Greetings. Welcome to Gladstone Commercial's First Quarter Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. . Please note this conference is being recorded. At this time, I'll now turn the conference over to Mr. David Gladstone, Chief Executive Officer. Mr. Gladstone, you may begin.

Okay. Thank you, Rob. Nice introduction and thanks to all of you for calling in this morning. We always enjoy this time with you on the phone, and wish there is more time to talk with you. Bob Cutlip, President will be along in a few minutes. But first we're going to hear from Michael LiCalsi. He's our General Counsel and Secretary to give us a legal and regulatory matters concerning this report. Michael?

Yes, thanks David, and good morning everybody. 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. And 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 and you can find all of these on our website at www.gladstonecommercial.com, specifically on the Investors page. You could always go to the SEC's website as well and that's 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. Now today we will discuss FFO, and that's 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 on property plus depreciation and amortization of real estate assets. We'll also discuss FFO as adjusted for comparability and core FFO, which are generally FFO adjusted for certain other non-recurring revenues and expenses and that we believe these metrics are a better indication of our operating results and allow better comparability of our period-over-period performance. Now please take the opportunity to visit our website once again that's gladstonecommercial.com; sign up for our e-mail notification service. You can also find us on Facebook, keyword there is The Gladstone Companies and our Twitter handle is @GladstoneComps. And today's call is always an overview of our results, so we ask that you review our press release and Form 10-Q both issued yesterday for more information. Again, find them on the Investors page of our website. Now with that. I'll hand the baton to Gladstone Commercial's President, Bob Cutlip. Bob?

Thanks Mike. Good morning everyone. Among our activities through the first quarter and subsequent period ended April 30, we acquired 180 square foot distribution property in Findlay, Ohio for $11 million, collected 98% of cash based rents during the first quarter. No amounts have been abated throughout the pandemic, extended the lease at our 69,000 square foot office facility in Wichita, Kansas through 2027, expanded our tenant into the entire 123,000 square foot industrial facility in Raleigh, North Carolina, and extended their lease through 2032, replaced the tenant in our 189,000 square foot Denver industrial facility with a full building tenant and extended the lease through 2026 experiencing no downtime, expanded the term loan in our credit facility by $65 million to $225 million.

Thank you Bob, and good morning everyone. I'll start by reviewing our operating results for the first quarter of 2021. All per share numbers, I reference are based on fully diluted weighted average common shares. FFO and core FFO available to common shareholders were $0.40 and $0.42 per share for the quarter respectively. FFO and core FFO available to common shareholders during the first quarter of 2020 were $0.39 and $0.40 per share, respectively. The increase demonstrates the accretive yet prudent growth of the company as well as the performance of the in-place portfolio. In addition, our same-store cash rent grew at 1.4%, over the first quarter of 2021. Our first quarter results reflect stable total operating revenues of $34.7 million with operating expense of $26.9 million, as compared to operating revenues of $33.6 million and operating expense of $24.1 million for the same period in 2020.

Okay. Thank you, Gary. That was a good one, that's a good one from Bob and Michael. The team has performed very well. We have not been hurt much by the various government reactions to the coronavirus and this is just a very nice quarter. We heard a lot today about the number of new transactions and new leases and quarterly things that are going on. Bob has reported that he and his team have collected 98% of the cash base rents due during the first quarter. They acquired one industrial asset. They exceeded -- they executed six lease transactions during the period and represented about $3.3 million of annualized straight-line rent. So they're moving right along and they also added $65 million term loan with $15 million delayed draw component. That's a nice piece of financing force. And finally, they sold two core non-assets -- non-core assets in Champaign, Illinois and Rancho Cordova in California. The commercial team is growing the real estate we own at a really good pace. And the team is doing a great job managing properties that we own, especially during this time of the pandemic, where lots of unknowns were out there. Our team, the strong professionals will continue to pursue potential quality properties on list of acquisitions that they are reviewing. Our acquisition team is seeking strong credit tenants. The quality of the tenants and the real estate make excellent investments and our asset managers are actively managing the properties that the company owns. The middle market businesses, like many of our tenants, is being challenged with government restrictions related to the virus, but our team is paying their -- collecting their rents or committing to pay us and pass deferred rents in the coming months. These times that have never been seen before, but we have a first-class team that's doing a fantastic job. And since most of our properties are financed with long-term fixed rate, we are not fearing the inflation that people keep writing about in the Internet. So I'm going to stop now and see who we've got that might want to ask a few questions of us. Operator, would you come back on please?

