Greetings, and welcome to the NETSTREIT Corp. third quarter 2022 earnings call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Amy An, Investor Relations Manager. Ma'am, you may begin your presentation.
We thank you for joining us for NETSTREIT's third quarter 2022 earnings conference call. In addition to the press release distributed yesterday after market close, we posted a supplemental package and an updated investor presentation. Both can be found in the investor relations section of the company's website at www.netstreit.com. On today's call, management's remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements address matters that are subject to risk and uncertainties that may cause actual results to differ from those discussed today. For more information about these risk factors, we encourage you to review our Form 10-K for the year ended December 31, 2021, and our other SEC filings.
All forward-looking statements are made as of the date hereof, and NETSTREIT assumes no obligation to update any forward-looking statements in the future. In addition, certain financial information presented on this call includes non-GAAP financial measures. Please refer to our earnings release and supplemental package for definitions, GAAP reconciliations, and an explanation of why we believe such non-GAAP financial measures are useful to investors. Today's conference call is hosted by NETSTREIT's Chief Executive Officer, Mark Manheimer, and Chief Financial Officer, Andy Blocher. They will make some prepared remarks, and then we will open the call for your questions. Now I'll turn the call over to Mark. Mark?
Good morning, everyone, and welcome to our third quarter 2022 earnings conference call. We are pleased to share that NETSTREIT continued to perform very well in the third quarter despite high inflation, rising interest rates, and macroeconomic uncertainty. With diligent planning and strong execution, we believe we can continue to create value throughout all stages of this economic cycle. During the quarter, we completed $130 million of net investment activity, closed on both our second forward equity offering of 10.35 million shares and our $600 million sustainability-linked credit facility, locking in attractively priced capital before the latest interest rate hike and heightened market volatility.
As stated in last night's earnings release, given the nature of today's environment and anticipated pricing adjustments in net lease assets, reflecting the disconnect between the current capital markets and property markets, we believe it is prudent to take a more opportunistic approach to capital deployment. While we are pleased with our investment activity to date and are seeing no shortage of opportunities, rising marginal borrowing costs and increased equity costs across the sector make it prudent for us to eliminate our quantitative investment targets.
At the same time, the positive investment decisions we have made, the limited operating risk associated with our current tenant lineup, and our ability to lock in significant portions of our capital structure in the third quarter, allow us to narrow our AFFO per share guidance range to $1.15-$1.17 per share, resulting in a small increase in our midpoint of expectations. Given the current economic uncertainty, our portfolio of high-quality assets is best positioned to weather the road ahead. With over 88% of our portfolio in defensive industries and partnering with retailers that have strong access to capital and experienced management teams, we believe our portfolio will continue to perform well during a potential downturn in the retail environment.
Due to our diligent underwriting process and continued credit monitoring, we are confident in our tenants' ability to meet their rental obligations. As a reminder, we have collected 100% of our rent since our IPO in 2020 and believe we have put the proper risk management guardrails in place to see this trend continue. Now moving on to our third quarter investment activity. We acquired 26 properties for $131.3 million at a weighted average initial cash capitalization rate of 6.6% and a weighted average lease term of 11.8 years. As part of an acquisition of a Winn-Dixie property, we assumed our first mortgage loan payable of $8.6 million with a fixed rate of 4.5% that matures in November 2027.
This acquisition provides strong store sales and profitability, dense infill real estate, and attractive pricing. Also in the quarter, we disposed of a bank property for $1.7 million at a 5.5% cap rate, further reducing our banking exposure. Finally, we provided $4.7 million of funding to support six ongoing development projects. At quarter end, we have invested $17.5 million to date in these projects. As with the previous quarter, we remain comfortable with the performance of our existing development projects, but remain cautious in committing to new developments during a time of increased costs for construction and labor and heightened economic uncertainty. At quarter end, our portfolio was comprised of 406 properties with 77 tenants, contributing approximately $92.7 million of annualized base rent.
The portfolio has a weighted average lease term remaining of 9.6 years, with approximately 79% of ABR represented by tenants with an investment-grade rating or investment-grade profile. The portfolio remains 100% occupied. We added two new high-quality grocer tenants, Festival Foods and Dollar Fresh, and a discount retailer, TJ Maxx, in the quarter. During the quarter, Big Lots credit changed due to their second quarter results, with reported margin pressures therefore no longer meeting our investment-grade profile definition. That being said, we believe the company has a strong balance sheet, and we remain confident in their performance. To conclude, despite the uncertain macro backdrop, we remain confident that our cycle-tested portfolio and experienced team will continue to maximize shareholder value. With that, I'll turn the call over to Andy to go over our third quarter financial results and 2022 guidance.
