Good day and thank you for standing by. Welcome to the Q2 2023 Kite Realty Group Trust Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. Please be advised today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Bryan McCarthy. Please go ahead.

Thank you, and good afternoon, everyone. Welcome to Kite Realty Group’s second quarter earnings call. Some of today’s comments contain forward-looking statements that are based on assumptions of future events and are subject to inherent risks and uncertainties. Actual results may differ materially from these statements. For more information about the factors that can adversely affect the company’s results, please see our SEC filings, including our most recent Form 10-K. Today’s remarks also include certain non-GAAP financial measures. Please refer to yesterday’s earnings press release available on our website for reconciliation of these non-GAAP performance measures to our GAAP financial results. On the call with me today from Kite Realty Group, our Chairman and Chief Executive Officer; John Kite; President and Chief Operating Officer, Tom McGowan; Executive Vice President and Chief Financial Officer, Heath Fear; Senior Vice President and Chief Accounting Officer, Dave Buell; and Senior Vice President, Capital Markets and Investor Relations, Tyler Henshaw. I will now turn the call over to John.

All right. Good morning, everybody. Thanks a lot, Bryan. During the second quarter, KRG delivered outstanding operational results, while continuing to fortify our best-in-class balance sheet. The demand for our high quality space remains strong and we are in a prime position to continue to drive pricing, improve our overall long-term growth profile, enhance tenancy and further grow our revenue and cash flow. Turning to our results. We generated FFO per share of $0.51, beating consensus estimates by $0.03 per share. Our same-property NOI growth for the quarter was 5.7%, as compared to the same period in 2022. Our outperformance in the first half of the year is allowing us to increase our NAREIT FFO guidance by $0.03 at the midpoint. We are also increasing our same-property NOI growth assumption by 75 basis points moving from 2.75% to 3.5%. Heath will provide more details around our quarterly results and updated guidance. We signed 190 leases, representing over 1.3 million square feet producing a sector-leading 14.8% blended cash spread on comparable new and renewal leases. Excluding the impact of option renewals, our blended cash spreads were 24%. More importantly, KRG earned a 32% return on capital for new leases. As I have emphasized previously, leasing existing space provides the best risk-adjusted return for our invested capital. While our ability to drive pricing on initial rents remains strong, we are taking this opportunity to redefine our long-term growth trajectory. Recognizing the favorable supply and demand dynamic in open-air retail, at the outset of the year, we focused our leasing efforts on implementing higher fixed rent bumps and CPI adjustments. I am pleased to report that through the first half of 2023, we have been extremely successful with this initiative, 80% of our new and non-option renewal leases signed have fixed rent bumps that are greater than or equal to 3% and 40% of those leases have CPI adjustments. The average annual fixed rent increases for new and non-option renewals in the first half of 2023 was 2.4%, including both our small shop and anchor tenants, which is 90 basis points higher than our portfolio average. We are laying a solid foundation to improve our long-term embedded growth profile. Based on the current tenant demand, I can’t think of a better time for KRG to upgrade the merchandising mix at our centers. In a different leasing environment, the liquidation of Bed Bath could have been a real jolt to the sector. Instead, it’s proving to be one of the best opportunities we have been afforded. I was adamant about maximizing this opportunity by prioritizing the best solution over the fastest solution. That said, I am pleased to report that we are making great progress backfilling those boxes at higher rents with better tenants. The pool of tenants to backfill the attractively sized and well-located boxes is deep and diverse. Thus far, we are negotiating with 15 different brands across the retail spectrum, including grocery, sporting goods, big box wine and spirits, home furnishings and off-price apparel. Heath will provide more detail on the current status and we look forward to providing updates as we progress. Our success in enhancing the merchandising mix is not limited to the Bed Bath basis. Year-to-date, we have opened two grocery stores in the portfolio and have an additional four grocery stores in the sign, not open pipeline. In addition to adding grocers to the portfolio, we also have several opportunities to add multifamily units to our mixed-use and lifestyle portfolio. We currently have an ownership interest in nearly 1,700 apartment units and have entitlements for an additional 5,000 units. We look forward to further densifying our properties at healthy risk-adjusted returns and partnering with best-in-class operators when appropriate. The KRG team continues to capitalize upon the demand for open-air retail and the resiliency of our cash flows. Our efforts to enhance our merchandising mix, drive pricing power and increase our long-term embedded growth profile will undoubtedly increase the value of our open-air centers. We have often talked about the optionality afforded to owners of high-quality real estate. That same optionality is exponentially increased when supported by unparalleled operational acumen and a best-in-class balance sheet with substantial liquidity. We are extremely well positioned to seize the opportunities that lie ahead. I want to take a minute to really thank our team for their continued dedication, outperformance and commitment. I will now turn over the call to Heath.

