Essential Properties Realty Trust Inc

NYSE:EPRT

Earnings Call Transcript 2022-Q3

[Operator]

Good morning, ladies and gentlemen. And welcome to Essential Properties Realty Trust Third Quarter 2022 Earnings Conference Call. [Operator Instructions]

This conference call is being recorded and a replay of the call will be available two hours after the completion of the call for the next few weeks. The dial-in details for the replay can be found in yesterday's press release. Additionally, there will be an audio webcast available on Essential Properties website at www.essentialproperties.com and archive of which will be available for 90-days.

It is now my pleasure to turn the call over to Dan Donlan, Senior Vice President and Head of Capital Markets at Essential Properties. Thank you, sir. Please go ahead.

[Daniel Donlan]

Thank you, operator, and good morning, everyone. We appreciate you joining us today for Essential Properties third quarter 2022. Here with me today to discuss our operating results are Peter Mavoides, our President and CEO and Mark Patten, our CFO.

During this conference call, we will make certain statements that may be considered forward-looking statements on our Federal Securities Law. Company's actual future results may differ significantly from the matters discussed in these forward-looking statements. But may not, these revisions, these forward-looking statements reflect changes as the statements were made. That could cause actual results to differ materially from expectations are disclosed from time-to-time in greater detail in the company’s filings with the SEC and in yesterday’s earnings press release.

With that, Pete, please go ahead.

[Peter Mavoides, President and Chief Executive Officer]

Thank you, Dan. And thank you to everyone who is joining us today for your interest in Essential Properties. As our third quarter results indicate, our portfolio continues to perform at a high level with record level unit level coverage of 4.2 times. Same-store rent growth of 1.7% and just three vacant properties.

This strong performance is a testament to our disciplined underwriting process, the resiliency of our service oriented and experience based tenancy and our consistent recycling of capital out of weak performing properties.

On the investment front, we remained active in support of our long standing tenant relationships and we continue to adjust cap rates and sellers expectation throughout the quarter to better reflect the abrupt moves in the capital markets.

With quarter end leverage of 4.4 times and liquidity of nearly 900 million, our balance sheet is well capitalized for continued investment. We are committed to maintaining a conservative balance sheet, and investors should expect us to remain well within our historical leverage range of 4.5 times to 5.5 times.

We are establishing 2023, AFFO per share guidance at $1.58 to $1.64, which implies 5% growth midpoint-to-midpoint. This earnings growth projection relative to the double-digit growth experienced over the last two-years, mostly results from our measured external growth outlook, current volatility in the capital markets and underlying investment spreads.

Turning to the portfolio, we ended the quarter with investments in 1572 properties that were 99.8% leased to 329 tenants operating in 16 industries. Our weighted average lease term stood at 14-years, with only 4.2% of our ABR expiring through 2026.

From a tenant health perspective, or weighted average unit level of coverage ratio sequentially improved to 4.2 times this quarter, with our percentage of ABR under one times coverage declining to just 3.7% of ABR versus 6.4% last quarter.

We expect this positive trend among our lowest coverage cohorts to continue as these statistics still remain negatively skewed by our trailing 12-month reporting convention, which lags our own reporting by one or two quarters and the fact that various municipalities were still placing capacity restrictions on certain industries in the back half of 2021.

During the third quarter, we invested 195 million through 27 separate transactions, at a weighted average cash yield of 7.1% which was up 10 basis points versus the prior quarter. These investments were made in 13 different industries, with approximately 60% of our activity coming from the quick service restaurant, equipment rental, medical and casual dining industries.

The weighted average lease term on our investments this quarter was 16.5 years. The weighted average annual rent escalation was 1.6%. The weighted average unit level coverage was 4.4 times and the average investment per property was 3.8 million.

Consistent with our investment strategy 89% of our quarterly investments were originated through direct sale lease backs, which are subject to our lease form with ongoing financial reporting requirements and 68% contain master lease provisions.

Looking ahead to the fourth quarter, we have closed 60 million of investments to date, and our pipeline remains active at increasingly higher cap rates. From an industry perspective, early childhood education remains our largest industry at 13.5% of ABR, followed by quick service restaurants at 12.6% Medical and Dental at 11.4% and car washes 11%.

