Earnings Call Transcript
AGREE REALTY CORP (ADC)
Earnings Call Transcript - ADC Q3 2023
Operator, Operator
Good morning, and welcome to the Agree Realty Third Quarter 2023 Conference Call. Please note, this event is being recorded. I would now like to turn the conference over to Brian Hawthorne, Director of Corporate Finance. Please go ahead, Brian.
Brian Hawthorne, Director of Corporate Finance
Thank you. Good morning, everyone, and thank you for joining us for Agree Realty's Third Quarter 2023 Earnings Call. Before turning the call over to Joey and Peter to discuss our results for the quarter, let me first run through the cautionary language. Please note that during this call, we will make certain statements that may be considered forward-looking under federal securities law. Our actual results may differ significantly from the matters discussed in any forward-looking statements for a number of reasons. Please see yesterday's earnings release and our SEC filings, including our latest annual report on Form 10-K for a discussion of various risks and uncertainties underlying our forward-looking statements. In addition, we discuss non-GAAP financial measures, including core funds from operations or core FFO, adjusted funds from operations or AFFO, and net debt to recurring EBITDA. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP measures can be found in our earnings release, website and SEC filings. I'll now turn the call over to Joey.
Joel Agree, CEO
Thank you, Brian. Good morning, and thank you all for joining us today. I'm pleased to report another quarter of strong performance as we executed our operating strategy in a disciplined manner. We invested in high-quality opportunities across all three external growth platforms while increasing our investment-grade exposure to an all-time high of nearly 69%. Our record investment-grade exposure is emblematic of the strength of our portfolio, which will provide for more durable cash flows in today's environment. Our portfolio is paired with a conservative balance sheet with 4.5x net debt to recurring EBITDA at quarter end and no material debt maturities until 2028. We continued to push cap rates higher during the quarter without sacrificing quality and maintaining our stringent underwriting criteria. Within our targeted sandbox, there continues to be a lack of capitalized competition and our track record of execution makes us the buyer of choice in today's market. We anticipate this dynamic will persist and consequently, cap rates will continue to move higher, albeit slowly and steadily given the large and fragmented nature of the net lease space. We are in an enviable position for the upcoming year. Our fortress balance sheet has no material debt maturity until 2028, avoiding refinancing headwinds. Simultaneously, our best-in-class portfolio with minimal lease maturities provides stable and growing cash flows. Even in the absence of external growth, this will enable us to deliver AFFO, or true cash growth, of over 3% next year on a per share basis. Embedded in this base case is a conservative credit loss amount, inflationary growth in G&A of over 5%, and any outstanding borrowings on the revolver are assumed at the current forward SOFR curve. This base case AFFO growth combined with our current dividend yield sets the stage for high single-digit returns in 2024, even in the absence of additional capital or external growth. As discussed on previous calls, we will continue to avoid going up the risk curve, investing capital only in the country's leading operators with high-quality underlying real estate. While our relationships and acquisition funnel continue to provide a strong pipeline, we will remain disciplined capital allocators to ensure that our risk-adjusted spreads are appropriate and our cap rates are reflective of broader market conditions. This past quarter, we invested approximately $411 million in 98 high-quality retail net lease properties, including the acquisition of 74 assets for $398 million. The properties acquired during the quarter are leased to leading operators in sectors including farm and rural supply, auto parts, tire and auto service, convenience stores, off-price retail, home improvement and warehouse clubs. We executed several sale-leaseback transactions this quarter with our retail partners, including best-in-class operators in the farm and rural supply and convenience store sectors. As mentioned on prior calls, sale-leaseback activity has increased for us this year. It is another example of our ability to be a full-service, comprehensive real estate solution for leading operators. We acquired properties at a weighted average cap rate of 6.9%, a 10-basis point expansion relative to the second quarter and 70 basis points higher than full year 2022. The weighted average lease term was 11.5 years and approximately 73% of annualized base rents are derived from investment-grade retailers. We acquired seven ground leases during the quarter, representing approximately $35 million or 8.2% of total acquisition volume for the quarter. Through the first nine months of the year, we've invested more than $1 billion in 265 retail net lease properties spanning 38 states. Over 73% of the annualized base rent acquired is derived from leading investment-grade operators. These metrics demonstrate our continued focus on leveraging all three external growth platforms to execute on opportunities with best-in-class retailers. Our development in DFP programs continue to see increased activity with a record of over $137 million of capital committed this year. Our team continues to uncover exciting opportunities, and our platform is uniquely situated to provide struggling merchant developers with the ability to lock in funding while providing us with the opportunity to drive superior risk-adjusted