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Executives

Thomas Lewis - Vice Chairman of the Board, Chief Executive Officer

Paul Meurer - Chief Financial Officer, Executive Vice President, Treasurer

John Case - Executive Vice President, Chief Investment Officer

Analysts

Emmanuel Korchman - Citigroup

Joshua Barber - Stifel Nicolaus

Paula Poskon - Robert W. Baird

Todd Lukasik - Morningstar

Richard Moore - RBC Capital Markets

Realty Income Corp (O) Q42012 Earnings Call February 14, 2013 4:30 PM ET

Operator

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Realty Income fourth quarter 2012 earnings conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions) This conference is also being recorded today, Thursday, February 14, 2013.

I would now like to turn the conference over to Mr. Tom Lewis, Chief Executive Officer of Realty Income. Please go ahead, sir.

Thomas Lewis

Thank you, Katya and good afternoon, everyone. Welcome to our conference call and as Katya mentioned, we will go over the fourth quarter and our results for 2012 and a bit about what's happened since year-end. In the room with me today, is Gary Malino, our President and Chief Operating Officer, Paul Meurer, our Executive Vice President and Chief Financial Officer, John Case, our Executive Vice President and Chief Investment Officer and Tere Miller, our Vice President of Corporate Communications.

As I am obligated to do, I will say that during this conference call, we will make certain statements that may be considered to be forward-looking statements under Federal Securities Law and the company's actual future results may differ significantly from the matters discussed in the forward-looking statements. We will disclose in greater detail on the company's Form 10-K the factors that may cause such differences.

As is our custom, Paul, perhaps you can begin with overview of the numbers.

Paul Meurer

Thank you, Tom. So, as usual, I will walk through our financial statements briefly and provide some highlights of our financial results for the quarter and where appropriate for the year as a whole, starting with the income statement. Total revenue increased 16% for the quarter and for the year. Our revenue for the quarter was approximately $130 million or about $520 million annualized run rate at year-end.

This increase reflects positive same-store rent but more significantly it reflects our growth from new acquisitions over the past year. Pro forma, for the ARCT acquisition completed in January, our current annualized total revenues as of 12/31 are now $712 million. On the expense side, depreciation and amortization expense increased by about $8.6 million in the comparative quarterly period, as depreciation expense obviously has increased as our property portfolio continues to grow. Interest expense increased in the quarter by about $6.1 million and this was due to the $800 million of bonds that were issued in October, as well as some credit facility borrowings during the quarter.

On a related note, our coverage ratios both remain strong with interest coverage at 3.6 times and fixed charge coverage at 2.7 times. General and administrative or G&A expenses in the fourth quarter were approximately $10 million and $38 million for the year. Our G&A expense increased this past year as our acquisition activity increased, also because we added new personnel and our proxy process last spring was more expensive than usual. We ended up expensing $2.4 million of acquisition due diligence costs during the year. Our employee base grew from 83 employees a year ago to 97 employees today. However, our total G&A was the still less than 8% of our total revenues.

Property expenses were just under $1.7 million for the quarter and $7.3 million for the year. These expenses historically have been primarily our carry cost associated with properties available for lease. However, our 2013 property expense estimate is higher at about $12.5 million as we have recently purchased more double net properties double net properties whereby we are responsible for some of the property maintenance cost.

Income taxes consist of income taxes paid to various states by the company. They were only $215,000 for the quarter and $1.4 million for the year. ARCT merger-related costs, obviously this line items refers to the cost associated with the ARCT acquisition. During the fourth quarter we expensed approximately $2.4 million of such costs, and for all of 2012, we expensed just under $7.9 million.

Income from discontinued operations for the quarter totaled $3.6 million. This income is associated with our property sales activity. We sold 14 properties during the quarter for $16.3 million and a reminder that we do not include property sales gains in our FFO or in our AFFO.

Preferred stock cash dividends totaled approximately $10.5 million for the quarter and it increased compared to last year, reflects our issuance of the preferred F stock earlier this year.

Excess of redemption value over carrying value of preferred shares redeemed refers again to the $3.7 million non-cash redemption charge in the first quarter of last year associated with the repayment of our preferred D stock with proceeds from our new preferred F offering at that time, and reminder of course that the replacement of this preferred D stock in our capital structure did save us about $1 million cash annually and income available to common stockholders was about $28.5 million for the quarter.

Reminder that our normalized FFO noted here simply adds back the ARCT merger-related costs to FFO. We believe normalized FFO is a more appropriate portrayal of our operating performance and it is consistent with our public FFO earnings estimates and first call FFO estimates that analysts have published on us.

Normalized FFO per share was $0.56 for the quarter, a 9.8% increase versus a year ago and $2.02 for the year, a 2% increase versus last year. Adjusted funds from operations or AFFO, or the actual cash we have available for distribution as dividends was $0.55 per share for the quarter, a 5.8% increase versus a year ago and $2.06 for the year and 2.5% increase versus last year. And also you will note that in our press release, we did affirm our same earnings estimates for 2013, which were previously disclosed last month when we were finalizing the ARCT transaction.

As you know, we also have increased our cash monthly dividend significantly over the past year. In addition to a regular quarterly increases we did a $0.06 annualized increase last August, and this month we have a have a $0.35 annualized dividend increase. We have increased the dividend 61 consecutive quarters and 70 times overall since we went public over 18 years ago. Our current monthly dividend is now just over $0.18 per share, which equates to a current annualized amount of just over $2.17 per share. Our estimated AFFO dividend payout ratio for 2013 is about 91%.

