Good day, ladies and gentlemen, and welcome to the third quarter 2018 Federal Realty Investment Trust earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will be given at that time. If anyone should require operator assistance, please press star, then the zero key on your telephone keypad. As a reminder, this call is being recorded. I would now like to introduce your host for today's conference, Leah Brady. Please go ahead, ma'am.
Good morning. I'd like to thank everyone for joining us today for Federal Realty's third quarter 2018 earnings conference call. Joining me on the call are Don Wood, Dan Gee, Jeff Berkes, Wendy Seher, Dawn Becker, and Melissa Solis. They'll be available to take your questions at the conclusion of our prepared remarks. I'd like to remind everyone that certain matters discussed on this call may be deemed to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include any annualized or projected information, as well as statements referring to expected or anticipated events or results. Although Federal Realty believes that expectations reflected in such forward-looking statements are based on reasonable assumptions, Federal Realty's future operations and its actual performance may differ materially from the information in our forward-looking statements, and we can give no assurance that these expectations can be attained.
The earnings release and supplemental reporting package that we issued yesterday, our annual report filed on Form 10-K, and our other financial disclosure documents provide a more in-depth discussion of risk factors that may affect our financial condition and results of operations. These documents are available on our website. Given the number of participants on today's call, we kindly ask that you limit your questions to one or two per person during the Q&A portion of our call. If you have additional questions, please feel free to jump back in the queue. With that, I will turn the call over to Don Wood to begin our discussion of our third quarter results. Don?
Thank you, Leah. Good morning, everyone. At $1.58 a share in the third quarter, we generated more funds from operations in a 90-day period than we ever have in our 56-year history. On an absolute basis, this was simply the best quarter we've ever had. More than 5% ahead of last year's quarter and in excess of both The Street's and our internal expectations, contributions came from all parts of our business and on both coasts. Overall rental income grew 5.5% quarter-over-quarter. Earnings growth at comparable properties was particularly strong at 3.5%. The comparable portfolio remains 95% leased and 94% occupied, and operating expenses, including G&A, but not including real estate taxes, actually fell slightly quarter-over-quarter, despite $12 million more in revenue. Real estate taxes, it seems, never goes down.
The only metric that was underwhelming for us on the surface was comparable retail lease rollover growth at 6%. 90 comparable deals for 448,000 sq ft at an average rent of $38.31 per foot, 6% above the $36.22 that the previous tenant was paying in the last year of the lease. It's not bad, but it's not what you're used to seeing. Let's take a deeper look. In breaking down the overall results, space leased to new tenants grew at 13% with the previous tenant, while renewals of existing tenants grew at only 2%. That's the combined 6% rollover. The details supporting the 2% renewal rollover rates revealed that more than half of the renewal rent came from just two deals, both of whom renewed flat to the last year of their previous lease and therefore depressed the reported percentage increase.
A strong credit anchor at East Bay Bridge in Emeryville, California, and the Best Buy building at Santana Row. Many of you who are familiar with our portfolio know both of those properties well. Let me spend a minute on the transactions behind the summarized metrics to hopefully help interpret what they mean. Consider this. Rent in the East Bay Bridge anchor lease has been increasing annually at 3% since its inception in 1995 through 2009, and 3.5% annually since 2009. I don't know of any big anchor deals that have those kind of embedded annual bumps in them. Most are flat for 5 or 10 years and then bump 10% or so. Run the math. Those are very different economics.
We decided to renew it flat to the grown prior year's rent, and from here, it will continue to grow at 3.5% annually for the option period. By the way, no tenant improvement dollars from us. Given more typical anchor lease terms, this new rent would equate to a huge bump over the old rent, and our rollover statistics would have reflected double-digit growth. Yet we'd be far worse off economically. The strength in location, the lease terms, and the very strong productivity of the store allowed us to get paid millions more in rent along the way. Deal terms matter. Next, rent paid by the anchor at the hard corner of Stevens Creek and Winchester Boulevard at Santana Row more than paid for construction of the building they occupy by the time the initial term of the lease expired in 2014.
With the exercise of their first 5-year option back then, has paid for the building more than twice over. The exercise of their second 5-year option came in this quarter at the same rent, despite significant supply coming online at Valley Fair across the street. Again, no TI dollars paid by us. The real estate economics here are incredibly compelling, despite negatively impacting the rollover metric. I go through those two leases in particular, because digging behind any and all of the reported metrics is increasingly important as all of our businesses get more complicated and harder to compare. At the end of the day, it comes down to FFO per share growth. We're particularly proud of the consistency and sustainability of that earnings growth year in and year out, no excuses.
It's why we've worked as hard as we have to diversify our revenue streams and why we're using our existing real estate platforms to create and enhance real estate value through redevelopment and intensification on both coasts. The focal point is exploitation of our superior locations and cash flow stream through the lens of a broad real estate perspective. This isn't just about our big mixed-use projects, because it applies to our core shopping centers too. For example, you'll see that we've added to our 8-K redevelopment schedule this quarter, a $23 million, 87-unit residential project at Bala Cynwyd Shopping Center on City Line Avenue, just outside Philadelphia. This will be our seventh residential project developed internally by our team to intensify one of our core shopping centers. The others being two at Congressional Plaza, Wynnewood Shopping Center, Chelsea Commons, and Linden Square, with more on the horizon.
In terms of Bala Cynwyd, we would expect this residential project to be just the first step of what will hopefully be an ambitious redevelopment there. It's a great example of how we continue to find ways to extract real estate value in so much of our portfolio. Let me update you on our largest initiatives. With the 765-unit residential neighborhood at Pike & Rose fully 95% occupied and stabilized, and the 375,000 sq ft of restaurant and retail space nearly fully leased, though not yet fully open and rent paying until later in 2019, we are ready to move forward with the next phase. A 212,000 sq ft Class A spec office building with about 4,000 feet of retail on the ground floor, along with a 600-space parking garage that'll be used by both office and retail users.
