Realty Income Corporation (O) Earnings Call Transcript & Summary

We appreciate everyone being with us today for the Realty Income Quarter Operating Results Conference Call. Presenting our results will be Sumit Roy, President and Chief Executive Officer, along with Christie Kelly, Executive Vice President, Chief Financial Officer. On this call, we'll be making certain statements that federal securities law may classify as forward-looking statements. Actual future results for the company could differ materially from what's discussed in any forward-looking statement. The factors behind such differences will be disclosed in greater detail in the company's Form 10-Q. During the Q&A portion of this call, we'll observe a two-question limit so that everyone has a chance to participate. Should you wish to ask additional questions, you may re-enter the queue. I'll now hand the call over to our CEO, Sumit Roy.

Thanks, Julie. I want to extend a warm welcome to everybody. What allows us to keep performing at a high level are the outstanding relationships we maintain with every one of our stakeholders. I'd like to offer my thanks and my appreciation to the whole Realty Income team, who keep carrying out our strategic goals so well even while working remotely for an extended period. Last week, as we shared, we were thrilled to announce that we've signed a definitive merger agreement with VEREIT. That deal pushes us even further ahead as a leader in the net lease sector and builds a company whose combined enterprise value comes to roughly $50 billion. In our view, shareholders at both firms will benefit from substantial value creation via immediate earning accretion, a broader platform with more size, scale, and diversification, which fuels additional growth opportunities, plus strategic and financing synergies, all of which get a boost from Realty Income's A-rated balance sheet and our ability to tap well-priced capital. This strategic transaction has us very enthusiastic, and we're eager to keep generating future growth side by side as one combined enterprise. Today, our focus will be on what turned out to be a highly successful Q1 for Realty Income. The results from Q1 show how we can grow across multiple swim lanes that our size and scale make available, as we closed more than $1 billion in acquisitions. In particular, during this quarter, we put about $403 million into high-quality real estate located in the U.K., which underscores the ongoing strength of our international platform and lifts our cumulative U.K. investment above $2 billion since we closed our first international acquisitions back in 2019. Here at home, we invested $625 million in real estate, among which was our first-ever acquisition in Hawaii, making us the first and only REIT to hold property across every U.S. state. What we achieved this quarter keeps showing the momentum behind our business and spotlights how we can leverage our size and scale to move the business ahead in pursuit of sustainable growth; speaking of sustainable growth, our team keeps making enormous strides through our ESG initiatives, since ESG considerations keep working their way through our entire organization at every level. During April, we released our inaugural sustainability report, which laid out our company's commitments, goals, and progress achieved so far when it comes to environmental, social, and government initiatives. I'm asking every Realty Income stakeholder to stand with us as we commit to welcoming a world in transition, for the benefit of all the people we serve, and I strongly encourage everyone listening to take a look at our 2020 sustainability report, which is available on the corporate responsibility page of our website. In addition, we're happy to let the marketplace know about a refreshed investor presentation. The new deck is posted on the homepage of our site, and it highlights the core philosophies behind how we do business, our most important competitive strengths, and our strategy for growth going forward. Now, let's discuss what happened during the quarter. Our worldwide investment pipeline continues to act as a key engine of growth for our company. What we do is straightforward. Our goal is to buy top-tier properties that are rented out to major operators in sectors that hold up well when the economy struggles, so we can generate cash flow that's both steady and growing. Given the strength of our real estate portfolio, which is designed to endure a wide range of economic environments, we're confident we can continue growing our platform. As our holdings expand, we prefer to diversify across locations, tenants, sectors, and asset classes in order to lower economic exposure; in Q1 2021, we invested over $1 billion into premier properties, and we remain very comfortable with our 2021 outlook for acquisitions exceeding $3.25 billion. Looking at total revenue, roughly 39% of acquisitions in the quarter are rented to clients rated investment grade, lifting our overall exposure to investment-grade clients across the portfolio to about 50%. In line with our approach, assets added to our portfolio this quarter carried a weighted average remaining lease term of 12.6 years. When the quarter closed, our whole portfolio's weighted average lease term stood at 8.9 years. At quarter's end, our real estate