Briefly turning to the balance sheet, we believe we have continued to maintain a conservative and safe capital structure. In October, as you know, we raised $800 million of new capital with our issuance of $350 million of 2% unsecured fixed rate notes due in 2018 and $450 million of 3.25% unsecured fixed rate notes, due in 2022. At year-end, our $1 billion acquisition credit facility had a balance of only $158 million. However, we did utilize our credit facility for the cash portion of our ARCT acquisition in January, which then increased our credit facility balance to about $700 million.

Our credit facility does have a $500 million accordion expansion feature above the $1 billion amount. Our current total debt to total market capitalization is 32% and our preferred stock outstanding only 5% of our capital structure. Our only bond maturity over the next two-plus years is $100 million bond maturity in March of this year.

We do plan to raise the new capital during the early part of this year. Use of proceeds will be to repay our credit facility borrowing and thus free the facility up for further acquisition financing this year.

So, in summary, we think our overall balance sheet remains healthy. We continue to enjoy excellent access to the public capital markets. Let me turn the call now back over to Tom, who will give you a little bit more background on these results.

Thomas Lewis

Thanks, Paul. As is our custom, I will just kind of run through the different segments of business and let me start with the portfolio.

Once again, the portfolio continued to generate very consistent cash flow in the fourth quarter. Generally the tenants are doing very well. No issues that rose with any of the tenants during the fourth quarter and we look for that to be the case here in the first quarter. Also there is nothing out there that we are looking at.

On our calls, normally what I will do is talk about some of the metrics relative to the portfolio and how and why quarter-to-quarter and year-to-year, and as we have added in this release the supplemental disclosure on the closing of ARCT post year-end, I will also mention, on a pro forma basis, what that does to some of those metrics and give everybody a flavor of how we sit today and then obviously all those numbers will be integrated into our first quarter results little later in to the year.

At the end of the quarter, our largest 15 tenants accounted for about 47.1% of our revenue. That’s down 270 basis points from the same period of year ago and now, on a pro forma basis, post ARCT, the top 15 have drop from 47.1% to 42.1% or another 500 basis points. So obviously the acquisition efforts relative to both normal acquisitions and ARCT has had a significant impact in reducing concentrations in the portfolio. That obviously is included in our largest 15 tenants.

Cash flow coverages on the retail properties that we have in our top 15 tenants continue to be very strong at about 2.5 time for EBITDAR to rent coverage. So the portfolio continues to operate well there. From an occupancy standpoint, we ended the fourth quarter with 97.2% occupancy and 84 properties available for lease out of the 3,013 we own. That occupancy is up 20 basis points from the third quarter and up 50 basis points from the year ago. On a pro forma basis, post ARCT, that increases another 40 basis points to about 97.7% occupancy as we sit here today.

Back on the year-end, before ARCT, as I mentioned, the last few quarters there's three ways to calculate occupancy. The one I just used which is on vacant buildings versus occupied buildings calculation. That’s 97.2. If you add it on vacant square footage versus occupied, it would be at 98.2%. Then the third way uses previous rent on vacant properties against total rent including the previous rents and that would be a 98.5%. So all three are very healthy and all three would be higher under the ARCT calculations.

Same-store rents our core portfolio increased 0.4% during the fourth quarter and 0.1% year-to-date. As most of you recall same-store rents have been off a little bit the first three quarters, primarily as a function of a couple of tenants and those are moving out of the numbers. So it went positive in the fourth quarter and volume went up to make it positive for the year overall. Looking forward, we think same-store rent growth should accelerate and move to a more normalized level in the 1%, 1.5% plus range in each quarter in 2013 and we think that will start in the first quarter.

With all these acquisitions, obviously the diversification of the portfolio continues to widen substantially. At the end of the year we are at 3,013 properties. That is up 175 properties from last quarter. Then, with 44 different industries now represented in the portfolio with 150 tenants in 49 states. On a pro forma basis, adding in ARCT, it is 3,528. That is up another 515 properties in 48 industries, 202 tenants in 49 states.

Industry exposures are well diversified and with the closing of the transaction, specific exposures in certain industries have declined quite a bit, which I think is really meaningful when looking at the portfolio I would note that in some of our larger segments, convenient stores, as an example, is our largest industry at 1,231. That was 14.9% of revenue, down 140 basis points from last quarter and 230 basis points year-over-year. Then pro forma that drops another 330 basis points. So down to around 11.6% of rent. So substantial reductions.

Restaurants, and here I will just combine both casual dining and quick service, are now at 12.4%. That is down 80 basis points in the fourth quarter and 400 basis points for the year, and now pro forma drops another 220 basis points to only 10.2% of rent. And importantly, and I have talked about this before for what we want to take the portfolio that the gets the casual dining portion on a pro forma basis down to only 5.6% versus 15% of the portfolio a few years ago. That also take figures of [12-31-7], and that's down 80 basis points and then pro forma, it drops to process 66, so we continue to decrease concentration in some of these larger segments, which is very good progress there.

We've also increased the percentage of revenue that is generated from several of the industries on a pro forma basis that we are targeting. Transportation services moves up to about 5.7%, almost all of that comes from our investments in FedEx. Drug stores increases to 6.6%, mostly through additions of additional investment with both, Walgreens and CVS, and then dollar stores now increases to about 5.6% of rent and those investment are primarily with Family Dollar and Dollar General. And the majority of where we added, we believe in those industries are with investment-grade tenants and under long-term leases.

