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Realty Income Corp
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Good afternoon. My name is Cree, and I will be your conference operator today. At this time, I'd like to welcome everyone to the Realty Income Fourth Quarter and Year-end 2020 Operating Results Conference Call. [Operator Instructions].
I would now like to turn the call over to Andrew Crum, Associate Director at Reality income. You may begin, sir.
Thank you all for joining us today for Realty Income's fourth quarter and year-end 2020 operating results conference call. Discussing our results will be Sumit Roy, President and Chief Executive Officer; and Christie Kelly, Executive Vice President, Chief Financial Officer.
During this conference call, we will make certain statements that may be considered forward-looking statements under federal securities law. The company's actual future results may differ significantly from the matters discussed in these forward-looking statements. We will disclose in greater detail the factors that may cause such differences in the company's Form 10-K. [Operator Instructions].
I will now turn the call over to our CEO, Sumit Roy.
Thanks, Andrew. Welcome, everyone. As we remain in a remote work environment to promote the safety of our employees and community, I continue to be impressed by the resiliency and talent of our team to drive our business forward through the current pandemic. Additionally, I remain appreciative of the support resiliency of our clients and partners who continue to perform under challenging circumstances.
On the personal front, we were excited to welcome Christie Kelly to our management team in January as Executive Vice President, Chief Financial Officer; and in February, Michele Bechor joined our team as Executive Vice President, Chief Legal Officer, General Counsel and Secretary.
Mike Pfeiffer, who served as Executive Vice President, Chief Officer, General Counsel and Secretary, will retire after over 30 years of service. Mike will remain serving our company through June 2021 as Chief Administrative Officer and will continue leading our team members as well as assisting Christie and Michelle through their transition at Realty Income until his well-deserved retirement.
Words cannot fully reflect Mike's many contributions to our company for over 3 decades, and I'm so immensely grateful for his partnership with me throughout the year.
Moving on to financial matters, including a summary of the quarter and year. During the fourth quarter, we invested over $1 billion in high-quality real estate, including $467 million in the U.K., bringing us to over $2.3 billion invested during 2020, approximately $921 million of which was invested in the U.K. Investments during the year were largely concentrated in the grocery and home improvement industries, both of which continue to thrive during the current economic environment.
We maintained low leverage and ample liquidity throughout the year while enhancing our financial flexibility. Highlights include the establishment of a $1 billion commercial paper program, our successful debut public issuance of sterling denominated unsecured notes and record low coupon rates for 5 years and 12-year dollar-denominated bonds in the REIT sector. We have also been active in the equity capital markets to accretively fund our acquisition pipeline. During the fourth quarter of 2020, we raised approximately $605 million of equity, primarily through our ATM program. And in January, we raised an additional $670 million of equity through an overnight offering.
Accordingly, our balance sheet is well positioned to address what continues to be an active investment pipeline. To that end, we are introducing 2021 acquisitions guidance of over $3.25 billion, as we are well positioned to continue the momentum we experienced at the close of last year and in January. In the fourth quarter of 2020, we invested approximately $1 billion in 70 properties located in 22 states and the U.K. at a weighted average initial cash cap rate of 5.4% with a weighted average lease term of 13.4 years.
On a total revenue basis, approximately 68% of total acquisitions during the quarter were from investment-grade rated tenants. 71% of the revenue is generated from retail tenants. These assets are leased to 31 different tenants in 19 industries. Of the $1 billion invested during the quarter, $541 million was invested domestically in 59 properties at a weighted average initial cash cap rate of 5.2% and with a weighted average lease term of 15.1 years.
During the quarter, $467 million was invested internationally in 11 properties located in the U.K. at a weighted average initial cash cap rate of 5.7% and with a weighted average lease term of 11.7 years. During 2020, we invested over $2.3 billion in 244 properties located in 30 states in the U.K. at a weighted average initial cash cap rate of 5.9% and with a weighted average lease term of 13.2 years.
On a revenue basis, 61% of 2020 acquisitions are from investment-grade rated tenants. 87% of the revenues are generated from retail and 13% are from industrial assets. These assets are leased to 56 different tenants in 26 industries, 2 of the most significant industries represented our grocery and home improvement. Of the $2.3 billion invested during 2020, nearly $1.4 billion was invested domestically in 220 properties at a weighted average initial cash cap rate of 5.8% and with a weighted average lease term of 14.9 years. And approximately $921 million was invested internationally in 24 properties located in the U.K. at a weighted average initial cash cap rate of 6.1% and with a weighted average lease term of 10.8 years.
Transaction flow remains healthy as we sourced approximately $17.1 billion in the fourth quarter. For the full year, we sourced approximately $63.6 billion in potential transaction opportunities. The most we have ever reviewed in a given year. Of these opportunities, $42.4 billion were domestic opportunities and $21.2 billion were international opportunities. Investment-grade opportunities represented 50% of the volumes sourced during the year. Of the $63.6 billion sourced, 56% were portfolios and 44%, approximately, $28.2 billion were one-off assets.
Of the $1 billion in total acquisitions closed in the fourth quarter, 66% were one-off transactions. Our investment spreads relative to our weighted average cost of capital were healthy during the quarter, averaging approximately 130 basis points.
Moving to dispositions. During the quarter, we sold 60 properties for net proceeds of $77.5 million, realizing an unlevered IRR of 8.7%. This brings us to 125 properties sold during 2020 for $261 million at a net cash cap rate of 7.8%, and we realized an unlevered IRR of 11.6%. Our portfolio remains well diversified by clients, industry, geography and property type, which contributes to the stability of our cash flow. At year-end, our properties were leased to approximately 600 clients in 51 separate industries located in 49 states, Puerto Rico and the U.K.
Approximately 84% of rental revenue is from our traditional retail properties. The largest component outside of retail is industrial properties at approximately 11% of rental revenue. Walgreens remains our largest tenant at 5.7% of rental revenue. Convenience stores remains our largest industry at 11.9% of rental revenue. Within our overall retail portfolio, approximately 95% of our rent comes from tenants with a service, nondiscretionary and/or low price point component to that business. We continue to believe these characteristics allow our tenants to operate in a variety of economic environments and to compete more effectively with e-commerce.