Thank you, Mark. Once again, thank you all for joining us on today's call. In our earnings release published yesterday after market close, we reported net income of $0.03, core FFO of $0.28, and AFFO of $0.30 per diluted share for the third quarter. The portfolio's annualized base rent grew to over $92 million in the third quarter, up 55% from September 30, 2021. Interest expense increased to $3 million from $895,000 in third quarter 2021 due to higher borrowing costs and increased debt balances. G&A increased to $4.6 million in the third quarter compared to $3.8 million from third quarter 2021, primarily due to building out our team to 32 employees.
As Mark stated in his opening comments, we had an active third quarter with regards to our financing activities, opportunistically completing over $800 million of capital raising and refinancing. We completed a forward equity offering for 10.35 million shares in August. Similar to our last two offerings, the deal was upsized and underwriters exercised the shoe, demonstrating the continued support from investors on our strategy and execution. Following our equity deal, we completed a new $600 million sustainability-linked credit facility. The new credit facility includes a $400 million revolver that matures in August 2026, subject to an extension option, and replaces our previous $250 million revolver.
The credit facility also features a new $200 million 5.5-year term loan set to mature in February 2028, which is fully hedged at 3.88%. If we were to hedge the term loan today, the all-in rate would be above 5%. As part of the recast, we made some notable enhancements to our credit facility. Our cap rate utilized for valuing our asset base decreased from 7.25%- 6.5%. Covenants have been adjusted to offer greater flexibility for our various approaches to acquisitions, and we added an investment-grade pricing grid to reflect continued progress to becoming an investment-grade unsecured borrower.
In addition, we would like to highlight that in a lending environment where banks are being significantly more selective, NETSTREIT was able to secure three new banking relationships, giving further credence to our strategy and growth initiatives. Finally, we included an innovative sustainability feature as part of our credit facility, which allows us to benefit if certain key performance indicators are met. If year-over-year improvements are made to the percentage of our annualized base rent from tenants with Science Based Targets initiative commitments, as determined by our sustainability agent, we can see up to a 2.5 basis point reduction in pricing. The structure of this KPI is an innovative approach for a retail net lease landlord to participate in the reduction of greenhouse gas emissions as determined by Science Based Targets initiatives, and hopefully empowers more of our tenants to make reduction commitments as well.
On September 29th, we settled all 4.5 million remaining shares from the January forward equity offering, receiving net proceeds of $93.5 million. We did not settle any of the 10.35 million shares from our August forward equity offering and did not make any sales under our ATM program during the quarter. As a result of our latest financing activities, we've raised over $1 billion of capital this year and increased our liquidity position, allowing us to remain opportunistic in the current environment.
At quarter end, we had total debt of $413.5 million outstanding, of which $375 million is from our fully hedged term loans, with an additional $30 million on our revolving line of credit and $8.5 million from the fixed rate secured mortgage we assumed as part of the Winn-Dixie acquisition. At September 30, 2022, our net debt to annualized adjusted EBITDA ratio was 2.5x after giving consideration to the remaining shares outstanding under the forward sales agreement, well below our target range of 4.5x-5.5x , and 93% of our debt is fixed.
With regard to our dividend, earlier this week, the board declared a $0.20 regular quarterly cash dividend to be payable on December fifteenth to shareholders of record as of December first. Our AFFO payout ratio for the quarter was 67%. As stated in our earnings release, we're narrowing our AFFO per share guidance range to $1.15-$1.17 per share. The new guidance range includes the following assumptions. Cash G&A is expected to remain in the range of $14.5 Million-$15 million, which is inclusive of transaction costs. Non-cash compensation expense is expected to remain in the range of $5 million-$5.5 Million. Our cash interest expense expectation has been narrowed from our previously stated $7 million-$9 million to $8 million-$9 million.
