Realty Income - Earnings Call - Q2 2011

Transcript

Speaker 1

Welcome to the Realty Income second quarter 2011 earnings conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. A chance will be provided at that time for you to field your questions. If anyone has any difficulties during the conference, please press star followed by zero for operator assistance at any time. I would like to remind everyone that this conference call is being recorded today, Thursday, July 28, 2011, at 1:30 P.M. Pacific Standard Time. I'll now turn the conference over to Mr. Tom Lewis, CEO of Realty Income. Please go ahead.

Speaker 2

Good afternoon, everyone, and thanks for joining us on the call to discuss our second quarter of this year. In the room with me, as usual, is Gary Molloy, our President, Chief Operating Officer; Paul Meurer, our Executive Vice President, Chief Financial Officer; John Case, our AVP and Chief Investment Officer; and Michael Pfeiffer, our AVP and General Counsel. During this conference call, we will make certain statements that may be considered to be forward-looking statements under Federal Securities Law. The company's actual future results may differ significantly from the matters discussed in any forward-looking statements, and we will disclose in greater detail in the company's Form 10-Q the factors that may cause such differences. With that, as is our custom, we'll let Paul start with some discussion of the numbers.

Speaker 6

Thanks, Tom. As usual, I'll just briefly walk through the financial statement and provide a few highlights of the financial results for the quarter starting with the income statement. Total revenue increased 24.5% to $102.6 million this quarter versus $82.4 million during the second quarter of 2010. This reflected a significant amount of new acquisitions over the past year, as well as positive same-store rent increases for the quarterly period of 1.8%. On the expense side, depreciation and amortization expense increased by $5.7 million in the comparative quarterly periods, as, of course, depreciation expense increased as our property portfolio continues to grow. Interest expense increased by just over $4 million. This increase was due to the $250 million of senior notes due 2021, which we issued in June of last year, and our recent issuance of $150 million of notes in the reopening of our 2035 bond.

On a related note, our coverage ratios both improved since last quarter, with interest coverage now at 3.6 times and fixed charge coverage now at 2.9 times. General and administrative, or G&A, expenses in the second quarter were $7,987,000. As we've mentioned over the past year, these comparative increases in G&A are due partly to recent hirings in our acquisition and research department. Our G&A expense has increased as our acquisition activity has increased, and we've invested in some new personnel for future growth. Furthermore, and specific to this quarter, this quarter's G&A was also impacted by the expensing of $542,000 of acquisition due diligence costs. That compares to a similar number of our category of $40,000 of acquisition due diligence costs in the comparative quarter a year ago.

Our current projection for G&A for the year for 2011 is approximately $29.5 million, which will represent only about 7% of total revenues. This is only a slight increase from the $29 million estimate we gave you last quarter for the year. The additional $500,000 reflect, of course, this $500,000 of unique acquisition expenses during the second quarter. Property expenses remain flat at $1,656,000 for the quarter. These expenses are primarily associated with the taxes, maintenance, and insurance expenses, which we are responsible for on properties available for lease. Our current estimate for 2011 remains about $7 million. Income taxes consist of income taxes paid to various states by the company. They were $368,000 during the quarter. Income from discontinued operations for the quarter totaled just under $1.3 million. Real estate acquired for resale refers to the operations of Crest Net Lease, our subsidiary that can acquire and resell properties.

Crest, however, did not acquire or sell any properties in the quarter. Overall contributed income of $220,000. Real estate held for investment refers to property sales by Realty Income from our existing core portfolio. We sold six properties during the quarter, resulting overall in income of just over $1 million. These property sales gains are not included in our FFO or in the calculation of our AFFO. Preferred stock cash dividends remained at $6.1 million for the quarter, and end income available to common stockholders increased to approximately $33.2 million for the quarter. Funds from operations, or FFO, increased 30.1% to $60.9 million for the quarter, and on a per-share basis, FFO per share increased 6.7% to $0.48 for the quarter. Adjusted funds from operations, or AFFO, or the actual cash we have available for distribution and dividends was higher at $0.49 per share for the quarter.