Good afternoon. I want to start by thanking our operational team for once again allowing me to share the good news. Quarter after quarter, it’s been a privilege to report on your considerable accomplishments. KRG exceeded expectations by generating NAREIT FFO per share of $0.51 during the second quarter and $1.02 year-to-date. The quarterly outperformance was primarily driven by higher-than-anticipated same-property NOI, which grew by 5.7% during the second quarter and 6.1% year-to-date. During the second quarter, increased occupancy and rent escalators were the primary driver of our same-property NOI growth with a 360-basis-point increase in minimum rent and net recoveries, a 140-basis-point increase due to lower bad debt and a 70-basis-point increase in overage and other revenue. As John alluded to earlier, we are raising our NAREIT FFO per share guidance range to $1.96 to $2, representing a $0.03 increase at the midpoint. $0.02 are attributable to a corresponding increase in the same-property NOI growth assumption as a result of lower bad debt, payment of post-petition rent from Bed Bath & Beyond and higher overage rent. The other $0.01 is related to an unbudgeted termination fee. Our updated guidance incorporates the following assumptions regarding the back half of 2023. We are assuming no additional rent from Bed Bath & Beyond. Specifically, we expect the gross rent from Bed Bath locations to be $0.02 less than will be collected during the first half of the year. We are prudently assuming bad debt to be 125 basis points of revenues for the balance of 2023, which, when combined with the actual bad debt experience in the first half of 2023 equates to 85 basis points of revenues for the full year. We are anticipating a deceleration of fee income as the first phase of Hamilton Crossing project nears completion. We are not modeling any additional termination fees and while we sold two assets in the quarter, we anticipate the impact of transactional activity will be essentially neutral to earnings as the blended cap rate on the transactions is well below the interest income offset. Our balance sheet continues to be in an enviable position, with net debt-to-EBITDA of 5 times, a debt service coverage ratio of 5.3 times, 97% of our NOI is unencumbered, over $1.2 billion of liquidity, an undrawn revolver, minimal floating rate debt, a well-staggered maturity schedule and multiple capital sources. These metrics allow our team to remain intently focused on operational excellence and provide us with the flexibility to immediately pivot and capitalize should a compelling opportunity arise. We have only $95 million of debt maturities remaining in 2023, which will be satisfied with cash on hand and proceeds from our line. As for the $270 million coming due in 2024, we continue to remain opportunistic as it relates to the unsecured debt markets. The good news is that our indicative spreads have materially tightened recently, which further verifies our patient approach. Before turning the call over to Q&A, I want to take a moment to further elaborate on the progress we are making in backfilling Bed Bath & Beyond spaces. We ended the first quarter with 22 units representing 1.4% of ABR and 522,000 square feet of GLA. Thus far, three units were acquired in the bankruptcy auction, six units are either leased or under a signed LOI and 11 units are in LOI negotiation. As John mentioned, enhancing our merchandising mix with 15 different brands generating strong spreads and returns on capital and further bolstering the durability of our cash flows is a tremendous opportunity for KRG. Thank you for joining the call today. Operator, this concludes our prepared remarks. Please open the line for questions.

Thank you. Our first question comes from Todd Thomas with KeyBanc Capital Markets. Your line is open.

Yeah. Hi. Good afternoon. John, first question, you opened up by commenting that you are working to drive an increase in the long-term growth of the portfolio and talked about some of the success that you have realized this year. I am just curious what you think the impact of some of those initiatives are having on the stabilized growth of the portfolio today, maybe at full occupancy, if you think about it that way and how that compares to maybe five years or 10 years ago? And then is there a target that you are working to achieve in terms of that long-term growth rate for the portfolio, either in terms of the escalators or otherwise and when do you think you might achieve that?

It takes time for changes to work through the portfolio. However, the embedded rent growth we are experiencing in 2023 is significantly higher than the average for the portfolio, almost by 100 basis points. I want to emphasize that the growth we've achieved this year includes both anchor and small shop spaces, but the key to driving that growth more quickly lies in the shop space due to quicker turnover and the ability to secure 3% and 4% annual increases. Additionally, the CPI adjustment serves as a protective measure that we have reintroduced, which used to be a common aspect of the business but had fallen out of focus over the past decade. We established goals at the beginning of the year, and that was definitely one of them that our team has successfully met. While I won't share specific modeling information, it's clear that this will benefit us. Importantly, it reflects the interest in open-air retail. When examining our non-option renewal spreads, it’s evident that we're able to achieve the 3% and 4% increases with the CPI adjustment, indicating that the business is very healthy. There has been much discussion about the health of the business, but it's quite strong, particularly for us.