Non-cash deferred financing fee amortization, which is not included in our cash interest expense, remains unchanged at $800,000-$900,000. Lastly, full year 2022 diluted weighted average shares outstanding, which includes the impact of OP units, is updated from our previously stated 50-52 million shares to now be in the range of 50-51 million shares. As we finish the last half of 2022 and enter into 2023, we believe we are in an extremely enviable position. Our capital structure has significant undrawn liquidity, especially considering our size, and 93% of our debt is fixed through maturity. In addition, on an apples to apples basis, our acquisition team has consistently proven their ability to source and close high quality assets through a variety of sources at yields demonstrably better than our competition.
With all the right pieces in place, we believe we are well-positioned to continue our track record of success and remain excellent stewards of shareholder capital. With that, we will now open the line for questions. Operator?
Thank you. We will now be conducting a question-and-answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Please hold while we assemble our roster. Our first question comes from RJ Milligan with Raymond James.
Hey, good morning, guys.
Morning.
Morning, RJ.
I'm curious, obviously you highlighted the disconnect between the capital markets and private markets. I'm just curious how you view your current cost of capital, what is it today, and how do you calculate it?
Sure, RJ, welcome aboard to the NETSTREIT team. You know, I think the question that you're asking really is and should be the question of the day, you know, based on the changes that we're seeing in the capital markets. The way that we think about it is, you know, we start by assuming our target capital structure, which, you know, since the beginning of our existence, we said is a third debt and two-thirds equity. You know, our current capital structure is somewhat more conservative than that and under 30% on a market cap basis. You know, on the debt side, we think about our marginal cost of borrowing, you know, which is somewhere between 4.1% and 4.2% on an all-in spot basis.
The forward curve, you know, is really indicating an increase in the interest rate to about 5.6% year out, maybe 5.42% years out. You know, we need to take that into consideration. If we're gonna, you know, access the private placement market with term, that fixed rate's likely north of 6%. You know, from our perspective, we really think utilizing a spot marginal borrowing rate or even our weighted average cost of debt actually underestimates the true borrowing costs in the current market. The risk there is it potentially produces false positive investment decisions for assets we intend to hold for the long term. That's the debt side. On the equity side, you know, we've historically utilized implied cap rate as a proxy for our marginal cost of equity.
You know, just, you know, I was looking this morning at, you know, at the current trading levels, and our implied cap rate is, you know, somewhere in the 6.5%-6.75% range. Even if you use an AFFO yield, probably produces a result that's very similar to that range. You know, the marginal cost of the undrawn $200 million forward is probably about 50 basis points inside of that. You know, similar to the way that we were thinking about the spot rate on the debt side, you know, the benefit of the undrawn forward could produce positive investment decision for assets that our spot equity costs wouldn't, right? Really our preference with respect to that is to utilize the benefit to provide additional accretion to our shareholders for less marginal investment decisions.
You know, those are kind of the components. If you're asking me to peg a specific range, I'd probably put our WACC for investment decision-making purposes in the low- to mid-6%. You know, if you wanted me to pinpoint something, probably the best number that we have in a forward market is about 6.25%.
That's helpful, Andy. You know, what is the spread, assuming that you maintain the sort of credit quality that you guys have been buying, what is the spread that you need to achieve to go out there and become more aggressive on the acquisition side?
Yeah, sure, RJ. There's a couple pieces to that. One, you know, we do feel like the fundamentals in the market should indicate that cap rates should be a little bit higher than they are, and we are starting to see some cracks there. While we've been buying at a blended 6.6% cap rate over the past couple of quarters, and like you said, you know, we're not interested in dropping our investment criteria in any way, you know, we really feel like we're not really getting paid enough, you know, currently, but where there is a light at the end of the tunnel.
You know, it's a little bit of a tough question as it will depend on credit quality, real estate quality, lease term, rental increases, and then, you know, the capital markets are gonna be fluid. You know, like, if there's a good asset with AAA-rated tenant and a 25-year lease and good rental increases, you know, would we, you know, move forward at Andy's number at a 6.25% to improve the portfolio? Potentially. But then on the flip side of that, you know, if there's a weaker asset with some issues that's really on the edge of our investment criteria at a 7.5%, we probably would not move forward with that. You know, certainly a lot of variables, you know, there.
The fact that we really do see that, you know, there's a number of opportunities that are really coming back to us on pricing, and seeing the signs of our you know, the early signs are that our patience is paying off. Feel like we're you know, everything's accretive right now. It just it you know when you kind of run the sensitivity you know on our model you know volume usually really dictates how much more you're gonna make in the next year. It really just doesn't have as much of an impact right now. We feel like it's prudent to be very cautious and really try to make sure that we're maximizing the capital that we've raised.
