Good day everyone, welcome to the EastGroup Properties third quarter 2018 earnings call. At this time, all participants are in a listen-only mode. Later, you will have the opportunity to ask questions during the question-and-answer session. You may register to ask a question by pressing star and one on your touchtone phone. It is now my pleasure to turn the call over to Marshall Loeb, President and CEO.
Good morning, thanks for calling in for our third quarter 2018 conference call. As always, we appreciate your interest. Brent Wood, our CFO, is also participating on the call this morning. Since we'll make forward-looking statements, we ask that you listen first to the following disclaimer.
The discussion today involves forward-looking statements. Please refer to the safe harbor language included in the company's news release announcing results for this quarter that describes certain risk factors and uncertainties that may impact the company's future results and may cause the actual results to differ materially from those projected. The content of this conference call contains time-sensitive information that's subject to the safe harbor statement included in the news release is accurate only as of the date of this call. The company has disclosed reconciliations of GAAP to non-GAAP measures in its quarterly supplemental information, which can be found on the company's website at www.eastgroup.net.
Thanks, Tina. Our team performed well this quarter. It was a strong quarter with a continuation of EastGroup's positive trends. Funds from operations came in ahead of guidance, achieving an 8.3% increase compared to third quarter last year. This marks 22 consecutive quarters of higher FFO per share as compared to the prior year quarter. We were especially pleased with third quarter FFO, given that equity raised year to date has far exceeded our original budget. The strength of the industrial market and our team is further demonstrated through a number of metrics, such as another solid quarter of occupancy, same-store NOI results, and positive re-leasing spreads. The statistics bear out, the current operating environment is allowing us to steadily increase rents and create value through ground-up development and value-add acquisitions. At quarter end, we were 97.1% leased and 95.7% occupied.
This marks 21 consecutive quarters, or since third quarter 2013, where occupancy has been 95% or better, truly a long-term trend. Looking at our specific markets at quarter end, several of our major markets, including Phoenix, Orlando, Los Angeles, San Francisco, and Charlotte, were each 98% leased or better. Houston, our largest market, was 97% leased. While still our largest market, Houston has fallen from roughly 21% of NOI to a projected 14% at year-end. Supply, and specifically shallow bay industrial supply, remains in check. In this cycle, supply is predominantly institutionally controlled, and as a result, deliveries remain disciplined, and as a byproduct of the institutional control, it's largely focused on big box construction. Our quarterly pool same property NOI growth was strong at 6.2% cash and 5% GAAP. We were pleased with average quarterly occupancy at 95.7%, up 50 basis points from third quarter 2017.
Rent spreads continued their positive trend, rising 5.6% cash and 16.6% GAAP respectively. Further, our year-to-date GAAP re-leasing spreads are 15.6%, and when omitting Santa Barbara R&D space, they're 16.3%. Given the intensely competitive and expensive acquisition market, we view our development program as an attractive risk-adjusted path to create value. We effectively manage development risk as the majority of our developments are additional phases within an existing park. The average investment for our shallow bay business distribution buildings is below $12 million. While our threshold is 150 basis point projected investment return premium over market cap rates, we've been averaging 2 to 300 basis point premiums. At September 30, the development pipeline's projected return was 7.6%, whereas we estimate an upper fours market cap rate.
During third quarter, we began construction in four cities on properties totaling 670,000 sq ft, with a total projected investment of $53 million. Coming out of the pipeline, we transferred two 100% leased buildings totaling 286,000 sq ft. Demonstrating the strength we're seeing in the market, our development pipeline and value add percent lease rose from 27% to 43%, even with the five new additions and two 100% leased buildings transferring out. As of September 30, our development pipeline and value add properties consisted of 20 projects and 11 cities containing two and a half million square feet with a projected cost of $220 million. For 2018, we originally projected $120 million in starts. Today, that forecast is $145 million. Additionally, we have several projects that pending weather and obtaining permits will either commence late 2018 or create a solid start for 2019.
One of the things I'm excited about has been this greater number of development markets. This diversity reduces our risk and continues enhancing our ability to grow the pipeline. During the quarter, we acquired Allen Station, a two building, 227,000 sq ft, 87% leased property in Allen, Texas, a Northeast Dallas suburb, for $25 million. We also acquired the 115,000 sq ft Siempre Viva Center in San Diego for $14 million. This property, which became vacant post-closing, is now 100% leased. On the disposition front, we closed the sale of the 50-plus-year-old 125,000 sq ft 35th Avenue distribution center in southwest Phoenix for roughly $8 million, or a slightly sub 6 cap rate. Brent will now review a variety of financial topics, including our updated guidance.
Good morning. We continue to see positive results due to the strong overall performance of our portfolio. FFO per share for the quarter exceeded the upper end of our guidance range of $1.17 compared to $1.08 for the same quarter last year, an increase of 8.3%. The outperformance was primarily driven by terrific leasing results in both the operating and development programs, which pushed occupancy and net operating income above our budgeted range. Notably, all seven projects listed in the lease-up phase of the development and value-add pipeline experienced additional leasing success, with five becoming 100% leased. Other positive contributors for the quarter were lower interest in G&A expense. Our balance sheet is strong and flexible, and our financial ratios continue to trend in a positive direction.