Our AFFO is usually higher than our FFO because our capital expenditures are fairly low, and we have minimal straight-line rent in our portfolio. We increased our cash monthly dividend again this quarter. We've increased the dividend 55 consecutive quarters and 62 times overall since we went public over 16 and a half years ago. Our dividend payout ratio for the quarter was 90% of our FFO and 88% of our AFFO. Now turning to the balance sheet for a minute, we've continued to maintain a very conservative and safe capital structure. Our current debt to total market capitalization is only 28%, and our preferred stock outstanding represents just 5% of our capital structure. We did assume mortgage debt of approximately $60 million on three properties we acquired during the quarter. We plan to repay these mortgages at the earliest economically feasible prepayment date.

Full details regarding these mortgages can be found in the 10-Q to be filed shortly. In June, we raised $150 million of new capital with the reopening of our 2035 bond. Since some of the identified acquisitions we have did not close in the second quarter, we ended up with $156 million of cash on hand at June 30, and we estimate, of course, using that cash for acquisitions during the third quarter. We also have zero borrowings on our $425 million credit facility, and we have no debt maturities until 2013. In summary, we currently have excellent liquidity, and our overall balance sheet remains very healthy and safe. Now let me turn the call back over to Tom, who will give you a little bit more background on these results.

Speaker 4

Sure. Let me start with the portfolio. Obviously, the metrics for the second quarter for the portfolio were very good, and operations continued to improve pretty much across the portfolio. At the end of the quarter, as you can see in the release, our 15 largest tenants accounted for about 52% of revenue. That's down 180 basis points from last quarter and about 260 basis points for the year. Additional sources of revenue have given us some added diversification, and the average cash flow coverage of rent at the store level for the top 15 tenants remained very stable at about 2.35 times. Overall, a very good metric. We ended the quarter occupancy, the second quarter was 97.3% and 68 properties available for lease, and that's out of the 2,523 properties we own.

That's up 50 basis points from the first quarter and about 110 basis points versus the same period a year ago. For the quarter, we had only two new vacancies. That's versus 10 in the first quarter, and we leased or sold 15 properties during the quarter, and I think added 10 to the portfolio, and that's the reason for the increase in occupancy, but at 97.3%, very healthy. My sense is we should probably look for the portfolio to operate at about this level going forward. I think with the normal amount of rollover and other activities in the portfolio, it may ebb and flow a bit around this number.

As we really look at our internal projections for the balance of the year, it may go up a bit next quarter, but I think this is around where we would anticipate being at the end of the year and back to where we were a few years ago, kind of before we went into the recession. At this level, we're pleased with that. Same-store rents from the portfolio increased 1.8% during the second quarter. That's compared to 1.1% in the first quarter and then 1% in the fourth quarter of last year and 0.3% the third quarter. We've kind of seen, as expected, that number continue to increase, and when we get up to about 1.8% to 2%, that tends to be on the high end for Realty Income being a net lease company and pretty healthy for us.

If you look at the same-store rents, kind of where they came from, we had only one industry that had declining same-store rents in the quarter, and that was from quick service restaurants. It was declined only to about $109,000. We had four industries where we had same-store rents flat, and then 25 saw same-store rent increases with very healthy increases, primarily from the movie theaters and then, surprisingly but very nice, the RV vehicle dealerships that we have in the portfolio, and then some added in, as usual, convenience stores and automotive stores for a net gain there of about $1.4 million and overall in the portfolio. Obviously, the occupancy gains and same-store rent increases over the last four quarters have been very healthy, and the portfolio continues to do very well.

Just to comment on diversification, we continue to widen that out as we add new industries and tenants. Basically, we're now, I think, 2,523 properties in 37 different industries and 131 multiple-unit tenants in 49 states. The industry exposures are moving around a bit, and we remain very diversified. Convenience stores remain our largest at 19% of rent, and that's down about 90 basis points from last quarter. Restaurants continue to come down, as we've been working on that for the last couple of years. It's down to about 17.5% of revenue. That's down 140 basis points from last quarter and about 440 basis points over the last four or five quarters, and we think that will continue.

I also want to point out one of the things we did, one of the charts was on industry diversification that we have in the press release, and we're often asked of the restaurants in the portfolio, "How much are QSR, quick service restaurants, or fast food, and how many are casual dining?" We went ahead this quarter and broke those out and really broke them into two segments. We still view that industry of restaurants as being one industry that we want to keep below 20% of rent, but we thought we'd break it out, and we hope that's helpful.