returns. We continue to have dialogue with many of our retail partners to find solutions that fit within their store growth strategies. We commenced two new development in DFP projects during the quarter with total anticipated costs of $11 million. Construction continued during the quarter on 14 projects with anticipated costs totaling approximately $56 million. Lastly, we wrapped up construction on eight projects during this past quarter with total costs of approximately $41 million. Moving on to leasing. We executed new leases, extensions or options on over 655,000 square feet of gross leasable area during the third quarter. Notable new leases extensions or options included a 220,000-square-foot Walmart in Wichita, Kansas; 130,000-square-foot Lowe's in North Providence, Rhode Island and a 40,000-square-foot Marshalls & HomeGoods in Napa, California. Through the first nine months of the year, we executed new leases, extensions or options on just over 1.4 million square feet of gross leasable area. We are in an excellent position for the remainder of the year with just eight leases or 30 basis points of annualized base rents maturing. Our best-in-class portfolio now spans 2,084 properties across 49 states, including 217 ground leases representing 11.6% of total annualized base rents. Occupancy for the quarter remained very strong at 99.7%, and again, our investment-grade exposure reached a record of approximately 69%. Before I turn the call over to Peter, I want to congratulate Nicole Witteveen on her promotion to Chief Operating Officer. Nicole has had tremendous accomplishments throughout her career at Agree and her operational prowess makes this promotion very well deserved. Craig Erlich has now stepped into the newly created role of Chief Growth Officer, where he will devote his full focus to our external growth platforms and tenant relations. Lastly, I'm extremely pleased to welcome Ed Eickhoff to our team as Executive Vice President of Asset Management. Ed has nearly 40 years of industry experience, and he will help optimize our asset management platforms. I'll hand the call over to Peter, and then we can open it up for questions.
Peter Coughenour, CFO
Thank you, Joey. Starting with earnings, core FFO per share for the third quarter of $0.99 was 2.1% higher than the same period last year. AFFO per share for the third quarter increased 4.2% year-over-year to $1. In the third quarter, we declared monthly cash dividends of $0.243 per share for July, August and September. This represents a 3.8% year-over-year increase. While raising our dividend twice over the past year, we maintained conservative payout ratios for the third quarter of 74% of core FFO per share and 73% of AFFO per share, respectively. Subsequent to quarter end, we again increased our monthly cash dividend to $0.247 per share for October. The monthly dividend reflects an annualized dividend amount of over $2.96 per share or a 2.9% increase over the annualized dividend amount of $2.88 per share from the fourth quarter of 2022. General and administrative expenses totaled $8.8 million in the third quarter. G&A expense held steady quarter-over-quarter at 6.1% of revenue, adjusted for the noncash amortization of above and below market lease intangibles or 6.5% of unadjusted revenue. For the full year, we still expect G&A to decrease a minimum of 50 basis points to 6% of adjusted revenue or lower. Income tax expense was approximately $709,000 during the third quarter. For the full year, we continue to expect income tax expense to be between $2.5 million and $3.5 million. Moving to our capital markets activities. During the quarter, we sold more than 1.3 million shares of forward equity via our ATM program for net proceeds of approximately $87 million. Including the shares sold in the period, we settled almost 4.3 million shares of forward equity during the quarter at an average price of more than $68 per share, realizing net proceeds of approximately $290 million. We further strengthened our balance sheet during the quarter and demonstrated our ability to access the bank debt market, closing on the previously announced $350 million 5.5-year term loan. Prior to closing the term loan, we entered into $350 million of forward starting swaps to fix SOFR over the 5.5-year period. Including the impact of the swaps, the interest rate on the term loan is fixed at 4.52%. The term loan was a market-leading financing with strong support from our key banking relationships and the 5.5-year term allowed us to extend the maturity into 2029. As Joey mentioned, our debt maturity schedule remains in excellent position with no material maturities until 2028. At quarter end, we had total liquidity of over $957 million, including $951 million of availability on our revolver and more than $6 million of cash on hand. In addition, our revolving credit facility and term loan have accordion options, allowing us to request additional lender commitments of $750 million and $150 million, respectively. As of September 30, our net debt to recurring EBITDA was approximately 4.5x. Our total debt to enterprise value was approximately 28%, while our fixed charge coverage ratio, which includes principal amortization and the preferred dividend, remained in a very healthy position at 5.1x. Lastly, I'm pleased to report that MSCI, a leading provider of ESG indices, upgraded our rating from B to BBB last week. This follows the recent upgrade of our GRESB Public Disclosure score from D to B as well as the gold level recognition from Green Lease Leaders that I discussed on last quarter's call. These achievements demonstrate the significant progress that we've made on our ESG objectives and are a testament to the efforts of our ESG Steering Committee and our outstanding team. With that, I'd like to turn the call back over to Joey.
