Good afternoon and welcome to Bank of America's 2025 Global Real Estate Conference. I'm Jana Galan, and I cover the Net Lease REITs at Bank of America. Very honored to be kind of closing out the roundtable discussions this early evening with Realty Income. We have from Realty Income, President and CEO Sumit Roy and Chief Financial Officer and Treasurer Jonathan Pong. Thank you guys so much for the time. We'll start out. I'll turn it over to Sumit for a couple of opening remarks, and then happy to have anyone jump in with questions, or I can start with a few I've prepared.
Thank you, Yana. I don't have my glasses, so this is going to be interesting. Good afternoon, and thank you for the time today. Before we begin, I want to remind everyone that some of the comments made today may include forward-looking statements based on our current expectations and assumptions. Actual results may differ materially, and we do not undertake any obligation to update these statements. We may also reference certain non-GAAP financial measures, which are intended to provide additional insight into our performance, but should be considered alongside the most direct comparable GAAP measures. For more information, please refer to our recent SEC filings or visit our website. Now that we've got that out of the way, our results for the first half of 2025 illustrate our focus on thoughtful, disciplined growth and the power of our global platform's size and scale.
Realty Income's differentiated investment value proposition is a simple one. We have historically generated positive total operational returns in a variety of interest rate environments through a diversified net lease platform. This historical consistency is underpinned by our operational expertise, strong balance sheet, and diversified portfolio of properties leased to leading clients globally, highlighting the durability of our underlying cash flow. During our time as a public company, the only year of negative AFFO per share growth was 2009, which was a low single-digit decline. Despite a changing environment since our public listing in 1994, Realty Income has delivered a 13.5% compound annual total return and achieved a 4.2% compound annual dividend growth rate. At Realty Income, we believe the durable income we strive to deliver originates from the power of our data-driven platform.
We have intentionally designed this platform to perform through a variety of economic conditions, anchored by diversification and scale, predictive data analytics, a conservative balance sheet philosophy, and a disciplined investment strategy honed over decades. We continue to see momentum in our acquisitions pipeline and stability in our operating performance, underpinned by the naturally defensive nature of our diverse global real estate portfolio. We're able to fund the growth in our business in a variety of ways, including through internally generated free cash flow, dispositions, and equity issuance. These funding opportunities are supported by relatively low leverage and our A3/A- credit ratings by Moody's and S&P, respectively. Overall, we believe the operational consistency and structural advantages we've cultivated will continue to create value through a variety of economic backdrops as we drive momentum in our business.
We believe the benefits granted to us through our size, scale, and access to capital place us in an advantageous position to serve as a real estate partner to the world's leading companies, supporting our mission of delivering dependable, growing monthly dividends and lasting long-term value for shareholders over time. We appreciate your interest and support and would be happy to field any questions.
Great, thank you. Maybe speaking to that very diversified net lease platform that you've built, I was shocked at the volume of deals that the company had underwrote year to date. Maybe if you could kind of talk a little bit to that, the criteria and the disciplined approach you take, because it's across retail, industrial, it's across countries. If you can kind of help us with your framework.
Yeah, so there are a couple of things driving this continued sourcing numbers that are very compelling. As you mentioned, Yana, we've sourced over $60 billion in the first half of the year, which is equal to what we sourced all of last year. There are a couple of drivers. One is our continued expansion geographically. As you might recall, we included Portugal in our second- quarter investments, which is obviously driving yet another market to source transactions in. Second, an inclusion of an asset type such as data centers, which continues to have a lot of momentum given where we are in the AI journey. Given the footprint that we, Realty Income, have created for itself, the volume numbers are staggering.
Our ability to close on the transactions is always going to be predicated on the dual mandate that we have that our public shareholders expect, which is that initial year-one accretion and the overall total return profile. What we have also started to share with the market is transactions that meet pretty much all of our underwriting criteria, but don't quite meet that initial spread. That has taken us into considering alternative forms of equity capital in the form of the private capital that we are pursuing. We're very excited with the sandbox that we've defined for ourselves. The definition of that sandbox is what's driving the sourcing volumes, which is not much of a surprise to us.
Maybe talking about kind of what did pass the hurdle, what closed, kind of the composition, because it is new countries and I think a little bit more European-focused than prior years.