The 11-story glass curtain wall building, addressed as 909 Rose, will sit on the hard corner of Rockville Pike and Rose Avenue, literally Pike and Rose, and is expected to begin occupancy in 2021. Our investment will approximate $130 million with an expected stabilized yield between six and seven. Separately, we're assessing the viability of relocating Federal's headquarters into two of the 11 stories, about 40,000 sq ft of the building. Doing so would validate our belief in the advantages of these mixed-use neighborhoods in general, and certainly North Bethesda specifically. At Assembly Row, we're now 95% leased at the 447-unit Montage. Significantly ahead of schedule and at net effective rents of nearly $3.40 a foot. Like our residential experience here, the Row Hotel, of which we own a 50% equity stake, opened in August at Assembly and seems to be following a similar track.
Rate and occupancy are strong right out of the gate, a trend that we hope will continue through the fourth quarter and into 2019. The market's exuberant acceptance of all things Assembly Row has us accelerating our plans for future development of additional residential and office product at two of the five remaining developable parcels there. We're hopeful that we'll be able to announce the next large phase of development at Assembly in a quarter, possibly two. Out west, the third quarter saw software giant Splunk sign and announce a lease for the full 300,000 feet of office space at 700 Santana Row, with occupancy expected about a year from now.
If you get a chance to be anywhere near San Jose, be sure to visit Santana Row and feel how the end of the street has been transformed with the construction of this gorgeous building and energized plaza area below it. We expect to complete this phase of development on or slightly better than budget from a cost perspective, and ahead from an income and timing perspective. The enduring strength of Silicon Valley in general and Santana Row specifically, not unlike Boston and Assembly Row, has us nearing a decision to potentially move forward with additional office development at Santana West, the 12-acre parcel on Winchester Boulevard across from Santana Row that we've controlled for the past several years. Tenant interest in the site, due to its proximity to amenity-rich Santana, has been very high, leading us to accelerate our master planning of that site. Stay tuned.
In Miami, demolition at CocoWalk is largely complete, and construction begins in earnest this quarter. You'll note a slight increase in expected cost of the project reflected in the 8-K, the result of a bit of increased scope and a bit of cost creep, but not expected to impact projected yields noticeably. Both our retail and office leasing teams are finding strong interest, and we expect to start reporting signed deals beginning next quarter. A few miles away at Sunset Place, we received good news in the quarter as voters approved the ballot measure amending the city's charter, so that a four out of five vote of the commission, rather than a unanimous one, would be sufficient to relax the land use code in the district that includes Sunset Place. We're working through the entitlement process now to increase the density on the site.
Many obstacles remain in the way of our moving forward with a viable project there, but we'll see. That's about it for my prepared remarks for the quarter. It was a really good one that we hope to follow with another and another. Let me now turn it over to Dan for some additional color, and then open the line to your questions.
Thank you, Don, and hello, everyone. Our $1.58 per share of FFO for the quarter was several cents above our expectations and $0.03 above consensus. This outperformance was driven by higher POI through more rent than forecast and continued expense controls at the property level, higher term fees than we had forecast, as well as lower G&A, but was again offset from the drag of early ramp-up at our two new hotels at Pike & Rose and Assembly, the latter of which just opened midway through the quarter. Our comparable POI metric was 3.5%, which bested our forecast as a result of the items I just mentioned. If you remember from our last call, we had expected this quarter to be the weakest of the year.
Our continued proactive re-leasing activity this year provided a drag of 110 basis points, although this was partially offset from the benefit of our 2017 proactive re-leasing efforts. Our better-than-expected termination fees enhanced the result by roughly 1%. As a reference, our former metric, same store with redev, came in at 3.4%. Don discussed in detail our lease rollover number for the quarter of 6%. Please note that on a trailing four-quarter basis, our rollover stands at a solid 12%, in double digits and in line with 2016 and 2017 levels. To reemphasize, let's remember, this is real estate, where true value creation should be measured over a three to five to 10-year horizon, and let's not get overly focused on any one quarter's or even any one year's metrics.
With respect to occupancy, after strong momentum in the second quarter, our overall leased and occupied figures were 94.8 and 93.7 respectively. Essentially flat to down slightly, but consistent with previous comparable quarters. New leases of note include Innisfree on Third Street in Santa Monica, Fogo de Chão at Pike & Rose in North Bethesda. New openings of note include Uniqlo with its Montgomery County flagship location at Pike & Rose, LA Fitness at Del Mar in Boca, and TJ Maxx at Westgate in San Jose. With departures from our one Toys R Us box, which is already released but not open, and our one Bon-Ton box weighing on the metrics. Also, when you're next in D.C., please check out the new Anthropologie flagship location at Bethesda Row that opened earlier this month. It's truly impressive.
With this stronger than expected quarter, we are again in a position to raise our FFO guidance, increasing and tightening the range from $6.13-$6.23 to a range of $6.18-$6.24 per share. That represents a $0.03 increase of the midpoint from $6.18-$6.21. At $6.21, this implies FFO growth for 2018 just above 5%. A testament to the continued consistency Federal has demonstrated over its long history, even through challenging retail and economic environments. With respect to our comparable POI metric, we are also revising our outlook higher from about 3% to the mid-3% range, driven by another strong quarter of 3.5% to go along with the 3.8% and 3.6% we had in the first two quarters of the year. On to some preliminary goalposts for 2019.