Thanks, Mark. Just a follow-up to that is, you know, you said that you're starting to see signs that the market's cracking, and I'm curious, what do you think the catalyst is, for, you know, the market to really open up and cap rates to move higher?
Yeah, I think that's a great question. I think that's been what every net lease company is really trying to figure out over the past six months and probably for the next couple of quarters. You know, like we said, I mean, the fundamentals clearly show that cap rates should be moving up as we've seen everyone's cost of equity and cost of debt increase. Really what we're seeing, you know, sellers really got used to very aggressive cap rates that we were seeing, you know, in 2021 and before that. You know, if sellers can hold off on selling, they're gonna hold off.
Those that have pressures to sell, you know, they're gonna be very patient and try to find a, you know, 1031 buyer who, you know, who's willing to pay, you know, 2021 prices. That does exist. It's just getting much harder to find those types of buyers. Then those that can't be patient have to sell. You know, they've got to sell at prices that make more sense for us. You know, we've been able to pick off a few, you know, so far this quarter. We just don't know, you know, how many we're gonna be able to pick off. You know, the market's not completely there yet, but we feel like it's certainly going there.
Appreciate the comments. Thank you.
Thank you. Our next question is with Nick Joseph with Citi.
Thank you. Completely understand being opportunistic and disciplined. I was hoping you can kind of quantify where the current pipeline is today, and then just compare that to where it normally looks, you know, on a forward, I don't know, either kind of three months, or whatever kind of metric you focus on.
Yeah. Yeah, sure. I think the opportunity set that we have is drastically larger. Just as you know, you've got the leverage buyers, you know, largely out of the market. I think a less competitive or less deep, you know, 1031 market. It's really just coming down to pricing and, you know, what we you know where we see potential cracks. You know, I think that you know when we, you know, basically took away the quantitative, you know, piece of the of the fourth quarter acquisitions guidance, we could still hit it. It's just debatable, you know, how many of the sellers are gonna come to our pricing. Starting to see a little bit more of that really in the last week or so.
difficult to say how much of that's gonna come our way. In terms of the opportunity set, that we could, you know, move forward with right now, it's larger than it's ever been.
That's helpful. Just on that movement of cap rates, are there different categories or retailers or tenants adjusting more versus others thus far?
You know, it's funny. We get asked that question a lot, you know, over the last couple of quarters. You know, is it investment-grade? Is it this tenant? Is it that tenant? It really comes down to the situation that the seller is in and how much pressure they have on them to sell and whether they can be patient or not. It really has had very little to do with, you know, what type of asset. I'm sure if you're down in, you know, the 4 cap rate range, like some of the industrial was, you're gonna get to negative leverage a lot more quickly on the lower cap rate deals.
It's really come down to, you know, what type of seller are we working with.
Thank you very much.
Thank you. Our next question comes from Ki Bin Kim with Truist.
Thanks, man. Good morning.
Morning.
I was wondering if you can help paint the landscape as we look into next year. Obviously the acquisition part of that is a little bit more ambiguous, which makes sense. How about things like G&A, interest expense? I remember a while back, there was a topic about the insurance costs as well for the company. I just wanna make sure that we don't get surprised in any, you know, one way or another.
Yeah. Ki Bin Kim. Yeah, you know, interest expense, you know, with, you know, 93% of the debt costs, you know, locked, right? You know, we've only got $30 million of floating rate balances except for what we would use to fund incremental acquisitions. You know, I think that, you know, we're able to provide some. You can just, you know, get from our disclosure some certainty around that. You know, with respect to G&A, you know, over the course of 2022, we've been building out our team. You know, we are currently 32 boxes on our org chart. A couple of them had people in them are empty currently that we're gonna be looking to replace, but I don't see the staff really going beyond that.
I think that you're gonna start seeing some stabilization of, you know, G&A, on the, you know, on the income statement. Just be aware there is some seasonality with respect to it, whether it's tax work, auditor fees that are a little bit more heavier weighted to the first and second quarter. Outside of that, I think that we're getting to, you know, stabilization with respect to things like salary and benefits. As it related to the D&O, you know, we've been performing well there. We didn't get the D&O increase that we thought that we were gonna get. Some of that is some of the pickup that you're seeing, you know, in G&A. You know, it's not a lot.