The largest industries on a pro forma basis then will be the C stores 116. That's the only industry over 10% now drug stores at 66%, theaters at 64%, transportation services at 57% and then the dollar stores and casual dining, both at 5.6% of revenue and then all other industries come in below 5%, and for those of you too have been with us for a while looking back three, four years, that's pretty meaningful reduction.

If we look at it from an individual tenant standpoint, the recent acquisitions ARCT make a lot of changes there also. The largest tenant now is FedEx at 5.5% of rent and L.A. Fitness who we like a lot at 39%, Family Dollar and AMC both, 3.5, Diageo, which are wine operations and BJ's posted 3% and then takes everybody below 3%, so a reduction there too.

I mentioned our largest 15 tenants are 42.1% of rent pro forma, and when you get to the 15th largest tenant, we are now down to about only 1.6% of revenue, so very well diversified. Also that's the case from a geographic diversification standpoint. Our average remaining lease length on the portfolio is healthy at about 11.2 years, that's up a bit.

Let me kind of circling back to the top 15 tenants for a minute and take a look at that group post the those the ARCT acquisition in 2008 and 2009 as most of you know and we've talked about on a lot of our calls, we went through a strategic evolution where we decided to make some adjustments on a go forward basis in the portfolio, and really just started implementing that in 2010 and kind of the themes we are looking at is targeting certain retail industries relative to the consumer base they serve and really are looking at kind of is it upper income, middle income, or low income consumers and then trying to differentiate between those retailers that sell discretionary goods and services versus those that non-discretionary and trying to focus mostly towards retailers to focus on non-discretionary items.

Secondarily, when with middle and lower income consumers to make sure that the retailers we are getting really have a deep value proposition and then thirdly trying to stay with a long-term theme of convenience and necessity. Then as you can see pretty clearly right now in the makeup of the top-15 on a pro forma basis, Family Dollar, Dollar General, BJ'S, Walgreens and CVS are all now in the 15, so that matches with those themes.

We also decided to pursue acquisitions outside of retail. That's now little over 22% of our revenue and the FedEx being largest one, and virtually all of those leases and properties are long-term leases to very large tenants with investment-grade ratings. And as a general theme also, both for retail and outside moving the portfolio up the credit curve and working more and more with investment-grade tenants.

And if you look at the five of the top-15 tenants were now rated investment-grade versus three years ago and was about 34% of our overall revenue on a pro forma basis now coming from investment-grade. If you include leases with the subsidiaries of investment-grade tenants, that's about 37%, so we really think doing that along with portfolio sales if those initiatives be through, added diversification by industry and tenant or geography or whether its tenant credit or the industries we are targeting and investing in, we believe the quality the cash flow generated by the portfolios have been significantly enhanced over the last three years. We will continue to pursue those initiatives. I am very pleased so far.

Let us move on then to first the property dispositions that continues to grow a bit. During 2011, we sold 26 properties for $24 million. In 2012, we sold 44 for $50 million. For 2013, we would anticipate to be at least $100 million and we think we will get more than half of that done in the first half of the year. So we may be able to exceed that number going forward and that will be a thing that we just slowly move ahead.

The focus there is really trying to improve the credit quality of the portfolio and decrease our exposures in certain industries. To date, that’s been primarily in restaurants, primarily casual dining which, as I mentioned, continues to decline as a segment in the portfolio. Then we also have targeted convenient stores for a number of sales. Then any properties with tenants that tend to be smaller and we think are more exposed to a downturn in the economy.

The focus there is really trying to reduce exposure to this discretionary purchases from (inaudible) income consumers and if you watch them today there is a lot of these people in this country that are living on paycheck-to-paycheck and without savings and any movement or economic event really has an impact on them on a current basis relative to their expenditures. So we are trying to move away from that area and either have a deep value proposition or, as I said, stick with basics.

Lets move on to property acquisitions. 2012, as we noted, was a record year for acquisitions. That’s before we get to the ARCT transaction. We continue to be very active moving into 2013.

Let me turn it over to John Case who is our Executive Vice President and Chief Investment Officer and he will walk you through the year and where we see things going. John?

John Case

So the fourth quarter was a very active quarter for us for acquisitions. As you know, we acquired 189 properties, investing approximately $447 million in acquisitions. This was third most acquisitive quarter in our company's history, finishing only behind the fourth quarter of 2006 and the third quarter of last year. The average cap rate of the fourth quarter acquisitions was 7.4% at an average lease term of 15 years.

Credit profiles of the tenants we added was quite attractive. 63% of the acquisitions are leased to tenants with investment-grade ratings. These properties were leased to 13 tenants in 10 separate industries. Five of the 13 tenants are new tenant and dollar stores and health and fitness were the largest industries represented. These properties were geographically diversified located in 27 states and 80% of the fourth quarter acquisitions were comprised of our traditional retail assets.

So for the full year 2012, that brought us to $1 6 billion in acquisitions activity comprised of 423 properties. This is the most we have ever completed in any calendar year and it surpassed our previous record in 2011 of $1.02 billion. The full year acquisitions were done at an average cap rate of 7.22% with a weighted average lease term of just over 14.5 years. We continue to improve our tenant credit profile, as Tom has alluded to, last year 64% of the acquisitions were leased to tenants with investment-grade ratings.

