Gladstone Commercial Corporation (GOOD) Q3 2017 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Gladstone Commercial Third Quarter Earnings ended September 30, 2017 Earnings Call and Webcast. At this time, all participants are in a listen-only mode. Later we'll conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I'd like to introduce your host for today's conference, David Gladstone, Chairman. You may begin.

Well, thank you, Glenda. Very nice introduction and thank all of you for calling in. We always enjoy this time we have with you on the phone and which there were more times to report to you, but looks like it's just one a quarter. So, if you're ever in this area, the Washington, D.C. area, we're located on the suburb called McLean, Virginia and you have an open invitation to stop by and say hello in this area, you'll see a great team at work, although you'll see some of them here anytime, others are on the road looking at new transactions. We have over 60 people now working for the company and we'll first hear from Michael LiCalsi. He's our General Counsel and Secretary. Michael is also the President of Gladstone Administration, which serves as the administrator to all the Gladstone public fund and related companies as well. He will make a brief announcement, ready to go. He just walked out. He will make a brief announcement regarding some of the legal items and regulatory matters. Let me just start his report since he walked out. I am not sure what happened. Oh, you want to do it. Oh, good. Go ahead. We have two lawyers now. So, lawyer number two is going to do it. Thank you.

Thanks, David. Good morning. Today's report may include forward-looking statements under the Securities Act of 1933 and the Exchange Act of 1934, including statements with regard to our future performance. Forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. And there are many factors that may cause our actual results to be materially different from any future results expressed or implied by these forward-looking statements, including all risk factors, included in our forms 10-K and 10-Q filings, which we file with the SEC. Those can be found on our website at www.gladstonecommercial.com and the SEC's website, www.sec.gov. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. On today's report, we'll discuss FFO, which is funds from operations. FFO is a non-GAAP accounting term defined as net income, excluding the gains or losses from the sale of real estate and any impairment losses from property, plus depreciation and amortization of real estate assets. The National Association of REITs has endorsed FFO in discussion of REITs. Please see our form 10-Q filed yesterday with the SEC for a detailed description of FFO. We'll also discuss core FFO today which is generally FFO adjusted for certain other nonrecurring revenues and expenses. We believe this is as a better indication of our operating results and allow us better comparability of our period-over-period performance. And to stay up to date on our fund and other Gladstone publicly traded funds, you can sign up on our website to receive e-mail updates on the latest news plus you can also follow us on Twitter, username GladstoneComps; and on Facebook, the keyword, The Gladstone Companies. Finally, you can visit our general website to see more information at www.gladstone.com. The presentation today's is an overview. So, we ask you to read our press release issued yesterday and also review our Form 10-Q for the quarter ended September 30, 2017, as well as our financial supplement which provides further detail of our portfolio and result of operations. You can find all of these documents on the Investor Relations page of our website www.gladstonecommercial.com. Now I'll turn it over to Gladstone Commercial's President, Bob Cutlip.