holdings serve more than 600 clients active across 56 industries. About 84% of rental revenue is produced by our traditional retail properties, whereas industrial properties accounted for roughly 11% of rental revenue. Now, on the retail side: our strategy is to direct capital toward sectors where the business includes a service component, sells things people need rather than want, and/or carries a low price tag. Our thinking is that those characteristics produce operations with enough economic resilience to hold their own more effectively against online sellers. Grocery stores accounted for the largest industry among the deals we closed during the quarter. When it comes to our client base, Walgreens remains number one, representing 5.5% of rental revenue, while convenience stores continue to lead among industries at 12% of rental revenue. As for how we invest, the core of our strategy is acquiring freestanding, single-unit commercial buildings that are leased to top-tier tenants under long-term net leases, typically exceeding 10 years. We regard the market as efficient, and there is intense rivalry for high-quality properties occupied by strong operators. When it comes to cap rates, it's common knowledge that they reflect many different elements — including but not limited to fundamental real estate fundamentals, the terms of leases, the creditworthiness of the customer or their backer, how rents stack up against the market, the typical rent coverage provided by the operator, and what other uses the property could serve. That means the quality of what we buy is reflected in our average initial cash cap rate of 5.3% for Q1. Given our size and scale, we're able to be very selective when it comes to investment opportunities that satisfy our stringent standards. During this quarter, we looked at close to $20 billion worth of transaction opportunities, and ultimately put money into about 5% of the prospects we identified and evaluated. Additionally, the way our capital costs are structured allows us to make value-adding investments while still pursuing top-tier assets. In Q1, the gap between what we earned on investments and our weighted average cost of capital was 115 basis points. The high quality of the assets we acquire benefits us throughout our portfolio's entire lifespan, enabling us to capture favorable rent on leases that expire and maintain solid occupancy. During this quarter, we re-leased 54 units and got back 103.5% of the rent that had been expiring. Since our IPO in 1994, we've wrapped up over 3,600 re-leases or sales tied to expiring leases, and through those re-leased agreements we've recovered more than 100% of the rent. As the quarter ended, occupancy was at 98%. Because of our size and scale, we're able to carry out large-scale sale-leaseback deals, which frequently come about through pre-existing partnerships with best-in-class clients, and which also act as an appealing route to forming new relationships. The deal we closed in Hawaii is a great illustration of the sale-leaseback opportunities we're capable of executing. There, we teamed up with Par Pacific to buy 22 well-located convenience stores for roughly $116 million. Each of the 22 properties sits under a single triple-net master lease agreement, with an initial lease term of 15 years, and every asset is in main locations, mainly on the island of Oahu. In this quarter, about 24% of the deals we completed took the form of sale-leaseback arrangements. By combining Realty Income with VEREIT, we'll be better equipped to handle lease-back deals on a large scale, since our increased purchasing capacity bolsters how we stack up against rivals bidding on portfolios or sale-leaseback opportunities within the net lease sector, which remains highly fragmented. We've noted previously that our size and our market give us an edge over others. Often, only a handful of potential buyers exist for big portfolio deals — particularly ones that would create concentration problems, whether by client or industry, that our competitors simply couldn't absorb. If you look at things pro forma once the deal has closed, yearly rental revenue comes to roughly $2.5 billion. Whenever we buy $1 billion worth of assets tied to one creditor industry, the share of our portfolio exposed to that industry goes up about 2% — compare that with something like 3.5% at the size we are today. Because we can lean on our scale, we continue to get things done well across our global operations, including a solid pace of purchases in the U.K. Basically, what we're doing is taking the same playbook we use in the U.S. and applying it elsewhere: building a top-tier property portfolio whose tenants are major operators in industries that hold up well economically. During the first quarter, acquisitions outside the U.S. — roughly $403 million, all in the U.K. — formed part of our overall acquisition volume. That pushes cumulative investment above $2 billion since we completed our initial U.K. transaction back in 2019. Growth in our international pipeline has come faster than we first expected. International deals accounted for close to 40% of everything we invested this quarter, and that portion is genuinely additive to the U.S. operation, with further expansion anticipated. Christie will now take you through the financial updates.