These factors have been particularly relevant in today's retail climate, where the vast majority of recent U.S. retailer bankruptcies have been in industries that do not possess these characteristics. We remain constructive on the credit quality of the portfolio with over half of our annualized rental revenue generated from investment-grade rated tenants. Occupancy based on the number of properties was 97.9% at year-end. During the fourth quarter, we released 77 properties, recapturing 100.3% of the expiring rents.
During 2020, we re-leased 314 properties, recapturing 100% of the expiring rent. Since our listing in 1994, we have re-leased or sold over 3,500 properties with leases expiring, recapturing over 100% of rent on those properties that were released. In light of COVID-19, rent collection across our portfolio has remained stable over recent months. During the fourth quarter, we collected 93.6% of contractual rent due and further improvement in rent collection percentages is primarily dependent upon improvements in the theater industry, which I will touch on shortly.
We collected 100% of contractual rent for the fourth quarter from investment-grade rated tenants, which further validates the importance of our high-quality real estate portfolio, least to large, well-capitalized clients. While we have not historically prioritized investment-grade rated tenants as a primary objective. During periods of economic uncertainty, high-grade credit tenants tend to provide more reliable streams of income as the last several quarters have exemplified.
Our Top 4 industries, convenience stores, grocery stores, drug stores and dollar stores, each sell essential goods and represent over 37% of rental revenue, and we have received nearly all of the contractual rent due to us from tenants in these industries since the pandemic began. Uncollected rent continues to be primarily in the theater industry, representing approximately 80% of uncollected rent in December.
As the theater industry remains challenged, I would like to update the investment community on our latest view. The industry represents 5.6% of our contractual base. While we do expect the industry to downsize in the future, we continue to believe it will remain a viable industry in a post pandemic environment, especially for high budget blockbuster movies.
You might recall that the U.S. box office reached an all-time high as recent as 2018, and 2019 produced the highest grossing worldwide film of all times in Avengers: Endgame. We continue to believe, particularly for blockbuster movies that a theatrical release will be the preferred distribution channel for studios going forward, given the superior economics supported to them versus streaming platforms.
That said, we do acknowledge that the industry is changing and that there likely will be a rationalization of theaters in a post pandemic reality. Under this scenario, underperforming theaters may not survive. We continue to maintain a full reserve, the outstanding receivable balance for 37 of our 77 total theater assets and continue to recognize revenue on a cash basis for these 37 assets.
During the fourth quarter, we established a full reserve for 1 additional theater asset, and we disposed off one theater asset previously on cash accounting. To be clear, we do not expect to lose the entirety of rent associated with these properties longer term, even in the event of potential closures. As of year-end, the total allowance for these 37 theaters totaled $23.7 million, including $1.8 million of which is a straight-line rent receivable reserve and thus has no AFFO impact.
Moving on. Our same-store rental revenue decreased 3.2% during the quarter and 1.7% year-to-date. Our reported same-store growth includes deferred rent and unpaid rent that we have deemed to be collectible over the existing lease term, but it excludes rent where collectibility is deemed less than probable. The decrease in same-store rental revenue is primarily driven by reserves we recognized in the theater industry and to a lesser extent, the health and fitness industry.
Now to provide additional detail on our financial results for the quarter, I would like to hand it off to Christie.
Thank you, Sumit, and I'm honored to have joined Realty Income as CFO.. Having joined the Board in 2019, I have experienced firsthand the talent of our Realty Income team, together with the exciting growth opportunities for our business.
I'm looking forward to working together with our teams to deliver our strategic objectives and realization of dreams and aspirations for all at Realty Income with Sumit and our Board of Directors. I also look forward to engaging with our investment community over time. We are grateful for the support of all of our loyal shareholders who have invested in Realty Income for over 26 years as a public company and for our future.
I would now like to provide a general overview of our recent financial results, starting with the balance sheet. We have continued to maintain our conservative capital structure and remain one of only a handful of REITs with at least 2 A ratings. During the quarter, we completed our debut public offering of Sterling denominated senior unsecured totes, issuing GBP 400 million due 2030 for an effective annual yield to maturity of 1.71%.
We also issued 725 million of senior unsecured notes in December through a dual tranche offering of 5-year and 12-year notes. Achieving record low U.S. dollar coupon rates in the REIT sector for each of those tenors. Additionally, we raised approximately $655 million of equity during the quarter, primarily through our ATM program. And in January 2021, we raised approximately $670 million through an overnight equity offering, which we earmarked to prefund an active investment pipeline to start the year.
We ended the year with low leverage and strong coverage metrics with a net debt to adjusted EBITDA ratio of 5.3x or 5.2x on a pro forma basis, adjusting for the annualized impact of acquisitions and dispositions during the quarter. And our fixed charge coverage ratio remained strong at 5.1x. We ended the year with full availability under our $3 billion multicurrency revolving credit facility. No borrowings outstanding on our $1 billion commercial paper program and over $824 million of cash on hand.
In January, we completed the early redemption of all $950 million, 3.25 notes due 2022, which was done to reduce our near-term refinancing risk and take advantage of attractive borrowing rates in the fixed income market. Looking forward, our overall debt maturity schedule remains in excellent shape with only $44 million of debt maturities through year-end 2021, excluding commercial paper borrowings.
Now moving on to our income statement. AFFO per share during the quarter was $0.84 and $3.39 per the year on a fully diluted basis, representing annual growth of 2.1%. For 2020, our AFFO per share was negatively impacted by non-straight-line rent reserves of $44.1 million, which represents approximately $0.13 per share of dilution, over half of which is attributed to the theater industry.
Now moving on to guidance. As we introduced our initial 2021 earnings estimate, we acknowledge that while some uncertainty related to the theater industry remains together with the backdrop of the pandemic, our confidence in providing guidance is supported by the overall health and stability of our portfolio combined with the acquisition pipeline.
