6% and we have provided a total operational return to stockholders of approximately 10% per year. Looking to 2024 and beyond, we are on track to achieve similar capital deployment and AFFO per share growth objectives this year. We are particularly energized by the prospect to participate meaningfully in verticals like data centers and gaming, where we are seeing opportunities to earn healthy initial yields with attractive contractual rent escalators. Third, the Spirit merger deepens our ability to access capital markets through increased trading volume in our publicly-listed stock, which has averaged more than $400 million of daily trading volume since the Spirit transaction was announced. This places us in the top 150 of S&P 500 companies and is more than 7x the net lease peer average over the same timeframe, leaving us even better situated to fund our business in a highly efficient and non-disruptive manner through our ATM equity program. Fourth, our real estate portfolio is becoming increasingly diversified over time and consists of properties leased to relationship clients representing some of the world's leading companies in their respective industries. Diversified exposure to these clients reinforces the stability of our platform and accordingly are growing monthly dividend payments. Finally, the power of our platform is a crucial differentiator as we leverage our expertise across ownership of over 15,400 properties globally, inclusive of the Spirit portfolio. Our experience managing over 5,900 lease outcomes since 1996 provides learnings that feed into analytic AI tools that provide actionable insights, enabling us to more accurately identify acquisition opportunities and to maximize the value of our existing holdings. Continuing with our key operational results from the fourth quarter, investment volume of approximately $2.7 billion was allocated to high-quality investments at a weighted average cash yield of approximately 7.6%. We completed $1.1 billion of total investment volume internationally at a weighted average cash yield of 7.8%. Investments were made across 119 distinct transactions, including 29 sale leaseback transactions equating to $884 million of volume. Our full year investment activity was $9.5 billion, of which 35% was derived internationally, serving as a testament to the value of our investment platform’s global footprint. Included in fourth quarter volume was a loan we made to ASDA stores in the UK at a 10.9% yield. The loan is backed by ownership interests and properties containing grocery stores and supermarkets and was extended as part of a sale leaseback transaction with ASDA. In addition, fourth quarter volume included our previously announced $650 million of preferred equity investment in the Bellagio JV with Blackstone, which earns an 8.1% yield. Similar to the loan investment in ASDA, the Bellagio preferred equity investment was paired with investment in high-quality real estate. For both investments, our ability to offer a broadened suite of capital solutions to clients granted us access to high-quality net lease real estate investments at superior risk adjusted returns than we could have otherwise achieved. These transactions serve as templates for future sale leaseback transactions. Also in the fourth quarter, we made our initial investment in a data center development JV with Digital Realty. The initial $200 million investment represents an 80% equity investment in the venture and is expected to generate a 6.9% initial cash yield, 2% annual rent escalators and a long-term triple-net lease with an S&P 100 investment grade client upon completion. Turning to portfolio operations, same-store rent grew 2.6% in the fourth quarter and 1.9% for the year, benefiting in part from lower net bad debt expense compared to the prior year. On a normalized basis, our contractual rent growth approximates 1.5% on an annual basis based on the current composition of our portfolio. This amount is up over 50 basis points from just five years ago and is a result of an intentional push by our team to generate enhanced organic growth. We remain committed to walking this growth rate higher over time through our deliberate underwriting strategy. Our diligent asset management efforts led to a recapture rate of 103.6% during the quarter and 104.1% for the year excluding the impact of the Cineworld bankruptcy. At year-end, occupancy was 98.6%, a 20 basis point decline from the prior quarter as a result of expected client move outs. I will now turn it over to Jonathan who will add further color to the quarter.

Sumit Roy :

Thank you, Jonathan. Before concluding, I would like to extend my immense gratitude to Ron Merriman for his valued service to Realty Income on our Board of Directors the past 19 years. Ron's leadership, guidance and mentorship have been invaluable and we all owe him our sincere thanks. I would also like to extend a warm welcome to Jeff Jacobson, who will be joining our Board. I'm thrilled for all of us at Realty Income to benefit from Jeff's perspective as a former CEO of one of the world's premier global real estate asset management firms, LaSalle Investment Management and in his current role as the Chairman of the Board of Cadillac Fairview Corporation. In conclusion, our results in 2023 underscore the multiple avenues of growth at our disposal in the global commercial real estate industry, including through one-off and portfolio acquisitions, multiple asset types, corporate sale leasebacks, development and joint venture partnerships and via public M&A opportunities. The depth of our platform, team and relationships enable us to leverage some or all of these sourcing avenues concurrently as opportunities arise. In 2023, we completed five transactions greater than $500 million in size and two of which were greater than $1 billion excluding the Spirit merger. These are transactions that Realty Income was uniquely positioned to execute given our size, scale and access to capital globally. These distinct competitive advantages support us in serving as real estate partner to the world's leading companies at an unparalleled scale. Moreover, we believe that serving as capital provider to a diverse spectrum of clients, who are leaders in their respective industries, furthers our core mission to deliver dependable monthly dividends that grow over time. We will now open it up for questions.

Michael Goldsmith:

Good afternoon. Thanks a lot for taking my question. First question is just on the acquisition guidance. You're starting the year with $2 billion of acquisitions. It sounds like you have visibility into half of them. Really like the execution risk for the year is only for $1 billion. What has to change in order for that number to kind of move higher through the year? Is it interest rates? Is it opportunities that come to you? Is it your ability to use to do deals kind of like what you've done with the Bellagio with preferred equity or with the loan with ASDA to get it done? Like, how should we think about the potential for upside for that number and that number moving higher through the year?

Michael Goldsmith:

No. That's helpful, Sumit. And then if we think about -- as my follow-up question, not to be -- we still have a lot to get through with '24. So this question isn't necessarily specific to '25, but just like the philosophy of if the environment stays kind of in a similar-ish range than where it is right now, where you just there isn't a lot of deals getting done. The transaction market remains kind of murky, you've driven. You've locked in growth for '24 through an acquisition. How would you think about -- how would you think about navigating through a multi -- a potentially multi-year kind of murky environment? Yes, exactly. How do you plan on navigating through a multi-year murky environment, if that was the case?

Operator:

And our next question comes from Joshua Dennerlein with BOA Merrill Lynch.

Jonathan Pong:

Josh, this is Jonathan. One way to think about it because the answer is really going to vary depending on the lease. But if we're doing a development takeout, obviously, we put the funds down when the project is done, we get those assets and the rent starts and there's really no lag. If it's a development build-to-suit we're funding along the way. A little bit more nuance associated with that, where you're not quite getting the economics that we are entitled to as we put this funding out. However, from an accounting standpoint, the way that it flows through to the income statement is through essentially our cost of short-term debt. And so from a modeling perspective, the most clean way to do it, in my view, would be to just assume when you see us developing and deploying capital, that's when the yield begins because in most cases, that's going to be the case.

Joshua Dennerlein:

And I appreciate all that color. Maybe one more on development. I guess just how do we think about development as kind of like when you look across like your appetite to acquire new assets, like how do you think about like development? Is this something you're going to lean into more? There are better yields on developments versus just straight-up acquisitions. Just kind of curious.

Joshua Dennerlein:

Got it. And if I can sneak one more in. Sorry about that. Does your -- I know your guide is only $2 billion, but when you think about your broader pipeline, are there a lot of portfolio deals out there? Like bigger transactions out there? I know they take a while to close. Just kind of curious.

Operator:

And our next question comes from Nate Crossett with BNP.

Sumit Roy:

Hi, Nate. So I'm not going to start giving you cap rates on assets that we have closed in the first quarter. Suffice it to say that there have been transactions that we have closed on in the first quarter. It is reflective of some of the comments that we've made. There has been movement in cap rates. You'll see that when we report our first quarter numbers, but the movement in cap rates is not as widespread as we would like to see. It's not reflective of the changes that have occurred in the cost of capital side. So -- but yes, our flow business is ongoing. And we are being a lot more selective about making sure that our spreads are not being compromised just to create volume. And we have the advantage of coming into this year with a business plan that allows us to do that. With regards to occupancy, we have mentioned that it's going to be above 98%. A lot of these were expected, at lease expiration, these were expected vacancies. And we have -- we generally tend to sort of guide to this low 98% occupancy. Part of what makes our business slightly different from perhaps what you see with the other -- with some of our other peers is we actually like to hold on to some of our vacant assets given the ability to reposition these assets and create more economic value. I know that for a long time over the last six quarters, we were hovering around that 99%, which was unusual for us. But we are very comfortable if we believe that we can generate more economic value which supersedes the holding cost of some of these vacant assets by repositioning it, et cetera, we are very comfortable doing so. So the way to think about how we run our business is the normalized level of occupancy should be in this 98.5% ZIP code. This 1.5% is vacancy that we need to be able to execute on the plans that I’ve just laid out.

Brad Heffern:

Sumit, can you talk about the relative attractiveness of Europe right now versus the U.S.? It seems like you don't think anything is all that attractive overall, but at least in Europe, you have the better cost of debt?

Brad Heffern:

And then, Jonathan, I thought there might be more of a reduction in G&A as a percent of revenue this year than what the guidance suggested just given the additional revenue from Spirit was coming with not much additional G&A. So is there anything else going on that's keeping that figure from declining more?

Operator:

And our next question today comes from Haendel St. Juste with Mizuho.

Sumit Roy:

Haendel, thank you for your question. So a couple of points. I've heard a few comments around free cash flow. We are going to generate north of $800 million in free cash flow. If you think about our $2 billion of acquisition guidance, this represents 40% of the total volume. And on a leverage-neutral basis, this represents 60% of the total capital. So to be able to generate 200 basis points on free cash flow is actually you can do deals at 2% cap rates and still generate 200 basis points. But obviously, that's not how we think about our business. And by the way, the 200 basis points that we were able to achieve, I would say now about 3 years ago, 2.5 years ago, that was in an environment where our cost of capital was massively different than what it is today. And being able to generate 200 basis points was not that difficult. On average, from the time we've been tracking spreads, we have always said that the average spread has been 150 basis points. We also want to make it clear that there will be times like last year and the fourth quarter of last year and all of last year where we did 120 basis points, where when you build up a pipeline with a certain backdrop with regards to your cost of capital and the cap rates that you're entering into a contract in. And by the time you close, if your cost of capital environment changes and you're permanently financing it at that point in time, that's precisely what happened all of last year. We had a very robust pipeline and we were entering into contracts with the expectation of not necessarily 200 basis points, but certainly 150 basis points and sometimes well north of that. But by the time we actually permanently finance the transaction, the cost of capital environment was different. And just to make another point, if you actually look at the cost of permanent financing that we ultimately effectuated in 2023, what we locked in, in terms of spread was closer to 140 basis points. It was 136 basis points, I think. So much closer to the average that we have since we've been tracking this particular metric. But I just want to make sure that if the expectation is that in any transaction that we enter into, we're going to try to lock in 200 basis points. That's not how we think about pursuing transactions. We also use a bar build strategy where there might be transactions that are precisely the right investment for us. And if it only creates 100 basis points, we believe that on a risk-adjusted return basis, that is the right profile for that investment, we are comfortable doing that particular investment. But then we will always try to balance it with transactions that have a 200 basis point profile. But that volatility or that spectrum of spreads in this volatile environment is very difficult to predict, which is why we are -- we've come out with the plan that we have, which -- even in this environment, we can still deliver north of 10% without having to rely on the acquisition market.

Sumit Roy:

The integration is going very well. We've closed on the transaction on the 23. We are still very excited about the portfolio we've absorbed. As part of this transaction, we've hired eight people from Spirit on a permanent basis. And we have seven people on a temporary basis that are helping us through the integration process over the next six to nine months. In terms of the actual portfolio itself, we have not been surprised by -- now that we control this asset and the portfolio of clients that we are exposed to, we have not been negatively surprised on any front. There have been some positive surprises in terms of resolutions to certain clients where the outcome has been slightly more positive. But I will caution and say that it is still too early to tell. And that is part of the reason why we were very conservative in our underwriting. And what we shared with the market, we felt very comfortable in terms of delivering. But we've also said that it was conservative, and there happens to be upside, which we hope plays out. And if that's the case, we will share that information with you down the road.

Sumit Roy:

What we can share with you, Haendel, is the range that we have shared with you accommodates for any level of credit loss that the Spirit portfolio and/or our portfolio would generate.

Spenser Allaway:

Given the dearth of deal volume right now, especially compared to recent years, what is the highest and best use of time right now? So I know you have a massive portfolio but outside of routine asset management, I'm just curious at this quiet period, if you will, is a good opportunity to underwrite new geographies or property types?

Spenser Allaway:

Okay. Great. And do you guys have a target date for when you'd like to get through the kind of the Spirit portfolio in terms of pegging some potential disposition candidates and things of that nature? Do you guys have a target date when you want to get to the portfolio?

Operator:

Our next question comes from Smedes Rose with Citi.

Sumit Roy:

Sure. Smedes, your intuition is accurate. In the retail space here in the U.S., when you start to talk to investment-grade clients on the retail side, on retail boxes, that enter into long-term leases, et cetera, it is very difficult to get them to give you what one would consider to be market growth rates. And so it's the ones that tend to be BBB, BBB minus and sub-investment grade. Those are the clients that you can help drive internal growth. But let me be very clear that the 50 basis points of increase was not by going lower in the credit cycle on the retail side, but was expanding into other asset types which have a different growth profile than what retail assets do. So what were some of the steps that we took? We obviously went into industrial in a big way. Industrials tend to have, even with investment-grade clients. And at one point, I think virtually all of our clients were investment grade on the industrial side. That's no longer the case as we've matured as a company. But they too tended to give 2%, 2.5% growth. So that was one of the drivers of the change in the growth profile. The second was going into new asset types like data centers, like gaming. Those do also tend to have higher internal growth profile. And the biggest driver of all of this is really the international business where we do find a lot of growth even on the retail side with investment-grade clients. So you might recall that we had -- our first transaction was a $0.5 billion sale leaseback with one of the largest grocers in the UK, and that had a growth profile that far superseded the profile that one can get here in the U.S. So it's a combination of all of these factors, different asset types, international, which has allowed us to grow our internal growth from approximately 1% to approximately 1.5%, and that will continue to be a major focus of our business is to how do we take this profile and grow it by another 50 basis points, perhaps more so that this reliance on external acquisitions continues to be minimized.

Sumit Roy:

Yes. I think one of our comments was that you should expect to see a higher number than the $116 million that we accomplished in 2023. As to the actual number, we will be in a position to share that with you during our first quarter earnings call in May.

Eric Borden:

I'm just curious if you could talk about the potential opportunities you're seeing today as it relates to the credit lending platform. And what are the different types of tenant credit in industries that you're targeting today?

Eric Borden:

That's helpful. And then I just wanted to ask one question on the free cash flow. On the $800 million plus of expected free cash flow for 2024, does that guidance include the potential income generated from holding cash in a money market account?

Operator:

And our next question today comes from Linda Tsai with Jefferies.

Jonathan Pong:

Linda, so on the low end at 413, it's a fairly draconian scenario. You almost have to believe that short-term rates are going to continue to push higher, which we have -- we don't have a crystal ball, but crazy things have happened. It also assumes that there's essentially a shutdown of acquisitions and so you can assume that the $2 billion is something significantly less than that. From the credit loss perspective, I think that's also something that we put in a very, very conservative number that we don't think is likely at all of happening, but it is something that is included from a bad debt perspective. There's also some certain cost elements, things like leasing commissions, things like property expenses that are not reimbursed in G&A. You always want to plan for some negative surprises there. And then in terms of the high end, it contemplates a scenario where the macro environment and the cost of capital environment improves, and we are able to do quite a bit more in terms of investment volume. It also suggests that spreads stay in that 150 and up range. Bad debt expense is something that is closer aligned to where we historically have been as a company, which has been close to 40 basis points of rent when you include the pandemic. Outside of the pandemic, we're probably closer to 25 basis points. And it probably would assume a better outcome for some identified credits that we have in the combined portfolio that naturally, we took a very, very draconian stance on as we're building up the base case for guidance. And it also assumes that the mix of our short-term rates, whether it's in euro commercial paper, whether it's in sterling denominated revolver borrowings or whether it's in USCP, which tends to comprise of every exposure, it assumes that the mix is tilted maybe a little bit more towards the European side. Right now, indicative ECP rates would be in the low 4% range. U.S. indicative rates would be in the mid-5s and then you have sterling at 6%, not on the CP side, but on the revolver side. So these are all the variables that have to hit on the low and high end in order for us to reach those scenarios.