Thank you. Mr. Gladstone. At this time we’ll be conducting a question-and-answer session. Our first question is coming from the line of Gaurav Mehta with National Securities. Please proceed with your questions.

Thanks. Good morning.

Good morning, Gaurav.

Good morning. First question on your acquisition. Bob, I was wondering if you could maybe talk about your target acquisition for the year. I think on the last call you talked about expecting to acquire $130 million to $140 million of acquisitions this year. Are you sort of guys -- are you guys still expecting to acquire that?

Well, as I indicated, we're seeing a pickup in the activity. The inflation, that everybody is concerned about, may slow things down. But I still believe with right now -- right now when I'm thinking about where we are at this point, we've got like 30 -- about $34 million that's in either due diligence or letter of intent and those letter of intents have been executed. So we'll be moving forward on those transactions. So if we look at that and what we have in the pipeline, I still believe that we should be in the $110 million to $130 million this year. I really do. I think that the activity has been picking up for us. And I do believe that, in these secondary growth markets we are seeing more opportunities. Cap rates are compressing as we all know even in these secondary markets, but we're able to compete I think and I think we'll be successful.

Second question on your lease expirations for 2021, can you talk about where the expiring rents are compared to market?

The current rents are at market with the exception of an asset that's in Salt Lake City, which is a little bit above market, but not by much. And I can get you the specifics on that Gaurav, so that you have the actuals for your analysis.

Great. And lastly on Austin, I think on the last call you talked about maybe you guys consider selling that property. Is there any thought on putting that asset for sale given that that asset hasn't been driven over a year now?

Are you talking about the Austin asset?

Yes.

Yes. What we're doing, it's interesting. With Austin opening up, we're now starting to get a lot more foot traffic at the building. We have three tours that are scheduled for this week. But definitely, Buzz Cooper who's leading our effort there. If we can see an opportunity to sell the asset and it makes sense so that we can redeploy that capital into an industrial portfolio quite quickly, we will do that. There's no doubt about it.

Okay. Thank you. That’s all I have.

Okay. Next question, please?

The next question comes from the line of Rob Stevenson with Janney.

Good morning, guys. Just a follow-up on the Austin asset. At this point, if you guys were to come up with a lease for that property in the near future is the expectation that cash rents wouldn't start really until 2022 at this point given the free rent component and any time that you would need to make any tenant improvements required in the lease?

Yes. Probably what they're looking at right now is, anywhere from a half to a single month per year. And we believe that the transactions that are going to take place there are going to be somewhere between seven and 10 years. So -- and it also depends on the rental rate. The one thing that we have going for us Rob, is that we are way under market. And so we can attract someone at a lower rental rate, which in fact would probably either lower the tenant improvements or lower the concession requirements because we know what's going on in the market and if those competitors are at 24 -- let's say $22 to $24, $25 and we can do a really good deal at $20 or $19 and be really plus up on our core FFO, I think we'll get much better let's say overall capital improvement costs as well as lease other lease concessions.

Okay. And then given your capital raising and cash position, what's the acquisition capacity you have today the so-called dry powder available to close acquisitions?

Right now, we have $11 million in cash and about $18.3 million of availability on our credit facility.

Okay. Perfect. Okay. And then if you guys start to hit on more of that $280 million pipeline, Bob, you accelerate dispositions look to raise more capital? How are you thinking about that?