To that end, our 2021 AFFO per share guidance of $3.44 to $3.49, represents approximately 1.5% to 3% growth over 2020. Moving on to dividends. In December, we increased the dividend for the 109th time in our company's history. We have increased our dividend every year since the company's listing in 1994, growing the dividend at a compound average annual rate of approximately 4.4%. And we are proud to be 1 of only 3 REITs in the S&P 500 Dividend Aristocrat index for having increased our dividend every year for the last 25 consecutive years.
And now I'd like to hand our call back over to Sumit.
Thank you, Christie. As we reflect on 2020, we stand behind the overall resiliency of our portfolio. The relentless efforts of our team to add shareholder value and the outlook for our business over the long term. The momentum in our investment pipeline are ample sources of liquidity, and our size and scale positions us favorably to capitalize on near-term growth opportunities around the globe.
At this time, I would like to open it up for questions. Operator?
[Operator Instructions]. Your first question is from Vikram Malhotra with Morgan Stanley.
Maybe just -- congratulations on the new role. Maybe just to start off with the occupancy degradation, as you outlined it. I'm just wondering if you can talk about two things pertaining to that. One, sort of plans to backfill some of that or recapture some of that occupancy loss. And then as we think about kind of '21, what sort of embedded in terms of potential other areas where you might lose occupancy?
Those are great questions, Vikram. And thank you. So at the end of the third quarter, we were right at 98.6%. And the question was asked, where do you think you're going to end the year up? And we had said that it was going to be right around 98%. And the fact that we came at 97.9% was fairly accurate. And what we saw coming was the NPC bankruptcy filing. As you might recall, we have approximately 150 assets with NPC, most of which happens to be the Pizza Hut. And then we have 19 assets that are Wendy's that's also run by NPC.
We were expecting 66 assets to be rejected through the bankruptcy process. And that was the reason why we had guided the market to a 98 -- approximately a 98% occupancy number. We were -- and those 66 assets did come back to us during the fourth quarter, which is the largest driver of this 97.9%. You will see that the net increase in vacant assets from third quarter to fourth quarter was circa 45 assets. So despite the fact that we got 66 assets back, we were able to resolve a lot more assets than we had originally thought because these assets are very well located, Vikram, and we were able to attract either QSRs that wanted to take some of these assets. And we feel very good about being able to resolve these assets fairly quickly.
The other point I'll make is most of these Pizza Huts with NPC had less than 2 years remaining on their lease term. And so our asset management team had already begun the process of trying to figure out alternatives. Knowing fully well that these were the assets that would come back, even if it were to have not filed bankruptcy.
So we feel pretty good about being able to resolve these assets. And as you can see from the resolution, we have the most number of resolutions in the fourth quarter. This was a record quarter for us. And so it's a testament to the team that we have in place, Ben and TJ, who drive that particular process for us, continue to do an absolutely amazing job despite the backdrop of the pandemic. And we are very hopeful that we will climb right back up above 98%.
Look, we have frictional vacancy, and we've always suggested that to the group that because we want to have the ability to reposition some of these assets, we are always going to be in this 98% -- circa 98% occupancy rate because we do want to reposition some of these assets, which does take us time, and that will continue to be what we target going forward.
That makes sense. And then just one, Christie, for you. The overall AFFO growth, I know there's some dilution or maybe just some headwinds near term. You obviously prefunded some of this. Can you just give us a rough sense of the AFFO growth sort of in the first half year-over-year versus the second half of the year?
I think, Vikram, that in terms of where we're going to see AFFO growth, I think you can expect that to be a bit similar to historical norms outside of probably the second quarter of last year where we pulled back on acquisitions a bit. But nothing out of the ordinary.
Your next question is from Haendal St. Juste with Mizuho.
Can you talk a bit about decline in cash yields in the fourth quarter. Through the first three quarters of last year, the average cash yield were closer to 6%, decline to 5% in the fourth quarter. So you could just talk about what drove that decline. And you also mentioned that 61% of the 4Q volume was one-off transaction. So how should we think about the balance between one-offs in portfolios near term? And what type of pricing differential are you seeing there?
Yes. Good question, Haendel. As you pointed out, the lower cap rate was largely driven by the mix of assets that we purchased here in the U.S. If you look at the prepared remarks, I suggested that 29% of what we purchased here in the U.S. were industrial assets, single-tenant industrial assets. These were very well placed assets with clients that who are executing on their omnichannel strategy had lease terms that were north of 10 years, some 15-year leases, good growth in markets that we wanted to enhance our exposure and with rents that were right around market rents. And so as you know, the industrial assets tend to be trading a lot more aggressively. And as such, that certainly had a bit of a downdraft on our cap rate, but the fact that we were able to do 5.2% for the U.S. assets was largely driven by that.
Okay. And then maybe a bit of color on the guide for this year, $3.25 billion. I'm curious how we should think about the yields on that front. And as part of your conversation with potential sellers, I'm curious, if in light of potential 1031 repeal, would you consider issuing units to sellers and how that might be perceived or any initial sense of -- or have you discussed that with potential sellers and what feedback you might be getting on that?
Sure. Again, good questions, Haendel. Look, we came out in early January with what our pipeline looked for the first quarter. And you might recall we had about $800 million -- slightly above $800 million that we had disclosed to the market at that time that we had in our pipeline, and we were 12 days into the year. So I don't think it should have come as a surprise that we had an incredibly healthy pipeline developed coming out of the fourth quarter. And if you look at what we were able to achieve in the fourth quarter of $1 billion, we had a tremendous amount of momentum that sort of carried forward into the first quarter and that has continued. It is also a testament to the amount of sourcing that we are able to do, the new swim lanes that we have created for ourselves to continue to grow the portfolio. And I think it's a testament to the strategy that we put in place a couple of years ago to be able to now post numbers that seem very large relative to what we have come out with in years past. But that's precisely the path that we wanted to go down.
You mentioned what is the expected cap rates? I think you should expected cap rates to be similar to what we achieved in 2020. And given the mix of portfolio, the optimal portfolio allocation that we have sort of highlighted to the market, it's really going to be a function of which particular portfolio or assets closed within a quarter as to whether the cap rates are going to come out.
