Q3 2022 Broadstone Net Lease Inc Earnings Call
[music].
Hello, and welcome to the broad stay net lease is that core to our 2022, adding his conference call. My name is Jerry and I'll be coordinating your crude today. Please note that today's call is also being recorded.
I will now turn the call over to Mike <unk> Senior Vice President of corporate Finance and Investor Relations at fluid Stein. Please go ahead.
Thank you operator, and thank you everyone for joining us today for broad stone that leases third quarter 2022 earnings call.
On today's call you will hear from our Chief Executive Officer, Chris <unk>, Our Chief Financial Officer, Brian Albano, and our Chief operating Officer, John Marina will be available for Q&A.
Before we begin I would like to remind everyone that the following presentation contains forward looking statements, which are subject to risks and uncertainties that can cause actual results to differ materially due to a variety of factors.
We caution you not to place undue reliance on these forward looking statements and refer you to our SEC filings, including our Form 10-K for the year ended December 31, 2021 for a more detailed discussion of the risk factors that may cause such differences.
Any forward looking statements provided during this conference call are only made as of the date of this call I will now turn the call over to our Chief Executive Officer Christopher Nikki.
Thank you, Mike and good morning, everyone during.
During the third quarter, we continued to carefully navigate the current economic backdrop and dynamic capital markets environment with a keen focus on prudent capital allocation and discipline selectivity.
As we announced in our business update following the completion of the quarter. The P&L portfolio continues to perform well with 100% of base rents collected during Q3 and mineral vacancies.
In addition, we continue to source opportunities to Accretively invest capital during the quarter, despite a challenging market backdrop.
Proactive execution in the capital markets. During the first three quarters of the year has positioned us to close out 2022 on a strong footing delivering another year of consistent same store portfolio performance and accretive external growth both of which have translated into strong earnings growth.
Given heightened levels of economic uncertainty as we approach a new calendar year, we remain focused on prudent capital allocation. During this period of public and private net lease market dislocation.
Conservative balance sheet management disciplined underwriting and proactive portfolio management, our core competencies and they will continue to serve as key pillars to our success as we navigate current and future economic uncertainty.
As of September 32022, all but three of our 790 properties were subject to a lease at our properties were occupied by 218 different commercial finance across 56 industries with no single tenant accounted for more than two 4% of ABR.
As of quarter end, the portfolio's weighted average annual rent escalations of 2% and a weighted average remaining lease term was $10 seven years.
As I've mentioned many times in the past diversification serves as a defensive hedge against any singular tenant credit event.
With some of the lowest levels of tenant concentrations in the net lease space are highly diversified operating model provides us the flexibility to patiently work through any one offs in the matters as we look to preserve and protect long term shareholder value.
For example, following the completion of the third quarter, we successfully released a healthcare property located in Arizona to an experienced top hospital operator under a new 21 year lease with an effective GAAP yield of seven 5% over the course of the term.
At only one 2% of ABR, we were afforded the ability to patiently pursue a positive long term solution without feeling pressure to backfill the asset as quickly as possible.
We appreciate that net lease investing is not a zero loss business and when occasionally taking calculated risks situations can arise that require a carefully crafted solution.
Our industry, leading diversification continues to provide risk mitigating benefits. It allows us to patiently pursue the best outcome for our shareholders. During these one off situations.
On an external growth fund, we invested approximately $205 million and 28 properties at a weighted average initial cash cap rate of six 5% during the third quarter.
The leases for new acquisitions include a strong weighted average lease term of approximately 21 years and solid 2% annual rent escalations translating into a weighted average GAAP cap rate of seven 9%.
These investments were predominantly weighted towards industrial opportunities at 86% of the quarter's volume with the remaining investment activity spanning restaurants at 6% health care at 5% and retail at 3%.
Proactive capital markets execution year to date has allowed us to lock in our cost of capital that supports accretive spread investing in the current environment.
We remain focused on selectively deploying our dry powder on accretive investment opportunities in our pipeline.
Since quarter end, we've closed an additional $283 million of transactions and currently have $22 million of acquisitions under control, which redefined as having an executed contract or letter of intent.
With approximately $902 million of acquisitions, either closed or under control year to date, we are reaffirming our 2022 full year acquisition guidance range of $900 million to $1 billion, which we previously revised upward in our business update in early October .