They were leased to 29 tenants in 23 separate industries. Dollar stores, wholesale clubs and fitness were the largest industries represented in last year's acquisitions. We were able to 16 new tenants in four new industries. The properties were located in 37 states and 78% of the acquisitions were comprised of our traditional retail assets. About 80% of our acquisitions activity last year was comprised of larger portfolio transactions. These are transactions that are $75 million or greater. So those larger transactions are really what drive our volume from year-to-year as you know.

Let me spend a few minutes talking about the acquisitions market today. It continues to be as active as we have ever seen it. In 2012, we sourced $17 billion in acquisition opportunities. Now this outsourcing number is everything that comes in our door in terms of acquisitions' opportunities that meet some of our investment parameters, so we analyze this and we are on a fair amount of amount of it and eventually we ended up closing the $1.1 6 billion. The $17 billion was also a record year for acquisitions, sourcing and transaction flow for us surpassing 2011 when we sourced $13 billion in acquisition opportunities.

Of the properties we sourced last year about 55% were leased to investment-grade tenants. Today, the market continues to be competitive. Looking forward, we continue to see an active pipeline of opportunities. There are a lot of sellers in the market that are attracted by the attractive pricing and significant transaction volumes we are seeing in the net lease sector today.

We're engaged in numerous discussions and we are currently projecting $550 million acquisitions at an initial yield of 7.25% for 2013, but the ultimate amount now we complete will be determined by our success on the larger portfolio of transactions as we've discussed before.

Let me spend a moment on pricing. Cap rates are holding steady to where they were in late 2012. Investment-grade properties ranged from a low 6% to low 7% range, non-investment grade properties range in the low 7% to the low 8% cap rate range. Cap rates have continued to decline over the last few years. Of course, year they averaged 7.2%. In 2011, they averaged 7.8% and in 2010, 7.9%. This is a function of declining yield and interest rate environment and also more importantly are working up the credit curve and doing substantially more acquisitions with investment-grade tenants.

Our investment spreads and margins, however, continue to increase and are at historical highs. Let me spend a moment this. Our 2012 average cap rate of 7.22% represents the 190-basis point spread to our nominal cost of equity. And again, that's our FFO yield adjusted for the cost of raising the equity. That 190 basis points compares favorably to our average spread of 114 basis points over the previous 19 years of our company since right our IPO, and with the acquired assets primarily leased to non-investment-grade tenants.

In 2011, our spreads to our nominal cost of equity was 170 basis points with 40% of our acquisitions were with investment-grade tenants, so we improved our spreads by 20 basis points year-over-year, while we increased our percentage of acquisition leased to investment-grade tenants from 40% in 2011 to 64% in 2012. This was a very attractive outcome for us.

Now, as you know, we also track our cap rates relative to 10-year treasury yields. Since our IPO in 1994, our cap rates have averaged about 475 basis points over the corresponding 10-year treasury yields. In 2012, our cap rates averaged 545 basis points over the average 10-year treasury yield with 64% of our acquisitions leased to investment-grade tenants. In 2011, our cap rates averaged 505 basis points over the 10-year treasury yield with 40% of our acquisitions again leased to investment-grade tenants.

So, we've been able to improve our investment spreads based both, on our nominal cost of equity and 10-year treasury yields while continuing to move up the credit curve in 2012. Tom?

Thomas Lewis

Thanks, John. We are obviously very pleased with acquisitions closed for the year and where spreads are given increasing credit as John said and remain optimistic about additional acquisitions this year and what is pretty robust flow of opportunities to look at right now. I would like to note the timing of the acquisitions that came in for 2012. It's kind of interesting to examine. In the first quarter of last year, we acquired a grand total of two properties for $10.7 million. In the second quarter we acquired 145 properties for $210.8 million. Third quarter, acquired 87 properties for $496 million. Then, in the fourth quarter acquired 189 properties for $446.5 million.

Couple of thoughts on that. Our acquisitions, and we have talked about this over the years, but for anybody new, it tends to be lumpy. That was the case in 2012 and we think that will continue to be the case quarter-over-quarter. I wouldn’t look at that as a trendline. They tend to bounce around during the year. It is also ultimately, the volume, as John said, the function of how many larger transaction we closed or don’t close.

So far this year, we think $550 million we are using for planning purposes. It is the most we want to model this early in the year. Even though we think, at this point, the first half of 2013 will be stronger than the first half of 2012 but we will adjust that as the year goes on but that’s what our guidance is based on. Again, the big transactions are really going to drive that.

The other ongoing observation is that acquisitions tend to accelerate late in each quarter and certainly later in the year. That was again the case in 2012 with $942 million of the $1.16 billion coming in the second half of the year. That means a couple of things. The first is the majority of the revenue and FFO from 2012 acquisitions will manifest itself here in 2013. That’s pretty typical.

It also means we bought and closed on 276 properties for $942 million in really the last five months of the year and that was at the same time that we were working on preparing for the closing of the ARCT transaction with another 500 plus properties. I would really like to take a second and give credit to our staff, particularly acquisitions and legal and accounting teams for their efforts over the last few months of the year when the productivity, to say the least, was really outstanding and the hours put in were long.

We have talked a couple of times over the last few years about working on our systems and adding staff to handle additional growth which we have been doing for a couple of years. I will tell you doing that really paid off and allowed us to process that additional volume and move to efficiently integrate it into our systems and portfolio. I would note though that we will need to do that again to continue to grow at a substantial rate. Gary Malino, our President, Chief Operating Officer and I will spend a fair amount of our time this year focused on that again on people and systems.

