Realty Income Q3 2021 Earnings Call Transcript

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Provided by AlphaStreet
November 2, 2021
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Operator

Good afternoon. My name is Emma, and I will be your conference operator today. At this time, I would like to welcome everyone to the Realty Income Third Quarter 2021 Operating Results Conference Call. [Operator Instructions] Thank you. Julie Hasselwander, Investor Relations at Realty Income, you may begin your conference.

Julie Hasselwander
Investor Relations Executive at Realty Income

Thank you all for joining us today for Realty Income's Third Quarter Operating Results Conference Call. Discussing our results will be Sumit Roy, President and Chief Executive Officer; and Christie Kelly, Executive Vice President, Chief Financial Officer and Treasurer. During this conference call, we will make certain statements that may be considered forward looking statements under federal securities law. The company's actual future results may differ significantly from the matters discussed in any forward looking statements. We will disclose in greater detail the factors that may cause such differences in the company's Form 10-Q. [Operator Instructions] I will now turn the call over to our CEO, Sumit Roy.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Thanks, Julie. Welcome, everyone. Our strong relationships with all our stakeholders enable the success of our business, and we thank everyone listening for your continued support. Additionally, I would like to express my appreciation of our expanded Realty Income team for their tireless efforts in executing on our strategic objectives. Today, our business is at an inflection point where the advantages of our growing size and scale provide us an accelerating number of opportunities, compounding our aptitude for growth. We see momentum accelerating across all facets of our business as a result of the following growth catalysts. First, the depth and breadth of our active global pipeline remains robust. During the third quarter, we acquired over $1.6 billion of real estate across three countries, resulting in approximately $3.8 billion year to date. We now expect to invest in over $5 billion of real estate in 2021, an increase from our prior guidance of $4.5 billion. Second, we believe our expansion into Continental Europe during the third quarter will significantly deepen our addressable market at attractive spreads relative to our weighted average cost of capital, particularly given the comparatively low unsecured borrowing rates in the European bond market. Third, our asset management activities continued to generate strong results. At the end of the third quarter, our portfolio was 98.8% occupied, and we achieved a rent recapture rate of 107.2%, illustrating the relentless efforts of our asset management team and highlighting the quality of our real estate.

And finally, with the closing of the VEREIT merger, we believe our size, scale and diversification will further enhance many of our competitive advantages which we suspect should allow us to augment our investment activities in the future. The closing of our merger with VEREIT, as well as the anticipated and subsequent spin off of substantially all the combined companies' office properties, which, as previously announced, is expected to be completed on November 12, allows us to provide enhanced clarity on our near-term earnings run rate. To that end, we are increasing our 2021 AFFO per share guidance to $3.55 to $3.60, representing 5.5% annual growth at the midpoint. And we are introducing 2022 AFFO per share guidance of $3.84 to $3.97, representing 9.2% annual growth at the midpoint. Our 2022 guidance assumes over $5 billion of acquisitions and over $40 million of year one G&A synergies we have identified as a result of economies of scale from the merger. These guidance ranges also assume that the anticipated spin-off of our office properties is consummated, as anticipated, on November 12.

With the closing of the merger, our combined company eclipses $50 billion in enterprise value with size and scale to support numerous growth verticals, providing flexibility to close large transactions without creating concentration risk. Additionally, through this merger, Realty Income has inherited a pipeline, platform and talented acquisition team focused on sourcing high yielding products that will be additive to our existing pipeline. Further, over time, we expect to generate meaningful earnings accretion by refinancing VEREIT's outstanding debt, supported by our comparatively lower borrowing costs driven by our A3/A- ratings and capacity to issue debt in lower yielding markets. Finally, we are excited to integrate the capabilities of many talented VEREIT colleagues into the Realty Income business as we continue to execute our growth initiatives as one team. Now turning to the results for the quarter. We continue to add attractive real estate to our portfolio at a rapid pace. During the third quarter, we sourced nearly $24 billion of acquisition opportunities, ultimately selecting and closing on less than 6%. Of the $1.6 billion of real estate we added to the portfolio in Q3, the largest industry represented was U.K. grocery stores. On a revenue basis, approximately 38% of the acquisitions made during the quarter we leased to investment grade rated clients, and our total investment grade client exposure remains approximately 50%. The weighted average remaining lease term of the assets added to our portfolio during the quarter was 13.4 years. And in aggregate, all of our acquisition activities during the quarter resulted in healthy investment spreads of approximately 164 basis points. As of quarter end, our portfolio remains well diversified, including over 7,000 assets leased to approximately 650 clients who operate in 60 separate industries located in all 50 U.S. states, Puerto Rico, the U.K. and Spain. Giving pro forma effect to the closing of the merger and the anticipated spin off of our combined office assets as of September 30, 2021, our portfolio now includes over 10,500 assets located in all 50 U.S. states, Puerto Rico, the U.K. and Spain.