If it's going to have a slightly more industrial plan to it, it's going to be lower cap rates. If it's going to be more retail, it's going to have a slightly higher cap rate. Having said that, even retail, especially though those types of retail that are deemed essential, portfolios are now trading in the mid-4s. And so the pricing environment has gotten a lot more aggressive. But thankfully, we have the cost of capital, and we were still able to generate 160 basis points of spread for the entire year, which is north of our historical spread. So we feel very good about the quality of assets we are buying and how we are reshaping our portfolio along the lines of what we had shared with the market in the third quarter, et cetera.
So really, the cap rate is going to be a function of the composition of assets that we drive within a given quarter.
The last question you had talked about was 1031. And what is the impact or our ability to issue OP units. Well, it's not new for us. We have done this in the past. We've bought assets from retail shareholders who wanted to buy -- wanted to take OP units as consideration for proceeds, and we were able to satisfy that. So could I see that momentum picking up potentially to defer having to pay taxes?
Absolutely. And we are very well equipped to take advantage of that. And use our equity as currency to provide that to potential sellers.
But having said all of that, 1031 is not a big part of our business, even on the disposition side. As you can see, most of the assets that we sell tend to be vacant assets, and that doesn't lend itself to the 1031 market. It's primarily developers or tenants who want to own their own assets that tend to play in that particular area. And on the occupied side, a lot of the transactions we did in 2020 were existing tenants exercising their option to purchase. And that's the reason why we were able to generate very good proceeds and very good overall returns. And the opportunistic sales tend to be an area where perhaps we run into some 1031 buyers. But that, I would say, is about 25% of the sellers that we interact with.
So for us, I think the -- on the disposition side is going to be fairly muted. On the acquisition side, I think not having 1031 be as aggressive, especially on the smaller boxes like QSRs and drug stores, et cetera. We could see cap rates increase because of the lack of 1031 buyers. And so that could potentially accrue to our benefit, especially when we are engaging in these one-off asset acquisitions.
Welcome, Christie. I look forward to meeting you in person.
Thank you so much, Haendel. Me too.
You our next question is from Greg McGinniss with Scotia Bank.
And Christie starting with you. First, welcome. Secondly, if you can just dig into guidance real quick. Is the acquisition guidance of at least $3.25 billion, which is an interesting way to say that you're probably confident you're going to get more than that. But how should we be thinking about what gets you to the top or bottom end of the AFFO per share guidance range, given that acquisition expectation.
I know the question was geared towards Christie and Christie, please jump in. But why don't I take that a little bit? And then I'll hand it off to Christie, if that's okay, Greg.
For us, we wanted to make sure that we came out with a range that represented the facts on the ground today. And we wanted to make sure that the range was conservative enough where even if the situation were not to improve, and it was to be, as we have experienced early on in the year in January and December of last year that this is the range that we feel very comfortable with.
What I'm suggesting is that there could be a fair amount of upside to the range that we have shared. And it's largely a function of what's going to happen to the theater industry at large, but also, to a smaller extent, to the health and fitness industry. And there, we feel very confident that the theater business is going to improve, especially with the vaccination having taken hold and every day, we see more news about Pfizer and Moderna and now potentially J&J being on the approved list, that the acceleration of getting to a point where we have herd immunity is very realistic.
And I've seen base case models that suggest that as early as end of June, we could get close to having herd immunity. The other data point that I would point to, Greg, is what we have seen in China. And over the Chinese -- the Lunar New Year, we can -- they had record ticket sales. And in fact, one of the movies that was shown had almost $50 million more in sales than the record that had been set by Avengers: Endgame here in the U.S. and in Canada, and their opening we can't. And so all of these facts sort of lead us to believe that there is a possibility that there is a fair amount of upside on the assumptions that we have shown in our model. And that could that could help get us to the top end of the range. And if a lot of other things fall into place, potentially, we could do even better.
But we can't go out with that expectation. When you lay out all the various different scenarios. You come up with what's the probability weighted outcome. And that's what we have shared with the market. But there are things that could play in our favor, and it really is a function of how you think about the theater industry and what you think the recovery is going to look like. And we've shared with you at nauseam some of the assumptions that we have drawn in terms of taking 37 of our 77 assets and viewing it on a cash accounting basis and how that percolates through the base model. If your view shifts, to say, that's perhaps a bit too conservative then there is good upside. And that's what we are super excited about.
There are certainly other levers for us to play, like you correctly pointed out, the acquisition market is something we are super excited about. And part of it is intentional and part of it is a function of more and more operators and clients that we want to do business with, wanting to engage in sale-leaseback transactions. And so that too could act as a potential tailwind. And look, we've come out with numbers. You've seen our history about the early estimates that we come out with and what we are able to achieve during the year. But not saying that -- but there too, there could be some tailwinds. So there's acquisition fronts. There are assumptions that we have made about the theater business and the health and fitness business. There are assumptions we've made about how quickly we could get to a point where things are starting to normalize, et cetera.
And all of those have room and capacity for potentially surprising on the upside. So we feel pretty good. And I'll hand it back to Christie, if there's anything else you would like to add.
Thank you, Sumit. And Greg, thanks so much for the question. But I absolutely echo everything that Sumit has said. We spent, as you can imagine in the backdrop of 2020, a good bit of time really thinking about the guidance and being very thoughtful about how we went out in terms of our range of AFFO per share.
And as Sumit said, there are a number of levers that we have to the upside in terms of sale-leaseback transactions, a bit more on the acquisition side and also really looking at primarily the theater industry.
And so there is positive momentum. And in light of that, we do feel, as Sumit said, very good about where we are right now and the momentum that we have in the business.
Okay. Great. For my second question, Sumit, inflation is increasingly top of conversation with investors. Could you perhaps provide some context on real TCPI-based lease escalator exposure, and how the company is positioned to provide growing returns relative to peers in an inflationary environment?