Let me talk specifically for a moment about the ARCT integration process. That’s going very smoothly, as a great deal of the work was done during the solicitation process on the transaction. But it is a huge volume of work. The tough stuff that was done really as we went along and are mostly done, are the loan assumptions, the entity consolidations, lease reviews, property reviews, title and accounting is pretty much finished. We are really just down to a few outliers here and there. So I would characterize the integration overall as about 80% to 90% finished here just a couple of weeks after closing.

We were helped significantly by the fact that both companies utilize the same software platform, which really helped the integration and then also as you recall in this, there were no management or employee integration issues that came with the transaction. So the majority of what is left is primarily additional data entry and submerging the files and in some remaining lease compliance work. We think we can get almost all of it, if not all, done here in the first quarter.

Anyway, to tie-up acquisitions, we think both on a granular basis and on larger transactions, it will continue to really be acquisitions but it is going to drive the revenue and play the largest role there in our AFFO and our dividends and certainly in the efforts to make ongoing change in the portfolio. To put it in perspective relative to those changes, the last 36 months or so, we have acquired, about $6 billion of property, including ARCT. $3.6 billion or 60% of it is in retail and most in sectors that we are targeting and we think we will continue to perform for us in what's been a pretty tepid retail environment

$2.4 billion or 40% is outside of retail in the sectors with very large tenants. We think will do fine. Then of the $6 billion, $3.8 or 63% was done with investment-grade tenants and a good measure of the rest of the acquisitions, all were also up the credit curve from where the portfolio stood if you go back four or five years. So good progress on that plan.

The other side of that is also funding these transactions. In funding them last three years, we've executed four equity offerings that generated about $1 billion in proceeds. And then in the ARCT transaction did a direct issuance of about $2 billion of equity, so it was about $3 billion of issuance. We did as you recall last year about little over $400 million in perpetual preferred, about $1.12 billion in investment-grade rated bonds and notes that we put out and assume $710 million in mortgages, most of which we plan to pay off in the next few years and then generated about $100 million property sales, so about $5.3 billion of capital on that $6 billion in acquisitions.

Relative to the balance sheet and access to capital, we are in pretty good shape as Paul mentioned. We do have dry powder to close acquisitions. The $1 billion credit facility with $500 million accordion is very helpful in that, but obviously and as Paul alluded to given the closing of ARCRT and the balance on the line, we'll look to access additional capital.

Equity is attractive here as is debt preferred and they are all available and the rates are good. And, for those of us who has followed us a while, I think will want to keep the balance sheet conservative and so the mix of capital should remain pretty similar relative to the debt equity and preferred to where we've been for a number of years now.

2012, good year as I mentioned. A lot of activity that will accrue to our benefit this year. Paul mentioned, we are keeping with the FFO guidance at of $2.32 million, $2.38 million. That's 14.9% to 17.8% growth and AFFO of $2.33 million to $2.39 million, which is 13.1% to 16% growth.

Last comment will be on dividends. Obviously the last six, eight months have been active with substantial increases in the dividend approaching around $0.42 a share and we remain optimistic that our activities will support continued dividend increases during 2013, and I appreciate everybody's patience, but I think we got the most of it. And, Katya, we will now open it up to questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). Our first question comes from the line of Emmanuel Korchman. Please come ahead.

Emmanuel Korchman - Citigroup

Good afternoon, guys. Just given John's commentary earlier on the call about an attractive environment for sellers and pricing staying flat to let's call it a little bit richer than it's been over the last couple of years. Why aren't you selling more into it? I mean, 100 million of dispositions, especially as you try to ramp up, your investment-grade portion of the portfolio seems like it's a low number.

Paul Meurer

Well, I noted it is accelerating, but you are right and we would like to do more, but one of the things that John mentioned was about 80% of the acquisitions are in large transactions and about 100% of the sales are in one-off transactions and rather granular. And if you look at what we have been trying to sell with the C stores and also casual dining restaurants, those are fairly small number, so it is a fairly labor-intensive operation and we also probably would have had a higher volume this year, but we did have a big block of properties probably another $50 million, $60 million that we just started to put on the market and then some M&A activity with the tenant started and that turns out we are getting an upgrade in some of the credit and may not want to sell it. So, I agree. We would like to accelerate it. It is a good market to do into, and if we can go well past the $100 million, we would like to do it.

Emmanuel Korchman - Citigroup

Got you, and then I think you touched on this earlier. I might have missed it. the 0.1% same-store growth. Can you first of all clarify if that's GAAP or cash, and then I think you said that that would accelerate as some tenants get pulled out of the mix. Maybe if you could just repeat that for me?

Paul Meurer

Sure. Yes. It was 0.1% for the year overall and 0.4%. That is cash not GAAP, and normally will run from 1 to 1.5, and if you recall at the start last year we had to tenant issues Friendly's and Buffets, where we did have some rent reductions and during the year we disclosed both, what it would be without and with it for the year that's how you get to that 0.1% numbers, but a lot of that burned off the fourth quarter.

Absent that, I think, same-store rent growth this year would have been 1.3% to 1.5%, somewhere in there. And, so with that burning off and the way the leases were structured, no tenant issues. We really anticipate the first-quarter will bounce back closer to 1.5% and then during the year run between 1% to 1.5% same-store rent growth.

Emmanuel Korchman - Citigroup

Perfect. My last question, I think you mentioned something about double net properties. Maybe you could help me figure out what that would be?