Our international pipeline continues to add meaningful value to our portfolio, and we believe it will remain an important driver of growth going forward. In total, of the nearly $24 billion in acquisition opportunities that we sourced this quarter, approximately 34% was associated with international opportunities. During the third quarter, we added approximately $532 million of high quality real estate in the U.K. and Spain across 31 properties, bringing our total international portfolio to over $3.2 billion. This quarter, our international acquisition accounted for approximately 33% total acquisition volume. As previously announced in September, we made our debut acquisitions in Continental Europe through a sale leaseback transaction with Carrefour in Spain. Subsequent to quarter end, we announced the completion of an additional Carrefour transaction in Spain, bringing the value of our Continental Europe portfolio to approximately EUR160 million. We are optimistic about our momentum in Spain as we look to replicate the success of our international growth platform throughout the continent with best in class operators who are leaders in their respective industries. The health of our core portfolio remains of utmost importance as we continue to expand our platform. At the end of the third quarter, occupancy was 98.8% based on property count, which represents an increase of 30 basis points as compared to last quarter. During the quarter, we re leased 50 units, recapturing 107.2% of expiring rent, bringing our year to date recapture rate to 105.5%. We continue to report on quarterly recapture rates and believe this is one of the most objective ways to measure underlying portfolio quality in the net lease industry. Since our listing in 1994, we have executed over 3,800 re-leases or sales on expiring leases, recapturing over 100% of rent on those re-lease contracts. At this time, I'll pass it over to Christie, who will further discuss results from the quarter.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

Thank you, Sumit. This quarter, our business generated AFFO per share of $0.91, strengthened by our acquisition pace and the collection of almost 100% of contractual rents in the third quarter. During the quarter, our theater clients paid approximately 99.6% of contractual rent, representing a meaningful improvement compared to the 38% collection rate in the second quarter. We continue to be encouraged by the strong box-office performance of recent blockbuster releases, which we believe signals the long-term viability of the theater industry. I was looking forward to the release of the James Bond film, No Time to Die, for months. And based on recent box office numbers, so were many across the globe. We currently have 34 of our 79 theater assets on cash accounting with approximately $37 million of non-straight-line reserves on our balance sheet. Like our business strategy, our approach to evaluating when these 34 theater assets moved back's to an accrual basis and the appropriate time to reverse the allowance for bad debt reserves will be conservative and data driven. More specifically, we will assess the likelihood of collecting on these amounts by evaluating store-level and industry wide data in conjunction with sustaining payments of past due rents over a healthy period of time. As we continue to expand our platform, we will remain steadfast in prioritizing low leverage and a conservative balance sheet strategy while financing our growth initiatives with attractively priced capital. At the quarter end, our net debt to adjusted EBITDA ratio was five times or 4.9 times on a pro forma basis, adjusting for the annualized impact of acquisitions and dispositions during the quarter. Our fixed charge coverage ratio hit an all-time high for the third quarter in a row coming in at 6.1 times. And during the quarter, we raised over $1.6 billion of equity, approximately $594 million, which was through an overnight offering that closed in July and the remainder primarily through our ATM program. During the quarter, we also issued our debut green bond offering, a $750 million multi-tranche, sterling denominated unsecured bond offering, which priced at a blended yield of approximately 1.48% for an 8.8-year blended tenor. We look forward to continuing to partner with our clients around sustainable practices in accordance with our Green Financing Framework. And now I'd like to hand our call back to Sumit.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Thank you, Christie. In summary, we are energized and pleased by the momentum we see across all areas of our business. We are proud to have closed the merger with VEREIT, and we expect the benefits of this transaction to be broad and lasting, enhancing our competitive advantages and generating shareholder value for years to come. Going forward, the possibilities of our business will be constrained by only our imagination. We look forward to continuing to execute on our strategic growth initiatives to strengthen our position as the global consolidator of the highly fragmented net lease space while providing our shareholders with compelling risk-adjusted returns over the long run. At this time, I would like to open it up for any questions.

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Operator

[Operator Instructions] Your first question comes from the line of Nate Crossett with Berenberg.

Nate Crossett
Analyst at Berenberg Bank

Congrats on the merge.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

Thanks, Nate.

Nate Crossett
Analyst at Berenberg Bank

I appreciate the color on the pipeline. I was just, maybe you could give a little bit more detail, just heading into the end of the year and into next year, what does the mix look like in terms of industrial versus retail, U.S. versus Europe? Was there a lot of overlap in the deal pipeline between VEREIT and O before the merge? And then I'll ask my second question at the same time. Just if you can comment on pricing dynamics, U.S. versus Europe.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Thank you, Nate. Good questions. And yes, we are so happy to have the merger behind us. In terms of the composition of the pipeline ahead, as well as what we've achieved, what we have, we shared with the market that they should expect the international acquisition to represent about 1/3 of our acquisition volume going forward. In terms of pricing, surprisingly, when I looked at the spreads that we are generating, either here in the U.S. and comparing it to what we were able to do in Europe, they are very similar for this quarter. And in some quarters, we've seen that we were able to get slightly higher yields in the international markets. And in other quarters, it has been the opposite. So there's really, the way we are thinking about our portfolio is through the macro lens that we've identified, what it is that is of interest to us.

And the area that we play in, in Europe is slightly narrower, and it's a function of the product that's available than what we play in the U.S. In terms of retail versus industrial, as much as we would like to do more industrial, the pricing in this market keeps us fairly constraint to that 10%. On a good quarter, we are able to get to that 15%, 17% ZIP code. But that's the composition of the industrial makeup of the overall acquisition. The rest of it is primarily retail. In terms of investment grade versus non-investment grade, we've said this in the past, and I'll repeat it again. When we look at credit and we do our own analysis, we don't go out saying, "If it's a non-investment-grade credit, we immediately disqualify it for consideration purposes." If you look at what we were able to achieve in the third quarter, only 38% of what we did was investment grade. So we are very comfortable looking at non-investment grade. And non-investment grade does not necessarily mean sub-investment grade. It just means that it doesn't have a rating from one of the two major rating agencies, and/or it might actually have a sub-investment grade rating.

But we are very comfortable with that. The last question that you had as a subpart to your first question was in terms of there being an overlap with what we are inheriting from VEREIT, and there really isn't much. There are certain acquisition opportunities that we would find VEREIT as a competitor, but they played in an area that we believe can truly be additive to our overall platform in the higher yield side. And we are so blessed to inherit this team, and we are really looking forward to being able to completely integrate them into our acquisitions team and have them continue to pursue the transactions that they were pursuing and potentially not be constrained by the cost of capital. So we genuinely believe that this is going to be an incremental to the acquisitions that we were able to achieve on a stand-alone basis. And then with respect to pricing, I think I sort of addressed that through my spread comment. So Nate, I don't know if there's anything specific you want me to dive into.