Our debt-to-total market capitalization was 24% at quarter end, and our adjusted debt to pro forma EBITDA ratio, which normalizes the impacts of acquisitions and active development, was 4.65, down from an already healthy 5.44 at December 31. From a capital perspective, we issued $31 million of common stock under our continuous equity program at an average price of $96.56 per share. That increases our year-to-date gross equity raise to a record high of $114 million. FFO guidance for the fourth quarter of 2018 is estimated to be in the range of $1.17 to $1.19 per share and $4.66 to $4.68 for the year. Those midpoints represent an increase of 3.5% and 8.9% compared to the prior year, respectively, excluding the involuntary conversion accounting gain recorded earlier in the year.
The increase in the guidance midpoint for the year of $0.06 is the result of a $0.03 outperformance in third quarter driven by successful leasing results. This activity reduced leasing risk for the remainder of the year, increasing our budgeted average month-end occupancy for the fourth quarter by 120 basis points to 96.3% and raised our estimated occupancy for the year by 40 basis points to 96.0%. As a result, we increased the midpoint of our same-property guidance from 3.2% to 3.9% on a GAAP basis and to 4.3% on a cash basis. You will also notice that we enhanced our same-store presentation in both our guidance table and supplemental package to provide clarity among the various metrics. We hope you will find these changes informative and useful.
Other notable guidance assumption revisions for 2018 include increasing our estimated common stock issuances by $34 million to $144 million. As a result, we deferred our next budgeted debt closing to early first quarter 2019. In summary, our financial metrics and operating results continue to be some of the best we have experienced. We anticipate that momentum continuing into 2019. Now, Marshall will make some final comments.
Thanks, Brent. Industrial property fundamentals are solid and continue improving in the vast majority of our markets. Based on this strength, we continue investing in, upgrading, and geographically diversifying our portfolio. As we pursue these opportunities, we're also committed to maintaining a strong, healthy balance sheet with improving metrics as demonstrated by our year-to-date equity issuance. We view the combination of pursuing opportunities while continually improving our balance sheet as an effective strategy to manage risk while capitalizing on a strong operating environment. The mix of our operating strategy, our team, and our markets have us optimistic about the future, and now we'd be happy to open up and take any questions you may have.
At this time, if you would like to ask a question, please press star and one on your touchtone phone. You can remove yourself from the question queue by pressing the pound key. Please limit your questions to one question and one follow-up. Once again, that is star and one. We will take our first question from Jamie Feldman. Please go ahead. Your line is open.
Great. Thank you and good morning.
Good morning.
I'm hoping you guys can talk a little bit about, just more about the types of tenants that are leasing space. I know you had mentioned you're a little bit protected from the big box construction, business sounds like it was better than you thought it would be. Can you just talk about the specific markets and the specific types of tenants and uses that are driving this?
Yeah. Good question. Good morning. What we liked about this quarter, what got us excited, it was very broad-based. We kept hearing over the summer and probably mentioned even a little bit in the second quarter that what we were hearing from our guys and the brokers we work with, that everybody was having a busier than normal summer, thankfully that activity turned. Sometimes you have that and it won't turn into a lease, thankfully they turned into leases, it's been pretty broad-based. If we can put it into two different buckets, what's nice about this economy is our traditional businesses, whether it's home building or construction, plumbing, all of those tenants, we continue to see more and more expansions within our portfolio. That's what helped us kick off one of the Houston developments that we have underway.
For example, within that Those can be last mile, a last mile for the HVAC guy to get to homes in North Atlanta or Northeast Dallas, also last mile. We've signed a few leases with Wayfair and have them as a prospect of, I'd say, a material prospect within our development pipeline. Whether that happens or not, time will tell. We're talking to Amazon really as they continue to roll out their last mile. One, I hope I'm not violating them, we've seen Lowe's is rolling out a program where you order your appliances online, you can either could pick it up, probably more likely deliver it to your home. We've signed a lease with them, which was one of their first locations, as I understand it, under this program, are hopefully close to a lease on a second location with Lowe's.
It's been pretty broad-based medical and kind of pharmaceutical. Arizona Nutritional Supplements has jumped up on our top 10 list as a tenant we've had for a while, they've expanded. They're a private manufacturer, distributor of supplements. We've seen online pharmacy fulfillment grow. Those seem to be mainly in Arizona and Florida. It's been pretty broad-based tenant wise. This quarter, what we liked is we rolled up the numbers. I was curious was it one or two markets, say a Dallas or Orlando, that really drove our beat? Every market was a little bit ahead. When we added those up, all of a sudden we were $0.03 ahead for the quarter, that momentum was carrying over into fourth quarter is what we're seeing.
Okay, thanks. That's helpful. As you think about the development opportunities looking ahead to next year, do you think you could do more starts in 2019 than 2018?
Yeah. My crystal ball has been known to be wrong as often at least as it's right. As I mentioned, we could potentially beat our $145 million. There are some starts that, for example, the Houston, the pre-lease that we have there, that's not in our $145 million, but the lease is signed. We're committed to this building at Walls, Houston, which we're excited about. Our $145 million could grow still in 2018. If that doesn't grow, we'll really have a good running start of, if you look through, for example, our development pipeline, the Creekview project, we're basically out of space in that park in Dallas and are hurrying to catch up with demand a little bit. The same thing with Steele Creek in Charlotte. Gateway down in Miami, where we've leased space.
