Gladstone Commercial Corporation (GOOD) Q3 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Gladstone Commercial Corporation Third Quarter Earnings Ended 9/30/2018 Earnings Conference Call and Webcast. [Operator Instructions] And I would like to introduce today's conference call to Mr. David Gladstone. You may begin, sir.

Thank you, Kevin, nice introduction. Thank you all for calling in. We really enjoy these times we have with you on the phone and wish that were more of them. Please come visit us if you ever in the Washington DC area, we are located in the suburb called McLean, Virginia, just outside of Washington DC. You will see a great team at work at least some of them are here, many of them are on the road, so that's 66 of us now. We'll now hear from Michael LiCalsi. He is our General Counsel and Secretary and Michael is also the President of Gladstone Administration which serves as the administrator to all the public funds that we manage here. Michael, go ahead.

Thanks Dave, and good morning. Today’s report may include forward-looking statements under the Securities Act of 1933 and the Securities Exchange Act of 1934, including those regarding our future performance and these forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. Many factors 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 listed in our Forms 10-Q, 10-K and other documents that we file with the SEC. Those can be found on the Investor Relations page of our website, www.gladstonecommercial.com or on the SEC's website, which is www.sec.gov. Now we undertake no obligation to publicly update or revise any of these forward-looking statements whether as a result of new information, future events or otherwise, except as required by law. And today we will discuss FFO, which is funds from operations. Now 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 on property, plus depreciation and amortization of real estate assets. We will also discuss core FFO, which is generally FFO adjusted for certain other non-recurring revenues and expenses, and we believe this is a better indication of our operating results and allows better comparability of our period-over-period performance. Please take the opportunity to visit our website, once again gladstonecommercial.com. Sign up for e-mail notification service. You can also find us on Facebook, the keyword there is The Gladstone Companies and we are also on Twitter handle, and that is @gladstonecomps. Today's call is an overview of our results so we ask that you review our press release and Form 10-Q both issued yesterday for more detailed information. Again those can be found on the Investor Relations' page of our website. And now, I'll turn the presentation back over to Gladstone Commercial's President, Bob Cutlip.