We are still in the midst of our 2019 budgeting process, I'm going to keep this very directional in nature. We expect to grow in 2019 in line with the past couple of years, despite continued industry headwinds due to both a changing consumer and a general oversupply of retail space in the U.S. We will also face some company-specific headwinds next year. First, our G&A will grow in 2019. More detail on that on our next call. Second, we will have some drag to FFO as we refinance our $275 million term loan, which had been locked at 2.62% since its 2011 origination. Lastly, the negative impact from the new lease accounting standard of $0.07-$0.10, which I mentioned on our last call, which is reflected in these preliminary 2019 numbers.
Despite these headwinds, we expect to have a solid base of growth of roughly $0.15 a share, which should get us into the mid-$6.30s at the lower end of the range. It is still too early in our forecast process to predict how much higher we can push the upper end of a guidance range, however. Given the diversity of our cash flow streams and the number of different avenues that we can grow through, I would expect that an appropriate target for 2019 is to achieve growth consistent with what we have realized in 2017 and 2018, which implies high-$6.40s as an upper end of the range. As I just mentioned, this takes into consideration the negative impact from the new lease accounting standard of $0.07-$0.10, drag of roughly 1%-1.5%, and that's an estimate that we continue to refine.
Note that on an apples-to-apples basis, where 2018 FFO is adjusted for the new lease accounting standard, this implies growth in excess of roughly 4%-6%. Again, this is preliminary, and as we did last year, we will be providing formal guidance on our fourth quarter call in February, where we will refine these targets and provide detailed assumptions behind them. Now on to the balance sheet, which continues to improve and is very well-positioned from a capital perspective as we head into the next phases of new development in the coming years. We continue to make progress on the condos. While already completed on the 107 market rate units at Assembly Row, at Pike & Rose we are roughly 70% complete on a closed and under contract basis on those 99 units, with only roughly $20 million left to go.
During the quarter, we closed on the sale of a small non-core asset and are under contract and close to closing on another before year-end. For a total of $42 million in gross proceeds, these two sales were executed at a blended mid-fives cap rate. We also closed on a 50% joint venture interest with our JV operating partner for the new Row Hotel at Assembly, generating $38 million of proceeds to us. As a result, our credit metrics continue to improve. Our net debt-to-EBITDA ratio moving lower to 5.4 times for the third quarter, down from 5.9 at the start of 2018. Our fixed charge coverage ratio edging higher to 4.3 times versus 3.9 at the start of the year.
Weighted average maturity of our debt remains above 10 years, and we are on pace to generate roughly $80 million of free cash flow after dividends and maintenance capital. We expect these credit metrics to continue to trend in a positive direction through the balance of 2018 and into 2019, as we raise additional capital cost-effectively through opportunistic asset sales. We currently have roughly another $125 million of non-core, tax-efficient sale prospects in the market, which we target to close over the coming quarters. With that, operator, you can open up the line for questions.
Thank you. Ladies and gentlemen, if you wish to ask a question at this time, please press star then the number one key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Again, to ask a question, that's star one. Our first question is from Nicholas Yulico with Scotiabank. Your line is open.
Thank you. Good morning. Dan, just going back to the goalpost for 2019. When you're talking about growth inline with the past several years, was that referring to FFO growth or is that also same-store comparable-
Yeah
NOI growth?
Generally, it's FFO, was what the reference was there. We're not providing any same-store guidance at this point, and probably won't until our February call, similar to what we did last year.
Okay. Second question is just on the re-leasing spreads. Don, you gave a lot of info there. I guess, question is whether you have more of those types of leases, which those escalations sound pretty attractive. That's sort of one part. Separately, maybe we can get a preview of how you expect the re-leasing spreads to look in the next year. I know they've been volatile. You highlighted that they could come down. Any numbers you could share there?
Let me frame it for you, Nick, this way. First of all, those 2 leases, normally I wouldn't break out a couple of leases and give you those kind of specifics on it. That is just so economically compelling that I felt the need to do that. Are there a lot of big anchor boxes that have those kind of bumps? I don't know of any other, to tell you the truth. That's really unusual. The only reason that happens is because of the productivity of the store and the strength of the market and the strength of the locations that they're in.
The reason I do stuff like that, or talk about stuff like that, is you probably get sick of me saying those contracts were business of contracts, and that those contracts are just critical in terms of what they say to determine the value of the real estate that's underlying it. When you have deals like that, I'm sure there are other people on this call saying, "Wow," because they don't have deals like that, of that kind of significance. Every quarter there is something that, as you know, I like to highlight or talk about that kind of builds the case for the value of the real estate. There's no doubt that overall, pushing rents is an issue industry-wide because supply exceeds demand in terms of retail rents.
It's a key reason that we look hard at office and at residential as a big part of our business plan. Once you create the overall environment on the ground floor, it's awfully nice to be able to capture real estate value by being able to do the right merchandising downstairs because you're going to get paid for it upstairs in the form of higher residential or higher office rents up there, and you know how much we believe in that. Alternatively, or in addition to that, it really does come down to the leverage at each of the individual shopping centers that we have, and we own good ones. Do I expect the next year or 2 to be years of 20% and 22% and 24% rent rollover bumps? No, I don't. Do I expect us still to be able to do double-digit rent bumps? Yeah.
I don't see why not. That doesn't mean any particular 90 days, but certainly when we look at our lost lease overall in this portfolio, and I love the slide that we do in our deck that shows what leases have been done at versus what the in place is. It sure shows you, compared to almost anybody else you look at, that there's a whole lot of upside left there. That doesn't mean across the board and everywhere. That gets tougher. I hope that helps.
All right. Got it. Yeah. Thank you, Don.
Thank you. Our next question is from Alexander Goldfarb with Sandler O'Neill. Your line is open.
