Today, Thursday, October 25th of 2012. I would now like to turn the conference over to our host for today, Mr. Tom Lewis, CEO of Realty Income. Please go ahead, sir.
Thank you very much, operator, and good afternoon, everyone, and welcome to the conference call to review our operations and results for the third quarter. In the room with me today, as usual, is Gary Malino, our President and Chief Operating Officer, Paul Meurer, our Executive Vice President and CFO, John Case, our EVP and CIO, and Terry Miller, our Vice President, almost promoted you, Terry, of Corporate Communications. As always, we'll say, during this conference call, we will make certain statements that may be considered to be forward-looking statements under federal securities law. The company's actual future results may differ significantly from the matters discussed in the forward-looking statements, and we will disclose in greater detail in the company's Form 10-Q the factors that may cause such differences. Our call today will focus on our third quarter and year-to-date operational performance for the company.
Before we get into that, let me start with just a brief comment on our merger with American Realty Capital Trust, or ARCT. As most of you know, we announced on September 6th that we had reached an agreement to merge the two companies. Then after our announcement of the agreement, we filed an S4 proxy with the Securities and Exchange Commission, which is where it sits today, and it is currently in review. Following that review, which we anticipate will conclude in the near future, we also anticipate getting a final and an effective proxy sent out to all of the shareholders of both companies.
At that time, we'll be having an opportunity to talk to all of the parties involved about what we think is an attractive opportunity for the shareholders of both companies, and we'll then move forward towards an approval of that transaction and ultimately close it. We'll engage in that time in, I'm sure, a fair amount of discussion about it. We continue to anticipate closing the transaction towards the end of the year, so we look forward to more discussion on that once the transaction proxy is effective for us. I'd invite those with any additional questions for now, if they haven't, to review the S4. It is currently filed at the Securities and Exchange Commission and is available on EDGAR. Obviously, after we have comments, we'll make any changes and get that out.
Moving on to our operating results, let me start with an overview of the numbers, Paul, as usual, if you'll do that for us.
Thanks, Tom. As usual, I'll just comment briefly on our financial statements, provide a few highlights of our financial results for the quarter, starting with the income statement. Total revenue increased 13.2% for the quarter. Our revenue for the quarter was approximately $120 million, or $480 million on an annualized basis. This obviously reflects the significant amount of new acquisitions over the past year. On the expense side, depreciation and amortization expense increased by about $6.2 million in the comparative quarterly period. Depreciation expense obviously increased as our property portfolio continues to grow. Interest expense increased by almost $1.2 million, this increase this quarter was due to our credit facility borrowings throughout the quarter. On a related note, our coverage ratios both remained strong, with interest coverage at 3.7 times and fixed charge coverage at 2.7 times.
General administrative, or G&A, expenses in the third quarter were approximately $9.3 million, similar to the rate for last quarter. Our G&A expenses increased this year as our acquisition activity has increased. We have added some new personnel throughout the year, our proxy process this past spring was more expensive than usual. We expensed $795,000 of acquisition due diligence costs during this quarter, our employee base has grown from 80 employees a year ago to 92 employees today. However, our current total projection for G&A for all of 2012 is approximately $36 million, which will still represent only about 7.5% of total revenues. Property expenses were just under $2 million for the quarter, these are expenses associated primarily with the properties that we have available for lease. Our current estimate for property expenses for all of 2012 remains about $9 million.
Merger-related costs, this new line item refers to the costs associated with the ARCT acquisition. During the quarter, we expensed approximately $5.5 million of such costs, this amount includes accruals for some of the expected total costs for completing the transaction. Income taxes consist of income taxes paid to various states by the company, they were just over $400,000 during the quarter. Income from discontinued operations for the quarter totaled $1.9 million. This income is associated with our property sales activity during the quarter. We sold 11 properties during the quarter for $15.8 million. An important reminder that we do not include property sales gains in either our FFO or our AFFO. Preferred stock cash dividends totaled approximately $10.5 million for the quarter. This increase compared to last year obviously reflects the issuance of our preferred F stock earlier this year.
Excess of redemption value over carrying value of preferred shares redeemed was not this quarter, but it is in the year-to-date column. This refers to the $3.7 million non-cash redemption charge in the first quarter associated with the repayment of our outstanding preferred D stock with proceeds from our preferred F offering. Reminder that a replacement of the preferred D stock in our capital structure did save us about $1 million cash annually. Net income available to common stockholders was about $27 million for the quarter. Beginning this quarter, we have included a normalized FFO calculation. Normalized FFO simply adds back the $5.5 million of ARCT merger-related costs to FFO. We believe normalized FFO is a more appropriate portrayal of our operating performance and is consistent with our public FFO earnings estimates and first call FFO estimates that analysts have already published on us.
Normalized FFO per share was $0.52 for the quarter, a 4% increase versus a year ago. Adjusted funds from operations or AFFO, or the actual cash that we have available for distribution as dividends, was $0.52 per share for the quarter, a 2% increase versus a year ago. Year-to-date AFFO was $1.52 per share, also a 2% increase versus last year. While it may vary by quarter, our AFFO annually will continue to be higher than our FFO. So far this year, our AFFO has been $0.05 higher. Our AFFO has been higher because our capital expenditures are still fairly low in the portfolio. We continue to have minimal straight-line rent adjustments in our current portfolio, and we have some FAS 141 non-cash reductions to FFO for in-place leases acquired in some of the larger portfolio transactions that we've done.
