STORE Capital Corporation
Q2 2018 Earnings Call Transcript

Published: 2 Aug 2018

[Operator:]

Good day, and welcome to the STORE Capital’s Second Quarter 2018 Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Moira Conlon, Investor Relations for STORE Capital. Please go ahead.

[Moira Conlon:]

Thank you, Nichole, and thank you all for joining us today to discuss STORE Capital’s second quarter 2018 financial results. This morning we issued our earnings release and quarterly investor presentation, which includes supplemental information for today’s call. These documents are available in the Investor Relations section of our website at ir.storecapital.com under News & Results, Quarterly Results. I am here today with Chris Volk, President and Chief Executive Officer of STORE; Mary Fedewa, Chief Operating Officer; and Cathy Long, Chief Financial Officer. On today’s call, management will provide prepared remarks and then we will open the call up for your questions. In order to maximize participation while keeping our call to one hour, we will be observing a two-question limit during the Q&A portion of the call. Participants can then reenter the queue if you have follow-up questions. Before we begin, I would like to remind you that comments on today’s call will include forward-looking statements under the federal securities laws. Forward-looking statements are identified by words such as will be, intend, believe, expect, anticipate or other comparable words and phrases. Statements that are not historical facts such as statements about our expected acquisitions or our AFFO and AFFO per share guidance for 2018 and 2019 are also forward-looking statements. Our actual financial conditions and results of operations may vary materially from those contemplated by such forward-looking statements. Discussion of the factors that could cause our results to differ materially from these forward-looking statements are contained in our SEC filings, including our reports on Form 10-K and 10-Q. With that, I would now like to turn the call over to Chris Volk. Chris, please ahead.

[Chris Volk:]

Thanks, Moira. Good morning, everyone, and welcome to STORE Capital’s second quarter 2018 earnings call. With me today are Mary Fedewa, our Chief Operating Officer; and Cathy Long, our Chief Financial Officer. We continue to be active on the acquisition front. Our investment activity for the quarter totaled just over $335 million. And we profitably divested approximately $115 million in real estate investments. Our investments and property sales reflect our ability to consistently invest in and recycle cash in ways that are accretive to our shareholders. At the same time, our portfolio remained healthy with an occupancy rate of 99.7% and about 73% of our net lease contracts rated investment grade in quality based upon our STORE’s core methodology. You will hear more about our property investment and sales activity and portfolio health from Mary. Our dividend payout ratio for the quarter approximated 69% of our adjusted funds from operations, serving to provide our shareholders with a well-protected dividend in the company that’s well-positioned for long-term internal growth based upon anticipated tenant rent increases and the reinvestment of our surplus cash flows. Our balance sheet remained well positioned. Our funded debt to EBITDA on a run rate basis improved slightly to approximately 5.6 times for the quarter, which includes the impact of the gradual new equity issued through our ATM program. Moreover, substantially all of our investments made during the quarter added to our pool of unencumbered assets, which stood at $3.8 billion for about 56% of our growth investments, providing us with flexibility in our financing options. Now as I do each quarter, here are some statistics relevant to our second quarter investment activity. Our weighted average lease rate during the quarter was approximately 7.96%, which is slightly above where we were last quarter. The average annual contractual lease escalation for investments made during the quarter approximated 1.8%, providing us with a growth rate of return, which you get by adding the lease escalations to the initial lease rate of almost 9.8%. Including average corporate borrowings of about 42% of investment cost and at an interest rate of 24.5%, you can at a gross rate of return of better than 13%. The majority of our outperforming investor returns from STORE and predecessor successful public companies have always been driven by having favorable property-level rates of return from the outside, which is why we take the time to disclose major return on components. The weighted-average primary lease term for our new investments continues to be long at approximately 17 years. The median new tenant Moody’s RiskCalc rating credit rating profile was solid at Ba3. The median post-overhead unit level fixed charge coverage ratio for assets purchased during the quarter was in line with our overall portfolio at 2.1 to 1. The median new investment contract rating, or STORE Score for our investments, was also favorable at Baa1. Our average new investment was made at approximately 75% of replacement cost. 96% of the multi-units net lease investments made during the quarter were subject to master leases. And all 103 of the new assets acquired during the quarter are acquired to deliver us unit-level financial statements, giving us required unit-level financial reporting from 97% of the properties within our portfolio. Our investment activity this quarter was exceptionally granular with 53 separate transactions completed and average transaction size of under $6.5 million. At the end of the quarter, the proportion of revenues realized from our top 10 customers was 19.2% of annualized rents and interest, which was up slightly from 18.8% at the end of the first quarter. However, our top 10 customers continue to be highly diverse and the largest single customer represented just 3.3% of our annualized rents and interest, down from 3.5% last quarter, with a long-term target of having no tenant exceed 3% of our annual revenues. During the quarter, we sold 26 properties, which represented original acquisition cost of approximately $115 million, and we netted a gain over our original cost of $10.4 million. Our ability to generate profits from assets sales and to accretively recycle the sales proceeds owes itself to our direct origination strategy. And as I have long stated, portfolio management activities like this which produced real economic gains serve to offset sporadic vacancies or assets underperformance, which is a customary part of the net lease business. And with that I’m going to return the call over to Mary, who will discuss this activity in more detail.