Sumit Roy:

Well, we don't have -- it's unidentified on the non-development side, which was $1.2 billion. Some of it is identified, but a lot of it is discussions that we’re having both here in the U.S. and in the international markets. And if you look at what we did last year, 35% of everything we did was in the international market, 65% was here locally. That could change because it is such a small number. Based on the discussions today, there could be a lot more on the international side than here, but it’s too early to tell, Linda. If you look at the history, it’s largely been in that 30% to 40% international and 70% to 60%, 60% to 70% U.S. And that’s what we would expect under normalized situation.

Alec Feygin:

So I have one on income taxes. So for the full year, the year-over-year increase in 2023 was about 15%. And the midpoint of guidance is implying about a 35% year-over-year increase in 2024. Can you provide some more color on what is driving that large increase in income taxes?

Operator:

Thank you. This concludes the question-and-answer session. I'd like to turn the conference back over to Sumit Roy for any closing remarks.

Operator:

Thank you, sir. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.

Operator:

Good day, and welcome to the Realty Income Third Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Tyler Grant, Investor Relations. Please go ahead.

Sumit Roy:

Thank you, Tyler, and welcome, everyone. We are proud of the solid execution we've delivered on our strategy in the third quarter and maintain a favorable outlook for our business. Our One Team at Realty Income continues to work diligently toward delivering strong results to our clients and stakeholders. The resilience, tenacity and range of our One Team has been impressive, culminating in the signing of the merger agreement with Spirit Realty, which we announced last week. This followed a quarter in which we invested $2 billion in high-quality acquisitions, raised over $2 billion in long-term and permanent capital, re-leased 284 properties at a 106.9% recapture rate, supporting an increase to our 2023 AFFO per share guidance range, which now stands at $3.98 to $4.01. I would like to thank our One Team for their leadership efforts and dedication on behalf of all of whom we serve. Our third quarter results demonstrate the consistency of our earnings profile through varying economic environments and the attractive internal growth of our high-quality real estate portfolio, while highlighting the capabilities of our One Team and platform. Notwithstanding the challenging capital markets backdrop, AFFO per share grew 4.1% from last year to $1.02 per share. Combined with our dividend, we are pleased to have delivered an annualized total operational return up approximately 9%. As announced last week, we entered into a definitive merger agreement with Spirit Realty in an all-stock transaction valued at $9.3 billion. The deal is expected to be immediately accretive to AFFO per share on a leverage-neutral basis without requiring any external capital to fund the merger. The accretion from the transaction once completed creates the foundation for AFFO per share growth in the coming year and puts us in a unique situation where we've had good visibility to an attractive forward earnings growth rate potential two months prior to the start of the new year. Given that that of course remains a fair amount of uncertainty in the capital markets environment, the accretion from the Spirit transaction is made more compelling given the lack of capital markets risk we are absorbing to effectuate this outcome. In fact, we believe our conservative underwriting of the portfolio provides for meaningful upside potential to our headline accretion expectations. We believe Spirit's portfolio is complementary to ours and we help to further diversify our industry, client and property concentrations. We expect our increased size diversification, trading liquidity and overall presence in the market will enable us to access the capital markets even more efficiently, while also improving our ability to digest larger deals without creating concentration issues within our portfolio. We are excited about the attractive cost basis, earnings accretion and enhanced ability to buy in bulk that will be effectuated through this transaction. I would like to express great appreciation for the Spirit and Realty Income teams, given their hard work and collaboration, which enabled us to successfully progress the transaction. In the third quarter, we invested approximately $2 billion in high-quality real estate investments, leased to a diversified group of clients at a 6.9% initial cash yield. $1.4 billion of this total was derived from the international business at a 6.9% yield. Investments in the quarter were made across 132 discrete transactions. I would highlight that our volume include 34 sale-leaseback transactions for $1.3 billion of volume and six deals that were greater than $50 million in size. This demonstrates that both the corporate sale leaseback and larger transaction initiatives remained advantageous for us during the quarter. A testament to our ability to source, negotiate and close on transactions that are less trafficked amongst other net lease companies both public and private. Our investment activity year-to-date is $6.8 billion, with investments in international markets representing approximately one-third of this total. Investment spreads realized during the quarter were over 100 basis points when calculating our WACC on a leverage-neutral basis and using the cost of equity and debt actually executed during the quarter. This is a decline of 30 basis points from last quarter, which is a result of the significant increase in the cost of capital – felt across the capital markets in a short amount of time. To put it into context, the average 10-year yield increased by approximately 55 basis points from Q2 to Q3. Following the sharp changes in the public debt and equity markets during the quarter, the private market cap rates have not adequately adjusted. Accordingly, we believe that it is particularly important to be disciplined and patient allocators of capital and ensuring that we are appropriately compensated for the capital we provide. We are confident in our ability to source and allocate capital and scale and with efficiency and we are deeply focused on delivering attractive risk-adjusted returns to our shareholders. Given the level of transactions completed in the first three quarters of the year, combined with an outlook for narrowed investment spreads, we are modestly increasing our investment guidance to approximately $9 billion for 2023, which excludes the Spirit transaction that is anticipated to close in 2024. This increased target reflects deals that we already had in the closing pipeline prior to the recent surge in our cost of capital. With the sharp recent changes in cost of capital, we remain highly selective in pursuing new investment opportunities and will assertively hold the line on entering into any new transactions unless we can be assured of generating ample spreads to our cost of capital. From an operating perspective, our portfolio continues to be healthy and performed well. At the end of the quarter occupancy was 98.8%. This is down slightly from last quarter's historically high occupancy level of 99% and it is a result of expected client move-outs. Rent recapture rates across 284 new and renewed leases was 106.9%. This outcome is better than our historical average of 102.3% and results in year-to-date rent recapture of 104.3% on 661 new and renewed leases. I would highlight that since 1996 we have managed over 5,300 lease expirations. And the improving recapture rates in recent years is a testament to our asset management expertise and the unparalleled historical data we have at our disposal. This competitive advantage enhances the quality of our asset management decisions through unique insights gleaned from our proprietary data analytics platform. Our credit watchlist represents 2.5% of our annualized base rent as of the end of the quarter. This is a decline of 120 basis points from the second quarter and is primarily the result of removing Cineworld from the watch list following our amendment, which became effective on October 1. We recovered 60% of prior base rent on our 41 locations without any capital contributions. Importantly we also negotiated the ability to recover rent through percentage rent agreements which could give us the ability to recapture a total of 70% of prior rent based on our internal estimates of performance. Finally with the reinvestment of certain asset sales we expect to recapture a total of approximately 85% of prior rent. Same-store rent grew at an elevated rate of 2.2%. We continue to generate increasing higher average rent escalators within the portfolio due to our commitment to investing in leases with stronger rent escalators, particularly, in international markets where we have a relatively outsized number of leases with uncapped inflation escalators. The better-than-expected same-store rent growth in the quarter has enabled us to raise our full year guidance to approximately 1.5%. With that I would like to turn the call over to Jonathan.

Sumit Roy :

Thank you, Jonathan. In conclusion as further demonstrated in the quarter, Realty Income has a well-established growth-focused business model that provides stable and predictable cash flows to fund the payout of our monthly dividend. We believe the platform we have created, evolved and refined is not easily replicable. We have a long history of prudently allocating capital that is complemented by our industry-leading capital leasing abilities that we used to invest across properties that fall within our well-defined investment criteria. The results of our efforts have produced our net lease portfolio that consists of more than 13,200 properties diversified across property types industries, geographies and clients. We're excited for the future of our business. Our anticipated acquisition of Spirit provides a solid building block for growth, as we head into 2024 and our existing portfolio continues to perform well. As such we find ourselves in a favorable position to produce high single or low double-digit operational returns, while offering the same stability that has defined this platform for decades. At this time we can open it up for questions. Operator?

Joshua Dennerlein:

Yeah. Hey, guys. Thanks for the time. Maybe just going back to some of the opening remarks on the re-leasing the spreads. Just curious what drove that historically better than or the re-leasing spread is better than the historical run rate? And then just how should we think about that going forward?

Joshua Dennerlein:

Appreciate that color. Maybe just stepping back, how do you think about like your strategy? Is it something you want to lean into or you can try to get assets that get better internal growth going forward? Just curious.

Joshua Dennerlein:

Got it. Thanks for the time.

Operator:

The next question comes from Nate Crossett with BNP. Please go ahead.

Sumit Roy:

Yes, I'm not going to speak to Spirit because it's not a transaction that we've closed on yet. So, I'll speak very much to the pipeline that we have made. And as you can tell we obviously have a very healthy pipeline. We just increased the acquisitions to approximately $9 billion, which is an increase from where we were at the end of the third quarter. And again these are very similar to what we showed you in the third quarter. If you look at some of the largest transactions we did they were with grocery operators in the UK, it was ASDA and Morrisons, both names that we like and we're able to get these very large transactions as I believe was close to a $900 million transaction. Morrisons slightly smaller closer to $170 million sale-leaseback. Both of these were sale-leasebacks and done purely on a negotiated basis. That type of transaction is what you're going to see when we get those over the finish line in the fourth quarter. Those are the types of transactions that we have in our pipeline today. Some of the comments I've made around cap rates moving but not moving commensurate with our cost of capital movement remains true. The other piece that I will overlay is the fact that some of these transactions that we have in our pipeline were created six to nine months ago. And so people may have questions, how come you were only able to get a 6.9% cash cap rate which by the way if you look at it on a straight-line basis it's almost 8.1% and just given the inherent growth in these leases and to make it equivalent to some of the other data that is shown by some of our peers. Has the growth profile that we are targeting but potentially is not reflective? Which was obviously shown in the spreads that we were able to recapture 105 basis points, which is about 30 basis points inside of what we did in the second quarter. And that goes to the point I'm making is that cap rates though adjusting are adjusting much, much more slowly than our cost of capital. And so this is a time where going forward we are going to be hyper selective. But the makeup of the fourth quarter will be very similar. You should see a movement in cap rates in the right direction, i.e. higher cap rates and more reflective of when these transactions were essentially came on to the pipeline which started to reflect the more rapid movement in our cost of capital. So, that's what you should see. It's obviously fairly healthy. But thankfully we've raised a fair amount of capital through the ATM et cetera already.

Sumit Roy:

Off the top of my head, outside of the Bellagio transaction, I don't believe we have a JV structure in the pipeline. Similar to the way we structured the Bellagio transaction, we do tend to have JVs with developers where they hold on to a small stake in the development while developing the assets, et cetera, but we generally tend to be the takeout on the back end. But I don't think Nate and correct me if I'm wrong, that you meant those types of JVs. You were talking about more permanent JV structures like the one that we've entered into with Bellagio. I don't believe we have one like that. There is one -- there are products out there by the way, that do lend themselves to this JV structure. There are asset classes that require a tremendous amount of capital, where we will be more than forthcoming about entering into a JV just given the sheer amount of capital required. But those are going to be very specific to a very specific asset type, and I would put casinos in that bucket and perhaps some other asset types that lends itself to this. But as of right now, we don't have other JVs that we've entered into.

Sumit Roy:

Yes. Data centers is certainly an asset type that will require based on this influx of AI, et cetera. It's an asset type that will have a massive requirement in terms of capital. I could see, if we choose to go into that area, that's an area that JV-ing with an operator would make perfect sense.

Operator:

The next question comes from Haendel St. Juste with Mizuho. Please go ahead.

Sumit Roy:

Sure. So you tell me, if buying Asda and Morrisons is diluting the quality of the asset pool at realty income handle. I think we've tried to answer this question before that, we do not target investment grade. What we are looking for are assets that we believe, are priced and have a profile of generating a return that is on a risk-adjusted basis, the right return profile. That is how we think about the world. And the fact that, we are able to enter into these negotiated transactions, with some of the best operators in UK. I think is something we are very comfortable doing. And the fact that they don't have a an investment-grade rating is not an issue for us given how we were able to price it, the fact that these are top quartile assets that we were able to get and have inherent growth profiles that will continue to pay dividend in years to come. So for us, it's looking at the entire investment in totality. To determine how much risk are we really taking on? What is the operator? Where are they in terms of positioning? How are they positioned within that particular sector? What is the actual real estate that we are getting? What is the performance of the four wall? I think those are the things that we focus on. And the fact that they turn out to be investment grade or not, is almost a byproduct of that analysis rather than something that we target. And I think I've said this before but thank you for asking the question. I'll keep repeating this. I believe we had about 20% of our investments this quarter that was investment grade. But again that could be in some quarters 40%, in some quarters it could even be less than that. And we will, of course, continue to share that information with you but a portfolio that on a straight-line basis generates north of 8% yield, I think is something that we are very proud of Haendel.

Jonathan Pong:

No, nothing that you should expect for the fourth quarter, pretty much all of the reserve reversals that were significant have been taken as of the third quarter. You may have seen in our same-store rent growth slide in the supplement that we saw a bit of a bump in health and fitness and that was really related to one more regional client that we reserved or refers to reserve off of. As we look forward into 2024, nothing lumpy from that standpoint that would be on the radar as we think about just bad debt expense in general, modeling out the following year we always have some semblance of an unidentified reserve that we put in there just given our history. And we're obviously very conservative on that front. And I think we've said this before, but we've historically realized about a 25 basis point credit loss in the portfolio at any given year.

Operator:

The next question comes from Michael Goldsmith with UBS. Please go ahead.

Sumit Roy:

That's a great question, Michael. Look, I think if you look at where we are today and you look a year ahead in 2024, we believe that without having to rely on the equity capital markets, we'll be able to deliver approximately 4% to 5% AFFO per share growth. And that is a pretty powerful statement to make and that obviously assumes that the Spirit transaction closes either in the first month, either in January or in February. And with just the free cash flow that we are going to generate pro forma, which is going to be right around $800 million, some of the headwinds that we are going to experience in the refinancing, absorbing all of that to be able to sit here today and say that we could deliver that growth without having to raise $1 of equity. I think it's a very good place to be. And so when I said about being hyper selective, what has happened more recently is that the cost of capital has moved so dramatically, so quickly that the cap rates haven't had a chance to sort of adjust. And so we find ourselves in this – like I said in the second quarter, we had about 135 basis points of spread. And then in this quarter we have 105 basis points of spread. It's a tough environment to be in when we are entering into transactions six months, seven months in advance of closing a transaction and the cap rate environment – I mean the cost of capital environment changes and when you are permanently financing it, it sort of eats into what you had originally underwritten. That is what I meant when I said, we want to be hyper selective because we want to help drive the cap rates out to help accommodate for these unforeseen movements in the cost of capital. And so clearly the cap rates haven't adjusted as much and that's what I said that's what I mean when I say we want to be hyper selective. We want to wait for the cap rates to adjust to make sure that we can get the spreads that we have historically achieved. That was really the color behind that comment.

Sumit Roy:

Sure. That's a great follow-on question, Michael. So for us we are looking at a particular real estate through the lens of maximizing revenue. And the revenue maximization strategy by its very definition will mean that we are more than comfortable holding on to certain assets that are vacant for longer. If we have concluded that there is a use for that particular location and that it's not the very first client that comes in and gives us a rent proposal. But the kind of client that we are targeting and the client and a profile of rent that we are targeting that takes time. And so we are more than comfortable taking a little bit of a hit on the occupancy side to make sure that we get the best revenue optimization for that given location. And that's what you're going to see. That's the reason why even though we've been running the portfolio at 99% for the last three quarters, we have always maintained that our occupancy is going to be up slightly above 98%. Because that we believe is a natural state of occupancy for the business model that we are trying to run here. And look, where it makes sense, we will continue to sell assets vacant, if we believe that that is the most economically desirable outcome that holding on to those assets does have a cost and that just continues to drag into the return profile. So selling assets vacant is also a strategy that we will continue to implement. So I just don't want you to start thinking now in terms of, hey, there will be no more vacant asset sales. All of those options are available to us and we will pursue the one that generates the best revenue outcome.