Thank you, Sumit. Let me start by offering some broader context, and after that I'll walk through our financial results for the quarter. Among the companies in the S&P 500, ours is the only net lease REIT, and measured by enterprise value we sit inside the top ten U.S. REITs and rank as the biggest net lease player in the sector. When the merger with VEREIT that we announced not long ago is complete, Realty Income ought to rank as the sixth-largest REIT in the RMZ based on equity market capitalization. Because of our scale and size, along with a conservative balance sheet and financial strength, the major rating agencies have assigned us an AA credit rating. With our $3 billion multi-currency revolver, we have plenty of access to attractively priced capital, which allows us to raise permanent long-term capital when market conditions are most favorable. During this quarter, we raised approximately $670 million through an overnight equity offering, which reduced our financing risk by pre-funding our active global investment pipeline; in January 2021, we completed the early redemption of the full $950 million of 3.25% notes due in 2022, taking advantage of attractive borrowing rates in the fixed income market while lowering our near-term financing risk. That redemption was funded mostly by our December issuance of $725 million in senior unsecured notes, structured as a dual tranche offering with a five-year and 12-year note, which achieved record low U.S. dollar coupon rates for the REIT sector in each of those tenors. As a result, I'm happy to report that our fixed charge coverage ratio hit an all-time high of 5.8x this quarter; in our view, financing the business with roughly two-thirds equity and one-third debt helps keep the balance sheet conservative; we ended the quarter with a net debt to Adjusted EBITDA ratio of 5.3x, or 5.2x pro forma, adjusting for the annualized impact of acquisitions and dispositions made during the quarter. Near-term debt maturities remain minimal — only $26 million comes due through year-end 2021, excluding our commercial paper program and borrowings outstanding on our revolving credit facility. At the close of Q1, our $3 billion multi-currency revolving credit facility was fully available, with $675 million outstanding under our $1 billion commercial paper. Cash on hand exceeded $184 million, providing us with approximately $2.5 billion of liquidity to capitalize on our active global investment pipeline. During this quarter, the business generated $0.86 of AFFO per share, and we are maintaining our 2021 AFFO per share guidance at $3.44-$3.49 on a standalone Realty Income basis, unadjusted for the expected merger. Keep in mind that of our 79 theater assets, 37 currently sit on cash accounting; those 37 theaters represent about $25.5 million of annual rent remaining in 2021. Against these assets we've reserved $33.2 million as allowance for bad debt, net of $1.1 billion of straight-line rent receivables. In total, that $58.7 million comes to approximately $0.15 not currently reflected in AFFO per share guidance. We're feeling good about the pickup we've seen lately in the theater sector, like more locations reopening across the country and big movies coming out. Not long ago, Godzilla vs Kong brought in about $49 million during its debut weekend—a five-day stretch running Wednesday through Sunday—and generated more than $390 million in revenue across the first two weeks of its global release, clearing a profit of over $200 million. Even so, unless we have confidence that those particular theaters will continue paying the rent they contractually owe, we'll keep accounting for revenue from these 37 theaters on a cash basis, net of $1.9 million of straight-line rent receivables. Given that we're a Monthly Dividend Company, it wouldn't be logical to pause the dividends while we review how our business is performing. During April, we declared our 610th consecutive monthly dividend, and since our 1994 listing on the New York Stock Exchange, we've now increased the dividend 110 times. Each year starting in 1994, we've lifted the dividend, and dividends per share have climbed at a compound average annual growth rate of roughly 4.4%. With 25 straight years of annual dividend increases behind us, we're proud to be part of the select S&P 500 Dividend Aristocrats Index, which holds only three REITs among 65 companies altogether. I'd now like to hand the call back to Sumit.

Christie, thanks. The results we posted for Q1 once again put a spotlight on the remarkable possibilities that come our way because of how big we are and the scale we operate at — advantages that give us a one-of-a-kind ability to serve as the consolidator on a worldwide basis within a net lease sector that remains highly fragmented. It's our view that once the VEREIT merger closes, our standing to play exactly that role will be strengthened. The numbers we delivered, together with the considerable momentum behind our business and a robust outlook, give fresh energy to our very capable team as they keep growing the verticals we already have and keep discovering additional swim lanes that let the business expand. With that, I'd like to turn things over for questions. Operator?

Hi, Sumit. With the VEREIT deal, your casual dining tenant exposure jumps quite a bit, reaching 7% of ABR, and that's a sector where a number of other REITs appear to be pulling back. What gives you confidence in taking on all of those tenants?