Thank you, Michael. Good morning, everyone. During the third quarter through October we acquired a 157,000 square foot industrial property for $8.5 million in Columbus, Ohio, acquired two industrial properties totaling 218,000 square feet for $21.3 million in Detroit under a single of REIT transaction. We’re currently in due diligence to acquire 26,000 square foot industrial facility in the Philadelphia submarket. We’re expanding our tenants parking facility in Springfield, Missouri are currently under contract to sell our non-core 150,000 square foot asset in South Hadley Massachusetts, renewed a tenant whose leases scheduled to expire in 2020 and participated in a non-deal road show in St. Louis, and Mike and I will be in San Francisco next week at the REITworld and have over 15 meetings I think at this point. This July of 2017 we witnessed significant activity across our investment, asset management and capital raising functions. These events are noteworthy and they include the following: we've invested $161 million in 10 property acquisitions during this timeframe at an average cap rate over the term of over 8%. These acquisitions were in our target growth markets and 65% of this acquisition volume is with rated, investment grade tenants or tenants with investment-grade parent companies. We exited three non-core properties as part of our capital recycling program, completed the lease up of an industrial property in Raleigh and an office property in Houston, renewed extended or expanded the leases of four tenants at a gap rental rate per square foot increase of 8.1%, recast, expanded and extended our revolver and term loan at lower costs and refinanced over $30 million of maturing mortgages at lower leverage and lower interest rates. We expect each of these items to have positive impacts on our FFO per share, cash available for distribution, capital availability and leverage. One can also conclude that every team member across all of our functions were contributors to these achievements. As noted on our second quarter call, we've been focused on improving our financial metrics since 2013 during a period of 23 lease expirations and over $210 million of mortgage maturities. This activity has required considerable personnel resources, as well as significant amounts of equity capital to fund tenant improvements, leasing commissions, the operating expenses on vacant space, and to lower our leverage. The good news is that our occupancy remained high throughout this period. We lowered our leverage from 63% to below 47%, and we improved our cash payout ratio year-over-year. We're able to improve upon that payout ratio and maintain $1.50 to $1.54 FFO per share because we acquired accretive assets each and every year while improving the credit profile of the balance sheet through significant deleveraging. The characteristics of those investments and the capital structure enhancements validate the strength of our growth trajectory, balance sheet security, and really are worthy of some note. Since 2012, the average annual acquisition volume has been approximately $110 million with lease terms ranging from seven to 10 plus years with annual lease rate escalations and the average GAAP cap rate on these assets is currently 8.7%. These characteristics equate to increasing cash flow year after year. We’re also approaching the time period of which these leases cash rents will be exceeding the straight-line GAAP rents as the seven to 10 year leases are at or are approaching the inflection point from a straight line rent perspective. This should continue to improve the payout ratio to the benefit of shareholders, and our working capital position. Looking at the third quarter of 2018 as compared to the same quarter of 2017, same-store GAAP rents increased by 0.3% whereas cash basis same-store rent increased by approximately 2%. Our investment and asset management activities continue to generate positive momentum for our operations. We acquired 157,000 square foot industrial property in the Columbus, Ohio market for $8.5 million. The going in and GAAP cap rates are estimated at 7.6% and 9.2% respectively and the remaining lease term is 15 years. We also acquired two industrial properties in Detroit for $21.3 million. The two properties total 218,000 square feet with unexpired lease terms of 10 years and the going in and GAAP cap rates are estimated at 7.5% and 8% respectively. We acquired these buildings under an up REIT format and issued operating partnership units or OP units for the equity component of the transaction. This is our first OP unit deal and provides us with further optimism that we may do more