Good morning. Two questions. First, Dan, you mentioned $125 million of dispositions that are in the pipeline. I'm not sure if that's sort of guidance for full year dispositions for 2019 or not, but can you just sort of give a breakout how much of that are sort of, I'll call free assets like condos, things like that have no NOI impact versus how much of that will there be an NOI impact from?
I think the 125 is just what we have and probably represents what we're targeting in the first half of the year for 2019. They are kind of income-producing assets. We view them as non-core that we don't have to own long term. We think we should be able to achieve pricing kind of in the mid fives on those as well. That's the color on those two.
Okay. The second question is, having toured Pike & Rose recently, one, the asset has definitely come down more, but two, just sort of curious, you announced a second office there. Don, how do you think about the mix of residential and office as far as driving like restaurants and the other elements of the projects in general? Do you view each item on its own merit, meaning which maximizes NOI for that particular land parcel? Is there a view of what's the right mix of office, residential, et cetera, that drives the overall NOI of the center? Just trying to figure that out.
Yeah, it's a combination of both. Look, at the end of the day, when you're doing these sets of projects, what the real trick is the path to maturation. All of these projects, mixed-use projects, take time, take years to mature. Now, do they mature in two or three, or do they mature in six or seven, or somewhere in between, or differently? One of the key ingredients to get that maturation is daytime traffic. What you're trying to get to is a busy place as often in seven days and 24 hours a day as possible. Office is a key user for there.
That daytime traffic, coupled with the incredible efficiency that comes from parking that you build for office, that's necessary for office, but is also used by the retail and other uses in the evenings, is a critical part of the efficiency of how a mixed-use project works. Every one of these, and you know Pike & Rose well because of the time that you've spent there, and when you look at Pike & Rose and you think of what's coming on from a retail perspective, and you see how it does on nights and weekends from the residential base that's there and the retail base that's there, you can see, well, yeah, there needs to be some daytime traffic, and that office is a critical component to that, and part of the reason that we continue to invest that way.
Okay. Thank you.
Thank you. Our next question is from Christy McElroy with Citi. Your line is open.
Hi, good morning. Dan, I just wanted to follow up on the $275 million term loan. You talked about refi-ing that next year. I think the two swaps on that expired today, and now that's floating. Do you plan to keep that floating through the maturity next November, and when do you plan to sort of refi that, or when can you, and what are your plans for that?
Yeah. It will float at LIBOR plus 90. I think we'll look to be opportunistic in terms of refinancing that term loan. I think by extending it into 2019, it avails us to get into a little bit of the sweet spot of the market, in the bank market, to potentially refinance it as another term loan. It gives us the optionality to look at it in the bond market. I think that we'll be opportunistic in terms of refinancing that. It'll be pretty open to repayment. There won't be any excess cost if we look to be opportunistic ahead of the November 2019 maturity.
likely 2019.
Okay
Christy, not 2018.
Right. Keep it floating for a year, and then refi it to something fixed next November.
Before that.
Got it.
All I'm saying is it won't be a refi in the fourth quarter of 2018.
Right
It'll be in 2019 opportunistically.
Got it. Okay. Then, just with regard to the term fees, recognizing that this is a recurring part of your business, but they did seem a little higher in Q3 than you had originally thought. What were those related to, and is this space that you were proactively trying to get back, or did this unexpectedly come back to you?
A little of both. This is a good conversation. Listen, I absolutely know how you feel about term fees, and I appreciate you starting out by saying that you do know it's a recurring part of our business because it's a business of contracts. We want to use those contracts to our best advantage as a tool in various numbers of ways, including the ability to proactively get tenants out. Also recognizing, and this is a big part, there is a changing consumer. We don't want the same retailers over and over again. As you look out over the next five, seven, nine years, we're probably less than others about simply trying to backfill an existing box with another tenant than we are about having an opportunity to redevelop a shopping center.
One of the tools that we use for this stuff is a strong lease. It's just so critical to what it is that we do. When you look at this quarter, they were higher, and it's a combination of everything that you said. We lost some tenants that didn't think we were when we gave a forecast for termination fees. We also went hard after a couple of them to be able to make sure that we were able to redevelop and keep that pipeline growing. You see it in both places. I don't expect term fees to be low over the next year or two. If you think about the business, there is a changing of the business and a changing of retailers.
I don't know if you've seen the list of retailers that we actively go after who are digitally based retailers, who have figured out, "You know what? We need bricks-and-mortar presence." That's a long list of other tenants. That's a list of tenancy that, particularly for street retail-oriented, mixed-use type of projects, that's a tenant base that we'd love to be able to access things like Parachute Home and others that you haven't heard necessarily a lot about, but are part of the future. Having a contract in place that's strong with an existing tenant gives us the opportunity to be able to have some leverage to be able to create places for the future. That, much more than any other comparison with any other company, that's what drives us in terms of what we report and what our business plan is.
I know it's long-winded, it really is important to us to talk like that.
Also, I'll just add that.
For the fairness stated. Go ahead.
Yeah, Christy, I just wanted to add that of the tenants that terminated in the third quarter, over two-thirds of that income has already been replaced with executed leases of tenants who are coming in. Not only did we get those term fees, those outsized term fees, we've already been nimble enough to actually backfill over two-thirds of that space before we're even reporting the quarter. I think that's a.
Okay, got it
testament to kind of how proactive we are in terms of managing the process and limiting kind of cash flow downside.
Great. Yeah, that was exactly what I was looking for. Thank you.
Thank you. Our next question is from Jeremy Metz with BMO Capital Markets. Your line is open.