Again, 76% of what we did in the second quarter was in Europe. We find Europe to be a lot more compelling today from a risk-adjusted return perspective. Part of it is driven by the sheer number of competitors that are forming, new competitors that are forming here in the U.S. that are pursuing similar transactions to what we would have pursued, but are driving cap rates into areas that to us don't make sense. The end result of these different swim lanes that we've created for ourselves is that we are finding better opportunities in Europe where there is less competition. We believe where relationship does go a long way. Now that we've been there since 2019, I think it's starting to bear fruit in the shape of us being able to do the volumes that we've been posting quarter in, quarter out.
We expect this momentum to continue, as I said, during the second quarter.
Maybe if you can kind of talk to cap rates in the U.S., cap rates in Europe, but also kind of the borrowing costs.
Yeah, let's talk about what we did realize during the second quarter. The cap rates in the U.S. were right around a 7% initial cash yield. The cap rates in Europe were closer to 7.3% initial cash yield. The added benefit that we have in mainland Europe is the financing cost, which is circa 3.9%, Jonathan, 10-year unsecured versus a 5.1% 10-year unsecured here in the U.S. That is a 120 basis points differential. That's where we are saying that even if you look at it on an absolute basis from a yield perspective, the opportunities in Europe seem to be signaling a better buy than what we are seeing here in the U.S. Could that change? Yes.
At least in the near term, as I had mentioned during the second quarter earnings, I think this composition that you're seeing that has played out year to date for us should continue.
Maybe for Jonathan, just thinking about how you handle kind of FX and maybe this year the weaker dollar helps, but kind of how you manage those types of financing risks.
Sure. So there's two risks on the FX side that we hedge against. Number one is the balance sheet risk. Sumit mentioned that the more investments we make in Europe, especially on the continent, given the lower borrowing costs there, the greater capacity we have to issue very low-cost debt. We think about the leverage and our cost of capital on a consolidated basis. On the income statement side, we have a formal hedging policy that requires us to forecast what our exposure is to foreign currency. We're obviously a U.S. dollar-denominated reporting currency. We never really want a given quarter to be about missing or beating earnings, for that matter, based off of FX. We want to talk about the core business. We're always mindful. Yes, we have natural interest expense in these foreign currencies that offset the rental income, but there's always going to be a residual.
From time to time, we'll go out and we'll hedge that risk by buying derivatives and whatnot. I think by and large, there's going to be points of times where you get to participate in the upside, times where you get to participate in the downside. We never really want that to be a significant number. I think for us, having that forced discipline through a formal policy is something that allows us to really focus on the core drivers of the business. It really hasn't been, I would say, a significant driver of earnings upside this year. On the downside, we feel like we could sleep well at night because we're not going to experience that volatility in that direction.
Thank you. Maybe just going back to the acquisition pipeline, you've raised guidance on your expectations for acquisitions for the year. I guess what do you think is driving that in 2025 versus last year? The potential of will sale-leasebacks be as attractive if we do see a change in the Fed funds rates?
I think sale-leaseback being attractive, that ship sailed a while ago. I think the biggest pushback to sale-leaseback was around losing control of the real estate. As and when operators started to get more and more comfortable that selling the real estate does not equate to losing control of the real estate, sale-leaseback as a product has started to mature. It is certainly a lot more mature here today when you have companies like 7-Eleven, A-rated companies that do sale-leasebacks in large scales. It has started to become more mainstream even in Europe. I'll point to the Decathlon deal that we did, which was circa EUR 800 million sale-leaseback, multi-jurisdictional, et cetera. That's where our advantage really comes to the fore because we have the ability to do a multi-jurisdictional European sale-leaseback. Decathlon saw that.
As you see more and more of these types of transactions, there are other companies that are starting to engage in conversations around we should be thinking about monetizing our real estate. I don't think regardless of what the interest rate environment is, yes, it'll get reflected in the pricing, but the product will only go in one direction. I do think that some of the stories that have played out where companies are taken private, the real estate is monetized, and that effectively pays for the privatization, or not 100%, but a vast majority. I think companies are starting to recognize that running a much more efficient balance sheet is a precursor to running a much more efficient operating business.