We've definitely dedicated a good chunk of effort to this particular matter. A name that stands out in that -percent category is Red Lobster. When we compare where Red Lobster sits now to its position just 12 months back, it gave us quite a bit of reassurance that the brand has moved past its private equity ownership phase and into the hands of Thai Union, a company based in Thailand. The improved credit standing it secured, the numbers it's currently delivering, and the detail that it covered 100% of what it owed VEREIT in Q4 — all of these things convinced us it has made that turn. Because Thai Union operates as a vertically integrated business, we concluded that 7% is a figure we're comfortable accepting. The aim going forward, Greg, is to keep bringing that down over time, exactly the way we managed with our casual dining brand, which previously sat in the high single digits and now accounts for under 3% of our total registry. That same objective applies here: on a pro forma basis, reaching as high as 7%, then steadily shrinking it until we're back in the low single digits.

All right, thanks. For my second question: now that worries about tenant concentration have eased somewhat after the VEREIT merger, are there property portfolios out there in the market that you'd feel more at ease going after? Do portfolios of that kind already figure into the acquisition guidance? And what amount of volume could portfolios like those potentially add to acquisitions annually?

Okay, Greg, you've raised quite a few things there. On the acquisition point: it gives us the ability to go after these deals. What I'd say is, multi-billion dollar transactions don't show up each week. But when one does, it can deliver a step-change growth opportunity — much like consolidation does in this sector. At our present size, going after a multi-billion dollar deal left us somewhat limited, even when it satisfied every other criterion — meaning we favored the credit, we favored the operator, we favored the industry, we favored how the real estate was composed, we favored the rent mix, and so on. You wind up feeling limited simply because one tenant can shift your portfolio concentration so much. As your platform grows, your capacity to take on bigger transactions when they come along clearly improves. There have been situations — I won't go into specifics — where, even over the last 12 months, chances existed to go after transactions where, despite everything we bring, the relationship, satisfying the criteria across the board, we remained limited by the allocation we had, and couldn't go after that specific transaction on our own. Those are the kinds of limits that ease as your platform gets bigger. It lets you position yourself as a one-stop shop for some of these very well-capitalized businesses — businesses you want to remain a one-stop shop for, which is what we've been in the one instance I'm citing. Yeah, I do believe that after this consolidation, our position will improve when it comes to going after transactions that, at our current size and scale, we were somewhat limited in pursuing.

Thanks, Sumit.

Sure.

Good evening.

Hi, Katy.

Can you bring us up to speed regarding the office properties you intend to separate through the merger? Since the transaction is now public, what sense have you gotten concerning interest from buyers and the possibility of divesting those instead?

Katy, only 3 business days have passed since the announcement, yet I appreciate the question. Honestly, the inbound interest has caught us favorably off guard. We're still gathering those inquiries and working out which ones are genuine versus not genuine. We've made it very clear that the route within our control is the spinoff route. To address what you asked in a more direct way, it's basically every one of our office holdings, plus the great majority of VEREIT's office holdings, apart from the 6 properties tied up by a CMBS cross-collateralized across several asset categories. Beyond those 6, what we'd aim to do is essentially separate out every one of the leftover properties, which comes to roughly 97 properties, $182 million or $183 million in rent, weighted average lease term of about 4, with 76%-77% investment-grade tenants. That's what this portfolio consists of. Just as we anticipated, after we went public, inbound calls have come in. We're merely pulling together the details, and it remains too soon to determine which are genuine versus not genuine. We'll keep moving along the route within our control, and should anything occur along the way, that would be wonderful, though it remains too soon to determine.

All right, I'm grateful for that, Sumit. Could you elaborate a bit on why you decided to move into the Hawaii market at this point, and whether you're aiming to grow your footprint there in a bigger way or maybe chase some industrial chances in that state?

Katy, entering Hawaii wasn't a deliberate goal for us during this specific quarter. Back when Tom was CEO — two CEOs before me — he came from Hawaii, and the running joke internally was, why don't we own anything over there? These days Jonathan Pong is our Hawaii guy, so that same joke carries on; honestly, it came down to the correct chance showing up at the correct moment, alongside a partner we felt good about. Our underwriting covered their business, their performance, and their locations. The timing and the location simply lined up, and it happened to close during Q1. There was no elaborate plan behind being able to step forward and make the sort of announcements we've made. We've acted very opportunistically, been quite fortunate in certain respects, and we feel very thankful to now say we operate in 50 states. For us, that wasn't as significant as locating the correct deal, and this specific deal, which opened the door to Hawaii, definitely satisfies every criterion. We're extremely thankful for it.

Okay, great. Thank you.

Sure.