This revised acquisition guidance range reflects our cautious external growth outlook for the remainder of the fourth quarter given the volatility in the capital markets and resulting pressure on investment spreads given prevailing market cap rates.
While we recognize that the current capital market environment requires us to be highly selective in the near term I am proud of all that we've accomplished thus far in 2022, and where we are tracking to end the year from an external growth perspective.
Changes in cost of capital for all public Reits without a commensurate adjustment in private asset values has forced many to take a more measured approach in the near term.
We like many of our peers will continue to focus on prudent capital allocation during this period.
Public and private market dislocation.
We believe our broadly diversified by box provides us a unique opportunity to allocate capital to property types, where cap rates have or will continue to expand a more accelerated pace due to sector specific supply and demand characteristics.
I'm encouraged by the cap rate expansion, which we're currently seeing in our pipeline and expect to see further movement in the near term as seller pricing expectations reset in the wake of changes in buyer cost of capital.
Before passing the call Brian I wanted to take a few moments to provide additional detail on several transactions completed during and subsequent to the third quarter.
During Q3, we acquired 19 industrial properties in three separate transactions for $175 million.
The leases include weighted average annual rent escalations of two 1% and a weighted average 22 year lease term.
In addition, we invested revenue generating capex and one industrial property during the quarter at an initial yield of eight 1%.
Largest acquisition completed during Q3 was 11 property sale and leaseback transaction with a well established heading into the food production and distribution space.
We continue to remain bullish on the space given its resiliency during challenging economic environment and we're pleased to grow our exposure with the acquisition of this high quality portfolio.
In addition, following the completion of the quarter, we successfully closed our largest sale and leaseback transaction BNS history, we acquired seven assets as part of the directly sourced transaction with a food manufacturer that has a very strong operating history, we continue to see compelling opportunities in the industrial space as many leverage buyers remained on the sideline in light of rising debt cost.
Finally during the quarter, we continued to play a granular investments across both non discretionary retail and restaurants basis. These.
These transactions accounted for approximately $19 4 million with an average asset size of $2 8 million. We continue to view. These smaller often one off investments as an effective complement to our largest sourcing efforts with.
With that I'll now turn the call over to Ryan.
Thank you, Chris and good morning, everyone.
I am pleased to report another quarter of earnings and provide additional details with regard to our capital markets execution during the quarter and balance sheet positioning as we approach year end.
As Chris stated in his opening remarks inflation rising interest rates and resulting capital markets volatility has placed pressure on cost of capital for all publicly traded Reits.
Year to date.
Taking an opportunistic approach to raising both debt and equity via many of the capital market's tools available to us.
Approach has allowed us to proactively lock in an attractive cost of capital that complements our evolving pipeline of acquisition opportunities.
As we highlighted during our call last quarter, we entered into two new unsecured bank term loans in August , including a $200 million five year term loan that matures in 2027, and the $300 million seven year term loan that matures in 2029.
We currently have no major debt maturities until 2020.
Given the current conditions in the investment grade bond market I am pleased with the decision to extend our maturity profile at attractive relative pricing, we were able to achieve during the summer.
In addition, we entered into interest rate swaps with a total notional value of $260 million to fix the sulfur component.
Borrowing rate at a weighted average fixed interest rate of 259% until August of 2029.
The addition of these interest rates swaps, our unsecured bank term loans remain entirely hedged.
During the third quarter, we Opportunistically raised net proceeds of $23 million on our ATM at a weighted average sale price of $21 44.
There was approximately $145 $4 million of capacity remaining on our ATM as of quarter end.
In addition, we completed it.
Public offering of 13 million shares of common stock at a price of $21 35 per share in August .
As of September 32022.
Anticipate that forward sale agreement will provide net proceeds of approximately $277 million, resulting in pro forma net debt to annualized adjusted EBITDA of four eight times.
We have not settled any part of the.
Agreement as of quarter end this.
This opportunistic approach to capital raise has provided the dry powder to fuel accretive acquisitions during the second half of the year and positions us for disciplined growth in the near term.
We remain committed to maintaining a conservative leverage profile with ample liquidity, especially given the current macroeconomic uncertainty.
As of quarter end, we had approximately $1 $1 billion of liquidity, which includes $76 million of cash on hand $780 million of availability.
On our revolver.
And approximately $271 million of outstanding forward equity.