Brad Heffern:

Hi, everybody. Sumit, the European deal volume was a record this quarter after a period of time where it seemed like the region was maybe a bit slower to reflect the new reality. I'm wondering if Europe is back to competing for capital on sort of a heads-up basis with the US or if this was just a one-off where you happen to have two large deals get over the finish line at the same time?

Brad Heffern:

Okay. Got it. And then can you talk broadly about the attractiveness of the different capital sources. The $750 million in unsettled equity isn't quite as much as I would have thought given you have the $3-plus billion to close by the end of the year. But I'm wondering if you're shifting to maybe a greater debt balance given where the relative costs of capital are.

Brad Heffern:

Great. Thank you.

Eric Wolfe:

Hey. Thanks. With regard to the Cineworld agreement, can you talk about whether that helped your guidance relative to what you were forecasting before and remind us how much income you booked on Cineworld prior to October 1, just so we can understand the incremental impact for next year?

Eric Wolfe :

And then in the second quarter so I guess not the third quarter but the second quarter you saw around $0.5 billion increase in financing receivables within other assets. Is that more a reflection of the type of deals that were done in that quarter or rents were on those deals relative to the market? Just wondering whether we should expect a similar jump in the third quarter and sort of the quarters going forward?

Eric Wolfe:

Okay. Right. So any type of sale leaseback would create sort of more outsized impact on financing receivables versus another type of deal. I'm just understanding that correctly?

Eric Wolfe:

Okay. All right. Thank you.

Wes Golladay:

Hey, everyone. I'm just curious what are the clients saying right now? I assume, you're still the cheapest form of capital for them. Are they just looking to pause and to see where rates settle?

Wes Golladay:

Okay. Thanks for the time.

Operator:

The next question comes from Ron Kamdem with Morgan Stanley. Please go ahead.

Sumit Roy:

Ron, so the Cineworld will not have an impact on the four-wall coverage, because we don't get store-specific on a quarter-by-quarter basis. That number that we share with you our own assets where we do have a fair amount of visibility with regards to four-wall coverage. So when we have assets that have a point in time disclosure, we generally don't try to include that, so no, it won't have an impact. With regards to what we are seeing that 2.8 to 2.9 has been a fairly consistent number over the last call it three quarters. And it was a bit surprising all of last year because the cost of capital has started moving and we were expecting there to be a little bit more noise and what we ended up learning through the processes even the reserves that we had created we had to sort of unwind to reflect that the clients were doing better than what we had expected. And that theme has sort of played out. There are certainly some bankruptcies in the casual dining side, on the franchisee side that they are such a small portion of our overall portfolio. I am talking single digit basis points that they don’t have much of an impact on the overall portfolio, where by and large given the essential retail that we've targeted, those clients are doing well. Sorry?

Sumit Roy:

No, that was it, Ron.

Sumit Roy:

Yes, it does. And I think it does. So that's definitely going to be a headwind and the way we are thinking about it is forecasting out what the forward curve looks like today, what we think we'll be able to refinance that $1.8 billion of debt and what's the negative impact running through the income statement and therefore to the AFFO per share. All of that's been taken into account. And the big caveat here is making sure that the Spirit transaction does close in January, February and that our portfolio as we've shown to you in the third quarter continues to perform the way we expected to. And just those two pieces, I do think will allow us to get to that 4% to 5% without having to really raise $1 of equity I keep going back to that because that is a very important component of 2024.

Sumit Roy:

Absolutely.

Linda Tsai :

Hi. What are your plans around assuming Spirit's term loan? And how is lender reception been?

Linda Tsai :

And then in terms of the Spirit acquisition, what's the impact on Realty's credit ratings and how do fixed income investors or review [ph] view this transaction?

Linda Tsai :

Just one last one. How do you think about portfolio discounts broadly like the EG group deal? Do you think they'll persist in 2024 and beyond?

Linda Tsai :

Thanks for the color.

Operator:

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

Operator:

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

Operator:

Good afternoon, and welcome to the Realty Income Second Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Steve Bakke, Vice President of Capital Markets and Investor Relations. Please go ahead.

Sumit Roy:

Thank you, Steve. Welcome, everyone. We successfully executed on our strategy in the second quarter and continue to see momentum across the business. I would like to sincerely thank our One Team whose focus and commitment to continue to propel our business forward, serving all our clients and stakeholders. We believe the strength of our platform and quality of our real estate portfolio were evident in the quarter’s results. Despite a challenging interest rate environment, AFFO per share grew 3.1% from last year to $1 per share. Combined with our dividend, we are pleased to have delivered a total operational return of over 8% on a trailing 12-month basis. Delivering stable and consistent growth is foundational to our mission at Realty Income. Underlying this growth, our team continues to source and invest in high-quality properties at accretive spreads to our cost of capital while partnering with our clients who are leaders in nondiscretionary, low-price point and service-oriented industries. Partnering with industry leaders across over 13,000 properties in a diversified real estate portfolio offers us durability of cash flows that results in the predictable nature of our revenues, earnings and dividend payments. Our investment activities remain robust as we continue to demonstrate that size and scale are unique advantages in the sale-leaseback and portfolio transaction markets. In the second quarter, we closed on approximately $3.1 billion of high-quality real estate investments, which brings our year-to-date investment activity to over $4.7 billion. Cap rates in our acquisitions appear to have stabilized after a meaningful adjustment period to a higher interest rate environment. Though in select situations, we continue to find unique opportunities to source and close on larger transactions where our relationships, platform and access to capital allow us to take advantage of more favorable terms. Our second quarter initial cash lease yield of 6.9% represents a 120 basis-point increase compared to the second quarter of 2022 and resulted in a realized investment spread of approximately 133 basis points when calculating our WACC on a leverage-neutral basis using the cost of equity and debt raised in the quarter. In addition to closing our $1.5 billion U.S. convenience store acquisition from the EG Group, we remained active internationally during the second quarter, closing on $416 million of investments at an initial cash lease yield of 7.1%. This international activity includes the addition of a new geographic vertical in Ireland where we acquired two properties for $54 million at healthy cash yields. Given the transaction velocity we have achieved in the first half of the year, we are increasing our outlook for investments to over $7 billion for 2023. Year-to-date, we have acquired 15% of source investment volume compared to an average of 7% over the last five years. In today’s more constrained environment for capital, we have found the size and scale of our platform have become increasingly meaningful differentiators as we seek accretive growth opportunities. Shifting to operations, our portfolio continues to perform, and we ended the quarter with occupancy of 99%, the third consecutive quarter at that level. This matches our highest occupancy at the end of a reporting period in over 20 years. Additionally, our rent recapture rates increased from last quarter to 103.4% across 201 new and renewed leases, bringing the year-to-date recapture rate to 102.7% across 377 new or renewed leases executed in the period. As further testament to the stability of our portfolio and the leading clients with whom we partner, our client watch list declined from last quarter and now represent less than 4% of our annualized rental revenue. This is the lowest level in the last five years. Finally, our same-store rental revenue increased 2.0% in the quarter, a tangible result of our purposeful decision to seek investment opportunities with higher internal growth characteristics as well as the benefit of uncapped CPI-based rent escalators, present in nearly 30% of the leases in our growing international portfolio. Our efforts to increasingly pursue leases with meaningful contractual rent escalators has helped contribute to a portfolio with contractual rent growth at approximately 1.5% per annum as of the second quarter, or 2% annual growth on a levered basis. Before turning it over to Christie, I would like to recognize the tremendous value she has brought to Realty Income, first as a Board member, and then as Chief Financial Officer. Her leadership and counsel through a very active period for our company has left a lasting positive mark. As well, I would also like to congratulate Jonathan on his upcoming promotion to CFO. Christie?

Jonathan Pong:

Thank you, Christie. I would be remiss without acknowledging your many contributions to the Company and its stakeholders during your tenure. I’m grateful for your guidance, support and leadership, all of which have laid the foundation for excellence as our business continues to evolve. Over my 9-year, 10-year at Realty Income, we have experienced significant growth in new industry verticals, geographies and property types. However, we’ve continued to view a reliable growing dividend and a well-capitalized balance sheet as critical components of our business. To that end, we finished the second quarter with healthy leverage as measured by net debt to annualized pro forma adjusted EBITDA of 5.3 times and our fixed charge coverage ratio remains solid at 4.6 times. We are once again active issuers of equity capital via the ATM, raising approximately $2.2 billion in the aggregate in the second quarter, $651 million of unsettled forward equity remains outstanding as of today. As our platform has advanced and grown over time, our investment spread business has been supported by access to a wide range of products in the capital markets. Last month, we added another capital source to our inventory, raising €1.1 billion through our debut public offering of euro-denominated unsecured bonds. This dual tranche offering resulted in a weighted average tenure of 9 years and a weighted average annual yield to maturity of 5.08%. Establishing a presence in the euro unsecured bond market allowed us to diversify our fixed income investor base, and generate a natural hedge for yield denominated earnings and access of source of debt capital that was priced approximately 60 basis points inside of indicative U.S. dollar bond pricing at the time of execution. Proceeds from the offering effectively repaid short-term borrowings on a multicurrency revolver and commercial paper programs, which had a combined balance of $990 million at quarter end. Combined with $254 million of cash on hand at quarter end and the $650 million of forward equity previously mentioned, we believe we are well capitalized with significant liquidity heading into the third quarter. Finally, from an earnings outlook perspective, the midpoint of our 2023 AFFO per share guidance is unchanged, though we are narrowing the guidance range of $3.96 to $4.01, representing approximately 1.8% growth at the midpoint. With that, I would like to turn the call back over to Sumit.

Operator:

We will now begin the question-and-answer session. [Operator Instructions] And our first question will come from Nate Crossett of BNP Paribas. Please go ahead.

Sumit Roy:

So Nate, I’ll take your second question first, and then I’ll hand it off to Jonathan to talk about puts and takes with regards to the earnings guidance. With regards to the cap rate, we are assuming the cap rate to be within the ZIP code that we’ve announced in the second quarter and in the first quarter. That’s where we believe where the cap rates have settled down. Opportunistically, there are situations that we could enter into where we could drive those cap rates higher. But for modeling purposes, I would request that you keep it within these ZIP codes that we’ve announced in the first and second quarter. Jonathan?

Nate Crossett:

Okay. That’s helpful. Maybe just one on the debt rates are much lower in Europe. You did that recent bond deal. Can you just like talk about how much you could kind of theoretically raise over there to kind of take advantage of the better cost of capital? Are there any like hindrances like in terms of size?

Operator:

The next question comes from Greg McGinniss of Scotiabank.

Sumit Roy:

I guess, we have to post one of these large transactions per quarter. And I think we’ve done that. If you look at what we’ve done in the fourth quarter of last year, that’s when we closed on the gaming asset, which was $1.7 billion. You look at the large portfolio deal we did in the first quarter, it was a CIM transaction. That was circa $900 million. And in the second quarter, we’ve announced the $1.5 billion and closed the $1.5 billion EG Group transaction. And look, the reason why we are sharing all of this data is to help support what we are seeing develop in our pipeline and the conversations that we are having currently. Now, how much of that gets translated to close transactions, time will tell. But clearly, we are very optimistic. And that is one of the main drivers of why we have increased our guidance by another $1 billion in terms of acquisitions. So, we just feel like -- I wish our cost of capital was slightly better. But in terms of actual transactions, we feel like the pipeline is robust and it’s largely a function of what is happening in the debt capital market.

Sumit Roy:

Well, we think of ourselves as an investment company. And Greg, so where we invest on the capital stack is always available for debate within the four walls of Realty Income. And wherever we feel like we can quantify the risk and underwrite the benefits of doing a sale-leaseback versus doing a direct loan to one of our clients, we are going to go down the path of whichever yields the best risk-adjusted return. So, yes, we haven’t done one of those, but it is certainly up for discussion, and it’s one that we have been discussing with my colleagues here at Realty Income.

Brad Heffern:

Sumit, can you give your updated thoughts on how you feel about the theater business broadly right now? Obviously, AMC recently reported its best week, but then you have the strikes, which will theoretically start affecting things at some point and the release schedule isn’t back to normal. So, are you feeling worse at this point or better given the recent strength?

Brad Heffern:

Okay. I appreciate that. And then can you give your expectations for the Cineworld sites that were rejected and maybe talk through some of the opportunities with those, whether it’s just typical releasing or if there’s a development opportunity for any of them?

Operator:

The next question comes from Haendel St. Juste of Mizuho. Please go ahead.

Sumit Roy:

Sure. Thank you for that question, Haendel. So just to continue to reiterate the point, we are not targeting investment-grade. What we are targeting are opportunities that yield the best risk-adjusted return. If it so happens that it is an investment-grade client and so be it. But ultimately, it’s the economic profile of that investment that’s going to dictate as to whether or not we are going to invest. Today, truth be told, we are looking at some of these investment-grade opportunities and cannot pencil the risk-adjusted returns. We are finding far more value in areas where we’re looking at subinvestment-grade tenants who are willing to give us a return profile that is commensurate with the inherent risk in that particular opportunity. And that’s what’s driving the approximately 26% year-to-date investment-grade closings that we’ve done and is close to 18%, I think, for the second quarter. But that’s how we think about the world. And the other thing I’d just point out is just to make it equivalent because I have seen some of these cap rates being reported and there’s a bit of a mixed match. When we’re talking about a 6.9% cash lease yield, if you layer in the straight line, we’re talking about an additional 100 basis points. And I’ve seen certain reports that are sort of conflating these two numbers. So just to make it apples-to-apples, our straight line yields are closer to 7.9% on $3.1 billion worth of acquisitions. That’s where we are seeing the value, with, I would argue, much better growth profile. And clearly, that’s represented in the 100 basis points of increase when compared to cash yields. So that’s how you should think about us Haendel. And if it just so happens that this dynamic were to shift and suddenly investment-grade was to go back to our 40%, 45% that we have in our portfolio, then that will be it. But it’s not something that we target, and you shouldn’t expect us to be targeting that number going forward.

Sumit Roy:

Sure. So again, I’m not going to talk about specifics, but I’ll repeat what I’ve said in the past about our desire to grow our gaming vertical. We are obviously looking at many opportunities. And thankfully, it’s a fairly robust environment today for gaming. And yes, in terms of how we’re going to view these opportunities, it’s along the lines of how I answered the previous question. So that’s what you should expect from us for this particular vertical.

Joshua Dennerlein:

I just -- I saw your cap rates on -- it looks like domestic acquisitions is about 6.8% and then, for developments, it was like a 6.9%. Some basis point spread seems kind of small. So just -- is that a function of kind of when deals were struck or just the risk profile of the tenants or just something that you’re seeing broadly in the market?

Joshua Dennerlein:

Okay. All right. That makes sense. And then I think Jonathan might have answered this, but I just wanted to clarify, the top end of guidance, it looks like you took down $0.02. Was it just the interest rate environment that’s pushing down -- put downward pressure on that top range or anything else in there? Just curious, given acquisition guidance a bit, so.

Operator:

The next question comes from Michael Goldsmith of UBS. Please go ahead.

Jonathan Pong:

Thanks, Michael. I appreciate the question. I would say, look, what’s made Realty Income so successful over the years, regardless of what we’ve done, what verticals we’ve established, it’s commitment to a fortress balance sheet. And that’s the one thing that is going to be sacrosanct to us for as long as we’re in existence in these seats. And so, we’re not going to sacrifice things like the A3 minus credit rating that we worked very hard to get. We’re not going to sacrifice the trust of the fixed income community that now spans across three different currencies. And so, you’re going to see us continue to focus on low leverage, plenty of liquidity and we’re going to be very predictable from that standpoint. I think going forward, given the added complexity of the business, the volume, the transaction volume that we see, the different countries that we’re in, and we’ll continue to be in, I think it’s really more of a focus on more of the internal operations now. The external side of things, I think we’re pretty well established. We’re going to continue to be creative. But I think it’s about building and continuing this momentum on the internal platform that we’ve created, which we think is a differentiator in the net lease industry and frankly, in the real estate industry.