Okay. Are you having success driving annual escalators with tenants with anchors maybe in certain categories and with certain credits that have historically pushed back on escalators? Are you seeing those changes or realize there?

Yeah. I mean… I will comment and I will have Tom jump in. I mean, from my perspective, absolutely, we are having success having those conversations. That being said, I mean, the anchor side of the business is more difficult to get that done. So, historically, would we be happy with a 10% increase after five years in an anchor deal. That would be pretty typical. Now we are trying to push that a little further. So it’s not as readily available because of the way the turnover happens. We just have less turnover there. But, Tom, do you want to comment too?

Yeah. I think we have to take a look at this in steps and we are in the early stages of trying to educate and work with larger box tenants and instead of no bumps in five, maybe we take a look at a shorter term of three and then we start the bumps. And so we are using different tools to get to the same place, but it will take us longer, but we are very much focused on not only the small shops, but the anchors as well. And as long as we have this focus, as long as the team is ready to go, we expect to make nice advances.

Okay. And then, Heath, a question for you, the portfolio’s leased rate decreased 70 basis points versus last quarter, but build occupancy was unchanged at 92.3%. Can you speak to that in light of the Bed Bath boxes that you recaptured during the quarter and also maybe provide a little bit of detail around the expected trends for the portfolio’s leased and economic occupancy rates moving into the second half of the year?

Sure. So, Todd, as you know, the lease rate is basically a point of time at the end of the quarter. So you are looking at that day and you are saying this is how much is leased, whereas your economic occupancy represents your average occupancy during the quarter. So the full impact of the Bed Bath is running through your lease rate, but it’s not running through your economic occupancy. That’s why you also saw a compression on your spread between your lease and occupancy. So as we move into the back half of the year, you will see the occupancy start to track the least in terms of its fallout from the Bed Bath. So that explains why that delta happened. That explains why we are flat in the occupancy, but we are having a more decline in the leased rate. In terms of the trajectory, Todd, as of the first half, we only had eight that bats were out of our occupancy and lease numbers. We are going to add an additional 14 to that coming into the third quarter. So you are going to see our leased and occupancy rates sort of trough into the third quarter. So putting some numbers around it, it’s about 120 basis points just Bed Bath alone. So, again, you will see that drop, and then over the course of time, as we start to sign up those Bed Bath & Beyond leases, you are going to see number one, our SNO grow, and you will also see that spread between lease and occupied grow as well. So that’s kind of how to think about the balance of the year.

Thanks.

One moment for our next question. Our next question comes from Craig Mailman with Citi. Your line is open.

Hey, guys. Heath, maybe just a follow-up on Todd’s last question on occupancy. As we think about kind of isolating the Bed Bath, which you did 120 basis points, but then factoring in the commencement of the SNO pipeline. I mean how much of that would offset kind of this drag from Bed Bath kind of hitting the numbers in the second half?

Yeah. So, Craig, we don’t guide to occupancy at the year-end, so that’s kind of where you are going with this. So I would tell you that, I don’t think the lease rate is not going to move, because obviously, those are already signed. In terms of the economic occupancy, I don’t think it’s going to catch up the full 120 basis points from the Bed Bath. So I think we will be ending the year probably at a spot that’s lower than where we started the year. But that’s really as much direction as I can give you, because, again, 120 basis points, obviously, is a lot of movement to be happening in a single quarter.

Yeah. Okay. That’s helpful. And then, John, I know you said over the past two quarters here, it’s more about maximizing rate rather than speed to lease up on the Bed Bath. It sounds like you guys have really good traction. I mean, from a commencement perspective, maybe relative to where you thought quarters ago, kind of what do you think updated timing is given how much you have under LOI than the other 11 that are kind of in negotiations? What do you think the time frame is to get that revenue back up and running and then maybe also just run through how much of those are single-tenant backfills versus maybe splitting the boxes?