Now turning to our financial results during the quarter, we generated <unk> of $63 4 million or <unk> 35 per share, which represents approximately six 1% growth over per share results from the same period last year.
<unk> per share was flat quarter over quarter, when compared to Q2, which is largely driven by revenue generated from Q2 acquisitions offset by a full quarter share count waiting for equity raised during late Q2.
Although 92, 5% of our total debt outstanding.
Fixed rising rates at cost pressure in the form of increased interest expense on a revolving line of credit.
During the quarter silver increased 136 basis points.
We expect late Q3, and early Q4 acquisitions will serve as a tailwind to earnings in the final quarter of the year.
We incurred $9 9 million of total general and administrative expenses during Q3, which includes $8 $4 million of cash expenses, keeping us on track to fall within SG&A guidance range.
For fiscal year 'twenty two.
We are reaffirming our <unk> guidance range of $1 38 to $1 40 per diluted share.
Which represents an implied growth rate of six 1% at the midpoint over our 2021 results of $1 31 per share.
This guidance range is based on the following key assumptions, which remains unchanged since our October 4th press release.
Acquisition volume between $900 million and $1 billion disposition volume between $50 million and $75 million in total cash G&A between $31 million $33 million.
As a reminder, our per share results for the year are sensitive to both the timing and amount of acquisition disposition and capital markets activity that occurred throughout the year.
At our board meeting held on October 27, our directors declared a <unk> 27, and a half cent dividend per common share and op unit. This represents a one 9% increase over the October dividend.
We will continue to evaluate additional future increases to our dividend with our board on a quarterly basis with that I'll turn it back over to Chris for closing remarks.
Thank you Ryan Tunis P&L is immensely proud of all that has been accomplished this year on behalf of our shareholders. We continue to believe that our portfolio is purposefully constructed highly diversified and comprised of tenants that are positioned to perform during difficult economic conditions, we remain thoughtful and capital allocation division. During this period of dislocation between private and public market valuations.
And seek to position ourselves favorably as cap rates continue to evolve in the coming quarters.
Operator, we can now open the line for questions.
Thank you we will now start today's Q&A session. If you would like to ask a question. Please press star followed by one on your telephone keypad now if you change your mind. Please press star followed by chain.
Your question. Please ensure your phone is on mute.
First question today is probably been Kim from Geri. Please go ahead.
Thanks, Good morning.
Could you talk about the new operator for the Santa Cruz Hospital.
Maybe some color on the economics of the deal versus what it was previously.
And.
Is there any type of mechanism where.
This new operator.
Might need a loan from you guys I'm not sure what kind of cash reserve they have coming in to operate this hospital. Thank you.
Sure Kevin happy to talk about the new operator.
The operator as a group.
Management team that has had deep experience in hospital turnarounds and reboots, they've had 40% to 50 years in the space collectively together.
And is one that we're.
Obviously very excited about and think that they're going to do some really great things at the property. They currently are operating one hospital out of California, We expect they'll have another one of their portfolio by the end of the year and a view towards.
Adding <unk>.
Several more in the coming years as well.
They are not private equity back Theyre private capital and private investors, who have been through this before.
They were very excited about.
Being able to step in Santa Cruz and be able to.
Take the property and begin to.
Deliver services to the community again.
So that's a general background. They are based in the Arizona area. So Thats also another key positive and one that.
As a positive for us as well Ryan you want talk about the economics associated with lease.
Be clear.
The lease.
<unk> did not have any ti associated with it from us or anything along those lines and they are actually actively looking at.
Essentially reconfiguring the facility to get more capacity out of it and I'm thinking about that through their own dollars not through ours got it sure Hi, Kevin.
In terms of the new lease and some specifics around it to your last question. We don't expect to provide any loan to them in terms of ramp up time, we were very careful and thoughtful in our structuring of the new lease.
And youll see that as I sort of lay out the specifics so the new lease is.
A 21 year lease with an effective GAAP yield of seven 5% over the lease term.
From a specific perspective.
We have a period of free rent that is variable in duration, that's built into the lease the timing of that is dependent on.
The new entities ability to re license the hospital and achieve Medicare enrollment.
That period could be up to a year or through <unk>.
<unk> of next year or shorter just depending on that timeframe.
After that period, there is a period of scaling rent as they begin to scale operations that would run assume that they use that full run period it would run full.