Nate Crossett
Analyst at Berenberg Bank

No. That's all very helpful.

Operator

Your next question comes from the line of Greg McGinniss with Scotiabank.

Greg McGinniss
Analyst at Scotiabank

So thinking about the merger with VEREIT, where they have, I think, maybe fewer true triple-net leases, on average, than you guys do, what percent of leases, after the acquisition and spin, are truly triple net or will truly be triple net? And will you be looking to offload some of those non triple net leases? And then in general, just how should we be thinking about the level of dispositions versus the $5 billion or more of acquisitions in 2022?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. Good questions, Greg. Look, I think the only area where I felt like they probably had non triple net leases was on the GSA side of the equation on the office portfolio that they had exposure to. Otherwise, largely, Greg, these are triple net leases. And if you think about how this particular portfolio was put together, we'll be able to give you a lot more color once we've got it all integrated. But I'd be very surprised to find gross leases, a preponderance of gross leases on the retail side and the industrial side of the equation. Obviously, industrial products, the landlord tends to be responsible for things like roof and structure, which one could argue is not a pure triple net lease, but that is largely the same case with respect to our portfolio as well. But the property maintenance is still the responsibility of the client, the property taxes. The insurances, insurance on those buildings, that's still the responsibility of the clients. So we still view those as predominantly net leases. So with the separation of the office assets through the spin and the GSA leases, I think we are going to be largely a net lease portfolio, very similar to the one that we have. So I don't think that that's going to pose any major issues, Greg.

Greg McGinniss
Analyst at Scotiabank

Okay. Yes, I was just looking at their, VEREIT's disclosure has 30% on the retail side, 40 something percent on the industrial side of double net. But I get your point on the level of obligation that's really entailing. And then in terms of the level of dispositions we should be thinking about whether there's a cleanup there or just in general versus the $5 billion of acquisitions?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. So we've been doing about $100 million to $150 million. The odd year, we've gone past $200 million in dispositions on a stand alone basis. We would like to inherit and really do a similar analysis on the portfolio that we are inheriting with VEREIT to see if that needs to be altered. A lot of the capital recycling that they were doing pre-merger was on the office side of the equation. And so I don't know if the number will dramatically increase beyond a leaner extrapolation of going, adding another $10 billion, $14 billion of assets. So maybe the $150 million becomes $250 million, $275 million. But give us a quarter to digest this and filter it through our own asset management lens, and we'll be able to come back to you with a lot more precise indication. But we don't suspect that it's going to be dramatically different from the run rate that we were doing on a stand-alone basis.

Greg McGinniss
Analyst at Scotiabank

Okay. And then just one quick point of clarification on the $24 billion of source opportunities. You said 34% was international. Is that all of Europe? Or is that just U.K. and Spain for now?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Primarily U.K. and Spain, but we are certainly looking at other geographies that we have identified as core to our expansion objectives, but it is primarily in the U.K. and in Spain.

Greg McGinniss
Analyst at Scotiabank

So we could see that source number go up as you start looking?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

More or less. As we start expanding, yes, you should expect that to go up.

Operator

Your next question comes from the line of Brad Heffern with RBC Capital Markets.

Brad Heffern
Analyst at RBC Capital Markets

On the acquisition guide for 2022, you've talked about how the VEREIT team is additive, but then the guide is the same, the same over $5 billion for 2022. So is that just beginning of your conservatism because there's limited visibility in the pipeline? Or how should we think about that?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Look, what did we start this year with? It was right around $3.25 billion, then we went up to $4.5 billion. And now, we are above $5 billion. And we want to come out with numbers that we are, we have a very high level of certainty associated with it. And as we start to develop our pipeline and visibility, we expect that number to go up. But we don't want to come out with a number that we feel like is overly aggressive coming out of the gate. So this has been something that has been very important to us to be able to deliver to the market what we say we will deliver. And as such, you should consider this to be our initial guidance. And the hope is we can do better than that. And with time and as soon as we are in the next year, we hope to be able to get more precise around what the acquisition guidance will ultimately turn out to be.

Brad Heffern
Analyst at RBC Capital Markets

Okay. Makes sense. And maybe for you, Christie, also on the '22 guide. Is there anything in there that would be considered kind of onetime in nature, like maybe a reserve release from the theaters or anything like that, we need to take into account?

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

Brad, there's nothing of a onetime nature, including reversal of the theater returns.

Operator

Your next question comes from the line of Haendel St. Juste with Mizuho.

Haendel St. Juste
Analyst at Mizuho

Sumit, I was intrigued by your comments. You mentioned inheriting a team that's experienced in acquiring high yielding assets that will be added to your platform. And then you also mentioned being very comfortable with acquiring higher yields. So I was going to ask you if this quarter's 38% investment grade volume was an anomaly, but it doesn't sound like it is. So maybe can you talk us through your thoughts on portfolio strategy with regards to high grade going forward and if you're signaling perhaps a slight shift in your overall thinking of portfolio strategy?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