That is part and parcel of why we increased our guidance, as we started to recognize that there was a lot more that was going to potentially happen this year. As you know, we generally come in conservative. Any pipeline that we have is largely a three to six-month pipeline. As that starts to formalize and take shape, we are able to increase our guidance. Part of it was also the volatility that we were experiencing on the cost of capital side, on what was happening with our equity. This uncertainty and this overreliance on one source of equity capital are some of the reasons why we are doing some of the things that we are doing. We came out with a conservative investment number, which we have increased by 20%, 25%.
Now with interest rate directions becoming a little bit clearer, it's starting to translate into a much better cost of capital backdrop as well. I think seeing some of that gives us the confidence that we'll be able to do more. Some of these transactions that we sort of passed on, we might have the ability to do those. I think that's where we are.
You both, sure.
There was a $43 billion bucket that you looked at in the second quarter and a $66 billion bucket.
Yeah, today.
That's gone quite a bit. Are you saying that some of it is kind of like another bucket that you're looking at to transact at a later date?
No, no, no. Let me clarify. The numbers you quoted were accurate. Off that, we ended up doing about slightly north of $2 billion year- to- date. What we passed on was about $3.6 billion that met our underwriting criteria, but did not meet our year-one spread requirement because that too is an expectation that my public shareholders have of our investing thesis. That can be met by the public, the private capital that we are raising, which is not as singularly focused on day-one spread, but total return, which these $3.6 billion that we passed on would have met or could be met by our public equity if it had the right cost of capital. If you look at where we've traded traditionally, we've been right around 17x- 18x is the average multiple of our equity. Today, we trade at 14x .
A lot of this happened primarily because of this high negative correlation that we have with the 10-year unsecured note. Sorry, the 10-year rate. If the expectation is that the 10-year rate is going to start to come down, the expectation is that we will start to revert back to our average multiple, which could then allow us to do more without having to source more.
Sense, but how much of the $4.66 that you passed on didn't transact in 2018?
I'm sure most of it did. We don't track it. Oh, yeah.
$3.6?
Yeah, it did.
What is the status of the private capital that they can manage with all of this fabulous sourcing?
We hope we'll be the conduit through which they'll take advantage of all of this sourcing because we believe we've been around for many years, and we have a history of results that is for everyone to see. We post this on a quarter in, quarter out basis. It is also true that there are a lot of private sources of capital that are wanting to get into this business, including Blackstone, BlackRock, Starwood, Ares, Apollo. They recognize, given their sources of capital, how impactful net lease investing could be. What we are trying to do is to share our platform that has a history of doing net lease investing, producing the results that we have, some of which I referenced in my prepared remarks, and saying, allow us to be the conduit through which you get exposure to this kind of investing.
Where we are in the process, we'll have a lot more to share with you, but there's not much more I can say outside of what I've shared in the second quarter earnings, which is we are going after arguably one of the most difficult types of capital, which is an open-ended, perpetual capital source, and it takes time. We are learning that. The due diligence process is very deliberate, and getting things over the finish line is just time. It takes time, which is why we said our first closing was going to be at the end of this year. That's when we are going to actually share with you the total quantum of capital that we have raised and what's the composition of this capital that we have raised and what the contribution to earnings will be in 2026. Sure.
It's a U.S.-centric fund, so only investments here in the U.S. It does not have the remit for the European investments. It'll be across every element of the net lease strategy that we currently have playing out in the public domain. Retail, distribution centers, no asset type is off the list, including even development. There are certain delimiters in terms of what portion of the overall portfolio asset base can each one of these areas be a part of.
Sounds fair. I think that's pretty solved. Yeah, similar.
It is similar. Yes. You're absolutely right. You remember our investment policy that no client can be more than 5%. If it is, then we need to get a board approval to go beyond that 5%. No industry can be north of 15% as we define industries. Yes, there are exceptions we can make, but we need board approval. There will be similar delimiters for the fund business as well.
I'd be curious, in your discussions in fundraising and meeting different groups, whether any hear the story, hear the pitch, and think, you know, why not just the stock is at a discount, I should buy the stock rather than buy into this private vehicle, or is it just very distinct, different pools of capital that they can't commingle?
