Phillips Edison & Company, Inc. (PECO) Earnings Call Transcript

Good day, and welcome to Phillips Edison & Company's Third Quarter 2026 Earnings Call. Please note that this call is being recorded. I will now turn the call over to Kimberly Green, Head of Investor Relations. Kimberly, you may begin.

Thank you. I'm joined by our Chairman and CEO, Jeff Edison; President, Bob Myers; and CFO, John Caulfield. As a reminder, today's discussion may contain forward-looking statements about the company's view of future business and financial performance, including forward earnings guidance and future market conditions. These are based on management's current beliefs and expectations and are subject to risks and uncertainties as described in our SEC filings. Today, we'll reference certain non-GAAP financial measures and information regarding our use of these measures and reconciliations of these measures to our GAAP results are available in our press release and supplemental information package, both of which have been posted on our website. Our caution on forward-looking statements also applies to our earnings presentation, which was also posted. Following our prepared remarks, we'll open the call to Q&A. [Operator Instructions]. With that, I'll turn the call over to Jeff Edison. Jeff?

Thank you, Kim, and thank you, everyone, for joining us today. PECO delivered another strong quarter. Same-Center NOI increased 5.3% and Core FFO per share increased 9.2%. These results reflect the strength of our grocery-anchored neighborhood centers and the consistent execution of the PECO operating engine. We are pleased to increase the midpoint of our earnings guidance for the full year. These results are especially meaningful given the continued uncertainty in the broader economy. While the headlines continue to change, the fundamentals we see across PECO's portfolio remain solid. The consumer remains resilient. PECO's grocers and necessity-based neighbors continue to drive strong traffic, and we're not seeing any signs of weakness as we look towards 2027. That resilience is supported by the essential nature of PECO's portfolio. 74% of our ABR comes from necessity-based goods and services, providing consistent demand and supporting durable cash flow through economic cycles. PECO delivers more alpha with less beta. Our alpha comes from strong leasing, disciplined acquisitions and a growing development and redevelopment pipeline. Lower beta comes from our grocery-anchored durability, necessity-based cash flow, investment-grade balance sheet and access to multiple sources of capital. Our results continue to show that high occupancy does not limit PECO's internal growth. We renew the right neighbors at higher rents. We increase contractual rent bumps. We improve lease terms, and we create new space through outparcels and redevelopment. Our active development and redevelopment pipeline is nearly $90 million today. We see an opportunity to grow it beyond $100 million while maintaining our attractive returns. Across a portfolio of rightsized centers averaging 113,000 square feet, these projects create meaningful incremental growth. Acquisitions provide another source of growth. Assets acquired to date in 2026 were 94% leased on average compared with 98% leased across our existing portfolio. That gap represents visible upside for PECO. We know how to lease these centers to enhance the merchandising mix and to use our data and local market knowledge to move operating performance to the level of our existing portfolio. We continue to target unlevered IRRs of 9% for grocery-anchored acquisitions and 10% or better for Everyday Retail. Everyday Retail expands our opportunity set while staying close to what we know, necessity-based retail, neighborhood locations and markets where our operating engine can create value. Our investment strategy remains disciplined and focused. We allocate capital where we believe PECO can generate the best long-term growth and returns, whether it's through our existing portfolio, grocery-anchored and Everyday Retail acquisitions, development and redevelopment or our joint ventures. We continue to grow when the opportunity, returns and cost of capital makes sense for PECO. That means staying flexible, raising equity when public markets are attractive and using dispositions and joint ventures when private market pricing is more compelling. This disciplined approach allows PECO to be opportunistic while investing in dependable long-term growth. We've told investors that PECO's high-quality portfolio is built to deliver long-term Same-Center NOI growth of 3% to 4% and a mid to high single-digit Core FFO per share growth. We continue to deliver against those targets. As we look to 2027, we have increased visibility from leasing, development and redevelopment, our pipeline of acquisitions and our investment management business. We believe PECO is well positioned to deliver strong growth in 2027, and we'll provide more detail during our December 16 virtual business update. PECO's 6.2% dividend increase in September reflects our confidence in the durability of PECO's cash flow. We believe PECO's earnings growth and durable dividend yield combine to target an annual total return to our shareholders of 9% to 10%. That is the opportunity we see for PECO, more alpha through consistent execution and growth, less beta from our rightsized grocery-anchored necessity-based portfolio and our strong balance sheet. With that, I'll turn it over to Bob. Bob?