Thomas Lewis

Sure, it is a large portfolio. So there is a lot of everything and for the most part, it is tripled net lease but in some of these properties that we buy, the lease structure particularly contained from a developer maybe different and maybe taxes, maintenance, insurance, but we may have roof responsibilities, then it’s a new roof down the line. There could be some other things that are in there.

So when it's not triple we just call it double but it is probably more like two and three quarters or two and a half. Anybody else want to add in to that?

John Case

That’s right. Most of it is on little bit of property maintenance responsibilities.

Emmanuel Korchman - Citigroup

But it typically wouldn’t be anything outside of that. So you wouldn’t be responsible for taxes or anything more major than…

John Case

That can happen all the time but that’s primarily not the case with most of non-full triple net stuff that we own.

Thomas Lewis

It's primarily just responsibilities with regard to roofing and parking on 90% of those.

Emmanuel Korchman - Citigroup

Right

John Case

There, a minority of the properties that we think it is important to bring it up that if you see a little bit of property expenses that’s where the words coming from. But don’t see a huge acceleration.

Emmanuel Korchman - Citigroup

But otherwise they are similar to the rest of your portfolio in being single tenant large (inaudible).

Thomas Lewis

Yes, and we have had these issues over the years on an ongoing basis. It is just a little larger now. So we brought it up.

Emmanuel Korchman - Citigroup

Thank you guys.

Operator

Our next question comes from the line of Joshua Barber. Please go ahead.

Joshua Barber - Stifel Nicolaus

Hi, good afternoon. Tom and John, as you were mentioning that increasingly more and more of your regular acquisitions are on investment-grade properties. I am wondering why a lot of those tenants are increasingly looking at net lease financing especially given that they should have other credit availabilities? That should be there. It used to be, I guess, the trade-off for a lot of the tenants was the high-yield market or nothing or net lease financing but I am wondering why more and more of those are looking at net lease financing given the absolutely high coupons that seems to be out there as opposed to other sources of financing? Can you maybe walk us through that a little bit?

Thomas Lewis

Yes, there's always been, I think, in retail, which is a smaller preponderance of it. If somebody is really trying to rollout over time using net lease financing relative to their immediate construction. So that’s has been around, and you have particularly seen it in the drugstore segment. So it's become kind of normal and then crept around more in retail. Sometimes it's with people on the street are really putting some pressure on companies to look at their balance sheet and try and unlock some value.

As you know, there is a lot of those discussions today going on around the country on the Opco/propco side and when you get those discussions going, even if people don’t do it then they start looking at what's on the balance sheet and start running the numbers relative to their return on investment and other areas. I think it also started just happening a little bit going back to 2008, 2009 where even some very strong credit started looking at some issues relative to financial flexibility and coming out of that started thinking about real estate a little bit.

Traditionally it was less than investment-grade. It was really early 2000, 2001, we started working a lot with private equity and bringing that up. But its a very common discussion now on the street relative to looking at the real estate and using it. So if you get to the Fortune 500 and Fortune 1,000, a lot of their real estate decisions are outsourced with a group of developers and very often there is just a decision when working with the developer that they not going to keep those assets and some of them come off that way.

But I think there is just more and more talk going on about what's on the balance sheet and how you provide flexibility and use it. So we haven’t seen it like this relative to those discussions particularly in the investment-grade for as long as I have been doing this.

Joshua Barber - Stifel Nicolaus

Okay, that’s very helpful. Thanks. Especially after the Diageo acquisition a couple of years ago and as you mentioned with increasingly a greater numbers of REITs out there with the Opco/propco structure. Is that something that you guys would look at with increasingly different asset classes that are out there? Or you would that be a lot less likely to happen?

Paul Meurer

It is it is very interesting. There is an awful lot of discussion and you know we have had a few companies announce that they are either looking at it or going to do it. Then there has been some movement in our equity and that always causes bankers and lawyers and accountants to more and more discussions and that’s kind of the phase it's at right now. Then the question is, will they get done and if they get done, what will a single tenant REIT trade out and are traditional REIT investors going to accept that or is going to trade at a higher yield?

If a bunch of them get going then typically the first one's probably do pretty well and then you have to see but relative to what it means to us, I think from a tax standpoint for most of those to be done on a tax-free basis more than 50% of the equity has to remain with the company spinning off and that has to happen for a couple of years, so it would take a bunch of those, A, happening and, B, a couple of years going by. And then C, probably valuations not meeting expectations before there would be some opportunities. And given the size of the portfolio now there might be some places where we could invest. If all of that happened, given our size it really wouldn't hit massive concentrations.

Absent that, we just think it's positive to, again begin the discussions are going on in boardrooms around the country about now you can add value using the real estate, and I think it will accrue to our benefit. How much? We just don't know.

Joshua Barber - Stifel Nicolaus

I think the single tenant concept does concern a lot of people, but if that was a 2% tenant exposure for realty income I think a lot of people may just about that differently.

John Case

Perfect. And if it is an investment grade tenant or somebody that we really like an assets or special you could also make that five and six, because if you just look, I mean obviously FedEx does get the real estate off balance sheet that's 5.5%, so now we could take those on and I think in larger numbers as we get larger, but we'd step too if they are.

Paul Meurer

Nothing in the near-term by the way.

Joshua Barber - Stifel Nicolaus

Okay. Thank you very much.

Operator

Our next question comes from the line of Paula Poskon. Please go ahead.