Thanks, Eric. Good morning, everyone. During the third quarter, we acquired a $26.4 million industrial property in Philadelphia, acquired a $51.4 million three building office complex in Orlando, extended the lease on 223,000 square foot industrial facility through 2031 in the Northeastern Pennsylvania distribution quarter, leased the balance of the 116,000 square foot industrial facility in Raleigh, leased a balance of our 12,000 square foot medical office facility in Houston, sold a freezer cooler facility in the non-core market of Newburyport, Massachusetts, issued $26.1 million of common equity through an overnight offering, including the underwriters' overallotment option and issued an additional $17.5 million of common and preferred stock under our ATM programs. Subsequent to the end of the quarter, we executed both our lease extension and purchase and sale agreement, which is subject to the tenant's option on the same property in Arlington, Texas and extended and expanded the line of credit and term loan, resulting in increased capacity, significantly extended maturities and a lower borrowing cost. One can conclude from the foregoing list, our acquisitions, asset management and capital teams have been extremely busy attending to add value to our operations. As you can see from this overview, we had another excellent quarter as we continue to add high-performing assets to our portfolio, leased vacant space and renew and extend leases, maintaining our consistent and stable cash flow and our high occupancy. We were 97.9% occupied at September 30. We continue to be pleased with our activity and have a healthy pipeline of acquisition candidates, which I'll describe further. As noted during our last quarterly call, overall investment sales volume through the second quarter of 2017 was nearly 10% below that reported during the same period in 2016 and initial forecast for the third quarter also indicated a year-over-year reduction. We were in the ninth year of the current cycle and noted researchers have forecasted the market cycle maybe peaking both from a volume and a pricing standpoint. However, we have noted an increase in listings over the past few months and research firms are forecasting that overall investment volume for 2017 could be at or maybe slightly below the 2016 volume, which is still a very strong level of investment. Our team is going to continue to monitor market conditions and actively investigate opportunities and will acquire properties when the tenant credit location and the asset returns are accretive and promote our measured growth strategy. Now for some company-specific details, we completed two acquisitions during the quarter. The first acquisition was a 300,000-square foot $26.4 million industrial building in Philadelphia. The tenant is National Archives and Records Administration or NARA. This is our second industrial facility with this government agency under long-term leases. NARA's lease has an expiration date in 2032, although they do have a lease termination option in 2027. So, 10 years of firm term for us. They’ve been in the building since construction completion in the mid-90s. Average cap rate 6.6% and we entered into a 10-year fixed-rate mortgage at 3.75%. We can also expand this building by 40,000 square feet should NARA require more space. So, it really increases our flexibility to retain this tenant for the long term. We also acquired a 306,000-square foot three building office complex in Orlando, Florida, with ADP which is S&P AA rated in 72% of the complex through 2027. The average cap rate is 8.5% and we entered into a 10-year fixed-rate mortgage at 3.9%. As of September 30, for the year we've invested $101 million inclusive of acquisitions and the expansion of an industrial facility at an overall weighted average cap rate of 8.1%. As noted on our previous call, we continue to make progress on the expansion of our existing industrial tenant in New York. Jurisdictional review of the 200,000-square foot project is underway at this time with expected approval or at least anticipated before the end of 2017 and we anticipate a construction start by the end of the first quarter or the beginning of the second quarter of 2018. Upon completion of this new facility, the leases will reset to 15 years for both buildings. The average cap rate for the expansion facility is estimated at this time to be 8.9%. Our team continues to have a strong pipeline of acquisition candidates exceeding $315 million in volume and 18 properties, seven of which are industrial, which we're trying to increase that allocation in our portfolio. Of this total, $95 million in the letter of intent stage and the balance is under initial review. As noted in our previous calls, the hallmark of our continued high occupancy remains thorough tenant credit underwriting and the mission-critical nature of the property. Location and configuration are also important and over the past three years to promote this aspect of our strategy, we've invested in growth markets. These include Phoenix, Salt Lake City twice, Denver three times, Dallas four times, Atlanta twice, South and Central Florida four times, Philadelphia three times, Indianapolis and Columbus Ohio twice. This emphasis on select markets also improves our overall operating efficiency over the long term. So, our strategy is first and foremost credit emphasis, with an added focus on growth market locations. Our asset management team has continued managing our strong portfolio performance. Year-to-date we renewed three of the five leases scheduled to expire in 2017. Of the two remaining leases, one tenant did vacate a 100,000-square foot property at the end of May and at this time, we have three prospects for this building, two user buyer groups and one tenant for 50% of the space. The final expiring lease was for approximately 2,000 square feet. The tenant informed us they will not renew the lease as of the end of September 30 and our anchor tenant in the office building has agreed to expand into this space with an occupancy date of no later than January 2018. As noted earlier, we extended one lease during the quarter and that is a 223,000-square foot industrial tenant in the Northeastern Pennsylvania I-81 distribution quarter through 2031. This quarter serve the Northeastern part of the United States and typically receives its cargo and goods from the Port of New York and New Jersey and is a very low-cost alternative to the New Jersey industrial quarter. As part of our portfolio rightsizing efforts to operate in cities we deem to have strong growth prospects, we sold a non-core property during the quarter. The property was located in Newburyport Massachusetts. We recognized a small gain upon the sale after having impaired the asset earlier in the year; the positive result for the company that we exited a single property non-core market. The overall capital gain for all dispositions during 2017 has been approximately $4 million. Over the past 24 months, we have exited 10 single property markets as part of this capital recycling program and we will continue our capital recycling efforts on a selective basis when we can quickly redeploy the proceeds in our target markets or for other strategic purposes. As it relates to activities on our remaining vacant and partially vacant properties, we leased the balance of our 116,000-square foot industrial property in Raleigh as well as the balance of our 12,000-square foot medical office property in Houston, Texas. The lease commencement dates were September 1 for the industrial property and is projected at January 1 for our medical facility in Houston. As we reflect on our recent portfolio efforts, the better long-term news for our overall growth strategy is at only 3.9% of forecasted rental income is scheduled to expire before 2020. So, our cash rent should be stable and growing and our occupancy should remain high even if economic conditions deteriorate. This is an important fact for our shareholders as the majority of our peers have approximately 15% or more of their leases expiring during the same period. The majority of our capital availability will be used to pursue growth opportunities because we really do not anticipate needing significant capital for either tenant improvements or leasing commissions to retain tenants and re-lease vacant property properties or to fund operating deficits. Mike Sodo, our CFO is going to expand upon our activities related to our capital structure, but it's important to note that our refinancings continue to lower our loan-to-value and lower our annual interest costs and the amount of debt maturing in the years ahead is at a very manageable level. This combination of our improving capital structure, our lower annual debt cost on our same-store properties, the rightsizing of our portfolio and the opportunity to emphasize growth, positions us well in the current environment. So, in summary, our third quarter and year-to-date activities continued our acquisition and leasing success, extended our credit facility and refinanced maturing loans. Our team continues to have a strong pipeline of acquisition candidates and will adhere to our strategy of only acquiring properties with credit-worthy tenants in growth markets that are accretive to our operations. Now let's turn it over to Mike for a report on the financial results.