Thank you, Jeff. The retail environment remains very active with broad retailer demand for space across our portfolio. That demand is reflected in our 92.2% portfolio retention, 97.5% portfolio lease occupancy and 95.1% inline leased occupancy. These results demonstrate the quality of our centers, the health of our neighbors and the value retailers place on being located in PECO's grocery-anchored neighborhood centers. Our team is taking advantage of this environment. We use national relationships, local market knowledge and data research to decide which neighbors to retain and where we can improve lease economics. During the quarter, comparable renewal rent spreads reached a record high 25.2% and comparable new lease spreads remained strong at 26.3%. Keeping the right neighbors in place means less downtime, lower TI costs and better economics for PECO. During the quarter, we achieved record high renewal rent CAGRs while improving nonmonetary lease terms that give us more flexibility to manage our centers. The PECO team looks at the full economics of every lease, today's rent, future rent growth and the rights we need to keep improving the center. This work contributed to Same-Center NOI growth of 5.3%, which was driven primarily by higher rents. The continued growth in PECO's minimum rent has us well positioned to finish the year and as we head into 2027. Retention and collections remain solid. Demand for available space is competitive and rent spreads and occupancy costs are healthy. Bad debt remains relatively low and was in line with expectations at around 70 basis points of revenue during the third quarter. These trends continue to support rent growth and long-term value across PECO's portfolio. Moving on to acquisitions. Year-to-date through October 26, we've acquired $519 million in assets at PECO's share, including 12 grocery-anchored and 4 Everyday Retail centers. These centers are meeting or exceeding our unlevered IRR targets. With new assets, our team moves quickly into execution mode by leasing vacant space and bringing each property up to PECO's maintenance and appearance standards. Then the team begins to execute the underwriting plan. This is how we turn disciplined acquisitions into tomorrow's earnings growth. Given the strength of our pipeline, we recently increased our full year gross acquisition guidance to $600 million to $700 million. The current macroeconomic environment is creating opportunities to negotiate more favorable pricing on select acquisitions. PECO's scale, relationships and execution gives us leverage in those discussions. And we'll continue to pursue concessions while remaining disciplined on price and returns. That same discipline shapes our approach to Everyday Retail. We target necessity-based neighborhood centers near leading grocers in markets where our leasing relationships, operating engine and data analysis provide an advantage. We own $300 million of Everyday Retail today and continue to target $1 billion, which we expect to achieve in the next 24 months. We're growing intentionally to deliver more alpha at PECO, and we'll provide an update on Everyday Retail during our December 16 business update. I will now turn the call over to John. John?