In 2012, specifically, we have the $3.7 million non-cash preferred redemption charge. We increased our cash monthly dividend twice during the third quarter, including the larger $0.06 annualized increase in August. We've now increased the dividend 60 consecutive quarters and 68 times overall since we went public 18 years ago this month. Our AFFO dividend payout ratio for the quarter was 85%. Briefly turning to the balance sheet, we've continued to maintain a conservative and safe capital structure, we think. Earlier this month, we raised $800 million of new capital with our issuance of $350 million of 2% unsecured fixed-rate notes due in 2018 and $450 million of 3.25% unsecured fixed-rate notes due in 2022. We were very pleased with the successful offering, and we are grateful for the bond investors who continue to support us with their capital.
With the bond offering proceeds, we were able to completely pay off the borrowings on our $1 billion unsecured acquisition credit facility, which continues today to have a zero balance. We also have today an excess cash balance of approximately $160 million from the bond offering proceeds. Our current total debt to total market cap is 30%, and our preferred stock outstanding still is only 7% of our capital structure. Our only debt maturity in the next three years is a $100 million bond maturity in March of next year. In summary, we currently have excellent liquidity, and our overall balance sheet remains very safe and well-positioned to support our acquisition growth, including the ARCT acquisition later this year. Let me turn the call back over to Tom, and he'll give you more background on these results.
Thanks, Paul. I'll kind of walk through, as is our tradition, the different areas of the business, and let me start with the portfolio. During the third quarter, the portfolio continued to generate very consistent cash flow, with tenants doing well and no significant issues arising outside of our normal operations. At quarter's end, our 15 largest tenants accounted for 46.8% of our revenue. That's down 520 basis points from the same period a year ago and 170 basis points from the second quarter. Our acquisition efforts continue to reduce concentrations in the portfolio. The average cash flow coverage of rent at the store level for the tenants remains high at just over two and a half times, which is very little movement from last quarter with a similar number, but quite healthy.
We ended the third quarter with 97% occupancy and 84 properties available for lease out of the 2,838 we own. That occupancy was down about 30 basis points from the second quarter. For the quarter, we had 27 new vacancies. That is a little higher than we usually get and was really a function of we had 25 buffet restaurants that came off lease right at the beginning of the quarter. We had seen those coming off, so I think I made some comments on last quarter's call that occupancy may be a little softer, but not much at 97% for the quarter. During the quarter, we did re-lease 15 of those. We've released another couple since the end of the quarter, and they make a good part of the 18 properties that we leased or sold during the quarter.
We also acquired 87 properties, that was the reason for the movement, but quite solid at 97%. As I mentioned for the last few quarters, and we will each time now, there's three ways to calculate occupancy. One is taking the number of vacant properties, which is 84, and dividing it by our total of 2,838 properties, and that's how we get to 3% vacancy and 97% occupancy. A second methodology is take the square footage that is vacant and divide it by the total square footage. That would give us a 2.1% vacancy and 97.9% occupancy, a little higher, 90 basis points higher than the first method. The third way, which is more of an economic way of looking at it, is take the previous rent on vacant properties and divide it by the sum of that number and rent on occupied properties.
If you use that methodology, vacancy is only about 1.7% and occupancy 98.3%. Obviously, any of the three represent fairly high occupancy. In the press release, we use physical occupancy, which is the lowest of the three. Looking to the next few quarters, leasing activity today is brisk. Lease rollover is reasonable. The tenants are generally doing well. We think occupancy should increase a bit in the fourth quarter and increase a bit going into early next year. We think the portfolio is fairly sound, very sound from an occupancy standpoint. Same-store rents on our core portfolio decreased 1% during the third quarter and 0.8% year-to-date. As we've talked about for several quarters now, if we exclude the Buffets and Friendly's reorganization rent adjustment, same-store rent on the balance of the portfolio increased 1% during the third quarter and 1.1% year-to-date.
As we look forward, the impact of those two will now start rolling off. We think that we'll probably have flat same-store rent in the fourth quarter. Then in the first quarter, likely go back to the more typical increase that we've had in the past of about 1% same-store rent growth. We're optimistic relative to occupancy and same-store rent growth over the next couple of quarters. Diversification in the portfolio continues to widen. 238 properties, which is up over last quarter. 44 different industries, 144 different tenants, the footprint in 49 states. From a geographic standpoint, there are no meaningful concentrations around the country. Probably more important, industry exposures are very well diversified, again, with 44 industries now, concentrations in the larger industries are generally continuing to decline each quarter.
As you probably saw in the press release, convenience stores, which is our largest industry at 16.3%, is down 60 basis points from last quarter 200 basis points versus a year ago. Restaurants, if you combine both casual dining and quick service, now down to about 13.2%. That's off 60 basis points from last quarter 410 basis points versus a year ago. I think more importantly of note there to us is really the decline that we've had in casual dining as we acquire in other areas. We've been selling off properties in this area. We think that'll continue. Casual dining's down, I think 360 basis points year-to-date.