We've got the balance of the building accounted for with leases out. All of those, some could still fall into this year. If not, it makes me comfortable that we could meet or exceed $145 million in 2019. My huge assumption in all that is that this operating environment, the economy, it doesn't need to improve, if it stays where it is today or doesn't materially get worse, we could beat, meet, or exceed it next year.
Okay, great. Thank you.
Thank you.
Thank you. We will take our next question from Alexander Goldfarb with Sandler O'Neill. Please go ahead. Your line is open.
Oh, hey. Thank you. Good morning down there. Two questions. First, on Mattress Firm, if you could just give us an update on where you think your expectations for that tenant are. If you think they're staying or going, then if they are departing, what you think the downtime or the impact would be.
Yeah. Good morning. This is Brent. I would say with Mattress Firm, they're current at all five of our locations, we've received no closure notice thus far. In fact, we've had dialogue with them about their existing leases. That's still somewhat of a fluid situation. I would point out that Mattress Firm only equates to 1% of our annual revenue, that's actually declining over time as we continue to bring properties into our operating portfolio. Our top 10 as a whole is only just slightly over 8%, which I think's the best, if not the best, one of the best in the industrial sector in terms of diversity. The 1%, we're keeping an eye on it. For the most part, their rents are less than market at each of those locations. They're in newer buildings.
The average building age is six and a half years in those five locations. We're in contact with them and monitoring. From what we're seeing and anticipating, again, we have just the distribution centers. They've announced, I think it's in the neighborhood of 400 retail closures so far, and that may go as high as 700, we understand. In our markets, they haven't closed more than just a few locations, which leads us to believe they're going to continue to need the distribution. The good news, they're moving quickly. I think they would like to have a forward plan in place before the end of the year. We're going to stay on top of it. Right now, we're cautiously optimistic about what the end result will be, but time will tell.
Okay. The second question is, as we think about next year, clearly, the momentum that you guys have in the third quarter and fourth quarter is pretty strong. Brent, as we think about the properties in lease-up, how much are those properties on the lease-up schedule are contributing in the third quarter versus those are yet to deliver, meaning yet to be in the pipeline? The $0.03 beat this quarter, the $0.02 beat next quarter, these lease-up ones would be additive to that. I'm just trying to break out what's already in the run rate NOI versus what would be incremental to.
Yeah. It's page nine of our supplement where it lists the development value add properties. There is no
leasing in the third quarter certainly attributable to any of the properties in the lease-up. There would be, I'm looking at the anticipated conversion date, there would be minor impact in the fourth quarter. Most of the impact doesn't occur until you look at page 10. Those are the properties that have transferred into the portfolio. It isn't until they're in and churning that they actually contribute. None of the properties in current lease-up contributed other than the two properties you see. We had two third quarter roll-ins, Kyrene 202 and Steele Creek. Those two might have nominal impact just because they did roll in third quarter. As we point out, we've got over $200 million and somewhere $210 million, $220 million between lease-up and under construction, and none of that's come through to the bottom line from an earnings standpoint.
Okay. I appreciate it.
Some of the things that help, Dan, is that just that last year we were, remember, $120 million in starts. That's what's helped. We've called our value add kind of platform, our shadow pipeline of it's gotten to about $150 million over the last, call it two and a half years, and all that's pretty much stabilized other than a project we acquired in Atlanta at the very end of last year. All that is the size of the market and the ability to simply raise rents, I think that as we view our development pipeline, as we stamp out building after building, that is what's pushing our NAV and also helping our earnings.
Okay, Marshall, appreciate it. Thank you.
You're welcome.
Thank you. We will take our next question from John Guinee with Stifel. Please go ahead. Your line is open.
Great. Thank you. A couple little cleanup questions. First, what do you expect to happen to G&A in 2019 because of the lease accounting rules and capitalizing versus expensing your in-house leasing people? Second, can you talk a little bit about your 12.5% dividend increase and the ability to maintain that? Third, are your very attractive return on costs based on the fact that you've got your land at a really low basis, or that's just the market return on cost in your markets?
I'll take the first and maybe remind Marshall what the third is when we get there. On the 2019 G&A, we do finally have what we feel is a solid run rate. Remember last year, we had conversions of the straight line, bright line testing for compensation that caused last year to be heavier. Our $13.8 million that we're budgeting for this year of $13.6, we view that they would just be your typical increase year-over-year, nothing significant. We're only considering about $175,000 based on the last year or two of impact from the changes in having to expense some lease-related costs. As a reminder, we have no in-house leasing personnel, so we haven't had a big internal overhead G&A allocation or capital offset for those services.
For us, it'll primarily just be a third-party attorney that we use that reviews the majority of our leases. We think it'll be a pretty minimal impact for us. As far as the 12.5% increase in the dividend, our philosophy is that our cheapest capital is the capital we don't have to expend. The good news there is it was just simply driven by our significant and steady growth, especially over the last year or two. Last year, we were fortunate to kind of scrub just barely above the number, but that all led to the 12.5% increase. We certainly view that that dividend can be maintained into next year, but certainly not that dividend growth rate. We think that would moderate, and certainly not be at the level of 12.5%.