Full free rent period, it would run from September of 2023 through the end of 2024.
And the rent with scale and increased three times over that period.
Eventually achieving what we consider to be stabilized rent.
Beginning January 2025.
Which would represent a six 7% yield on our initial investments or 90% of the prior rent from there it would escalate annually at 2% and that resulted in the overall effective yield over the life of the lease of seven 5% that I referenced earlier.
Okay great.
And are there when you look at your tenant.
Tenant list are there any other operators that might.
A similar situation or what's on your watch list in general.
Sure.
And credit watch list today Kevin.
Is comprised of a handful of names I'd say, none of them are thematic their individual tenant names within that the Santa Cruz facility, which we will obviously keep on the watch list and continue to monitor as they go through their ramp period makes up the bulk of it.
Most of the other.
Matters are simply the spoke to things that have been on the watch list for a long time and don't have any.
Any specifics tied to you referenced Santa Cruz.
But.
Those tenants on the watch list due to a rise up to the point of being over 1% of rent or are you kind of smaller situations.
Situations.
They're all very small situations of two three kind of.
And again, a handful of tenants so relatively small.
They've continued to pay rent and we continue to monitor them for the long term.
Okay. Thank you.
Okay.
Our next question comes from Chris Lucas from capital One Securities. Your line is now open.
Hey, good morning, guys.
Chris just a couple of follow ups on the hospital situation.
Was it did it contribute anything to third quarter in terms of cash rent.
So we had when we went and structured this Chris we had.
Placed in letter of credit and part of the initial transaction when we thought about the risk profile of this relative to.
Our more traditional hospital system.
It was one of the key components that.
We thought about it from a structuring perspective, so we ended up having a one year letter of credit that was put in place at the time of the transaction.
When the tenant had some stumbles in the first quarter, we switched them to cash basis accounting and.
And ultimately wrote off the accrued rental income and then.
Towards the end of the second quarter, we drew on the letter of credit and then we had the third quarter coming through as three three quarters were covered by the letter of credit and then the remainder is ours to keep and will ultimately come through as other income during the fourth quarter.
Beliefs remained in place for the entire time, which is a key component, especially because of the new operator wanted to acquire the entity to be able to.
Actuate and obtain the medical records, the <unk> and all of the equipment in the facility. So.
At least maintained through that time period, and then ultimately the new police kicked in just after the quarter it was over.
Okay. I guess one follow up question is just on as it relates to different lines of business one of the.
Sort of painful processes that still remains is the inability for many businesses to find workers and wage inflation, how is that impacting your perspective on underwriting various lines of business.
Yes, that's a great question, Chris I think.
That was obviously a pain point for Santa Cruz to be perfectly honest I was one of the things that was a struggle for them over the winter months was having the right level of staffing.
I think to your question.
Impacts tenants that operate in lower margin space is more than anything.
So we haven't done as much over the last few quarters in the restaurant retail space and Theres, obviously been a little bit of a lower margin business. There I think thats certainly something that if we were to do future acquisitions and in the coming quarters, one that we'd be paying close attention to and trying to think through the cost and impact of labor on an individual tenants.
Margins, there and then for us on the industrial side.
That comes up during most investment committees as well.
Relative to labor sourcing labor availability.
For some of those specific tenants that were underwriting there the margins are a little bit wider than they've been able to absorb more of.
Costs associated with higher labor, but it's fundamental in every.
Component in every transaction we're looking at.
It probably shows through most of those.
Lower margin businesses, such as the restaurant and retail space.
Okay, and then just you mentioned industrial.
I think when we met back in June .
Talked about the fact with industrial.
GAAP rates gapping out as it related to a single tenant longer duration leases you guys executed on that in the third quarter.
Second quarter and third quarter.
Have you seen the cap rate gapped out further or has it stalled it sort of.
Levels that <unk> been executing on.
Here over the last several months.
Sure I'll, let John do it but I just I would continue on your theme that we've executed on in the fourth quarter as well with the food processing facilities, we've done as well, so, but John can take that and jumped Sir Hey, Chris.
Youre exactly right Thats, the place where we've seen the most cap rate expansion. It certainly hasnt stalled I don't know if its moving at the same momentum as it was when <unk> first started to move but you certainly are seeing that reflected in the.