As the chart on page 11, I believe, in the press release shows, we're down to about 7.3% in that sector from over 14% in the last five years or so. We will continue to reduce that. Theaters are at 9.5%. That's down a little bit, up for the year. Health and fitness also down a little bit at 6.7%. We continue to like both of those sectors, theaters and health and fitness. I think we'll be adding to them. The only other category industry over 5% is beverages. Additionally, this quarter, we added six new industries for the portfolio for the first time. I think we're in very good shape in keeping industry concentrations reasonable generally widening out the diversification.
This quarter, in our industry table in the back of the press release, we separated our retail industries from our non-retail industries for the first time, which should make it a little easier for everybody to see the activity in each of those areas basically how it's moving over time. We hope that is helpful. From an individual tenant standpoint, no tenant now represents more than 5% or more of our overall revenue in the portfolio. Of an interesting note, this is the first time in the 43-year history of the company that has been the case, where no tenant is over 5%. We continue to become more diversified there. Our largest at 4.8% is AMC. That's down a bit. LA Fitness and Diageo are at 4.7%. Everything else is under that. The 15 largest tenants I mentioned is 46.8% of revenue.
When you get to the 15th tenant, you're looking at only about 2% of revenue. When you get to number 20, it's about 1.5%. We continue to be well-diversified. The other thing I would note is the continued transformation in our top 15 tenants over the last few years. As I mentioned, concentrations are down quite a bit. Tenant quality continuing to move up a bit, and industry representations are changing as we continue to focus on moving up the credit curve and away from some areas we think are vulnerable to a consumer downturn. We think the list will continue to transition in coming quarters based on the transactions we're undertaking now, where we're quite active. Relative to moving up the credit curve, three years ago, essentially, none of our rent came from investment-grade tenants or their subsidiaries. 43-year-old company, that's worked very well.
In that entire period, occupancy's never been below 96%. We are trying to make a move in that direction. As of the end of the third quarter, that number stands a little over now 20% of the portfolio is generated by investment-grade tenants. Upon the closing of the ARCT transaction, that would be roughly 35%. We continued here in the third quarter, and we will in the fourth quarter to buy additional properties leased to investment-grade tenants. We're also adjusting the portfolio by accelerating property dispositions a bit in certain industries. Year-to-date, we've sold 30 properties for $34 million. That spurs about $12 million of sales for the same period of year ago, and we think that will continue to increase. We'll likely sell around $20 million or so in the fourth quarter.
That will get us up around $55 million. We think likely run in the $75 million-$100 million run rate, perhaps a little higher over the next year or so. Almost all of the sales to date, as a matter of fact, all of them out of the investment portfolio where we're targeting industry, have been out of the restaurant category, with the majority being casual dining restaurants. We have been pleased that the cap rates for sales have been a little better than we thought. On the properties that have been closed to date, the cap has been about 8.19%. On the properties that we currently have under contract for sale now, it's about 7.55%. It's been a good environment to be active out in dispositions for us. Finally, on the portfolio, our average remaining lease term remains very healthy at 11 years.
Given the long-term leases that we have and increased diversification in the portfolio, and then the idea, we think that same-store rent should accelerate and also occupancy a bit, we're very optimistic and continue to see very stable revenue production out of the portfolio. Let me move on to property acquisitions. We are obviously having a lot of success on that front for the first three quarters of the year. We see that continuing this quarter and in the next year. Let me turn it over to John Case, our Chief Investment Officer, and you can walk people through what we're seeing.
We had a very active third quarter for acquisitions this year. We acquired 87 properties for approximately $496 million. That was our second-most acquisitive quarter in our company's history. We acquired these properties at an average cap rate of 7.11%, and the average lease term was 13 years. The credit profile of the tenants we added was very attractive. 51% of the acquisitions are leased to tenants with investment-grade credit ratings. These properties are leased to 19 tenants in 18 separate industries, and 11 of the 19 tenants are new tenants for us. Approximately 70% of the acquisitions were in the dollar store, wholesale club, food processing, and apparel industries, and the acquisitions were well geographically diversified in 19 separate states. Just under 70% of the acquisitions were comprised of our traditional retail assets. The majority of the balance of the properties were distribution properties.
Through the third quarter of this year, we've acquired 234 properties for approximately $718 million at an average cap rate of 7.12%, which we believe is attractive as we continue to improve our tenant credit profile. 64% of the acquisitions year-to-date are leased to tenants with investment-grade credit ratings. The average lease term of these year-to-date acquisitions has been 14.3 years. They're leased to 21 tenants in 19 separate industries and are located in 33 states. 77% of these acquisitions were comprised of our traditional retail assets, and again, the majority of the balance of the properties are distribution assets. Let me spend a minute talking about the current status of the acquisitions market. The market is as active as we've ever seen it in our company's history. To give you an idea of that, year-to-date, we've sourced $14.9 billion in acquisition opportunities as a company.
