Good morning, everyone. My name is John Kim with BMO Capital Markets. It's my pleasure to be moderating this presentation of Easterly Government. With me today, Darrell Crate, CEO, and Allison Marino, Chief Financial Officer of the company. I thought maybe we'd just start off with opening remarks and why investors should invest in DEA today.
Great. Yeah, so for those of you who aren't familiar with Easterly Government Properties, we focus on properties that are mission-critical, being the landlord to the United States government. We focus on mission-critical agencies like the FBI, like the Drug Enforcement Administration, the Veterans Administration. Functions that the government provides that every taxpayer would agree is a good use of taxpayer funds. They wouldn't give us FBI as the ticker. They would give us DEA. So we're very excited to continue to hold that moniker. We're not an office REIT, and I'll talk a little bit about the structure of how we think about our business and creating value for shareholders. We very much underwrite each individual agency, what they're doing, and the facility that's most mission-critical. Not surprising, we own zero, zero federal real estate in the Washington, D.C. area. Why?
Because that isn't the most mission-critical areas for the FBI, for the Veterans Administration, and the Drug Enforcement Administration. Sometimes it seems like Washington is on drugs, but the drugs are actually in the southwest part of the country. Contrary to some people thinking they come from the Canadian border, too, it really is the southern border where drug interdiction works. If any of you ever want to go on a tour of one of our DEA drug labs, you will be fascinated to see what goes on there. Maybe just to go down that rabbit hole for five seconds. In this lab, we have machines that are, again, on a very stable flooring in special rooms.
You can take any organic drug, stick it in the machine, go listen to a podcast in the other room, come back, and it will basically tell you the zip code of where that drug originated. Our Drug Enforcement Agency knows exactly where every organic drug that's in this country comes from in the world, and they know who is growing it, who's making it, all this stuff. They are continuing to execute the war on drugs. In the synthetic drug world, also crazy stuff happening. It's a constant cat-and-mouse game between the manufacturers of the drugs, trying to—oh, the way a synthetic drug becomes illegal in the United States is a molecule gets designated on the bad drug list, like the no-fly list of molecules.
What's constantly happening is these manufacturers are modifying the drug just a little bit, modifying that molecule so it still has the same impact on the folks who are taking the drugs. Then our lab identifies the molecule change, does the red line to Congress. Congress says, "This is one of the naughty ones," and it goes on the list. That's the type of work that's happening in these facilities, in our facilities, for a broad set of agencies all across the country. Our weighted average lease term is approximately 10 years. The way we think about this is, again, leases to the most mission-critical organizations. We currently have about $3 billion of rent coming from the U.S. government. Again, as we work on renewing our leases, we have very long-term leases with the government.
Sadly, those leases are flat, and we'll probably get into that a little bit. When they renew, we see double-digit increases in rents. We have a staggered set of maturity of leases, so it takes a little time for them to catch up. I'm sure we'll talk a little bit about that as well. If we make modest assumptions about renewal rates, we'll be collecting nearly $6 billion while facing full faith and credit at the tenure of the U.S. government, which is very attractive to where we are with our valuation. We are excited about what we do. I took this job over a little over a year ago while I was one of the founders of the company. I chaired it.
As we were looking at where we were growing, how we were thinking about investors, a little over 18 months ago, we decided to switch things up a bit. We laid out a strategy, and we're executing on it each and every day.
I would love to know who owns the FBI ticker.
I don't think they give it.
Yes.
Okay. Now, so you mentioned the revised strategy. When you took over the CEO role, the new strategy is to deliver consistent earnings growth of 2%-3% and to expand the footprint beyond GSA leases. Can you just talk about how you came up with that strategy?
Yeah. So one of the things you notice is, obviously, our job is to create value for shareholders in the capital markets. When we founded the company, there was a simple premise: buy the real estate, sell the credit. And the reality is that our portfolio can support more leverage than other real estate portfolios that are out there because it's full faith and credit of the U.S. government for a very long period of time. We also call it real estate without the drama. That's before Elon and his crew stepped in. But I continue to say we're real estate without the drama because we know what our tenant's doing. There's not a lot of confusion. And I promise you these agencies will be doing approximately the very same thing 10 years from now as they are today.
However, when we looked at the equity markets, one thing you never want to be is over in the left-hand side of a distribution curve. We were the safest REIT of all the 172 REITs that are out there. We had the best credit quality. Whenever you're the best, your marginal reward for being best is not very high. It became clear that our equity investors want a little more growth, and we can achieve a little bit more growth by putting just a little bit more risk into the portfolio. By taking 30% of our portfolio, we've achieved probably 5% of that. We're going to continue to be disciplined, but we'll get there.