I don’t think the overall trajectory has changed much. Over the last several years, we’ve completed around 60 leases. Typically, once a lease is signed, it takes about 12 to 18 months for rent to start, depending on the level of work required. While some may claim it happens faster, those cases are rare and typically involve minimal work. As we sign leases, we are still looking at that 12-month timeframe. Regarding splits, most discussions, as they have been over the past couple of years, involve tenants wanting to take the entire space or us requiring them to do so. There are a few instances where we might consider subdividing for a better merchandising mix, but those are uncommon. Of the 63 deals we've completed recently, we’ve only split one, which highlights the strength of open-air spaces.

Okay. And then you guys got leverage down to 5 times. I mean, from a long-term perspective, kind of what’s the goal here, how much capital do you kind of keep dry here for potential opportunities, kind of thoughts on balance sheet management?

Yeah. Yeah. I mean, if Heath wants to talk about this too is good, but from my personal perspective, we are at 5 times that it’s going to ebb and flow quarter-to-quarter a little bit, but not materially. So we are at the low end of our range that we have set out as a goal, which is pretty fabulous. We have deleveraged basically 1.5 turns since the merger. That’s another beautiful benefit of the fabulous deal that was done. And so we wanted to make the point that our balance sheet is one of the top two in the entire sector and that affords us this ability to continue to operate at a very high level, but also if an opportunity arises, then we are one of the few that probably can act upon that without any material issues with our balance sheet. So we love where the balance sheet is, it’s a very strong position and we want to continue to be in the low to mid-5s like we have been saying, and again, that affords us lots of optionality. Heath, do you want to...

Yeah. Okay. Good answers.

Did you want to add anything or?

No. Nothing else. Thanks.

I took the words out of your mouth.

Word out of my mouth, correct.

It helps to increase a part of liquidity.

One quick one. Heath, is there anything legacy RPAI related on swaps amortization that’s running through the numbers and if there is, kind of how long does that, what’s the tail on that until that burns off?

I’d have to look at our maturity schedule. I forgot which one of the RPAI debt instruments are swapped and how long they have run through. So I’d say, it’s nothing material running through it. I will tell you the one thing that’s continuing to run through the P&L, that’s a swap. As you recall, in 2021, we took out that forward, that was $150 million. That’s resulting in about a $3 million benefit every year to our interest expense. One thing about it, it’s a little lumpy. So you may have noticed there’s a sequential sort of increase in interest expense from the first quarter to the second quarter, because when we realized that $3 million, we realized half of it in the first quarter and half of it in the third quarter. So it gets a little lumpy, but nothing a call with those that you are thinking about, Craig. And again, we can offline take a look at when those things exactly mature, if you want me to quantify that for you further.

No. That’s helpful. Is there anything to call out sequentially in interest expense for Q2 to 3Q?

Again, other than in 3Q, you are going to see the benefit of that $1.5 million again, and then obviously, there’s a slight increase in SOFR based on recent moves by the Fed. So to the extent that we have a floating rate debt, we will see a small uptick, but nothing material quarter-over-quarter.

Great. Thanks everyone.

One moment for our next question. Our next question comes from Floris Van Dijkum with Compass Point. Your line is open.

Thank you for taking my question. John, you mentioned the increase in the long-term growth rate of the portfolio. I'm interested in how higher fixed rent increases, especially for shop spaces, and changes to the anchor bumps will contribute to this. Additionally, your transition to fixed CAM was one of the earliest in the shopping center industry. We saw a similar trend occur 20 to 25 years ago in the mall sector, with GGP being the pioneer followed by Simon. However, Simon has since stopped providing disclosures because of the significant profit margins in that area. Could you give us an update on the status of fixed CAM, what percentage of your portfolio it represents, the escalator increases you're seeing, and how this will impact your growth moving forward?

Sure. He introduced the fixed CAM initiative from GGP, and we're grateful for that. The reality is we're performing very well in this area and have recovered much faster than expected. When we merged, about 50% of our portfolio was fixed CAM, and we’ve quickly restored that percentage across the total portfolio. RPAI had almost no fixed CAM previously, so it’s impressive how rapidly we've bounced back, indicating that our conversion ratio is in the 90% range. The initiative is beneficial, although it may not suit everyone, but it has proven to be a smart move for us. Our ratios, such as NOI margin, highlight this success, and although we don’t disclose specific escalator details due to competitive reasons, they are likely higher than the standard base rent escalators. In this business, with the way rollover functions and the associated timelines for these changes, it all contributes positively. Alongside the deals we've completed this year, we are nearly 100 basis points ahead of our historical portfolio performance, demonstrating progress. Much of this improvement stems from our business operations, but it’s also a result of the strong platform for open-air retail which attracts more retailers, reducing friction. Overall, I believe this is a significant part of our strategy. While reimbursements represent a smaller portion of our revenue, they still make a notable impact.