Behind that, theaters is our next largest industry at 7.8%, and then the only other categories that really come in over at 5% are automotive tire stores at 6.3%, beverages at 5.7%, and then child daycare at 5.4%, which interestingly, I would note that at 5.4%, I think childcare was 50% of the portfolio when we came public a number of years ago. We remain in good shape and trying to improve on diversification. Our largest tenant is Diageo at 5.4%, and then, as you see in the chart, LA Fitness and AMC behind that. With all 15 of our largest tenants really contributing a smaller percentage of revenue, it's widening out. When you get to the 15th largest tenant, as you can see, you're at 2.1%. When you get to the 20th, you're below 1.5%, and it goes down pretty quickly under there. Geographically, we remain fairly well diversified.

Average lease length in the portfolio at the end of the quarter was 11.1 years, so that's very healthy and remains strong, and I think overall a very good quarter for portfolio operations. Let me move on to property acquisitions. During the second quarter, we continued to be active. We acquired 10 properties for $213 million. The average lease yield or cap rate on those in the quarter was 7.5%, average lease term about 13 years, and the 10 properties that we bought are leased to eight different tenants, and those eight different tenants are in seven different industries. I would note that of the $213.5 million that we acquired, approximately $206 million was part of the $544 million transaction that we announced in the first quarter. If you look at that $544 million, we bought $130 million in the first quarter, $206 million here in the second quarter.

That gets us to $336 million and leaves us with another $208 million of that transaction to close in the third quarter, and we believe all of it will close by the end of the third quarter. For the first six months, then, that gets us to $364 million at a 7.6% cap rate. If you then add in the $208 million I just mentioned that should close in the third quarter, that should get us really about $564 million for the year at probably around a 7.8% cap overall. We think we'll continue to add to that, and we'll see at what rate, but right now, for our planning purposes, we're using $600 million to $800 million in acquisitions for the year at around an 8% cap rate or so, and that's what kind of underlies our guidance. That obviously would be another good year for us for acquisitions.

Let's talk about cap rates for a moment. The cap rate for the quarter was a bit lower than usual at 7.5%, but that was due primarily to the fact that the portion of the $544 million transaction, that's $206 million of the $213 million we bought this quarter, had really a cluster of the highest credit tenants in that transaction. We were very much working up the credit curve in the quarter, and the properties we closed were with tenants like MeadWestvaco, T-Mobile, FedEx, and Coca-Cola. Obviously, when you're working up the credit curve with those types of tenants, the rates are lower, and they just happen to be clustered into the closings this quarter, and that's why a little bit lower rate. I think we'd look for cap rates to increase a bit on the assets that we acquire the balance of the year.

That's true in the third quarter for the $206 million remaining in this transaction, and I think also for the other things that we're working on. I think out in the marketplace, while cap rates remain very competitive, the lower cap rate so far this year is just primarily a factor of working up the credit curve. The majority of what we'll close in the third quarter, and I think beyond, would likely be 50 basis points higher or more than what we did this quarter, and that should probably get us to about an 8% cap by the end of the year, give or take 10 or 20 basis points. That's really where that came from. Kind of talking about the acquisitions market overall right now, we continue to see a very good flow of acquisition opportunities to work on.

The transaction flow is very healthy, and it's kind of continued to increase really since about the second quarter of 2010. There were a lot of transactions, and we're very busy in underwriting. Also, the majority of what we're looking on is kind of in our traditional retail net lease areas at the moment, and there's quite a bit going on. However, it is also a very competitive market. There's a lot of capital sloshing around looking for a home, and a lot of it is also in the triple net lease market. While it's very competitive, that leads, I think, some of the transactions to be a little loosely structured. Trying to figure out exactly what we'll be able to close, even though there's a fairly high level of transactions that we're looking at, is a bit difficult.

Even at these cap rates, given cost of capital, obviously, spreads remain very good, and it's a good environment to the extent that we can continue to find good things to buy. Let me move to guidance for a minute. Obviously, the acquisitions and increasing occupancy and same-store rent have increased our revenue and FFO and AFFO numbers, and we think that'll continue to be the case the balance of the year and, I think, in the next year. In the release, as you can see, we took a couple of cents off the top end of the guidance.

That was really due to three things, the first of which is, as I mentioned, some of the closings on the $544 million transaction fell back by a few months due to some of the issues related to assuming mortgages on those properties, and that's a process that is fairly new for us. Additionally, some of those were properties with mortgages that we thought we might assume for a couple of months until we had a chance to totally pay them off. As it turned out, as we went through the transaction, there were some fees and costs with the lenders for the assumption that we just decided it wasn't economic to take. If we just waited a couple of months to close those, which we put under the contract, we could just pay those mortgages off. Those moved into the mid to late third quarter on that $206 million.