Good morning. I'll start by reviewing our third quarter operating results. All per share numbers I reference are based on fully diluted weighted average common shares. FFO and core FFO available to common stockholders were $10.7 million or $0.38 per share for the quarter. On a core FFO basis, this is a 9% increase totaling approximately $925,000 over the prior quarter. As Bob mentioned we made one industrial property acquisition as well as a three-building office portfolio acquisition during the quarter. The rents from these deals in tandem with our office property acquisition in late June, contributed to the growth of both FFO and core FFO. In advance of these acquisitions, we did raise a good amount of equity, which I'll discuss further in a minute. Third quarter results reflected an increase in total operating revenues to $24.4 million as compared to total operating expenses of $15.9 million for the period. We continue to reduce our weighted average cost of debt to 4.37% as of quarter end from 4.5% as of the end of the second quarter. We've also continued our gradual deleveraging. As Bob mentioned, we did sell one non-core property during the quarter. This sale resulted in a small net gain as the property had been impaired in prior periods for GAAP purposes. Now let's look further into our debt activity and capital structure. We continue to have a strong balance sheet as we grow our assets and focus on decreasing our leverage. We've reduced our debt to gross assets to under 50% from nearly 60% at the beginning of 2016, generally through refinancing maturing mortgage debt at lower leverage levels. We expect to continue to gradually decrease our leverage over the next 18 to 24 months. As we've discussed this with various analysts, investors and lenders, we believe this will put us in a strong balance sheet position going forward. We continue to play use long-term mortgage debt to make acquisitions. As we grow through disciplined investments we'll look to expand our unsecured property pool with additional good assets as well. Over time this will only increase our funding alternatives. As we manage the balance sheet, we've repaid $129 million of debt over the past 21 months, primarily with new long-term variable rate mortgages at interest rates equal to the one-month LIBOR plus a spread ranging from 2.35% to 2.75%. We placed interest rate caps on all these new mortgages. We've also added some of these properties to our unencumbered pool under our line of credit further advanced permanent debt placement disposition or in an effort to provide more flexibility in the future. Prior to these refinancings, these mortgages had a weighted average interest rate of 6%. Our deleveraging and refinancing efforts have been a tremendous success with third quarter interest expense decreasing by approximately 3.5% as compared to the third quarter of 2016. On an annualized basis, this equates to approximately $1 million in interest savings. Looking at our upcoming maturities, we only have one balloon of principal payment remaining in 2017 totaling $8 million. 2018 loan maturities are also very manageable with only $37 million coming due. We don't have more than $50 million of mortgages maturing in any single year until 2022. As Bob mentioned briefly earlier, we did successfully amend, extent and upsize our combined credit facility last week. With a strong support of our bank group, we refinanced the previously existing amounts outstanding which were substantially made up of revolving credit facility borrowings with nine months left until maturity. The new facility has an $85 million revolving credit capacity as well as an upsize term loan totaling $75 million, which is $50 million larger than the prior term loan. After close we've turned out all borrowings, leaving us with a fully undrawn revolving credit facility, which has a new four-year term. We've interest rate caps in place in all the outstanding term debt. These borrowings have a new five-year term. In addition to successfully upsizing the facility as well as significantly extending the maturity profile, we've also improved pricing on both the revolving credit facility and the term loan by 25 basis points. We believe this execution was important as we continue to prudently address our maturing debt to pursue opportunities to improve pricing, increase our unencumbered asset pool over time and provide the necessary liquidity to operate the business. From a long-term mortgage debt perspective, issuances continue to be available, but slightly higher interest rates than we've experienced in recent years. Rates have been pretty volatile this year. With that said, interest rates still remain attractively low from historical perspective and will continue to actively try to match our acquisitions with cost-effective debt. Depending on several factors including the tenant's credit property-type location, terms of the lease, leverage and the amount and term of the loan, we're generally seeing all rates from the high 3% range to the mid-4%. As Bob mentioned, the 10-year fixed-rate loans and our recent acquisitions range from 3.55% to 3.89%. Finally, I'll turn to our equity activity during the third quarter, which I previously referred to. We've been very active in both our common and Series D preferred equity ATM programs. During the third quarter and net of issuance cost, we raised $12.9 million of common equity at a weighted average of $21.30 per share and $4.4 million of Series D preferred equity at a weighted average of $25.40 per share. We continue to view the ATM as an extremely efficient way to deploy equity. In addition, and as discussed previously, we successfully completed an overnight offering of 1.15 million shares of common stock in July. The underwriters did fully exercise their overallotment option to purchase an additional 173,000 shares, net proceeds for the company totaled $26.1 million. We believe these opportunistic equity issuances were efficiently executed to provide more capital to fund accretive deals that we've just been closed on in Q2 and Q3 as well as those in our near-term pipeline and will help us grow profitability as we move forward. As of today, we have $9 million in cash and a fully undrawn line of credit. With our current availability and access to our ATM programs, we believe that we have enough liquidity to fund our current operations, deals in the pipeline and any upcoming improvements at our properties. We encourage you to also review our quarterly financial supplement posted on our website, which provides more detailed financial and portfolio information for the quarter. We feel good about executing our business plan during the rest of this year and into 2018 as we continue to increase our high-quality asset base and continue to improve our metrics inclusive of leverage. We're focused on maintaining our high occupancy with strong credit and real estate. Institutional ownership of the stock has increased by over 13% in the past 21 months to over 53% as of September 30. Certainly, some of this is a function of being included in the RMZ Index last year, but David, Bob and I have been extremely active in meeting with current and potential institutional investors, portfolio managers, investment banks and the like. David, Bob and I look forward to further engaging with not only our existing investor base, lenders and coverage analysts, but also establishing new relationships as the company moves forward to this next chapter. Now I'll give the program back to David.