of these efficiently in the future, thereby also providing some incremental value and attractiveness to prospective sellers of real estate. We're also expanding our Springfield, Missouri parking facility by about 160 spaces increasing the parking ratio to 10 spaces per thousand. Our tenant is relocating over 100 people to our facility in a consolidation move, and we believe this is solidifying their commitment to our property and of course we're increasing the rental income with the expanded spaces. From an asset management perspective, we have begun renewal discussions with tenants whose leases are expiring in 2020. To that end, we renewed our 60,000 square foot office tenant in Hickory, North Carolina through March of 2025. The lease had been scheduled to expire in March of 2020. The tenant improvement allowance is $6 per square foot which is significantly below what I believe is typical for single-story office properties. The GAAP rents increased by 5.6% and we provided no free rent in this transaction. Market conditions are worthy of some comment. The first six months of the year witnessed reduced listing opportunities compared to 2017 as reported and communicated to our team by our national broker relationships. And national research firms reported investment sales volume was lower for the first half of 2018 versus 2017 for individual property sales and net lease asset sales. And we believe there is an apparent buyer seller disconnect in several markets. Green Street Advisors, the noted real estate advisory and research firm suggested that nominal cap rates in most property types except for maybe industrial appear to be moving up slowly. In our experience with mortgage debt reflects that long-term interest rates have risen approximately 50 to 75 basis points over the past 12 months. Now with that information in mind, significant capital as we all know is available on the sidelines with considerable interest in U.S. real estate. And the expectations are for 2018 investment sales volume to be similar to that of 2017 which is really still quite healthy for the industry. Our team will continue to monitor market conditions and actively investigate the creative opportunities that will promote our measure growth strategy. Before I address our current pipeline and the opportunities we are pursuing, a few comments about our operating characteristics through year-end 2019 which helps set the stage for our execution strategy. We have no lease expirations for the balance of this year and we are currently 99% occupied. For 2019, we have only 3.3% of forecasted rents expiring, an approximately 55% of those expirations are at 12/31/2019. In addition, our loan maturities for both 2018 and 2019 averaged just $24 million per year which is a very manageable level. Therefore, we should have stable and growing cash flow on our same-store properties and our capital should be available for pursuing growth of our portfolio. As it relates to growth opportunities and our strategy, we have noted an increase in activity and sales listings as of late. Our current pipeline of acquisition candidates exceeds $300 million in volume representing 18 properties, 11 of which are industrial. Of this total $49 million is either in the Letter Of Intent or due diligence stage and the balance is under initial review. We’re making a conscious effort to increase our industrial allocation. With the heated competition for larger properties, our focus is in fully developed industrial parks. And these are locations which have been really designated as the last mile by the e-commerce industry. The properties we seek are 50,000 to 300,000 square feet in size, 24 to 28 foot clear heights in the warehouse, ample trailer parking and occupied by middle-market non-rated tenants. A tenant profile which we believe we can underwrite with our proven credit underwriting capabilities. The larger properties with higher clear heights, larger trailer parking capabilities we think are really trading well above replacement cost in many markets. And we don't believe that this is an appropriate strategy for us. Our year-to-date acquisitions confirmed our focus on this strategy as the sizes range from 74,000 square feet to 157,000 square feet and all were in developed submarkets of our targeted locations. GAAP rates range from 7.6% to 9.2% so very accretive for our shareholders. So in summary, our third quarter and last 12 months continued our acquisition and leasing success, extended our credit facility, refinanced maturing loans and positioned us well to pursue growth opportunities. Now let’s turn it over to Mike for report on the financial results.