I'm here to alleviate any confusion, Haendel. There are a lot of, if you look at our top 10 clients, Haendel, we have Carrefour that shows up there. And Carrefour is a non-rated company. Yet, if you were to look at its balance sheet and you were to look at its credit metrics, it would imply a very strong investment-grade credit. But that does not show up in the 38% investment grade. So we've been playing in the area that we've identified coming out of the strategy sessions that we've alluded to in the past, and we feel, sorry, it's actually Sainsbury's, not Carrefour. Carrefour is actually rated BBB. So when we come out and we share with you the actual investment grade numbers, it is truly an investment grade rating by either S&P or Moody's. But we play across the spectrum. But we are so focused in the area that we've identified as our area of growth that, are we as focused on some of the high-yielding product that our inherited team from VEREIT was focused on? Potentially not. Are we going to do everything that VEREIT was acquiring as a stand alone company? Probably not. But we are trying to create a team, and we truly believe the team to be complementary to ours, and now it's one team, that is going to be able to play across the credit spectrum and be able to truly be an incremental source of acquisitions for us going forward. So there will be quarters where we do more than 38%. In fact, we've done up to 50%, 60% of investment grade, and then there will be other quarters where we don't. So I don't want you to put too much weighting to this headline number of how much investment grade are we actually pursuing because, as I've said to you, that that's a by-product of our strategy, not what drives our strategy.

Haendel St. Juste
Analyst at Mizuho

Great. Appreciate the thoughts in clearing that up. Christie, not to beat a dead horse, but, and we've talked about it over the last quarter or two. It's been asked on the call today. And I guess I'm really still a little perplexed or still surprised that there hasn't been a recognition of revenues in the movie theater side. You pointed out a number of the positive industry dynamics that the industry is experiencing here. So is it just more time? And it sounds like, certainly, right now, there isn't any of that in your 2022 guidance. So just trying to square your comments with the, I guess, the lack of recognition or any sense of timing on that.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

Sure, Haendel. It really, I mean, in a nutshell, it really is timing. We did in the third quarter experienced payoffs according to our deferred arrangements, a handful of theater properties, and they're back on pool accounting. And we'll continue to evaluate on an asset by asset basis. And we still have remnants of COVID out there. We wanted to make sure that we're evaluating this, not only on an asset by asset basis, but also just in terms of what's happening from a macro perspective. So more time, and we'll be back to report to you.

Operator

Your next question comes from the line of Caitlin Burrows with Goldman Sachs.

Caitlin Burrows
Analyst at The Goldman Sachs Group

Congrats on the merger and all the recent progress. Maybe digging a little deeper on the pipeline. I'm wondering if you can talk about the difference in what you're interested in abroad versus the U.S. I think you mentioned that the abroad pipeline might be a little bit more narrow.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes, Caitlin. It's just not as developed, I mean, partly, it's driven by being land constrained. You don't have as many freestanding triple net opportunities in terms of various industries and various tenants playing in that space. Obviously, the size of the actual market is two times what we have here in the U.S., but the number of industries that lend itself to sort of this triple net concept are a bit narrower. We've already talked about grocery as being one of the areas that we'd like to focus in on. Home improvement is another area. But it is very unusual to find some of the other industries that we are exposed to on the retail side being available in Mainland Europe. And that's really the point I'm trying to make. This is not a constraining factor because I think we've put out some numbers, etc., sharing with you how much bigger the actual market is, the addressable market is in Europe that lends itself to net leasable investing. But it really is more of a, it's just a narrow group of industries that play in that space.

Caitlin Burrows
Analyst at The Goldman Sachs Group

Got it. Okay. And then given your larger size now, do you expect there to be any change in sourcing over the next year? And as a result of that, do you think there will be any meaningful change in your acquisition cap rates?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

I hope so. I absolutely believe that with the newly expanded team that includes folks from what was VEREIT, we will be able to increase our run rate on the acquisition front, and we will be able to cover the credit spectrum a lot more precisely and acutely than we were able to do on a stand alone basis. And that should result in not only higher sourcing but getting more transactions over the finish line. And that is absolutely one of the levers that we hope will play out for us. And based on everything that we've seen and based on getting to know our new colleagues better, I absolutely believe that, that is going to play out next year and beyond. So, but time will tell, but that is our expectation.

Operator

Your next question comes from the line of Ronald Kamdem with Morgan Stanley.

Ronald Kamdem
Analyst at Morgan Stanley

Congrats on the VEREIT merger.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

Thanks, Ronald.

Ronald Kamdem
Analyst at Morgan Stanley

Just two quick ones from me. The first is just sort of going back to acquisitions, and I think you've talked about sort of a new $50 billion plus enterprise value, less concentration risk. There are just more opportunities that present themselves. So I guess the question is really, is the team doing anything organizationally different to try to source those deals? Or is the point that, historically, when those deals have come up, you've had to pass on them, but now you can take a look at it.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

It wasn't that we were passing on deals, Ronald. It was more along the lines of if you look at some of our industry concentration, they were starting to creep to double digit ZIP codes and somewhat beyond that. And the complementary nature of what we are inheriting from VEREIT, I believe, helps us on a couple of industries. If you look at a few of our largest industries, like convenience stores and groceries, etc., all of those concentrations on a pro forma basis is actually going to come down. And so it gives us more capacity to aggressively pursue opportunities that we are finding incredibly compelling to try to get over the finish line. So it just gives us more capacity. That's one. The second is being a much larger company, and this is a more recent phenomenon. I think two years ago, maybe a little bit longer than that, was the first time I heard of $1 billion sale leaseback opportunity in our space, and it was on the retail side of the equation. And we've never heard of opportunities of that size. And even for us, if we had some prior exposure to the client, doing a $1 billion transaction, what's going to sort of start to push the concentration risk issue. And now being 1.3, 1.4 times the size that we were, it is less of an issue. And the size of sale-leaseback opportunities that are now in play are $1 billion opportunities. Now we haven't really seen, there have been announcements, but we haven't seen anything sort of yet over the finish line on that front. But that, to us, is exactly the type of transactions that we would like to be able to show up for and be able to do and be a single point solution for some of our clients that we perhaps would not have been able to pursue in our previous version. And so I think that really is what we feel will be one of the biggest beneficiary. And also proactively to go to some of these larger companies and be able to say, and then for large companies, by definition, doing a $500 million sale leaseback doesn't really move the needle for them much. And so to be able to be a solution and provide multibillion-dollar sale leaseback opportunities for them, I think, could be a lot more compelling. And so those are the types of things that we'd be able to pursue post this closing that we obviously thought a lot about in the past, and we have approached certain clients. But it was, we were guided by what we were hearing in terms of what is really relevant for some of these folks. So I think, look, time will tell, but it certainly creates the platform for us to now be able to pursue some of these transactions which we were not able to as aggressively pursue in the past. Ronald?