Of note, unit level coverage for our early childhood education portfolio continues to increase above pre-pandemic levels. As our operators have experienced strong pricing power due to favorable supply demand imbalance.

From a tenant concentration perspective, our largest tenant represents 3.7% of ABR at quarter end, and our top 10 tenants account for only 19.4% of ABR. Tenant diversity is an important risk mitigation tool and differentiator for us.

And it is a direct benefit of our focus on unrated tenants and middle market operators which offers an expansive opportunity set. In terms of dispositions, we sold 12 properties this quarter for 35.5 million in net proceeds at a 6.2% weighted average cash yield with a weighted average unit level coverage of 1.2 times.

As we have mentioned in the past, owning fungible and liquid properties is an important aspect of our investment discipline as it allows us to proactively manage industries, tenants, and unit level risks within the portfolio. We expect our level of dispositions to remain elevated in the fourth quarter, as cap rates for individual granular properties remain near historic lows.

With that, I would like to turn it over to Mark Patten, our CFO who will take you through the financials and the balance sheet for the second quarter. Mark.

[Mark Patten, Chief Financial Officer]

Thanks, Pete and good morning everyone. As was evident in our release last night, the third quarter was another solid quarter for us with our portfolio continuing to produce consistent internal rent growth in our balance sheet and liquidity in a highly favorable position.

Among the headlines last night was our AFFO per share, which on a fully diluted per share basis was $0.38, to an increase of 15% versus Q3 2021. On a nominal basis or AFFO total 53.5 million for the quarter of 13.3 million over the same period in 2021, an increase of nearly 33% and up nearly 6% compared to the preceding second quarter of 2022.

We also reported last night that our AFFO per share for the nine-months ended September 30, 2022 total $1.15 per share on a fully diluted per share basis, which is a 19% increase over the same period in 2021.

On a nominal basis our year-to-date 2022 AFFO, totaled $153 million. That is an increase of $40.4 million over the same period in 2021 an increase of nearly 36%. Total G&A was approximately 7.9 million in Q3 2022 versus 5.6 million for the same period in 2021 with the majority of the increase relating to an increase in non-cash stock compensation expense.

Our third quarter cash G&A moved higher sequentially by approximately 800,000 of which nearly 300,000 was a one-time item relating to the expensing of costs associated with an amendment that lower the rates in our 2027 term-loan, which we were required to write off. Our cash basis G&A as a percentage of total revenue was up during the quarter, but we continue to expect this percentage to rationalize through the balance of 2022 and into 2023.

Turning to our balance sheet, I will highlight the following. With our $195 million in 3Q 2022 investments, our income-producing gross assets reached $3.8 billion at quarter end. From a capital markets perspective, we had a very strong quarter from both a debt and equity perspective.

In August, we completed an overnight offering that was upsized based on strong demand, which generated just over $190 million in net proceeds. We also generated approximately $20 million in net proceeds in the early part of the third quarter from our ATM program.

As we reported with our second quarter 2022 earnings call, we closed a $400 million five and a half year term loan this past July. We completed the 2028 term loan through an amendment of our credit facility and at closing we drew an initial $250 million which we swapped to fixed during the third quarter.

In October, we drew the remaining $150 million that was available under the 2028 term loan, $50 million of which we have swapped to fixed and we expect to swap the remaining 100 million to fixed in the near-term.

Our net debt to annualized adjusted EBITDAre was 4.4 times at quarter end. At quarter end, our total liquidity stood at nearly $900 million. Our conservative leverage position, strong balance sheet and significant liquidity position, continues to be supportive of our current investment pipeline and sufficient to fund our future growth plans in 2023.

Lastly, I will reiterate that our current investment pipeline, outlook for the core portfolio and our continued strong performance this quarter provided us with the basis to maintain our 2022 AFFO per share guidance range of $1.52 to $1.54 which as we have previously noted implies a 14% year-over-year growth rate at the midpoint.

Lastly, as Pete mentioned, in our release last night, we issued our AFFO per share guidance for 2023 at a range of $1.58 to $1.64 which implies a 3% to 7% growth at the low and high ends of the range, relative to the midpoint of our 2022 AFFO per share guidance.