Obviously, the revenue that would have started booking somewhere in the second quarter was put off for a quarter or so. The second thing that we did is elected to move into the bond market, open up our 30-year, and raise $150 million of capital with a 24-year debt offering. We thought the rate was attractive, the market was open, and notwithstanding that we knew we didn't need the money right away. We knew we needed it by the end of the summer, but having that cash on hand was also contributory. Paul finally mentioned that there was about $550,000 of additional G&A from direct transaction costs, and there was also really another $200,000 in G&A that were not research or due diligence costs, but were just costs relative to some legal fees and other things and state fees that directly related also to those acquisitions.

So there's about $750,000 there in G&A. The net effect of the three of those together is responsible for taking $0.02 off the top of the guidance. I hope that's helpful. For the year, then, we're estimating FFO of $1.98 to $2.02. That's about 8.2% to 10.4% FFO growth. AFFO of $2.03 to $2.05. That's 9% to 10% AFFO growth. Obviously, that should allow us to continue to grow the dividend and, at the same time, bring the payout ratio down quite a bit. At this point in the year, if acquisitions accelerate further, that would add to the numbers to some extent for this year. Obviously, as we're sitting here in the third quarter and you look at acquisitions and as they close later in the year, it'd be more additive to next year's numbers as we buy in the third and fourth quarter. I'll just finish.

Paul mentioned the balance sheet, which is in very good shape, and we're very liquid and have capital to move forward and do additional acquisitions. To summarize, it was a very, very good quarter for the portfolio. Continue to be active in acquisitions and revenue. FFO and AFFO grew nicely, should continue to grow. With that, Eva, if we can, we'll open it up to any questions.

Speaker 1

Thank you. Ladies and gentlemen, we will now conduct the question-and-answer session. If you have a question, please press the star followed by the one on your touch-tone phone. You will hear a tone acknowledging your request. Your questions will be pulled to your earlier receipt. Please ensure you lift your hands up if you're using a speakerphone before pressing any keys. One moment, please, for our first question. Our first question comes from the line of Joshua Barber with Cecil Nicholas. Please go ahead.

Speaker 7

Hi. Good afternoon.

Speaker 2

Good job, Josh.

Speaker 7

Just on, I guess, from a high-level view, how would you guys think of growth versus portfolio sales going forward as the portfolio is getting now close to $4 billion? Might just, I guess, you know there has to be some additional size if you really want to make future breed of acquisitions. Do you guys think about either paring back the portfolio on some of the lower-quality stuff, or do you think that the primary growth is going to come from acquisitions going forward?

Speaker 2

Yeah. I think I would hope over the long term, given how we structured the leases, there's probably 1.5% to 2% internal growth from same-store rent increases given the kind of flat occupancy. You're right, the majority of the rest of the growth really has to come externally. As we get larger now, if you're looking at 5% FFO growth in the next year, you're probably looking at about $700 million of acquisitions. Fortunately, even though we've grown, it is a very large market, the net lease market of which we hold a very small share, so I think we can continue to grow.

With that said, one of the things that we're really trying to focus on, and it's likely not to have as much impact this year, but going into next year and the following is really doing what you said, which is we have a project underway to go through the portfolio and kind of look at each of the properties and rate them 1 through 2,500 plus relative to what we think the long-term risk is, return. That's a project that's ongoing. We're going to marry that also with a tenant review and kind of take a look at, as we look forward 5, 10 years, given we've had 30 years of declining interest rates and we're almost at zero, kind of how we view the tenants relative to their operations, but also if they had to go out and refinance their balance sheets, which most will.

The combination of those two will lead us probably in the next year and the year after to work on some portfolio sales. While I don't think it'll be massive, I think it will step up continuously what we're selling off. That may be partially with fund acquisitions, but I still believe that acquiring property will be responsible, new assets responsible for our growth primarily in the next three, four years.

Speaker 7

That's very helpful. You also touched before on the 1031 market. Have you seen any additional demand coming from that market, or it's still been sort of sleepy like it's been the last year or so?