We certainly think that given the positive momentum into 2019, that we think that dividend is certainly be maintainable. I'll let Marshall touch on the reason we have such good returns in the develop pipeline.
John, part of this I'll say is, I can only speak factual for what we do, and then a little bit since we don't build big box, this is kind of the second half of my question's maybe a little more speculative, but I think our guys do a great job of finding land at reasonable prices. Really, the cheap land we bought the last downturn, we've pretty much burned through. Everything, our goal is now as soon as we acquire land to put it into production. I like to think as we build out a park, you think we've got shared driveway, shared retention within our parks, so there's maybe some economies of scale as compared to a standalone big box building. Our office content, while not high at probably 10%-20%, is higher than a big box that would be maybe 5%.
That usually as we put our dollars in and also the tenants usually put their own dollars into that build out, that pushes the rents a little higher and probably helps our return. The third part, usually if you're doing a large, say, a 700,000 foot lease with a Whirlpool, Target, Walmart, they know the value. They've got their own real estate department. They've got a broker or brokerage team and several people. If you pick, say, South Dallas or South Atlanta, there's usually pretty intense competition for those type tenants. They know the value they bring when they sign a lease. I view those as awfully out in advance and heavily shopped and tough negotiations, where a lot of times ours is someone looking, and they need space fairly quickly.
I think our tenants and the tenant rep brokers certainly negotiate hard, but I like what I used to say, I like where we fit in the food chain. It's not as intensely competitive, it's less of a commodity. Our cost within their distribution system is pretty low, and the spaces are a lower component. I think it gives us the ability to price a little better versus an 800,000-foot building on the far west side of Phoenix, for example.
You like your business model better than the big box model?
Yeah, I like the guys at Duke and those alike. I'm not saying anything. They make money, too, but I'm glad we do what not everybody else is doing. Maybe another way, a better way to say it.
It's a big tent, John. All right. Thanks a lot, guys.
Thank you.
Great job.
Thank you.
Our next question will come from Rich Anderson with Mizuho Securities. Please go ahead. Your line is open.
Thanks. Good morning, team.
Morning.
Good morning.
Brent or whoever, can you hazard a guess, the utilization of ATM to do a lot of your funding? How much is that impacting what you could otherwise have achieved from an FFO standpoint? Is there a number of dilution that you're willing to take on because you're going that route with your stock trading well above NAV?
It's a good question, Rich, we look at it, actually, it's a tricky computation because as you move different parts. The way we look at it, at some point beyond this near term, you're going to go need either equity or debt. We just view the premium to the stock with the value that we perceive as being north of an NAV, certainly north of an NAV consensus, that we view that as attractive, we've used that as a mechanism to raise equity the last couple of years, more so than normal. We've also seen periods of time where that equity's not available, and we're certainly well positioned then to switch gears and go the debt route, being only 24% debt to total market cap. There's certainly room there.
We have these internal discussions probably once a week about what's enough and what's not too much, Marshall always reminds me he wasn't a hoarder until he likes our stock price, and then he becomes a hoarder. It's something we monitor, and we feel like the good news is we have good uses for all this capital. We're putting money to work at an average of seven and a half to an eight, and that volume has picked up, and the leasing has been terrific. It's a little bit of a dance between the two, but my guess is going into 2019, if the stock price maintains its healthy course, we'll continue to certainly utilize ATM as a method of proceeds.
In terms of, is it almost the cost of debt versus the cost of equity, almost on top of one another in the sense that it's not creating a whole lot of dilution for you, whichever direction you go?
I mean, our internal calculations, give or take, it's probably within 30 basis points, which for us is, that's as historically tight as that's been. Typically, the debt's a good bit less expensive than the equity. Yeah, it's in a small category, and that certainly avails the ATM to use, too, because it's not as expensive to do as it sometimes can be.
I agree with Brent. Other comment. A few years ago, we had looked at kind of some of the attributes of the, not simply industrial REITs we admired, where they had strong balance sheets. We have said that of the blue-chip REITs, that was one common trait we could imitate. We like having a strong balance sheet. Then we've had internal debates where we're certainly not seeing it, but everybody says, "This real estate cycle has lasted so long. Are you near the end and the beginning?" We could debate that the balance of the day. We've said, I like the combination of a healthy development pipeline that as long as the market's supporting it, let's kind of keep delivering and completing the next building.
It makes me feel better that at the same time, if the market allows us, that we can keep de-leveraging the balance sheet. I think those two risks offset themselves in my mind a little bit, where our balance sheet's stronger, and as we grow our development pipeline, hopefully, it's giving us that much more safety. Hopefully, as our balance sheet gets stronger, I'd argue we should trade at a higher multiple versus if we were 45% leased with a large portion of that in floating rate debt, for example.
Right. You almost answered my next question. Part of the risk I think here is, meeting expectation is the new miss in your space and maybe largely in your stock. The market's kind of pricing in these beat and raise type of quarters. How much are you perhaps planning for the inevitable point where performance perhaps falls short of expectations? What you're perhaps doing today is not so much a present tense consideration, but considering what could be happening down the road, say, two, three years from now. The market is chirping about a possible recession at some period in the next couple of years.