If about 30% of our portfolio is in state and local leases, as well as what we call government-adjacent, those leases are structured like the triple-net commercial lease that many people are familiar with. In doing so, if those escalators, let's do just like simple math, are just 2% a year, 2% a year times 30%, we're going to get 60 basis points of same-store sale growth. It turns out, as we look at, as we comp the universe, basically what gets supported in the capital markets, if we're growing our business at 3%- 4% a year, and we certainly can do that, especially if we have 60 basis points of additional same-store sales growth, we're putting ourselves in a place where the capital markets is getting what it likes best. That's the strategy that we're executing on.
The buildings that we're purchasing at state and local level are mission-critical to state and local activities, that is generally public safety and schools. In the government-adjacent, we're buying buildings that look very much like the same buildings that we have in the law enforcement areas, lots of skiff space, special space, secure space. Basically, Northrop Grumman is one of our tenants, very high-credit tenants, and they're just doing the work related to the Buckley Space Center . Again, mission stuff, and these look just like an FBI.
I don't think you mentioned the term DOGE yet. You mentioned Elon Musk. When you think of government leases, you think that DOGE is going to have an impact on your portfolio. What's been the impact so far from DOGE?
I mean, we've had zero leases canceled through DOGE, which is, again, not surprising. I did have a life in politics for a period of time, worked very closely with Mitt Romney trying to make him president. I was not successful at that, but learned, had a real window into these agencies and how our government works. We've been underwriting to DOGE before DOGE was created. There are very efficient, amazing parts of the U.S. government that are delivering services to the taxpayers that would, I promise you, make you want to pay more taxes. There's also a bunch of crap that's going on in the government that would just make you angry. We've been very focused on aligning ourselves with those places where mission is accomplished in an efficient way. Our partnership with the government is we're good at real estate. They're good at catching criminals.
We know that we can deliver a sq ft of office space to the U.S. government for cheaper than they can build it, craft it, and maintain it themselves, simply because it is what we do. Allison has so appropriately said, the government just needs to catch up and start having the asset-light model that has been adopted by corporate America for the better part of the last 20 or 30 years. They should continue to catch criminals. We will continue to deliver very low-cost space that does not become obsolete. Today, the U.S. government has $80 billion of deferred maintenance in the buildings that they own themselves. They have publicly said that they want to rely to a greater extent on leasing those properties. For us, DOGE is an enormous tailwind that is coming. The reality is we work in government, sort of on government time.
This tailwind, you're going to start seeing it by the time we're going to get through this budget cycle. We're going to move into next year and the year after, but you're going to see this migration to lease space. I would challenge anybody to say they're better at this than we are. In our company, we have people who've worked in government. We're knowledgeable about government. We've got knowledge about real estate, and we've maintained over 100 buildings for the U.S. government in a way that really helps them emphasize mission. We actually couldn't be more excited about DOGE. We need this overhang to end so we can start having some capital that's a little cheaper. We're going to continue to be prudent and deliberate and not get super expensive capital and put it to waste.
We are super excited about what DOGE represents and how it has finally kicked the government in the ass so that they are going to start focusing on efficient real estate ownership.
Okay. So this might be a question for Allison, but despite the lack of impact on DOGE, you did announce a dividend cut, a 32% dividend cut, and a reverse stock split, 1- for- 2.5. What has been the impact on that with shareholders, and has this been basically a clearing event for new investors to look at your stock?
Yeah. We were very thoughtful in our decision-making around those two topics, particularly with respect to the dividend. When we look forward at the pipeline of opportunity that we are seeing in the market, we were not being valued, in our opinion, for the dividend yield that we had at the time. We felt it was the right decision for a number of reasons, including freeing up that capital to go deploy into more accretive opportunities, like continuing to grow the pipeline. We also recognized the yield was not right-sized with our peers. By undertaking that decision, we have effectively sort of put ourselves back into a yield that we feel is valued by investors.
Where you can see the trajectory of our stock price since the announcement, after the effect of the cut, we really are more or less back within 2% where we were from a stock price perspective. We feel it was largely priced in and that equity investors have been very receptive to it because of the fact that they believe in the pipeline that we see as well.