All right, Mike. That was an excellent report. Good one from Bob Cutlip and Eric stepping in for Michael LiCalsi. I can believe what a good quarter that was and everything is clicking right along. The economy is strong. During that quarter, we made some solid -- going forward with some common and preferred stock, we sold about $44 million to finance the acquisition, purchased the two buildings for almost $78 million in Philadelphia and Orlando, sole our building that was vacant in Newburyport, Massachusetts. Glad to get that off the books. It was a drag on the earnings, executed a lease extending the lease up to two of our industrial buildings that previously were 100% -- weren’t a 100% leased and now they are. Leased up the remaining space in our medical office building in Houston and financed the new acquisitions with some very cheap fixed long-term rate debt 3.5% to 3.9% and extended our line of credit. I want to emphasize how important that is because if the economy turned down and you had your lines of credit coming due, it's a pretty grizzly situation. So, having that extended, does protect shareholders from having that debt coming due at a time that you don't want it to come due. As many of you know, the company didn't cut its monthly cash distributions during the recession and that was primarily because we didn't have our debt coming due and we did have one small loan coming due and we paid that during the depths of the recession. So is was quite a story that we got through that recession without problems. We want some of our good friends in the business who had financed their long-term asset with short-term rates and they had to cut their distributions and we didn't have to do that. As just says today that we are in a great position and not to have subsequent problems if the economy does hits the skids again. Right now, I couldn't look any better in the economy. Extending our line of credit then helps us because now we've got plenty of dry powder to go by, whatever we want to buy and hopefully turn those short-term lines back in the long-term lines once we have it on board. We don't have many leases coming due over the next two-plus years. So, we're in great shape there. We have low spending on new tenant improvements. If there is some changes there, we continue to refinance our loans that are coming due. When we do refinance them, we've been getting lower rates, but we also have been putting in a lot of equity over the years to get our debt and equity ratio in line and that's helped us both with lower rates as well as the numbers that people look at in terms of how much we have in debt compared to how much we have in equity. I think of balance sheet today is very strong. I call it battle ready if there is a recession or problem in the economy, but here's what we're doing today. We're intending to continue increasing the common stock market capitalization in order to increase the trading volume and it will give the institutional investors who want to buy a lot of stock, the ability to do that. I've been saying this for the last probably a decade that it's institutional investors that we need to have more in our stock. As was mentioned, we're about 53% now and these have been smaller institutions. We still haven't hit the really big institutions except with our preferred stock. As you'll see where we're trading now, the increase in our institutional shareholders is clear working. The institutional buyers gradually being able to buy a large number of shares and that pushes up the stock price. The inclusion in the REIT index last year was certainly a big help for us and we've consistently built our assets and equity base over the last five years. With this growth, we hope to see the buyers come into the stock and that would hopefully help increase the price and our cost of capital. So, we can buy more buildings at lower rates. Bob and Mike continue to be out there active in the marketplace telling people the story and I think we've come through on that. We're raising more preferred stock. We have the Series D to 7% yield and we have a new webpage and a website at GladstoneCommercial.com that explains all three of the preferred stocks that we have. We cannot redeem the Series D for another four years. So, it's very shareholder friendly and gets you 7% for the next four years for sure. We had some large institutions buying the preferred stock. These are all names that you recognize. So, we're glad that we got them into the preferred stock and our goal is to get them in heavily into the common stock. I think it helps a lot when you get new folks in the stock like DA Davidson who came out with a buy and Janie came out with a buy recommendation in our stock during the quarter. I think they're spot on with a buy rating because we don't see anything that keeps us from growing and getting stronger. We have a promising list of potential quality properties that we're interested in and signed off on two yesterday that hopefully we get those and can move forward and close them out. With the increase in the portfolio of properties, comes greater diversification. We believe these are diversifying our earnings as well as our assets and this can only mean more strength to shareholders in terms of the ability to pay our dividends. Please know that the price today for good buildings and good tenants is very high and the yields are relatively low. So, it takes a lot of effort to find the right situation for us to buy. The economic outlook is extremely strong right now. Much of the industrial base of businesses that rent industrial and office properties like those that we have that remain very steady, very strong, most of them are paying their rent as you all know have terrific credit underwriting group and that is underwriting our tenants and they've been extremely accurate in figuring out what the probability of default is which has been shown to be extremely low. And they have a consistent track record of tenants paying their rent. I think the future is very bright for this company. As we've mentioned so