Hi there, good afternoon. I've got just a couple of quick items for you. First off, it's about tenant health across the portfolio in a broad sense. If possible, could you share some refreshed perspective on how you're viewing things right now, perhaps compared with how you felt six and 12 months back? Drilling down a bit further into the theaters and examining collection rates in that segment, maybe you have some observations, since I believe those collection rates might have come in somewhat below our expectations. What exactly is happening with the theaters?

Of course, Ronald. Thanks for asking. Well, our watchlist sits at approximately 5%, and the theater business represents the largest piece of that watchlist, so the two are closely connected. The collections we see are likewise mostly driven by what's collected in the theater business. You wanted a benchmark for how we view the theater business now compared with when the pandemic initially hit. Our outlook now is far more positive than it was back then. We've seen real-world cases here in the U.S., and before those, situations unfolding in China and Japan, which supported the theory we held: that once content began being released and social distancing rules eased, the theater business would be capable of recovering. That theory has mostly been validated, Ronald. Consider the single instance we have so far of a major blockbuster release, "Godzilla vs. Kong." During its initial five days, it brought in roughly $49 million; we've continued monitoring its performance afterward too, and it stands in that high 80s range, approximately $90 million, in terms of what's been collected from U.S. theaters. On a worldwide basis, it's near $390 million. Producing that film cost approximately $180 million, $190 million. Around $200 million in profit is mostly being captured via the theatrical run. That keeps adding support to the idea that as content arrives and theaters get the green light to operate, AMC is mostly reopened in the U.S. Regal has not yet. Regal still aims for mid to late May to reopen every one of its locations. We hold the view that these collections will end up being driven by whether theaters are open. Given the conversations we've had with our operators, we remain quite optimistic that soon, those collection figures will begin rising. Also, we have a balance sheet that allows us to extend funds to certain operators, provided we trust their model will succeed and remain a workable business model down the road. We truly believe the theater sector, and particularly these two operators, will remain viable going forward. When we're able to put our balance sheet to work through lending, that allows them a bit more breathing room as they work to steady how their business operates. That’s exactly the approach we took. We're quite confident that was the right call.

Ronald, this is Christie. The sole point I'd tack onto what Sumit said is a quick reminder for everyone listening in on this call: the quality of our theater portfolio is genuinely strong. Within our portfolio, 80% of theaters fall into the top two quartiles of every operator's footprint. As Sumit noted, AMC has reopened, though capacity remains limited at the moment, and Regal locations are set to reopen near the close of May. Given that, we're staying cautiously optimistic. One more item worth flagging: looking at the momentum around our collection rate in theaters, it's holding steady and getting better. After stabilizing from year-end, we sat at roughly 10% collection. Over the course of the quarter, momentum carried us up toward 16%; we're eager to share additional details once Q2 arrives.

Thanks, that helps. For my second question, I want to return to the VEREIT merger. This might be straightforward, but could you help us grasp how your real estate — the caliber of your real estate, the caliber of the retail properties you hold — stacks up against the VEREIT assets you're about to bring in? How ought an investor approach comparing and contrasting the caliber of those two portfolios, particularly on the retail side? Thank you.

Ronald, they hold 3,500 properties built across the 11 years since they went public. Obviously, certain portions of the portfolio — one we already mentioned — have turned a corner. Six years ago, when they opted to do that transaction, it wasn't a thing we would have chased on its own. Broadly speaking, I'd tell you that as we underwrote every one of their assets and every one of their operators, we came away happily surprised by how good the portfolio was. For whatever reason, there was value to be unlocked here. We feel thankful, since it let us generate considerable value for our business, that they were priced at an enormous discount to what we consider the intrinsic worth, particularly of their retail and industrial holdings. Another thing I'd want to point out is that their focus complements ours; that's the reason why categories such as convenience stores, which we're strong proponents of alongside particular operators — I want to add that caveat — let us move from 12% down to 9% on a pro forma basis for the combination. It lets us reduce our grocery share from 10% to 8%, since they carry none of those allocations in their portfolio; that definitely gives us extra capacity. Also, regarding the theater business, their exposure was minimal. It lets us lower our theater exposure from 5.7, 5.6 to 3.8%, which is beginning to approach the optimal allocation we've discussed across the past couple of quarters. Happily surprised on the upside — that's among the primary reasons we chose to proceed, and we're so thankful we discovered a like-minded individual in Glenn and his management team to go forward with a transaction we truly believe benefits both sides. Yes, extremely happy to fold that retail and industrial portfolio into the pro forma Realty Income business.