[Mary Fedewa:]

Thank you, Chris. Good morning everyone. We had a strong second quarter with acquisition volume of $335 million at a cap rate of nearly 8%, bringing year-to-date acquisitions to over $655 million. This puts our growth acquisition pace at slightly over $100 million per month. In the second quarter, our investments were made through 63 separate transactions, the most transactions in a single quarter by 46%, based on our quarterly average since our IPO. We are excited to achieve this level of transaction activity in a quarter and are encouraged by the opportunity to further increase this level of volume, which is a handful of additional larger transactions, which is customary to see in our market. We continue to actively manage our portfolio, taking advantage of opportunities to sell properties. During the quarter, we sold 26 properties which had an acquisition cost of $115 million. We generated net gains over the original cost of approximately $10.4 million. Based on acquisition cost, 38% were opportunistic sales and deliver the bulk of the gains, which average 16% profit over cost. 48% were sold for strategic reasons to reposition the portfolio at a 4% gain over cost. And the remaining property sales were from our ongoing property management activities and resulted in gains in the quarter of nearly 8% over our original cost. Now turning to our portfolio performance highlights as of June 30, 2018. Our portfolio mix remains consistent with the majority of our portfolio in the service factor at 66%, 18% in experiential retail and the remaining 16% in manufacturing. Customer ranking within our top 10 remains extremely diverse by design with our largest tenant, Art Van Furniture, representing just 3.3% of rent and interest. We were excited to have added Dufresne Spencer Group to our top 10. Dufresne Spencer Group is the largest Ashley Furniture HomeStore licensee. With over 800 locations worldwide, Ashley is the world's largest furniture manufacturer and the number one furniture store brand in the world. Dufresne Spencer Group is backed by a seasoned management team with a strong operating history and garnered in investment from Ashley Corporate in December of 2017. They joined our top 10 as a result of their ownership in Hill Country Holdings, an existing customer of ours, and another top licensee in the Ashley system. Our portfolio health continues to be strong as delinquencies and vacancies remained very low due to our active portfolio management and strong tenant partnership, with only six out of our more than 2,000 properties vacant. Our customers focused on the middle market, which creates most of the revenue and employment growth in this country, continues to play out. Our customer grew their revenues by 15% on average in 2017. Now turning to the overall market in our pipeline. Cap rate remained stable and this allows us to continue our pattern of generating strong spreads over our cost of long-term capital. Our targeted market is middle market and larger companies is extremely deep. And while the market penetration we have achieved is exceptional, we have plenty of runway ahead. Our pipeline remains robust and diverse with an emphasis on service, manufacturing and select retail sectors having high potential for long-term relevance. With that, I’ll turn the call to Cathy to talk about financial results.

[Cathy Long:]