Last year, during the entire year, we sourced $13 billion of acquisition opportunities, which was our most active year ever for sourcing acquisitions. About 60% of these properties sourced are leased to investment-grade tenants. While the market remains competitive, we're continuing to pursue a number of these opportunities and expect to close over $1 billion in organic property-level acquisitions for 2012. Of course, this would exclude our acquisitions that will be part of our merger with ARCT. Looking forward, we really don't see a slowdown in acquisition opportunities. There are a lot of sellers in the market for a number of reasons today, and we continue to be engaged in a number of discussions with those sellers. We remain optimistic relative to both our near-term and intermediate-term acquisition opportunities. Let me spend a second on cap rates.
As you may have noticed, the cap rates have contracted a bit more during the year. However, we believe we'll end the year with average cap rates in the 7.25% area. The investment-grade properties that we pursue are currently trading at cap rates in the low 6%-7% range, and the non-investment grade properties are trading in the low 7%-8% cap rate range. Our investment spreads continue to be at historical highs, though. Our year-to-date average cap rate of 7.12% represents a 185-basis-point spread to our nominal cost of equity, which again, is our FFO yield adjusted for our cost of raising equity. That 185 basis points compares quite favorably to our average spread of 110 basis points over the previous 17 years when the vast majority of our acquisitions were on properties leased to non-investment-grade tenants.
In 2011, our spread to our nominal cost of equity on our acquisitions was 170 basis points when 40% of the acquisitions were with investment-grade tenants. We've been able to improve our investment spreads to 185 basis points while continuing to move up the credit curve this year, with 64% of our acquisitions being leased to investment-grade tenants. It's a great time for us to acquire very attractive spreads while enhancing the credit profile of our tenant base. Tom?
Thanks, John. Obviously, we're pleased with the acquisitions we've closed year-to-date and that are expected to close in the fourth quarter, and certainly where spreads are, as John mentioned. We also think that we'll start the year off in 2013 faster than we did this year, given the transaction flow. If you recall, a year ago, the first quarter was fairly slow relative to closings. This is all on really the property-by-property or portfolios we're seeing are on a granular basis, individual properties, and really not part of any volume that comes from M&A. If you look at the ARCT transaction, upon that close, that would get us to about $4 billion in additional assets for the year. While that's been the news as of late, the $1 billion-plus in normal acquisitions for this year, as John mentioned, would be a record for the company.
I mentioned last quarter, it still holds true, and we think it will going forward, that acquisitions will continue to play a big role in continuing to grow our revenue and AFFO, which is what will drive dividend increases. Then secondly, equally important to us in adjusting the makeup of our portfolio as time goes on, where we're moving up the credit curve, we've made good progress on that front again this quarter. Paul talked about the balance sheet and access to capital. Obviously, we're in very good shape there, with plenty of dry powder to execute on acquisitions as they present themselves. Obviously, the $1 billion credit facility is very helpful for that, and that is fully available. As Paul mentioned, we also have $160 million in cash on the balance sheet, a lot of capital to do what we need to do.
Obviously, relative to permanent capital out there, the markets remain open and quite attractive. Looking at the execution on the recent debt offering, obviously pricing is just absolutely outstanding and historic in the REIT industry and certainly for us on that transaction. Equity is attractively priced as is preferred, given cap rates maybe at the 7.25% level for the year, spreads are very attractive. Relative to the guidance that we put out a month or so ago, there was no changes on that. In 2012 guidance, excluding the one-time costs of the ARCT transaction, we're looking at $2.00-$2.04 per share for the year. Included in that, as Paul mentioned, is the $0.03 per share non-cash charge from the redemption of our preferred earlier in the year. AFFO of $2.06-$2.11 per share, which would be about 2.5%-5% AFFO growth.
As always, that's our primary focus as it best represents the recurring cash flow from which we pay our dividends. On 2013 guidance, again, assuming a 12/31 closing of the ARCT transaction, we're looking for $2.30-$2.36 per share and AFFO of $2.31-$2.37. That'd be 9.5%-15% AFFO growth for the year. Again, really is the focus given we pay dividends out of that. Speaking to dividends, we remain optimistic that our activities will support the ability to continue to increase the dividend. As Paul mentioned, we increased it $0.06 in August and then did the regular quarterly increase in September. As most of you know, we've also mentioned that if we close the ARCT transaction, we'd probably raise the dividend about $0.13 a share.
Historically, what we've done for those that haven't been with the company a long time, we've raised the dividend in fairly equal amounts each quarter, then really looked in our August board meeting to see if a fifth larger increase in the dividend is warranted in order to keep our payout ratio at about 85%-87% or so of FFO, which is our target. Our AFFO payout ratio is in that range now, and obviously, the AFFO growth for next year looks pretty attractive. In the mid-range of the guidance, that would likely get our AFFO payout ratio down around 83% or so by the end of next year, which is below where we target. At this point, we'd anticipate 2013 to be another pretty good year for dividend growth also. I think that's it relative to walking over the different pieces of the business.
Operator, if we can, we'll go ahead and open it up for questions.