Super helpful. Thank you.

Sure.

Yeah, I suppose good afternoon to everyone.

Hello, Haendel.

Hey, Haendel.

Hi there. Could you elaborate a bit more on the cap rates from acquisitions in Q1? Overall it was a low 5%, and 4.9% in the U.K. My recollection is that last quarter you indicated cap rates for this year would resemble 2020's figures, or perhaps be nearer to 6%, varying by mix. I realize competition has picked up. We've heard about financial buyers securing 85%, 90% LTV financing through the ABS market. Perhaps you could discuss the market and how that rivalry from financial buyers is influencing pricing on the assets you're evaluating? Does it apply to a particular sub-sector or industry? And should we now anticipate this low 5% cap rate for 2021? Thanks.

Yes. Haendel, when comparing one quarter to the next, these figures will fluctuate, and mostly it comes down to mix. If you lean heavily toward industrial, cap rates will tend toward the lower side. If you lean more toward retail, they'll tend toward the higher side. These are broad observations. Naturally, there are exceptions even to what I just described. Looking at what pushed the U.K. cap rate, it was mostly two industrial deals we closed with the same seller, someone with whom we enjoy a strong relationship. One was an industrial property located in the Greater London area. Extremely desirable, obviously a last mile site. We acquired it at cap rates where we felt quite at ease holding this specific asset. The other was located in Birmingham's suburbs. It's leased to a single A credit. Once again, an excellent distribution center, with rents below market. Something we believe will be extremely additive to our portfolio moving forward. That's genuinely what pushed the cap rate to that level. If we had left out those two, our cap rate would have landed nearer to where we completed our Q4 U.K. transaction, which was, as I recall, if my memory serves, a 5.6, 5.7 cap rate. It genuinely comes down to mix. It comes down to which geography is dominant, and so on. You shouldn't, in my view, expect the cap rate we reported in Q1 to become the new standard. I'd still maintain that we ought to average right around the mid-fives to a bit above. That would be the aim. In quarters when we pursue some higher-yielding opportunities because they're things we've identified that others aren't yet focused on, we might potentially see a six. It genuinely comes down to mix. It comes down to asset type, lease term, geography, all the factors that shape what a quarterly cap rate represents. I think the more important takeaway here is, this marks the Q2 consecutively where we've completed $1 billion. I've noticed plenty of figures being thrown around suggesting that reaching high single-digit growth would require them to acquire $4 billion; we accept that challenge; actually, it's something we're thrilled about; we've previously discussed how building these new verticals for us, these new areas of growth for us, has impacted our sourcing figures, and that's now turning into real closings. As far as we're concerned, the figures being reported, yes, for the majority of net lease companies, that's an astonishing figure. From our perspective, it's something we embrace; we also share the market's view that we need to demonstrate to you that we can accomplish this quarter after quarter after quarter; that's the enjoyable part for us and the team. We anticipate that challenge, and we anticipate reporting figures with assets that doesn't undermine what we've stated is our risk profile. That's the crucial point here, that we're doing all of this, and we're expanding a platform, and we're expanding our portfolio with the appropriate kinds of industries, appropriate operators, appropriate geographies, appropriate growth rates, everything that will generate lasting value over the long term. I realize you didn't exactly ask that, but I simply wanted to ensure we framed the response regarding cap rates in light of what we're attempting to achieve, and how sustainable what we're attempting to achieve is. Pardon me for that, Haendel.

No, that's great. Thanks for the detail. I definitely appreciate it. Could you also discuss whether, maybe, you're somewhat more open right now to looking at sectors you might have set aside during the last 12 months, after the impact of COVID? Maybe broadening your investment approach here, whether that means, I'm not sure, more entertainment or experiential categories that haven't been as COVID resilient, but with vaccine distribution improving and the economy expanding, I'm just wondering whether that stance is shifting at all, and whether any particular industries come to mind?