It is the latter. A lot of them, they don't have the ability to invest in public securities. Even we've run into this situation where there are particular asset managers who have the ability to play on both sides, but there's a line between the two. I think it's largely driven by their sources of capital and their charters. The folks that we are targeting on the private side, largely, you know, state pension funds. There are some sovereigns, but largely state pension funds and insurance capital that is interested in this particular product. The good news is it's massive. It's absolutely massive.
Will we get an update year-end?
You will certainly get another update at the end of the third quarter, just to give you a feel for where we are in the process. The expectation is when we are giving you our 2026 guidance in February, which is year-end, we will go into the details of what we've been able to accomplish.
Thank you.
Sure.
Maybe just touching on some of the kind of larger, chunkier assets, like the data centers or gaming assets, just kind of curious what you're seeing on those and the potential and ability to grow in those segments.
Data centers remain a very important focus of ours. We believe that there is a tremendous amount of demand. There is also an interesting level of supply. Some of the things that we continue to focus on are what is the box that we are going to define for Realty Income to play in. Location is a very important element. The kind of leases that we are going to be comfortable being exposed to is very important, i.e., it can't be a gross lease. It can't be a modified gross. We want it to be as close to being a triple net lease as possible. We want the client exposure to have a certain profile. We are going to be very focused on the primary, primary markets. Northern Virginia is where we've made our first investment.
We will continue to focus on locations like that or that next tier, which are still primary, like I would say Chicago, Atlanta, Dallas. I'll throw Phoenix in there and the West Coast, L.A. , San Francisco, et cetera. Those are the markets that we would be interested in. What gets done out of these locations is also equally important to us. There is no doubt that technology will continue to evolve. I want to make sure that the assets that we ultimately own, that the landlord is not responsible for any of the elements that have a very short shelf life. Things like servers, racks, routers, switches, connectivity, transformers, microtransformers, et cetera, those are the things that have to be the responsibility of the client. Those things cycle through and have shelf lives of anywhere between three to seven years. That's where the majority of the capital is spent.
Making sure that we are not on the hook for any of that and some of these other elements that I talked about is how we try to mitigate the backend risk of some of these developments. We are very excited about this area of the business. We are very excited about what it could be for Realty Income in terms of just another avenue of growth for the business.
Great. Maybe switching over to kind of the predictive analytics platform you guys have built up and some of the work there. I'm sure it gets better every quarter, just if you can kind of share some of your learnings. I always love to ask because you do cover so much of the economy, kind of just general trends you're seeing in health of different industry groups.
No, that's a great question. Thank you for that, Yana. Look, we started investing in what we're calling the predictive analytics tool in 2019. Basically, what these are, when you sort of sift it down, are algorithms that we've created that can predict the ability to recapture expiring rents. The way these algorithms learn, machine learn, is through data that you then feed into it. It continues to calibrate the independent variables in a way that allows it to be much more a predictive, successful prediction of what the outcome is going to be. That is where I think we differentiate ourselves vis-à-vis anybody else in this area. Obviously, we've been in this business for 56 years, 31 of which has been as a public entity.
Today, if you look at the run rate of how much rent is going through a renewal process, it's circa $250 million± , soon to be closer to $400 million. When you have that many number of individual leases from which these individual algorithms, and when I say individual algorithms, these algorithms are created by industry. Like what works within the grocery context is going to be very different for what's going to work for a good pharmacy location. Having these algorithms catered and calibrated for individual industries and having them learn from new data is what is so exciting about our business. This particular tool that we started investing in in 2019 has become part and parcel of everything we do. When we have sourced a transaction, we run it through predictive analytics to come up with a composite score.
The score takes into account three things: location risk, the business risk, and the fungibility risk. It comes up with a composite score. We rank-file these assets. Then we make a decision. We don't 100% rely on the tool, but it is absolutely part and parcel of the decision-making. It is absolutely being used by our asset managers and our property managers come renewal time. This is where the team starts to get a lot more confidence when their initial intuition is, oh, we'll take that 5% haircut that they're asking for come renewal time, where the tool is telling you, let them walk. They will not walk. It's not telling you that. They're basically saying it's a good location. The ability to test out the predictions of these tools and then realize that when we go back and say, that's all right, you can leave the asset.