many times, we've never been below 96% occupied since 2003. We only lost one building since during that period of time. So, I'm really optimistic about this company. We'll be fine for the future and I know Bob and I will continue to be cautious in our acquisitions. As we mentioned over and over and through the last recession, which was the second worst in history of the country and I think if the portfolio comes up against that again this time, there's one we'll be just fine. Here's the part I always like to talk about. In July, the Board voted to pay a monthly distribution of $0.125 per common share for October, November and December at an annual run rate of $1.50 per year. This is a very attractive rate and well manage REIT 6.9% is insanely high for such a strong company like ours, and yes, I know you want to increase the distribution. So, do I. I am a very large shareholder and I'll enjoy these dividends. All I can say at this point is that as FFO increases and now that we've pretty much leveled out everything in the portfolio, I think every deal that we close now will certainly push FFO up. It's just getting better. It's not getting any worse and at some point, in time, we're going to have to increase the dividend. We now paid 153 consecutive common stock cash distributions through the recession without cutting them. Began the real estate can be depreciated, so this is a shelter that you get as a common shareholder if you're holding it in your personal name rather than in your hierarchy or some other tax-deferred situation. It's really strong because the capital that is paid out 71% of it is return of capital as opposed to a dividend that comes from income and that means you don't pay tax on that 71%. So, if you get a $1, there is $0.71 of that, that you don't pay any tax on. So, this is an extremely tax-friendly stock and in my opinion, so wonderful one to have in your personal account if you're seeking income. This return of capital is mainly due to the depreciation of the real estate as causes our earnings to remain low after depreciation and that's why you talk about FFO and core FFO because that's adding back the real estate depreciation. I always look at depreciation of a building as a bit of a fix in any way because at the end of the depreciation period, the building is still standing and while it might need some improvements, you're not starting from zero again. So, you've amortized off something that is still standing and still usable. Our own stock is nonretirement. If you own the stock in a nonretirement account as opposed to an IRA, you don't pay any taxes on that and I keep emphasizing that because it's such an important aspect of the stock. Our stock closed on Tuesday at 21.66. Distribution is about a 6.9% yield. Many of the REITs trading in this area are much lower yields, for example they net-net-net REIT index generally trades at about 3.4% yield per dock, per the document that I get from one of the banks. So, if our stock was trading at that yield, the stock would be price and $43. So that's a huge upside that we've got. By the way, the entire REIT industry is only trading at 4.4%. So, if we were trading at that yield, the stock would be $33 per share. So, there's a lot of room for expansion of the stock price based on yield. So, it comes closer to the yields on the average stock price in our category or the industry itself. My guess is that as investors continue to discover and familiarize themselves with our company, we'll see the price of the stock increase and the yield in line with the other REITs. There is simply no reason for this stock to trade at 6.9%. I know the analysts will say, but you're externally managed and we go through this every time. Being externally managed has allowed us to access a team of credit underwriters and folks inside the company to manage this REIT. We have many of the services that are inside our management company that we pay for obviously with the external management fee, but we have to buy those services the way internally managed REITs do. Our high occupancy level is a testament to the access that we have to these credit underwriters, their skills and procedures. We are a REIT that looks first at the tenant and make sure they can pay the rent before we look at anything else. We're also performed an analysis internally looking at the cost to operate this REIT. I don't think it's any higher than any other REIT, whether it's an internally managed or externally managed and as you know we get. As we've gotten bigger, we've adjusted the management fee down to keep it in line with internally managed REITs that are large and our size. I think you've seen that we're very shareholder friendly in terms of what we do for you. We've been for I don't know, long period of now decreasing the leverage or almost every quarter and we've been putting up more equity every time we refinanced the mortgages and that has hurt us in our ability to raise the dividend. But we're near the end of using a lot of equity to lower our debt amount and we're at about a 50-50 level now and that's a really good leverage level for us because the portfolio that we have is so strong and so able to continue to pay its interest. It's dividends as well as the ability to pay the rent. Equity will be used buy properties that will improve earnings. So, we can get a little closer to increasing the dividend. And regarding our debt, I want to make sure all of you know that you're protected for a while. We have 50%, most of it is mortgages that exculpatory and that means that the lender, they don't like what's going on. All he can do is take back the property, is not off to our company. So, we're in a safety feature that stockholders get from some that may have all of their financials put together. The good news here is we've only had one building that we've had to get back since 2003, again testament to underwriting skills and the strength. Well I'll stop my epistle here and we'll go on and have some questions. So, Glenda if you'll come on tell people how they can ask some questions.