Thank you, Bob. Third quarter Nareit FFO increased to $98 million or $0.69 per diluted share, representing 7.8% per share growth and Core FFO increased to $100.7 million or $0.71 per diluted share, representing 9.2% per share growth. Same-Center NOI increased 5.3%, primarily due to higher rents and recoveries driven by growth in economic occupancy. We expect healthy rent growth to continue in the fourth quarter. Our Same-Center NOI growth rate for Q4 will be impacted by the timing of recovery income compared with the prior year quarter. We are pleased to guide to the higher end of our original 3% to 4% Same-Center NOI growth guidance for the full year. This past Friday, we closed a new $350 million 3-year unsecured term loan at an initial rate of SOFR plus 80 basis points. This is 30 basis points lower than the term loan it repaid. We used the $175 million of initial proceeds to repay our existing $162 million term loan with the balance used to reduce revolver borrowings. Pro forma for the closing of the new term loan, we have approximately $950 million of total liquidity. At the end of the quarter, net debt to annualized adjusted EBITDA was 5.2x on a trailing 12-month basis and was 5x on a last quarter annualized basis. We expect to end the year closer to 5x net debt to annualized adjusted EBITDA and even lower on a last quarter annualized basis. Pro forma for our $350 million unsecured debt issuance, PECO's weighted average interest rate was 4.5%. Our weighted average maturity was 5.5 years, including extension options and approximately 85% of total debt was fixed rate, which includes PECO's total prorated share of debt for its JVs. Importantly, PECO has no meaningful debt maturities until 2030. This provides additional flexibility as we execute our growth and funding plans. We continue to view the unsecured bond market as an important source of long-term capital and expect to remain a repeat issuer over time. At the same time, we will be disciplined about selecting the right instrument and duration for the market. In the current rate environment, the 3-year term loan offered attractive execution at the shorter end of the interest rate curve, while allowing PECO to pay down the existing term loan, reduce revolver borrowings and preserve flexibility. As a reminder, our current plan does not assume equity issuance. We are match funding our investments with an efficient combination of retained cash flow, dispositions and JV proceeds and debt while protecting leverage and per share growth. This flexibility allows PECO to pursue the best risk-adjusted returns, whether on balance sheet or through our joint ventures. Based on the opportunities and funding sources we see today, we believe we have ample capacity to execute our plan in 2027, while remaining strategic and disciplined. Regarding guidance for 2026, our increased Same-Center NOI guidance reflects 3.75% growth at the midpoint. We increased the midpoint of Core FFO per share guidance, which reflects growth of 6.5%. We also increased the midpoint of Nareit FFO per share guidance, which reflects growth of 6.3%. Nareit and Core FFO growth are expected to have higher G&A expense in the fourth quarter than the third quarter. Growth acquisition guidance remains $600 million to $700 million, which we increased on October 1. We now expect dispositions in a range of $175 million to $210 million. As we look to 2027, our focus remains consistent, execute on the internal growth opportunities across the portfolio, raise capital at the best cost to PECO, invest externally with discipline and maintain the strength and flexibility of our balance sheet. We are confident in our ability to convert these opportunities into continued strong growth, and we'll provide more detail at our December 16 business update. PECO delivers more alpha through our proven operating engine and disciplined growth strategy. PECO delivers less beta through durable grocery-anchored and necessity-based cash flow, low leverage and no meaningful debt maturities until 2030. With that, we will open the line for questions. Operator?

[Operator Instructions] Our first question is going to come from the line of Haendel St. Juste with Mizuho.

I wanted to talk about the external growth and transaction market specifically. Curious as you look into the marketplace, what you might be seeing real time, any change in cap rates and sense of more assets in the marketplace? And I think you mentioned, John, you can fully fund your '27 potential investments here without any incremental equity. But curious how much of that could be between kind of on balance sheet, off balance sheet and what role dispositions -- how much of a role dispositions would play?

Well, Haendel, thank you for the question. Let's answer it in two ways. One is sort of the source of capital and the second is sort of the market, I think, was the question. Bob, do you want to talk about the current acquisition market? And then we'll talk about sort of where that capital is coming from?

Yes. Thanks, Jeff. What I would say about the current environment here is the external growth has been positive. We reviewed 567 deals this year compared to 450 last year. We have an investment committee meeting every Monday. We presented 270 deals this year compared to 233 deals. And we've closed on $519 million so far this year, and we have a very strong pipeline where we've either been awarded or under contract on another $250 million. So we're in a very, very solid position of being very active in this space, finishing the year strong while also building out a very strong pipeline into next year. John can speak more to the dispositions. We are very diligent about recycling some of our stabilized assets that are closer to 7%, 7.5% returns where we're recycling those into new assets generating between 9% and 10% unlevered returns. So we're excited about the portfolio that we've acquired this year. There is more competition. But if you look at what we've acquired in Everyday Retail, we've averaged about a 6.8% cap rate. If you look at what our blend has been across the year, it's about 6.5%, and we are still solving for above a 9%. So the discipline is in place. The market is active. The competitive bid set is active, but we're not seeing a lot of movement in cap rates. Interest rates kind of spiked and then they came back down. But I feel like we're in a very good spot in terms of continuing to see activity and taking advantages of that.