Hey, good morning. Going back to the 2019 guidance or at least the rough goalposts you laid out there, can you walk through some of the bigger pieces that could really swing you from one end to the other? I know you mentioned the term loan and the G&A, but any of the bigger pieces there, and then maybe how you're thinking about bad debt and tenant fallout relative to this year. It sounds like from your comments to Christy's question that you're more or less expecting a similar level of headwind on that front.
I think it's a whole host of things. As I said, this is preliminary. I think how quickly the hotels continue to ramp up at Assembly and Pike & Rose can move things around a little bit. I think kind of where we see our watch list performing over the course of 2019 can swing things. Just going back to the two items, I think even now at LIBOR plus 90, we're going to have roughly 100 basis points of drag if we keep it floating. If based upon where kind of six and 12-month LIBOR is projected to be, there will be some drag over the course. That looks to be roughly $0.03-$0.04 in the ballpark. G&A will grow. I'm not going to get too far into the detail there, but G&A will be higher in 2019.
We'll provide more color on that in our February call.
Jeremy, let me just add two things to that. First of all, welcome to BMO, Matt, it's good to have you back. Secondly, it is the developments that are the single biggest mover. We're going to deliver to Splunk at some point around a year from now. A month one way or the other, or two months one way or the other is important to how that works through. Secondly, I do want to add one thing for you to the G&A piece. With Weilminster and Briggs leaving, it's an awesome opportunity for the next generation here. We're going to be doing a bunch of promotions. That's why G&A is going up. It's good stuff. It's a reason to be able to bet on that Federal Realty 2.0, if you will, with respect to the next level of management.
We will talk more about that in February, but it's a critical part to setting us up for the next 10 years.
Yeah. You talked about the ramping dispositions a bit as a source of capital. Dan, you mentioned the $125 million the first half of next year. Beyond that, will you look at dispositions as being more opportunistic? If markets accommodate and equity is attractive, you maybe pull back from selling. Following on that, are you baking some equity into the plan at this point?
As I said, it's preliminary. I think that we'll be opportunistic on the equity side as well. I think that it's a very limited small amount is kind of what's figured in to our 2019 kind of calculus for providing those goalposts. We'll have a greater refinement on kind of what that detailed assumption is in February.
Let me add one thing to that, if you don't mind. In my prepared comments, I think I led you to a discussion of the next phases of development at Assembly, the next phases of development at Santana. You saw what we're doing at Bala with respect to the residential project there. A very strong redevelopment pipeline in the core. As that stuff comes to fruition, this company looks at funding it, including potential dispositions. It's different than other companies in that we don't have a bunch of shopping centers that we don't want to own. It's a smaller pool, effectively, to look at. No, we don't have equity in the numbers in any significant way at this preliminary point. We might. Again, very modestly or modestly as a part of the balanced balance sheet program.
A lot of it is dependent upon whether we go forward, and I expect we will, on building out some of these big, de-risked development projects. De-risked because the places are already there and successful.
Yeah. From a capital perspective, we have multiple arrows in the quiver in terms of, I mentioned, $80 million of free cash flow in 2018. We should expect similar levels in 2019 from where we sit today. I think also, the balance sheet capacity, as we're down positively trending from a debt-to-EBITDA perspective. I think that as cash flow continues to grow, as we continue to ramp up at Assembly and Pike & Rose in 2019, and as they further stabilize, that will add greater debt capacity, just very naturally on a leverage-neutral basis. We've got a number of different ways that we can kind of fund the development pipeline and feel really, really good about how well-positioned we are heading into the final quarter of 2018.
Okay, thanks.
Thank you. Our next question is from Samir Khanal with Evercore. Your line is open.
Hey, guys. Good morning. Don, can I ask you to take a step back and maybe talk about sort of your watchlist today and compare that to last year? As I kind of go through your top 20, it certainly feels like there's less exposure to the tenants that'll go bankrupt or liquidate, which tells me kind of that 2%-3% of same-store probably still is applicable for next year. You look at Bed Bath or you look at Kroger, they continue to talk down rents. Is there a risk that your leasing spreads could kind of start to decelerate a little bit here going into maybe the next 12 to 24 months?
Yeah, Samir, it's a good question. Look, I love the way you started it because that's effectively how I look at it. I start out with that list, that watchlist, et cetera, and try to predict as best we can what would effectively happen. Do I worry about Bed Bath & Beyond long term? Sure. I absolutely do. Do I worry about Bed Bath & Beyond not honoring their commitments and paying rent? No. Not at all. That's a great example of an operation where I don't know how they will change their business plan. I don't think anybody does at this point, how successful they'll be, what that new prototype will be as they move forward in the coming years.
Certainly, I want to make sure we have tenants that are tenants of the future that we believe in, that are there to the extent we're not part of their plans going forward. Certainly with any tenant that's not performing as well as they were, the rent pressure ramps up. It's an obvious statement, but it's certainly the case throughout a lot of these box tenants. The key with us is the balance. We're going to start to show you a little bit more of how our residential performs. We're going to show you how our office performs. We're going to try to get this community to understand our company from a broad real estate perspective, because there are pressures coming in terms of retail lease rollovers. Certainly, there are pressures. Do I see them as, oh my god, all single-digit lease rollovers or rollbacks?
No, I don't. Consider this within the context of the whole company in terms of how we're moving. I think you ought to feel really good about an investment that is very likely to continue to grow for years simply based on what we have in pipeline today. I don't know if there's anybody else that can say that, or very many else that can say that.
Okay, thanks. As we think about next year, what are sort of the drags we need to think about, especially from a same-store perspective? One is certainly Toys, right? I don't think you had a lot of exposure to those. Are there any other tenants? Will the company be kind of moving on to a level where you'll be proactively maybe taking back space like you did a couple of years ago? Is that something to think about for 2019?