Thank you. [Operator instructions] And our first question comes from the line of Rob Stevenson form Janney. Your line is now open.

Good morning, guys. Bob, can you talk a little bit about what's the size of the acquisition pipeline today. Is it -- historically you guys have been more capital constrained than opportunity constraint. What your opportunity set look like today and given the lower cost of capital today, are you looking more at or harder at industrial assets today, relative to historically?

Sure. Yes. In fact, we are. As I the indicated of the 18 properties we're looking at, seven of them were industrial and of that $95 million that we're talking about being in the letter of intent stage that David said, two of them the Investment Committee approved yesterday to go to best and final on those three of the six in the $95 million are industrial properties and the size I think is important Rob. I think as you and I've talked, we play much better in let's say the $10 million to $20 million range because when we get up into the $30 million to $40 million than the much larger cap companies that we're competing against, do still have a lower cost of capital. But in the $10 million to $20 million it may be up to $25 million. We really can compete well and those six properties are all under $20 million and they're all in our target markets. So, I'm feeling very -- much more comfortable and confident about the opportunity to pursue these in the Midwest a little bit less so in the South and the West markets, but at 18 properties, I really feel very good about the pipeline at this point.

Okay. And then I guess the other question winds up being, it sounds David from your comments that 50% leverage is where we should expect the company to be moving forward and that includes, that 50% to you including the preferred or is that as debt or is equity?