With that, I will turn the call back over to Pete.

[Peter Mavoides, President and Chief Executive Officer]

Thanks Mark. Operator, let's please open the call for questions.

[Operator]

Thank you sir. [Operator Instructions]. Our first question comes from the line of Nick Joseph with Citi. Please proceed with your question.

[Unidentified Analyst]

Hi, there. It is [Nick Kerr] (Ph) on for Nick Joseph this morning. A quick one for me. I was just wondering what if you could quantify sort of what being more prudent means on the acquisition market versus the average quarterly acquisition volume, which I think you have all set is around 220 million?

[Peter Mavoides, President and Chief Executive Officer]

Yes, I mean and we quantify that in our materials and I would be reluctant to put a number on that, certainly the markets had been volatile. And we are fortunate to be in a position where we have ample capital to invest.

And our investment pace will really depend on what is going on in the capital markets and our ability to move cap rates with our relationships. And so we are trying to moderate expectations, but it is obviously a dynamic time. And it will depend on what the markets bring.

[Unidentified Analyst]

Okay, thanks for that. And then a quick follow-up on that is, if there is sort of a threshold on cap rates that you think would bring you back into the markets will be a little bit more active on acquisitions going forward?

[Peter Mavoides, President and Chief Executive Officer]

Yes, I would stopped short of providing a threshold and, we price each individual transaction based upon the, our view of the appropriate risk adjusted returns for that transaction. And we make investments to create accretion.

And so there is no hard number there. But certainly, given our current cost of capital, and we are cap rates are, we are being a little more judicious than we have in the past, because the spread isn't as wide as we have seen.

[Unidentified Analyst]

Great. Thanks.

[Peter Mavoides, President and Chief Executive Officer]

You got it. Thank you Nick and congrats to Nick.

[Operator]

And our next question comes to the line of RJ Milligan with Raymond James. Please proceed with your question.

[RJ Milligan, Raymond James]

Hey good morning guys. I guess I will start with my boiler plate question here. And how do you view your current cost of capital? What is it? And how do you calculate it?

[Peter Mavoides, President and Chief Executive Officer]

Yes, so as I said to Nick, we don't love our current cost of capital. But that said, we were fortunate to raise capital earlier in the year and have capital to deploy that has already been raised. We also have the ability to raise capital through capital recycling, kind of in that low six range, as you see through our accelerated disposition activities.

And kick it over, Dan, kind of give you the specifics on how we think about it. But stop shorter given a specific number at this point, because obviously, it is been pretty volatile. But Dan go ahead.

[Daniel Donlan]

Yes, RJ in terms of our whack, you know, we always look at our implied cap rate as kind of a shorthand way to look at that, which is around a 6.6 A, and then we look at our, the traditional, you know, weighted average cost of capital analysis, which, we view as a 50, 40, 10 mix of equity, debt, and free cash flow dividends.

And when you do that math and you put everything together and weighted our weighted average cost of capital is anywhere between 6.4 and 6.8. And that is about a 75 to 100 basis points spread versus where we are seeing our pipeline today on initial yield basis. And on a straight line basis you can add another 90 to 100 basis points to that.

[RJ Milligan, Raymond James]

That is helpful. And then I guess for the 60 million acquired so far this quarter, what was the average cap rate?

[Peter Mavoides, President and Chief Executive Officer]

The average cap rate.

[Mark Patten, Chief Financial Officer]

I would add it to 7.2.

[Peter Mavoides, President and Chief Executive Officer]

7.2. Yes. So you know, listen, we tend to think about the cap rates on the overall pipeline, and certainly based upon, the mix of deals that we have in any given quarter, but to 72 on that 60. I think a better, we would want to be more a wider range low to mid-7s for the entire quarter.

[RJ Milligan, Raymond James]

Got it. So certainly accretive deal so far this quarter, just based on your current whack, but a little bit tighter spread.

[Peter Mavoides, President and Chief Executive Officer]

I think that is accurate. Yes. Which is one that kind of goes part and parcel with tempering our investment appetite.

[RJ Milligan, Raymond James]

That makes sense. Thank you.

[Peter Mavoides, President and Chief Executive Officer]

Thank you RJ.