When you think about all the things that you're doing, whether it's capital raising or investing or whatever it is it an eye, is there a very significant eye towards the next couple of years, or are you thinking more, "Oh, the market's giving me this now, so I'm going to take it"? I'm wondering how the longer term is influencing you.
Yeah. We certainly think longer term. As you say it, I was kind of thinking of Keith McKey, our prior CFO, always said, "Take equity when you can. Be opportunistic. It won't always be there when you need it." Right now, we do need it with our development pipeline and value add. We like it from that perspective, and I guess you're not the only person that's mentioned to us that we have our guidance and the market expects us to beat it, whatever we say. I think a beat and a raise, if that's expected of us, gosh, that's the best compliment we could get as a company.
I hope that the market thinks I'd like to be viewed more conservative than aggressive, and if people think we're going to outperform, then I guess we'll hate it the quarter when we miss it. I'm proud of the team, and I'm happy with that reputation. If we can earn it, that people expect you to be there and improve, and most people don't regret. At some point, it is a cyclical business, so it'll slow down, and I remember having a discussion with our board two and a half years ago in our annual planning meeting that they thought the cycle was ending then, and thankfully, the market will let us know when it's over. Thankfully, we didn't pull our horns in then, for example.
We're running a better balance sheet than we think a couple of years down the road, but other than worry about it, I don't know much more we can do about it.
Yeah. Agreed. Thanks very much.
Sure. Thank you.
Thank you.
Thanks, Rich.
Thank you. Our next question will come from Bill Crow with Raymond James. Please go ahead. Your line is open.
Hey, good morning. Question for you. We've talked a lot in the past about the inflation and construction cost. I'm just wondering if, for whatever reason, if construction costs were to turn around and fall 15% or 20%, how long would it take for the market to kind of get out of balance from a supply-demand perspective? Are there a lot of projects out there that might go ahead if it was cheaper to build that would throw us out of whack?
I like the thinking on it. Interesting. We struggle so hard, this is Marshall, to find land that we think even when construction prices were low, supply didn't get out of balance. If you said what, besides Rich's question down the road, a downturn, what really keeps us up at night is finding the next land sites to kind of continue building our parks. On construction pricing, I like your optimism. We don't see it talking to outsiders, the shortage in workers and what we're seeing in steel prices, that construction went up probably 10% to 20% fairly quickly and has been more moderate.
We've even heard stories in one of our markets, for example, that people are so short on workers that a concrete company was showing up at our job site trying to hire the workers away while they were pouring the slabs and things like that. You've seen things that we've watched where Amazon raised their minimum wage for employees. We've heard that FedEx is doing kind of several different things to kind of retain their employees as well. We don't think, unfortunately, that the labor shortage, it's here and may last for a while. Thankfully, what we view is our mark. We're full, and our markets are pretty full, and with rents, we're hoping rents keep pace with inflation, basically, is what would be my best guess.
Marshall, you think that cost inflation has moderated from, you quoted 10%-20%. Are we running 5%, 6% a year, you think now?
Maybe a little bit. I guess just talking to guys in the field, there for a while, every pro forma, one, I'm thinking Reid, who runs our Texas group, said the pro forma I said earlier in the week I thought was conservative, and 3 days later, we got bids in, and now I'm learning that it's not. They're saying prices are more moderate. Again, maybe that 3%-5%. Again, pending how trade talks go with China and everything else, we were happy to see a trade agreement get resolved with Mexico. Again, the details with the auto workers, where we're hearing auto components may need to contain more U.S.-based product, that probably benefits us, being near so many auto plants and things like that.
We're happy to hear that construction prices, although they spiked, have kind of leveled out a little bit, and I hope that holds.
Great. That's it for me. Thank you.
Sure. Thank you.
Thank you. Our next question will come from Emmanuel Korchman with Citi. Please go ahead. Your line is open.
Hey, good morning, everyone. Marshall, if we go back to the conversations you're having, excuse me, with tenants, how many of those conversations are leading you to think about markets you're not in, or is the conversation more focused on land or buildings you have and presenting it to a batch of tenants?
It's primarily the latter. When we look at what opportunities can we find, we like the markets we're in, within our existing markets. We do spend time looking at new markets. Even if we pass, we feel like we're learning about that market, and we've also said, kind of maybe touching earlier, if there's a downturn, I'll use one market we've kicked tires in for a while and probably should have entered years ago, Nashville, Tennessee. It fits in our footprint. It's been a great economy. It's hard for us to think we can jump in there today and add a lot of value. We do look at markets, but by and large, maybe it's too far.
By and large, we think of how can we accommodate our tenants' growth and the opportunities we're seeing within Orlando, where we're running low on land today, or continue to find land in South Florida or Dallas or things like that. The other trend we're seeing more and more, it probably will fit more the big box tenants, but we're seeing it in our smaller shallow bay buildings is we're running into the same tenants and the same brokers over and over again in different markets, be it a Wayfair or a Lowe's or Amazon, or even some of our HVAC contractors, where we're working on having a conforming lease and accommodating them, makes it easy for them to lease space in Orlando and go to San Antonio and maybe up to L.A. as well.
We are seeing more tenant and broker overlap than we probably saw a few years ago. That potentially could lead us to a new market, but we really at least like our footprint today and are hesitant to enter new markets, especially probably later in the cycle than early.