Can you talk about the specific agencies that you target for leasing since you've been a public company? There's a very interesting slide in your presentation about federal missions. You bucket out the different agencies into federal missions, which include law enforcement, safety and security, veteran care, and so forth. Can you discuss the characteristics of these missions and why they are attractive to your company?
Sure. When we went public, we predominantly had exposure to DEA and FBI, and as we've continued to grow, and that was a lot driven by what Darrell shared around rule of law. Those agencies were one of the first to move to a lease alternative, largely and broadly throughout the U.S. The FBI and the DEA need state-of-the-art and well-maintained space. That was a large portion of our portfolio when we went public. As we have looked to grow the portfolio, the Veterans Administration is another agency where it has grown significantly. We had no veterans affairs exposure when we went public. We're about 26% today. That's been an incredibly important investment for us as we've continued to grow. These are state-of-the-art medical facilities where veterans can receive care. The CBOC program is largely remissioning of the care system for veterans.
When you walk into one of these facilities, it serves as a de facto gathering place for the veteran community in the area, which is really heartwarming to see. As veterans go to receive care, they go to one place versus the old mission sort of had you getting your glasses in a strip mall in one place and your prosthetics in another. This is a one-stop shop for medical care, which we feel is very important to the continued longevity of the agency and the mission that they are trying to serve, which is care. You can sort of go in as a veteran, and you sit in one room, and all of the doctors rotate in to see you.
For us, as we look to continuing to expand the portfolio, it's not necessarily agency-specific, but when we walk into a building, we want to understand how is the real estate being used, how important is the real estate to serving the mission of the agency itself, and do we feel like the stickiness of the building is something that's going to lead to a renewal, the next renewal, two, three renewals out. That can look very different across our portfolio. We have a Homeland Security building in Atlanta that's adjacent to the Hartsfield Airport. It serves a really important function for the air marshals. They have a replica airplane fuselage built into the second floor of that building where they run drills. They have a gym with all of the equipment you would need to learn advanced martial arts.
They have a control center where you can see every flight going in and out of Hartsfield and where federal air marshals are deployed on those flights. For us, when you drive up to it, it's a box. You would never think, "Oh gosh, that thing really serves such a purpose." You walk in, and you immediately and instinctually know why we bought it. That's a wonderful example, I think, of where it's not the agency in the three letters. It's walking in the door and truly trying to understand from an underwriting perspective how it's continuing to serve government.
One of the things that's very amusing when you go into this facility because they really do control where all the air marshals are. It is right out of a movie set with screens everywhere, all the flights that are going, threats that are coming in, figuring out. There is one little TV they have over in the corner that's playing like Airplane or some other sort of pop movie about aviation that's always sort of kind of amusing. I think Allison's story is a really important one because this facilitates mission. We got to see in this fuselage, let me just tell you, they're not going to let you get a gun on the airplane, but you've got like three seconds if you ever pull one out to get neutralized. It's how it works. They're training for that in these facilities each and every day.
Can you discuss your acquisition pipeline today, what it looks like, where are cap rates today for GSA assets and non-GSA assets? You bought something in D.C. for like a 9% cap rate. Is that what we should expect going forward?
I mean, we'll hammer egg this. If you look at, again, federal properties, you're going to see cap rates that are for the longest lease terms in the low sevens. There are opportunities today that we find that are robust in our pipeline, because there are folks who put debt on these properties. Because the rent rolls are so robust, banks lent a considerable amount of money against them. Because of DOGE and DOGE concerns, we've identified all the owners who have debt that's maturing that's not lent by a big bank that has the resources to try and understand DOGE. These are regional banks where, let me just tell you, you're not going to put your career on the line because you're going to say that DOGE is not a problem for this individual borrower. Those people are under pressure.
We think we're going to be able to buy some buildings that may be at a higher cap rate. We do need our stock price to get higher. Anybody who wants to help us with that, please feel free. You can step in right now. Markets are open. Our pipeline becomes very robust as we get sort of another 50-60 basis points of cheaper capital. We do have a joint venture partner. We do have some other capital resources that we're very excited to continue to put to work. As I've said, DOGE is a tailwind for us. It's giving us great opportunity. The other thing about DOGE is that the U.S. government is now thinking very pragmatically about who they partner with, particularly around development. For the longest time, they did not look at the balance sheet of their developers.
There are over a dozen projects today that are on hold because they rewarded them to a team that bid low to fix a VA, had a veteran, and for other criteria that may be something other than knowing how to build a building, build it well, and have the balance sheet to do it quickly. The government has reoriented itself to find a good partner. We look at our building in Atlanta, crazy enough, a very large FDA lab that we're building. They owe us $115 million of money we've just advanced to them that's going to come back to us in a lump sum payment. Do you know how long it takes to get a $115 million check from the U.S. government? They're not big on using the wire system. It's been months.