[Operator]

And our next question comes from the line of Wendy Ma with Evercore. Please proceed with your question.

[Wendy Ma, Evercore]

Hi good morning and thank you for taking my questions. So my first question is, would you mind talking about your current acquisition pipeline and how much of acquisitions are like in the pipeline and also given the 4Q acquisitions to-date, how would you compare this to the historical levels?

[Peter Mavoides, President and Chief Executive Officer]

Yes. So 60 million quarter to date would indicate a pace relatively consistent with historical levels. As I said, in the prepared remarks, our pipeline remains robust. But it is certainly it is a volatile market and there is a bid ask spread with buyers and sellers, given the volatility and capital markets. And typically, the fourth quarter is a little elevated on an historical basis given the tax motivated sellers at year-end.

So, it is a little early in the quarter to put a fine point on that. But the pipeline is full, we are seeing good opportunities. But we are continuing to try to push cap rates to get sellers expectations to meet ours.

[Wendy Ma, Evercore]

Okay, thanks. And my second question is, does the current economic slowdown or the recession impact any of your tenants and do you have any expectation for the remainder of this year and how would you think about your occupancy going into next year?

[Peter Mavoides, President and Chief Executive Officer]

Listen, I first I would start that, we expect continues kind of as a always to have our occupancy high, because we have very fungible assets that are subject to very long dated leases, and very little rollover. And so, I would not expect our, our occupancy to dip materially in the fourth quarter or next year.

As part of our operating assumptions, we model credit losses, both for situations that we anticipate, and situations we don't anticipate, and those assumptions would be embedded in the guidance, one that we reiterated for this year, and two for the guidance that we provided for next year.

All that said the portfolio is in a great spot. Our coverage is at a record level, we continue to see improvements in our lower performing cohorts which are operators with sites with coverage below 1.5 or below 1, we see that pool continuing to migrate smaller and it is a - it doesn't feel like there is a recession with what we are seeing and hearing from our tenants. The portfolio is operating in a really good fashion at this point.

[Wendy Ma, Evercore]

Okay, thanks. That is helpful.

[Operator]

And our next question comes from the line of Haendel St. Juste with Mizuho. Please proceed with your question.

[Haendel St. Juste, Mizuho]

Hey, there. Good morning. I guess a follow-up on guidance for next year. I'm curious what gave you the confidence, I guess, to put a guidance range out there given the challenging macro shifting capital markets and asset price you mentioned. And I'm curious, what are the underlying assumptions for new equity, capital recycling and leverage parameters within that guidance? Thanks.

[Peter Mavoides, President and Chief Executive Officer]

Yes, Haendel. One of the factors that gave us confidence in issuing guidance is, I guess, two. One is it is a wide range of guidance and two has a very wide range of assumptions underlying those -- the guidance and that relates to raising capital buying assets and the cap rates at which we are deploying capital.

So unfortunately, at this point, we are not in a position to give more clarity on those specific components, because as you point out, they are pretty volatile. But we are confident in a range we provided, looking at a wide range of scenario around all of those inputs.

And I would say one of the biggest factors is that, contributed to that level of comfort is the fact that, we have a lot of capital availability that already built into our balance sheet as we sit today with our leverage at historic low levels and nearly $900 million of liquidity.

[Haendel St. Juste, Mizuho]

Okay. Fair enough. A separate question, I guess, on the July debt offering. I think you guys had issued 150 million floating on a five-year. I think you mentioned you fixed 50 million of that. So I guess I'm curious, first of all, can you walk us through the thinking there and why you didn't issue long-term fixed for all of the back end and then what is the plan for the remaining 100 million that hasn't been fixed? What are you looking for? When should we expect them to fix that? Thanks.

[Peter Mavoides, President and Chief Executive Officer]

Yes. I will let Mark tackle the specifics on the term loan. In terms of issuing longer-term pay, we opted to go to the term market on a short-term basis because it was just much more efficient than where the long-term 10-year unsecured bond market was.

And given our maturity schedule and debt profile, we had ample runway to layer in that very efficient five year execution. But Mark can give you specifics on when we drew it, when we fixed it and what we have left.