Thank you, Bob good morning. I’ll start by reviewing our operating results for the third quarter and first nine months of 2018. All per share numbers I reference are based on fully diluted weighted average common shares. FFO and core FFO available to common stockholders were $0.40 per share for the third quarter. On a core FFO basis, this equates to $0.02 additional per share as compared to the third quarter of 2017, which is over a 5% increase. For the nine months ended September 30 FFO and core FFO available to common stockholders were $1.21 per share. On a core FFO basis, this equates to $0.07 additional per share as compared to the first nine months of 2017, which is a 6.5% increase. This performance demonstrates the accretive, yet prudent growth that the company has completed in 2017 and 2018, as well as the performance of the in-place portfolio. As Bob mentioned, core FFO hovered in the $1.50 to $1.54 range for the past few years as we delever the balance sheet and address these rollover. The first nine months of the year have demonstrated the highest core FFO per share number in the history of the company. With no near term meaningful lease expirations and only fractional deleveraging to do, we’re excited about the prospects of continuing to increase earnings going forward. Our third quarter results reflect an increase in total operating revenues to 26.6 million as compared to total operating expenses of 17.4 million for the period. Now, let’s take a look at our debt activity and capital structure. We continue to enhance our strong balance sheet as we grow our assets and focus on decreasing our leverage. We have reduced our debt to gross assets by over 10% to 46.6% since the beginning of 2016 through refinancing, maturing debt and financing new acquisitions at lower leverage levels. We expect to continue to gradually decrease our leverage over the next 18 to 24 months. As we have discussed this with analysts, investors and lenders, we believe this will put us at the proper leverage level going forward long-term. We continue to primarily use long-term mortgage debt to make acquisitions. As we grow through disciplined investments, we’ll also look to expand our unsecured property pool with additional high-quality assets. Over time, we expect this to increase our financing alternatives. As we continue to manage our balance sheet, we have repaid $85 million of debt over the past 24 months, often with new long-term variable rate mortgages at interest rates equal to the one month LIBOR plus a spread ranging from 2.5% to 2.75%. We have placed interest rate caps on all new variable rate loans. We also added some of these properties to our unencumbered pool under our line of credit whether in advance of permanent debt placement, disposition or in an effort to provide more flexibility in the future by increasing the size of our total unencumbered assets. In order to improve our balance sheet, we have often put additional equity into the refinance properties. As previously discussed, this has helped to significantly reduce leverage and generally enabled us to obtain improved interest rates on our mortgages thereby reducing the related interest expense by an excess of $1.2 million annually. Looking at the debt profile, 2018 loan maturities are very manageable with only $7.9 million coming due after extending the maturing dates on one loan from 2018 to 2020 and a second loan from 2018 to 2019 during the quarter. Further, we have less than $45 million of mortgages maturing in any single year until 2022. We’ve continued to proactively manage and improve our liquidity and maturity profile over time. Depending on several factors, including the tenant’s credit, property type, location, terms of lease, leverage and the amount and term of the loan, we’re generally seeing all-in rates on refinances and new acquisition debt ranging from the mid to high 4% to the low 5% range. We continue to minimize our exposure to rising interest rates, with 94% of our existing debt being fixed rate or hedged to fix through interest rate swaps and caps. We have remained somewhat active in issuing our common stock using our ATM programs. During the third quarter and net of issuance costs, we raised $6.6 million through common stock sales. While we continue to view the ATM as an extremely efficient way to raise equity, we entered the year with significant liquidity and continually keep our assessment of the relative value of our common stock as compared to trading prices in mind as we determine when to raise capital. As Bob mentioned, we did complete our first up REIT transaction yesterday. We issued 743,000 OP units at a price of $18.59 per unit which was determined by using the average closing share price over the prior 10 trading days. This deal continues our strategic pursuit of high quality real estate with credit tenants and deleveraging through the unit issuance at minimal expense to the company. As of today, we have $2 million in cash and $55 million of availability on our line of credit. With our current availability and access to our ATM programs, we believe that we have significant incremental flexibility to fund our current operations, properties we are underwriting and any known upcoming improvements at our properties. We encourage you to also review our quarterly financial supplement which is posted on our website. This provides more detailed financial and portfolio information for the quarter. We feel good about executing our business plan during the remainder of 2018 and into 2019 as we continue to increase our high-quality asset base and improve our metrics including core FFO and leverage. We're focused on maintaining our high occupancy with strong credit and real estate with minimal and near-term lease expirations along with manageable loan maturities, our deployment of capital will be heavily focused on high-quality real estate acquisitions with strong credit tenants. Institutional ownership of our stocks has increased by 15% since the beginning of 2016 to over 55% as of September 30. Bob and I have been active in meeting with current and potential institutional investors, portfolio managers, investment banks and the like. We 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 its next chapter. Now, I'll turn it back to David.