For any normal developer who did not have the balance sheet and the beautiful tolerance of investors like you, this project would be in the dust. The government is now understanding that in order to get things done, get things done quickly, which is now important to them, we are sort of a partner of choice in a whole set of ways.
Touching on cap rates a bit more, as we look to state and local and the government-adjacent space, they are in the higher end of that range. They may start in the sevens, but they certainly go up to the high nines. Where we are today, we're looking to create a spread to our cost of capital. We are spread investing at the heart of it. Between 50 and 100 basis points is what we look to achieve. Obviously, more is better, and cheaper cost of capital makes a lot of things easier. In terms of recent acquisitions, you've seen us invest most recently in the last six months in that state and local space. It's one of our stated objectives to grow that to 15% of the portfolio.
That has been a really unique place for us to see cap rates that have allowed us to execute, but also picked up buildings where we bring our underwriting expertise around stickiness, mission, credit, long-term nature of the leases. Many of these states have, at today's point, a higher credit rating than the federal government. We are still getting the credit lens that we have always brought to federal space, but we are also seeing stickiness in all of the good things we like about the feds in that state and local space. Same thing on the government-adjacent side, understanding high credit government-adjacent. You may be asking yourself, if you are not as familiar with us, what does that even mean? Is that proximity? Yes, certainly it is proximity as we look to invest in that area, but it is also designed around mission.
Are they serving an essential government purpose or fulfilling an essential government need as a private sector organization? Cap rates are, I would say, widely between 7 and 9, where we've most recently executed are in the 9s. Our DHS Burlington asset was acquired in the low 9s, and our D.C. Plaza, which is the home of a lot of D.C. government real estate, our first investment in that space in the District of Columbia, is in the high 9s.
Also in your presentation, you discussed since your IPO, you've renewed 1.7 million sq ft with an average lease spread of 16%. Can you just discuss whether or not that's typical when you do a renewal and what percentage of leases that expire do you eventually renew versus let it expire?
Yeah. Over the history since IPO, we're in that mid to high teens, net effective rent spread on renewal. As Darrell mentioned earlier, we have about 5% of leases roll in any given year. We're able to pick up that really nice rent spread. That is an average. There are certainly factors that go into each procurement process. Without boring you on all the acronyms of how the government works through that process, some are certainly more than the average. Some are less. I'm sure you can imagine that's why we give an average. Broadly, we do expect the portfolio to continue to perform at that level on an average basis, and even as we look forward to the new class of renewals as well. Typically, a renewal lease is between 10 and 15 years.
That is ensuring the continued laddering and maturity profile that we have always had.
Allison, are there any leases that were recently renewed?
Oh, I'm so happy you asked, Darrell. Late last week, we did renew our courthouse in Aberdeen, which is on our set of expirations for this year. At March 31st, it is about 0.5% of annualized lease income. We renewed that deal for 15 years firm. I want to touch on that point a little bit because.
Are there any step-ups in that lease health?
In fact, there are. There are escalations within that lease. That is something we have attempted to get more into what is historically a government flat lease. This lease does have cash run escalations as we move through that 15 years. Something important, I think, to note because of the headlines around DOGE, firm term is completely non-cancelable for the federal government. That is another 15 years where you are contractually obligated to receive rents without the government being able to walk away from that space. In fact, they could physically vacate the space, and they would still owe us those dollars until the very end of the lease. Not that they would, because the running joke in the office is the government has not left a courthouse since the Civil War. We hope to continue that trend, certainly in our portfolio.
It is, in our mind, a continued example of how this portfolio was designed around DOGE and any sort of macro concerns about what government is meant to do. The portfolio is going to continue to perform in the way we have always expected it to. Certainly, we're never going to get it 1,000% right. We would probably not be here if we did. We, on average, expect mid-90% renewal or retention rates and that mid to high net effective rents in the teens.
The GSA is willing to do leases with escalators? Is it for all agencies or just courthouse?
Each procurement is different. Broadly, we are attempting to move escalators into the GSA lease profile. It's something that's important to us. We know that it is.
Because it's important to you.
Because it's important to investors, but also reflecting a more modernized version of what leasing and rents should be as you move forward. Continuing to help that capital formation process for the government's end is really important, I think, in getting high-quality space that they can use for decades. We are.