Thank you, Mary. I will start by discussing our capital markets activity and balance sheet, followed by our financial performance for the second quarter. Then I'll review our 2018 guidance. All comparisons are year-over-year unless otherwise noted. Beginning with our capital structure. Our financing flexibility reflects our ability to access both the equity and debt markets in a variety of ways. Our ATM program has been a very effective way to raise equity. It also makes a lot of sense for us given the flow of our business and the granular size of our transaction. During the second quarter, we sold an aggregate of 7.1 million common shares under our ATM at an average price of $26.64 per share. We raised net equity proceeds of just over $187 million, which we put to work through our real estate investment activity. Year-to-date, we sold an aggregate of 11.3 million shares at an average price of $25.86 per share. This equity gives us significant liquidity going into the third quarter. At June 30, our long-term debt stood at $2.6 billion with the weighted average interest rate of just under 4.4% and a weighted average maturity of about 6 years. In an environment focused on interest rates, it's important to note that all our long-term borrowings are fixed rate. Our debt maturities are intentionally well laddered. Our goal is to grow our free cash flow after dividends, such as the amount of our annual debt maturities that wouldn't be covered by free cash flow, is only about 1.5% of our total assets. Our median annual debt maturity is just under $260 million, and we have no meaningful debt maturities until the year 2020. Our leverage ratio at June 30 remained low at 5.6 times net debt to EBITDA on a run-rate basis. This equates to around 40% on a net debt to cost basis. At the end of the second quarter, we had borrowing capacity on our credit facility of nearly $500 million in addition to the $44 million of cash on our balance sheet. The accordion feature of our expanded credit facility provides access to even more liquidity. In summary, we're well positioned with substantial financing flexibility, conservative leverage and access to a variety of attractive equity and debt options to fund the large pipeline of investment opportunities. Now turning to our financial performance. Acquisition activity during the second quarter was funded by strong cash flows from operations, proceeds from asset dispositions and proceeds from the ATM activities I noted earlier. As of June 30, our real estate portfolios stood at $6.7 billion representing 2,084 properties. This compares to $5.5 billion representing 1,770 properties at June 30, 2017. The annualized base rent and interest generated by our portfolio in place at June 30 increased 19% to $538 million as compared to $453 million at year ago. Of our $6.7 billion gross real estate portfolio, approximately $2.9 billion was pledged as collateral for our secured debt and the remaining $3.8 billion of real estate assets are unencumbered, giving us substantial financing flexibility. We expect that by year-end, the portion of our portfolio remaining unencumbered will approximately 60%. Portfolio growth drives revenue growth. In the second quarter, revenues increased 15% year-over-year to $131 million. Our second quarter acquisition volume was weighted towards the end of the quarter. Therefore, the full impact of that volume won't be realized until the third quarter. Our consistently strong revenue growth reflects the broad-based demand for our real estate capital solutions. For the second quarter total expenses increased 13% to $89 million compared to $79 million a year ago. Nearly 70% of this increase can be attributed to higher depreciation and amortization reflecting the growth of the portfolio. Interest expense was up slightly compared to a year ago, primarily due to higher average balances outstanding on our credit facility. Interest expense on our long-term debt was also up slightly as we use debt to partially fund our real estate acquisition activity. That impact was almost fully offset by a decrease in the weighted average interest rate on our long-term borrowings. Property costs were $741,000 for the second quarter as compared with $1.1 million a year ago. Since 98% of our real estate investments are subject to triple-net leases, property-level costs such as property taxes, insurance and maintenance are the responsibility of our tenants and not a significant portion of our annual expenses. Property costs can vary quarter to quarter based on the timing of property vacancies and the level of underperforming properties. Over the past four quarters, property costs have averaged about eight basis points of our average portfolio investment. During the second quarter of this year, property costs were lower at about 4 basis points of our average investments. G&A expenses in the second quarter were $10.9 million compared to $9.3 million a year ago, primarily due to the growth of our portfolio and related staff additions. For the second quarter, G&A as a percentage of average portfolio assets decreased slightly to 66 basis points from 67 basis points a year ago. Net income before gain on property sales increased to $42 million compared to $35 million a year ago. This increase was due to the growth in the size of our real estate investment portfolio, which generated additional rental revenues and interest income. This increase was offset by a decrease in net gains on property sales. The second quarter of 2018 included a net book gain of $19.9 million from the sale of 26 properties as compared to a net book gain of $25.7 million from the sale of 23 properties in the second quarter of last year. Including these gains, net income increased to $62 million for the quarter or $0.31 per basic and diluted share compared to $61 million or $0.35 per basic and diluted share a year ago. We delivered another strong quarter of AFFO and AFFO per share growth. AFFO for the quarter increased 19% to $91 million or $0.46 per basic and $0.45 per diluted share from $76 million or $0.44 per basic and diluted share last year. As you know, the Berkshire Hathaway investment last June meaningfully accelerated the timing of equity issuances, and we expected a dilutive impact to per-share amounts, beginning in the back half of last year. This diluted effect is reflected in the year-over-year net income and AFFO per share comparisons. Our dividend is an important component of our stockholder return. Since our IPO in 2014, we've increased our dividend per share by 24%, while maintaining a low dividend payout ratio and a same time reducing leverage. For the second quarter, we declared a quarterly cash dividend of $0.31 per common share, representing around 69% of our AFFO per share. As you know, our board evaluates our dividend policy at each board meeting and considers raising at least annually as a results permit. As we maintained our quarterly dividend at the $0.31 level for fourth quarters now and our dividend payout ratio is currently among the lowest in the sector, we would anticipate that our AFFO per share growth could translate into dividend growth. Now turning to guidance. Today we are affirming our 2018 guidance first announced last November. Year to-date, we’re on track with our 2018 net acquisition volume guidance of approximately $900. We expect AFFO per share to be in the range of $1.78 to $1.84. AFFO per share in any period is sensitive to the timing of acquisitions during that period as well as the amount and timing of dispositions and capital markets activities. In 2018, we expect acquisitions to be spread throughout the remainder of the year, though acquisitions are often weighted towards the end of each quarter. The midpoint of our AFFO guidance is based on a weighted average cap rate on new acquisitions of 7.75% and targeted leverage in the range of 5.5 to 6x run-rate net debt to EBITDA. Our AFFO per share guidance for 2018 equates to anticipated net income, excluding gains or losses on property sales of $0.83 to $0.88 per share, plus $0.88 to $0.89 per share of expected real estate depreciation and amortization, plus $0.07 per share related to items such as straight-line rents, equity compensation and deferred financing costs. As we move through the second half of the year, we’ll continue to assess our outlook and update guidance as needed And now, I will turn the call back to Chris.