Ronald Kamdem
Analyst at Morgan Stanley

Yes. Sorry about that. Great. My second question was just going to 2022 guidance. Obviously, I appreciate the transparency, and I can appreciate these are preliminary numbers. But when I think about the AFFO guidance range, can you maybe share what that assumes in terms of same-store rent growth and the assumptions for reserves for credit losses?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. We obviously gave you a couple of numbers when we came out with this. The point of coming up with a guidance at this point in the cycle, which is nontraditional for us, was largely driven by this acquisition that we did of VEREIT. And there was a lot of uncertainty around what does pro forma Realty Income really look like post separation of the office assets, and this was our attempt to sort of address that going forward. And so in terms of the other ascensions like same store rent and other inputs that go into the model, it is largely along the lines of what we've done in the past. And so you should, and of course, as we learn more about the portfolio that we've acquired and we look out into the future, and we, more importantly, digest the $5 billion acquisition guidance that we have for this year, I think we'll be in a much better position to give you much more precise numbers on same store growth, etc., etc., But for right now, you should assume it to be the 1% that we usually sort of point to.

Operator

Your next question comes from the line of Brent Dilts with UBS.

Brent Dilts
Analyst at UBS Group

Great. So look, I've just got a qualitative one at this point. But with the acquisitions in Spain during the quarter, could you talk about what you learned from the transaction? And just how does that impact your approach in Continental Europe going forward? I think in recent calls, you guys have spoken about just trying to learn the local markets, and there's a lot of nuance to it. So maybe you could just provide a little color around your experience there.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Sorry, are you asking us what is our filter of going into new markets? Is that the question, Brent?

Brent Dilts
Analyst at UBS Group

No. Sorry, Sumit. It's more just what did you learn specifically from the process itself as far as like nuance to the deal structures or the negotiations or just anything about the market that maybe you picked up.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. Brent, I'll tell you very honestly, we did a lot of homework before we actually went into any particular market. We looked at transactions that have taken place in the past. We try to understand the nuances of the structure as we took into account the tax implications. So a lot of the homework was done prior to us actually engaging with potential clients or the advisory community to start to pursue transactions. So I would say that we weren't overly surprised by the structure of the deal that we've been able to get over the finish line. The one thing that has surprised me, personally, and I don't know if Neil and Mark are going to share in my comment, but is the volume comment. I do believe that we have been able to create these relationships that have cemented to and have translated into subsequent transactions much more quickly than what we had originally thought. This is very much a relationship-driven market, which we anticipated, but not to the extent that we've seen it play out. They're looking for long term partners. They're looking for partners that are not in the market to flip out assets, and that is right down the fairway for who we are and how we believe we're generating value for our investors long term. The certainty of close to some is incredibly important, far more so than perhaps here in the U.S. It's not that certainty of close is not important, but they are much more price sensitive here in the U.S. than perhaps in Continental Europe, as well as in the U.K. So reputation, size, scale, the fact that we do what we say does seem to be weighed a lot more significantly in all of Europe than what we had anticipated. So that's where the surprise came in, not in terms of the duration of the lease or the cap rates or the growth that we find embedded in these leases. A lot of that was known to us before we went into these markets.

Operator

Your next question comes from the line of John Massocca with Ladenburg Thalmann.

John Massocca
Analyst at Ladenburg Thalmann

So just looking at kind of the leasing spreads on kind of renewals and kind of re-leasing of vacant assets, the third quarter, we kind of have been well above, I guess, what, even kind of recent historical level. Do you think that kind of above 100% recovery is sustainable here? Or is that maybe more a reflection of where we are in kind of the macroeconomic cycle given the pandemic?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

John, that's a good question. And if you're asking me can we do positive 7% with next to no capital investments every quarter going forward, I think the answer is probably no. But I do think that over the last 8, 12 and even during the pandemic, the kind of re-leasing that we've been able to achieve without a bunch of capital investments is a testament to the quality of the portfolio that we have. But much more importantly, it's a testament to the asset management team under the tutelage of Janeen that we are able to generate these numbers. And so I feel like if you look at the trend and you look at what we've been able to do over the last three, four years, we have generally achieved north of 100% re-leasing spreads. And this, by the way, includes not just clients who are renewing an option but also new clients that we are bringing in into either empty buildings or buildings that are about to go empty. So this is the complete picture of what we've been able to achieve. And that is one of the points that we've been trying to talk about that our business on a normalized basis is going to become a seven year vault business. And a lot of value is either going to get created through this channel or not. And we've been anticipating this and building out our asset management team in anticipation of being able to generate the kind of results that we are posting on a quarter by quarter basis. So we feel very good that we, and we usually target about 100% every quarter, and we've been able to do far better than that. And I'll leave it at that.