Sumit Roy:

Thanks for the question, Michael. I might have actually said it four times. I’m not sure. I just believe in it so much. And it’s really not something that we believe. It’s what we are hearing. When we are engaging in these conversations with clients who are big clients who have big questions that they’re trying to answer, it’s the fact that who gets invited to the table. And when we see that we are the only REIT in the net lease space at the table competing against private sources of capital, that in itself gives us continued confidence that we are playing a game that is very different from some of our smaller peers. And we want to be that. We want to be the real estate partners of choice for the S&P 500 names. We want to be the first name that is considered when we -- when folks think about -- they have the ability to write big checks. They have the ability to stand by what it is they say. Their reputation speaks for itself and their ability to close is bar none. And when we hear those comments from clients who work with us and more recently with some of our new clients who’ve been added to our registry, it gives us continued confidence to say that our scale and size is being appreciated within this space.

Eric Wolfe:

Just wanted to follow up on Greg’s question. When you look at your S&P peers, just curious what percentage would you say are receptive to the sale-leaseback conversation? And how has that changed versus a couple of years ago? Just trying to understand how your addressable market has changed. And for those that perhaps aren’t as receptive what’s the typical pushback?

Eric Wolfe:

That’s helpful. And then you look at the 10-year or whatever interest rate you want to look at and it’s up pretty meaningfully over the last couple of weeks. When you see moves like this and how quickly will you adjust your pricing on future acquisitions or potentially even re-trade some deals, just trying to understand how sort of real-time capital market volatility changes and return all those?

Jonathan Pong:

Thanks, Sumit. We’ve been very active on the hedging front, both for FX, which I alluded to earlier, but also on the interest rate front. If you look at the 10-Q from the first quarter, you’ll see that we actually purchased swaptions, which really go out until January of next year that protects us against rising rates on the tender. The reason why we chose 1 billion, the reason why we went out to January is because we do have some debt maturities coming up of around $1 billion, $1.1 billion in the first quarter of next year. We put those hedges in place in late March, early April and as far as you might imagine, it’s pretty healthily in the money right now. So from that standpoint, we’ve taken out the primary balance sheet risk -- or refi risk that we have coming up over the 6 to 9 months, but we’re always going to look for opportunities where we see a risk, we want to be proactive. We can’t time to market, but what we can do is mitigate the exposure that we have on potential risk. And so -- that’s something that we’ve done now twice, and the first time we did it was the middle of pandemic, and we were able to monetize that what swapped at a $72 million gain. We’re not always going to be so fortunate, but that’s how we’re thinking about managing risk.

Wes Golladay:

Can you talk about what’s going on in the UK? It looks like volume was low. I’m just curious if this is a function of just low deal volume, or is it just pricing, just lagging still over there?

Wes Golladay:

Okay. It sounds good. And yes, good job, Neil. That’s actually good volume once adjusted. I guess next question is more bigger picture. I’m kind of curious what your opinion would be, what is the bigger risk to net lease? Would it be inflation and potentially having this price escalators, would it be tenant credit at this point of the cycle?

Operator:

The next question comes from Ronald Kamdem of Morgan Stanley. Please go ahead.

Sumit Roy:

Yes. Good question, Ronald. And just to clarify, it wasn’t the last five years that I said that our credit watch list is in the 3s. It’s the lowest it’s been in the last five years. Those are very good questions. what is it when student loans get instituted back again and discretionary income falls? What are the first things to go? It’s going to be discretionary spend, right? And if you look at the portfolio that we’ve created that largely consist of nondiscretionary, low-price point, service-oriented businesses, these are things that will be the last to go. Could they be impacted? Of course, they can. But when you have discretionary income that is getting compressed, those are not going to be the types of businesses that will get impacted first. And that’s how we’ve constituted our portfolio of assets is being very much focused on what are the industries that are going to be a lot more resilient under economic conditions like the one that we are facing today. So, it is not by luck that we find ourselves with a credit watch list that is circa 3.7%. It is by design. And that’s how we run our business, Ronald.

Jonathan Pong:

Hey Ron, it’s Jonathan. I’ll say -- I’ll expand on what I said earlier regarding short-term rates. We talked about the impact to the back half of this year. But when you really zoom out and you look at year-over-year versus all of 2022 versus 2023, it’s even a greater impact. It’s closer to $0.07 or $0.08, which based off the midpoint of our guide is about 2%. And so, you take that out and on a normalized basis, the volume that we’re doing, everything that we’re doing from a portfolio and asset management standpoint, we’re trending closer to a 5% number year-over-year if you were at 3.1% this quarter. The first quarter did have a little bit of a tougher comp, if you recall the first quarter of 2022. We did have a significant reserve reversal in the other industry. So that’s why the first quarter was a little bit flat. Second quarter outside of rates is getting back more towards a normalized level. So, back half of the year, I think you’ll continue to see some difficult comps on the SOFR front. And given that we do have even an 8%, 10% exposure to variable rates, just given the magnitude of the move, that’s going to be the biggest difference.

Linda Tsai:

Just going back to your comment regarding the stickiness of cap rates, the investment spread of 133 basis points. How does that vary between international and domestic investments? And where would you see investment spreads in those two categories trending?

Linda Tsai:

Got it. And then I think you said 30% of your international leases have uncapped CPI. What is the nature of those tenants that are open to that versus the other 70% of leases that don’t have uncapped?

Operator:

The next question comes from Harsh Hemnani of Green Street.

Sumit Roy:

Well, the good news, Harsh, is that we haven’t gone to executing on our second or third best ideas yet. We’re very fortunate. Let me shed some light on this 15% closing rather than what we’ve traditionally done, which is the 7% to 10%. What is skewing this is clearly the $1.5 billion transaction that we closed on in the second quarter, but it’s not reflected in the denominator in the sourcing volume of $15 billion. We had sourced that asset, I would say, probably in the fourth quarter of last year. So, that’s where the mismatch occurs. In some ways the sourcing volume is much more real time, what did we see. And there is generally a lag between when we engage in a conversation, i.e., when it is sourced versus when does that particular transaction get over the finish line or closes. And I think that lag sometimes does create this mismatch. So, if we were to sort of take away the $1.5 billion and then look at the $1.6 billion that we ended up closing in a year that -- in a quarter where we source $15 billion, $16 billion, that’s still 10%. So, I think that’s probably the way to think about this mismatch that we saw in the second quarter.

Sumit Roy:

Yes. That’s a great question, Harsh, and we did that when we talk about $4 trillion here in the U.S. and $8 trillion in Europe. And just to be also super clear about this particular statistics that we shared in the prepared remarks. It does not include other real estate companies. It does not include certain sectors like finance companies, banks, energy companies, et cetera, et cetera. These are operating businesses that have assets. And an easy way to think about it is, let’s assume that half of it is office. Let’s assume that another 20% of it is something that we wouldn’t want. Even if it is 20% or 30% of this $1.6 trillion, that is a massive number. And the point is that these are companies that are going to have to refinance their debt, this $1.2 trillion of debt over the next three years. It’s maturing over the next 3 years. And sale-leaseback should be a conversation that is appealing to them, especially given the cost of doing a sale-leaseback today in this environment versus the cost of refinancing that a lot of these companies are going to experience. That’s really the point.

Sumit Roy:

Thank you all for joining us today. We’re looking forward to seeing many of you at the various conferences this fall. Have a good rest of your summer. Bye, bye.

Operator:

Good day, and welcome to the Realty Income First Quarter 2023 Earnings Conference Call. [Operator Instructions]. Please also note, today's event is being recorded. I would now like to turn the conference over to Andrea Behr, Associate Director of Corporate Communications. Please go ahead.

Sumit Roy :

Thank you, Andrea. Welcome, everyone. We are pleased to report solid 2023 first quarter results, exhibiting continued momentum in our business. I would like to express my utmost gratitude to our One Team whose efforts enabled us to continue delivering on our growth objectives. I would also like to thank our equity and fixed income investors for their continued vote of confidence. Our team's efforts and the benefits of our size and scale were reflected in our first quarter results, highlighted by approximately $1.7 billion of high-quality investments acquired at a cash cap rate of 7%. This represents a 90 basis point increase compared to the investment cash cap rate we achieved in the fourth quarter of last year and resulted in an investment spread of 163 basis points, which is above our historical averages. As we have experienced in prior cycles, cap rates for our investments after an adjustment period have historically tended to be positively correlated with interest rates, which is a trend we have largely continued to experience this year after the recent rise in rates. Our ability to access well-priced capital has historically served as a competitive advantage and is a testament to our long history of maintaining a conservative balance sheet and a diversified real estate portfolio, supported by clients who are leaders in their respective industries. Amidst an environment in which capital is expensive and are scarce for many of our clients, our value proposition is even more pronounced. This dynamic is reflected in the recent portfolio acquisitions we have announced, the active deal pipeline we see today and the favorable pricing spread we see for large portfolio transactions vis-a-vis one-off single asset transactions. Our differentiated platform extends beyond the external growth lens. Recently, we have taken steps to leverage the size of our portfolio and the history of our operating business through the continued development of advanced analytics. The objective of this initiative is to develop predictive and prescriptive insights that harness the collective proprietary data that we've accumulated over several decades of investing in managing and releasing single-tenant net lease properties. Our team's proprietary predictive analytic tool leverages the strove of information in our investment underwriting, portfolio management, asset management and development efforts enabling even more informed investment decisions made by our best-in-class One Team members. As our business grows, so too will the predictive power of this tool, which we believe will generate significant value for our stakeholders as we refine the accuracy, test conclusions and broaden scope across industries, property types and geographies. As part of our core investment thesis, our size and scale have created opportunities to serve as a capital provider for best-in-class partners looking for alternative means of financing given elevated debt costs. In the first quarter, we agreed to acquire up to 415 high-quality convenience stores from EG Group for $1.5 billion. Over 80% of the total portfolio annualized contractual rent is expected to be generated from properties under the Cumberland Farms brand, and we expect to close on this transaction in the second quarter. As illustrated by this deal, we believe our ability to offer not only certainty of close, but also attractively priced capital as a one-stop solution for sale-leaseback transactions is particularly valuable to institutional sellers of real estate today. We believe this will continue to expand our competitive advantage. Internationally, we continue to venture into new geographical verticals and grow the total addressable market opportunity. This quarter, we took advantage of favorable pricing internationally to acquire properties worth approximately $390 million at an initial cash lease yield of 7.6%. After our initial entry into international markets in 2019, we now derive 11.7% of total portfolio annualized contractual rent from those markets. This natural extension of our platform has been a pillar of growth for the last four years and is indicative of our ability to methodically establish and scale a new vertical. Given the continued momentum in our acquisitions pipeline and our progress to date, we are increasing our 2023 investment guidance to over $6 billion from our prior guidance of over $5 billion. Consistent with our investment strategy, we remain disciplined with regard to our balance sheet. Subsequent to our April bond offering, which settled on April 14 and we held approximately $5.6 billion of liquidity, including unsettled forward equity totaling $1.5 billion. As a result, our current financial position has afforded us the ability to lean into near-term investment opportunities. Moving to operations. Our platform continues to generate durable cash flows, which support our stable earnings profile. For the first quarter, we are pleased to report occupancy of 99%, matching last quarter for the highest rate at the end of a reporting period in over 20 years. Additionally, we generated a 101.7% recapture rate across 176 renewed or new leases executed during the quarter. These results are a reflection of our talented asset management team and our unwavering commitment to core capital allocation principles, which include a focus on industry-leading clients who often operate in a low price point service-based or nondiscretionary industries. Our purposeful diversification across industries, geographies and clients and our emphasis on high-quality real estate locations and rigorous credit underwriting. Our investment philosophy is nuanced and not simply predicated upon the pursuit of investment-grade clients, which ended the first quarter at 40.8% of our annualized contractual rent. Many of our strongest operators, such as Sainsbury's have no public debt and thus are not rated at all. However, the consistency of their operations and health of their balance sheet are favorable attributes that are consistent with those of an investment-grade rated company. We estimate that approximately 5.3% of our annualized contractual rent comes from unrated operators without public debt. We remain committed to investments that offer us attractive risk-adjusted returns as evidenced throughout our history. And going forward, where we believe, based upon our disciplined underwriting and analytics, we are achieving better returns per unit of incremental risk. I would like to briefly touch on Cineworld which represents 1.3% of our annualized contractual rent. Despite the ongoing Chapter 11 bankruptcy, we have continued to receive 100% of contractual rent in the first quarter and through April. As of March 31, 2023, we had cumulative reserves of $33 million on our Cineworld properties. Outstanding receivables net of reserves and excluding straight-line receivables were $14.1 million. We remain in discussions with this client and we'll update the market on the outcome of these discussions at the appropriate time. Before turning the call over to Christie, I would like to highlight that in March, we published our third annual sustainability report which details our ongoing commitment to operating as a responsible corporate citizen for our stockholders, our team, the communities in which we operate and the environment. I'm proud of our continued progress on ESG initiatives as we seek to fulfill our commitment to building sustainable relationships and I strongly encourage all of today's listeners to navigate to the Sustainability page of our website to review the report. With that, I'd like to turn it over to Christie.

Sumit Roy :

Thank you, Christi. In conclusion, during periods of market uncertainty or dislocation we look to unearth value by leveraging the inherent advantages of our platform. These trends include our continued access to relatively attractively priced capital and our portfolio scale, which we seek to leverage to produce unique investment opportunities as a leading sale-leaseback capital provider. When combined with the collective talents of our best-in-class team members to source, underwrite and close on creative acquisition opportunities with strong risk-adjusted returns, we believe we are very well positioned to continue amplifying our competitive advantages on behalf of our clients and stakeholders. We thank all our stakeholders for their support, loyalty and trust in our company. And with that, we can open it up for questions.

Nate Crossett :

I was wondering if you could talk about just deal flow U.S. versus Europe. What was the amount of deals you looked at in the quarter? I think that's a number you usually give. And then on cap rates, last year, the spread of like the cap rates in the U.S. and Europe was pretty low. I think it was almost the same. But this quarter, Europe is 60 basis points wider. I just want to know if there's anything to note there.

Nate Crossett :

Okay. That's helpful. And then maybe just one quick one on development yields. Those are notably below the acquisition yields. Are those just old commitments before rates moved? Or maybe you can describe what's happening there?

Operator:

And our next question today comes from Brad Heffern with RBC Capital Markets.

Christie Kelly :

Absolutely, Brad. I think first, in terms of what Sumit had discussed and the increase of our acquisitions guidance to over $6 billion, we remain conservative in that front and really looking towards the second half of the year, while things remain strong. As Sumit has discussed, we're really wait and see here as things unfold. I think the other thing, too, in terms of guidance that we've articulated, and I mentioned some of this in my prepared remarks, is really the headwinds that we're seeing from a debt perspective, although we've been very focused on ensuring that we're derisking our balance sheet, and you can see that in the transactions that we've executed through April. We're really looking at where that may unfold in terms of the second half of the year and don't believe that, that will alleviate over and above the competitive cost of capital that we've been able to generate vis-a-vis last year. And I think finally, in terms of the positive trends that you saw in terms of the tightening of the guidance with G&A, we remain particularly disciplined during this macroeconomic backdrop, and are focused on managing our G&A. But further to that, it's the benefits of size and scale. And you can see that over the years in terms of the trends of G&A to revenues. And then finally, from an unreimbursed property expense margin perspective and the tightening there, we're just following in on the positive trends that we've been able to execute upon.

Sumit Roy :

No, no, Brad. I wouldn't go so far as to say it's timed out. In fact, the momentum has continued, and we expect that momentum to remain strong. I don't know how many billion-plus deals, but these large transactions what drives some of the near-term financing issues that a lot of companies are going to have to deal with. And with what we are seeing play out in the banking sector with fewer banks out there to provide capital, the cost of that capital being what it is, given the interest rate environment, I do believe that sale leaseback will continue to be a very attractive alternative to raise capital to help address financing needs at these companies. Keep in mind, EG had never done a sale leaseback. They had that option for many, many years. And they chose to go down this path largely to address some of the leverage concerns that they had on the balance sheet. And we expect that trend to continue. So -- and that's the reason why that's the impetus behind why we felt we should increase our acquisition guidance by $1 billion.

Joshua Dennerlein :

Just a follow-up on the EG Group deal. Just curious how that deal came together and maybe your ability to partner up further with them?