[Chris Volk:]

Thank you, Cathy. Before turning the call over to the operator, I'd like to make a few comments just to providing some of our achievements over the past year. STORE has by design the most highly diversified net leases investment portfolio we know of and certainly in the most diverse in our own long history of running successful net lease companies. Taken alone, investment diversity can be expected to deliver investment-grade performance which is a long proven cornerstone of the structured finance universe. But we hold not just a diversified portfolio of real-estate leases but a diversified portfolio of senior contracts. That’s the beauty of our strategy to exclusively hold profits in a real-estate. Contracts are senior when the properties we owned deliver profits to our tenants after our rents is paid. Contract seniority is yet another long-proven cornerstone of the structured finance universe, staying at the core of many investment grade note issuances. So paring sector leading portfolio diversity with contract seniority alone should yield a high level of investment-grade portfolio performance. Our long-run average STORE score suggested roughly 75% of our contracts or investment grade and quality, which is based upon tenant credit and location profitability. But adding a portfolio diversity, investing in real-estate at discounts to net asset value and replacement cost and then highly acted property and portfolio management and you get performance with actually well exceed the STORE score. Since we started STORE, our aggregate portfolio performance has been more like an A-rated credit. We've realized this for achieving industry-leading equity returns. The results of our organic growth has been an impressive AFFO per share growth of 9.8% since the end of the third quarter of last year, which is the last time that we raised our dividend and includes the first full quarter of the 9.8% half way investment in STORE. So our dividends become more protective in the interim and our payout ratio at the end of the second quarter stands at just 69% of AFFO. As Cathy alluded, this performance will be on the mind of management our Board of Directors to reassess our dividend policy for next year. Since our IPO in 2014, we have elevated our quarterly dividend by 24% while maintaining a payout ratio close to 70% of adjusted funds from operations. Such consistent operating performance and dividend growth has helped us to realize double-digit annual rate of return for our shareholders each year since our IPO. And with those comments, I’d like to turn the call over to the operator for questions. And note that we also have Michael Bennett, our General Counsel; and Chris Burbach, our Executive Vice President, Underwriting, will help us with answering any questions you might have.

[Operator:]

[Operator Instructions] Our first question comes from Collin Mings of Raymond James. Please go ahead.

[Collin Mings:]

First question from me just on the deal pipeline size. It was up call it $300 million on a net basis, but appears flat line in a little bit relative to the growth seen last year. Are there market dynamics at play here? Is it just timing? And maybe along those, lines how do you feel about the current capacity of your team that maybe makes sense to add some more people as that pipeline is obviously seeing tremendous growth over the last couple of years?

[Mary Fedewa:]

Collin, it’s Mary. So no, pipeline is good at timing. It’s growing, and you mentioned that because we have added two new sales people this year and they are coming along. It will take some time for them to get up, but we will start to see them on the board here shortly. So we are investing in the front-end and we are achieving great market penetration right now too. So everything is good on the deal sale side.

[Collin Mings:]

And then just my second question just on the disposition front. I appreciate the detail that kind of the buckets between the operating opportunistic strategic -- sounds like you were able to post some gains across the board there. But can you maybe just give us a better sense of some examples of what is shrunk up right now, or what you're trying to process in that strategic bucket in terms of what you are looking to sell? And then maybe where you find this is the best bid for some of the opportunistic deals that you're selling?

[Mary Fedewa:]

On the opportunistic front -- Collin, its Mary again. It generally is the granular properties that we have more restaurants. We have some urgent cares, things of that nature. And on the strategic side, it’s really a plus of asset classes as well. So nothing in particular in terms of all anything in systemic in any industry. So it’s really a mix in both areas, quite honestly.

[Chris Volk:]

The strategic area we sold -- from furniture stores, for example, I mean one or two furniture stores that you saw.

[Mary Fedewa:]

On the optimistic side, yes.

[Chris Volk:]

Well, and strategically it sort of keep our exposure managed. So it’s been a mix, and then this quarter we were lucky to make money even on the property management side, which is - it’s was just unusually. You don’t expect to make money out of property management. I don’t know.

[Mary Fedewa:]

Correct.

[Operator:]

Our next question comes from Craig Mailman of KeyBanc Capital Markets. Please go ahead.

[Craig Mailman:]

Just wanted to hit on guidance here. You guys are, based on the midpoint, kind of need to $0.92 in the back half of the year. So just a penny uptick from where the second quarter came in. And you noted that a lot of the investment activity is weighted towards the back half of the quarter. Add on the fact that you guys are like 25 basis points ahead of your guidance. You're at the lower end of your leverage range. I'm just curious kind of maybe what the potential headwinds are in the back half of the year that you're seeing that didn't give you guys the confidence to maybe bump the midpoint a little bit, given the execution you've had.