[Mark Patten, Chief Financial Officer]

Yes. And though we may have mentioned this on the second quarter call, but I will hopefully, maybe reiterating into apologies for that. But first and foremost, as Pete mentioned, the unsecured bond market really through the balance of this year has been pretty dislocated.

Frankly has gone from dislocated to extremely dislocated. And so we opted for the term loan execution, even though we really modeled in the anticipation of doing a fixed unsecured bond deal. As it relates to the actual term loan itself and the execution, our initial draw was really kind of an indication of our initial - what we thought our initial capital need was from that borrowing.

So once we decided that we sort of legged our way into swapping that the fixed, you can see that in our debt schedule, I think the weighted average rate is 4.4. So once we, frankly, once the markets continued to be choppy and frankly, looking like they are going to be challenging for quite some time, we decided to draw the remaining 150 in October.

Once again, we kind of legged our way in and started to swap that that is probably going to not be too far north of where we were swapping the first 250. And I think that is going to be buttoned up, actually pretty quickly.

[Haendel St. Juste, Mizuho]

Okay, thanks. And then one more on, I guess, tenant categories, watch list. Curious on any categories was specifically concerned about here in a recession, anything incremental on the watch list and I guess, I'm particularly curious about town sports, what is your sense of what is going to happen there?

[Peter Mavoides, President and Chief Executive Officer]

Yes, I guess, on a macro basis, the watch list is as low as it is been, and in a good spot. And, you know, I think our first level of concerns really become more tenant specific, and less industry specific. Really looking at tenants that may have weaker balance sheets or maturities, or just not be as good operators and that tend to be who we focus on.

But as I said, overall, the portfolio is in a great spot, and we don't have any high-level concerns going into recession. Some people will point to casual dining is one of the first industries to kind of fall off in a recession and we will certainly watch those operators very closely as if this recession sets in, certainly doesn't feel like it at this point.

As relates to Town Sports, they used to be a top tenant of ours, that company went through a bankruptcy and a restructuring a new entity went into our sights coming out of that bankruptcy over a year-ago.

And that entity, continues to struggle and we were fortunate to release those three assets away from that entity with the new operator, it represents probably about 50 basis points of ABR and we think we have put those assets in better hands at this point. So we don't have any specific concerns or specific commentary about how Town Sports is performing.

[Haendel St. Juste, Mizuho]

Great, forgive me, I had a follow-up question from an investor. If you were willing to comment on the guide for next year, I know it is a wide range you put up there with a wide range of assumptions, but the question is, can you get to the midpoint of a guidance without new equity? Thanks.

[Peter Mavoides, President and Chief Executive Officer]

Yes. Listen, we can. And there is a lot of variables and we can we can play with all of them, and we could get to the midpoint without issuing additional equity.

[Mark Patten, Chief Financial Officer]

Actually, without issuing additional debt, but just using the credit facility, is kind of what I would add.

[Peter Mavoides, President and Chief Executive Officer]

And staying well within our historical range of 4.5 to 5.5 handout.

[Haendel St. Juste, Mizuho]

Okay, important. I appreciate you adding it.

[Peter Mavoides, President and Chief Executive Officer]

That is important.

[Operator]

[Operator Instructions] Our next question comes from the line of Greg McGinniss with Scotiabank. Please proceed with your question.

[Greg McGinniss, Scotiabank]

Thanks for taking my question. I appreciate time this morning. I'm just trying to think about kind of the best way to view this moderated approach towards acquisitions. And maybe for some context, if you had this view, or this approach at the beginning of Q3. How might that have impacted the level of acquisitions and cap rate achieved?

[Peter Mavoides, President and Chief Executive Officer]

Listen, I think, we had a similar level of caution going into Q2, and we had a similar messaging, and that quarter ended up around 175 million that probably a seven instead of 10. And so, it is really, the markets really dynamic, we are fortunate to have ample investment capacity, and the pace at which we put that capital to work will really depend upon the market and our ability to bridge the current bid ask spread that exists between buyers and sellers.

If that bid ask spread narrows and we are able to get the yields, we think appropriate, then we could end up doing more if that bid ask spread persists and sellers continue to hold expectations that are tethered to the earlier market then our acquisition levels could be extremely muted. And that is a wide range and it is kind of too early to really tell what that might look like.