John Massocca
Analyst at Ladenburg Thalmann

Okay. And then switching gears a little bit back to international, I think it's kind of maybe pre-pandemic if you look at kind of cap rates for the U.K. acquisitions versus the U.S., right? U.K. was always fairly significantly lower than U.S. acquisitions, and that spread has kind of disappeared. Both are kind of on top of each other in terms of kind of day one cap rate. So is that a factor, you think, of macroeconomic pushes and pulls, interest rates, etc.? Or is that more reflective of different kind of investments that you're targeting, either internationally or here domestically?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

It is certainly the latter. If you're looking at grocery businesses here in the U.S., there has been a tremendous amount of compression that we've seen on the cap rate side of the equation. And I would say that the U.S. market has moved more towards the U.K. market than the other way around. But there are differences to the lease structures, etc. And once again, I'm not going to go into the details. But what you see as the headline cap rate, yes, you're seeing that they seem to be very close. There are some inter quarter variability. Like I believe in the second quarter, we had a slightly higher cap rate associated with international, and it was a function of the type of assets that we got and the length of the lease terms that we were able to achieve which translated to higher cap rates. But by and large, the spread which is, which takes into account both the cap rate, as well as the cost of capital, is very similar right now, very, very similar in both these markets. But I do think it's partly driven by we are playing in a much narrower industry spectrum in Europe, and we have been doing a lot more industrial here in the U.S. And it sort of balances out, and it yields a number that you see as the headline number posted on our supplemental.

Operator

Your next question comes from the line of Wes Golladay with Baird.

Wes Golladay
Analyst at Robert W. Baird

Quick question on the acquisition volume this year. When you look at what's driving the upside, is it more on the sale leaseback side? Or is it developer takeouts, broker deals? I'm just trying to get a handle on where the deal is coming from.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

It's a combination of all forms of development. We are doing takeouts. We are doing, we're actually financing 100% of developments. The one common thread is that, in the vast majority of the cases, there's a lease in hand. You might see that there's a retail asset where I think on the retail side, it was 93% occupied, and that's largely driven by a repositioning that we are doing. And we don't quite have the lease in hand for that one particular unit. But otherwise, it's all build to suit, but we play across the spectrum, providing all of the development funding as well as doing takeout.

Wes Golladay
Analyst at Robert W. Baird

Okay. And then when we look to next year's guidance, you do have about $750 million of high coupon debt in 2022 that is due. Is it safe to assume that's not in the number or prepayment of that?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

I'll let Christie answer that.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

That's correct.

Operator

Your next question comes from the line of Katy McConnell with Citi.

Katy McConnell
Analyst at Smith Barney Citigroup

It's Michael Bilerman here with Katy. Sumit, I want to come back on sort of the pipeline, just coming back on the $5 billion for next year. And I think in your comments, you're trying to be conservative. It's early. You want to sort of see what the combination of the teams can do. But how did you come up with the $5 billion? You didn't pull it out of thin air. There has to have been some rigor to come up with that. So can you just walk through sort of the analysis that you went through to come up with that $5 billion?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Sure. Look, I think as we get more and more comfortable with the strategy that we are currently executing, Michael, it gives us a lot more confidence to be able to say, "Look, this is the product that we are seeing. This is the translation rate on that product on the sourcing numbers. We feel very comfortable, given the team and infrastructure we have in place, that we are going to be able to accomplish the numbers that we posted." This is, this year was a very interesting year for us because we had a very healthy pipeline, just like we do today, coming into the year. But it was post pandemic, and we didn't quite know how things are going to play out. But we felt very good about coming in and saying $3.25 billion, which we have since revised a couple of times. And so as we're getting more and more comfortable with the new markets that we are entering into, with the sourcing volumes that we are seeing, with the maturation of the team that we have in place, that's what is giving us the confidence. In the beginning, I used to talk with my colleagues, and we would earmark about 20% to 25% international. Well, today, it's closer to 30%, 35%. We built out the team in the international side. We have a much more mature team and a fantastic team on the U.S. side. And now, we're going to inherit a group of veterans from this acquisition. So that's really the build-out that we've done internally, and we feel fairly confident about to come out and say, "Look, this year, we're going to do north of $5 billion. We should be able to do that with the level of visibility and one year behind us now in 2022." So that's how we came up with that math.

Katy McConnell
Analyst at Smith Barney Citigroup

I guess hearing that would sound extraordinarily conservative given all the arrows that you have in your quiver to be able to execute additional acquisitions, especially given your other comments about being a bigger company allows you to take on different risks, which, arguably, being a big company, if you went out and bid a $1 billion portfolio and then have $100 million of assets that you didn't want, well, $100 million or $50 billion ain't that much. How does that sort of play into your thinking about deal flow from here? And I think you and I talked a little bit about this, I don't know if it was last quarter or the quarter before, in terms of your willingness to now accept what previously was larger risks that you may be willing to take today in terms of either type of asset, location of asset, credit of tenant, all the variety of things that made you pass on deals before?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

I hope what you're saying is exactly right. In a year from now, we have a number that is far in excess of the $5 billion that we are coming out with, Michael. What we don't want to do is have a particular number dictate our decision-making. We want to come out, and this is right along the lines of how we've operated the business. This is the largest acquisition volume number that we're going to be coming out with in our history. You're right. This is by design that we've created all these avenues, and we should be increasing our guidance. And perhaps there is a level of conservatism, but we would like nothing better to come in, in February and revise our numbers and say, "You know what? We've had a chance to revisit and be able to come in with a high level of confidence, given all of these other new strategies that we are putting a lot more effort into, i.e., higher yielding, newer markets, being able to have one quarter under our belt in Spain, figuring out what we can or cannot do there." All of that, hopefully, will translate into higher numbers. So, but this is where we feel that we don't want to overpromise and under deliver. And that's the reason why we're coming up with what we're coming out with.