The focus of our acquisitions in Q2, Q3, and as Chris indicated in Q4 as well.
I think really goes to highlight the benefit of our strategy, where we do have a broader aperture of the most multiclass diversified acquisition strategy that allows us to pivot very quickly in markets like this to.
To focus on the place where we see the best opportunity on a risk adjusted basis and Thats been industrial for us since Q1 and that will continue to be the focus.
Are you seeing was my last question are you seeing any other lines of business that you have.
Underwritten or invested in.
Show comparable or are starting to show that kind of cap rate adjustments that you saw so quickly with the industrial stuff.
Certainly in sort of non retail and some casual dining restaurants, not really <unk>.
Not enough in terms of the overall volume that we would shift away from the focus that we've had on industrial at this point.
That being said they have to move at this point as we think about the overall macro environment.
When you're facing down in better cost of capital for a whole host of people were starting to hear of a slowing in the 10 31 market, although not at the level that you would see a full drop off in that space.
Rising interest rates looming fears of a recession and everything else, you're just at a point where cap rates have to move.
And so our disciplined and prudent approach to allocating capital allows us to focus on those places where we see the best opportunities, which right now is industrial.
But as those things begin to move since theyre going to have to given everything that's happening we will evaluate them a pace and on a case by case basis and move to allocate to those spaces as they catch up to what's happening elsewhere.
Great. Thank you that's helpful. That's all I had this morning.
Thanks, Chris.
Our next question comes from Ronald Camden from Morgan Stanley . Please go ahead.
Hey, just just hit it just on the hospital just to make sure I understand so.
It sounds like the rents is 90% of previous.
Capital dollars are going into it from your AD.
And the operators sort of sort of those into it which makes sense and then you said some things coming through and <unk> on the other income line can you just.
Clarify what that what that was sorry.
Oh sure. So we had a year's letter of credit run and.
Some of the portion of it during the third quarter in June I believe was applied to.
Rents, while while we were negotiating the transaction and the new operator, and so the residual of that the rest of it.
Is now treated as other income and will be backed out of <unk> next quarter, because it's not non reoccurring.
<unk>.
Okay got it okay makes sense alright.
Just moving on just I wanted to talk a little bit about sort of funding.
I think number one.
Yes, there is the $500 million investment care term loans.
The $260 million that was swapped.
Is the other sort of I guess 240 <unk>.
Also swapped or I guess I'm trying to understand when you say, it's entirely hedged, which what am I missing there.
No I'll, let Brian jump in there.
Sure.
We are entirely swapped out on all of our unsecured term loans at this point.
We think about it as a pool of swaps in a pool of unsecured debt. So as we refinance some of that that there are already existing swaps in place. So the incremental amount. We added was for incremental debt needs that werent already swapped out so upon the completion of that are.
Our unsecured term loans were entirely swapped out.
Got it and where does that put you on a on a fixed rate just ballpark what those swaps factored in.
Yes, so at quarter end our fee.
Fixed rate debt was 92, 5% of total debt.
Got it okay. That's helpful.
And then so on the and then obviously the.
The the forward is I mean, it seems like you guys do a lot of really good transactions and locked in really good rates.
Which should fund most of 'twenty, two because you're sort of thinking about 2003, right and the stock is below 2017.
You gave the 4% to 21 three should.
Should we just expect you guys to stay on the sidelines in 'twenty three until the stock comes back or how are you guys thinking about funding that that business just given.
Obviously really good transactions for 'twenty two.
<unk>.
Incremental transaction, maybe a little bit more tricky right.
Sure Yes.
As we think about 'twenty three.
We're very pleased with the proactive execution on the capital markets front over the last quarter and frankly, the year as a whole.
It really set us up too.
Be able to continue to invest capital and as we think about moving through the fourth quarter.
We have 20 ish million dollars of under control right now so we're moderating a bit as we watched this very dynamic market change with our expectation that cap rates expand.
But we are sitting with.
Decent amount of dry powder to be able to work our way into 2023.
As I think about it at the quarter end, our pro forma leverage with the forward equity agreement.
As to our four eight times, so that certainly gives us some runway at this point to make our way into 2023 and continue to assess the situation.
So would you I mean would you issue equity here.
Perfect for 'twenty, three I guess, what im trying to figure out.
Well, Luckily I don't have to make that decision today, given the runway that we have.