[Cathy Long:]

Hi, it's Cathy. A lot of it is timing. So on the acquisition front, as Mary mentioned, a lot of the quarter was very granular. And actually in the second quarter a lot of the activity was in the month of June and actually for release in the month of June. So because we're more of a flow business, you can't say the timing is going to be favorable to you necessarily when you're closing properties. So a lot of keeping guidance where it was just for that reason, for the timing of not only acquisition activity but the timing of raising equity as well.

[Chris Volk:]

And as you go through the rest of the year, what will happen is that the as we progress, the acquisition type less and less impact of an impact on -- for share growth, although they do have a big impact on 2019 numbers. So to the extent that we're able to exceed hypothetically $900 million net for the year, that will have more to do with what happens in 2019 and '18.

[Cathy Long:]

And as you know, sometimes December is quite a bit month. And as Chris mentioned, if you close things in the back half of December, it almost has no impact on AFFO for the year.

[Craig Mailman:]

Okay, that's helpful. Then just curious and you guys have talked in the past about the continual refinement of the STORE Score. I’m just curious how that process is going. If you guys have made any substantial changes in, is that materially impacted at all, any of the credits the way you're viewing in the portfolio?

[Chris Volk:]

Well, at this point, I would say no changes to the STORE Score. So it's been consistent since Day 1. And really if you look at for STORE Score, it's a composite of just the Moody's discount number, which is a very proven statistically robust number together with a very loose hypothetical on the impact of that of unit-level coverages on contract retention in the case of a bankruptcy or insolvency or a lease expiration. And so you could almost view the piece that we use for our portion of the STORE Score as a property level portion as a bit of hypothesis. It's less proven, for example, less robust than the Moody's number would be. We've intentionally tried to make it conservative. So we do it over overhead, for example, sort of calculating our coverages after overhead. We're assuming what we think to be conservative probably for people affirming leases in the event of insolvency. We have been investing a lot in the last number of months and probably for the next few years in business intelligence software and artificial intelligence. I mean, we're going to have a lot of data behind this. And so over time, you're going to see us at some point move around the STORE Score just to reflect more proven mathematical relationships. But for now, I would tell you that the portfolio as a whole performs better in the STORE Score, which basically in a way just proves the hypothesis and says that really the portfolio is doing better than that. And I made those remarks in my note because it's really driven by really high levels of portfolio diversity, active property management, buying assets at discounts in net asset value, strong levels of portfolio management. We were selling really almost sector-leading amounts of portfolio every year and moving our assets around intentionally and trying to get in front of things as well as property management we've been pretty active and done a good job to keep our vacant prosperities under 10 properties for quite some time at this point, which is pretty low. I mean, so all that stuff helps you to realize total rates of return that end up having more of an A-rated type performance. And you can see that on the sort of internal and external growth lock. Isn’t really internal growth lock in the appendix to our representation and we've modified that a bit and it's a pretty neat presentation.

[Operator:]

Our next question comes from Ki Bin Kim of SunTrust. Please go ahead. Ki Bin Kim, you’re like is open.

[Unidentified Analyst:]

This is Alexie filling in for Ki Bin. Just two quick questions. On the disposition front, it looks like you sold three Applebee's assets this quarter. Perhaps could you give some color on those in terms of like the dollar amount and the cap rates? And are you looking to further reduce the exposure?

[Mary Fedewa:]

So on the Applebee's side, [Indiscernible] yes, we did move some of the -- we have been moving some of the RNH properties for quite some time now getting out in front of some of the issues that we saw early on from collecting financial statements. So we've been moving those right along. So those are just basic Applebee's. But we were able to do actually and can see enough of this to lower the rents on those and give the Applebee's guys a permanent rent reduction with their new landlord and still make money on those assets. So it was neat strategy that aligned our interest with theirs and lowered our exposure and again gave them some permanent rent reduction on the marketplace. So they were little over $2 million properties average size and in the cap rate range which is at least the 100 basis points less than their requiring stock. So we got a nice execution on those.

[Chris Volk:]

Cap rate range and in the seven - And we found that restaurant cap rates are holding in pretty tight the shared rate desired marketplace. And off course if you are looking at Applebee's, they are seeing for sale for numbers awful lot over the last few quarter. So that's also been a cause for people wanting to buy those kind of assets.

[Unidentified Analyst:]

And then another follow-up question. So it looks like in the first quarter you have provisions for loan losses of about $1.5 million and then in the second quarter you had another $1 million. Could you just provide some color on that? And is there any more of that to be expected in the second half of the year?