Absolutely. Ladies and gentlemen, at this time, we'll begin the question-and-answer session. As a reminder, if you have a question, please press the star followed by the one on your touch-tone phone. You may withdraw your question from the queue at any time by pressing the star followed by the two. For participants using speaker equipment, it may be necessary to lift your handset before making your selection. Our first question comes from the line of Emmanuel Korchman with Citigroup. Please go ahead.
Hey, guys. How are you?
Good.
Looking at the distribution facilities that you acquired, I know, Tom, in the past, you've spoken about looking at distribution sort of in parallel with retail. Was that the case here? Was there an overlap with your existing retail tenants that gave you comfort in buying those distribution facilities?
Actually, no. The majority of the retail tenants, as you know, before three years ago, were all less than investment grade. Our comfort level historically on retail is obviously having cash flow while EBITDA cash flow coverage numbers and knowing the P&Ls of the stores we own. When we move into the distribution facilities, you really don't have that. You're relying more on the real estate itself and what you're buying and how important it is to the tenant and their need to really use that particular facility. For us also then, what we want to do is we want to be going up the credit curve when we're working on those type of properties. That's the majority of what we're doing.
It's really going to the Fortune 500 or Fortune 1000 and approaching them relative to those distribution facilities and trying to buy ones that are either well-priced and in very good areas for them to support their long-term activities, or perhaps they're right next door to a manufacturing plant for one of their main product lines. If you look through the distribution facilities that we've bought, and in the last quarter, the tenants on those were, as an example, Whirlpool Corporation was one. Another tenant was Procter & Gamble. Another one was PepsiCo. Another one was, obviously, FedEx, and another two, Toro. All very large investment-grade names, and that's generally where we're focusing. I don't think we own more than one or two distribution facilities, and those we bought some time ago, with tenants that are not investment-grade.
Great. Looking at the ARCT transaction sort of, say that closes, does that change the way you approach acquisitions? Do you then expand your net on what you're out there looking at?
I don't think it'll material change where we are right now. As we've said, in retail, there are areas that we've bought in in the past that we just want to hold on. Those we want to sell, a number that we still find attractive. Outside of that, it's really distribution, a little manufacturing, a little bit of office, but not much. Perhaps agriculture, but all investment-grade tenants is what we want to do there. That's where we're focused. That's pretty much what we get in the ARCT transaction, I would imagine that we'll stay right on that.
Hey, Tom, it's Michael Bilerman speaking. Good afternoon.
Hey, Mike.
To you. Going to the ARCT transaction in a little bit more depth. You're clearly aware that there's probably a little bit more investor frustration, at least on the ARCT side of the transaction, and some pretty vocal shareholders, who effectively are going to vote no, as the current deal stands. I'm just curious, is your sort of feelings towards that. Clearly, the proxy is out and everyone can read it, that you were the only bidder, and that was the negotiated transaction that occurred. You have a lot of accretion built into the deal for next year. You've communicated a sizable lift in the dividend. I guess, do you sort of walk away if they vote no?
Obviously, if there is a no vote in the transaction, yes, we would walk away. If you look at the proxy, I also want to say that, again, since it's in the SEC and there's likely to be some comments, we want to make sure we don't go in too much detail until we have a final and effective proxy. If you read the background section, you can see that the negotiations were discussed over time, and both parties kind of drew a line relative to valuation as to where they wanted to go, and we weren't able to get there. After they started trading, both of the equities moved in a fashion so we could put together a transaction. Our feeling is at the time that it was announced, it was around a 5.9 cap rate. Today on price, it's around 6.
It's a very good portfolio. It's 75% investment grade. It fits what we're trying to do strategically, very carefully. We think we paid a bit of a premium to capture this large portfolio and did so with an attractive issuance of equity. For us, the price that we're paying here is, we think, a full price. Yes, we would walk away. As we mentioned, we have a $1 billion-plus in acquisition FFO that's granular, and we also have a great feeling about how next year is going to work out. We would do that. However, we do believe that the majority of the shareholders, once we have the final prospectus, their proxy out, will be able to engage in conversations and think we will get a yes vote on the transaction from both groups of shareholders for whom we think there are very good benefits.
Is there any costs if there is a no vote? Do you have to incur any sort of cost? Obviously, there were some costs of the transaction. Is there any penalties or anything that we'd have to be mindful of?
Yeah, I think it'd be minor if there was a no vote by either party. In our case, I think we would have about $4 million that would be due us to pay for the fees of the transaction, and we're figuring out exactly what those would be if there was a no vote, but it's relatively close to that. That would pay for the majority of it, and that really wouldn't see a significant impact. I think it's same on the other way with that for us in a no vote, but I don't think there's much of any chance of that whatsoever.
I just guess you had raised a lot of unsecured debt capital, so effectively you'd be a little bit, I guess, over-capitalized from that standpoint, relative to the transaction.
Yeah. We would not be, actually, Michael. We had, obviously, a very big quarter in acquisitions, and we look for a substantial quarter in the fourth quarter and running the number backwards to get to a little over $1 billion in acquisitions. Really, with $160 million sitting in cash, we'll easily use that for closing properties in the fourth quarter. It just means that the line would be fully available if we did not do the transaction. If we do the transaction, which we fully anticipate, we can do it on the line.