Joel Agree, CEO
Thank you, Peter. To summarize, we are very well positioned to drive earnings growth and provide a consistent and well-covered growing dividend despite the turbulence we are seeing today in the markets. At this time, operator, we will open it up for questions.
Operator, Operator
The first question today comes from Eric Wolfe with Citi.
Eric Wolfe, Analyst
Just curious what level of acquisitions you have under contract right now for the fourth quarter. And as we think about the remaining portion of your guidance to get to that $300 million for the quarter, what's the investment framework you're going to be using to determine whether it can make sense to keep acquiring.
Joel Agree, CEO
Joey mentioned that it's important to note the change to approximately $1.3 billion in the release. Without providing any guidance, he indicated that the actual amount could range from $1.2 billion to $1.35 billion. He emphasized the need to remain flexible regarding acquisitions this year and suggested that they would monitor the macroeconomic environment closely before making significant decisions about specific acquisitions. He also pointed out that, in the current environment, capital is somewhat precious and that they need to be patient, taking into account that capitalization rates may continue to rise without investing at spreads they believe will improve.
Eric Wolfe, Analyst
Got it. And then you mentioned that you can grow, I guess, AFFO per share more than 3% next year without any acquisitions. Does that include the sort of the full impact of $300 million of acquisitions in the fourth quarter? Or could you get there with just doing the sort of $200 million that you mentioned kind of on that lower end. I'm just trying to understand whether if you did the full $300 million in the fourth quarter or even when above that, it would just be additive to the 3% growth that you mentioned in your remarks.
Joel Agree, CEO
It's truly immaterial on a denominator of the size of ours today, call it, $150 million-ish range in there, embedded in that range is really immaterial in terms of that 3%, which I'll call base case. And just to clarify, that base case is if we do nothing next year. And so we're very confident regardless of the amount of acquisitions that we execute during the fourth quarter that we're going to grow AFFO next year over 3% without doing anything. That's no new capital, that's no new acquisition activity. And so that is, we think, a very strong, base case.
Operator, Operator
Next question comes from Joshua Dennerlein with Bank of America.
Joshua Dennerlein, Analyst
Yes. Joey, last time we spoke at our conference, you were talking about some constructive conversations you were having with retailers on partnering with them, just as they kind of try to hit their store opening goals. Just what's the latest on that?
Joel Agree, CEO
Those conversations continue. We're executing on projects that are both announced and unannounced, but those conversations continue. I think retailers, I would tell you that they are quickly realizing even faster than at your conference that the new store deliveries that they're anticipating from merchant builders and private developers aren't going to come to fruition. And so we're going to be patient and allow these yields or these return on cost plus the cap rates on stabilized assets to come to us here. Obviously, we've seen the activity in the 10-year and that meteoric rise over the past 60 to 90 days. So we're going to maintain patience here and not jump into anything too quickly. And like I said, I think it's going to come to us. Those conversations continue. We're one of the only few viable solutions that they have without just self-developing and putting on their balance sheet if they have those capabilities. And so we'll be ready and willing. But again, for us to pull the trigger, it's got to be appropriate risk-adjusted spreads.
Joshua Dennerlein, Analyst
I appreciate the insight. I'm trying to understand how the dynamics play out. If your team is pulling back, I would assume others might do the same. How do we anticipate that affecting cap rates? Or is there so much capital available that it will take time to see any real impact? What are your thoughts on the overall market dynamics?
Joel Agree, CEO
It's definitely not the case that there's a lack of capital to invest. The 1031 market has declined by over 50% and may soon exceed 70%, while commercial real estate transactions have significantly decreased. We continue to position ourselves as the buyer of choice and have the flexibility to decide when and where to act. Looking back to last fall, we took steps to strengthen our balance sheet to prepare for this year’s market conditions, remaining cautious about capital markets. We anticipated gradual increases in cap rates, which seems to be the typical expectation in the fragmented and illiquid net lease market. There have been differing opinions about a plateau or sharp movements in cap rates, but in a market as large and fragmented as ours, that's unlikely. We expect yields to rise modestly, and we will allocate our capital wisely when those yields increase.