Sure. So I would say about 20%. It's probably a little bit bigger than that. Of our leases have CPI adjustments. And -- but a lot of these have a floor in the ceiling associated with them. So yes, a rising CPI environment, we have some level of protection, but there does tend to be -- especially here in the U.S., there tends to be a floor in the ceiling associated with it.
For us, the -- we've encountered this problem before. What happens in an inflationary environment? The fact that we have leases that are net lease in nature. We are less sort of less susceptible to an environment where inflation expectation and actual inflation goes up because so much of the cost, either insurance, property, taxes, et cetera, are paid by our tenants. And so from that perspective, we feel pretty good. We started to see the 10-year treasury go up in anticipation of expected inflation going up. But thankfully, so far, our spreads have come down as well. And our all-in cost in the tenure has gone up slightly, but not dramatically. We can still issue tenure -- in today's environment, we think right around the 2122 ZIP code.
And that is still relative to what we've been able to do in the past, a very good all-in costs on the 10-year financing. So we feel pretty good about that. Some of this is now offset by what we are seeing in the U.K. as well as in Europe, where interest rates continue to be low, inflation expectations are very much contained. And so there, our all-in cost of financing continues to be super exciting. And so the fact that we have created all of these different alternatives also helps us shield us somewhat from inflation expectations arising in particular geographies and so we feel pretty good about that as well. And the fact that we have long-term leases also is a benefit.
Look, at some point, if the inflation expectations are going up, and it is largely translating to better GDP growth, et cetera, that should translate to better fundamentals for our tenants. And so not so much this year, we only have about 1.7% of our leases expiring. But in future years, that should start to reflect on higher market rents, et cetera. And so especially in 2022, 2023, we have a bit more of a expiration with regards to our leases, I could see us marking to market some of our leases during renewal time. And so I think from all of those perspectives, we feel pretty good.
One of the questions that often comes up, okay, if the interest rate environment continues to go up, it's going to impact your cost of capital, and that is absolutely true. But what we have found in prior cycles is that cap rates tend to follow suit as well. And there is definitely a lag, but it does sort of follow and then it allows us to continue to maintain the spreads that we have. And in certain situations, even enhance our spreads if the cap rate moves faster than our cost of capital. So we feel like we are very well positioned as a company. And based on some of the investments we've made and some of the areas that we have focused on, we feel like we are very well situated to handle an interest rate environment that increases an inflationary expectation environment that increases.
Next question is from Caitlin Burrows with Goldman Sachs.
Welcome to the -- Christie to the earnings call. Maybe just following up on the guidance question. One of the pieces you guys showed was income taxes and that they're expected to increase in 2021. And I think that's related to U.K. activity. But could you give us some more detail on what's driving this and how we should think about it increasing in the future? And is it a function of U.K. activity?
It is, Caitlin. And I think that you can expect modest increases as we continue to expand our U.K. presence.
Okay. So if we look at like the year-over-year increase from 2020, I guess, should we just see that if you're making a similar amount of U.K. investment dollars that the income tax dollars may go up at, I don't know, kind of similar type rate?
Similarly, yes.
Okay. And then when we think about the deferrals that Realty Income put in place in 2020, I guess, could you give some detail on when you expect to receive those and to the extent that any have already been built, kind of how that collection is going. And similarly, when you'll start to know if the reserves you were taking were conservative, right? Or sort of the opposite of conservative would be aggressive.
Sounds good, Caitlin. I think, first of all, what I can say is that as it relates to the deferrals that we've been taking. Essentially, when we look at the overall deferrals, we're really looking at a short-term payback and within 18 months. And as it relates to collections and the like, we are experiencing collections even before the deferrals are coming due. So we've been having some positive traction on that. All that being said, we've got 2021 in front of us.
Got it. Okay. So when we think about what's built into guidance and the reserves that you guys took last year, obviously, you gave the guidance range. You gave thinking that it would be accurate, but is it right to think that as we go through 2021, we'll start to maybe even early in the year, get some clarity on whether or not the reserves you took in 2020 were the right amount?
Yes, yes. And we go through, Caitlin, you may already know this, but a very rigorous review on our receivables positioning and it's cross functional. It involves finance, it involves legal, our asset management group and research. And so in terms of the actions that we've taken, we feel very solid about the reserve position. And as we look forward, our collections have been consistent and steady. Where we are right now in the fourth quarter, we've got close to 94% of collections. And really, when you take a look at the uncollected rent in our company, it's really a story about theaters. 80% of the uncollected rent is focused on the theater business, which is 5.6%, as you know, of our contractual rent base. And the remaining of the story is really around health and fitness, which is primarily the remaining 16% of uncollected rent. And we did incur some collections on the health and fitness business. As Sumit said and we've talked about, we still have theaters in front of us. But there've been really positive momentum, and we view that potentially could be an upside for our business going forward.
Your next question is from Rob Stevenson with Janney.
Just a question on the -- your comments on the movie theater business. Given that, would you be an incremental buyer of movie theaters in any type of scale going forward here?
Yes. So Rob, I think this question was asked last quarter as well. Look, we like to reach other business. But 1 of the lessons learned through this process is that should this represent at least when the pandemic started 6% of our overall portfolio. And I think what we have concluded through this process is that this business should survive but there will be some level of real estate rationalization. And we are very happy to have put together this portfolio largely through sale leasebacks with the operators themselves. And so feel very good about our current portfolio. But the idea long-term is to continue to dwindle our exposure to this particular industry to something that is closer to a 3% ZIP code. So I think that answers your question, Rob. We feel like, over time, we need to get it down to about 3% of our overall portfolio.
Okay. Helpful. And then how are you thinking about non-U.K. European acquisitions at this point and given what's going on over there?
Non-European U.K. acquisition. So how am I thinking about the U.K. acquisition?
Non-U.K., European. So the continent. So Germany, Scandinavia, outside of the U.K., are you guys -- should we expect that you guys -- you see the U.K. as a launching point to make bigger acquisitions and expand throughout Europe? Is it only going to wind up being U.K. at this point for the near term? How are you thinking about that in the context of the last 12 to 18 months in your experience there? Will we be expecting to see another line in the acquisitions at some point in 2021 or early 2022 in addition to the U.S. and the U.K., continental Europe acquisitions.