I think where we sit today, that's sort of looking at one variable right. There are a few variables and John highlighted some of it before with cap rates moving and the expectation that they continue to move so it's really a matter of looking at our pipeline of opportunities do we think that.
They are priced appropriately in the market.
And want to execute on them versus where are our share prices other level levers that we think about is our.
Our existing portfolio and positive capital recycling.
Have.
A handful of properties that I think.
We've certainly given a good look at that make more sense than raising incremental equity dollars. Today. However, again happy we don't need to make that decision right.
All right now.
Got it helpful. Thanks, so much.
Our next question comes from micro Goldman from BTG. Your line is now open.
Yes. Thanks, Good morning, Chris I was wondering if you could just go back and I'm, sorry, if I missed it but as you talked about.
The potential for cap rates moving in the market and kind of where youre seeing things trend I was wondering if you could talk about across your different sourcing channels. We've heard some discussions that maybe with <unk>.
Cracks are starting to appear first on the on the merchant builder side of things, but I'm, just wondering with the lending market tightening up or are you starting to see current owners start to move their pricing expectations as well or are you seeing different movements across where the where the sellers are coming from.
Sure I'll start and then John can also jump into since he's on the ground with us.
I'd say, where we are seeing cap rate movement first is probably.
More on the sophisticated owner side as you sort of alluded to folks that recognize that the debt markets for individual.
Transactions are probably not very attractive relative to other options and there might even be negative leverage on certain property types today relative to that and then also an appreciation that the public markets certainly ramp adjusted much faster.
Then the private market is doing but I always think about the lag in cap rates, it's funny this quarter.
This results includes a transaction that we talked about on the call that we picked up in March we closed in July and here, we are talking about it in November and it's in that six 5% blended yield for the quarter. So there is.
Slower recognition.
That.
Cap rates do take a while to flow through but we've been pretty pleased by that.
The movement, we've seen as of late I would say again, the more sophisticated folks have been the ones who have accepted the new reality and understand it.
Probably more than <unk>.
Individual.
More individualized owners on the builder front I don't know maybe John has some specific thoughts there that or it might be helpful. The only other thing I would add I think would be.
One of the benefits of a market like this is.
All the effort that we put into proactive tenant relationship strategy is leading up to it where as our tenants are thinking about funding sources. They are increasingly coming to us to talk.
In a low interest rate environment that sometimes can be more difficult, but now we're in a situation where our tenants are trying to think more creatively theyre not liking the terms that they are seeing potential financing opportunities as theyre looking to continue to expand.
And so that presents us with something that we get really excited about and we've seen a real uptick in it. So in terms of where people are taking advantage of sort of the dislocation in some of the rates that youre seeing out there as well as where they.
There are more open to cap rate expansion those existing relationships.
<unk> tenants those direct deals that's reflective in the large majority of the deals that we close at the end of Q3, beginning of Q4 as well as a growing pipeline of development opportunities with our existing tenants.
Great. That's helpful and then maybe just.
Taking one branch off of your discussion about the lease restructure or the new lease at Santa Cruz, Chris You mentioned kind of right at the top that the new tenant isn't private equity backed.
And I'm just curious if you could speak to within the existing portfolio of kind of what is the percentage of your tenant base that is private equity backed in.
In the market right now assuming you could get there on pricing would you be comfortable doing more private equity backed deals or is that more of a concern with with a potential economic slowdown in 'twenty three.
Sure.
The answer to your first question is its about a third that are <unk> in the portfolio, which has been relatively consistent.
Overtime.
Last couple of years.
I think the answer to your question.
About more or less be deals.
Again, as Ryan sort of alluded to it's a lot of variables go into it.
<unk>.
Certainly and more importantly, as the business line, what business, there and how does that stack up.
Relative to the other defensive opportunities we have in our portfolio. So some of the food processing transactions, we've mentioned today.
One of them has a sponsor behind that.
But given the defensive nature of what they do especially in this economic environment.
It gives us a lot of <unk>.
That the business is going to be very successful during during what is theoretically a more difficult time than if you think about it from there. It's the quality of the management team that's in place.
Obviously capitalization structure and.
Were.
Any of the tenants.
Have from a pending debt maturity profile and then also I think we talked about last time Mike.