You know, it's $100,000, $200,000 bucks, you know, on an annual basis. Yeah, we're getting to the point where, you know, we're just over 2 years into the public company journey, and we're, you know, really doing a good job of stabilizing, you know, that part of the income statement.
I can't remember if I missed this, but do you guys give an update on the assets you closed in the fourth quarter to date?
We have not.
Are you able to provide just some color around that?
Yeah. I mean, it's pretty similar to the types of assets that we've acquired, but we, you know, we're not providing a dollar figure on that.
Okay. Thank you, guys.
Thanks.
Thank you. Our next question comes from Wes Golladay with Baird.
Hey, yeah. Good morning, everyone. Just to dive in a little bit more on the developer side of the business. If they're not hitting the bid right now, what are they doing? I'm sure they have to somehow clean their inventory or are they holding off on new developments? You know, from this side, it would be the higher yield.
I really could not understand. Maybe if you get a little closer to the mic or pick up the handset. I couldn't hear you, Wes.
Oh, sorry. I accidentally. My phone got unplugged. For the developers that are not. I guess. What I'm looking for is the developers. Like, you mentioned the 1031 market was not that robust right now. I'm kind of curious, what are the developers doing if they're not hitting the bid right now? Are they holding off on new developments? And is this a segment you typically get a higher yield from?
Yeah, it's a great question. Especially the larger developers that are going out and developing 150 locations with various tenants that we try to acquire. Typically, we've reached out to a lot of those types of developers. They either don't call us back or we don't really get anywhere near where we need to be on pricing because of the robust 1031 market. They're having a lot more difficulty historically selling 15, 20, 25 locations every month. Now they're only able to sell two or three locations every month. Their equity sources and their debt sources are getting stretched pretty thin as their inventory is growing.
We've been having a lot more conversations with those developers. You know, developers by their nature are very optimistic for as long as they possibly can. Not sure exactly when the levee's gonna break there, but that does feel like an area where there could be some opportunity.
Just to follow up on that, is it typically a higher yield when you look at the way you source deals throughout the year? You have multiple channels. Is this one of the higher cap rate channels? Probably in a tight band, but just is it at the upper end usually?
Yeah. Yeah, it's a good question. Developers, if they're able to finance themselves and develop properties, you know, all the way to certificate of occupancy, and then they sell into the 1031 market, they're gonna get more aggressive pricing than what we're willing to pay. The developers that would prefer for us to finance their development, so whether we're buying the land and funding development or providing a guaranteed equity takeout, we do typically get better cap rates on those types of transactions.
Got it. One modeling question. Do you happen to have the end of period rent on a cash basis, excluding the active developments?
Yeah. We'll follow up with you offline on that one.
Okay, sounds good. Thanks, everyone.
Thanks. Thanks, Wes.
Thank you. Our next question comes from Joshua Dennerlein with Bank of America.
Yeah. Hey, everyone. Just curious, you mentioned in your press release, appropriate pricing for assets. What do you think is appropriate pricing in today's environment? You know, last quarter was the 6.6% on the acquisitions. Just kind of curious.
Yeah. No, it's a good question. I mean, I think it's really gonna be, you know, asset dependent, you know, depending on credit quality, real estate quality, you know, lease term, rental increases, et cetera. Feels like we're gonna start to see, you know, some pretty good increases in cap rate, as just that's kind of what we, you know, what we're expecting and from the conversations that we're having with various sellers. How much higher that goes, I think is, you know, depends on what happens in capital markets as well as, you know, whether other buyers are able to kind of come back to the market. It's got a lot of different factors there.
Hard to say where it goes, but I think, you know, it should be meaningful to us.
Appreciate that. You mentioned Big Lots. I think you said it's no longer an IG-like credit after their recent results.
Right.
How do you think about that in the portfolio? Is that a temporary blip for them or something that may be? Is that something you would maybe look to, like, monetize?
Yeah, I mean, you know, obviously we're always looking at, you know, what we can sell and what the best economic outcome is for, you know, various different strategies by assets. Yeah, I mean, look, I mean, Big Lots has got, you know, supply chain concerns. You know, freight costs both, you know, via truck and over the ocean have really pressured margins. That being said, you know, their total debt-to-EBITDA is, you know, 2.1x , which almost, you know, still meets our investment-grade profile definition. Look, I mean, I do think we're gonna see margin pressures persist, but they've got over $400 million of liquidity.