We've always said that U.K. was our first step into a European strategy, a western European strategy, and that continues to be the path that we are embarking upon, Rob.
We are very well-established in the U.K., some of the numbers that we have posted, I believe, is a testament to that statement. We -- I'm delighted to also share with you that we've hired another full-time person at Negara in our U.K. office. Who has a lot of experience doing acquisitions and has a lot of relationships, et cetera, in the Western Europe -- European markets. And so the goal is to continue to look for transactions and not be constrained by geography, but look for the right transactions.
And there are markets that we have identified in Western Europe that we would like to be able to grow into. But it's largely a function of do we have the right operators willing to transact at the right prices, et cetera, et cetera. So are we open to acquiring in Western Europe? The answer is categorical yes. But do I expect to see something happen in Spain? I don't have a timeline for that or something in France or Italy or Germany, I don't have a timeline for you. It's largely going to be a function, what's available and who we can get to work with and whether they fit into our overall target client list.
And the financing options in the continent over there, are they as attractive to you at this point as the U.K. if you were to buy something, would you finance it in local currency?
Absolutely. I mean, that's been our goal is try to minimize our exchange rate risk as much as we can, and we would follow a similar pattern to what we did in the U.K. where we did our debut, Sterling offering and prior to that, we had done a private placement, raising capital in U.K. denominated pounds. And that will continue to be how we finance our transactions. And that's where it becomes super exciting, Rob. I mean, you can do a 10-year paper in euro-denominated debt at 65, 70 basis points. Yes, cap rates are a lot more aggressive. But when you sort of factor in the cost of financing for somebody who's A-, A3 rated, it suddenly starts to make a lot of sense. And I think continuing to create alternative sources of capital, continuing to look at additional paths to growing our business is something that our platform allows us to do. And it's 1 that we are excited about, and we'll continue to push on.
Next question is from Brent Dilts with UBS.
So most of my stuff has been asked, but I did want to ask something. Your grocery sector exposures increased quite a bit in recent years. And I know that was intentional, but it's up to nearly 10% of rents. So maybe could you talk about how you're viewing that sector longer term, just given the wider adoption of online grocery delivery during the pandemic? I mean do you think -- like what we've seen so far is it's mostly local delivery from stores, but do you think there's any risk that disconnects from the customer's local store over time and maybe the grocery store becomes a little bit more challenged from an e commerce perspective?
Yes. Brent, I don't know if you go to a local grocery even in this environment, you still find them fairly full. And I'm not trying to be facetious here. It is deemed an essential retail and they have continued to perform. Having said that, the most important thing that we are trying to focus on is the fact that the operators that we want to do business with, they have an omnichannel strategy. If you look at the U.K. grocers that we have partnered with, they dominate the click and collect market, and they dominate the delivery services. And so most of the partners that we have. And if you sort of unpack the 10%, and it's not quite 10%, but it's getting there of our exposure. You'll find that all of the operators that we have done business with are -- substantially all of the operators that we've done business with tend to have this omnichannel strategy, very well-established or in the process of having it very well established. They have the [indiscernible] and the balance sheet to do so.
And I do think that, that is going to be the future of this particular industry, which is why we got very comfortable but it's not just the industry, but it's the operators that we have targeted within these industries that we have done business with. And they will be not only surviving but thriving in the new environment where potentially, there is going to be more click and collect or delivery services. So we feel very good about our specific exposure within this industry. I don't know if this was a question or not as to whether -- are we sort of getting up against our limits with 10%. I would say, no. Our investment policy allows us to go as high as 15%. And for certain industries, we can always go back to the Board and request exceptions. But of course, we have to put forth our thesis as to why it makes sense. But this is an industry we feel very comfortable with, Brent.
Okay. Yes, that makes sense. I was just curious what your longer-term thoughts were. And then just 1 other quick one. I don't know if you've really got much to say about it. But the power grid issues in Texas recently, you have decent exposure to that market. Anything we should expect there longer term? Or is it just a blip?
Well, it's -- I don't want to underplay what's happening in Texas. But thankfully, as far as our exposure in Texas is concerned, again, that's the advantage of having a triple net business is that it's largely being handled by the operators. And thankfully, the disruption was fairly short term. And so most of these businesses are going to be able to come back.
Yes, they may have some issues with product not making it through this blip, as you put it. But I don't see this as being a major issue for the specific clients that we have exposure to in Texas.
Your next question is from Spenser Allaway with Green Street.
Just looking to total commitments for your development pipeline. I realize it's a small portion of your overall capital deployment, but it is fairly elevated versus historical norms. So I was just wondering if you could provide some color on how you're thinking about this bucket? Should we expect it to remain elevated? And what kind of stabilized yields are you underwriting?
Yes. Spenser, that's a great question. There's a reason why we have that sheet in our supplemental, and we want to lay it out as clearly as possible. This is another one of the avenues us to continue to gain exposure to certain clients and do it at a cap rate that is north of what you would be able to transact in the open market. And so it is about $160 million of commitment, $100 million of which is not funded yet. But if you look at the breakup, you will see that it's largely driven by 2 forward commitments we have on the non-retail side of the business. And so what that allows us to do is, again, enter into these contracts in a particular asset type that is trading super aggressively and be able to transact and get assets maybe 40, 50, 60 basis points north of where these assets would be trading have they been available today. And so I think that is part of the advantage of doing this. And this is, again, using our credit, using our scale and size to be able to get some of these assets at higher cap rates than what we would on the open market.
The other side of this is repositioning. I think it was Vikram, who had asked about, hey, how are you thinking about these assets from NPC. We have a history of being able to reposition some of our assets and be able to really capture and enhance our rent from the same exact location by simply repositioning these assets. And that is something we've been doing for a few years. They tend to be smaller dollar amounts.