Okay, very good report, Mike and good one from Bob Cutlip and Michael LiCalsi, very nice quarter, everything is clicking right along, and meaningful increase in earnings. And the main news report here through October is that we acquired industrial properties and one property in Columbus, Ohio. We acquired two industrial properties in Detroit, Michigan under a single up REIT transaction that was after quarter end. But in this quarter - that new quarter we’re in this should be a nontax transaction to the seller which is very, very strong opportunity for sellers to sell their property and end up owning shares of our stock and not having to pay taxes until they sell the stock. We’re currently under contract to acquire another industrial property in Philadelphia submarkets hoping that one will close soon. We're expanding our tenant parking facility in Springfield, we do that a lot for our tenants and renewed the tenant who was leasing, whose schedule was to expire in 2020, we got that one way ahead of time because they want to make sure they're in the building. There are some pundits that are saying that many of the banks and financial institutions are financing real estate with very, very cheap credit and they think some banks are going to be in trouble. I don’t think any of our banks have any worries since inception in 2003. This REIT has only given back one property to the lender and none of our other lenders have lost any money to my knowledge. In the last recession we made every payment to our banks and this REIT did not stop or cut its monthly cash distributions to stockholders during that recession. We have not lowered our dividend since inception in 2003 and that's quite a success story I think. So if there is another recession, I don't expect we would be in trouble at all. We’re in a good position today, we don’t have any leases coming due for the rest of 2018 and less than 4% in 2019. So we expect low risk, low spending on new tenant improvements. We continue to refinance loans that are coming due and we do so at the rates that are generally lower or similar to the rates that we had on the property so those have come along very nicely as well. From time to time we do raise more preferred stock in our series D which has a 7% yield. We have a new webpage on our site at www.gladstonecommercial.com and that explains that all our series are preferred stock so you can go there and experience the preferred stocks and get some good information. We had some large institutions buying the preferred stock in the past, so if you have an interest in our company I think that will continue to make institutions come in. I think we are about 50% owned by institutions now. We continue to have a promising list of potential quality properties that we’re interested on acquiring some of that will happen during the fourth quarter of 2018, and going into 2019. We’ll increase the portfolio of properties and with that comes greater diversification and much better earnings as well. Much of the industrial base that's out there and the office base that’s out there, that rent industrial and office properties like the ones that we have remain steady. Most of them are paying their rents and all of ours are as you know we have a terrific credit underwriting group that underwrites our tenants and considering the track record of our tenants paying their rent, I think the future is bright for us. In this strong underwriting that we have inside the company it kept the company more than 96% occupied since 2003 but a little at 99% as of today. And while I’m optimistic that our company will be fine in the future I know Bob and his team will continue to be cautious in their acquisitions as they done in years past. In October, the board voted to maintain the monthly distribution at $12.5 per common share for October, November and December of this year as an annual run rate of $1.50. This is very attractive rate for well-managed REIT like ours, which we believe is an excellent investment for individuals that want monthly income. And yes I know you want us to increase the distributions and Bob is promising that he is going to do it. We just don’t have a date certain today, but we argue about it a lot inside this company. All I can say at this point is that as FFO increases and you heard Mike talk about the FFO, some small increase in dividends has to occur. We can't keep the money and reinvest it we need to start increasing the dividend now that we have inflation. I think we are very close to that point, that’s been demonstrated during the first nine months of this year and as we go forward. We've now paid 165 consecutive common stock cash distributions and we went through the recession without cutting our distribution. And I think it's - even though people said we were highly leveraged with this wonderful track record, I don't think we’re highly leveraged and certainly not today, but back in the day when we were putting a lot of new ones on their there were people who felt we were overleveraged and as it turns out, we didn't have any problems with leverage during the recession. Because real estate can be depreciated, we are able to shelter the income that’s coming into the company. The return on capital was 60% of common stock paid out in 2017, so this is a very tax friendly stock in my opinion a good one to hold in your personal accounts that's seeking income because so much of it is covered by the depreciation shield and you’re not to pay tax on that. This is a return of capital when we shelter it like that and it's caused earnings to remain very low after depreciation and that's why we talk about funds from operation, or FFO or core FFO because this is adding back the real estate depreciation to get the cash flow. Depreciation of a building as you all know is a fiction sense at the end of the depreciation period building still standing and if you own stock in a non-retirement account as opposed to having an IRA or retirement plan, you don't pay any taxes on that part that sheltered by the depreciation as its considered a return of capital. However, the return of capital does reduce your cost basis and the stock which may result in a larger capital gain tax when you do sell it. Stock closed yesterday at $18.81 it was up $0.20 a share yesterday the distribution yield on the stock is about 8%, many of the REITs that are like us are trading at much lower yields this recent downdraft in the equity market has created a great time to buy some stock specially our stock. The net, net, net REITs that are generally traded at about 5% or 6% yield so far stock was in that range it will be $27 a share. So as we get larger, as lot of room for the price to expand and the yield to go down. My guess is that investors continue to discover and familiarize themselves with our company we’ll see the price of stock increase and bring the yield in line with the other REITs. There is simply no reason this REIT to trade at such a high yield 8%, think about that 8% most of it covered by depreciation. So with low lease turnover forecast and good opportunities out there again just an excellent stock to own. The analysts always beat me up and I always say but you're externally managed to however being externally managed allows us to access a team of credit underwriters like I mean that's really unlike any internally managed REIT. High occupancy level is a testament to the access we have to the credit underwriting. We are REIT that looks first at the tenant to make sure they can pay and their rent, but most REITs look first to the real estate. So we're looking at both, but we pay a lot of attention to our tenants. A study out from KeyBanc that shows that G&A of REITs is about 181 REITs that they look at, we’re certainly not the highest of the internally managed REITs and not the lowest somewhere in the middle being externally managed should not make a difference to anyone. So I tell you to challenge anybody who says that externally managed REITs are bad most of the REITs that are out there are internally managed, but there is more and more that are externally managed. And the entire mutual fund industry has been externally managed for decades and decades and there is only a few of these mutual funds with employees like our REIT. Our REIT runs like a mutual fund and it works just fine. We’ve been - every time we go out to refinance our properties we’re deleveraging. We've been putting up more equity when we refinance our mortgages, but we're near the end of doing that, we need to take that equity and put it into new transactions and increase our dividend. Our current leverage level is I think conservative some people would say it's a little high, but it's strong we're in good position. So recording our debt, I want to make sure that everyone knows that the mortgages we have or what they call exculpatory and this just means the lender only looks at the property they are financing and not our company so just another safety fixture to mention here. Well we have some questions I'm sure from our shareholders and some analysts drive there. So, if our, operator would please come on and let's take some questions.