I think, you know, they're gonna be able to to weather what's going on right now, and it really doesn't, you know, provide any real concern as it relates to their ability to meet their financial obligations. We've got, you know, 10 locations that I think we feel really strongly in the real estate where the rent is replaceable. You know, I think we've got a long way to go before we start to, you know, really have major concerns there. It's, you know, certainly, you know, the trend is not going in a positive direction with that tenant.
Okay. Thank you.
Thank you. Our next question comes from Todd Thomas with KeyBanc.
Hi, thanks. Good morning. I just wanted to follow up a little bit on the investment activity and the slowing pace of investments that you're talking about, which we think makes sense just given the volatility in your cost of capital and in the market more broadly. You know, we're through October and, you know, I'm curious if there's any way to size up what the fourth quarter might look like in terms of acquisitions. Just maybe help us also think about the O volume heading into 2023. You know, again, I realize the world's changed quite a bit, but the pace of, you know, growth, external growth that, you know, I think investors, you know, have been thinking about was sort of in the $500 million range per year.
I'm just curious what you might be thinking about, you know, over the next few quarters, if you could maybe, you know, provide some insight.
Yeah. Honestly, I wish I could give you better guidance other than it's gonna be facts and circumstances driven based off what the opportunity set is and you know whether we start to see enough you know volume move into you know the cap rates where we feel like we're you know maybe not making the same spread that we did over the past couple of years, but you know kind of trending more in that direction. So it's just a little bit difficult for us to give guidance on what we think we're gonna do in 2023 when we're struggling to tell you what we're gonna do in the fourth quarter of this year.
Yeah. Todd, I mean, if I could just add a little bit to that. You know, I think, you know, go and take a look back. I mean, you know, beginning of the year, you know, SOFR was like 0, right? You know, it's 3% now. You know, you've seen equity costs, you know, go up dramatically, right? And, you know, we've been able to kind of make hay, you know, by buying assets that, you know, as I said in my prepared remark, you know, better yields than, you know, than the peer group. But, you know, I just think that the pace of change of the capital markets has just been so great in such a short period of time.
It would almost be irresponsible for us to go and start throwing numbers out there without getting a better look as to, you know, some of the changes that Mark, you talked about earlier that we're starting to see, the beginnings of.
Okay. In terms of the fourth quarter, you know, is this sort of, you know, off of sort of the $125 million maybe $135 million dollar pace that we've seen? You know, are you thinking something more in the, you know, $40 million-$50 million dollar range or, you know, might just sort of fall, you know, just a touch short of the $500 million for the full year as we kind of think about like the exit rate heading into 2023?
Yeah, I mean, it's gonna be, you know, opportunity based. I mean, we're gonna be opportunistic. You know, I think all things are on the table. You know, we've got some opportunity to, you know, take advantage of the fact that there is a 1031 market out there and potentially sell some assets and then redeploy. There's a lot of different, you know, factors that we're, you know, considering and a lot of different options, that I think are on the table. The thing that we don't wanna do is take money in one pocket and just put it in the other, and then we're bigger, without really any benefit to shareholders.
We think the best thing for shareholders is to consider, you know, all options on the acquisitions and dispositions, you know, side, and try to maximize, you know, the transaction volume, you know, that we're gonna do. You know, what that looks like is still in flux.
Okay. Got it. Just last question also, just so following up, I guess, on the underlying credit of the portfolio and in the context of the discussion around Big Lots, you know, being lowered to sub-IG during the quarter. I'm just curious as you look out, you know, if there are other retailers, other tenants on your credit watch list over the course of the next few quarters as we head further into the cycle where you see, you know, potential risk. You know, not looking for names specifically, but just in the context of the overall portfolio and your exposure to, you know, IG and sub-IG, you know, like profiles.
Yeah. No, I think it's a good question. Really what we've seen with the tenants within our portfolio, as you know, it's a very defensive portfolio, very you know high credit quality portfolio. Not a lot of debt coming due for these tenants, which I think is gonna be interesting to see how some of the retailers are able or not able to refinance their debt. I think it should be indicative of the quality of the portfolio when you consider Big Lots is a company with almost a billion-dollar tangible net worth with $400 million of liquidity, and you know total debt to EBITDA is 2.1x , which by most definitions is not very leveraged.
If that's the one that we're talking about on the call, I think that's, you know, should be seen as a good sign. In fact, we've had, you know, a couple of credit upgrades within the portfolio.