Joshua Dennerlein :

Okay. And then maybe changing the topic a little bit. How do you guys think about expanding or growing your exposure to lower credit quality tenants as a way to kind of widen the aperture and maintain growth?

Operator:

And our next question today comes from Michael Goldsmith of UBS.

Sumit Roy :

Yes. That's a great question, Michael. Things are moving so fast. Every other day, there's a bank in the news. News is super fast. And so how do we think about our business and why do I use phrases like continued momentum. Even though this may be a lagging indicator, we are looking at transactions, these renewals every day. And when we are seeing the fact that we can still continue to generate 102%, 103% re-leasing spreads, yes, it's lagging, but literally weeks, months. And it gives me continued hope that, look, for our product, where we play in the market, et cetera, there continues to be a fair amount of demand. And it manifests itself in some of the positive re-leasing spreads that we share with the market. The second piece, which is much more of a forward-looking statement is what are the continued discussions that we are having that then helps drive our pipeline on the investment side. What are the kinds of discussions that we are having? What's the size of the discussions that we're having, what's the yield associated with those discussions. I think all of that gives us confidence that there continues to be momentum. The fact that we were able to raise $3.1 billion within a period of three months, in the fixed income market, the fact that we were able to close on $800 million of equity and have $1.5 million of unsettled equity available -- $1 billion, sorry, of unsettled equity, again continues to give me confidence that even on our capital side, for us, we continue to sit in a very favorable position. So we have the opportunity. We have the ability to raise capital. We have the ability to make spreads north of what we have historically achieved. And now with the international markets starting to reflect a little bit more of a positive movement for us on the cap rate side. That's what gives me confidence to say that we have continued momentum in the business.

Sumit Roy :

Yes. The reason why we needed to open an office in the Netherlands was largely driven by the structure that we have created to allow us the flexibility to continue to grow in the international markets. And by international markets, I primarily mean the UK and Western Europe. This was largely driven by a substance question around having or needing to have employees based in Amsterdam to be able to satisfy this tax structure that we've been able to create to give us this flexibility. So that's largely what's driven a couple of hires that we've made. But most of the other hires will continue to be in the UK and potentially in some of these other countries as we begin to reach a core size in terms of our portfolio. So yes, that's what really drove setting up an office in the Netherlands and hiring a few folks who can help us manage our international business.

Harsh Hemnani:

So we've heard from some of your peers that perhaps cap rates in the U.S. are closer to topping out. Is that something during the second quarter that you're seeing too? And then the contrast that perhaps in the -- in Europe, you mentioned cap rates only started moving there in the fourth quarter or the first quarter of 2023. Do you still see more runway there and perhaps that being a tailwind for you relative to peers? And the spirit of this question is not to say that as European cap rates going to expand over the 7.6, I understand that those idiosyncratic deals might not happen every quarter, but is the trend that you're seeing in Europe upwards? And can that benefit your spread value to the peers?

Harsh Hemnani:

That's helpful color. And then you've mentioned in the past couple of calls where vacant asset sales that your income have been going up. Past couple of quarters, all asset sales were vacant. And you said this is kind of going to be the normal course of business, where if that's the best use for those assets and we have better uses for the capital to go out and buy something accretive? That's going to be what you will do. Can you give us a sense for what the buyer pool for these assets look like? Has that changed at all? The demand for these assets over the past couple of years and say versus recover?

Operator:

And our next question today comes from Greg McGinniss with Scotiabank.

Sumit Roy :

Yes, it's a slew of avenues through which we source and I think it will be very consistent across the board. Obviously, we believe -- we have a curated list of folks that we've been reaching out to speaking with one of which we've already talked about, EG Group, that we didn't have expectations of sale leaseback in the near term, but it just so happened that, that became very compelling to them as a capital source. There are similar names like that. I'm not going to obviously go into the details, as you can imagine, Craig. But this is something that we do here in the U.S. We do this very consistently when we travel to the U.K. and to Western Europe. There are obviously well identified folks who own a lot of real estate who are not in the real estate business, and those are the folks that we've sort of identified and tried to reach out through. The other channels are the more traditional channels, brokers, investment bankers, colleagues who may have worked in certain places who have an in into those places. All of those are avenues that we exhaust to continue to source our transactions. And those continue to remain the avenues of sourcing.

Sumit Roy :

So Greg, to answer your first question, yes, even when the cap rate expectations are unreasonable. If somebody is reaching out to us and we've sourced it as a deal, but have no interest in following up, it does get included in our source volume. I would say that a lot of folks, a lot of potential sellers of real estate are sitting on the sidelines. They recognize that the buyer pool is definitely a lot more discerning when it comes to cap rates because they are having to work in the same environment where the cost of that capital is much higher today than it was six months ago. So rather than tainting their product, they're just holding back. And I think look, I can't prove this 100%. But if you look at our sourcing numbers, it's $16 billion, $17 billion, $18 billion. Those were the three numbers that we had the last three quarters. But it is slightly lower than the $25 billion, $26 billion that we were experiencing in the first two quarters of last year and quarters before that. So some of it is obviously getting played out in the sourcing numbers as well. It's still a very healthy sourcing number. But I think as people wait longer and longer and this turmoil continues, I think we are going to start to see some of these sellers come in and say, look, I have an event, either it be releasing refinancing scenario or what have you, that's going to push them to say, okay, we are willing to accept the fact that we need a higher cap rate. We've had a few of those occasions where 5 months ago or four months ago, we had a grocery operator that came in and they wanted a particular cap rate, and we said that was too rich for us. And we said, okay, this is where we think we could have done that deal. This was about five months ago. They've come back to us today saying, "Can you meet that? And we said, no, we can't. Our cost of capital has moved, but we could do this. And they are willing to transact at that higher level today. So I know this is one anecdotal evidence of how it's taking time, which is why there's always a lag. But it is starting to play itself out. And I do expect sourcing numbers to start to go out. The longer this turmoil on the lending side continues, which obviously creates wonderful opportunities for us.

Eric Wolfe :

I wanted to follow up on what you just said a moment ago and also your comments around the new banks sort of being in the headlines every other day. Just curious whether anything that's happening right now with regional banks has already started to open up new opportunities for you. I'm specifically thinking about industries that rely on their credit. I think you mentioned some local developers. But just anything that relies on regional bank credit where you might see some opportunities today that were historically available to you?

Eric Wolfe :

That's helpful. And then just a question on theaters. I know small percentage for you. But I'm just curious what you think needs to happen for there to be a more liquid market for assets. And maybe for Cineworld, specifically, once their balance sheet and leases presumably restructured, do you think there will be a market to sell those assets?

Operator:

And our next question today comes from Haendel St. Juste with Mizuho.

Sumit Roy :

Yes. Good question. Our watch list today is right around 4.4%. As you correctly pointed out, it is largely dominated by the theater industry. Some of the other areas that we are continuing to look at. And keep in mind that our watch list is not always a credit issue. It is just our view on the real estate, the location of that real estate and what the ultimate outcome is going to look like. So it's a combination of credit. It's a combination of real estate underwriting. But ultimately, the watch list is dictated by the long-term desirability of those locations and operators. So along with the theaters, I would say, restaurants are in the some of the more discretionary type concepts out there like home furnishing. There are very few day care centers and some of the other businesses that are not very well capitalized that you'll find there. But that's the mists of what you will find on the on the watch list.

Sumit Roy :

Yes. That's actually a very good pricing. And I suspect that the person that bought it is probably a developer. And we've done our own analysis. And for us, we feel like the best way to create value would be to hold on to these assets and then especially the ones where we have a view that can be redeveloped et cetera, and capture that view once we have full control of that asset. We truly told there is so much discussion that we are having with Cineworld at this point that I don't want to get into the details, but that discussion needs to be behind us. And my understanding is that a lot of these assets that are now going to be put out there for sale, et cetera, have already had their rents renegotiated, everything has already been priced in. And those cap rates that are being shared are being shared off of those new adjusted rent numbers. And in our view, if we feel like, hey, let's just hold on to these assets, we'd much rather get these assets back and reposition it perhaps with some additional capital, but create much more value for our investors, then that's what we choose to do. And we haven't engaged in trying to go out and try to find the market we've had a lot of unsolicited calls. I can tell you that, but we really haven't engaged in trying to sell any of our theater assets. We want to resolve the Cineworld situation. And I think with the news today, I think that date is certainly getting closer before we start to figure out what the best economic outcome is.

Ronald Kamdem :

A couple of quick ones. Just going back to the opening comments on the international portfolio at 11.7%. Just thinking about where could that number go? Obviously, there's different tax it so forth. But in your mind, how can that number trend in the next couple of years, obviously, opportunity driven.

Ronald Kamdem :

Great. And then if I could just touch on sort of two verticals

Operator:

And our next question comes from John Massoca with Ladenburg Thalmann.

Sumit Roy :

No, no. It's -- look, the overall same-store decline was largely a function of what Christie touched on to explain why our AFFO per share was flat. It was basically -- if you look at the reversals we took in the first quarter of '22 versus the reversals that we took in 2023 first quarter, there was a net $9 million reversal that was very positive in the first quarter of 2022 that we didn't have we had to compare against in this quarter. And when you look at same-store calculation, obviously, that's what drove that very benign same-store growth number. Absent that, if you were looking at just the core portfolio, our growth would have been 1.5%. The specifics around QSR is more driven by a couple of concepts that are not doing very well. Boston market continues to be in the news. It's a very small portion of our overall allocation, I think, basis points at this point. But that is what drags the same-store sales numbers same-store growth numbers for that particular industry. So it's very specific to a couple of names. But overall, like I said, we were around at 1.5%, had it not been for these reversals in the first quarter of last year. .

Sumit Roy :

Yes. It's what you would expect, John, Casual dining is depending on the concepts, some concepts continue to post very good results. Like Outback, I saw the results not too long ago. They had positive same-store growth. I think Chile has had a similar story. But then you look at other concepts, they're not doing as well. Thankfully, the two that I mentioned are our two largest exposures. But we do have some smaller concepts. And it's a smaller concept that if they don't have the balance sheet wherewithal to increase prices or pass through some of the costs, et cetera. they're going to struggle. And again, it's not -- none of this is a big part of our portfolio and all of which there are areas that we are focused on. It's already part of our watch list. But that's where I expect to see some level of disruption, but nothing new is expected based on what we see today.

Linda Tsai :

Just a quick one. Just a broader question on the overall market. When you look at the amount of dry powder available on the sidelines to deploy towards net lease, which industries are you seeing the most demand?

Operator:

And ladies and gentlemen, this concludes our question-and-answer session. I'd like to turn it back over to the management team for any closing remarks.

Operator:

Thank you. Ladies and gentlemen, this concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.

Operator:

Good day, and welcome to the Realty Income Fourth quarter 2022 Operating Results Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Julie Hasselwander, Senior Manager of Investor Relations at Realty Income. Please go ahead.

Sumit Roy:

Thank you, Julie. Welcome, everyone. 2022 was a year of significant growth for our company. I would like to express my gratitude and appreciation to the Realty Income team, who have worked tirelessly to execute on our strategic objectives and all of our investors for their support. The result of our team's collective efforts was reflected in our 2022 results, highlighted by AFFO per share growth of 9.2%, the highest annual growth rate for our company since 2013. Additionally, we closed on approximately $9 billion of high-quality investments in 2022, including $3.9 billion in the fourth quarter, both the annual and fourth quarter investment volume set record highs for the company. Underpinning investment activity, transaction flow remains robust. We sourced $17 billion in the fourth quarter, bringing 2022 sourcing volume to $95 billion. Finally, we ended the year with occupancy of 99%, our highest occupancy rate at the end of a reporting period in over 20 years. At Realty Income, we strive to provide stability and sustainable growth on behalf of our investors. And during periods of economic uncertainty like we find ourselves in today, the resilience demonstrated by our business model is important to highlight. During our 28-year history as a public company, our combined total return consisting of AFFO per share growth and dividend payments generated by our operations has not experienced a single year of downside volatility in the form of negative total returns. We believe we are in a very limited company among companies in the S&P 500 who can make that claim. This is a testament to the durability of our underlying cash flows, which is supported by a diversified portfolio of properties under long-term leases with clients that are leaders in their respective industries. We are constantly working to incubate new swim lanes for growth that offer attractive risk-adjusted returns. Since the start of 2022, we have expanded our [technical difficulty] new verticals to our platform. In October, we completed our debut transaction in Italy, acquiring seven wholesale clubs operated by Metro AG, an investment-grade pan-European leader in the wholesale club industry. As we discussed in 2019, when we purchased our first property internationally, we are intentional about consolidating the fragmented commercial real estate market in Europe and Italy represents the third country abroad in which we now have a presence. In December, we closed our $1.7 billion acquisition of Encore Boston Harbor resort and Casino from Wynn Resorts, which represent our first transaction in the gaming industry. The property is a good example of our strategy to partner with best-in-class operators to acquire high-quality real estate. It was purchased at a discount to estimated replacement cost, is subject to a long triple net lease of 30 years with attractive annual rent escalators and is located on prime real estate with structural barriers to competition. As anticipated in August 2022, Massachusetts partially legalized professional and collegiate sports wagering for the state, unlocking an estimated $850 million of gross annual gaming revenue and further supporting the strategic importance of this asset. In addition, we are pleased to announce a significant investment in what we are calling the consumer [technical difficulty] through the acquisition of a 224-property portfolio of dental practices during the fourth quarter. We expect this $520 million transaction to be just the start of additional investments we hope to make in a sector that we estimate has a total addressable market in the U.S. of nearly $1.8 trillion in real estate. We believe the consumer-centric medical industry shares many of the same attributes of the nondiscretionary service-based uses that make up much of our portfolio, and that have proven resilient throughout our company's long history. These locations offer essential goods and services in and around the major thoroughfares in which our assets are [technical difficulty] for properties leased to clients in the consumer-centric medical industry is extremely fragmented, which creates consolidation opportunities, we believe we are well suited to address. We believe this industry will continue to move towards a patient-centric model. The trend towards the outpatient model has been ongoing for decades, but we expect this shift to occur in an accelerated fashion post pandemic and will manifest in several ways that support our investment in the industry. First, the convenience of having care delivered closer to the patient will increase accessibility to the patient and reduce costs for all, including patients, payers and providers. Second, existing clients of ours like Walgreens and CVS will continue to disrupt the status quo as they gain an increasing share of primary care over time. And third, we believe these industry dynamics will help lower the per capita spend on health care in the U.S. and help improve the quality of outcomes. It is also important to note that the adjacency and fungibility of these assets are a strong fit with our existing footprint from a real estate standpoint. As we underwrote this industry, we conducted a study analyzing over 30,000 variables and found that our portfolio had a 90% similarity with a data set of assets in this industry and we look forward to increasing our exposure over time. Moving on, as we announced earlier this week, actually yesterday, we have entered into a strategic alliance with Plenty, an emerging leader in vertical farms operations to support the development of Plenty's indoor vertical farms. As the initial transaction of the alliance, we will fund the development of an indoor vertical farm asset near Richmond, Virginia, located adjacent to an Amazon distribution facility. Plenty's highly automated farming architecture efficiently harnesses scarce natural resources to generate production yields that it believes are up to 350 times greater per acre than conventional farming. We regard Plenty as the forefront of a structural evolution in crop production and [technical difficulty] growth plans. In summary, these distinct new verticals are representative of the growth opportunities we expect to unlock over time to create value for our shareholders. Moving on to our portfolio. In addition to our record occupancy at year-end, we are proud to have delivered a rent recapture rate of 103.8% during the fourth quarter on properties renewed or re-leased, bringing our full year recapture rate to 105.9%. We attribute these results to our proactive asset management efforts, the underlying quality of our real estate and our rent levels in the portfolio relative to market. Despite our recent accomplishments, we are still working through the impact of the pending bankruptcy on our Cineworld exposure, which is 1.4% of our total portfolio annualized base rent. As a reminder, -- we own 41 assets, 17 of which are subject to a single master lease agreement and 22 of which have been accounted for under cash basis accounting since the third quarter of 2020. Following the announcement of the Cineworld bankruptcy in September 2022, we have collected 100% of contractual rent in each month from October 2022 through February 2023. As resolution on the bankruptcy has not yet materialized, we deemed it appropriate to revisit [Indiscernible] as we've had on our Cineworld receivables balance as we continue to evaluate the collectability of these amounts. As a result of this analysis and in an abundance of caution, in the fourth quarter, we recorded $13.7 million of additional reserves associated with nine Cineworld properties previously on accrual accounting. In total, we now have $35.6 million of cumulative reserves on 31 properties that are on cash basis accounting, representing approximately 70% of our outstanding receivables from Cineworld. As a result of these changes, our unreserved receivable outstanding from Cineworld was $15.6 million at year-end, excluding straight-line rent receivables and including both deferred contractual rent and deferred expense recoveries. The 31 properties on cash basis accounting currently account for approximately $2.6 million of monthly contractual base rent. Based on public information and our proprietary analysis, we continue to believe our portfolio of Cineworld assets generally comprised of the stronger performance in the operator's portfolio, and we will provide an update on the outcome of our negotiations when appropriate. Finally, in January, we were pleased to welcome Greg White as Chief Operating Officer. The COO role has been vacant since 2018 when I assumed the role of CEO. And having known Greg for many years, I believe he has the experience, leadership qualities and business acumen to add immediate value to the management team. Most recently, Greg served as a senior adviser in the Real Estate and Lodging Investment Banking group at UBS Securities. I admire Greg's extensive knowledge of the commercial estate space and his thoughtfulness and integrity will mesh well with our culture at Realty Income. I will now pass the call over to Christie, who will further discuss results from the quarter.