Paula Poskon - Robert W. Baird

Thanks. Good afternoon, everyone. Two housekeeping questions. First, apologies if I missed this in your earlier remarks. What was the acquisition expense in 4Q aside from ARCT cost?

Paul Meurer

$2.4 million for the year and I just don't have it on my fingertips on what it was in the fourth quarter.

Paula Poskon - Robert W. Baird

I'll follow-up offline. Then secondly, what was the difference between the impairment amounts on the income statement versus the FFO calculation?

Paul Meurer

Where you looking?

Paula Poskon - Robert W. Baird

The first was provisions for impairment on the income statement, let me put my spectacles on, 28.04, and then add back in the FFO calculation was 44.72 and I am just wondering what that difference represents. I recognize that's a smaller number.

Paul Meurer

Right. I am trying to find where you are looking at in the add back, Paula, those are two we'll go figure out.

Paula Poskon - Robert W. Baird

That's fine. No problem. And then just sort of a bigger picture just to sort of stay on the theme of the acquisition environment, Tom, I appreciated your color in your prepared remarks on the lines of trade diversification. And aside from your comments about continuing to want to gravitate away from those tenants that have a customer base that are paycheck-to-paycheck, how does that diversification across the line of trades stack up relative to your sort of ideal target. And, how does that compare with the opportunity set that you are seeing currently.

Thomas Lewis

Yes. I mean, the opportunity set is wide, so there is a lot of things that comes across the transom that we might have done a few years ago that we are not doing and moving away from casual dining would be one. We still like convenience store, but that might be another so we could buy a lot more if we really didn't have this view in terms of where we want to take the portfolio.

One of the things that's happened that's been very fortunate is a few more of the investment-grade retailers are out in the market with opportunities where they just weren't few years ago, and then also that, we've widened than that, so we can move outside of retail dealing with larger tenants, so that's really given us the opportunity to do that. I think if I could stop my fingers and make an instantaneous change in the portfolio is one of the questions was earlier why don't you go faster. We would like to, but part of this is matching up opportunities and growing cash flow and dividends with what may be burn rate on that selling a few things.

So, right now there is plenty of opportunities out there, some of which weren't a few years ago and we really, really do want to migrate the portfolio, particularly up the credit curve and away from casual dining. I keep using that, but I use it because obviously have the consumers in the United States are more are middle lower income and that's where like we are currently seeing with the payroll tax and if $20 or $40 goes out of their paycheck, it goes out at other spending, because there is not a buffer.

Paula Poskon - Robert W. Baird

Great. Thanks very much. That's all I had.

Operator

Our next question comes from the line of Todd Lukasik. Please go ahead.

Todd Lukasik - Morningstar

Hi. Good afternoon thanks for taking my questions, guys. Just a few more on the acquisitions, on the $550 million expectation built in for 2013, does that includes an expectation of any portfolio deals within that 550 million, or would they all be incremental to that?

Thomas Lewis

No, I think it includes portfolio transactions but it's one of those where it looks like the first quarter is going to be pretty good and then you move on from there. We are looking at some portfolio transactions but you don’t know how many come through. So, as you know, in the past we started at 250 and kind of guided up as the year went by, but given the last three years of $1.1 billion $1.7 billion. The flow, we sit here and look at each other, look at the first quarter and say, during the course of the year we ought to get there, but as John mentioned 80% last year was larger transaction.

So in this, I would say, at least half is.

Todd Lukasik - Morningstar

Okay, and then you mentioned the increase in staff and adding people to help deal with larger flow of acquisitions. Is that were the majority of the increase in staff is going and could you maybe compare the staff that’s responsible for evaluating these deals today versus what it was, say, in 2009 before you embarked on the portfolio diversification strategy?

John Case

Yes, we probably added a couple people down there in that and in acquisitions a couple people. Then it just floats around the building because a lot of this was systems and just volume. I think looking forward to this year, that’s where the differential will be. I think we may have a pretty good add this year in acquisitions once again and a pretty good add maybe five or six in the research area, be it in real estate research and then maybe an executive or two with specific expertise. Then again, I think, just looking at all the volume we added this year and moving towards capacity, you have to add ones and twos throughout the building by department.

So I think this will be the year and it may not be exactly calendar that that will flow in and I am really thinking specifically in research and specific segments with some people we can bring in that have done a lot of work there and research and acquisitions, primarily.

Todd Lukasik - Morningstar

Okay, then the $17 billion you mentioned in deals that came through your door last year. Does that include ARCT?

Paul Meurer

Yes, that does include ARCT.

Todd Lukasik - Morningstar

Okay, and then with regards to the industry exposures you were talking about, I guess in recent history you were comfortable in then some of those industries being near about 20% of revenues. Is there a new target that you have in mind in terms of where you wouldn’t want to go beyond now? I know the C stores are around 12%. Could some industry concentration go higher than that or are you still looking to lower those across the board?

Thomas Lewis

Well, we are at about 20% as the farthest we would ever go but we don’t like 20% near as much as we did, and one of the things just really watching going through the recession, while we sailed through it is those exposures you did sit and worry about, and as we get to the size in 44 different industries, which is very fortunate that you can bring that down. So I now look at 10% as being on the high side and it needs to be just because there is a particular opportunity that came along and its something we really like but we can keep them down around five that is just great the would be a great event.

The exception obviously is if you end up working in an industry where you have got three or four really top light Fortune 500 type credit sitting in there. But the answer is, yes, the lower number is better.