Katy McConnell
Analyst at Smith Barney Citigroup

And then in terms of just from a corporate perspective, I've seen time that you're going to talk to large tenants that have a lot of real estate on their books. You are much better equipped today at your size to be able to do those elephant hunting types of transactions. How active are you in going to those corporations that have the real estate on their books where you can do a direct deal on a much larger scale? And are those further along? And I guess do you have other capital partners? As we've seen, there's a lot of institutional capital that would love to get access to the type of portfolios and higher-yielding levered plays that you're doing. And so I'm just, I'd like to know a little bit more on that front, whether we could expect that to be a much bigger part of the story.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

In the past, we had to consider partners when we were coming across these multibillion dollar sale leaseback opportunities. But I think the need for that has diminished post this acquisition. We had inbounds from investors who wanted to participate on these one-off transactions, larger transactions outside of the realm of the public eye. And we've largely stayed away from that because we felt like the transactions that we were actually seeing in the market that was near term, we could handle all on our own. So we haven't had to pursue a partnership very aggressively. And I think the need for that has diminished even more so now with this, with pro forma for the VEREIT transaction. And I do believe that our willingness and desire to more actively pursue potential clients that we've talked about, that we might want to speak with and engage with is a lot higher today given that the concentration issues that we could have entered into are somewhat muted now. And so I do think that those types of conversations are going to be a little bit more front and center in terms of what we do, and we are going to do it much more proactively. That's correct.

Katy McConnell
Analyst at Smith Barney Citigroup

Okay. And then the second topic, last topic is just about the office spin. Obviously, when you announced the transaction, there was a discussion about not having a plan in place to deal with those assets that you did want and be able to contribute the office assets on your balance sheet. And you said you were going to pursue two paths you'd have the spin as you're basically a backup option and you look at the sales process. Can you talk us through sort of what led you down the path of an office spin and thinking about the dissynergies from a G&A perspective, how you thought about the value that you would be delivering to combined shareholder base versus a sale and taking the cash. So why spin versus sale?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. So you should assume that when we discussed the separation of the office assets, we were very clear with the market that we are going to pursue either a spin or a sale, and we did. And where we concluded going through those two parallel paths was that the spin is a far better option given where we were coming out on the sales side than not, which is precisely why we decided to choose to go down the spinning of the office assets. Putting a team that was very familiar with all of those assets have been working very hard on asset managing those assets, was very capable of creating value longer term. And what we, the analysis that we went through was to say, "Okay. They have a thesis. It's a thesis that makes sense. There are some tailwinds in that particular sub sector given the success that they've been able to achieve over the last couple of years. You look at that, and then you sort of see what they can do with this portfolio going forward." From an alternative perspective, this seems like the absolute right alternative for us to pursue, despite the fact that selling the assets would have been an easier step for Realty Income to take. But we did pursue both those efforts in parallel, and this is the path that, on a risk-adjusted basis, yielded the superior outcome for us. And that's the reason why we pursued it.

Operator

Your next question comes from the line of Josh Dennerlein with Bank of America.

Josh Dennerlein
Analyst at Bank of America

Now with the VEREIT merger behind you, curious, you added a bunch of teammates. Any kind of skill set maybe that was brought in that would help you guys widen the aperture?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

That's what we, yes. Sorry, I didn't mean to interrupt. Go ahead.

Josh Dennerlein
Analyst at Bank of America

No, no, please, please.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

That's what we've been adhering to, Josh, when we're talking about being able to have a team that is very capable of playing across the credit spectrum, for a lack of a better phrase, the higher yielding assets, the lower-yielding assets and being able to cover that entire spectrum with a much broader team. That is one of the biggest advantages that we are inheriting from, through this acquisition. And there are other advantages of teammates that we are inheriting, not just on the acquisition front, but also on, when we look at some of the data analytics work that we are planning on doing, some of the process reengineering work that we are doing. They have a few very talented folks in their team that will become part of some of these opportunities that we are already building out and executing upon and be able to be tremendously additive and help us accelerate some of these opportunities to the finish line and creating even more efficiency. So it's really, I am so proud of the team that we have inherited, and it's circa 100 people that will really help us become a complete team, and of course, help us absorb north of 3,000 properties, which is not a small feat.

Josh Dennerlein
Analyst at Bank of America

Got it. And my other question, I guess, relates to dividend strategy going forward. Just kind of curious to hear your thoughts on maybe how the Board thinks about the payout ratio and retained earnings.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

So our payout ratio is in the high 70s today. We will always be The Monthly Dividend Company. It took us over 25 years to become part of the Dividend Aristocrat index, the S&P 500 Dividend Aristocrat index. This is very core to our strategy going forward. And so in areas where we can grow 9.5% or 9.2% in the midpoint of the range that we've just shared with you, that will just continue to help us grow our dividends in the future. And that is, there will be no change to that strategy of annual growth on the dividend going forward. So really, no change, Josh. But I just wanted to make sure, given that you asked a question that I emphasized how important core dividend growth is to Realty Income. And nothing that we've done, either recently or in the past, is going to change that.

Operator

Your next question comes from the line of Linda Tsai with Jefferies.

Linda Tsai
Analyst at Jefferies Financial Group

With 85% of your leases having some type of contractual rent increase, can you remind us what kind of increases you obtained on the European leases versus domestic? And then across the entire portfolio, going forward, what might be average rent increase look like versus what it is now.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. Linda, I'm not going to give you precise information. I think it is of strategic importance to us to not be that precise on growth by geography. I will tell you that 85% of our leases have contractual growth. Either they are in the form of fixed growth or they are in the form of CPI adjustments or there are percentage rent clauses into the contract. So it's one of those three variations that make up the growth profile. You can continue to underwrite to a 1% same store growth for our business going forward, and we will update you as and when warranted. But for right now, that is the assumption you should have for your models.