And then I'll jump in quickly on the funding. So ultimately, from a funding perspective, we are excited about the expanding our investment management business. And so we have additional funding that will be drawn there for the -- whether some of it will be later this year, it's in our guidance table and then the remaining piece will happen in early 2027. I think the key piece here for us is that we're looking at is match funding. Your question was getting to what our forward dispositions look like. And the best part is that we don't have anything we have to sell. These are things that are opportunistic or as Bob said, maybe in some cases, the IRR is a little bit lower. But ultimately, we have a very strong portfolio. So we have the ability to increase and decrease that. And I would think that we've begun our active recycling, but the key piece is sort of match funding with our acquisition opportunities. And as long as we see great acquisition opportunities, that's going to give us the room to sell assets as well.

And just Haendel, to add to that, I mean the -- we're basically raising capital in the low 6s on a cap rate, and we're putting that to work in the mid-6s. So we're getting a spread from the start. And then we're looking at these assets as long-term growth vehicles for us. They're going to help generate '27, '28 and '29 growth. So we're excited about sort of not only getting a kick to start, but also that what we're going to see on a longer-term basis. So thank you for your question.

Your next question comes from the line of Andrew Reale with Bank of America.

Maybe just one on the tenant mix. Just looking at your slide deck, it looks like local tenants are now about 26% of your ABR. I guess, first of all, amongst that cohort, what proportion of those local tenants do you consider to be necessity-based? And then just any color on how that group has been performing, if there have been any increase in delayed payments or changes to overall health among that group of local tenants?

Great. Thanks, Andrew. Bob, do you want to take that one?

Yes. Thanks, Andrew. Appreciate the question. Merchandising mix has always been one of the most important aspects of creating value at our properties and for our shareholders. The local mix plays a big role in it. Even though it's 26% and 74% of our rent roll is necessity-based, it still has the consistency in our local tenants with having quick service, fast casual, health, wellness, beauty, fitness and medtail. What I appreciate about the mix is that we're able to generate higher rents, spend less TI money, get them into the space sooner and paying rent. And honestly, they're all entrepreneurs. I mean, so we just like to partner alongside with them in terms of making sure that they're profitable, but we've seen a lot of success in hitting. I mean if you look at our renewal spreads this last quarter, they were like 25.2% and they're even higher if you look at the local mix. So that's an advantage. The key is merchandising around how you continue to focus on necessity-based goods and services. And look, there's no new supply coming on the market. So the demand is very vibrant. All the meetings that we're having at ICSC and the conversations with retailers want to be with the #1, #2 grocer, and that's what we've been providing. So health ratios are strong at about 10%. And if you look at our high retention rate of 92.2% and our spreads of 25%, I mean it feels like we're in a very good spot right now. That's our focus.

Yes. Andrew, just to add on to that, we want to make sure that we're explaining that we're very focused on this merchandising. And over time, the mid-20s for local is the right mix because as -- the reason we're so focused on the merchandising is we can't drive rents unless we can drive sales. And the merchandising that we're laying out will maximize the production of the center, which then allows us to grow our rents. And the reason we're having market-leading rents is a big piece of that is our retailers are doing well because we're merchandising to each specific market where we have a property. And that's a really critical part of how we think about the business, but also how we act on a day-to-day basis. And that whole being locally smart is all part of that because you have to merchandise to each center that you own if you really want to maximize the sales that we can do and then therefore, the rents.

Your next question comes from the line of Michael Griffin with Evercore.

So I saw recently that Kroger announced expansion plans through 2029 of upwards of 100 new centers. I'm just curious how your portfolio could stand to benefit from this? Clearly, you're a large landlord partner for them. It's good to see the expansion and the focus on sales productivity. But does this come through the opportunity set within the redevelopment bucket, maybe re-tenanting another grocer with one of these Kroger expansion? Just curious if you can give some commentary there, that would be helpful.

Great question, Griff, and something we've talked a lot about. Bob, do you want to take that on what we're doing there?