Sumit Roy:

Thank you, Christie. In summary, our 2022 results demonstrated the capabilities of our platform and the competitive advantages afforded to us given our size, scale and access to capital. Over the long term, we believe stockholders will continue to benefit from the stability of our cash flows as we have proven with our track record of consistently positive total returns. Finally, we believe there is significant runway for further growth in untapped industries, geographies [technical difficulty] We look forward to unlocking these opportunities over time. At this time, we can open it up for questions. Operator?

Joshua Dennerlein:

I wanted to ask about the Plenty indoor farm deal. I guess this is a new industry for you guys as well as it seems like a relatively new industry in general. I guess how did you guys get comfortable with underwriting the risk and outlook for indoor farming?

Joshua Dennerlein:

And then could you maybe elaborate a little bit on like the returns and the outlays, I know it's a $1 billion pipeline. Like is that something you expect to kind of put out the door all this year over the next 2, 3 -- and are you guys financing the equipment inside the warehouse? Just trying to get more color on the deal.

Operator:

Our next question comes from Anthony Paolone with JPMorgan. Please go ahead.

Sumit Roy:

Yes. So, when we're talking about consumer-centric medical, we're talking about stuff that we are already currently exposed to and adding a few more areas around the edges. So, what are those areas? Like we are already exposed to drug stores, but drugstores of yesterday is not the drug store of tomorrow. What you've probably heard in the press both Walgreens and CVS are investing very heavily to continue to take share of the physician -- the general physician services. And this is an incredibly fragmented area of the business, and they are investing multibillion dollars in their health hub, minute clinics, et cetera, to [Indiscernible] be able to provide those services. And so that will continue to be an area, infusion centers, dialysis, eye care, dental care, pediatric care, behavioral facilities, urgent care, those are all concepts that have gained tremendous momentum, especially post pandemic, and will continue to gain momentum as a method of delivering health care to the end consumer. And the belief here is that the per capita health care cost that we in this country experience is essentially 2 times the average of what an OECD company -- country experiences. And how do we continue to bring that down? And factors like convenience, being closer to the consumer, making sure that there is a relationship that can be established. So, issues can be addressed on the front end rather than when it becomes an issue later on in life. I mean, today, if you look at the U.S. health care, only 30% of the population actually has a general physician that they can identify as their own. 70% don't have one, and this goes back to preventative care as being a precursor to reducing the cost of health care. And that is the business model that we have embraced that we believe will be -- in addition to the traditional ways of delivering health care will be a very important step in helping reduce cost. And so, anything that sort of lends - any concept that lends itself to this will be open season for us. And what we have then looked at it is to try to analyze the actual boxes that these types of facilities are housed in. And what we found was that there is a 90% -- and I mentioned this in my prepared remarks, there's a 90% overlap with locations and boxes that we have in terms of size, in terms of [Indiscernible] et cetera. And there are a whole slew of variables that we looked at. And these assets that lend themselves to consumer-centric medical. And so, there are a lot of synergies. It is incredibly fragmented. It's a $1.8 trillion market today, expected to grow to $2 trillion by 2027. And it's all about increasing our total addressable market, using our core strength that we bring to the table to help consolidate the market and continue to sort of redefine what net lease investing is. And this is a perfect example [Technical difficulty] you had -- if you were saying something post the end of my answer, we missed all of that. So, you're back on.

Sumit Roy:

Yes, Tony. We actually put out some numbers on January 9, we put out, I think, a pro sup when we were offering the unsecured bonds, where we shared the pipeline with you, and then the pipeline included transactions under contract and accepted LOIs. And that was circa $1.3 billion worth of transactions, a 7.1% cash cap rate. So clearly, what we are talking about in terms of finally the cap rates moving is now manifesting itself in the pipeline that we have created or we had created until that point. And now more stepping back and more generally speaking, we have seen about 100 basis points plus/minus movement in cap rates, which we expected given that if you look at even 14 of the top 20 clients that we have, who have bonds that are trading, you look at what their spreads have done over the last, call it, eight months, nine months, those have gapped out about 100 basis points. So not that, that symmetry is perfectly congruous, but it seems to have been at least in terms of how cap rates have played out. So, you should be expecting to see those numbers being realized starting in the first quarter of 2023.

Operator:

Our next question comes from Greg McGinniss with Scotiabank. Please go ahead.

Sumit Roy:

Greg, that's a great question. Look, -- the -- if you look at the organic market and you've mentioned CIM and some of the other transactions that we've talked about already, there are very good transactions to be had at incredibly good risk-adjusted returns. Having said that, if there's an opportunity on the M&A front where you're able to realize similar economics, I don't see that as being mutually exclusive to be able to pursue both avenues of ultimately what we are charter to do, which is grow the business. But it does have that backdrop to compete against as an opportunity cost when we are looking at M&A. But I don't see there being less M&A because of the environment we find ourselves in. It's just the question of are we going to have partners who are willing to see the big picture, we're willing to see that being part of a particular pro forma company is better for the outlook than not. I think those are the elements that need to sort of play out on the sellers' behalf, in order to perpetuate M&A transactions. But look, we are very happy going down the path that we have -- that we are going down. We did $9 billion of acquisitions last year. I would say that, that's probably -- if you look at companies in our sector that takes care of 80%, 90% of what companies are in terms of their total size. So, we don't have to do M&A in order to continue to grow our business. self, and it makes sense for us to pursue that. We are not going to shy away from that either.

Sumit Roy:

They're certainly out there. The debt capital markets continues to be a constraint for them and their ability to react quickly in this market. I think certainty of close over the last six months has taken on a very different focus for potential buyers who, for a variety of reasons won't monetize their real estate. And somebody like us, especially when it comes to bigger deals that can have that certainty of close that does not rely on the debt capital markets to finance their deals. I think has a distinct advantage which truth be told has played out in our favor over the last few months. And so yes, private equity will obviously start to sniff around given the higher cap rate environment. But I still don't think that their cost of capital is as competitive as ours and our ability to close still, I believe, stands out when potential sellers have to evaluate who to partner with.

Operator:

Our next question comes from Spenser Allaway with Green Street Advisors. Please go ahead.

Sumit Roy:

Yes, that's a great question, Spenser. It doesn't have a perfect answer. If you look at the fourth quarter, we didn't do a lot of volume in Europe, circa $350 million, but they had a substantially higher cap rate. And the dynamic that played out there was essentially redemption issues that a lot of funds started to face towards the end of the year. And that sort of precipitated monetizing their real estate portfolios to help meet those redemption issues, which obviously created an opportunity for somebody like us who, again, does not rely on the debt capital markets, is able to do transactions fairly quickly. And that's what resulted in that much higher cap rate. Because for the longest time in Europe, things were not moving. And that's the reason why the volume was only $387.9 [indiscernible], essentially happened towards the later part of the year, happened very quickly because of the specific dynamics. In the U.S., the trend has been slowly moving in this direction. And again, I think I mentioned this during our third quarter call, much faster than it had traditionally moved when you have a rising interest rate environment. And that's just because so much of the capital was pulled out of the market that it pushed specially sellers who are inclined to monetize their real estate, continuing going down that path has allowed for the cap rates to move. Having said all of that, I do believe that where we find ourselves today is more of a bottoming out of that continued movement of expanding cap rates. And it's settling in the 6.5%, 7% for some of the products. Of course, there are still products that's trading in the high-5s. There's still some one-off assets that's trading in the low-5s, maybe even in the high-4s. We, in fact, sold one of our QSR assets with a 4% in front of it in terms of cap rates. So those markets, we will ignore because those are the tail areas of the cap rate environment. But by and large, we have seen this movement in cap rates play out and it's now starting to mentioned.

Sumit Roy:

Yes. I wonder what your sources are, Spencer. We really don't want to talk about transactions that we don't have under contract. So -- we may or may not be involved in the transaction that you've mentioned. We can't speak to anything, which is a hypothesis or just a rumor in the industry. Sorry about that.

Haendel St. Juste:

Sumit, good afternoon. Just curious on an updated perspective on your high-grade philosophy here. I noticed again in the fourth quarter. The share was below your portfolio average even when you back out the Encore. In the past, I know you mentioned -- you have experience in acquiring higher-yielding assets and you're focused on the best risk-adjusted returns. But yet again, it's another quarter, your share of high-grade is far below the portfolio average. So maybe can you kind of give us some updated thinking on how we should think about that dynamic maybe going forward? Thanks.

Haendel St. Juste:

That's helpful. I wanted to ask about Italy for a moment. Was the investing in the quarter basically the $350 million in Europe that you mentioned in of your earlier remarks? And then maybe can you talk a bit about the relative risk profile, how you're underwriting there versus perhaps the rest of the Europe or the United States? And what's the, I guess, investment appetite for Italy?

Haendel St. Juste:

And just if I may, the follow-up is, did you -- is it $350 million in the quarter and ballpark, what are the going in cap rates or set of returns?

Haendel St. Juste:

Cap rate?

Operator:

Our next question comes from Ronald Kamdem with Morgan Stanley. Please go ahead.

Sumit Roy:

That's a great question, Ron, especially entering into 2023 with so much uncertainty. Look, our biggest focus right now is on Cineworld and how that's going to -- what that resolution is going to look like. I do believe that whatever that outcome is, it's going to play out within the next few months. It's been in bankruptcy now for the better part of four months, and we have been in negotiations with them, and we'll leave it at that. Outside of that, if you look at our overall -- and again, this is something we share in the supplemental our cash flow coverages, full wall cash flow coverages, those have continued to trend up, largely a function of some of our existing clients continuing to outperform. Companies like Albertsons, et cetera, have continued to generate EBITDA growth on a four-wall basis, and therefore, those coverages have continued to improve. Some of the new transactions that we have entered into have very healthy four-wall coverage ratios. And this is, again, it very much ties in with the comment that I think it might have been handled was talking about why are we doing so many noninvestment-grade. If you look at it from a real estate perspective and you suddenly have coverages north of 4x, 5x in sound businesses, but they don't have an investment-grade rating given their size. Those are businesses that we will pursue. And so that's the reason why our four-wall coverage ratio is now close to 2.9x and it was in the 2.5 or about a year ago. So the health continues to be fairly good. If you look at what is there on our watch list, it's about 4% of our rent is on the tenant watch list. And as you can imagine, a lot of it is driven by the theater business. A lot of the theater assets are on our watch list. And in some cases, we also have assets that may not have a credit issue, but there is a location risk associated with what will happen at the end of the lease term, given the changing demographics, changing competitive landscape, et cetera, et cetera. So that constitutes our 4%, which is slightly higher than what it was a few quarters ago. And it's largely a function of what's happening in the theater space and what we expect will happen in a continued high interest rate environment.

Sumit Roy:

Yes. So, we are very proud to own this beautiful asset in Boston. We just had a demonstration internally about our presence on LinkedIn and Twitter. And when we posted the news release around closing on this asset, we had a huge jump in following. So clearly, it was appreciated by the audience following Realty Income, and we are very proud to have this partnership with win. They are great operators. They are very good to sort of continue to understand and learn about this particular industry, and we hope to grow this industry. We didn't do this as a one-off opportunistic transaction. And -- it's very much in line with looking for the best operators and trying to get assets that are going to be icons for the given operator, but even outside of that. And I think we have checked all of those boxes on the Boston asset. But finding those types of assets will continue to be we are focused on. And as you can imagine, we have received several inbounds. But for a variety of reasons, we haven't chosen to pursue them because they don't need all of the attributes that we are looking for. So, we will be selective in this industry, but we would absolutely love to grow it over time.

Wes Golladay:

There's been a lot of M&A activity in the value-based care. So I was wondering if this is the industry you're referring to, where you see all the opportunity? And if so, would you get the parent's credit on some of these deals?

Wes Golladay:

Got it. And then would you have, I guess, a lot of ground redevelopment opportunities? And then also, it sounds like you would have some redevelopment opportunities. Have you ever done redevelopment funding before? Or is that a big part of the business now?

Operator:

Our next question comes from Michael Goldsmith with UBS. Please go ahead.

Jonathan Pong:

Michael, it's Jonathan. I would say, the activities that we did in January, early January, it's all about financial flexibility. We, if you noticed, did a three-year non-call one, giving us that flexibility after one year to call at par. We also did a one-year term loan, but what two one-year extension option. And so, what we're trying to avoid, especially since we went long on the curve earlier in 2022 with our debt capital raising efforts, what was the lock in rates that these levels are very attractive to us. We would like to think that over the next three years, there will be a more advantageous window for us to tap into the debt capital markets to term these amounts out. And so, it's really about maybe a little bit of a barbell given the activity we did earlier in the year, much lower long-term rates, but also terming out the revolver to an extent and creating that flexibility for us to participate and lower rates if they come.

Sumit Roy:

That's a very good question, Michael. It's a question that we've asked ourselves. There is a traditional definition of what a net lease company does. And yes, we can certainly be mandated and dictated by that or there was a way for us to step back and say, look, if we look at Realty Income, what is our core strength today, our size and scale, which people have continued to point to as impediments to growth. If you look at the last four years, we've grown our business at 5% CAGR annually. And if you look at the business, this question has been asked for the last 10 years was, we are going to take what has been used by The Street as an impediment and see if we can garner value for us shareholders, and let's just ask the question, what is it that we can do with the core strength of size, scale, cost of capital, that will be difficult for other companies to follow. And if the answer was, sorry, you're constrained by your business model and this is all you should do, and this is all you can do, that would have been the answer. But what we found once we started last the question around redefining this particular space is that there's plenty for us to do. And we are only constrained by our ability to be creative. And ultimately, if we continue to underwrite these verticals and look at it from the perspective of real estate and look at it from the perspective of a net lease suddenly, the answers that start to pop up are very different. And it allows you to do things and allows you to be very creative and create outsized riches for our shareholders. That with due respect, a lot of our peers are going to struggle trying to mimic. They just don't have the scale. And so, if we can help consolidate real estate, through a net lease structure, that is really the only governing principle that should be constraining us. And ultimately be able to show to the shareholders that on a risk-adjusted return, these are as safe, if not in some cases, safer than investing in traditional retail net lease businesses, then it's a win-win. So that's how we are thinking about the business, Michael. And you will continue to see us be very creative. But like I've always done, and like this team here has always done, we will engage with you to share our thesis. And by the way, I do highly encourage everyone to go to the new deck, the investor deck, where we've laid out our thesis in more detail, and you'll see some numbers around -- and you'll find that this is what I think people invest in Realty Income for, and we are just delivering on that promise.

John Massocca:

So, we're reaching about the hour mark here, so I'll take us back to the beginning a little bit. As we think about the delta in the Plenty transaction between the $42 million committed for the Virginia projects, and the $1 billion headline opportunity? Do you have some kind of like right of first refusal or purchase option to kind of get to that higher number? Just trying to kind of figure out what's in the remaining amount beyond the $42 million for the actual project that's underway?