Thanks. Then, if we think about the transaction or acquisition environment, what would you need to change in order to increase those volumes? Is it a matter of losing deals based on price? Is it the types of assets that you're fluent in and like aren't available? Where do things sort of sit?
Good question. We see properties we like a lot. We just can't afford them. We've passed on a large number of deals in California, for example, and all of South Florida. We'll make it first, second, maybe the third round, which is really the buyer interview. We try to set a ceiling before we start bidding, because once you start bidding, everybody, me included, you get emotional about it, and you get excited about the property. They're out there. It is, as CBRE refers to it, the wall of capital, which really comes from all over the globe. There's a lot of people that like U.S. industrial real estate right now. I'm glad we built it, and we're better off finding. For example, I'll stick with the property we just bought in South San Diego. We bought it, we expanded two tenants.
It's fully leased now. We're in the low sixes. We're in the same park buildings which we looked at are going to trade sub five. We could buy them. We watch our cost of capital and the growth that we think we're going to have on those leases. Everybody's got a checkbook, and there's someone that's willing to outbid us that usually lost the last deal or two. We go to battle on, and we don't get many hits, basically.
Thanks, Marshall.
Sure. You're welcome.
Thank you. Our next question will come from Craig Mailman with KeyBanc Capital. Please go ahead.
Hey, guys. Marshall, maybe just to follow up on the land conversation, you kind of threw out Orlando as one where you guys are looking for more inventory. Just looking at the list of markets you have, Atlanta is kind of running low here. Can you just give us a sense, do you have anything in the till in some of these markets? Is there even really any land on the market that fits what you guys want to do and the locations you want to do? I'm just trying to get a sense of, we're talking about development starts into next year, just to be able to do it on a broad base, just want to know what the probability of that is given land inventory.
Sure. We feel, at least near term, pretty good that we can keep our development starts. If the economy hangs in there, we can maintain the run rate. If you said what markets are you, a little bit light. Orlando, as we mentioned, we're out, John Coleman and Chris, they have a few sites we're pursuing. Nothing we're there to close or announce. Tampa's another market that we've been in Tampa 20+ years, we really like, but we don't have developable land there. It's a balance. You don't want to get too much land, then you have to carry it, and your yields go down. Atlanta, given the value add properties we bought there, as I mentioned, we've had a good quarter. Proud of the team. There's always a place or two.
Hey, Atlanta, we've chased a lot of deals and haven't landed them. We'd like to finish our value add project in Atlanta before reloading with the next batch of land. It's tight in Atlanta, but we've seen a couple of sites we've looked at, maybe I'll tie it to the prior question. One of the things we liked about when we entered Atlanta, I was shocked, this was a few years ago when we sat down with brokers, how little land they could find us within a market as big as Atlanta or how hard it is in Dallas. That makes us feel good about supply, which is great, but it worries us about ability to grow going forward. Those are probably the markets where we're light today. Those three.
That's helpful. Just as we're later cycle now, just curious on your thoughts internally about kind of caps on development. I know the company's gotten bigger, balance sheet's in great shape. I'm just curious how big the pipeline you want to be carrying is at this point.
Yeah, good question. A lot of it depends where in the pipeline. Looking at our pipeline now, there's a handful of deals that are all 100% leased. Again, that's pretty atypical, but once we get there, I worry less about those. I guess you still worry about all of your kids, but worry less about those. We typically target about 6% of our assets as kind of an informal of what we want to have, at least in terms of land on the balance sheet. We also track what are between value add and construction and simply land of what is that as a % of our balance sheet.
Obviously, that's a higher number. When they get closer to coming out of the pipeline, and as they're leasing or a pre-leased building, like several of the starts we had this quarter at the bottom of our development pipeline, all had a fair amount of pre-leasing. We feel a little bit better. I'm not giving you a very exact number because maybe it's not an exact science balancing act, but I'm sure there's an absolute number. At $220 million in our pipeline, that's about as big as it's ever gotten. Several of these are going to roll out in the next 30, 45 days, too.
That's helpful. Just lastly, you guys clearly had a great quarter on the leasing front. Just curious, the guidance you gave last quarter seemed like it assumed some move-outs. Did those move-outs happen and you guys just backfilled way quicker than you thought? Did tenants that you had a high probability of leaving stay? Can you kind of give us some context of, was it more people just realized they couldn't leave and so they stayed, or was it just really quick backfills on some of the things that did roll out?
Kind of yes is the answer. It was a little of all of it. Again, we usually say don't project 90% retention rate. We typically average around 70% historically. Some of the tenants were, "Hey, we budgeted people to leave because we didn't want to budget 90% of our tenants staying." Some stayed that we had budgeted vacating. Some held over longer. There were some of those where the tenants, and a few of those are still there. That doesn't mean they're there permanently, but hey, we're a few months beyond your lease expiration and they haven't worked out a deal or to either stay or leave. In those cases, we'll collect a premium rent typically on those.
In some markets, I'm thinking like in Tucson, where we relocated, built a new building for Chamberlain, moved them out of 160,000 feet into a new building. Mike Sacco was able to backfill that with one existing tenant, one new tenant, way ahead of what we thought. We like Tucson, but it's a smaller market. Now we're back to 100% leased in Tucson. That was a nice budget pickup in that market, for example. Grant, anything?