Speaker 2

It's still, you know, even versus where it was a few years ago, it's very sleepy because obviously the one thing you have to have is the gain to need a 1031. As we've seen cap rates fall and prices rise, there's a little more activity in the 1031 market out there. Absent the volatility you're seeing, we're all watching potentially in the financial markets today. It is a time where there probably would be some opportunities for sales coming there. That's fine for selling out of the portfolio relative to adding assets and starting Crest back up. Given potential volatility, I'm not quite sure I'd do it yet. If things continue and rates stay low, then there probably will be additional demand coming on from the 1031 market on one-off transactions.

Speaker 7

Great, thank you very much.

Speaker 1

Our next question comes from the line of Lindsey Schroll from Bank of America. Please go ahead.

Speaker 3

Good afternoon. I'm not sure what the three remaining Crest properties are, but I guess, is there any thought that you would dispose of those three assets and get rid of Crest altogether?

Speaker 2

I don't think we'd get rid of Crest altogether. I think there may be a time in the future when we could use it again, although I don't know in how much volume. To give you an idea, Crest at its peak, where we had well over $100 million inventory, there were approximately two employees in Crest. The person that was a professional there is still with us and is doing a lot of our good acquisition work, and the other person has really transferred aside. Crest has no employees, and really the only expenses that we have there are a little bit of tax and bookkeeping. The three assets that we hold in there are assets that we wrote down quite a bit.

They were three Hometown Buffets, and I think at their current carrying value, we're more focused now on leasing them and hope to have some progress there and then decide what to do with them. There are also a couple of other assets in Crest that are generating income, and these are mortgages taken back at a fairly low loan-to-value ratio from a couple of sales we did. There is very little cost in Crest, but there is some revenue coming in there right now, and we may use it again some days. There's not a huge carrying cost.

Speaker 3

Okay. Thanks. What is really driving the higher level of opportunities that you're seeing?

Speaker 2

That's an interesting question. I think M&A is back on the table, and we've started to see that heat up. I also think that there are a number of, you know, investment banks that have been talking to their clients about taking advantage of what is a bit of a resurgent market relative to net lease properties, and that the flow has just continued to pick up. We thought it had kind of flattened out in the first quarter, but as we sit here today, I know the flow we're seeing from investment banks directly, from retailers, and then the private equity firms has increased quite a bit. That's basically it. The volumes have increased, and there's a lot out there. I think I used a line on the last call that gods are good, but the goods are odd.

You know, given kind of animal spirits re-emerging back into the marketplace, some of these are structured at prices and cap rates that don't make sense for us. There are a lot of players out there, and I think some of them are going to end up in our sweet spot, and we'll be able to do some more. It is very active.

Speaker 3

I agree. Thank you.

Speaker 1

Our next question comes from the line of Michael Billerman with Citi. Go ahead.

Speaker 8

Happy here. You guys spoke a little bit about the general health of the retail environment. You had a good uptake in lots of incentive quota. Has anything changed from the leasing discussions recently that led to that, or is this just sort of a gradual improvement?

Speaker 2

Yeah. It's first in lease rollover. We had some pretty good results, and you'll see a differential. I think we had 86 properties to do at the start of the year, and we've gotten 40 of them done and had pretty good results in there. There wasn't really anything coming on from that. Not a lot of tenant activity in terms of getting anything back. People during the second quarter, first quarter felt better about leasing space to smaller tenants and growing their businesses. I don't want to sound like it's a great retail environment. I think over the last 30 days or so, people were a little more cautious. Here in the third quarter, I think the activity is going to be pretty good.

Speaker 8

Okay. Do you have any time around speaking as to when you think the mortgages will be tightened?

Speaker 2

By the way, the first back on the other one too. The other thing is I'm also speaking most of what we have is smaller box-type space. I'm not sure that would be true for the larger box. I just make that caveat. Relative to the mortgages, Paul?

Speaker 6

Greg, we'll give all the details in the queue, but just so you know, it's four different mortgages on three different properties, aggregating about $58.6 million. We will be paying those off somewhere between 2013 and 2015. That's the earliest very economically feasible prepayment date.

Speaker 2

When we first announced that transaction, we thought we might have $90 million, $92 million in mortgages, but we were able to work on that and get it down to about a little under $60 million.

Speaker 8

Okay, Greg. Thanks so much.

Speaker 1

Our next question comes from the line of Todd Lukasik with Morningstar. Please go ahead.

Speaker 0

Hi, thanks for taking my questions, guys.

Speaker 2

Hey, Todd.

Speaker 0

Just a quick question. You talked a little bit about the retail environment. It sounds like it's still pretty healthy. I think the last couple of quarters, there have been no tenants on the credit watchlist. Is that still the case?