[Greg McGinniss, Scotiabank]

And I guess, in thinking about this, the bid ask spread that you are seeing today. If you, if the acquisitions didn't come in at the 71, the sellers were looking for. Is it your expectation that the deals just wouldn't have happened at all or is there just enough buyers right now that you are still kind of maintaining cap rates and I guess, with everyone dealing with the same kind of increase in cost of capital. What forces that to change?

[Peter Mavoides, President and Chief Executive Officer]

Yes. I think there has certainly been a change in the competitive landscape with the private and leverage buyers becoming less aggressive. And the public markets also becoming a little less aggressive.

We in doing sale leaseback transactions with long standing relationships, our competition tends to be with alternative capital sources, it could be debt financing, it could be equity, it could be - however, these companies decided to capitalize themselves away from us.

And so, it is, we are not necessarily just competing against, real estate cost of capital, but capital solutions across the spectrum, all of which are currently repricing. And so it is hard to say whether the transactions just wouldn't have happened or they would have happened away from us is different rate or would have happened away from us with a different capital source. But I think probably some combination of that.

[Greg McGinniss, Scotiabank]

Okay, thank you.

[Peter Mavoides, President and Chief Executive Officer]

Thank you Greg.

[Operator]

And our next question comes from the line of Joshua Dennerlein with Bank of America. Please proceed with your question.

[Joshua Dennerlein, Bank of America]

Yes, hey everyone. Two similar questions. One just what is competition for you - what is the buying competition out there like today and then the conversations with sellers, do they recognize that buyers cost of capital have changed and like what kind of pushback are they giving on pricing at this point?

[Peter Mavoides, President and Chief Executive Officer]

Yes. The competitive environment as I kind of just alluded to is kind of a little bit muted with the private buyer going away. That said, public buyers are increasingly searching for yield and we are finding some peers come into our space and it is getting a little more competitive from that perspective. And so, on balance, it is still pretty competitive, but not as competitive as it was say in the first quarter of the year or even the fourth quarter of last year.

And we are buying from sophisticated sellers that run operating companies and they recognize what is going on in the markets and they live it through their businesses and understand how cost of capitals work and what is going on in the interest rate environment. And so, they certainly see it. It doesn't mean they are necessarily willing to pay it, and it is kind of a price discovery process that we are going through now.

[Joshua Dennerlein, Bank of America]

Got it. That is it for me. Thank you.

[Operator]

And our next question comes from the line of John Massocca of Ladenburg Thalmann. Please proceed with your question.

[John Massocca, Ladenburg Thalmann]

Good morning. As you kind of look at cap rate environment today. Maybe how wide is the spread in terms of cap rate between what was closed during the quarter or maybe even in the pipeline as a quarter end versus what is kind of bringing into kind of the under PSA or LOI bucket?

[Peter Mavoides, President and Chief Executive Officer]

Yes. It is kind of - that is really hard to look at certainly in the pipeline, because that number is, as I said kind of earlier in the call is widely dependent upon the mix of deals, the size of the operators and the industries that were investing in.

Our cap rates have moved up 20, 30 basis points throughout the course of the year. If you look at the 7.2% we just disclosed on the subsequent activity versus kind of 6.9%. And so, I think that thirty basis points is a good proxy as any.

[John Massocca, Ladenburg Thalmann]

I mean, is that level of expansion you have seen this year, something that is - maybe your visibility in as you think about acquisitions, they are going to enter that PSA LOI bucket in November, December even January of next year like an additional 30 basis points?

[Peter Mavoides, President and Chief Executive Officer]

An additional. Potentially and that is one of the reasons why we are trying to moderate investment expectations, as we would like to see that another 30 basis points, and we think it is appropriate. But we are not sure we are going to get it.

And if we don't get it, we will likely invest less. And so we are pushing cap rates recognizing that our cost of capital has moved and endeavoring to get as wide investments read as we can, while continuing to service our relationships and protect our relationships. But I do think continuing to move that cap rate is warranted.

[John Massocca, Ladenburg Thalmann]

And then on the acquisition side, have you seen any tenants that maybe kind of priced out of being attractive targets, because they become more institutionalized or people who enamored with their kind of credit, come back into a case kind of pricing range that makes sense for doing for you to kind of target from an acquisition perspective.