Haendel, here's something I think distinguishes this team, and it's a principle I hold: our humility will remain intact no matter what. When the facts on the ground change, when the direction of trends changes, our approach is to keep marking to market. Over-indexing to any near-term event is what we want to avoid. Take the way we avoided over-indexing to the reality that, hey, both the theater business and the health and fitness business took a real beating in an environment where social distancing rules are in place. Should that lead us to write both of those businesses down to zero? No, it shouldn't. Our goal is to figure out where the trends stand, especially keeping in mind how long-term the leases are that we sign. So, what's the long-term trajectory that we're willing to commit to? Just because a particular situation might create a short-term opening, if we aren't confident about how it looks down the road, we'll typically avoid those types of opportunities. Now, that's not to say we never make mistakes. When we look back, we don't tell ourselves, "Gee, we ought to have approached that differently since our judgment turned out to be wrong." My sense is that our track record includes more correct calls than incorrect ones, and that's worked to our advantage. So, to address what you asked, without going into details, we're constantly working to improve our holdings so they match current conditions. We're careful not to lean too heavily on short-term patterns while ignoring what those patterns mean over a longer horizon. Let me offer a thought that runs counter to your premise. The office sector, in my view, presents an opportunity. Will we pursue it? No. We've made clear our plan to spin off every one of our office holdings, and there's a sound rationale behind that. Still, my sense is that with conditions as they stand now, and with sentiment toward office properties so deeply unfavorable, there's value waiting to be captured — provided someone can adopt a longer view of what the office will ultimately become. So that's the rationale behind pursuing a spinoff, should we ultimately choose to carry that out; our aim is to position it to thrive; it reflects what we're observing in the near term. We're projecting that trajectory forward to gauge what we believe will occur with office five, seven, 10 years down the line. Where do we anticipate expansion? Indeed, expansion. I'm applying that term to office. Where do we anticipate possibilities? One could argue that such an outcome might unfold. Only time will reveal.

Is there anything you'd like to say regarding casinos, for instance? I realize this has come up before, but I'm wondering whether your stance on that subsector has shifted at all, or whether there's a greater readiness now to make a move there.

Right. I won't get into details, Haendel. You've consistently posed quite pointed questions to me, and I've made a point of steering clear. You brought up M&A.

Exactly.

You got M&A out of me already. What else could you possibly be after? No — I won't get into details, Haendel. Still, I appreciate it.

Appreciate the time. Thank you.

Sure.

Hello, Tom. Hello. Hey there. Sumit, you provided certain specifics to account for the somewhat reduced cap rate over in the U.K. during this quarter. There's additionally the related tax burden in the U.K. that affected figures for the quarter. I was simply curious, sort of from a big-picture standpoint, whether you could walk through why U.K. investment activity strikes you as sensible on a broader view, and then likewise how we ought to consider the related tax expense looking ahead.

Yes. Those are excellent questions, Caitlin. Thank you. On the U.K., I really ought to have finished my response, providing a bit more detail regarding how the structuring aspect works. When we entered that market, we understood there would be tax leakage tied to it. As we underwrite deals, we factor in our effective tax rate, the statutory rate, what the effective rate comes out to, how much we truly earn when you look at actual spreads, and so forth. Naturally, we weigh that against the cost of capital, which happens to be significantly lower over there as well, and ask whether the numbers worked; they worked very well. Broadly speaking, I believe we are on track with the effective tax rates that were communicated to the market 2 years back, in April of 2019. One more thing I want to mention, Caitlin: a modification is currently under consideration that would in fact push up the statutory tax rate within the UK market. What we have been investigating, and which we hope to put into place soon, involves reorganizing Realty Income Limited, the legal entity located there, through which we could potentially end up cutting 400 basis points from our effective tax rate. Should you anticipate that taxes paid in the U.K. will keep rising? Without a doubt, you should. Just not to the same degree as what has occurred over the past 2 years; our efficiency is improving; as we move forward, we are structuring our deals in a way that will genuinely produce, on an effective basis, a reduction in the tax leakage connected to our investments. We continuously examine how this transaction will be financed, and whether it remains sensible. The response is an emphatic yes; that is precisely why we keep doing what we are doing.

Understood. All right, so perhaps moving to another subject. Your published outlook presumes that revenue from stores open a comparable period will get better over the course of the year. Earlier remarks suggested that theater collections and results ought to keep getting stronger, and that takeovers will carry on. The AFFO forecast more or less suggests almost no expansion beyond what the first quarter's pace produced. So I wanted to ask, what accounts for that? Given those gains in comparable-store revenue and the deals you're doing, why don't they turn into a bigger AFFO number within the guidance? Or is this AFFO outlook simply on the cautious side right now?