Yeah. Basically, like Marshall said, it was well spread out. I'd also point out that our development pipeline, that the leasing and getting tenants in a little faster than we had budgeted there, also was part of the help. It was broad-based leasing, combined with a few tenants staying that we had budgeted to move out, but it was really across the board.
If I could just sneak one last one in. As you guys are budgeting people to move out, is it because of they're outgrowing the space, in your opinion, or you don't think that they want to pay the rents that you're going to roll them up to? I'm just curious, as you guys think about that space by space, what's the biggest driver at this point of the cycle, kind of utilization or cost?
It's typically more cost. Sometimes, you'll hear a tenant bought their own building or they made a decision. Sometimes it is simply, and those are the ones that make me feel better, it's an assumption. If you're one of our asset managers, Craig, don't budget you're going to renew all 10 tenants, even if you think that. Somebody's going to surprise you and decide to leave. A lot of times, we just had a conversation about a tenant in California, for example. They're in sticker shock over their renewal rate. The renewal rate we're proposing them is at market. Most everybody we deal with has a tenant rep broker, probably thankfully at this point in the cycle, that educates them of, they may be a little bit in shock on the rents, but there's nowhere else for them to go and incur the moving costs.
It's typically that people have outgrown our building, which is one of the other things we really like about building the park settings. A lot of our new development comes as a way to accommodate We've got an existing tenant. They've paid the rent for a while, and thankfully, their business is good. Like I mentioned Arizona Nutritional Supplements, ANS, earlier. They're in a building, and they filled up a new development we had, thankfully. If we can move people from building 3 to building 8 in a park, for example, that's one of the beauties of building a park.
Great. Thanks, guys.
Thank you.
Thanks.
Thank you. Our next question will come from Eric Frankel with Green Street Advisors. Please go ahead.
Thank you. First, Brent, thanks for the clarified disclosure on same-store reporting. I think that should be helpful to everybody. First question, I know you've diluted your exposure to Houston, but maybe you can just talk about leasing trends a little bit there. It seems that re-leasing spreads have been a little bit choppy. You've had some good quarters and not so good quarters, and this quarter seems to be pretty healthy.
Sure. Brent, thanks for the comment on same-store. I remember our conversation from a quarter ago, so I'm glad that that's helpful. Houston's certainly recovering. We said a big picture comment and then more detail on leasing. We started the year hoping or really expecting to start a building in Houston, and we did, and that one's 100% leased. Then we had an existing tenant expand and extend their lease, and that kicked off our second building at Ten West Crossing. Now we've gotten the building, which we haven't broken ground on, but the pre-lease. All of a sudden, the Houston economy has picked up with oil and just the economy in general. They've added 110,000 new jobs in the past 12 months, which has to put it number one or two, probably them and Dallas, in the country over the last year.
Our leasing spreads, the market is recovering. The rents are not back to their peak in Houston. They're certainly moving in that direction. It was a good quarter. Really last quarter, we stretched to It was a large building at World Houston to make the deal, a single-tenant building. It was probably a little bit of an arbitrary kind of odd data point that pushed it down. That one probably shows a little bit worse than the market, but the market's still not back to its peak in Houston, but it's 5.1% vacant and recovering pretty nicely. We're happy with Houston, and again, we're certainly cognizant of having been at 21% and been in the penalty box on Houston a few years ago. We're glad to see it roll down to 15%.
As I mentioned the three starts, I wouldn't want you or anyone on the call, as we roll forward, if you took our portfolio, annualized it, and really stabilized the development portfolio, that actually you're getting a year down the road or a little more, gets Houston down below 14% of our NOI. We like the market a lot. We're good historically, Brent. Kevin and Reid and the team have created a lot of value in Houston over the years, but we like that we're able to play offense there and continue to shrink it as a portfolio allocation more than anything indicative of the market.
Okay. Thank you. Just a follow-up question. I know you obviously are going to introduce guidance next quarter. I was wondering though, if you could talk about any plans, given where asset prices are, to maybe clean up the portfolio a little bit more and add some more non-core assets, and maybe you can also add in some commentary on how Santa Barbara is doing, especially with the lease roll there next year.
Okay. Yeah, Santa Barbara, we've pretty much addressed the large vacancy we had a year ago of that 51,000 feet. 44,000 feet of it has now been leased, thankfully. We've got 1 7,000-foot space, and we're talking to a couple prospects. Have a prospect that we'll see. Hopefully, we'll fill in. We have a larger renewal there next year, another lease that rolls at the end of this year. We'll see how. It's a little bit early to know. I hope we can renew the tenant. The market is reasonably healthy. You're right, in terms of non-core assets, you may remember we bought our partner out of 2 of the buildings last year, reworked a little bit of the partnership there. That is one over time, given that it's 2-story R&D buildings and in a market.
They've been good assets, we'd like to reduce our exposure in Santa Barbara over time and kind of in some other ones. We've got another asset or 2 lined up that we'd like to sell next year.
Okay, thanks. Just final question. Regarding some of those last-mile requirements that seem to be picking up steam, are you seeing any sort of automation or robotics in those buildings, in terms of their use, or is it still fairly manual?