Speaker 2

Yeah. There's nobody on the credit watchlist, which we think anything is imminent. We've got a lot of tenants, and there are a couple that I think, and this particularly over the last three, four months, is if you look at those that really work with kind of low income, those are the people that continue to suffer. I don't think we paint a picture generally that most of our businesses came back really well, but there are a few guys there still working very hard, but nothing that we see as imminent.

Speaker 0

Okay. You mentioned the cash flow coverage or rent, Tom. Do you have the range for the top 15 tenants?

Speaker 2

Yes, I do. It's about the same as last quarter, 1.5% to 3.5%.

Speaker 0

Okay. Thanks. With regards to the direct transaction costs, should we think about those as costs for already agreed-to acquisitions, costs related to potential future acquisitions, or a combination of the two?

Speaker 6

I'd say primarily associated with acquisitions that are either closed or in the process of closing. Unique kind of diligence costs on unique property types, as well as the unique work you need to do on in-place leases, if you will, things of that nature. Can you have a large portfolio?

Speaker 0

Yes. Okay. My last question, just with regards to dividend coverage, is obviously improving. As the board thinks about a dividend increase in the third quarter, can you just give us some idea around what type of metrics they'll be looking at to set a possible dividend increase?

Speaker 2

I think we've been steadily increasing the last few years, small amounts on a quarterly basis. That's particularly as revenue and FFO flattened out during the recession. This has been a bit of a catch-up going on, getting the payout ratio back down in the 80%. I think by the end of the year, we will have done that. My sense is, although this is going to be a subject at our board meeting, that it wouldn't be a bad idea to have just the core increases this year. Next year, probably look at the dividend increases would be much closer to matching FFO growth.

Speaker 0

Okay. Great. Thanks for taking my questions, guys.

Speaker 1

Our next question comes from the line of Omotayo Okusanya with Jefferies. Please go ahead.

Speaker 5

Hi. Yes. Good afternoon. I love the lines of the applicant pipeline. I know recently you guys have been doing more deals with higher credit tenants at much lower cap rates. When we kind of think about just the overall competitive environment, as you mentioned, and cap rates keep going down, how should we be thinking about your appetite to keep doing deals at pretty tough cap rates? Should we be kind of thinking about you guys slowing down or you guys still being very competitive, but maybe levering up the balance a little bit more to make sure you can end up with a decent spread on those deals?

Speaker 2

Yeah. Even though rates in the last couple of years have fallen, the spreads have been the widest they've ever been since we've been in business. Right now, I think, again, working up the credit curve, we're really looking at around 8% cap rates on what we're doing. An 8% cap rate in this cost-to-capital environment is a pretty good rate. Relative to levering up, I'm not sure that we want to take balance sheet metrics much further out than they are. Like you saw us do a quarter or so ago, to the extent we do it, we probably want to do it in very long-term paper. With rates near zero, I think the odds in the next 5, 10 years for interest rates to be a little higher are decent. I'm not sure you want to add onto your balance sheet intermediate and short-term financing.

You're going to have to refinance at a higher rate. I think it'll come a combination from equity, maybe a little preferred, maybe a little debt, and then on an accelerated basis, but not the majority from asset recycling as we move into the next couple of years or so.

Speaker 5

Okay. That's helpful. Are there any retail categories that you guys would be more interested in increasing exposure to or decreasing exposure to going forward?

Speaker 2

In the retail area, you know, we continue to like the convenience stores, but we're pretty heavy there, but we can do some more. The casual dining restaurant is not an area that we'd want to go to, but quick service is a nice solid business if we could get the right tenant. I, you know, movie theaters, we like theaters quite a bit. That's always of interest to us and still under 10%. Outside of that, in the other areas that we newly went into, the transportation, you know, FedEx-type tenants are some that if we can be additive there and get a cap rate that makes sense, we wouldn't mind doing it. It's pretty broad-based.

It really has more to do with the particular transaction, cash flow coverage, and/or credit, and the prices and cap rate we can get rather than saying, "Hey, this is the industry we want to go after.

Speaker 5

Okay. Just last question, any updates? I mean, you've had the Diageo deal under your belt for a bit now. Just how that's going relative to your initial plan?