Okay. All right. Thank you.
Thank you.
Thank you. Our next question comes from Nick Yulico with Scotiabank.
Oh, hi, everyone. First question is on, you know, drugstore investments. You know, you did take your exposure up to the segment, also to CVS now specifically, you know, 11% of ABR. I mean, how much higher are you willing to take, you know, the exposure for CVS and for the drugstore category?
Yeah. No, great question. You know, we weren't really planning on increasing our pharmacy exposure as much as we did, but we, you know, saw a couple of opportunities specific with CVS and Walgreens that were very attractive, you know, attractive pricing, really strong locations, that we felt, you know, were the best risk-adjusted returns that we could provide investors. I would not expect us to be adding to those names. In fact, you know, we just mentioned dispositions that could be something that we look to maybe offload a couple of those locations in the ten thirty-one market at, you know, pretty attractive cap rates and redeploy into other retailers that we like, just to, you know, just to improve our diversification.
Yeah, I mean, you know, when we're the size that we are, you know, one or two transactions certainly can drive up the concentration, but I wouldn't expect to see us move our concentration higher in the near future.
Okay, thanks. The second question, Andy, is on you know, when we're talking about earlier, you know, how you thought about your weighted average cost of capital. It kind of sounded like to me that if you're looking at your cost of debt, you know, if you look forward based on the curve, that it's not necessarily that you know, debt is a cheaper cost than equity over the next year if you kind of look at you know, the over a full year on where interest rates could be.
I guess how are you thinking about that equity versus debt mix and going back to as well, you know, I know your leverage target, I think is 4.5x-5.5x debt to EBITDA. I mean, are these situations where you're gonna, you know, over-equitize, perhaps because of some of these dynamics?
Yeah, I mean, you know, look, we've over-equitized to date, right? You know, I mean, we're below 30% on a market cap basis, you know, debt to equity with a target of 33%. Yeah, you know, we're constantly thinking about, you know, the tools that we have in our toolbox and, you know, the $200 million forward that we did in August is a great tool for us to use. You know, if equity prices, you know, start trading, you know, in a more acceptable range, the ATM, either spot or forward, you know, is another tool that we can use there.
The point that I was really trying to make is I think that just looking at spot rates in the current environment could really cause you to regret some of your decisions, you know, can lead to false positive investment decisions. You know, we, you know, and similarly, you know, the idea that the balance sheet is over-equitized, if, you know, if debt capital we saw great opportunities with respect to debt capital, you know, utilizing that to get a little bit more in line is, you know, an option on the table too. You know, I mean, Mark and I, you know, Randy and Amy, you know, we talk about this like literally every day, right? You know, we're constantly looking at the, you know, the, you know, the menu of opportunities that are out there.
You know, I think the greatest thing that we've been able to add is we've been able to be very, very nimble, right? You know, we were able to pull off that August offering, you know, right after you know, we announced second quarter earnings. Similarly, we were very early in the queue for you know, the term loan market, which is a market that's becoming significantly tougher. Yeah, all of those options are on the table.
All right. Makes sense. Thank you.
Thank you. Our next question comes from Linda Tsai with Jefferies.
Hi. Appreciate the prudence with which you're allocating capital going forward. Is your assumption that you stick with the 65% IG profile, or would you expect to capitalize on more IG-like tenants?
Yeah, I mean, I think, you know, we like the investment-grade profile tenants just as much as we like the investment-grade, you know, tenants, in that the risk profile is, in most cases, even slightly better for investment-grade profile as they carry no debt and generate, you know, strong cash flow, larger retailers. There are just fewer of them out there. I think the opportunity set will likely, you know, dictate, you know, what we buy, but I would expect the ratios of the portfolio to remain fairly constant.
Can you comment on any general trends in the sale leaseback environment and whether, you know, higher costs and inflation are catalysts for operators to do more sale leasebacks?
As you know, we've only done a handful of sale leasebacks, but I do think that when CFOs, you know, start looking at refinancing their debt and they may have a little bit of sticker shock, I would assume that a sale leaseback could start to make a little bit more sense than it has in the past.
Thanks.
Thanks, Linda.
Ladies and gentlemen, there are no further questions at this time. I would like to turn the floor back over to Mr. Mark Manheimer for closing comments.
Thanks everyone for joining today. For those of you attending the upcoming conferences, we'll look forward to seeing you then.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.