As a follow-up, you recently sold one of your potential mixed-use development sites at Pan Am, I believe at a very low or almost zero cap rate. Could you provide an update on your thoughts regarding some of the other mixed-use sites, particularly what's happening in Ontario, California with the former cinema? I understand you extended the cinema on a short-term basis, but how is the entitlement process progressing and what are your thoughts on that? Additionally, has your perspective changed regarding the future of Carillon given the limited new developments? Are there aspects of that, especially related to retail, that you find particularly interesting?

Let me just give you a second and then I am going to have Tom give you the details. But in terms of Carillon, specifically, we have been pretty clear that when we laid out our strategy on the developments, the future developments, that we kind of looked at that quite differently than we did One Loudoun, for example, and that hasn’t changed. I think Carillon is great and it’s a great piece of real estate, but for us in terms of investing a lot of new capital, we are not looking to do that. We are looking to minimize the investment there and maximize the investment in One Loudoun. So thematically, that theme hasn’t changed, but I will let Tom give you more details.

Yeah. Then on Pan Am, and specifically, that was a deal that we ended up selling the property to the City of Indianapolis. There was no question that the highest and best use for that property was a convention center expansion in a large hotel. So that part was very straightforward and easy for us. Then on Ontario, East of LA. We have a great 1,900 or 19-acre parcel. So we are in the process of working with the city and working on various concepts of repurposing that property zoning standpoint. So that is moving along nicely. So on all these, including Carillon, we are just taking a very measured approach doing the right thing, not forcing projects or developments that don’t make sense based upon the time periods of which we are in.

Did you want me to go ahead and move on to the next question?

Yeah. Sorry.

Yeah. Please.

Sure. Thanks, Floris.

One moment. Our next question comes from Alexander Goldfarb with Piper Sandler. Your line is open.

Hey. Good afternoon out there. So two questions. Heath, your bad debt assumptions, I think, you guys were pretty low in the first half. I think it was 45 bps or something like that, it was pretty low. Back half, you are budgeting 125 basis points. You already know about Bed Bath and parties of the AMC, all the known ones. So my question is really, and you are not alone, a number of the peers are being cautious on bad debt. Are there truly concerning tenants out there or is this just sort of you and other teams just trying to be conservative to, based on historic, like, just trying to get a sense, because it doesn’t seem like from the headlines that there are big tenants that are pending out there, but maybe there’s stuff that’s burbling below the surface that we don’t know about. So just looking for a bit more perspective?

No, Alex, the 125-basis-point assumption is based on historical data. Typically, we see bad debt revenues ranging from 75 to 100 basis points in a standard year. Given the current unusual environment, there are many uncertainties in the economy and macro environment. I don’t have a specific list of risks that I’m preparing for, but we're simply estimating that bad debt will align closely with historical averages, with a slight increase due to the peculiar circumstances we face. There's nothing complex about it.

Okay. The second question is regarding apartments. Can you provide more details, especially as the environment improves and we approach a state of normalcy in transactions? Is your apartment initiative focused on converting parking areas, adding structures behind shopping centers, adding additional floors, or acquiring adjacent land for apartment construction? I believe John mentioned you would partner with joint ventures to manage these projects and handle related aspects. Could you elaborate on this?

Sure. I think we have covered most areas except for the last point. We are not actively seeking to acquire adjacent land as we generally already own it. We have engaged in various activities, such as contributing a parking lot for a 15% equity interest in relation to the land's value and sometimes providing capital. We haven't focused on this alone; rather, we have been significantly learning the business over the last few years. Currently, we believe having an operating partner, depending on their ownership percentage, will be deal-dependent. The key point is that this potential revenue stream is expanding, and we possess quality real estate where there is demand for multifamily development. This complements our primary business and typically has a higher growth profile. However, we will continue to approach this cautiously, as we have in the past.

But to that point, are the 1,700 units currently operating, or are they units you have under control that you could build?

Yeah. No. No. No. No. I am sorry. Those are operating and then we have how many of those are under construction.

Yeah. So we basically have four or five opportunities that are out there and one number that you may have gotten confused with is just at One Loudoun, we have 1,745 units through the zoning process that we would be able to develop. So if you look at what we have under construction right now, it is The Corner project, that is 285 multifamily units and the first occupancy of that will begin just towards the end of this year. But there’s an inventory of opportunities for us will be very measured. We will make determination when the right times are. But it’s good to have that entitled land inside our future opportunity list.