Well, first of all I am going to say that I like debt and leverage much more than my CFO does and I am going to let my CFO answer that question.

Yes. So fair point Rob, because we have A, B and D outstanding, debt to gross assets on the books is about 48% today debt plus pref overgrowth assets is probably about 10 points north of that. Appreciating that some people measure it based on EV, but we don't have while we like to think we're doing the right things and it will show up and be indicative in the stock price. Obviously macro event is going to affect that. So, on a book basis, what we would say is debt to gross, we still think we need to get down from the 48% level in a pragmatic manner to probably three or four points lower than where that would be and to the extent we have the same preferreds outstanding at that point, time that would equate to debt plus preferred over gross to be in the mid-50s.

Okay. Thanks guys.

Next question please.

Thank you. And our next question comes from the line of Barry Oxford from D.A. Davidson. Your line is now open.

Great. Thanks guys. To build on Rob's question, when you're looking at the acquisition pipeline and the location of those assets, what might be some of the newer MSAs that you guys might end up going into?

Well what we've identified 20 markets that we think we really want to be in and those we're really staying in when I look at our pipeline today, if I could go from the South around the West, those assets that we're pursuing are in Miami, they're in the Greenville Spartanburg quarter, which is that industrial corridor between Atlanta and in Charlotte. The research triangle that I-81 in Northeast corridor of Pennsylvania, which I think everybody is familiar with. Philly, as you know, we acquired three assets there recently. We still have a couple that we're pursuing there. Columbus, Ohio, we have in Indianapolis opportunity, Nashville opportunity, Salt Lake City which we really like. We only have two assets there now, but we think that's a great long-term player for us. And I must bring up that one of the assets is at the Mercedes-Benz assembly plant in Alabama. If I had to pick another quote unquote “market” Mercedes-Benz has truly turned that into a new market. They're going to be building a $1 billion battery plant there and so we have one asset there now and we're pursuing another. I would not feel uncomfortable if we had another two or three there because I do believe that's just a great long-term play, but those markets are the ones that we identified in 2013. We still think they're the strongest for us to pursue and really that's where the teams and I take my hats off to them, that they have stayed in those markets and not gravitated to any tertiary markets.

Great. Thanks. Thanks for that color. Looking out when we think about equity, you guys -- we indicated that you guys seem to have ample equity at this particular point, but then you also indicated that want to continue to go to market cap through equity. As we move into 2018, what can we expect? I guess you guys are going to continue to use your ATM, but will that be enough to accomplish what you guys want to accomplish?

Yeah very -- some of that is going to be subject to the size of deals where we want to stall on. Our sweet spot deals $10 million to $25 million can pretty organically be funded through the ATM program, but appreciating inclusive of the ADP three office portfolio where they pick up 72% of the space. When you see $51 million coming that necessitated overnight. So, as we think about going forward and roughly doing plus or minus 50% leverage new acquisitions, I would say probably the majority of it will be taken care of through the ATM program, but it would be reasonable to think that overnight and plus or minus where the size of the deal we just previously did in July would be one to two time a year occurrence based upon how we're trying to grow today and obviously as we get into '19 and out years, that could be larger and larger.

Great. Great. And last question and I'll yield the floor. You indicated in your press release that you got decrease your admin fees in the quarter. Should I think about that more as a one-time event or should I think about that more as a new run rate?

Barry, it's not a $40,000 decline. I would carve that out as more of a one timer, but that type of fluctuation is going to happen plus or minus each way, quarter to quarter, just based upon usage of employees and other things internally.

Great. Thanks, so much guys. I’ll yield.

All right. One more question please.

Thank you. And our next question comes from the line of Laura Engel from Stonegate Capital. Your line is now open.

Good morning. Thank you for all the good detail and information. So, you talked a lot about the industrial segment and your waiting seems to stay fairly similar over the past couple of quarters. As far as looking forward those other two sectors, do you see strong opportunities there as well? Do you think this waiting is going to change significantly all in that coming year?

Can you -- I must have missed something, what's the other two sectors you're talking about besides industrial.

Versus office and retail. You talked a lot about the industrial sector looking forward opportunity, acquisitions you're considering. Do you see the same gross opportunities in those segments as far as keeping similar weight in your portfolio or is there one sector you're focusing on as far as looking forward in the strength of that sector?

Okay. Thank you. Retail, we're not pursuing any retail at all.

Bungy I am the only one that likes retail.