John Massocca:

Okay. Understood. And then can you provide a little more color on the dental portfolio acquired in 4Q? What made that specific portfolio attractive? And can you provide some color on the credit behind of those assets?

Operator:

Our next question comes from Linda Tsai with Jefferies. Please go ahead.

Sumit Roy:

Greg is sitting right here, and he's already -- he's been with us about 1.5 months, and he's already added so much value to all of our discussions. It's very bright mind and now he's going to start blushing, but he's somebody that I've respected. I've known Greg for the last -- I guess now it's almost 15 years. And he has a perspective that he brings to the table that is very unique and is going to be incredibly additive to all of us. Look, our business is becoming more and more complicated. We are becoming a bigger and bigger organization. We need talented people to continue to that. But the most important thing about Greg, in my mind is his integrity and his ability to -- and his leadership qualities and his ability to mentor -- those are all qualities that will be put to good use, especially with the next batch of leaders that we are cultivating internally and he will be a massive help in accelerating them to very senior leadership positions within the Company, which, by the way, this company will need in order to continue to execute its strategy and plan.

Sumit Roy:

It depends on the type of leases that we have. I will tell you that, for example, an industrial lease tends to have structural and roof responsibilities, that's on the landlord. And so obviously, CapEx there, not maintenance CapEx necessarily, but just CapEx in general -- is going to be higher. Now some of it will be viewed as maintenance. Some of it will be viewed as improving the life of the real estate. So the categorization of that CapEx may be different, but it is very much a function of the lease. I would say that in the U.K., there is even on the retail side, there is not perfectly what we call quad net assets. So we do have a lot more leakage. But lot more leakage is a relative term to very little leakage here in the U.S. And so all said and done, it's not a big part of our business. It's something that we share. It's part of the AFFO. And again, all of that is underwritten when we are thinking about the long-term return profile of investments that we make, obviously take into consideration on the front end before moving forward on transactions.

Tayo Okusanya:

Just a quick follow-up on Haendel's question. So again, doing a little bit more in the non-IG space, your watch list is a little bit bigger. On the flip side, your rent coverages are getting stronger and stronger. How do we think about just kind of credit provisioning on a going-forward basis with all these kind of in factors and what you kind of look at as kind of adequate provisioning relative to historical levels, does kind of given the business backdrop.

--:

But last year was a phenomenal year for us. We had a similar provisioning that we kept adjusting throughout the year and ended up actually having bad debt expense below what we have traditionally experienced in the business. So again, we expect the worst we underwrite to what we expect and allow for the better outcomes to play out. And that's really how we think about our business, Tayo.

Sumit Roy:

You mean in terms of what we have in the earnings guidance?

Operator:

Our next question comes from Josh Dennerlein with Bank of America. Please go ahead.

Sumit Roy:

You missed it. Somebody else asked us about the watch list. It's right around 4%. You brought up Red Lobster, there were rumors around that Red Lobster was trying to negotiate rents with landlords, I can unequivocally tell you that, that is not the case, at least they haven't reached approached us. There certainly was assets that they have closed again, none of which impacted our portfolio. And there are some challenges with that operation. It represents about 1% of our rent. But again, I do think that some of the missteps that they had made in the third, fourth quarter of last year have essentially been reversed. They were slow to make pricing adjustments. They have rectified that. And they are managing their inventory much better and all of those should result in better performance. But I just wanted to make sure that we were talking about facts and not rumors that have percolated in the rumor mill.

Sumit Roy:

Well, thank you, Dave, for hosting us, and thank you, everyone, for joining in. I look forward to seeing you guys in the upcoming conferences. Take care.

Operator:

Good day, and welcome to Realty Income Third Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. Please note, that this event is being recorded. I would like to turn the conference over to Ms. Andrea Behr, Corporate Communications Manager. Please go ahead.

Sumit Roy:

Thank you, Andrea. Welcome everyone. At Realty Income, we pride ourselves in having a consistent and dependable business model. For 53 years as an operating company, we have persevered through a variety of macroeconomic climates and our track record of stability notably during periods of volatility is particularly relevant during current times. We sit here today well positioned and operating very well across all areas of our business. We are grateful for all of our team members who make the success possible. To start off, we capitalized on opportunities to bolster our balance sheet in the third quarter, including raising over $2 billion of equity on the ATM with approximately $700 million of proceeds received during the third quarter as well as over $1.3 billion remaining subject to our settlement on a forward basis in alignment with our capital strategy. In addition, we issued $750 million of 10-year senior unsecured notes in October to further increase our liquidity. Between cash and cash equivalents, our availability under our credit facility, our liquidity as of the end of the third quarter was over $2.5 billion, which when combined with the $1.3 billion of our unsettled forward equity and approximately $744 million in net bond proceeds equates to liquidity of approximately $4.6 billion had the forwards and net bond proceeds being received at quarter end. Moving on to acquisitions. During the quarter, we acquired approximately $1.9 billion in high-quality real estate, bringing us to approximately $5.1 billion in acquisitions year-to-date. A significant portion of the properties purchased in Q3 were part of portfolio deals or large transactions. We believe these deals were accessible to us because of our size, scale, relationships, ability to close, access to and cost of capital together with our research and technology-driven analytic capabilities. For Realty Income, our competitive advantages allow us to design and execute on strategies that benefit all those we serve including our clients. The pending $1.7 billion Encore Boston Harbor transaction, which we continue to expect to close this year remains an example of this dynamic. Based on our current total portfolio annualized base rent, the transaction would comprise approximately 3% of our total portfolio annualized contractual rent, once closed. Further leveraging our international capabilities, we made our advent into Italy last week investing approximately €165 million in seven high-performing wholesale clubs, operated by Metro AG in major Italian cities like Rome and Florence. Metro is a pan-European leader in the wholesale club industry and operates almost 700 stores across Europe. Metro is publicly listed and investment-grade rated, and has continued to perform well during and since the pandemic. We are delighted to add them as a client and hope we will be able to add to this initial portfolio over time. During the third quarter, we did experience cap rate expansion registering a 6.1% cash cap rate on investments, which compares favorably to the 5.7% cap rate we realized our investments in the second quarter. This resulted in a third quarter investment spread, of 165 basis points based on actual capital raised, which is higher than our year-to-date total of 161 basis points and above our historical average. As we move towards year-end, we continue to see cap rates push higher as capital costs increase. This is consistent with the historical correlation we've come to expect, which has tended to preserve investment spreads as the market adjusts. Transaction flow remains strong with sourcing volume totaling approximately $18 billion this quarter, bringing year-to-date sourcing volume approximately $78 billion. We remain selective as we have acquired approximately 6.5% of sourced volume year-to-date. The international market continues to be an important part of our strategy and it remains an active component of our volume, representing approximately 33% of investment volume in the third quarter. Capital recycling continues to be a strong component of our funding strategy, which also has the dual purpose of culling noncore properties from the portfolio. During the third quarter, we sold 34 properties generating net sale proceeds of $142 million, at an unlevered IRR of 12.8% illustrating the full cycle attractiveness of owning net lease real estate under long-term leases. We intend to continue to act opportunistically to dispose of assets at moments in time when we can obtain attractive risk-adjusted returns. In addition to the disposition of properties on our balance sheet, we also sold our interest in seven properties owned in an industrial JV that we assumed as part of our VEREIT merger. The gross purchase price totaled $905 million, at a low 4% cap rate. Our share of net sale proceeds was approximately $113.5 million. Our core portfolio continues to perform and by and large our clients have generally continued to perform very well despite the cyclical market changes and shifts in consumer behavior. A point to note, as previously publicly announced one of our clients Cineworld commenced Chapter 11 bankruptcy in September. Despite being one of its largest landlords, Cineworld represented only 1.5% of our total portfolio annualized base rent as of Q3. We'll continue working closely with Cineworld, as this process continues towards resolution. For some color regarding theaters, for the third quarter 2022, we collected approximately 85% of the contractual rent across our theater portfolio, as Cineworld Group plc was not yet required to pay rent for the month of September. For the month of October 2022, we have collected 100% of the contractual rent across our theater clients including Cineworld. For some specifics, our Cineworld portfolio consists of 41 properties, 17 of which are subject to a single master lease agreement and 22 of which have been accounted for under cash basis accounting since the third quarter of 2020. Through September, we have recognized $23.5 million of cumulative reserves on these properties, representing primarily contractual rent and expense recoveries that have not been collected, dating back to the beginning of the COVID-19 pandemic in 2020. These 22 properties on cash basis accounting currently account for approximately $1.6 million of monthly contractual base rent or 40% of our total exposure to Cineworld. Based on current public information and our internal analysis, we continue to believe our portfolio of Cineworld assets are generally comprised of the stronger performance in the operator's portfolio. Our locations are freestanding, single-tenant assets, typically with large land areas and close proximity to population centers, supporting potential conversion to residential, industrial or life science uses. We have received reverse inquiries from multifamily and industrial developers exploring opportunities on these sites. We believe there is alternative and adaptive reuse potential if Regal were to vacate any locations as part of bankruptcy. Moving on to some of the most important key operational metrics, delivering value that continue to demonstrate a consistent well-positioned real estate portfolio. At the end of the third quarter our occupancy was 98.9%. In Q3, we released 169 leases and achieved a rent recapture rate of 108.5%, bringing our year-to-date recapture rate to 106.7%. As we look forward, less than 4% of our contractual base rent comes due through the end of 2023, providing strong visibility into our near-term portfolio performance. At quarter end, approximately 43% of our portfolio's total annualized contractual rent was generated from investment-grade rated clients. Our properties leased to clients in our portfolio watch list represented less than 4% of our portfolio's annualized contractual rent. Lastly, our same-store rental revenue increased 1% during the quarter and 2.4% year-to-date and we continue to expect full year same-store growth to be approximately 2%. At this time I'll pass it over to Christie, who will further discuss results from the quarter.

Sumit Roy:

Thank you Christie. Our strengths have been accentuated in this quarter's result. While we cannot control the macroeconomic forces that periodically introduce volatility in the capital markets, I am regularly reminded that the resiliency of this team and the inherent stability of our business model allows us to look to the future with confidence. I'm pleased that we are able to lean in to market conditions when it's advantageous to serve our shareholders, and I believe that the best is still ahead of us. At this time, we can open it up for questions. Operator?

Brad Heffern:

Hey, good morning out there, everyone. Cap rates on acquisitions were up 50 basis points quarter-over-quarter. Looks like some of that's related to the mix of industrial and investment grade, but can you talk about how much of that was underlying market cap rates moving? And was there a particular goal to pursue higher cap rates to preserve accretion?

Brad Heffern:

Okay. Appreciate the detailed answer. Christie, I was hoping you could walk through the puts and takes on the new guide. Obviously, you had headwinds from FX and from higher rates. I'm curious, what the offsetting factors were they kept the midpoint the same. Thanks.

Brad Heffern:

Yes. Thank you.

R.J. Milligan:

Hi, good afternoon. I'll start with my boiler plate question for the quarter, and certainly appreciate the attractively priced capital, you guys were able to source in 3Q, but I'm curious how you view your current weighted average cost of capital and what kind of spreads you've been able to achieve here quarter-to-date.

R.J. Milligan:

That's helpful. And so given the fact that cap rates in general are starting to move higher, but probably not as quickly as the cost of debt. How are you thinking about acquisition volume as we move into 2023? Is it time to maybe tap the brakes, sort of keep the pace, or do you think there's going to be more opportunities to potentially even accelerate the pace?

R.J. Milligan:

Make sense. Thank you for the color.

Operator:

Thanks. Next question will be from Greg McGinniss, Scotiabank. Please go ahead.

Sumit Roy:

Yes. It's a good question Greg. And it goes back to having sticky sellers. Sellers who haven't quite embraced the changing cost of capital environment, who are hoping for this to have a shorter duration disruption and starting to recognize that given what the Fed is doing, given what they're seeing on the inflation side that this may be a longer process than what they had anticipated. I think that is part of the reason why you saw a tailing off on the sourcing side. We were averaging around $30 billion per quarter. Third quarter I would still claim was quite robust with $18 billion worth of sourcing, one-third of which was from the international market. And so on a relative basis, yes, there was a bit of a slowing down and it's largely being driven by the time it takes for sellers to adjust to the new environment. And there too it really is a story of those that are institutional sellers they are able to adjust to it a lot quicker than some of the non-institutional more private owners of real estate for whom it has taken and will take a little bit more time to adjust.

Sumit Roy:

Yes. I think, the way I'll answer that question is to say in large portfolio deals, which tend to be owned by institutional owners they're far more receptive to the changing cap rate environment and far more accepting of the changing cap rate environment. And so it will come as no surprise to you that over 70% of what we did were portfolio deals in the third quarter. It should also come as no surprise to you that some of the institutional owners of real estate were far more willing to enter into sale leaseback as an alternative source of raising capital, especially, given their traditional sources of capital which may have been the leverage finance market or the high-yield market and the disruption that they saw there. And so about 50% of what we did in the third quarter were largely -- were sale-leaseback transactions. And so I think that will give you a flavor for some of the transactions that we did. It was still mostly I want to say 94% was retail and there was about 4%, 4.5% of industrial assets that we did, but largely driven by what we are seeing on the retail side.

Sumit Roy:

Sure.

Michael Goldsmith:

Good afternoon. Thanks a lot for taking my question. International acquisitions represent about 33% maybe lighter than what we've been seeing. The opportunity set just larger in the US now relative to Europe. Or are you seeing anything in Europe that you want to highlight in terms of pricing or sentiment and recognize that also comes at the time when you moved into Italy?

Michael Goldsmith:

Thank you, Sumit. And as a follow-up grocery is in your top 10 industries. Kroger is one of your top 10 clients. Does consolidation in the grocery industry give you any pause or change your opinion about kind of the future of this sector and as a product type within your portfolio? Thanks.

Michael Goldsmith:

Got it. Thank you very much.

Operator:

Thank you. Next, we have a question from Wes Golladay of Baird. Please go ahead.

Jonathan Pong:

Hey Wes, it's Jonathan. Look it's been a very volatile FX environment as we certainly saw in the third quarter. I wouldn't necessarily say that's been harder to hedge. I mean, these are all very liquid currencies that we're looking to hedge going out very short-term. And so from that dynamic, yes, it's difficult to understand where these rates might be going but the mechanism itself nothing has really changed. On the hedging front, I would say that when you look out the next 12 months we are around 50% hedged at this point on earnings. And we aspire to get to our hedging program where hopefully going forward rates aren't the story -- FX rates aren't the story of any quarterly earnings. So rest assured we're very mindful of that.

Sumit Roy:

So Wes, there isn't one single answer that can address the master lease question. It is very much jurisdictionally dependent, depending on where the bankruptcy is playing out. And in this case, I think, I believe, it's in Texas. It's a function of how they're going to interpret the strength of the master lease. But yes, having a master lease certainly does accrue certain benefits to us. And it should be viewed as an all or nothing situation. But we can't guarantee that going forward. We'll see how it all plays out. With regards to Regal and the ultimate outcome, you read a fair amount of optimism into some of our prepared remarks and when we have answered questions directly. That is a true read. I'm not saying that, Regal will continue to run 41 assets when they emerge from Chapter 11 but what I am telling you is the ultimate economic outcome, on this portfolio, we feel very comfortable about. And a lot of it has largely been driven by unsolicited inbounds that we have been receiving, even on some of the assets that we recognized to be not very good performers and recognizing that the best use for these assets perhaps may not be a theater asset going forward but something totally different. And when you start to look at where these are located the amount of land in some cases north of 10 acres creating a mixed use or a multifamily makes it tremendous amounts. And value creation opportunities for us to partner with some of these developers can create a lot of value for us. Yes, it's going to take time, but we feel fairly optimistic that the ultimate economic outcome on this portfolio will be one that we will be very comfortable with.

Sumit Roy:

Thank you.

Ronald Kamdem:

Hey. Just a couple of quick ones. Just back to sort of the tenant health. You sort of talked about Regal which was really good disclosure. But any sort of other tenants that are of material size whether it's 50 basis points, 100 basis points on the watch list that we should be thinking about? And how are you guys -- and can you just update us on what the reserve for bad debt is looking like so far year-to-date?