Todd Lukasik - Morningstar

Okay, and then last one for me. I think you guys had announced that you would do a dividend increase early this year regardless of whether ARCT closed and I am just wondering what thoughts are going forward in terms of evaluating the fifth dividend increase throughout the year and whether or not you expect that to continue to happen around the August time frame? Or whether those will be more fluid discussions throughout the year?

Thomas Lewis

With the payout ratio, if you look about where guidance is up around 91, I will tell you, we are comfortable, given the size of the portfolio and the added diversification you referenced. We would like to walk that back down but it is really rose been a mid to high 80s type companies. So its not material and whether that happens over a year or two, we are open to.

So I am going to first say, it will be a more fluid decision. I think the four increases or something that we would plan on. then it is going to be really taking the pulse. We recently use August. It is usually by then we put a fair amount on the books and then we have some clarity relative to how the third and fourth quarters are going to look. That gives a little ability to see what the impact of that fifth dividend is. Not so much in 2013 but 2014.

So we are really not to be in a position to know until we get later in the year, but given obviously we did the increase in August $0.06 a share and then we did $0.35. We front loaded it a little bit of it but I wouldn’t want to take it off the table at this point.

Todd Lukasik - Morningstar

Right, okay. Thank you.

Operator

Our next question comes from the line of Rich Moore. Please go ahead.

Richard Moore - RBC Capital Markets

Hi, good afternoon, guys. Tom, did you guys looking at Cole at all? The Cole that is sold to, in the portfolio, but sold to the Spirit?

Thomas Lewis

We look at lots of stuff, and as you can imagine given the size get an opportunity. Look, we think most everything comes across the line and that be a logical thing to do, but on everything that comes in John references the $17 billion. There is a tremendous amount we've signed confidentiality agreements on and so it's our policy not to reference transactions that we didn't do and so I wouldn't want to go beyond that, but I will tell you there has been a lot of activity in the space over the last year and I did it would be surprising if there were things we didn't look at.

Richard Moore - RBC Capital Markets

Okay. Fair enough. Then do you think there are more of those kind of entities that will be coming along? I mean, is that are we done or is it just coal and ARCT, or they are more out there currently. I am just wondering if they will be making their way to market.

Thomas Lewis

It's interesting a lot of that is generated by the private REIT space, where there's just a tremendous amount of money being raised through the financial advisor community for those type assets and traditionally if you go back, had this longer life which as of late, Scott, shortened up because the liquidity event is something that obviously is considered favorable by those people that would put these on the client's portfolio for a number of reasons economic being some of it and then secondarily I think it also enhances the, say, business model of the sponsor, and so I would see more coming since there's a lot being raised.

And if you look at that business, where traditionally it was a lot wider relative to the property types they were dealing in a good part of businesses net lease today. I think there is more out there and then I would reference back to just a lot of the Opco/propco-type stuff. So, it's hard to what it will be property type stuff, so it's hard to know what it will be but I think there will be some larger transactions coming out there.

The good time to mention, we over the years on an M&A slide and you and I have talked about this about, have had a lot of opportunities and things presented that could have been done and one of the real challenges is, underwriting in one fell swoop, big portfolio like this. We spend a lot of time underwriting on a very granular basis and this comes along and it really puts pressure on the underwriting side of it.

And if you look at this particular transaction it was one where it was mostly investment-grade and it was a lot of the same tenants we work in, in areas that we had targeted and that was one of the reasons we are do it and it was also a fairly new portfolio, so the leases were long. But, with some of these as they age and they come to market, then it brings up a lot of those issues that might make it a little more troublesome for us, but we do want to look at all them.

Richard Moore - RBC Capital Markets

Okay. Good. Thanks, and that kind of answers a little bit the next question I have which is going back to selling of assets, I mean, I am curious why you guys might not do a portfolio-type sale given that, I understand that there is cash flow implications, but you are obviously buying a lot of things as a matter fact. If you only about $550 million worth of stuff this year, you kind of wonder you would even have to clear the line of credit, so I kind of think you will do more than that. So if you are doing more than that, I mean, why not a portfolio transaction if there is someone that can evaluate the portfolio and then get rid of the bottom 2% of your portfolio kid of thing?

Paul Meurer

Right. While they may be our stepchild, we love our stepchild, and doing it in volume presents some issues for the ongoing cash flow stream and its consistency, which since will be monthly dividend company. That's very important. We did look at a couple of those ideas I referenced earlier about block of C stores and ended up pulling it off the market so we may do a bit more of that.

And as were buying like ARCT, I have been asked are you guys going to sell part of that. We really as you know have taken the entire portfolio and do it again and stratify it, and we do have about I would say 20% of the portfolio that we would like to move up over time, but some of those are also properties that have been on the books, so the leases are little shorter and some of them have some other characteristics that make it a little more challenging in a bulk transactions. So, again, I think if people think towards the hundred-and-over number for this year, that's probably the right one.

Richard Moore - RBC Capital Markets

Okay. very good. Thank you very much.

Operator

This concludes our question-and-answer portion of the Realty Income's conference call. I will now turn the call over to Tom Lewis for concluding remarks.

Thomas Lewis

Great. Listen, thank you everybody for little over hour of time here. We appreciate it the busy earning season, and we will look forward to seeing you at our conferences and look forward to talking to you again next quarter, and thanks, Paul Thanks, John, and thank you, Katya.

Operator

Ladies and gentlemen, this concludes our conference for today. Thank you for your participation. You may now disconnect.

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