[Operator Instructions] Our first question comes from Rob Stevenson with Janney.

You talked a little bit about how you're thinking about financing the 49 million of acquisition under contract plus the pipeline beyond that. Are any of these deals likely to be OP unit deals and then given the debt capacity that Mike highlighted, can you meet the equity requirements that you - want to do under the ATM or you’re going need a debt more into more preferred or a wider market at equity offering?

I’ll speak to the equity piece of it Rob I think we’re pretty much comfortable based upon the progression of these deals and seeing them coming on the calendar. To the extent we’re successful and actually closing them. We will be able to source the equity piece of it by the ATM program. Obviously we would hope that there - our performance over the first nine months of the year will put some pressure on the dividend yield. So we can even further efficiently issue the equity, but I have no real thought based upon the date that I have to raise the requisite capital.

And from an operating unit standpoint partnership units we are in conversation with people, but it’s in the - really the initial review stage Rob, so I wouldn't count on those in the near term anyhow.

And then what was the cap rate on the third quarter and then the stuff that you got in the fourth quarter acquisition life?

The third quarter was - the GAAP cap rate was 9.2 going in with 7.6, and the fourth quarter going in with 7.5 and a GAAP cap rate is 8.

And then how do you guys thinking about dispositions in the portfolio today. I mean is there much less than the portfolio it doesn’t fit longer-term that you want to monetize and use and slip around for industrial or even some office acquisitions?

Mike and I have gone through this and talking with our regional leaders, I think that we will still probably be exiting anywhere from 12 million to maybe 15 million or 20 million a year. And it will be in those that we can immediately redeploy into those target markets with primarily an emphasis on the industrial. If I had to say what type of properties they would be, they would probably be single-story office properties, because as I think we all know single story office properties from a releasing standpoint, tenant improvements are much higher and they're much more difficult to release then let's say the multistory floor-plate type property. So if we have an emphasis Rob it would be in that type of property.

And then David I appreciate your comments on the dividend but what is the board really looking at to evaluate an increase here. I mean given that you guys are paying already an 8% yield, I wouldn’t expect it to be anything major, but even sort of a token increase even if it's just a penny on an annual basis sort of bumping from 150 to 151, get you back to being a dividend growler probably positively impacts the stock price. Probably also makes the stock more attractive from an OP unit standpoint with people who are selling assets and so what metrics are you guys looking out at the board level to determine whether or not there will be even a small dividend increase in the near term?

Yes, the way I think about it and I think the Board's on the same wave length, is that we want to stay ahead of inflation. There haven't been in inflation to speak up over the last five years. So as a result there wasn't this desire to move the dividend as strong as it is today. With inflation coming along, we want to be better than a bond fund that doesn't raise its dividend and so as a result, we'll have to start tracking and looking at inflation and saying to ourselves, next year we're going to have to pay X in order to be ahead of inflation. And that's the way we look at it. And I think you should expect us to do nominal to begin with just to keep it going ahead of inflation and then hopefully we have some good news to announce as we go forward and we can bump it up little faster. But that's the goal.

Our next question comes from Barry Oxford of D.A. Davidson.

You guys indicated that your interest rate has moved up for debt kind of going forward into the high 4s to little 5s. If we're looking in acquisitions in 2019 and cap rate stay relatively steady, I mean is that going to chip in to your profitability or your accretion on acquisitions are not necessarily?

I think not necessarily and the reason I'm saying that is Barry, we are now seeing deals coming back in fact one of the deals that's in the Letter Of Intent stage that we're pursuing right now fell out of escrow because the intent of the seller was not achieved because I think that the buyer prospect recognized that's gone up a little bit. So our emphasis is as I indicated on the industrial side are going to be in the smaller properties that we're going to still be able to maintain our margin over our cost of capital. I mean when you look at what we bought in the third and the beginning of the fourth quarter, those are still very accretive at the 4.5% to 5% mortgage debt size. So, I still feel comfortable that we're going to be able to find these deals, they're not going to be the 500,000 to 700,000 square foot industrial deals, they're going to be the - what I call the bread-and-butter 50,000 to maybe 200,000 square foot properties where we're seeing them in Columbus, we're seeing them in parts of North Denver, in Indianapolis, Philadelphia. So I think that's where we place our emphasis and that's where we will be buying.

If you take that type of approach would it be fair to say that; look, our 2019 acquisition volume may be less than $100 million because we're just not going to be able to run as fast or again not necessarily?

No, I don't think so. I really don't. I mean when you see what's going on with the last mile and we've been pursuing a number of let's say properties that are in that smaller size. A lot of those tenants are middle market non-rated tenants. So those cap rates are going to be higher than let's say the investment grade. And we play in that envelope extremely well. And so I don't think we'll be below 100. I really don't unless the market just completely tanks next year, I think we're really moving into a very opportunistic position for the Company, our leverage is down, our payout ratio is now becoming really as David indicated close to us raising the dividend. So our free cash flow is going to start taking place and I feel very confident that we're going to be able to find and secure industrial and office properties that will give us our margin above our cost of capital.