Operator, Operator
The next question comes from Nate Crossett with BNP.
Nathan Crossett, Analyst
The 3% growth for next year, what percent are you assuming for maybe credit loss? And then can you just talk about your Rite Aid exposure? And then are there any other tenant issues we should be aware of?
Joel Agree, CEO
I'll start with the last question regarding our exposure to Rite Aid. We have five Rite Aid properties in our portfolio. Two of these have already been acquired and are subleased to investment-grade tenants. We expect a credit upgrade since one sublease has already been rejected, and we are finalizing a new sublease with a solid investment-grade tenant in place. This will result in an increase in both the lease term and rent, which will rise about 50% compared to the previous Rite Aid rent. Therefore, we currently have three Rite Aids remaining in our portfolio. We have not acquired any Rite Aids since we launched our acquisition platform in 2010. These properties are legacy assets, and none are on the initial rejection list. We feel confident about the real estate and rental amounts if we were to regain these properties. Additionally, we have already received considerable interest from national retailers interested in those spaces. Before I hand it over to Peter for further discussion on the 3% growth scenario, I want to emphasize that this baseline case, as mentioned in my prepared remarks, incorporates inflationary growth in general and administrative expenses, with no new net acquisitions planned for 2024. This serves as our baseline, and I do not expect it to materialize, but now I will let Peter discuss the building blocks related to this forecast.
Peter Coughenour, CFO
Sure. Nate, just to talk through some of the primary drivers of AFFO per share growth being north of 3% next year. First is the impact of rent bumps in the portfolio, which should drive about 1% of growth next year. We typically see about 1% of growth from internal lease escalators in the portfolio. The second driver of growth will be the run rate impact of 2023 acquisitions, which we already talked about. And as which Joey mentioned, have been very accretively financed with the forward equity we raised coming into the year as well as the $350 million term loan that we closed in July at a rate of 4.5%. Lastly, we have free cash flow, which is approaching $100 million annually that we can use either to pay down amounts outstanding on the line or reinvest those proceeds. And so those are the primary drivers of the 3% plus growth in AFFO per share next year. As Joey mentioned, that would be offset by growth in G&A of more than 5% as well as a conservative credit loss number. We've assumed in there 50 basis points. That compares to the credit loss that we realized this year of 10 basis points so far through the first nine months of the year. That's in line with the credit loss that we realized in 2022 of 10 basis points as well, but trends below our longer-term average of 25 basis points in terms of credit loss. And that's a fully loaded credit loss number. So we feel that 50 basis points is very conservative.
Nathan Crossett, Analyst
Okay. That's helpful. And then maybe just one on leverage. If you were to do acquisitions next year, like what's your tolerance to do, like lever up.
Joel Agree, CEO
We have nearly full availability under our $1 billion revolver, excluding the accordion, and our bank debt stands at $350 million. The term loan market is accessible to us, and while the 10-year unsecured market is available, the pricing isn't favorable. As mentioned in the last call, we assess leverage over a full cycle. We have no concerns about exceeding 5x leverage. Currently, we're at 4.5x leverage with ample liquidity and the flexibility to pursue transactions that can drive AFFO growth. Importantly, we will avoid increasing our denominator by investing capital at insignificant spreads. This approach doesn't align with our strategy. Our portfolio is nearing 70% investment grade, with over 11.5% in ground leases, no major debt maturities until 2028, and no refinancing challenges ahead. We will not create self-inflicted issues; instead, we will remain prudent and disciplined during uncertain times, observing the situation and responding accordingly.
Operator, Operator
The next question comes from Haendel St. Juste with Mizuho.
Haendel St. Juste, Analyst
So Joey, I wanted to follow up on your comments about appropriate risk-adjusted spreads that you're looking to underwrite here in the current environment. I guess I'm curious what exactly does that mean? What's the minimum spread you're looking for today in light of your higher cost of capital? And then perhaps dispositions. Will that maybe play a greater role near term in terms of the funding?