But once again, we've given you that detail in the supplemental. And that will continue to be a bigger and bigger portion of our business. And I think as you've seen, the velocity of our lease terminations, et cetera, will only increase. And this part of our business, which we have seasoned over many years, will start to play a bigger, bigger role and will certainly, we hope, be a value-enhancing part of our business model.
And so I would love to see this business continue to increase within the parameters of what I just shared with you and help us create another source of value creation for the overall business.
Your next question is from Wes Golladay with Baird.
Just got a quick question on dispositions. How is demand for the noncore assets for the tenants that are impacted by COVID? I know you were able to sell a theater this quarter. Do you know if that will stay a theater?
Not sure. But I think, Wes, we've talked about this again, some of these theaters are located in prime locations. And we've already shared with you that, look, we don't think that the footprint of the theater business, pre-pandemic is going to be exactly the same post pandemic. So there will be some level of rationalization. But the good news is there is a fair amount of demand for last mile distribution, and there's much more of a focus on development of multifamily, given some of the trends that we are seeing in some of these markets. So it is quite possible that these assets, given that they sit on potentially 10, 12, even 15 acres of land, could be repositioned to a higher and better use. But that question, Wes, I think, is going to be very specific to the particular location and where that particular theta falls in the performance rankings. And if it tends to be in the top 2 quartile, I would say that, yes, the likelihood of it remaining at theater is high. But if not, I could easily see it being repositioned.
Perhaps not easily but certainly repositioned.
Okay. And then could you -- did you -- I don't know if you shared it already, but how much of the ABR is for tenants on cash accounting and what is the percentage collected from that tenant base? And are those mostly related outside of the theaters, mostly related to tenants that are in bankruptcy now?
Christie, do you want to take this one?
We have -- when we take a look, Wes, at our overall collections. I think I had mentioned this before that our collections are stable at 94%. 80% around collected rent is really as a result of the theater industry. And the remaining is really in regard to the health and fitness.
Your next question comes from Todd Stender with Wells Fargo.
Sumit, sorry if you already covered this. But I heard you quote cap rates on a few levels. But when we look at your $3 billion-plus acquisitions, we would assume some good-sized portfolios incorporated in that. Can you speak to portfolio premiums right now versus one-off deals? And maybe if you can bifurcate if there are premiums between retail and industrial?
Yes. That's a very good question, Todd. What we had seen in -- even as late last year that there was a portfolio discount, not a portfolio premium. But there has -- we have seen a couple of portfolios come to market that have traded very expensively. And so I'm not quite sure where this trend is going to go, Todd. But -- and I think I mentioned this already that even some industries and some tenants that we had seen pre-pandemic are now trading at levels as a portfolio, 40, 50 basis points lower.
So it's tough to tell. I don't think it is a point that could be made across all industries and all operators. I do think that in most industries and especially the higher-yielding industries. If there's a portfolio transaction, you will tend to see a discount, not a premium. But in certain industries and the industries that are in favor today, we are certainly seeing a little bit of tightening. With regards to $3.25 billion, we are not underwriting to very large portfolio transactions. That is not part of our overall forecast, Todd. So if that were to happen, I think that would be above and beyond the numbers that we have shared with you. And so that, too, could be a potential tailwind for our business. As you might know, there are several public sale-leaseback transactions in the market, none of which are reflected in the numbers that we have shared.
With respect to cap rates, it is -- it has compressed. And it has compressed even over the last 5 months, 4 months. So whether it's retail here in the U.K. industrial, as you know, it's probably steady but still fairly aggressive cap rates. It's -- all has tended to become a lot more expensive today than it was 6 months ago.
In the U.K., thankfully, the cap rate market is a bit more stable. I wouldn't go so far as to say that it's compressing. But it's funny, we tend to do certain transactions where we are the only ones who are engaging in conversations and then we will find 1 or 2 other potential buyers start to come in on subsequent transactions.
So this is an interesting acquisitions environment that we find ourselves in right now. And -- but we feel very good. Again, the advantages that we have, we feel like we'll be able to get more than our share of transactions done, and we will continue to do it as spreads that will be very favorable and will help us drive earnings growth.
Wes, I wanted to circle back on your question. Because I had the theater numbers in my mind. But you were asking about cash accounting. And I just wanted to let you know that right now, we have almost 50 clients on a cash basis. And just to give you some color, it's a little over $5.5 million of monthly rent exposure, for which over half of that is associated with the theater industry. Let me know if that helps.
Okay. Todd, any other questions?
That's it for me.
Your next question is from John Massocca with Ladenburg Tallman.
First off, welcome to the earnings call, Christie. Thank you. I know we're getting a little long on the call here, so I'll keep it to 1 question. Has there been any change with regards to rent collection quarter-to-date in 1Q '21 versus, say, 4Q '20. I mean essentially, can you provide any color on any of these troubled industries or non-paying tenants? Are any of them starting to maybe pay that hadn't been paying in December, November, October?
Yes. I could probably help with that a little bit. I mean, if we take a look at year-to-date, the January recollection was relatively consistent with what we've been seeing in the past months towards that 94% range. And essentially, the theater industry is still the majority at approximately 80%. And we did see some pickup as it relates to health and fitness. And it's a little early for February. But overall, as we said at the start of the call, it's consistent and steady.
Okay. But the improvement you've seen so far this quarter has been largely on the health and fitness side rather than the theaters?
Like that, yes. But I would like to say too that theaters are paying.
Your next question comes from Katie McConnell with Citi.
It's Michael Bilerman. Can you hear me?
Yes. We can hear you, Mike. This is what happens when I'm in the office. Katie is in Philadelphia. We have an associated home. Creates that lot merging that doesn't work too well sometimes. I was wondering if you can provide some perspective. Obviously, when you switch over from banking, you went to Duke as the CFO. And then with CBRE, you sit on Park Hotels, Kite Realty, Tiers Board. You came out to Realty Income board last year. Net lease and what Realty Income is very different from those other companies in terms of the type of business in terms of creating growth with this longer duration net leases really where the competitive advantage is the cost of capital. And obviously, the relationships that the company has. But the secret to this company is being able to access well-priced capital and finding the deals. Just talk about sort of your perspectives and how you think the company should be capitalized?