And Barry as interest rates go up, it has to depress the price that anyone can pay for properties. There aren't that many people around that buy properties with no debt in all equity. I mean, some of the big transactions go down that way when foreign money comes in from China or Europe but in the smaller end - and what I'd like to emphasize here is that we're in middle market companies and this middle market - the middle market in the United States is the third largest economy in the world. There are literally thousands of small businesses, they all need places to work. So, as a result there's opportunity there, and I don't think anybody plays that marketplace any better than we do. In all of our funds our BDCs, our REIT is all oriented toward the middle market. We just have to put more deals on the books than most other people because they are smaller transactions. But this place now runs like on oil piece of machinery. It's really quite easy for us to put deals together and close them.

Right, I just worry about the lag between the increase in the interest rate and then sellers adjusting their prices. I agree with you that eventually the two are going to be correlated and for lack of a better word the margins that you get on your acquisitions are going to be there but I just worry about kind of an air pocket if you will?

There is an air pocket by the air pocket - everybody's already gotten the first shot. Things have moved up by at least 1% so everybody had to decrease their prices pretty quick, if they wanted it to sell. And as Bob mentioned, we're watching deals fall out of bed because the people get to the closing table and they realize their mortgage is going to be much higher price than they had originally thought, and they just walk away from the deal. So I think the opportunity is for us. People know we close, we lock up things before we get ready to close. So we're in good shape today.

Barry a lot of that is just flushed out during the first nine months of the year. I mean, the rise in the 10 year from 2.4 to north of 3 happened in a very accelerated fashion. So that pocket of air you're speaking to, I think a lot of that we would ascribe to call it the last six to eight months. And I think that would be indicative to what you've seen from a pipeline and closing perspective with our net lease peers.

Our next question comes from Craig Kucera with B. Riley FBR.

I believe this summer you guys were working on a large up REIT transaction out West maybe close to $100 million, is that still part of the $300 million pipeline?

No, it is not, it is not. That has gone silent. We are looking at another opportunity in the West but I think the one that was identified that is not part of the $300 million. The $300 million really is - if you take the number of properties we have, they range anywhere from let's say $5 million to maybe $22 million is the range of the size of the individual transactions we're pursuing.

And when you mentioned the Springfield expansion, do you have a sense of your expected ROI on that incremental investment?

I'll tell you what, I know it is north of 8 but I do not have the specific number on that. But we can - Mike and I can get that to you.

It's roughly $800,000 project. 8 to 8.5.

And you mentioned that you had another property in Philadelphia. Can you give us some metrics as far as kind of going in yield and cap rate - I may have missed this but what the dollar value of that property was?

It very small, it's only 26,000 square feet. It is a sale leaseback, it is going to probably trade - I'm not going to give you the exact because I don't want my competition to know that as well but it's going to trade in the mid-to-high 7s and is a middle market company too.

[Operator Instructions] Our next question comes from John Massocca with Ladenburg Thalmann.

So on the acquisition front, you kind of mentioned that you're looking for kind of the smaller boxes on the industrial side. Who are you competing for these assets, the mostly private players or are you running into other REITs when you kind of underwrite and look to buy these assets?

Mostly private players, although we could run into the likes of Stag because they're very well run operation because we could run into them, we can run into [indiscernible] occasionally but they really are little bit higher in volume for most of their transactions. So it's mostly private players. We are seeing - what's interesting is we are seeing even some of the foreign monies who are run by general partners, operating partners here in the United States move into some of this area as well but is mostly private.

And you guys because they're chasing higher percentage of the higher yield because - higher bigger quality assets have kind of seen a cap rate compress so much or do you just think it's so much money flowing in industrial it has to go?

No, I think it's what you just said. The yields are a bit higher there's no doubt about it.

And then looking at kind of the existing portfolio, I know you have no leases expiring 2018, but as you look at 2019/2020 what portion of these leases roughly are office versus industrial?

We're looking, trying to figure that out really quick. Sorry, I don't have it off the top of my head.

No worries, you can give me offline.

I'll get that information to you though John. I'm not going to represent something that I'm not have the accurate now on.

No worries.

It was an office property if you know.

And then - sorry to mention, just one more detail question. The 200 extended, what was the interest rate on those?

The loans remain constant in terms of their rate, John. They both had extension options where we paid I think less than 10 basis points on each in terms of fee. I believe they were in the mid to high 4s.

Sorry, I wasn't showing any further questions. I'd like to turn it back to David for closing remarks.

All right. Thank you all for listening and we appreciate all those good questions, and we'll see you next quarter at the end of this meeting.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect and have a wonderful day.