Joel Agree, CEO
Certainly, we'll look at dispositions. We have a high-quality portfolio that we can dispose into the 1031 market. I've talked about that historically. It's not the most efficient or time-effective, but we have dispositions that are a potential source for us if we so choose to go down that road. In terms of appropriate spreads, I'd tell you it's really across three external growth platforms, those deviate, right, because duration equals risk there. And then also qualitative aspects. But investing capital, sub 70, 75 basis points without a compelling underlying real estate case for the ability to mark to market doesn't make much sense. And frankly, doesn't move the AFFO or the earnings needle here unless you did such in massive quantities, which isn't appropriate in today's environment.
Haendel St. Juste, Analyst
And a bit more maybe on the hurdle rates, the minimum spread that you'd be looking to invest in today?
Joel Agree, CEO
I want to clarify that we will not be making any acquisitions at this time. It doesn't make sense given the current cost of capital, and I don't see any buyers for properties under 7 outside of those using a 1031 exchange. Regarding our development in PCS platforms, depending on the duration and scope of the project, we anticipate spread ranges of 50 to 150 basis points for acquiring comparable assets within a 70-day timeframe. Each transaction is unique. It's important to note that we are not looking to improve the qualitative aspects of our portfolio; while we won't let it degrade, we're reaching a record level of investment-grade exposure. This doesn’t imply any hint of shadow ratings in that figure. Currently, we don’t have the qualitative improvements available for our portfolio. Therefore, our primary focus is on maintaining quality while also ensuring that the spreads we achieve are suitable, taking into account credit risk, project duration, and the long-term viability of the assets based on real estate fundamentals.
Operator, Operator
The next question comes from Brad Heffern with RBC Capital Markets.
Brad Heffern, Analyst
Joey, you mentioned that you expect cap rates to increase gradually. But if both cap rates and cost of capital stayed sticky at current levels, how would you treat capital deployment? Would it just be free cash flow that you would deploy? Or do you think that you would still have the ability to use debt or something like that to actually have acquisition activity beyond the free cash flow level?
Joel Agree, CEO
Well, I think that situation is very unlikely. After the rise we've seen in the 10-year yield, it will take time for cap rates not to continue to adjust incrementally. If they don't adjust and the 10-year stays in the 4.8% to 5% range, we will need to explore opportunities across all three platforms to achieve the appropriate spread. In the unlikely event that we cannot find any opportunities across those platforms, it will relate back to the base case, which Peter outlined, suggesting over 3% AFFO growth without deleveraging, not investing any capital, and not raising any capital. In that case, I might start taking golf lessons.
Brad Heffern, Analyst
Okay. Fair enough. And then if you do have a big decline in activity overall, where does the first dollar go? Is that largely development activity? Or is it a mix of development and acquisitions?
Joel Agree, CEO
I would assume it's a hybrid. We are observing a variety of activities, and our funnel has never been as broad as it is now. We are encountering various opportunities across all three external growth platforms. The specifics are indeed individual transactions, and when it comes to development or DFP, the key factors are the duration of those projects. We will be disciplined in our capital allocation and will appropriately account for duration risk, whether it's a 120-day retrofit of an existing building or a 1.5-year true ground-up development.
Operator, Operator
The next question comes from R.J. Milligan with Raymond James.
Richard Milligan, Analyst
First, a quick question, just a slight impairment in the third quarter. I'm just curious what drove that $3 million impairment.
Peter Coughenour, CFO
Yes. The impairment that was recorded during the quarter is related to one asset that we're targeting for disposition. The tenant's lease is expiring, and they've opted not to renew that lease.
Richard Milligan, Analyst
Any color as to what industry that tenant is in?
Peter Coughenour, CFO
Yes. The tenant is in the grocery sector.
Richard Milligan, Analyst
Okay. Joey, I want to follow up on the last quarter's conference call. The stock was trading around $64 a share, and you mentioned that ADC wouldn't be issuing equity at those levels. Is that still the case, or what would need to happen for you to consider issuing equity at a price below that or at current levels?
Joel Agree, CEO
Cap rates and returns will need to adjust. Our main focus remains on driving spreads, and we will not venture into higher risk areas. We are not interested in family entertainment, childcare, or car wash sectors, nor will we engage in sale leasebacks with private equity-backed retailers. This is a firm boundary for us. If the market changes and cap rates shift, which we expect, it will happen gradually. We will assess the right spreads and our relative cost of capital before we choose to invest, ensuring it aligns with a beneficial return. Raising capital under the current yields does not support shareholder returns unless we significantly increase our risk level, which we intend to avoid.
Richard Milligan, Analyst
My last question, Joey, you're sort of the second or third net lease REIT to report earnings thus far and give a little bit additional commentary on the transaction market. Just more broadly, sort of outside of ADC, how do you think the transaction volume will trend in the fourth quarter and as we get into next year?