And debt right, retail and debt.

Exactly. So, Bob is go after any more retail. We only have the two drug stores in the portfolio.

I think right now we're at 60-40 office versus industrial and what we're trying to do now is shift that to get it closer to 50-50 and because of our lower cost of capital, we are -- we are more successful in identifying properties that work and having spent some time in Phoenix and Salt Lake City recently and a couple of other markets, I think if we stay in the 300,000 square feet to 400,000 square feet and lower -- and smaller size then we can compete. We're not to be buying in the five's or the four's, buy we can buy in the six's and we think there are opportunities there. So, the deals that we're pursuing right now, allow us to do that, but they are the smaller deals. They're not the large distribution facilities, which really, I would not be too excited about getting a 750 million to 1 million square-foot deal and at the end of the lease term who really has a leverage. So, we're going to stay under 500 for the most part in those markets and I think we can compete.

Okay. Okay. And my other questions have been answered. So, I appreciate it and I'll get back in the queue.

Thank you.

Okay. Glenda, anybody else?

[Operator instructions] And our next question comes from the line of John Massocca from Ladenburg Thalmann. Your line is now open.

Good morning, everyone.

Good morning, John.

So just looking at your property operating expense ticked up in the quarter, was that a result of one of the assets you bought or the vacant in Northern Massachusetts. Just any color you can give on that would be great.

I believe we can give you a specific answer, but I believe it relates directly to a gross lease that we acquired and therefore we're getting paid up above in the rent in a gross lease but we identify the operating expenses below. So, the net return is really the same. Unfortunately, even though we're in the net lease business, we're finding that a lot of properties we're acquiring had either extend stops or base years and of course we carve out that operating expense to clearly identify it since we have to manage the property for some of those. So, I believe that's the majority of the issue, correct me Mike if I am wrong.

Yeah, I think it's just trends and the types of properties we're acquiring John. It's less triple net stuff that we're getting a look at. So, the three-building office portfolio in Orlando had some OpEx within it that we were well aware of from day one. The quarter performed as anticipated and it was priced into the cap rate that we ultimately got on the deal.

Yeah and to just add to that as well, these deals that we were buying, I would say 95% of the time the base year is already baked in like let's say we buy it in 2017 and has a 2016 base year. So, we have no exposure.

Okay. That makes sense. And then if I am going back to that asset in Northern Massachusetts, can you give some more color on what that is? I know you gave some detail on the prospects for your leasing, but what exactly the type of building is it and how plentiful you think that asset is?

It's a flex facility, flex building and as you know flex buildings typically have much higher office buildout and/or assembly than a true distribution building. I think it is going to be a challenge for us. I am just being openly honest that we are always transparent. We do have some prospects for it. The gentleman who is running that for us Andrew White, has been all over the brokers to ensure that we get to see every deal. We've had a number of walk-throughs. We had one buyer who walked away because he wanted to add more parking in it and it just didn't make sense on the site at any more parking. But with 50,000 square foot prospect and two other user buyers, we're hopeful that we can get this one taken care of in the next probably three to six months.

Understand. And lastly, it's not that kind of -- obviously you get a very limited lease roll next couple of years, but the two leases that are expiring in 2018, any color you can give on like timing and what those assets are, we appreciate it?

Well, one of them is an 8000-square foot lease in our Indianapolis multitenant buildings. It's an 8,000-square foot lease. It's going to be the end of January. I think the tenant will be moving out. So, we'll have to release that. The other one is a Sara Lee, a property in our Arlington property. It's an industrial building and we have already in escrowed two agreements on that deal, one of which would be a 10-year lease renewal or a sale of the property during the first quarter. So, we're pretty much taken care of four 2018 right now. We already renewed the 150,000-square foot South Hadley lease. So that one is taking care of. So '18 is pretty light and what I like about it is that the CapEx is going to be very, very low from a re-tenanting standpoint next year.

Makes sense. Thank you very much. That's it for me.

Thank you. Next question.

[Operator instructions] And I am showing no further question over the phone lines at this time. I would like to turn the call back over to David Gladstone for closing remarks.

All right. Thank you, Glenda. It was a nice meeting and a heck of a quarter and we think this quarter is going to be another strong quarter. I'll talk to you next quarter at the end of this call.

Ladies and gentlemen, thank you for your participation in today's conference call. This does conclude the program and you may now disconnect. Everyone have a great day.