Linda Tsai
Analyst at Jefferies Financial Group

And then how should we think about the pace and mix of capital raising activity in 2022 as you move forward with a plus $5 billion acquisition run rate?

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

I think, go ahead, Sumit.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

No, no, no. Please, Christie. Go ahead.

Christie B. Kelly
Executive Vice President, Chief Financial Officer and Treasurer at Realty Income

I'll just kick it off to say, I think, Linda, you can expect that to be consistent with our performance this year in funding our business and continuing to pursue a very competitive cost of capital while maintaining our net debt to EBITDA.

Operator

Your next question comes from the line of Chris Lucas with Capital One Securities.

Chris Lucas
Analyst at Capital One Securities

Really just two. A lot of the questions have been asked and answered. But I guess just, Sumit, given the scale of the company at this point and where your credit rating is, I guess just curious as to your conversations with the rating agencies post merger, if you've gotten any flexibility or indication from them that you have more flexibility on your leverage side to maintain those very high credit ratings.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

I'll share the headline, but I'll let Christie speak to this point because she actually had the conversation, along with Jonathan, with the two credit rating agencies. They were very supportive. When we, in fact, went back after our third quarter announcements and spoke with them, they were, again, very complimentary. They saw the capital raising that we did and essentially front loaded the funding of our acquisition pipeline. They continue to reaffirm their current stance of A-/A3 rating and a stable outlook. So we feel like we, of course, we're going to have two months of earnings associated with this closing but all of the balance sheet, day one. So the numbers are going to look a little bit off. But on a pro forma basis for annualized earnings, it's going to be right where we play and where the rating agencies are incredibly comfortable. So I don't see us being put on any sort of a negative watch or what have you. We've tried to be very transparent. We've shared all the analysis with the rating agencies, and we feel very confident that they will continue to support us and maintain us at the current levels. Christie, do you have anything to add on?

Chris Lucas
Analyst at Capital One Securities

I was just, I was going to flip it the other way. I'm wondering whether the scale of the company and the diversification of the portfolio is going to allow you to do more leverage and keep the rating. That's really where I'm going with this.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

That's a good question, Chris. I don't know the answer to that, and it's very difficult to even enter into a hypothetical with the rating agencies about that particular scenario. They tend to be a bit of a black box. And we didn't change our leverage profile that, when we were on this way up. And this, I think, lends credence to the comment you're making, Chris. But we can't expect that. And truth be told, we are very happy with A/A3 rating, I think. I don't know what the incremental benefit would be getting to an A/A2 rating, but I don't know if it's going to be as significant as going from BBB+ to A-. But it's a good question and one that I think, now that you've asked, will pose to the rating agencies to figure out how they're going to think about this.

Chris Lucas
Analyst at Capital One Securities

And then just sort of a secondary question. When you think about how you want to finance your business, you mentioned, I guess, European rates are more attractive right now than the U.S. for financing. Would you think about financing at a higher level relative to asset base in Europe at this point than you do in the U.S. from a debt finance perspective? And how high would you go?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Yes. For us, Chris, we've been very clear about what the limiting factor has been for us in Europe. We want to use domestic capital to finance as much our acquisition as possible, but the limiting factor is always going to be the asset value. And so that's one of the biggest advantages that we have is we can raise debt in any geography. And in an environment where we see here in the U.S., there's a rising tenure, U.S. Treasury, not so much today, but expected. We could do a lot more on the unsecured side, assuming we continue to grow in the U.K. or in Mainland Europe as we grow out there. But the constraining factor will always be what's on the left side of the balance sheet, and does it support the raising or not? But could it be more levered there than here in the U.S.? Absolutely. That's one of the big advantages of why we did what we did. And on a fully consolidated basis, which is how we think about our business, we are very comfortable in implementing that particular strategy.

Operator

Your next question comes from the line of Spenser Allaway with Green Street.

Spenser Allaway
Analyst at Green Street

I know you guys spoke about development earlier. Can you maybe just more broadly talk about how the development economics vary between U.S. and Europe? And if possible, can you just provide some color around what kind of yields you're expecting on the one U.K. development you have underway?

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Spenser, we're going to stay away from speaking about specific transactions. We just don't do that. And then I'm going to be asked to remember of the 400 properties that we acquired, what is the cap rate on the 388th property? It's just going to be impossible. That's really the reason why we are staying away from being very precise about specific transactions, and we try to report it to you on a fully consolidated basis. There is no doubt that we are able to get slightly higher yield on development projects than we would on assets that are ready for delivery. And that could range. It could range anywhere between, and by the way, that has compressed. But it could range anywhere between 25 basis points to, on the odd occasion, maybe 75, 80 basis points. It used to be north of 100 basis points not too long ago. But for us, we are a yield driven business. Every incremental yield is a positive for us. Spenser. So I do believe that, in our supplement, we do provide that level of clarity. We do break out what the development yields are, and so you should be able to track that as part of our overall acquisition volume and how much of it is attributable to the development funding. And you will see that it's definitely higher than what we are actually acquiring assets, and that's just a testament to our relationships and being able to sort of balance out the overall portfolio. And that strategy will continue to play out.

Operator

This concludes the question and answer portion of Realty Income's conference call. I will now turn the call over to Sumit Roy for concluding remarks.

Sumit Roy
President, Chief Executive Officer and Director at Realty Income

Thank you, everyone, for coming, and we look forward to seeing a lot of you at NAREIT. Goodbye. [Operator Closing Remarks]

Corporate Executives
  • Julie Hasselwander
    Investor Relations Executive
  • Sumit Roy
    President, Chief Executive Officer and Director
  • Christie B. Kelly
    Executive Vice President, Chief Financial Officer and Treasurer
Analysts

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