That part is a matter of perspective. I'll leave it to you to draw your own conclusion. I believe Christie did bring up those 37 assets sitting on cash accounting. A great deal of the upside that might materialize down the road hasn't really been captured in the guidance we've put out, and we also haven't altered how we account for cash on those 37 properties; if you'd like to call that conservative, that's fine; we simply want to witness actual collections climbing back to levels that justify shifting our stance on cash accounting versus not. That would undoubtedly lead to stronger AFFO per share trajectories. We have a tendency to be somewhat more measured, and yes, the outlook is quite promising. But until it genuinely begins showing up in closed monthly statements, we'll hold our current approach. Clearly, the reason we haven't made an adjustment for the merger is that, above all, there are conditions attached, and even assuming it closed, it wouldn't occur until the Q4, which obviously means a very tiny effect on this year; given those factors, we've left the guidance completely unchanged; we want time to absorb what we just announced last week. We'd also like to have another quarter behind us, and after that we'll take another look at earnings at the end of the Q2 and tell you where our thinking stands at that point.

All right, thanks.

Of course. Now, turning to the figures—we saw 5.7%, then 5.6%, and finally 3.8%.

Thank you, Caitlin.

Hello there. As of the thirty-first of March, you have 131 properties sitting empty, and it seems likely that more will go dark before this year wraps up. Typically, a certain portion of those get retained and leased again, while others get sold off and you move forward. With how big the VEREIT deal is and all the work involved in bringing things together, how are you thinking about what your team can realistically handle — perhaps just disposing of a larger share of the empty properties when re-leasing them proves difficult, then shifting attention to the merger instead of spending effort, resources, and possibly missing out on gains from finding new tenants?

Running the very same playbook we already use is something we feel extremely at ease with. It has been our consistent position that achieving full occupancy is within our capability. That approach fails to maximize value, though. The fact that we've told the market our real estate operations group is the biggest within this company is precisely so we can accomplish what we set out to do. That's exactly why our stance has always been that the correct level of occupancy for us is 98%, since we will be repositioning properties where we can unlock — and these figures tend to get overlooked — recapture rates on rent of 140% and 170% simply from the repositioning work we're capable of. Sure, it requires patience. Sure, that means holding a larger number of properties without tenants. If that represents the soundest financial path, we have no problem with it. For context, that figure of 131 came down from 140 at the close of Q4, since we took back 65 of our NPC properties. Not only did the team manage to handle the Q1 lease rollovers, they also made meaningful headway — quite impressive progress — on the properties returned to us through the NPC deal. I have tremendous confidence in the group we have and in the asset management team under TJ's leadership. They're an outstanding bunch. What we hope to accomplish once we bring VEREIT into the fold is to apply that identical playbook. That's why we're inclined to retain a substantial number of their people and possibly introduce them to how we operate, aiming to replicate the kind of outcomes we've achieved on our own. Through this merger, that's one more dimension we can improve.

Rob, the important term got drowned out by a loud beep. What was it you mentioned that we have to maintain going forward and that represents just a tiny portion of our operations? Now, regarding your second question — how are you viewing things ahead? Lately, it has largely been outside retail, and even on the whole, it accounts for a rather minor slice of O right now, and it's set to shrink considerably once the acquisition closes. Is it necessary to retain that in order to meet commitments to customers? Does it disappear? Could it possibly expand in the future for you folks?

Let's talk about the development side. It's largely non-retail, and honestly, even on the whole, it's a pretty tiny portion of O right now, and it's going to shrink considerably. Are you expanding that? Does it have to remain in place because of obligations to customers, and so forth? What's your thinking on that segment?

Excellent question. Our hope is to expand that segment. Today it's roughly a $200 million business. You're exactly right — relative to the balance sheet we hold, that isn't particularly big. A few of the repositionings I mentioned, a few of the ties we maintain with current industrial clients who are looking for expansion capacity. A few of the ties we're building with developers to serve as a capital source that might function as a takeout. Every bit of that is enormously valuable to us. With a larger platform, I'd be delighted to see this reach 3x, 4x what it is now, and become one more source of value for our business. We've got a team we've kept growing, and via this combination, we'll perhaps expand that team further still, so we can keep boosting value down the road, even while simply handling our own current assets. Returning to what you asked earlier, handling vacant assets or assets about to become vacant and carrying out repositionings. That calls for in-house development expertise; we'd definitely keep it and expand it, and possibly increase the allocation beyond where it stands now.

Okay. Thanks, guys. Appreciate it.

Sure.

Thank you, Rob.