Very much so. When you go down the list and you look at what we've got, you've got to feel really good about this income stream. Toys might be the best example at all. One that was completely re-leased at significant bumps to where Toys was in Escondido within an incredibly short period of time. That's done. What happens with respect to Mattress Firm, we've got 14 of them. When I look at the 14 of them, you know where most of them are? They're on outparcels or end caps in great locations. That's not something I particularly worry about. Doesn't mean there's not going to be some dislocation, depending on what happens with the resolution of the company. We deal with that all the time, always have been.
Don't see any amount of those type of income stoppages, if you will, in a significant way, any different than we've managed through in years past, certainly. Certainly better than 2016. Yeah, you ought to think about proactively leasing too. We do constantly. It's not a switch that we turn on and off. It is a dial that we turn up when we see opportunities and turn down when we don't. You could see that turned up a little bit again.
Okay. Thanks so much.
You bet.
Thank you. Our next question is from Craig Schmidt with Bank of America. Your line is open.
Thank you. Don, I was wondering if you could give us some description or background on RevUp, the third-party platform that Mike Kelleher is setting up.
Very good. Very good for picking that up, Craig. That's cool. Not a big deal at this point at all. What that's about is, when you look at this industry and you think about temporary tenant income, ancillary income, sponsorships, all of the kind of non-traditional leasing revenue generation. I'm really proud of what we've built as a company over the last decade or decade and a half. Yeah, Mike Kelleher has been a big part of that to be able to grow it. We think we have capacity there, and we think we've figured out how to do that, maybe better than some other folks have. We'd like to, in the markets where we do significant business already, we'd like to pick up some third-party work, and spread that platform across a bigger base. It's just something that we're rolling out.
We probably won't do that service for some of our direct public competitors. There's an awful lot of regional real estate companies that really could benefit, and we could share the income with them. That's what we're messing with. I think it's cool. I don't know if it turns into anything or not. If Kelleher were on the phone right now, he'd be telling you it's the greatest thing you've ever heard of, and we're going to do really well with it. We'll see. I think more importantly, Craig, it's indicative of the creativity and the way we look at trying to add value in various different ways, big and small, throughout the company.
Great. The lower G&A, I'm sure was helped in some part by Dan and Chris's exit, but it looks to be more significant than that. Can you tell me what you're doing there in terms of maybe getting some more cost savings?
Yeah. Look, it's a big part. One of the things that I always wonder about, and I think you can appreciate this, is as a company with our longevity, right? We've been around a long time, and we're relatively powerful in the few markets that we're in. I think vendors and others get comfortable with that in terms of dealing with Federal, and I don't think we used our leverage as much as potentially we could have to be able to renegotiate some of those deals and effectively reexamine scopes, reexamine financial terms with some of our partners. When I say partner, I mean vendor. I mean people necessary to create great shopping centers. We pushed hard on that in 2018, and we pushed hard on that with some very favorable results. That's what you're seeing coming through. I don't think those are one-time favorable results.
I think those are benefits that are all about relooking and leveraging the power of Federal Realty, and again, the five or six critical markets that we do business.
Part of it is on a year-over-year basis. We did the Primestor acquisition in the third quarter last year, there were transactional costs that added to G&A, which we just didn't have in 2017, that we just didn't have in the third quarter of this year. That's another kind of a driver.
Okay, thanks. Thanks a lot.
You bet.
Thank you. Our next question is from Jeffrey Donnelly with Wells Fargo. Your line is open.
Good morning, guys. Don, I think you might have touched on this in the call, but I had heard that concerning Santana West, that was a site that even Apple might have been looking at perhaps for one of their projects. That may be market chatter, but I guess my question is, do you think that's an office opportunity that needs to be a single-tenant development opportunity like you had with Splunk, or is it possible that could have something that's a little more ground floor retail or residential or office on it?
Yeah. Jeff will add to this after I just make a comment or two on it. No, this is an office project. It's an office site. It's entitled for office. Any retail that we do would be relatively insignificant. This is real simple, man. This is a 12-acre piece of land directly across from one of the most iconic, if you will, at this point, mixed-use destinations in the country. It happens to be in the middle of Silicon Valley. It's really valuable. Whoever the tenant or tenants are, it doesn't have to be one tenant. It could certainly be several. What we know is we've got a piece of real estate there that is getting an awful lot of interest from some, I will say, typical, or users that you would think of, and some that you certainly wouldn't.
It just shows the broad value of the real estate because of what was created across the street. All this has to be teased out a little bit more, but there's no denying the value of the real estate that's there.
Yeah. Hey, Don. Thanks for that. Jeff, I don't really have anything to add other than if you look at all of Silicon Valley right now, there is precious little available office space or office space coming anytime soon that's amenitized. We've got at Santana West, probably one of only a handful or less than a handful of opportunities for that over the next two or three years, just given the entitlement cycle and what's going on in some of the other sub-markets around here. We're, like Don said, super bullish on it, and there's a lot of interest in the site right now.
Jeff, just, I guess, sticking with that. Are you seeing some of the bigger employers in that market effectively trying to tie up office space even though they might not have an immediate need for the space today just because of that dearth of space they're sort of tying it up in anticipation of future growth?
Yes and no. Remember, growth is occurring very quickly out here, and the lead time on a development, even something that's entitled and ready to go, is still a couple of years to build a building. A lot of firms are growing into the requirements by the time the space actually delivers. That is clearly the case with Apple at their new headquarters building. From what we understand, that's full. When we look at market activity, we don't see them giving back any of their other space. If you look at the big users out here, I think that's true. They have to look out a couple of years and, by the time the space is ready, they've filled it.