I'm sure more than we've seen. Certainly, like the pharmaceutical, kind of online pharmacy, there's a lot of technology and a lot of investment in that, kind of in the medical. We're seeing more HVAC warehouse, things like that. Maybe that's part of our geography and things. I think it's coming, but we're not heavy there yet. Then probably last mile is certainly not the automation technology that the big box has, but with the labor shortages and all that, it's coming our way, but we don't think any of our buildings are obsolete, but you can overcome obsolescence with location on a lot of those properties, too.
Okay, thank you. That's it for me.
Sure.
Thank you. Our next question will come from Jason Green with Evercore. Please go ahead.
Good morning. You guys have talked about kind of the scarcity of land assets out there and the amount of capital that's chasing them. I'm curious kind of how competition for land assets has changed today versus about a year ago.
Yeah. For land acquisitions, as Brent's saying, we've seen really that what you have to have is the more in-depth guys on the ground that can look. The days of just driving, and I did this many years ago, you drive up where there's roads and infrastructure, you just buy land and build buildings. In the major markets, that's gone. You've got to really spend some time. Our Eisenhauer Point project in San Antonio, that was a two-year process to get that land zoned, changed, bought, and it's doing terrifically now. I would say what's changed is it's, and it's part of what's kept supply down, it's not as easy to just go tap a piece of land and begin to put up buildings and flip them and sell them, especially for local developers.
You've got to really be willing to put in the time, and in some cases, do a conversion like the Gateway Project Miami, where we converted the horse stables to the Churchill Downs racetrack. We've converted old municipal golf courses. We've changed retail zoning to industrial zoning, which is not easy to do. I would just say that as the opportunities get more difficult, you've got to think outside the box more. Along with that comes a little longer lead time. I know John in Florida, it takes quite a bit of time to get land ready there. You want to be looking well in advance of when you actually think you may actually need to put the dirt into progress.
I guess today versus a year ago or kind of a year and a half ago, are there far more bidders? For land assets, or that hasn't really changed at all?
That probably hasn't. Most of the land we acquire, maybe it's listed, but it's not. Maybe one comparison is like if it's a building, a large brokerage group will come out with it. Bids are due on this date, and if you make it through that round, they have a second round of bids, and it's a pretty orchestrated process. Land feels like it's out there on the market and there's bidders, but it is not all of you show up with your bid on Wednesday by 5:00 o'clock. There have to be, given the returns and the profits being made, there's less land out there and there's more people kind of scouring through it to find land. Certainly California, South Florida, those markets. I don't know that it's gotten much more intensely competitive for that.
It has, for the last few years, been very intensely competitive for just a core acquisition. We were shocked in Atlanta, for instance, recently. We were one of on a package, and they were good buildings, but probably 20 years old. We were one of 24 or 25 bidders in that first round. That gives you a sense of what your odds. We didn't win it. Of what the competition's like. Same thing in the San Diego package I mentioned earlier. We bid on it, but it was a who's who list of institutional bidders that wanted to buy those. We'd like to have owned them, but we just got outbid, and I don't think we made the second round in that round of bidding.
Got it. Thanks very much.
You're welcome.
Thank you. We will take our last question from Jamie Feldman with Bank of America. Please go ahead.
Great. Thank you. I just wanted to get your thoughts on cap rates. Are you guys still seeing cap rate compression across your markets at this point, or do you think they've kind of stabilized?
I guess it's interesting with interest rates going up, they were compressing. Probably major markets have held flat, could be sub 4. We felt like there was contagion that markets like Denver, Phoenix, Las Vegas, cap rates came down. They're not rising with interest rates. I had a conversation with one of the national kind of investment guys with one of our brokerage groups earlier in the week, he said they've gone up on triple net and certainly B and C industrial, but A quality industrial, I don't think they're coming down anymore. They haven't moved. Maybe a couple bidders that use a lot of debt have dropped out, but for the most part, they've been flat for probably the last 60, 90 days. Still a healthy number of people that want to acquire industrial.
I guess, are you talking specifically about your product type or just industrial overall? I'm wondering about-
Yeah. Probably-
-quality versus the others.
Probably, I'm assuming from my conversation, this was, again, was one of the national partners with the group. He was probably lumping industrial in as a whole. He knows our product type. We've worked with him before, so certainly our product type, but I'm thinking big box is the same. We see those packages as they come out and kind of track them just to see where the market is. There's still fours and sub four in California, sub four South Florida, things like that, big box and shallow bay.
Okay. Will shallow bay later decompress this cycle? That is why I was wondering if it can continue for longer, but maybe not.
Probably a little bit later. It seems like if you have a package, the more dollars you can put out, the more bidders it seems to attract. It can be a package capital, and some groups like that have been very good at buying wholesale and selling retail by putting things into a portfolio. That maybe is one disadvantage shallow bay has had a little bit, is just you can't put as many dollars out unless, like in Atlanta, it was almost 1 million sq ft. It was shallow bay, but it was enough buildings that it attracted enough institutional bidders to get the dollars out. That probably drives it a little more than product type.
Okay. All right. Thank you.
Sure. Thanks, Jamie.
We have no further questions at this time.
Okay. Thank you everyone for your time. Thank you for your interest in EastGroup. Have a good weekend, and if we can answer any follow-up questions, we will be around later today. Take care.
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