[Cathy Long:]

Those were two different loans. As you know we are very customer-centric when we are providing capital solutions for our customers, and often times if they are looking for more proceeds and we don’t see that the real estate would necessarily support those proceeds, we put separate proceeds we may be willing to give them in a loan versus trailing more money on the real estate, if that makes sense to you. So the real estate values are the real estate values. And when we show investing in real estate, it's really all real estate value. If the tenant needs more funds, we may make loan secured by other things, sometimes equipment loans or secured by maybe other properties they can might own. So during the first quarter we had a write-down of a loan and we ended up grabbing the collateral. That was supporting them loan and so we wrote that loan down to the collateral value. In the second quarter we did the same thing for a separate loan. This is a very, very small part of the business we do. There are less than a dozen of them. And they're all very small. Most of them are frankly equipment loans. So that's not a big part of the business.

[Chris Volk:]

Often times you could put things valued on real estate and you wouldn’t take any write-down at all on the lease. So it doesn’t really affect your overall recovery rates. So we're giving you a performance lock, for example, in terms of internal growth lock in the appendix, whether it's a loan or lease recovery calculation percent.

[Operator:]

Our next question comes from Kevin Egan of Morgan Stanley. Please go ahead.

[Kevin Egan:]

Hi, good morning out there. Just quick questions from me. I was just looking at that you have average lease escalators that are significantly higher than the peer group. I was just curious have you had any additional success in terms of negotiating these escalators for maybe above the 1% to 2% range? Or you’ve been pretty sticky at that range recently?

[Chris Volk:]

Ask that question one more time. We seem to have [indiscernible] leases above the what range?

[Kevin Egan:]

So just in the 1% to 2% range, given that there's been higher inflation expectations recently, have you had any success in possibly pushing that escalator a little bit higher than maybe the 1% to 2% range or I guess higher than it has historically?

[Mary Fedewa:]

Kevin, it's Mary. 2% annual really market. We haven't seen anything too much higher than that.

[Chris Volk:]

So the 1.8 sort of reflects sort of a mix of between we've got some 2s and we have some 1.5s, and so 1.8s kind of in the middle of this. 2% is a very, very long term guidance for inflation. You really want to have lease escalators that are lagging inflation. You do not want to have lease escalators that exceed inflation because you like to have your leases be below market rate leases at the time they expire, which is going to give you a much better chance for lease renewal. So trying to push on that, it's going to be difficult. And as Mary said, this is market, I mean 2% about as high as you get.

[Kevin Egan:]

Okay, thank you for that. And then just in terms of acquisition cap rates, have there been any specific sectors that you've been seeing more movements perhaps upwards or downwards?

[Mary Fedewa:]

So it's really been consistent this year in terms of a movement away from still having movement away from retail and industrial being sort of the favored affect class and downward pressure on industrial side and in terms of the other asset classes have been very-very stable.

[Kevin Egan:]

Okay, thanks a lot.

[Operator:]

Our next question comes from John Massocca of Ladenburg Thalmann. Please go ahead.

[John Massocca:]

Morning. So sold One Art Van Furniture during the quarter. Can you give maybe some color on the cap rate on that sale? And would you look to do more kind of strategic dispositions of properties leased to that tenant?

[Chris Volk:]

We're going to get the Art Van exposure south of 3. It'll be a combination of growth and property sales. And that's been because the customer knows what we're doing and so they’re not about -- simply for diversity reasons. And the assets that we sell are always sold below the cap rates we buy at. So we're making some money and we’ve disclosed to you what the spread is. So we’re not going to give you exact disclosure on that property.

[John Massocca:]

Understood. I think you're going to be saying that was in your strategic bucket, correct?

[Chris Volk:]

Yes.

[John Massocca:]

And then I saw that you kind of gave a little extra disclosure around kind of fixed charge and forward coverage. You have the average. Is that -- just to clarify, is that a simple or weighted average? And also maybe what was that metric have looked like last year if it was given?

[Chris Volk:]

We gave a weighted average. We did it because there is a -- we tried to keep up with disclosure from some other companies and the other companies out there they were disclosing the weighted average. I mean, if you ask us our opinion on this, our opinion is that the weighted average is total waste of time. We really want to look at just the median because weighted average is substantially north of 3 and it gets weighted up by just a right hand tail that’s going to just drag it off. So you are going to have some manufacturing assets and other that are going to skew it, and so it gives people sort of artificial sense of security. But on the other hand, I don’t like it when people say that their coverage is better than ours, may include weighted - coverages and we don’t have them. So we are going to get and see.

[John Massocca:]

Would it kind of trended the same way you think as just roughly speaking as the median kind of fit median one would have?

[Chris Volk:]

Yes, I would say same way. There might be a little more volatility to the weighted average just because it depends on -- again that the right hand sale could just drive it. And what you really want to do is focus on the median. If you look at the appendix, there is a three year stack TDF scores and also three-year stack of STORE scores. So you can see how all the stuff is trended. And if you look at the Baa3 point on that chart, on top of each so last three years meaning that basically the same percentage of our portfolio has been Baa3 or better from a tenant perspective for the last three consecutive years. And if you look at the STORE score, the numbers are on top of each other, which is basically driven by the fact that the unit level coverage has been pretty much flat for the last three years. So all that stuff is just flat. And I think that gives you an idea of where the credit trends are and what not. So now you should just take a look at it. That’s on Page 34.