Joel Agree, CEO
It's clearly down significantly. There's no doubt about it. Anyone looking to increase transaction volume or aggressively push forward right now should reconsider their approach, given the current macroeconomic conditions and the interest rate environment.
Operator, Operator
Next question comes from Connor Siversky with Wells Fargo.
Connor Siversky, Analyst
A couple of quick ones for Peter on the term loan. Could you just walk us through the math on the swap again? And then in the event that you were looking at the unsecured market instead of the term loan market, any sense what that rate would have looked like?
Peter Coughenour, CFO
Sure. So to hit on the $350 million term loan that we closed in July, that's an all-in rate, including the swaps that we entered into, fixed at roughly 4.5%. Those swaps were entered into in the mid-3s and then there's a spread on top of that, that gets us to the mid-4s. We also have an accordion option on that for $150 million on that term loan. We could exercise that accordion option today or look to a term loan of a different tenor with pricing likely in the mid-5s today, and we continue to have strong support from our bank group. And the $350 million term loan is the only bank debt that we have outstanding today. And so I think the bank debt market is certainly open for us today. In terms of a public unsecured issuance, 10-year issuance today for us would likely be in the high 6s. And obviously, there's been a significant move in rates since our last call, the 10-year is up about 80 basis points since early August.
Connor Siversky, Analyst
Got it. And then maybe one for Joey. Late in the summer, there was some commentary out there that certain blue-chip retail operations were looking to expand their footprint. I'm just wondering in the context of rising rates since then, if those conversations have died out somewhat and maybe those retailers are reconsidering those expansion plans?
Joel Agree, CEO
Haven't seen any instance of retailers reconsidering their expansion plans. The true challenge is the moat and method which they execute those expansion plans. And that continues to be, as you would anticipate, with the 10-year at 4.9% this morning and SOFR where it is, and the curve where it is and frankly, the regional banks who are typically lending to merchant builders that continues to be the choke point. And so those conversations between us and retailers, the growing retailers or retailers that want to grow, continue. But I'll tell you, every day, they're getting a developer call them and telling them that they need to move up the return profiles because they can't make that historic return work anymore. And so we're seeing a shift, albeit it's slow because of the gradual and fragmented nature of the space, but we're seeing a shift upwards. We'll continue to have dialogue with those retailers and see if we can come to a solution that makes sense for both parties. But I think we're only going to continue to see those trends continue.
Operator, Operator
The next question comes from Ki Bin Kim with Truist.
Ki Bin Kim, Analyst
So the deals you closed on this quarter at a 6.9% cap rate. Obviously, those deals were probably underwritten a couple of months ago at least. When you look at the conversations you're having today, and I realize cap rates can take a while to change, but how much has it changed so far from that 6.9% to today?
Joel Agree, CEO
We expect to print above 7% in Q4. However, volume remains uncertain and will be decided at our discretion. Discussions are ongoing and involve individual sellers, some of whom are still optimistic about previous market conditions, which complicates timely adjustments to cap rates. There are sellers who require immediate liquidity. I foresee that year-end closures will lead some owners to reevaluate their pricing strategies. We continue to observe a wide range of asking cap rates, which is surprising given that many emails still show requested rates in the 4% range while the 10-year is at 4.9%. We anticipate cap rates will continue to rise. Our Q3 transactions averaged 70 days from the letter of intent to closing, and they were funded with equity and debt at varying costs and pricing structures. We will remain patient as it is challenging, if not impossible, to predict the rate of increase for cap rates, which will depend on individual sellers and the overall macroeconomic environment.
Ki Bin Kim, Analyst
And if you had to raise new bank debt, so not on the accordion feature, but just if you had to raise new bank debt, what would that rate be?
Peter Coughenour, CFO
Assuming that we enter into a swap to fix the rate on a term loan, whether that's exercising the accordion on the $350 million term loan in July or entering into a net new term loan, the cost today would be in the mid-5s.
Operator, Operator
The next question comes from Michael Gorman from BTIG.
Michael Gorman, Analyst
Joey, I'm just trying to triangulate, obviously, a lot of conversations about the acquisitions market and the capital markets. As we think about your strategy over the next three months, given what you're seeing in the marketplace today, how are you thinking about your ability to finance versus the pricing that is actually flowing through your deal pipeline, right? So we get to the end of the year, will we see the debt to EBITDA move up towards that 5x? Or are you seeing cap rates where you would also be comfortable issuing on the ATM if you can close enough volume?