How you think about capital raising relative to your prior experiences? Certainly, Michael. It's great. Great to hear your voice again, and I look forward to seeing you in person. But I wasn't at CBRE. I was at JLL.
Just a broker. Close enough.
But in terms of overall thoughts, Michael, you've known me for a long time. And I think that you really -- and obviously understand the triple-net lease business. Now really being competitive and leveraging our scale and thoughtfulness on the capital markets side is really, I think, what you seen from us historically, what you saw from us at the beginning of the year and what you can expect from us going into the future.
As Sumit mentioned, we're excited about what we're seeing in the U.K. in terms of the debt markets and what we can execute at. And should something come to fruition on the continent. We have a lot -- we have some very favorable aspects, we believe, on the continent from a debt perspective as well. And when we take a look at capitalization, I mean, you can expect us to protect our balance sheet and really be focused on that net debt-to-EBITDA of 5.5% -- 5.5x, as we mentioned, and really going forward in that regard. And sitting back, you mentioned some of those other businesses. I mean, as you know, Realty Income is just a fantastic business with a great team, and I'm really excited about joining the team.
We have a long runway ahead of us, great growth potential. And as Sumit's been mentioning some really exciting things to continue to add value to our clients.
As you think about sort of cash flow growth, you talked a little bit about on the call of some of the industries that are having some issues and how that could sway guidance. But part of the weaker growth is the prefunding of a lot of the transaction volumes given the sheer amount of equity that you raised in the fourth quarter and earlier this year, how should we think about your cadence on equity because it is depressing current earnings should -- was that like a rebalance for '21? Or should we expect an acceleration of growth as we move through the year and into 2022 solely focused on the transaction side of the equation?
Not necessarily, Michael. I mean we were just taking advantage of the market at that point in time, and it was really an opportunistic play given the acquisition pipeline that we had in front of us. So you can expect us to still be managing our debt-to-equity equation thoughtfully in keeping with our A rating, but not being overly aggressive, if you will, to cause dilution.
Your next question is from Joshua Dennerlein with Bank of America.
Just wanted to see what the latest was on the 7-Eleven portfolio that's in the market and kind of your current feeling about if you would consider adding to your 7-Eleven exposure?
Joshua, I'll take that question. So we don't talk about specific transactions. You also can see that 7-Eleven is a top 10 tenant of ours. It's a client that we have done repeat business with. We help do their first sale-leaseback in 2016 and did subsequently 4 other sale leasebacks directly with them. So clearly, it's an operator. It's -- that we really like. It's in an industry that we like, and especially the standing that 7-Eleven has within the [indiscernible] store business, we really like their positioning. And so then the question becomes okay, what about the 11% industry exposures that you have to convenience store business. Is that a factor that could potentially curbed our ability to do more? And I think I've answered this question before, we have a limit of 15%, and we can always get exceptions in the event we can make the case that a particular industry is one that we are very favorable, we implying towards and would like to see it increase. And this is one of those industries that we would feel very comfortable in increasing our allocation to. But again, we have to be very specific that it's industry increase in allocation, but with particular clients in mind and 7-Eleven would that will be falling in that bucket.
Your next question is from Linda Tsai with Jefferies.
In terms of acquisitions, what type of competition do you run into on larger portfolio deals? And who would be willing to take on tenant concentration to get some of these larger deals done?
Are you asking us about whether we would be willing to take the tenant concentration? Or is this a general question, Linda?
It's just more of a general question around competition. When you're looking at these larger portfolio deals, and maybe who some of the competitors are out there that would be willing to take on concentration?
Sure. So that's 1 of the things that we talked about, Linda, is the fact that we do have the size and the scale to absorb large portfolios. Now the way I would define large portfolios is $1 billion plus. Most peers would run into concentration questions doing half that size. Especially if they already have a preexisting exposure to that particular client. But we find ourselves in the enviable position of being able to continue to increase the allocation for a given client, and it's largely a testament to the size of our overall business and balance sheet. But clearly, when you start talking $5 billion, $6 billion, those are types of transactions that don't come very often. And when they do, outside of us, I don't know if there is any other public net lease buyer that could potentially entertain absorbing that sort of size.
Then in terms of who are the alternative buyers of this. It's largely driven by what is available on the financing side of the equation. And ABS has become a preferred mechanism of financing these large scale transactions, especially with highly rated operators. And then once those boxes are checked, you can pretty much assume some of the private equity folks getting involved and being super excited about playing in that size because they can put capital to work, and lever up the portfolio to, call it, 85%, 90% and be able to get very -- enhance their cash-on-cash yield. So that's the group that would be the traditional competition for very large sale-leaseback opportunities with highly rated operators.
But when interest rate starts to move in the direction that it has, then that does start to put pressure on some of these players because the cost of financing on that 80%, 90% leverage starts to creep up. So it really is going to have to be coupled with what we see in the financing market to help define who the potential competition could be.
Got it. And then just in terms of the cash basis tenants, what percentage did you collect from the cash basis tenants in 4Q and in 3Q?
Yes. I'll let Christie answer that.
We had a couple of million. Linda, I believe. Okay.
And then just for the 40 theaters that aren't on a cash basis, it sounds like we should assume they're paying some level of rent. For the 40, are they concentrated under 1 banner versus another? In your disclosure, you show 40 Regal and 32 AMC?
Yes. I can answer that. Yes, about 41 of these assets, when we did our internal analysis, we deemed them to be in this top quartile. And that's how we came up with the 41. But when we talked about us getting some rent from both AMC as well as Regal, especially in the month of December. It was across the entire portfolio. So even those assets, those 37 assets that we have on cash accounting, they paid us rent. Not 100%. But they paid us some rent for the month of December, and that's really the upside for us going forward.
At this time, this concludes the question-and-answer portion of Realty Income's conference call. I will now turn the conference over to Sumit Roy for concluding remarks.
So thank you, everyone, for joining us today, and we look forward to speaking with you at the upcoming virtual conferences. Take care. Bye-bye.
Thanks, everybody.