Thank you.

One moment for our next question. Our next question comes from Anthony Powell with Barclays. Your line is open.

Hi. Good afternoon. You put a new slide in your deck with delivery to the growth versus the total lease rate, which is very positive for you. That said, it suggests to me that at some point, people will want to put more money into the space and actually construct retail centers. So how far are we away from that, is there a risk that in the next new easier money time that we have that people start to build more retail centers given the strong economics and results we see?

Hi Anthony, this is Heath. I'll begin and then let John add his thoughts later. I still believe that we will continue to see a low supply environment for new constructions. When you compare construction costs to purchasing an existing center, especially if there's potential for redevelopment that could result in costs below replacement value, the outlook remains positive for us regarding new supply moving forward. We're not pursuing raw land for new builds since we have plenty of work to do with our current projects focused on densification and redevelopment. Personally, we are not planning to allocate capital towards new construction, and I think the market views this similarly. Economically, it may be more advantageous to acquire existing properties rather than build new ones at this time. Now, I'll pass it to John.

No, I mean, Heath said it perfectly, Anthony. I just don’t think there is enough yield in a ground-up deal, and you also have to remember that a ground-up deal generally takes a minimum of three years to generate revenue. It could be closer to five years if you consider finding land and going through the entitlement process. So, this is one of many reasons, but at this point, it doesn’t feel like there is a push towards new development. Candidly, we are still addressing an overbuild from the previous decade. As we work through that overbuild, it shows why this is a better business today. There are many reasons for this, but this is one of the very strong primary reasons—a better business, and I don’t see that changing anytime soon. When we look at the deals we occasionally do, we usually already own the land, and our returns are significantly higher than what we would otherwise get. That’s why we pursue those deals, as evidenced by Landing and Tradition.

Got it. Thanks. And going on to other capital allocation, some of your peers have either announced deals or room turn now feels or as well talking about seeing new deals come back to them this morning. What are you seeing out there? I mean I know that our priority is in leasing, but any just so you start to ramp up the exactly some pipeline given the environment?

The acquisition environment is still somewhat slow. However, it seems that in the past six weeks, more products are becoming available in the market, mostly from individual centers. There are a few larger portfolios that do not interest us. We are actively reviewing opportunities because we have one of the strongest balance sheets in the sector, which gives us the flexibility to act if desired. That said, we are being very selective at this time, as we have plenty on our plate. I'm not certain about the situation with things coming back to market. If certain deals were postponed before, they might be returning with new packaging, but essentially they remain the same. Currently, if we pursue acquisitions, we are typically pairing them with a disposition. So this is our current strategy, which is why we anticipate the impact to be neutral. However, we are still in the early stages, and there’s a whole half a year ahead of us, during which a lot can change.

Great. Thank you.

Thank you.

Welcome.

That’s it for me.

One moment for our next question. Our next question comes from Lizzy Doykan from Bank of America. Your line is open.

Hi, everyone. Apologies if I missed it. I just wanted to see if you could give more color on the decline in small shop occupancy. It seems to drop a bit more than the dip we saw even last quarter?

Sure. It's quite straightforward. The majority of the issue is related to us accelerating the recapture of space, accounting for about 75% of the decline. We had opportunities to move tenants out when they were in default. Given the current environment, with the annual rent increases we are experiencing and the quality of tenants coming in, we are swiftly leveraging that pricing power. That's essentially it. It's something we desire and will continue to pursue.

Yeah. I will just add, if you recall, our small shop lease rate was the highest in the sector at 92.5%. So really where we are sitting now, we are just viewing this as a tremendous opportunity. As John said before, we have got leases and it takes a long time to effectuate change. So we can recapture faster and get a better tenant with better rent in we are going to do it. So that’s what’s happening.

Yeah. That 92.5% was pre-COVID and so there’s no reason to believe we won’t march back to that, but it obviously takes time. But I think it speaks to the more important thing here is, the theme is, if we can get space, we want space, that’s the theme.

Thank you, that’s helpful. I noticed a significant section on page 15 of the presentation regarding your anchor inventory opportunity. I’m curious about the 17% spread that is expected on what remains, especially when compared to the 26% spread that has been executed. Is the lower percentage simply a result of what was executed last quarter, or is there something to address regarding expectations around rent growth?