Joel Agree, CEO
Again, it's really case-specific for us. I would anticipate that debt to EBITDA, we're sitting at 4.5x, to most likely migrate up nominally. But in terms of issuing capital on the ATM, again, if we saw something that was sizable, notable and it was, frankly, risk-adjusted appropriate that's possible. But I would tell you, I think most likely here, we exhibit patience and discipline.
Michael Gorman, Analyst
Okay. And then maybe just on the retailer side of the buy box. Are you seeing anything in the underlying macro data or in the financing markets for your tenants that's shrinking the targeted retailers or leading you to kind of take some of them off of your target list because of the current environment?
Joel Agree, CEO
Generally, we are continually assessing the retailers in our portfolio, considering their exposure and performance, including their balance sheets and any challenges or refinancing issues they may face. Currently, we are not encountering any difficulties. We primarily focus on some of the largest retailers globally, which usually have strong liquid balance sheets and are predominantly rated as investment grade, or would qualify as such based on risk assessments. Some retailers do not have any debt at all. We are not observing any negative impacts at this time. If there happens to be a significant slowdown in consumer behavior, it could potentially benefit the retailers in our portfolio due to the trade-down effect.
Operator, Operator
The next question comes from Rob Stevenson with Janney.
Robert Stevenson, Analyst
Joey, it looks like you added a few CVSs in the quarter. What has you adding pharmacy given the issues and the store closures going on in that space?
Joel Agree, CEO
The store closures are quite specific. If you look at the major pharmacies like Rite Aid, which is in bankruptcy, and Walgreens, which we have reduced to a minimal part of our portfolio due to ongoing challenges, you can see the trend. CVS store closures mainly involve locations with high occupancy rates and lease expirations. We are targeting and collaborating with our retail partners to focus on low-cost assets, which are low rent per square foot and high-performing stores through strategies like blends and extends or ground leases. Our pharmacy exposure is now minimal, at just 4.4% of our overall portfolio, including the three Rite Aids. Compared to most peers, this is on the lower end. We have refined our pharmacy portfolio to ensure it has a cost structure that can succeed in both an omnichannel and a vertically integrated healthcare environment. We work closely with tenants in the pharmacy sector and have identified high-performing store opportunities that differ significantly from the typical suburban pharmacy rental costs of $350,000 to $400,000 per year, particularly regarding competition.
Robert Stevenson, Analyst
Okay. That's helpful. And then given the commentary on asset pricing and given that you have this grocery box that's soon to be vacated, how much demand is out there in the marketplace to sell vacant assets today? Who's buying those? I mean you've talked about the cap rate inflation on existing performing assets, for nonperforming assets and vacant assets. How is that market? Is that something that's gone south even faster? How should we be thinking about that?
Joel Agree, CEO
It's really case-specific. The one asset that Peter mentioned in the grocery space, which we took an impairment on, was a small format, rural grocery store acquired several years ago in the grocer's hometown. Closing that store was quite rare for them and has caused some disruption in the community. However, they have a second store in the area that they believe is more viable moving forward. When it comes to pricing for vacant spaces, it varies widely based on demographics, transactional activity, and the specifics of that micro submarket, as well as the fungibility of the space. We always emphasize that, ideally, if we experience a vacancy, we want a versatile space that has strong demand potential for future uses. If you have a large format vacant box today—defined as anything over 40,000 square feet—you're likely to face challenges. In contrast, if it's a smaller box, like our three Rite Aids, we anticipate significant demand if we were to get those back. Much of this relates to the adaptive reuse of the space. Redeveloping larger boxes and converting them into smaller units with current cost challenges is quite difficult, which is something we prefer to avoid. Therefore, we're concentrating on smaller assets that already have high-quality tenants while also retaining a manageable residual value.
Robert Stevenson, Analyst
And to be clear, the grocery box, you're looking to sell that? Or are you in the process of trying to re-tenant that?
Joel Agree, CEO
That will most likely be a disposition.
Operator, Operator
Next question comes from an analyst with Baird.
Unidentified Analyst, Analyst
The first one is, does ADC specifically target investment-grade tenants? And what is the competition like for those deals right now relative to the beginning of the year?