David and I, I think are going to talk about it, but I would not be averse to us doing a follow-on. I'm going to let David chat about that as well. It's going to depend an awful lot on what's going on in inflation and how that impacts our stock price as we go forward. David you want to add to that?

Well, I think Rob knows most of the people out there that would be delighted to do an underwriting for us. So we don't have any reason to believe that they would run away if we wanted to do it. We are looking and have already started selling non-traded preferred stock in commercial. And so I think that will -- it should be a lot. We do about $1 million to $2 million a week in that program. And Gladstone land as you probably know has done a lot in that area. And so we're moving commercial into that position as well. So we should get some good money coming in on that one. I don't know. I think the ATM program is not generating nearly as much as we would like and I think we just need to work that a little harder with some of the people that are selling in there. But as you know, we've got plenty of people that want to step up and do another preferred for us or more importantly sell some common stock at this range.

How are you guys thinking about the incremental level of preferred that you can put into the cap structure without getting overly weighted in that manner? Because obviously, with the common still yielding seven and the preferred yielding lower than that, it's attractive from a pricing standpoint. But is that -- otherwise you do face constraints of going on the level of some of the guys that are 80% preferred, right?

Rob, we're not going to 80% preferred, don't worry about that. One of the things that we work with is our bankers, they don't like us doing too much preferred and we work with them on coming up with a reasonable amount. And so we don't have any number. We're going to see how it sells and how it works out there in the marketplace and what are the alternatives we have. I would like to see us get the ATM program really rocking along and selling common stock right now. It just hasn't happened and I don't know why the marketplace is so sluggish for that.

Okay. And then last one for me. Anecdotally, how much of your acquisition and dispositions over the last few years have been with counterparties that you guys would classify as 1031 buyers or sellers that might behave differently if the 1031 rules are changed. Is that a big part of your acquisition disposition pipelines over the last few years? Is it minor? How would you guys classify that?

I think it's minor. I don't think some of these larger transactions would have made it to the 1031 stage. But who knows, we also have the ability and have done several times, people looking for 1031 have accepted our transaction of giving them UPREIT shares which turn into stock -- common stock and in place of their -- whatever they're selling. So, we've done that a few times. I think there are going to be some more out there. It gets them out from under the -- what's going on in the national government to raise taxes. And so I think we'll make out a little better this year than we have in prior periods simply because of the desire to do a tax-free transaction.

Okay.

To reinforce what David is saying two of the assets that we're investigating right now moving towards letter of intent would be, in fact, UPREIT transactions and we expect to see and David wants us to push more of those, which we will do as we go forward because we think it's going to be an opportunity for us and for the sellers.

Okay. Thanks guys. Appreciate the time.

Okay. Next question please.

Next question is coming from the line of Brian Hollenden with Aegis Capital.

Good morning and thanks for taking my call.

Good morning.

You alluded to it, but can you talk a little bit more about what you are seeing on the inflation front and how maybe incremental inflation might affect your company, your customers, and potential acquisitions?

Yes. Inflation is out there. There's nothing you can say that would diminish my belief that we are in an inflationary period today. Given the price of copper and lumber and all of the other commodities out there that have gone up pretty dramatically and steel -- what was it, 10% this weekend. It was a huge move. So, we know inflation is there. The Fed is doing its dandiest to keep rates low and inflation low, but they can't withstand movements in the marketplace. So, we'll see how it comes out. I think what will happen to us because we are so -- every time we buy something with a 10-year rental market, we put another mortgage on there for 10 years. So, these inflationary periods usually last about two or three years and then they change. If you want to see what really happened in that period of time, go back and look at the Jimmy Carter administration. When Ford lost to Jimmy and he jacked up the amount of things that they were going to do with money, we got a good inflationary movement. And, of course, when Reagan came in, he stopped the spending dance and things. There was a slight recession and then things sort of leveled off. So, I think for us because we're so well-capitalized with long-term, if inflation really hit hard during the next year -- this year and next year, we're well-positioned to absorb what they throw at us. We may have to slow down on what we can buy because the debt marketplace may go away from us. But I think we're in pretty good shape today and I don't worry about this one. I worry about others in the business who have financed things and believing that they can refinance them at lower rates. And that's probably not going to happen during the next year or two years. So my goal is just to keep us well-financed long-term so that we can outlast any kind of recession or anything that comes right after the inflationary take.