No. This is certainly not a sign that we are decelerating a simple math. It’s just basically taking our average in-place rents and calculating the spread that way. As you can see, we are trying to be conservative and saying, well, we at least got our average rents in place, we would have a 17% spread, obviously, with the column to the left, you can see that we are doing much better than that. So we anticipate being able to outperform that, but for this presentation here, we are trying to be conservative and you will see footnote four, we will give you an explanation of that number.

Our leasing team asked the exact same question. Why isn’t that lower? We don’t expect that to be the case.

Okay. Thanks everyone.

One moment for our next question. Our next question comes from Michael Mueller with JPMorgan. Your line is open.

Yeah. Hi. Just two quick ones. First of all, when you talked about the 2.4% bumps on Q2 activity, was that all in or was that just excluding option renewals? And then the second question is, are you just seeing any demand differences when it comes to the various product types like lifestyle versus community neighborhood or geography?

Yeah. First of all, it excludes options. So that’s new leases. And I am sorry, Mike, what is the second part?

Yeah. Just any demand differences you are seeing across the product types, basically?

One of the advantages of our portfolio is the variety of product types we offer. There has been significant interest from retailers in three main categories: community neighborhood, mixed-use lifestyle, and power. There is no significant difference among these categories. Geographically, we are in strong locations, which is benefiting us. Nearly 40% of our revenue comes from Texas and Florida, which I believe is the highest in those states within our sector. This provides us with numerous opportunities since both states are important growth markets for retailers. Additionally, the demand is quite broad-based. As we mentioned, we are experiencing a friction point resulting from a significant decrease in supply over the past few years while demand has considerably increased. This is the key factor driving that uptick. Thank you.

Thanks, Mike.

One moment for our next question. Our next question comes from Linda Tsai from Jefferies. Your line is open.

Hi. It’s Linda. In terms of the success in achieving fixed rent bumps, it sounds like those tenants are comfortable with occupancy cost ratios. How do you think about the opportunity to increase occupancy cost ratios and which tenant types have better capacity when you look at your portfolio composition?

Sure, Linda. That's a great question. One of the advantages of our platform is the relatively low occupancy cost compared to other retail types, especially online-only businesses where customer acquisition costs are extremely high. When we examine our entire portfolio, we have historically maintained high single-digit occupancy costs, which contrasts sharply with the high teens seen in other platforms. This difference significantly impacts their capacity to manage rent increases. However, we must make careful choices regarding the retailers we select, as it’s not a simple race. It’s essential to balance the merchandising mix, the retailers’ performance capabilities, and occupancy costs. Currently, we find ourselves in a favorable position concerning these factors.

We will experience some fluctuations due to the geographic differences in areas with higher wage scales and potentially more complex supply chain issues. However, overall, we are effectively monitoring that ratio to ensure our customers remain as healthy as possible. This is a major focus for us.

Are there certain tenant types that have better capacity or does it relate back to kind of just wage gains and sales of a particular region?

I don't think you can pinpoint a specific type of retailer. It really depends on the individual store's performance, which can vary even within the same brand. This highlights the significance of real estate. We have frequently emphasized the importance of the location and the quality of the real estate. What operates on top of it can change. As long as we own high-quality real estate, our customers should be able to achieve results that enable both them and us to thrive. It's a partnership, and we excel at managing that partnership.

And then in terms of payback periods on anchors and small shops given the demand for space and some commodity costs coming down, do you expect payback periods to shorten?

Yes, we are seeing payback periods generally shorten and they tend to be less than three years when considering the total portfolio. However, it truly depends on the individual deal, as you are aware. This is why we place a greater emphasis on return on capital rather than spreads, even though we are achieving excellent spreads and frequently discuss them, particularly regarding our GAAP spreads. This is where our rent growth comes into consideration. Ultimately, our responsibility is to act as diligent fiduciaries with our investor capital, so we are primarily focused on obtaining those high returns, which we have successfully accomplished.

Thanks.

Thank you.

One moment for our next question. Our next question comes from Dori Kesten with Wells Fargo. Your line is open.

Thanks. Good morning. How do you expect CapEx spend to trend over the next 12 months to 18 months, I guess, including and excluding the cost to get the old Bed Bath spaces back online?

Excluding the cost, Bed Bath space is complete. Over the next 18 months, it’s expected to exceed $200 million, and if you consider the total Bed Bath inventory, it will likely require an additional $40 million to $50 million to lease those spaces. You can expect to see that spending occurring in the later part of 2024 into 2025. Again, we anticipate significant capital expenditures and a considerable number of signed leases, indicating elevated spending over the next couple of years.