Joel Agree, CEO
We have always maintained that our investment-grade rating is primarily a reflection of the top 30 to 35 retailers in the nation. Currently, we are actively targeting and collaborating with several retailers, including Hobby Lobby, Publix, and Alta, both now and in the future. Chick-fil-A is another example of a retailer we are focusing on. This really showcases the scope of our efforts. What was the second question?
Unidentified Analyst, Analyst
It's on the competition for those investment-grade type.
Joel Agree, CEO
Very little today. At the price points we're competing at, it's with the rare 1031 or private buyer, which has slowed down dramatically. And so there's very little competition except sellers' expectations themselves in this environment.
Unidentified Analyst, Analyst
Helpful. On the two development deals you guys signed this quarter, was that in the later half of the quarter or closer to the beginning?
Joel Agree, CEO
Peter, do you have that off hand?
Peter Coughenour, CFO
I don't have the timing for those two specific projects off hand. No.
Joel Agree, CEO
Yes, we can get back to you on the specific timing.
Operator, Operator
The next question comes from Ronald Kamdem with Morgan Stanley.
Ronald Kamdem, Analyst
Just two quick ones. So one on the pipeline. I think you talked about over 7 coming through. Just curious, does this pipeline look any different from what it did early in the year, whether in terms of size or tenant mix? Just trying to figure out how that pipeline has shifted, if at all?
Joel Agree, CEO
The tenant mix remains consistent with what we've observed throughout the year and is expected to stay similar as we have executed in previous years. The size is at our discretion, depending on where we believe the appropriate risk-adjusted spreads are. We have several assets currently under our control. We'll be making decisions soon. We are nonrefundable on purchase agreements and have letters of intent in place. Given the rapid rise in the 10-year and the corresponding cost of capital, we'll decide in the coming weeks whether to proceed with those acquisitions or to exercise patience and continue being disciplined in our capital allocation.
Ronald Kamdem, Analyst
Great. Can you discuss whether the cap rates for the ground leases acquired during the quarter are behaving differently compared to the rest of the market? What opportunities do you see emerging in the ground lease sector?
Joel Agree, CEO
There is not much difference in behavior compared to the rest of the market. I can tell you that our Q4 pipeline currently includes a significant portion of ground leases. It has remained fairly stable throughout the year, around 8 percent, but there are no distinct trends that can be observed compared to typical net leases.
Operator, Operator
The next question comes from Linda Tsai with Jefferies.
Linda Tsai, Analyst
What percent of your deals have been sale leasebacks year-to-date? And would you expect that to grow as a percentage headed into next year?
Joel Agree, CEO
This year, approximately 25% of our transactions have been sale leasebacks, compared to about 10% in the past couple of years. We are continually engaging with retailers on potential sale leaseback transactions. In this quarter, we worked with a few new retailers on these transactions, particularly in the farm and rural supply sector. We will keep assessing that market and are in active discussions. Ultimately, our focus remains on cap rate and risk-adjusted returns.
Linda Tsai, Analyst
And then how do you think about the retailer environment right now? I think people thought you might have been in a recession by now, but clearly, that hasn't happened. And so do you feel better about the overall consumer environment now versus, say, a quarter ago?
Joel Agree, CEO
It's been a long 90 days, and it's challenging to recall what was discussed a quarter ago. We're hearing discussions about potential hard landings again, and it seems like the consumer landscape is more segmented than simply two categories. Current data suggests there is pressure on consumers. This is a distinct situation we haven't encountered before. I won't speculate on the likelihood of a hard landing, soft landing, or no landing at all, but we need to keep an eye on consumer behavior. Importantly, our portfolio is not focused on discretionary or experience-related spending; instead, it primarily includes essential goods and services from the largest retailers in the country. If the consumer does significantly weaken, I expect the major retailers in our portfolio to perform well and gain market share. This trend has been consistent throughout the year, even without a recession, as these retailers with strong balance sheets are investing in pricing, fulfillment, and labor, allowing them to outperform smaller competitors. We can observe this in the performance reports from Walmart, Home Depot, and Lowe's, demonstrating that larger retailers are mostly managing this environment effectively. If our portfolio were based on experiential or discretionary spending, I might feel differently, but I believe that the retailers we have will ultimately benefit if a recession occurs.
Operator, Operator
This concludes our question-and-answer session. I would like to turn the conference back over to Joey Agree for any closing remarks.
Joel Agree, CEO
Well, thanks, everybody, for joining us today. We look forward to talking to you or seeing you in the near future, and we appreciate everybody's time. Thanks again.
Operator, Operator
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.