Okay, great. Well, it's good to hear that you're gonna stick firm on your exchange ratio and not try to engage in a self-bidding.
Right. Thank you.
Thank you very much.
Thank you. Our next question comes from the line of Joshua Barber with Stifel, Nicolaus. Please go ahead.
Hi, good afternoon.
Hey, Josh.
You guys have covered most of my questions already. Just one quick one. I guess, getting to the enterprise value that you will be post-ARCT, at least assuming that there will be a post-ARCT, what would you say your minimum deal size is when you're looking in the acquisition market today, and how has that changed over the last couple of years?
Yeah, it's really grown over the years. We've always been more than willing to do a one-off transaction of a small nature and add it. We're happy to do that today, but over the years, we've gone where $50 million, back when we were $500 million in assets, would be a 10% allocation to a tenant, and that was kind of our threshold. Sitting at $11.4 billion, you could go out and do a half a billion-dollar transaction with a tenant and still retain under 5% with an individual tenant, then relative to a portfolio or additional M&A with a multiple-tenant portfolio, it really gives us a lot of flexibility. The ability to do larger transactions is certainly enhanced by completing this merger.
Okay. One last thing. You had mentioned some comments about CapEx and why straight-line rents were a bit higher this quarter. Would you expect some more of that, I guess, in the next couple of quarters with Buffets and Friendly's releasing, or is that process mostly done at this point?
We're pretty well along the way of getting the majority of anything from Friendly's or Buffets done. There shouldn't be a lot there relative to CapEx on that.
Yeah, CapEx overall, Josh, has gone up a little bit. Historically, we had virtually none. Our current projected run rate for this year and next year is about $6 million to $7 million total, which of course, is on a $500 million-plus revenue portfolio. Still a relatively small number, but a little higher than it has been in the past. Some of that is investing in existing properties to assist in the re-leasing of those, as you've guessed. Overall, still the large portion of the portfolio or most of all of it is more so triple net and where we're not responsible for those sorts of expenses.
Okay. That's great. Thanks very much, guys, and good luck.
Thank you. The next question comes from the line of RJ Milligan with Raymond James. Please go ahead.
Hey, good afternoon, guys.
Sure.
A couple questions. Going forward, for 2013, do you think the mix of retail versus non-retail, that's 75/25, do you expect that to continue?
It's going to be transaction-driven, RJ, that we think that's a very nice mix, if it was 60/40, that wouldn't really bother us either way. We're really out after those areas of retail that we can buy quite aggressively. If there was 100% quarter where it was all in retail, that'd be fine with us, too. Looking quarter to quarter, we're really not focused on trying to balance that. Overall, if I had to guess, 75/25 is not a bad number. 60/40 is not a bad number.
In terms of the opportunity set, is there a larger opportunity set of acquisitions in the non-retail bucket?
I-
You're just choosing to pursue that 75/25 mix, or what do the opportunities look like?
I'll let John comment, but it's changing as time goes on. It's been interesting over the years. In the mid-1990s, we entered the convenience store business, it really took us two, three years where everybody that was in that business knew we were out acquisitive, and we were really able to accelerate things. When we went in movie theaters, it was the same thing. Now for really last year and this year, and in particular, mostly this year, because most of what we bought in that area last year came from the ECM transaction, we're now getting traction with people knowing that we're out there, and we are buying this type of property, so our flow is increasing.
Let me give you an idea for the distribution of property types within that transaction flow. Of what we've sourced of $14.9 billion year to date that I referred to earlier, about 60% of that is retail properties. The next largest chunk of that is distribution and industrial at about 25%. That's how it shakes out, but it does ebb and flow depending on what the opportunities are at any specific point during the year. That'll give you a feel for what it's looked like year to date here in 2012.
Okay, thanks. Tom, as part of that strategic review that you guys did a couple of years ago where you decided that you wanted to move up the credit curve, part of that, if I recall, was wanting to hedge yourselves against inflation and trying to put in contractual rent bumps or CPI bumps into the leases and increase the percentage of leases that you had with those bumps. Now, with ARCT, I'm assuming most of those don't have any bumps or CPI protections, and I'm just wondering how you thought about the trade-off there for going up the credit curve, yet sort of taking a step back in terms of inflation protecting the portfolio.
Yeah. A lot of their leases do have bumps, but that's one of the most difficult things over the last few years, has really been trying to build in full CPI into the leases, and we've gotten up, and I can't remember the exact number, but it's.
Over 20.
Yeah, over 20%, Paul says now, that we've been able to do that. It is really a slog. We've had 30 years here of declining interest rates and relatively tame inflation. Across industries in the U.S., the sellers, and particularly in retail, have gotten very used to not having big CPI components. That continues to be a battle on that situation. Relative to going up the credit curve, the decision to go up the credit curve really was twofold. One was thinking that retail may be a little tougher in the future, particularly in some segments. Mostly, I think September 30th was the 31st anniversary of the 10-year getting up over 14% and starting its decline that's gone on ever since then, where we're now down to 188, I think I looked this morning.