[Peter Mavoides, President and Chief Executive Officer]

Yes, I think, we have seen a fair amount of that where deals in the first or second quarter priced away from us, or priced away from where we thought the appropriate risk adjusted return was, that went to other buyers, maybe a private buyer or someone else who didn't perform or retreated, and come back to us, based upon our certainty and reliability at higher cap rates. And so there is a fair amount of that, as you would expect, and markets that are as choppy and volatile as these.

[John Massocca, Ladenburg Thalmann]

And then on the disposition side of things. I mean, there is language in kind of the prepared remarks about dispositions being elevated in the back half of the year. You should review what happened in 3Q is kind of an elevated pace of dispositions, or could that accelerate further?

[Peter Mavoides, President and Chief Executive Officer]

Yes. The scores are a quarter average for a reason, we think, I think that is a good indicator of what to expect, the third quarter is elevated. I would stop short of setting expectations beyond that.

That said, we have a very liquid portfolio, retail buyers, that market, it remains active, and the cap rates in that market have not moved as much as one would expect. So it remains an attractive source of capital for us and so I think the third quarter expectation is probably reasonable going forward.

[John Massocca, Ladenburg Thalmann]

Okay. Very helpful that is it for me. Thank you.

[Peter Mavoides, President and Chief Executive Officer]

Thanks John. I appreciate it.

[Operator]

And our next question comes to the line of Chris Lucas with Capital One Securities. Please proceed with your question.

[Chris Lucas, Capital One Securities]

Hey good morning guys. Three questions for me. So one bigger picture question. You have been at this a long time. And I guess I'm just curious as to what you see, or your experience has been as what a normalized spread between acquisition cap rate, and cost the capital should be in this business over a long period of time?

[Peter Mavoides, President and Chief Executive Officer]

Yes, it is kind of ad from as high as 300 to as low as 100 or 80. I would say, certainly north of 100 should be a reasonable threshold, as a spot estimate. But I do think that overall the asset class has evolved and there is greater appreciation for the durability of the asset class, and that there was excess spread, given the inefficiency in the asset class, and I would expect that excess spread to come out overtime as people have a growing appreciation for the durability of these assets through various cycles.

[Chris Lucas, Capital One Securities]

Okay, thanks for that. And then, just in terms of the conversations you are having with potential sellers, is their motivation changing at all given the environment or is it still essentially what it was a year-ago or three, four-years ago?

[Peter Mavoides, President and Chief Executive Officer]

Yes, I would say, given me we are doing call it 90% sale leasebacks, and sale leaseback motivations tend to be driven by a defined set of catalysts, business M&A growth acquisition, tends to be the largest of that there could be some equity recaps or debt refinancing that could be part of that as well.

And so those factors change slightly. But the vast majority of our sale leaseback transactions are driven by our relationship tenants that are seeking to grow and buy up competitors and grow in adjacent markets.

[Chris Lucas, Capital One Securities]

Okay. and one last question for me just relates the prior question, which you mentioned that you are the retail buyer cap rate, and it is been a little stickier. Do you think because your typical asset is smaller more or liquid and therefore more likely to find an all cash buyer, that that cap rate will be stickier over time?

[Peter Mavoides, President and Chief Executive Officer]

Absolutely. That is a key fundamental of why we buy assets and how we look at an asset and the risk of owning that asset is our ability to have liquidity and selling that asset and to the extent that, the end buyer is not tethered to a third-party financing. What you tend to see and call it a one to $4 million asset that you wouldn't see in a $4 million to $20 million asset cap rates are going to be a lot more stickier than less tied to interest rates.

[Chris Lucas, Capital One Securities]

Okay, thank you. That is all I had this morning.

[Operator]

There are no further questions at this time. I would like to turn the floor back over to Pete Mavoides for any closing remarks.

[Peter Mavoides, President and Chief Executive Officer]

Great. Well, thank you all for your time today. Thank you for your questions. Certainly a dynamic time that we are navigating through and we appreciate your diligence and working with us and we look forward to meeting with you all in the upcoming NAREIT. Take care and have a great day.