Heavy focus on where do we see there their capitalization structure break from a downside perspective, where does the fixed charge coverage get into trouble how much of a sales declined would they need to or margin compression, but they need to.
See before they really got into financing type issues and then finally, it's the quality of the real estate, we're quite here as well so.
I don't think it is.
I know you were to buy and this is buying areas, yes, or no, but I think those are all the things that we look at when assessing not only any tenant but some.
Another private equity backed.
Investment.
Okay, great. Thanks for the time guys.
Thanks, Mike.
Our next question comes from John Kim from BMO Capital markets. Please go ahead.
Thanks, Good morning.
You've already been very active in acquisitions this quarter.
But Chris you've noted the disconnect between transaction market in the capital markets.
Whats the good pace going forward as far as quarterly investment activity.
I think thats a good question John I think.
It's always one that will be variable and we're going to take it.
By quarter, and so you can see a lot of the activity we've closed today.
To date in the fourth quarter closed in October .
Through yesterday, even and so for us from that perspective.
Relative to what's under control at just the $20 million is reflective of a little bit of.
The moderation, we're seeing and thinking that through.
And so for US we're going to continue that.
Thoughtful disciplined pace going into next year I don't know that its.
Completely.
Putting a number on is exactly the way I'd go today, but we certainly have capacity.
Right outlined to continue to grow we're liking the opportunities we're seeing in the market north of a seven cap today, so thats dynamic, but it's going to be a little bit of a wait and see and we'll continue to.
I'll provide more information in February on that front, but would not expect that were going to be out of the transaction market or.
Anything of that nature.
And can you remind us if theres typically seasonality and your acquisition activity I haven't noticed it this year.
Just looking back at.
<unk>.
Could you just say seasonality when you said seasonality John is just to make sure I heard you.
Alright.
Yes, and no I would say this year, we've been far more consistent and we've as we've continued to grow the team and continue to use our diversified strategy we've done a much.
More consistent job of having the similar levels of transaction activity each quarter I would say historically fourth quarter is a busier time when there was certain tax motivated sellers and year end transactions get closed so.
I think from our view, we're we're more far more consistent quarter over quarter, but there can be certain spikes in Q4 that we see.
On the industrial acquisitions. This quarter I think you mentioned the annual escalators at two 1%.
But I was wondering if there were any discussions with the tenant.
Increasing the annual.
Rent increases just given the inflationary environment.
Sure I'll, let John jump in there, yes, I mean, we certainly talk about that on every one of the deals that we look at.
<unk>.
I think one of the places to focus in terms of the 2% sort of weighted average for the portfolio and in the industrial space is for me thinking back about 12 months ago when in the industrial space. We were starting to look at new acquisitions of that one 5% range.
They're getting squeezed really quickly and they moved very quickly almost in line with how we've been thinking about the movement in cap rates over the last 12 months in the industrial space. So we feel very comfortable where we are.
Our tenants continue to focus on overall occupancy costs over the course of a 15 or 20 year lease and so looking at higher than 2% bumps over 15, or 20 year period on a compounded basis starts to be a little difficult from an overall occupancy play. So we feel very comfortable overall in terms of the return that we're receiving on these deal that 2% is a good number.
Yes.
Okay, and then just one follow up on Santa Cruz.
Thank you for all the detail that you've provided.
But for next year, what will be an impact they do have the free rent that you mentioned, but also the letter of credit from the current operator I'm just wondering if that letter of credit expense.
Until next year as that transition.
Okay.
I'll, let Brian give you that.
Sure. So the impact on <unk> next year will really come down to how much of the free period rent is.
Exercise versus not which is dependent on the re licensing and Medicare approval of the hospital that will really drive what it what it will be in terms of the second piece of that question with the letter of credit that will all flush through this year.
The letter of credit in the original lease were tied together and now that there is a new lease in place. The rest just as Brian said flushes through the other income, but won't have an ethical impact.
Got it thank you.
Thanks, John .
There are no further questions at this time, so I'll now hand, you back over to Chris <unk> for closing remarks.
Excellent. Thank you all for your thoughtful questions today again, I'd reiterate how proud of all we've how proud the team is of all that we've accomplished this year on behalf of our shareholders and look forward to seeing everybody at NAREIT in just a week or so we'll talk to you all soon again.
This concludes Boston net lease Inc. Q3, 2020 earnings Conference call you May now disconnect.
Yeah.