Christie Kelly:

In terms of reserves Ron total reserves are $33 million. And just dovetailing with what Sumit said in regards to the watch list and what we've already made publicly available it's really primarily a story around Regal and the reserves that we have on the books associated with Regal.

Sumit Roy:

Ron I don't want to overstate the environment. You just need one other competitor to come in and undercut what the normal situation would dictate in terms of cap rates to continue to keep a lid on cap rates. Having said all of that, if you look at the trend lines, there is no doubt that cap rates are moving and they're moving much faster than -- and I've said this before -- than what I expected. It is also true that clients with whom we have relationships, we've been able to enter into contracts with them, where we've asked even from where we first started, and didn't have a contract to when they came back and reengaged with us and said, look, the cost of capital environment has changed for us. This is what we'll be able to do. They're still chosen to work with us, exclusively, and these tend to be larger transactions. So, there is no doubt that having fewer competitors out there, who have the cost of capital to be able to transact that spreads that would be acceptable to their investors, creates an opportunity for us. And this is a relative gain. We have been able to move cap rates, but I think it would be overstating, if I were to tell you that everything that happens going forward, we are going to be the beneficiary of. That's not the case. But we will do better than our share. I think that, Ron you can take away from what I'm saying.

Sumit Roy:

Thank you.

Harsh Hemnani:

Thanks. Going back to the portfolio transactions piece, your peers have pointed out that there's a trade-off between acquisition volume in cap rates. You can always drive higher volume on cap rates in the fives. But it seems like because of the ability to drive larger portfolio deals you can drive both higher volumes than them at higher pricing. So, I guess, could you point out, how much of – how many basis points of pickup you can get on a portfolio transaction versus maybe a one-off single transaction deal? And how long you think, it will take for these higher cap rates to show up in the single transaction market?

Harsh Hemnani :

Thanks. And then just considering the timing of moving into Italy, you mentioned that cap rates in Europe haven't reacted as much as those in the US, and it seems like the economic outlook might be slightly worse for Europe tenets as in the US. Given that backdrop what caused you to enter Italy today? And I guess, more importantly, what prompted the debt swap that was swapped into euros which suggests that maybe you're expanding more into Europe?

Harsh Hemnani:

Great. Thank you.

Operator:

Thank you. Next question will be from Linda Tsai of Jefferies. Please go ahead.

Christie Kelly:

From the perspective of the reserves Linda, we took reserves on Regal as we had communicated of $23 million. And there, another $30 million of outstanding receivables associated with Regal to clarify.

Christie Kelly:

In terms of the total, we have for the watch list is $33 million, of which $23 million is Regal. And the remainder, as you would understand is primarily health and fitness.

Sumit Roy:

Yes. Linda, I think it's a testament to the team. It's a testament to us controlling more assets for given operators. There is certainly, a drop of -- switching costs have gotten much higher for a lot of our clients. One of the things that we would compete with is the ability for our clients to basically say, I'm going to go and build the new asset down the road. And that's going to be a better outcome. But now, given the inflationary environment, given the construction costs, the switching cost hurdles have certainly crept up. And the fact that we do have 11,700 assets, we tend to control a lot more of the assets for a given client. And so, not talking about leverage, but we can have a much more holistic conversation with clients that not only take into account near-term resolutions but mid-term resolutions as well and come up with a win-win situation and therefore, be able to get the kind of re-leasing spreads that we have. Having said all of that, it is quite -- I'm very happy that we were able to do 108%, but it is -- I don’t want to view it as an outlier. But if you look at the history of the company since we've been reporting this, we've basically been right around 100%, 101% net of re-leasing spreads. So this on a proportionate basis is certainly higher, and I think it's a testament to the environment we find ourselves.

Sumit Roy:

I think near term, you can expect us to continue to be in this particular ZIP code. The one thing that I will say that we are looking into is, especially in an environment like this, we will be a little bit more receptive to looking at clients. And, look, this is an analysis that we do across the portfolio, what is the best economic outcome. Renewing with an existing client based on the 5% increase, engaging with an existing client that is asking for a 10% reduction from where it's closing and then looking at the alternative of selling the assets and putting the proceeds to use in the current cap rate environment. Once we go through that decision tree and let's also throw in repositioning of the asset as a fourth variable, we decide what is the most favorable outcome. And so far, the outcome that -- for the last few years has been resulting in north of 103%, 104%, 105% of re-leasing spreads, but it is possible that it might revert back to 100% or 101%, because it is more favorable for us to keep an existing client, while taking a bit of a haircut. But over the next six to eight months, I still believe that we'll be north of 100% in terms of recapture rate.

Sumit Roy:

Sure.

Nick Joseph:

Thanks. Sumit, you talked about the volatility, obviously, in your shares, but also really across the space. And so, at this point, there're some diverging multiples in cost of capital. So hoping to get your thoughts on M&A broadly within the sector and then your appetite for it.

Nick Joseph:

Thanks. And I completely understand that it takes two there, but that's helpful. And then just -- I know we've talked a lot on cap rates. You called out the casino deal that is still expected to close later this year. I think you mentioned a 5.9% cap rate that was struck earlier. Where would that be struck today do you think? How much cap rate expansion would you expect kind of on the casino cycle?

Nick Joseph:

Thanks. And where do you think it closes?

Nick Joseph:

Thank you very much.

Operator:

Thank you. Next question will be from John Massocca, Ladenburg Thalmann. Please go ahead.

Sumit Roy:

Hi, John.

Sumit Roy:

Yes, we have. It's still difficult here in the US to get untethered or uncapped CPIs, especially given the environment that we are in and retail tends to be a low-margin business, but there is far more receptivity to getting higher interest rate -- higher -- what do...

Sumit Roy:

Escalators. Thank you. Higher escalators in our leases today than it was perhaps 12 months ago. The same discussion on escalators in Europe, it is a lot more easier for us to engage and get CPI-type adjustments. And in fact, the Metro transaction that we talked about has CPI escalators built into the lease. And so I think those are easier in Europe than it is here, but we are starting to see the seller being more willing to give us higher escalators than what we have traditionally seen in this space.

Sumit Roy:

Yeah. John. Again, it's going to be a function of the type of retail. The higher-yielding stuff is going to tend to have higher elevation, higher escalators. The investment-grade guys -- it's still going to be tough. Maybe they'll be willing to give you fixed bumps every five years, which perhaps they wouldn't have 12 months ago. But I mean it's difficult for me to quantify the exact amount of increase in this environment. What I can tell you is we are seeing increases.

Sumit Roy:

Thanks, John.

Chris Lucas:

Sorry for the long call. Just two quick ones for me, Sumit you talked a little bit about or actually frequently about the Encore transaction. The question I have is just, are you just waiting for regulatory approval? And once that occurs, you can close immediately, or is there some other timing issue related to the close?

Chris Lucas:

Okay. And then Christie just a quick one for me. The -- I guess the other adjustments was about $0.04 a share, which is huge. Not a lot of detail there. Can you give me some color as to what that breakdown was, I know foreign exchange is a big one. I just don't know how much of it is?

Chris Lucas:

Great. Thank you. That’s all I have.

Operator:

Thank you. That concludes our question-and-answer session. Now I'd like to turn the call back over to Mr. Sumit Roy for closing remarks. Please go ahead.

Sumit Roy:

Thanks Nick. Thank you all for joining us today. We're looking forward to ending 2022 strong and in seeing many of you at the NAREIT conference in two weeks. Good evening.

Operator:

Good afternoon and good morning, and welcome to the Realty Income Second Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Andrea Behr, Manager of Corporate Communications. Please go ahead.

Sumit Roy:

Thank you, Andrea. Welcome everyone. Cultivating strong and enduring relationships with all our stakeholders is foundational to the success of our business. And I'd like to thank everyone listening for your continued support. Additionally, I would like to express my appreciation to all my Realty Income colleagues who continue make significant contributions towards our growth initiatives, while serving our clients and all stakeholders as one Realty Income team. We are pleased with the momentum across all areas of our business amidst an uncertain macro environment, which we believe once again, demonstrates the stability of our business model and its ability to thrive irrespective of the economic cycle. The strength of our global investment pipeline has allowed us to invest over $3.2 billion in high-quality real estate in the first half of the year, including approximately $1.7 billion during the second quarter. Given this momentum, we are increasing our 2022 acquisitions guidance to over $6 billion. On the topic of acquisitions, I'd like to mention two key developments that we are observing in the marketplace. First, as demonstrated by the weighted average 5.7% cash cap rate, we were able to achieve on our investments in the second quarter, cap rates are moving higher in our target markets. Our second quarter cap rate ticked higher compared to the 5.6% and 5.4% cap rates we achieved in the previous two quarters. The positive correlation between cap rates and interest rate is also evident in our acquisition pipeline. Second, as a corollary to rising debt and equity costs that have impacted much of our competition, the pipeline of acquisition opportunities materializing for us at accretive spreads continues to grow. As a reminder, we report our cap rates on a cash basis. On a straight line basis, we estimate our second quarter cap rate to be approximately 6.2%. And generally, the difference between cash and straight line cap rates ranges between 50 and 70 basis points in any given period. Transaction flow remains strong with sourcing volume totaling approximately $26 billion in this quarter, bringing year-to-date sourcing volume to approximately $60 billion. We remain selective as we have acquired approximately 5% of sourced volume year-to-date. During the second quarter as percentage of revenue, approximately 39% of acquisition volume was leased to investment-grade rated clients. We remain committed to our underwriting principles of partnering with well capitalized clients who are leaders in their respective industries. Our international investment volume continues to comprise a significant percentage of our total volume, representing 41% of global volume in the second quarter at a cash cap rate of approximately 5.8%. We are encouraged that our size, scale and access to well-priced capital provides us with the platform and currency to actively deploy capital as we build continued momentum heading into 2023. It was also an active quarter with regard to dispositions. We sold 70 properties, generating net sale proceeds of $150 million at an unlevered IRR of approximately 9.3%. Year-to-date, we have sold 104 properties with net sales proceeds totaling $272 million, generating an unlevered IRR of approximately 9.4%. Capital recycling continues to be a value accretive activity for us. And importantly, the unlevered returns we have been able to deliver speak to the attractive risk adjusted investment profile of our properties that have gone through our full investment cycle. Our diligent underwriting process, exposure to high-quality credit clients and the inherent quality of our real estate continue to deliver consistent performance. At the end of the second quarter, our occupancy was 98.9%, the highest occupancy rate we have achieved in over 10 years. Based on our current occupancy rates and client profile, we are increasing our year-end 2022 occupancy guidance to over 98%. During the second quarter, we re-leased 193 leases and achieved a rent recapture rate of 105.6%, bringing our year-to-date recapture rate to 105.9%. At quarter-end, 43.2% of our portfolios annualized contractual rent was generated from investment-grade rated clients. Further, our properties leased to clients on our portfolio watch list represents less than 4% of our portfolios analyze contractual rent, which is largely consistent with the low percentages we have seen so far this year. Finally, our same-store rental revenue increased 2% during the quarter and 3% year-to-date. With a continued strong operations performance of our portfolio, we are increasing our guidance for same-store rent growth to approximately 2% for 2022. At this time, I'll pass it over to Christie, who will further discuss results from the quarter.

Sumit Roy:

Thank you, Christie. Coming off a record 2021 from an investment standpoint, I’m proud that our team has only accelerated the momentum this year. Most importantly, we believe the future is bright as our positioning to further gain market share in the investment arena grows. Indeed, the advantages afforded to us given our size scale and access to well priced capital have rarely been more pronounced than they are today. And we look forward to continuing to capitalize on this in the days ahead. At this time, we can open it up for questions. Operator?

Michael Goldsmith:

Good afternoon. Thank you for taking my question.

Michael Goldsmith:

Hello, good. Thank you for taking my question. First question is on cap rates moving higher, the markets getting a little bit better. You have a larger acquisition team due to the VEREIT merger. How can you be a little bit more aggressive or take advantage of the improving markets, just given that combined with there are some uncertainties in kind of the borrowing markets as well.

Michael Goldsmith:

Very helpful. And then as a follow-up, European acquisitions were about 40% this quarter. And so that represents a bit of an acceleration from what we’ve seen. So is 40% kind of the right mix for next year or at least the second half into next year like how are you thinking about the U.S. versus Europe mix going forward?

Michael Goldsmith:

Thank you very much.

Operator:

The next question is from Nick Joseph with Citi. Please go ahead.

Nick Joseph:

Thank you. Hi, how are you? You touched on cap rates obviously expanding a bit. Wondering if you could break that out between international versus the U.S. where you’ve seen more expansion, where you’ve seen more stickiness or any differences between the two.

Nick Joseph:

Thanks. That's very helpful. And then you mentioned deals coming back, do those fall out of contract, did they – did the seller just not get the pricing? What are you see broadly as those – as you get a second crack at some of them?

Nick Joseph:

Thank you.

Operator:

The next question is from Connor Siversky with Berenberg. Please go ahead.

Connor Siversky:

Thanks for having me on the call. I'm curious on this cap rate discussion, and I'm appreciate your comments that you have a correlation between rising rates and subsequent impact on cap rates. But I'm wondering if you've ever been able to establish what the lag looks like. For example, with a 25 basis point increase in rates, how long does it take for that to reflect in cap rates? And then second to that, are you seeing that relationship accelerate, given that you are seeing some of these lending partners shut down their operations?

Connor Siversky:

Got it. That's a very interesting color. I'll leave it there. Thank you.

Operator:

The next question is from Haendel St. Juste with Mizuho. Please go ahead.

Haendel St. Juste:

Hey, there. Hello, everyone. So I guess, I'm curious on your assessment of the non-high grade portion of the market right now. Curious, I understand, it's not a focus of yours, but you do dabble and do have exposure there. Curious, of the relative attractiveness of high grade versus perhaps non-high grade and if there was a scenario perhaps enough premium of a return to perhaps make you do a bit more on the non-high grade side. Thanks.

Haendel St. Juste:

Sure, sure. Certainly appreciate the color, the perspective. Any update with Encore still on track to close I believe in fourth quarter, how's the regulatory and licensing coming along.

Haendel St. Juste:

Thank you.

Operator:

The next question is from Brad Heffern with RBC Capital Markets. Please go ahead.

Brad Heffern:

Hey, everyone. Hi, Christie. One for you, I guess. On the new guidance, can you just talk about the moving pieces that kept the AFFO per share number unchanged despite the higher acquisition total? I assume it said potentially tighter spreads versus the cost of capital, but I'm curious if there was a FX impact or a interest expense impact or anything else.

Jonathan Pong:

Thanks, Christie. Yes, Brad, you’ve seen us obviously issue a lot of local currency debt in the sterling market that’s intentional, obviously, much lower haul in rates there. But certainly, from a natural hedge perspective, having interest expense denominated in the same currency where we’re now getting rent limits the exposure that we have in volatility. And then we have a cleanup methodology where we hedge a portion of AFFO that is unhedged. And so from that dynamic, we feel like we’ve mitigated the range of outcomes, upside and downside, but there is still some unhedged exposure, about 60% of our foreign-denominated AFFO is unhedged. So for every 10% move in the dollar, for instance, you’re looking at maybe $0.015 of volatility on an annualized basis. So, we’re not completely hedged, which can lead to upside if we see some mean reversion here in the dollar. But just a little bit of conservatism that we’re taking here sitting here in August.

Sumit Roy:

No more than in the past, Brad. Portfolio deals generally do tend to trade at a discount, especially in times like this when the cost of capital have gone up. And a lot of these potential buyers of big portfolios are sort of sitting on the sidelines. So this is essentially reverted back to where it was, where we would get a discount on portfolio transactions. And so if you look at our volume today, about 62% of what we did were portfolio transactions. So that actually accrues to our benefit, Brad, and we are certainly seeing exactly the same scenario as some of our peers have commented.

Sumit Roy:

Sure.

Wes Golladay:

Hi, everyone.

Wes Golladay:

Hey there. I got a question also maybe on the FX, more so on the future hedging, I guess. As you buy more properties overseas, would you do more, I guess, CP issuance tip for the hedging? And could we see the U.S. issuance of CP maybe go down to zero and unusual full capacity overseas?