Maybe, Don, just stepping back more broadly on external growth. Your perspective on retail seems to have shifted somewhat sharply over the last few years and what the prospects of it hold. Do you think, as a company, you're more open to mixed use or a mix of uses than you've ever been before? Do you think the market focus or just the geographic focus of the company maybe has changed with that? Are there some markets that you're more open to going into? Maybe one last aspect of it is, would you ever do standalone office or residential development away from retail?
No to the last question. All right. I'm going to bookend you here for a minute now because that was a lot. No, we won't do standalone or non-retail oriented residential office as part of our business plan. I'm going to go back to your last thing. I'm going to say one quick thing about your last question, and that is, please don't speculate about Apple. Don't speculate that. Don't write that down because that's probably not the case, okay? Let me be clear. Let's get to what you just asked. Here's the way I look at it. The more predictable the future is, the more narrow you can target your business plan. The less predictable the future is, the more you want to be able to have to be as flexible, and it's the most important word in our business plan, as flexible as you possibly can.
Flexibility with respect to what the future holds simply means to me, I'd like to be able to not rely on any one income stream. If that's the rolling forward of rents in a basic shopping center, that's one thing. If it is, do I want to have the ability to create value upstairs on land in the markets that we're in that are densifying anyway? Of course, I do. It really isn't about liking mixed use or not liking mixed use, or liking a shopping center or not liking a shopping center. The reality is what our core competency is first-ring suburbs creating great places for people to go to. That can be a grocery anchored shopping center, it can be a mixed-use project, it can be whatever else it is.
Once you have them there, that's not necessary in Manhattan at the corner of 57th and Fifth. That environment already exists. You can do an independent any kind of building. The people are already there. That's not the case in the first-ring suburbs where we are doing most of our business. We know how to bring people there. Now, once you have them, how do you make more money? That's where you have to say whether it's buying adjacent parcels and growing on them, whether it's going up in office or retail. If I look out at an unpredictable future, I want as many arrows in the quiver as I possibly can have. That's what I think we've done. I don't see it as a sharp change in believing in retail or not believing in retail.
I think it's an evolutionary change in the unpredictability of technology's impact on the consumer. When you sit and you think about it that way, what do you best do about that if you're a real estate company, not a retailer, but a real estate company? You make sure your real estate is valuable in any one of a number of different ways. I think we've proven pretty well a core competency in the ability to look more broadly as real estate people rather than simply shopping center people.
Yeah. Thanks, guys.
Thank you. Our next question is from the line of Mike Mueller with JPMorgan. Your line is open.
Yeah, hi. A couple of questions. First, Dan, when you were talking about 2019, you flagged G&A and then lease accounting separately. Is your lease accounting expense, is that going to be in operating expenses?
No. There'll be a component of increase in our G&A in 2019. Part of it will be lease accounting related. The lease accounting change geographically will sit at the G&A item, but we will also have in our current level of G&A, there will also be an increase. There's two pieces to that.
Got it. Okay. I guess just thinking about tenant demand and everything. On the mall calls, you constantly hear about e-tailers and demand and moving into the malls. I'm just curious, in terms of your portfolio, are you seeing that sort of interest as well from those types of tenants?
Yeah, Mike. I talked about it earlier in one of the questions. Think about this for a minute. Of all of these e-tailers, basically, or let's start and say, online retailers who have started online, these guys, all of them, I didn't say all, most are struggling and have always struggled with the typical things you struggle in a business with. Number one being customer acquisition costs. How do I get that customer, and what's it cost me to get to them? Of course then, the delivery system. Those two things have led many of them to the conclusion that, you know what? We need a physical presence. I've got some interesting stuff I'll share outside of this, maybe at NAREIT next week, of some of the quotes and some of the plans that these guys have.
When you say, "Okay, where are they going to go?" The chances to me look awfully good for the type of properties that we own. We're close to a lease for one of those tenants that we're talking about in Bethesda Row right now. We're close on two at Santana Row right now. The streets that we have presence on, like Third Street Promenade, I don't know how important a component of the future it is, but it's certainly a component of the future. Going back to where I was before, we want to cast the broadest, widest funnel to be able to be attractive to the largest possible number of retailers. Where we are suggests to me that we'll have more than our fair share of those tenants who are finding the need for bricks and mortar stores.
Got it. Okay. That was it. Thank you.
Thank you. Our next question is from Haendel St. Juste with Mizuho. Your line is open.
Hey, good morning. Lots of call, lots of detail, much appreciated. Question for you, Don. I guess, more big picture, we've seen a lot of M&A this year in the REITs, but nothing in the shopping centers. Curious why you think that is, and then is there anything you expect over the next year that Federal could participate in?
Oh, Haendel. We've been talking about this question for 20-plus years, and that's just what I remember, so I'm sure it goes back before that. Look, the idea of combining platforms has to have a business sense to it that makes all the sense in the world. Obviously, what you saw with Equity One and Regency Centers was indicative of that. I think you can look at that and say, "Yeah, that company is better off than the two companies separately would've been." Those things are few and far between. They're hard to do. I love to tell the story of, I don't know if Ernest Rady would be mad at me for saying it or not, but we have a very good relationship. Back before they were public, we were trying very hard to put those companies together. Didn't work out. They went public, are doing great.
It comes down to the individual business plans. It comes down to the social issues that are part and parcel to it. When you think about betting on the future, there's almost always just a dilution from the buyer's side initially for a period of time. You have to be comfortable with where that future is going and what it's going to provide. That's harder to do today than that's been at other periods. It's a combination of other things. Is Federal involved in anything that's possible for us? You bet. We talk a lot. We talk to a lot of people a lot of the time. We're not going to do something that doesn't improve the prospects versus our existing plan. Our existing plan is really good in terms of this real estate.