But we do see construction costs, in general, stabilizing, and I think, we will be able to see some more movement in that as general contractors, construction managers begin to start pushing some of those savings down. So we feel like we are in a much more stable area as we tackle some of these costs.

Okay. Thank you.

One moment for our next question. Our next question comes from Wesley Golladay with Baird. Your line is open.

Hey, everyone. Just curious which markets have the best pricing power and is there any region that is materially separating?

Hey, Wes. We discussed this a bit earlier. Currently, the markets are quite balanced, and we don't see any one market significantly outperforming the others in terms of pricing power. Some markets do have higher embedded rent due to historical factors, like the New York area, for example, but our ability to generate annual growth is widespread. There has been notable suburbanization over the last few years, which we have greatly benefited from, and that trend seems to be holding strong. Additionally, our gateway markets such as Seattle, New York, and Chicago are also experiencing growth. Overall, there's a solid demand for this type of retail, which is quite fundamental.

Okay. And then I think earlier in the prepared remarks, you mentioned the fees would step down for Hamilton Cross or fees because, okay, you stopped the development at Hamilton Crossing, can you quantify that? And then as we look to next year, is there anything noticeable when it comes to that mark-to-market debt amortization for interest expense?

The deceleration of the fees is about $1 million in the second half of the year compared to the first half. The first phase of Hamilton Crossing is coming to a close, which means those fees will be ending soon. However, there is a possibility for future phases, so we might see some additional development fees before the end of the year and into 2024. We hope this trend can continue into 2024. Regarding your second question about debt amortization, next year…

Yeah. The mark-to-market gain?

We will likely see a decline of about $0.02, which is around $4 million, in 2024 as those maturities come due.

One moment for our next question. Our next question comes from Paulina Rojas Schmidt with Green Street. Your line is open.

Hello, everyone. And so we have not heard about mall tenants looking to migrate to the open air space some of them and you also highlighted in your presentation. Two questions. Is this migration mainly taking place at your lifestyle centers or you are also seeing it across other property types? The second one is, have you seen this trend accelerate or is it progressing at a steady pace?

Hey, Paulina. So macro, and Tom should comment, obviously, but macro, it’s this trend, I don’t know if trend is the right word. I mean it’s really just the fact that there’s less retail space, the open-air retail segment is very cost-effective. So you are finding retailers really not delineate as much as they once did in these different product types. So I do think, thematically, it’s important to understand. I think it’s more than a trend. I just think it’s the business. The business has changed and these retailers have realized again, and Tom can give detail, the retailers have realized their profitability in the open-air sector is significant and that’s why they want to grow the platform quickly. But Tom can give you a little more detail.

Yeah. Paulina, I think, it really comes down to one major factor and that is convenience. And I think as people become more and more busy in their lives with the various things that pull on the convenience is critical that you can pull up to an open-air shopping center, get out of your car immediately ingress into a store and then cross shop as well. And then in addition to that, you are able to get shops maybe 2 times or 3 times a week, where if you were in an enclosed situation, that may be just one event a week. And then with our expense structure, these numbers start to overwhelm some of these retailers saying, we have to diversify, but it doesn’t mean that they are leaving their primary A locations and shopping centers. It just means they need to touch a different shopper in a more convenient atmosphere. So we are seeing great strength, and like John said, this is just an evolution that is very consistent. And we are even seeing some groups like maybe a Sephora that’s even leaning out maybe beyond the higher open-air shopping center into more of a power or more productive center like that. So I think we will see these tentacles continue to expand over the next couple of years, which has obviously been a big help to the open-air industry.

Thank you. That’s helpful. And another short one, so other income has been a positive force for property NOI growth. I believe this is structuring the overage rent you mentioned. Can you touch on what retailer categories driving this growth and if you expect the full year contribution to be in line with what we see year-to-date?

We are seeing that overage rent over a broader array of tenants. So it’s not really one particular tenant type. We are tenants that are paying us percentage that never paid us percentage rent at all. We have a furniture retailer that is paying us just amount of overdraft we never thought was possible. So it’s really been extremely broad, it’s restaurants, it’s the discounters, grocery stores. So you name it, we are seeing it everywhere and that we are experiencing the highest levels, we are even seeing in theaters. We experienced the highest level of overage rent we have ever experienced in the company. So we expect that trend to continue.

And I am not showing any further questions at this time. I’d like to turn the call back over to John Kite for any closing remarks.

Well, I just wanted to say, again, thank you all for taking the time to join us today and thank you for having an interest in KRG. Have a great day.

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