[Operator:]

Our next question comes from Spenser Allaway with Green Street Advisors. Please go ahead.

[Spenser Allaway:]

Just going back to the investment pipeline, it does look like the deals are viewed this quarter was up fairly significantly relative to first quarter. Is that correct? And if so, what is driving that?

[Mary Fedewa:]

Yes. Again, it’s just the timing of transactions and how things get decisions. It’s not necessarily consistent each quarter. So I think this quarter we probably just made some decisions on and stuff.

[Chris Volk:]

But I’d say that to the point that Mary made earlier, the quarter itself was just hyper granular. I mean the average transaction was $6 million and change, which is -- if you look at our average quarter in terms of net worth transactions for the last number of years, it’s basically 40% over that average. So it’s a big number. And we are encouraged by it because it means they we’re doing north of $100 million a month but evenly smaller deal size. And usually the deal price can drive volume. So one of the ways to get our volume up to speed is same number of deals will have with the other deal size be $20 million. But we had basically no transactions that were $100 million, no transactions $50 million bucks, no transactions that were meaningful in terms of size. But if you look through the rest of the year, one of the ways to get more through the $900 million number on the net side will be to throwing some bigger transactions, which normally is likely that we can assure ourselves that happens, but it could happen. So we are really encouraged by basically the amount of penetration, the amount of deals that we have done. It may take -- honestly it takes as much time to do small deal as a big deal. So they have your team to be able to do this efficiently as rate of $6 million a copy. I would venture to guess that if you were to ask people a number of years ago would it possible to do $1 billion a year as average number of $6 million deal, people would say, no, you have to have -- you got fill in like extra $100 million deal here or there or maybe $200 million deal here or there to be able to get a $1 billion. And what we're showing is that having a full business that's focused on serious market penetration is able to deliver that in terms of deal flow.

[Mary Fedewa:]

Spencer, I think if you're seeing the line kind of climb up there in the first part of -- at the end of '17 in the pipeline and in the beginning of '18, so this would be -- you should expect some larger review or pass-on deals or precision deal. So I think it's pretty normal.

[Spenser Allaway:]

Okay, that's helpful. And then just one last one. Can you provide a little color on what select sub-industries you're kind of targeting in another retail bucket?

[Mary Fedewa:]

Other retail bucket. So maybe let's say on the other retail side of things would be just probably -- things like Home Décor, maybe things of that nature, stores we go and buy might be some copy-to-copy stores, exactly, things like that, home décor, hobby, sometimes auto parts. I think about if you go into retail firm boxes, it's mostly hobby and home décor. Specialty stuff like maybe a might go over something like that, where you don’t really get on the Internet. You actually go in and they have classes, teach how to stall and teach how to do and all that stuff.

[Operator:]

Our next question comes from Collin Mings of Raymond James. Please go ahead.

[Collin Mings:]

Thanks. Just one quick follow-up from me. I was just curious on your farm and ranch supply exposure. Can you talk about if any of those tenants have seen any weakness? Are you seeing any weakness just give us some of the concerns there about the broader outlook for the agriculture sector just given the uncertainties on trade policy?

[Chris Volk:]

At this point it’s early to say whether we're seeing any of that. I mean, we've obviously hear discussions about soybean farmers in Midwest and what not having issues. We've not seen at this point any change in numbers at the unit levels and has not heard from any of our tenants if there is anything adverse going on. The trade words is not good for anybody. So we expect that if we have these trade wars, it could affect farmers but it would also affects everything else. I mean the good news is, by the way -- if your average unit covers at - 2, I mean the sales can drop 30% to 40% for you to break even. So the margin for area that we have in our numbers is really huge, and which is why you have companies like Applebee's which have the same-store sale declines and we have almost Applebee problem. I mean there are just one of those things that you would have this markets for air on the stuff. But at this point, we haven't anything that we suggest there will be huge deals. But we have concerned about it. I mean I would say it's just broader economic concerns. I mean relating not just rents and supply source, but the formers often go and eat meat, so walk out, they do other things. They put their kids up to daycare and that kind of stuff. So I mean so all the stuff trickle through the economy if you have coverages.

[Operator:]

Our next question comes from Ki Bin Kim of SunTrust. Please go ahead.

[Ki Bin Kim:]

So in the past years you've almost doubled the size of the company in terms of asset value. So what have you kind of gleaned from just growing your portfolio at that kind of pace? And has any parts of philosophy or how you've done business or source of deals changed over that time? And for the next couple of billion, do you think other parts of the company has to kind of grow or adapt?