Our real estate clearly will be worth more in the future than it is today. When I sit and I look at the prospects for growth, for domination at certain properties, the whole consolidation of properties, et cetera. Any kind of deals, from a merger perspective or anything else, have to be incrementally, significantly better than that, and I haven't found that.
Helpful, Don. Thank you. Just to follow up on the mid-five cap rate expectations for the assets under discussion for disposition here. Curious where you think those assets might have traded 12, 18 months ago. How large would you say your bucket of non-core but tax-efficient potential asset sales bucket is?
I'm going to jump in before Dan here on a minute, because I cringed when he said that. When he said mid-fives. Listen, we'll see based on the marketplace, what those assets will trade at and what they won't trade at. The answer to your question, how does that compare? I don't know. That's what I'd love to see as part of this. It is a small bucket. I kind of went into that before a little bit. It's a small bucket because we sit and we look at the future earnings prospects of the assets. By far and away, most of the assets at this company, and again, there's only 104 of them. Most of those assets have really bright futures. To the extent they don't, we'll find a way to effectively recycle out of them.
We're talking six, seven, eight assets based on information that we have today in terms of looking at the future, that would fall into that bucket.
Thank you.
Thank you. Our next question is from Derek Johnston with Deutsche Bank. Your line is open.
Hi, this is Shivani Sood on for Derek Johnston. Would you mind just speaking to the leasing front there, how the process and potential CapEx involved might differ from the retail aspect of the portfolio, and also kind of how you view it from an operating metric perspective?
Yeah, sure. It's a good question. I'm not sure that Well, I am sure that we don't have a view on office product in a national way or in standalone office product. What we do know is places where we have created an environment with retail on that ground floor that is amenity-rich is more and more attractive to office users. As a result, in places where we have the land, and again, our average shopping center is 20 acres large, which is big compared to most shopping centers. We have the opportunity at various places to be able to exploit that retail environment that we've created. In some cases, we've seen it at Pike & Rose with the first phase. We've certainly seen it at Santana Row, even though there are other opportunities in the marketplace for office.
The office user sees those other opportunities as irrelevant and obsolete. We think we have something that's particularly special that can drive a premium rent, that can drive premium bumps in those rental deals. Most importantly, it's so integral to the overall property that we're developing or building or community that we're building, that it's really part and parcel of how the retail works, how the resi works. It provides the daytime traffic. As I said before, that's critical. It is immensely efficient in terms of the parking. Office brokers bring the product to us. These are negotiated similar to any other office deal, with the same criteria for capital, the same criteria for rent, et cetera.
We just feel like we're in a stronger position to be able to be at the top of the range of those market conditions on all the economic aspects because of what we've invested down on the ground floor. You won't see us doing separate office buildings across the country to broaden what our basic core competency is. We certainly will, at the properties that we've created great places, exploit that. To me, that office product where we're building, whether it's Santana or Assembly or Pike & Rose, that office product is de-risked to a huge degree because of the significant investment that has been made in the place previous to that.
Great. Thanks so much for that color. Just given the more diverse pool of assets that FRT owns and peers, for example, power centers, grocery-anchored, mixed use, can you give us an update in terms of retailer demand for the different property types and if that's shifted at all over the past year or so?
Nope. I'll tell you why. I know it's simpler to say power centers perform like this, and grocery anchors perform like this, and mixed use perform like that, et cetera. It's just not true. It totally depends on physically where that property is and the supply and demand characteristics at that particular piece of real estate. I spent a bunch of time on that call talking about leases at a power center called East Bay Bridge in Emeryville, California. It's an incredibly powerful supply-demand environment for us because there's no other supply of that. No. I could make those same kind of comments for each one. You really got to get into the individual real estate. It's not a cop-out. I know it sounds like one.
I really fight hard about the characterization of any particular type, even though I understand it's easier for you to categorize. Sorry.
It's good. Thanks. That's it for us.
Good.
Thank you. Our next question is from Ki Bin Kim with SunTrust. Your line is open.
Thanks. Already a lot of good questions have been asked by my peers. Just one last one for me. If you could wave a magic wand and get any piece of technology to help your business, what would that be?
Oh, Ki Bin, the last question, it's the most cerebral here, for crying out loud. Good for you. There's an interesting thing going on right now, it's obviously all about data and how much data is available, every two-person consulting firm who's selling their idea of what data you need and what would really matter. The answer to that question in my mind, I don't think my peers agree with me necessarily on this, the answer to that question is not clear. There is so much information out there. The one thing that I think we all have to be careful about is running out and investing and pulling in a whole bunch of data that it turns out really isn't impactful to the lease negotiation or to the deal negotiation in the form of an acquisition, etc.
The obvious pieces of data and information are clear. It's certainly sales per sq ft. It's certainly profitability. It's certainly the supply effectively. It's certainly understanding where your customers are coming from. When you say what one piece is there, it gets too myopic in my view. I don't think there is one piece. We're dealing with all that now. We're talking with a lot of vendors. We're talking with potential partners. We're talking with companies that are trying to marry retailers with landlords, doing all the right things, but really trying to figure out where to invest in information that will make a difference. That's still gray.
Yeah, I get what you're saying. I've seen a few pitches, I know what my problem is. My problem is that everything sounds great. I get you. All right, thank you.
Absolutely. You bet.
Thank you. That does conclude our Q&A session for today. I'd like to turn the call back over to Leah Brady for any further remarks.
Thanks for joining us today. We do have a couple meeting slots left at NAREIT, please reach out if you're interested in meeting with us, we look forward to seeing you, many of you there. Have a good day.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program, and you may all disconnect. Everyone, have a great day.