If you look at the average rate on a 10-year over the last 31 years, it's been about 6%. It was really going back, completely underwriting our whole portfolio, and acknowledging that we were all kind of running downhill with less than investment-grade tenants during that period. That as we looked going forward, and the possibility of interest rates being higher, wanting to disengage from a few tenants that we think would be vulnerable in a rising interest rate environment and move up the curve to protect against that. Everybody's got their opinion of what the chances are of having much higher interest rates. We also think even if there was prolonged lower interest rates due to economic weakness, it's likely to be tough on the more levered people's business, and likely that we would eventually see some credit spreads gapping out.
Either way, we think it's really a good idea to move up the curve, that was the primary reason behind that one. Going forward, again, we're at 20% now. Closing ARCT, we'd be at about 34%-35%, and be very happy to wake up in four or five years and have that number 60%, 70%, 80% of the portfolio.
The acquisition's actually going to increase the percentage of the portfolio that has sort of the CPI bumps.
It is. No, it's about the same.
Well,
Yeah.
His comment going 20%-35%, he was referring to the investment-grade portion.
Yeah, sorry, investment-grade, not the part with bumps. I think it'll keep us right about 20%, maybe a little less, a little more.
Okay. A quick question for you, Paul, is, as we're just looking at our models and thinking about the proceeds to pay for acquisitions and the ARCT transaction, would you expect, say, a year from now, leverage to be pretty similar to where it was a quarter ago, or how are you thinking about leverage, and what's your target over the next year?
Yeah. As you know, our philosophy is go equity first, if you will. Two-thirds common, the remainder, really the debt and preferred side in the capital structure. With this recent bond offering, as we speak and sit here today, our leverage, I'd say, is a little higher than what we'd like as kind of a longer-term run rate. 30% debt, 7% preferred. We'd prefer that to be 5%-10% lower in terms of that portion. We will look to the common equity markets first as a form of financing over the next 12-15 months in terms of the balance sheet.
The other thing is, I think it was 1994, right when we went public, that we said, that we wouldn't want to be over 35% debt on the balance sheet, and we've never gotten there. We had a discussion in our board meeting in August just saying that remains, even though we're, gosh, 20 times the size than we were then, that that we think is an appropriate balance sheet strategy. In the 20s, we don't mind at all either.
Okay, great. Thank you, guys.
Thank you. Our next question comes from the line of Craig Schmidt with Bank of America Merrill Lynch. Please go ahead.
Thanks. I was wondering, is there also a push for more investment-grade tenants within the retail space?
There is. As a matter of fact, within retail, we also have a higher percentage going up. If you look in the top 15 in the press release, I think Family Dollar crept in there. We have had some transaction recently with several other investment-grade tenants in that space. We'd like to go up the curve wherever we can, both inside and outside. That's definitely the case. I don't know, John, if we have any other numbers there. Do you remember for the year within-- I don't think we parsed it within retail, Craig, but a good part of the retail this year has been investment-grade.
Okay, do you have to pay a lower cap rate for those investment grades, or is that like an agnostic view?
You generally do have to pay a lower cap rate. Almost like in the bond markets today, credit spreads are fairly flat. They do continue to be fairly flat in the net lease business, but it is lower. As John mentioned, for investment-grade, you're kind of in the 6%-7% cap rate. For less than investment-grade, 7%-8%. Given cost of capital, when you look today, over 60% of what we bought this year so far and what we're targeting is investment-grade, but we're getting an average cap rate of about seven and a quarter. It's really one of those funny times when you can go up the curve and still have great spreads.
I recall about 16, 17 years ago, The Bank of New York very nicely gave me a couple days with their head of credit for The Bank of New York, just to talk to him about credit and underwriting and all the rest of it. I remember sitting down, and he said, "What are you trying to do?" I said, "Well, I want to increase our volume of acquisitions substantially. I'd like to go up the credit curve, and I'd like to have higher spreads between our cost of capital and our interest rate." He laughed. He said, "Does every banker in the world who's lending, but it's almost impossible to do." I look at this year and last year given Fed monetary policy, and that's exactly what happened.
A billion-plus in acquisition in each year and going up the curve substantially, and the spreads between cost of capital and cap rate, as John went through, being some of the highest we've had. Maybe 70 basis points over the average for our 17, 18 years we've been public.
Craig, slightly over 50% of the retail we've purchased this year to date has been with retail tenants that have investment-grade credit ratings.
Okay. I guess we're living in impossible times, but it sounds good. Thanks a lot.
Yeah, I'm not sure what it does for the economy and the world long term, but in the short term, in the net lease business, it's been fairly attractive for us.
Okay, thanks a lot.
Thank you. Our next question comes from the line of Todd Lukasik with Morningstar. Please go ahead.
Hey, good afternoon, guys.
Hey, Todd.
Just a question on the capital structure. I know the preference has always been for the corporate unsecured. I think you've stated that the mortgages that are coming on the balance sheet with some of these acquisitions are, you hope to pay those down as soon as possible. I'm wondering, with the move into non-retail and investment-grade, and with some of the property values maybe being higher now that you're acquiring than maybe the average has been in the past, and also with the investment-grade tenants paying the rents, if your view's changed at all on whether or not there's a place for mortgages in the capital structure going forward, or whether you'd like to stick with 100% corporate unsecured.