[Chris Volk:]

I would say that we've been doing investment activity around $100 million a month for a four years and more on the reasons so I pointed that out in the close that had on the press release with just to clarify when analyst think about external growth and we're primarily and internally driven growth company. But when think about external growth, they tend to discount it because it they think that is not really reliable. But off course been doing this at a very steady pace. I mean it's been almost like clockwork to do a $100 million a month and we've been just very encouraged by our ability to be able to do that. So we been really thinking about doubling the size of the business. But $100 million a month of course has done that. So you’re adding $1.2 billion a year with gross - I mean, you are selling off assets and we took the company public and we had sort of $3 billion in change for the assets and now you are at $7 billion worth of change in the asset. We -- as said we have additional our relationship managers that we hire this year, which gives us the potential for potentially being able to exceed the $100 million per months at some point in time through better market penetration, which is something that is on our mind. And we've been adding of course to the credit side as well as the closing side as well. And repeat business has been huge. So we've been doing -- from Day 1 we've been doing roughly 30% of repeat business. So as you grow, what happens is you get more of repeat business and that's very helpful to fulfill the growth. So for example, if you are going to look at us in 2000 -- before we went public, if you were to look at some 2000 - when we started the company in 2011, we had not repeat business. So 2012. So when you go from 2012 to '13, basically we didn’t do that much for business just that we had repeat business. So that has kind of carried us to $1 billion type number, which is sort of like doing $600 million for the new business investing it in repeat business every single year. And I think that will hold us to grow as far as where we've earned. Otherwise, we've kept it really diverse. We’re trying to look for very non-core related risk. We're diversifying by industries. We’re very cautious of this. We on the property sale side and strategic side, we're thinking about where we need to lighten up from a long-term diversity perspective. When you underwrite the stuff, you have to assume that they are two, maybe three recessions during the time you hold these assets. So you are not underwriting. Somebody says where are we in a business cycle? I'm worried about the business cycle today. I mean we’re worrying about the business cycle next year or the year after that. We worry about this 20 years. So we can't really our underwriting to suit a particular business cycle that were in. And, of course, if you are one of the 9,000 people -- 9,000 retail stores they closed last year, if you are thinking that the business cycle wasn’t too good here past year, so we’re very mindful of where we are all the time and how we underwrite, and we’re trying to make investments that will be sustained over time. And as I said earlier in the presentation, you have a diverse portfolio. I mean just sure your portfolio diversity. I mean that underscores the CNBS market, residential mortgage market. When we were at FFC [ph], our first public company, we would do mortgage loans and had 95% of that cost to be rated BBB or better. So if you huge diversity by itself, you should have investment grade performance, which our goal, and then we're recurring that with contracts seniority which gets you even a better risk-adjusted performance. You end up some of the highest returns in the business, cap rates that are close to 8 with escalators at 1.8% and yet you're performing like an A-rated credit on a hundred percent of the portfolio, which is where you end up in the appendix that you got on the page that talks through the internal growth revenue wash. So that's the goal.

[Ki Bin Kim:]

And when you guys mentioned about the 15% sales growth for your tenant, will that add in your portfolio only? Or you're talking about just kind of broader corporate revenue line items for your tenants?

[Mary Fedewa:]

So that was our tenant at the corporate level their performance for 2017 at the top-line. And it was a weighted average based on the rent and interest they have with our.

[Chris Volk:]

If you look at unit level growth last quarter, it’s' closer to 1%. So it’s not matter of exciting. So let’s say it’s been kind of at the 1% unit level growth for like last several quarters. But a lot of our tenants are growing through acquisitions of other tenants. They're also been building some new-built stuff too. So that together is giving them pretty substantial growth. We treat it as a great thing by the way because it means many of our tenants are more diverse - they’re more diverse and they’re less risky. They got more points of profit. So that's a good thing.

[Ki Bin Kim:]

So just to clarify the in a way I can call it the same-store sales for your tenant grew 1% over the past year in '17 you mean?

[Chris Volk:]

It's closer to 1% last quarter.

[Mary Fedewa:]

Same store sales, but their top-line revenue grew 15% back to total corporate level. On average.

[Operator:]

This concludes our question-and-answer session, I would like to turn the conference back over to Chris Volk for any closing remarks.

[Chris Volk:]

Thanks all for attending the call today. I encourage you to take a look at our second quarter investor presentation, which includes a number of disclosure enhancements that are designed to improve your understanding of STORE. My personal favorite as I talked about earlier on the call is the internal growth walks contained in the appendix that illustrates our historic internal growth taking into account rent increases, retained cash flow or recycled cash from asset sales and asset under performance. And the one thing that should stand out materially is the dependability of our internal growth, which annually is expected to account for the bulk of our AFFO growth per share. And finally, our next investor presentations are going to be at the Wells Fargo Net Lease Conference, which is scheduled to be held in New York City, September 11th. And if you're interested in seeing us there, please let us know. And meanwhile, thanks all for listening. We’re around today or tomorrow, any questions that you have. So have a great day.

[Operator:]

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.