We have been spending time with the GSA and with the administration because forming capital around this space is important. We do have an administration that's sensitive to this. Nothing happens in government in a straight line. To all the points Allison's making with regard to there being escalations, it can look more normal to capital that we can attract to this segment. A big applause for Bridget. I will not mention her last name, who signed and worked with this lease, but she did a lot of work across government to make it possible.
Darrell, earlier you said that you expect to get the [86] billion grant. Can you walk us through the time frame of how to get there?
Yeah. I'll let Allison do the numbers.
Oh, yay. Broadly, we expect, I think there's a page in our investor deck. It used to be 17, which was my lucky number. Maybe it's moved. Over the next 10 years, growing this portfolio with natural expirations, if you do the back of the envelope math, the entire portfolio turns over in the next 10 years, given our weighted average lease term. Add a net effective rent spread in the high teens, gets you to those sort of $6 billion-$10 billion numbers.
Can we have a mock of your increase in rents at 3%? And that will get you like [audio distortion] ?
If you took every lease and rolled it at that, over its expiration, should get you to that number.
[audio distortion] .
I think it's six.
Six. Yeah.
What escalation do you have on how much do you expect the leases actually increase?
Yep. On a blended basis for the entire portfolio, it's in that mid to high teens for each lease.
Oh, okay.
Which is consistent with the lease that was recently renegotiated.
Correct.
Any other questions from the audience? There's a couple.
Okay. So just two questions. One is, earlier in the conversation, before introduction, you mentioned the help of interest rates went lower. Can you just put a little more clarity on what that means, what rate, how much lower it went, how would that help? Number two, DOGE seemed to be indiscriminate to mission critical, or at least his definition might have been or the group's definition might have been different than your definition. If he's letting someone go and get the VA or the FAR service or whatever, he had no cancel leases. Is there any kind of future impact from a reduced staffing, even on mission critical stuff that you might be involved with?
The two questions were one about interest rates, how much do you need to go lower, and then also the DOGE impact, even though there may not be lease cancellations, is there a long-term impact on your portfolio?
I mean, what you learn about DOGE and hear about DOGE on the nightly news is a very distilled version of what's happening. There are some folks who want to make it seem like it's just like broad brush, indiscriminate, Trump's a moron, all of that kind of sort of talk. The reality is these are, I mean, very thoughtful people trying to work through government. We have one big problem in government, which is the thicket of bureaucracy. When we started this company, I think we were looking at one agency that'll remain nameless, that each sort of boss or superior had about eight folks reporting to them. Today, that's down to four. You can only imagine how difficult it becomes to get things through the bureaucracy.
I mean, one of the stories that we explained is that on a lease that's not a big deal, sort of normal process, it goes from we make sure the tenant's okay, tenant goes to the head of the agency, head of the agency then goes to the GSA, GSA goes to the OMB, OMB goes to the Senate, Senate has ideas, comes back to OMB, and back it comes. It takes just about 2.9 years to just get through that process. This is just moving the paper. That has got to stop. There are going to be some outstanding government workers who do get cut because there's only one way to cut government workers through RIF. There will be mistakes among the 2 million people in the workforce. That is sad and that is not perfectly efficient.
We can materially reduce the number of folks who are in government and get things done faster. We're already seeing it. I mean, this Aberdeen lease is a perfect example. I mean, they're cutting the number of agents who are leasing officers by probably about 60%-65%. You can imagine the folks who are going to remain, the access they have to decision makers to get things done. It's going to be a painful process. I think we are strong advocates of DOGE. Will we have some bumps? Probably. Just because it's a big government, you're moving these tectonic plates. The principle and theories behind it are incredibly strong. They're going to benefit taxpayers. We're really excited for them to benefit our business.
Yeah. We'll take them as low as they'll go. Who wants them to be high? I think that's broadly where we are today.
Jerome Powell, actually.
We see them right now on an all-in basis, 6-6.5. Again, credit of these leases really underscores access to capital. Yeah, a decrease in the curve would certainly help us in terms of growth capital. It's spread investing again.
Look, with DOGE, with the efforts, you're going to see the Senate here trim this budget a bunch. We do need to trim the deficits in order for interest rates to go down. It is possible. I mean, if you just look at the Department of Labor, HHS, and the Treasury, their inspector generals found $742 billion of waste and fraud just in their reports before Elon showed up. So the money's out there. They just take some political discipline, and it's going to take a little while for that to work.
We are out of time. Thank you for your attendance today.