Brian to add to what David just said just from our own, let's say, our own conversations with our peers as well as with our tenants. In speaking with our peers, particularly, those who are in the development business construction pricing has expanded and increased dramatically plus the ability to get product has been -- has really extended their construction timeframes. And I think we're going to see this come into the market and have an impact probably starting the second -- by the second half of this year. And then in talking with manufacturers their raw products are increasing in price. What does that do? That either lowers their margin or requires them to increase the price of their end product, which ultimately is going to result in inflation. There's no doubt about it.

Next question. You have more question?

Thank you.

Next questions. Okay. Operator, how about question number four.

Yes, that's coming from the line of John Massocca with Ladenburg Thalmann.

Good morning.

Good morning, John.

Hi, John.

There's a decent amount of lease termination income in the quarter. Just trying to think is that kind of typical of what we should see maybe for the rest of the year on a quarter-over-quarter basis, or was it just a little elevated? And I guess maybe if it was elevated could you maybe provide some color as to why that was?

I think it was elevated a little bit John because of a couple of things that took place. We had a single-story office property that went vacant in March of 2020 that the strength of our asset management team they came to me and said listen we need to convert this to an industrial property and we lease 60,000 square feet in that property. It started really in April, but it's going to have impact and it's included in those numbers that you see. Plus we also were able in our Denver property to replace an existing tenant and part of that included some accelerated rent. So if I had to guess going forward with us having $4.4 million and quite frankly almost $3 million of that is at the end of December there's going to be a little bit of a trail-off in the leasing activity. We still have a few vacant spaces that have to be filled plus the big one in Austin. But I think it's going to be a little bit less than what we're talking about after this first quarter through and through April 30.

Do you mean in terms of termination income or in terms of kind of just overall leasing activity?

Just overall leasing activity just because we don't have that much to do. We did an 189,000 square foot building in Denver. We did the 60,000 square foot property there in Blaine, Minnesota. So we're -- the team has done a great job in leasing the vacant space as well as renewing and extending existing tenants. We just don't have anything coming that's that large until near the end of the year.

Okay. And then on the disposition front can you remind us how big that bucket of single-story office is that's a potential disposition front can you remind us how big that bucket of single-story office is that's a potential disposition target for you all?

I cannot tell you the exact amount John, but I'll get that to you. The thing is we -- from the fourth quarter through the first quarter of this year, we sold $28 million worth of single-story office product. And the net gain was $6 million. I would think that going forward, I really am not too excited about selling more than maybe $15 million a year. And I would think that probably at least 2/3 of that would be the single-story office.

And I guess the other 1/3 is that just kind of in noncore markets, or is that reverse inquiries? Are you seeing some cap rate compression on some industrial assets?

It's probably going to be exiting noncore markets potentially leaving what are more of our retail properties and disposing of that. And then we have a medical facility in Houston very small that we would probably sell that as well. But it's going to be focused still on really the single-story office properties.

That’s it for me. Thank you all very much.

John and others on the phone when Bob says he'll get you the information, what he'll do is put it on the website under questions and answers, so that everybody who's listening plus anybody else who wants to see that information. I don't think either of the two questions that we're going to answer are going to be so material to move the shares. But I know it places in your models that you like to put those kind of things. So we'll get that to you this week and you can go from there. Operator would you come on and let's have number 5.

At this time, Mr. Gladstone, there are no additional questions.

Well that said we like questions but -- it would be much more fun if we could answer some more questions for you, but since nobody wants to hear from us we'll see you next quarter. Thank you for calling in and that's the end of it.

Thank you everyone. This will conclude today's conference. You may disconnect your lines at this time. Thank you for your participation.