We won't take a 5% haircut. The next thing you know, they're signing up to a 10% increase. That's when they start to take a higher level of confidence in these tools that we've developed. We are very excited about it. We are currently undertaking a path to defining what the AI strategy is going to be for Realty Income. This is obviously an adjunct tool that we've developed in-house. It's proprietary. Every element of our business, we are already the most scaled business. We are going to become, and we're going to adopt AI. I can't even answer for you how we're going to adopt it because that's the journey we are on, where it's going to continue to add to the scale benefits that we have already developed. It is something that we are very excited about.
We are going to lean into this strategy and learn a lot from it and then figure out what else we could be doing with our tool. That's super exciting for us.
You need to hire to do that, or its job.
Yeah, I wish. I have a master's in computer science, and I can tell you I can't do it. You know, they're not getting them. Look, when we first started in 2019, I didn't have a clue of who these people were going to be. We hired McKinsey. McKinsey had a team that actually helped us develop the tool initially. Then we had them say, what is the structure of the team that we want in-house that's going to continue to build on what has been developed? They actually hired the folks with the data science backgrounds, the PhDs in data science, the statisticians, the folks that could help develop these algorithms, and obviously also coders who are very familiar with the language that is used to develop it. They actually helped test the capabilities of these folks using their own testing tools.
We have a team that we are incredibly proud of. Today, it's seven persons strong. They are the ones who have been continuing to build on this and perfect the predictability of these types of models. It's out there, but we were certainly not capable of even knowing where to look. We got outside help to help us create this team. Now the team does most of the hiring and growing. Sure.
Maybe just touching on dispositions, this year is a little bit elevated, probably a little bit of kind of cleanup from Spirit, but also potentially using this tool and that business risk portion of the equation. Just kind of curious there, should we expect dispositions to kind of come down next year or kind of remain at this elevated level as we recycle?
Yeah, so we haven't given guidance on next year, Yana. I'll stay away from sharing any of that. What we have said is this year is going to be very similar to next year. What I will add, and this is something that we have talked about, is we believe that we get a discount when we buy large portfolios. Asset recycling is going to become part and parcel of what we do. We will absolutely share with you in February next year what the disposition numbers are going to look like for that year. You should expect a more active asset management as a byproduct of not just this tool, but just of how we run our business.
Maybe just on kind of like overall tenant health, it's been a very strange economy this year. I'm surprised how great casual dining is holding in. I guess just any kind of themes on industries that maybe you're watching a little closer now or that you're even more excited about.
Yeah, you know, obviously we track our own client base. What we are starting to notice is that there's this downshift in the consumer base towards more discounted retail, et cetera. These are not average household incomes. These are incomes in the six figures, household incomes who are now downshifting to shopping in discount stores, et cetera. This is where I think Realty Income is very well positioned, Yana. I mean, if you think about how we've created the composition of the assets that we've created, it has a very defensive slant to it. It's discount stores, it's non-discretionary retail, it's service-oriented retail. At times like this, we can sense the pressure that the consumer base is feeling. Look, you're starting to see a little bit of that reflected in the unemployment numbers as well.
You're starting to hear noise from the Fed that interest rates are going to get cut. I don't know if they've come out and they've said that, but that's the expectation of the market. We can see that in how some of our retailers are performing. The good news for us, I mean, you asked a very specific question, and I'll just reiterate what I said during our second quarter earnings call was our watchlist, a credit watchlist, is at 4.6%. What is very interesting about that credit watchlist is we have more than 100 clients who represent that. On average, each client is circa four basis points. We have diversified that risk as well across a multitude of clients, which I think, again, bodes well for regardless of what happens in the economy, we should be OK. Yeah, well positioned, but I think hard times may come.
I'd just like to close it with three rapid-fire questions we're asking all of the REITs at the conference. When the Fed starts to cut, do you expect borrowing rates for long-term debt to decline, stay flat, or rise?
Great question. It's at 4 or 5 today. I would say it would decline a little bit.
You touched on a lot of the AI initiatives. Last year, the majority of companies stated they're ramping up spending on AI. How would you characterize your plans over this next year? Higher, flat, or lower?
Higher.
Do you believe same-store NOI for your sector will be higher, lower, or the same next year?
Same.
Thank you so much.
Sure.
This concludes day one. If you'll please join us on the 29th floor for a reception, and looking forward to seeing you guys again tomorrow. Thank you.
Thank you, Yana. Thank you, everyone.