Speaker 2

Absolutely great. They're a great tenant, obviously a very, very good credit in their business. It continues to move forward. We have Diageo on the lease for a very long time. You know, buying, I think we added on Hewitt as another one of their wineries. It's Sterling and BV, and both doing well. I don't know, as a reader of the wine spectrum, strongly recommend the 2007 George Taylor Tour, Private Reserve, all over me. 90 points.

Speaker 5

Got it. All right. Thank you very much.

Speaker 1

Our next question comes from the line of Wes Golladay with RBC Capital Markets. Please go ahead.

Speaker 0

Can you comment on what type of tenants have been actively leasing your vacant properties?

Speaker 2

Oh, interesting. It's pretty broad-based. A lot of this was smaller. Some of it's childcare and restaurant that we added over the years. It's been a combination of local tenants primarily or small three, four, five, six-unit chains. That's why you've seen kind of more sales than leases, but pretty broad-based. We've been out there really working hard, beating the bushes. One of the advantages of having smaller units is you have the opportunity to work with some smaller organizations, and then it's a question if you're more comfortable keeping them in the portfolio and selling them. It really is a lot of two, three, four-unit people that look at the current opportunity and see an opportunity to expand. I really give credit to our people in portfolio management. They've been very active and very successful this year.

Speaker 0

Great, thanks. Thanks for the wine recommendation.

Speaker 2

You're welcome.

Speaker 1

Our next question comes from the line of RJ Milligan with Raymond James. Please go ahead.

Speaker 8

Good afternoon, guys.

Speaker 2

Hey, RJ.

Speaker 8

I was just curious if you're seeing any change in terms of the mix of where the capital is coming from looking for the triple net assets, and if, you know, maybe some of the recent economic data points have changed in the mix.

Speaker 2

In terms of the capital that is looking to buy properties?

Speaker 8

That's correct.

Speaker 2

Yeah. The private REIT space, which is getting a lot of press today, both in a, there's been a couple of people there that have been expanding, and that just seems to be the asset class they've moved to next. There's a fair amount coming from that end of it, as well as the public companies being active. There's also some kind of real estate private equity that's out after it. Even some of the mortgage people that aren't able to get the yields they want in their business have been opening up some shops to do this. This has happened three, four, five times since we've been public. There's just a lot of people looking to move into this space right now as they see falling cap rates in other areas trying to get some yield.

Pretty broad-based, and it's very active, but we think we'll get our appropriate share of the business.

Speaker 8

There's still pretty strong demand from, say, the smaller owners, the more local guys?

Speaker 2

There's demand for buying triple net leases. The 1031 market's picked up a bit, but it's a lot of larger transaction stuff. There's just, as we all know, a lot of money on the streets walking around, and some of it's looking to net lease given where the yields are today.

Speaker 8

Okay, great. Thanks, guys.

Speaker 1

Our next question comes from the line of Todd Sencer with Wells Fargo Securities. Please go ahead.

Speaker 7

Hi, guys.

Speaker 8

Hey, Todd.

Speaker 7

Building off the ECM portfolio, do you find yourself in more conversations for deals in the FedEx-type acquisition opportunities, or is it really still too early to see any flow from that yet?

Speaker 2

I think it's too early to see flow on a current quarter, but we're in a lot of discussions there. We're kind of adding to our efforts in that area because we think it'd be a very good place to go. If one of your views is interest rates could be higher in the future, we'll look back on some of the lower-rated tenants, and some of their success may have come from a low-interest rate environment over a full long period of time. Moving up the credit curve over the next 5, 10 years is not a bad place to be. We are putting more effort there, and it's some nice discussions with some very large corporations just about how they view the world. We hope, going into next year, that that'll be additive.

The initial moves we had here were some industrial and distribution, and manufacturing was really a function of the two transactions, Diageo, and then secondarily the ECM. Now we're trying to get granular with those people. As it is when you go into a new line here, it's going to take a year or two or three. I think we can see to have better clarity of exactly what it's going to be, but we're active.

Speaker 7

Okay, great. Thanks, guys.

Speaker 1

There are no further questions at this time. This concludes the question-and-answer session for the Realty Income conference call. Mr. Lewis, please continue.

Speaker 2

Great. As always, thank you very much for the attention. We appreciate it, and we look forward to talking to you again at one of the industry meetings or in the next 90 days when we do this again. Thanks so much. Thank you, Eva.

Speaker 1

Ladies and gentlemen, this concludes the conference call for today. Thank you, Mr. Lee. Please listen next to the lines.