Sure. Good question. No, we continue to absolutely pursue the flexibility of dealing in the unsecured markets with the debt and keeping the balance sheet in line. The only mortgages that we have had to date are those where we bought a portfolio, and it was really uneconomic in the short term to pay off the mortgage debt. Anything we could pay off, we will. We've never put a mortgage on a property. We don't intend to going forward. It'll strictly be when we buy a portfolio. As soon as it's economic to do so, we would pay it off. We're very much committed, and always have been, to the unsecured market, and that being how we finance the company, along with perpetual preferred and common equity.
Okay. Thank you.
Thank you. Our next question comes from the line of Rich Moore with RBC Capital Markets. Please go ahead.
Yeah. Hi, good afternoon, guys. You've mentioned before, Tom, that you expect about $50 million of acquisitions per quarter, which of course is what I have modeled for the next four quarters going forward. Given that, it seems to me that there's something fundamentally changing out there that is bringing more product to market. I'm curious if you have thoughts. Is that more retailers, let's say, looking to monetize real estate? Is that debt coming due, or what is bringing all this stuff to market that seems to be bigger than usual? Is that correct?
It is, I think as things usually are, we're always looking for one reason, but it's a confluence of forces. I think the downturn in the economy a few years ago and the credit squeeze scared the heck out of a lot of CFOs, they started looking at their companies and looking for more non-traditional access to capital and identified real estate as being one source for that, so I think that's part of it. Second, as you see more sale-leaseback out there, other people observe it and act towards it. I think there's also a feeling that right now, with interest rates low, that this is a way to obviously lock in permanent capital over a very long period of time, and using the real estate while still maintaining the ownership up and the flexibility. So those are all coming together.
The last part for me, and you can add on if you want to, John, is our size, really. The size of the net lease business is growing, it's becoming more visible, it's allowed us to go into places we hadn't before, particularly going up the credit curve into the Fortune 500. That, in and by itself, through our efforts, has caused us to see more product.
Okay, good. Thank you. Yeah, that makes sense. On the dollar stores, on the addition of the dollar stores category this quarter, is there a story behind that, first of all? I noticed that Family Dollar's, I think, 2.5% and the total size of the space is about 3%. I'm guessing there's obviously more beyond Family Dollar in there. Anyway, on the dollar stores.
Right. As part of the strategic review, one of the things we did is obviously take a look at the consumer and really divide it up to upper income, middle income, lower income, and then divide it further between their discretionary and non-discretionary spending to try and pick what retailers we wanted to be with. We think in kind of the middle income to lower income, it's a good idea if you could be with non-discretionary spending. Even within that's really a stressed consumer, which I think leaves retailers in that space today that need to have a really significant value proposition for the consumer. I think our movement into dollar stores is a reflection of exactly that. We did target the industry. We think we will have more, and you'll see that grow over the next few quarters.
By the way, it's the same thing with the warehouse club stores that you also see has come in there, and both have that value proposition, and that's why we upped our investment there. You look at wholesale clubs, I think in this quarter, it was around 2.8%. That's BJ's, and there's going to be another one coming in there. In the dollar stores, we're at 3%, and that's Family Dollar and Dollar General have both been added to the portfolio, both of those investment-grade tenants. We'd like our allocations to grow if we can find additional opportunities.
Okay, you're looking beyond Family Dollar and Dollar General as possibilities, or really, those two are the targets?
Once again, we want to go up the credit curve, and both are investment-grade, so they're very attractive to us.
Yeah, I got you. Very good. Thank you, guys.
Thank you. The next question comes from the line of Tom Lesnick with Robert W. Baird. Please go ahead.
Hi, guys. Good afternoon.
Yes.
Just a quick question. You mentioned G&A expense would be about $36 million this year. How should we be thinking about G&A expense going forward, presuming the ARCT deal goes through?
Our estimate for next year, I can give you a number, is about $42.5 million. It's kind of what we see in our model right now. That's some preliminary work on the budget for next year and that sort of thing. That does assume our ARCT closes end of this year, and that would represent about 6% of our total revenues for next year, kind of, again, on a preliminary budget basis. From an overall ratio, we see G&A going down significantly as a percentage of total revenues, because as we've mentioned, we don't see any material increase in G&A at all relative to the ARCT acquisition.
All right, great. Thank you very much.
Thank you. Ladies and gentlemen, this concludes the question and answer portion of Realty Income earnings conference call. I will now turn the call over to Tom Lewis for concluding remarks. Please go ahead.
Thank you, operator, and thank you, everybody. It's 1 hour on the call, a little longer than we normally do, and we appreciate your patience. We look forward to getting a final and effective prospectus in the near future and getting that out. We'll have additional discussions on the ARCT transaction, and we'll now focus on making the fourth quarter another successful quarter. Thank you very much for your attention. Thank you, operator.
Ladies and gentlemen, this does conclude our conference for today. If you would like to listen to a replay of today's call, please dial 303-590-3030, or the toll-free number of 1-800-406-7325, and enter the access code of 4569429. Thank you.