Sure. Thanks, Michael. In all our conversations with Kroger, they are expanding. They're not only expanding, but they're reinvesting a lot of capital into their existing stores. So being the #1 landlord of Kroger, we have some insight to that. We've walked alongside them with some ground-up development opportunities. We're in the process of securing some ground to partner with them on that front. So I think it's going to come from both ground-up development opportunities. I think they'd like to do 40 new locations this year that's ground up. And then in addition, any existing sites. And obviously, you're aware of the Giant Eagle expansion, and they're very focused on that as well. So we're glad that Kroger is our partner and that we're their largest landlord. We're going to continue to see them making the right investments in their store, and we're helping them with their strategic layouts across the country.

Yes, Griff, the only thing I would add in there is we think that the purchase of the Giant Eagle stuff and that portfolio is just going to strengthen our ability in those markets because the Giant Eagles are dominant in both Cleveland and in Pittsburgh, and that's just going to make our centers there even stronger. So we're very -- we think that's going to be a real positive for PECO.

Your next question comes from the line of Caitlin Burrows with Goldman Sachs.

Maybe just on the lease pricing side, it looks like new lease spreads ticked down in the quarter, but are still over 30% in the trailing 12 months, so impressive. Can you just talk about the quarter and then more generally on pricing, whether you're getting any increased pushback from tenants on higher rents? I know you have talked in the past about upside to occupancy costs.

Great. Thanks, Caitlin. Bob, do you want to talk a little bit about that?

Yes. I appreciate the question. Honestly, it was just a timing issue of the deals that were executed in the third quarter. We've been consistently putting up numbers in the low to mid-30s on our new leasing spreads. So the 26.3 I believe, the number for new leasing spreads this quarter, that was just purely just the deals that were executed. If you look at the full year and you look at the visibility that we have out into the fourth quarter, we'll certainly finish well into the 30s in terms of a year. So it's just purely a timing issue. I think that -- I'm not seeing any pushback on any retailers in terms of pricing. And we would see that, which is interesting, right, between 92.2% retention and record high 25% retention, the neighbors are strong. They're making money. I think the key is making sure that you're merchandising appropriately and then you're keeping their health ratios within that 10% to 11%. So I'm not seeing any issues with it. That was purely a timing thing. We're going to finish the year at an exceptional level, and we feel real good about the strength of the portfolio.

Your next question comes from the line of Jamie Feldman with Wells Fargo.

So Same-Center NOI accelerated to 5.3% in the third quarter, and it's 4.3% year-to-date. I believe the updated full year range is 3.5% to 4%. Can you talk about the implied moderation in the fourth quarter and what's driving it? Is it rent commencement timing, bad debt, expense comparisons or maybe intentional vacancy for remerchandising? And then does the quarter -- does 4Q's outlook change how you think about your long-term range of 3% to 4% heading into 2027?

Thanks for the question, Jamie. John, do you want to take that?

Absolutely. Thanks for the question, Jamie. So ultimately, in the fourth quarter, similar to the third quarter, we're seeing great strength from our neighbors, as Bob just said. The execution remains strong. Really, we're not seeing it as a moderation necessarily. We're looking at it as kind of the timing of recoveries from Q3 to Q4. And that can vary from quarter-to-quarter. We've seen that in years past. Ultimately, we tightened the bad debt range for our guidance, we are which is now at a 60 to 80 basis point range. And there's nothing that we're seeing that's really going to soften related to '26. And as we look to '27, I think we're feeling really strongly about us being able to continue to deliver on our long-term targets of 3% to 4% on a same-store basis and then mid to high single digits on our FFO per share metrics. And so ultimately, we actually think that we're just getting started. The neighbors are strong. The acquisition market is open, and we're positioned very well to take advantage of that.

Your next question comes from the line of Rich Hightower with Barclays.

So I think if I look in the renewal spreads and the impact of options on that number, it looks like options obviously are a very tenant-friendly feature of a lease typically. So maybe talk about that dynamic in the portfolio. And you did mention sort of noneconomic lease terms changing, but I wonder if the sort of renewal option part of that specifically is changing as well and what that means for the business going forward in the very strong market rent environment we're seeing currently.

Yes. Rich, thank you for the question. Bob, do you want to talk a little bit about the options and as well as sort of how that may change in the current environment?

Yes. It's absolutely changing. Thanks, Rich, for the question. It's a great question because obviously, we're very focused on continuing to find ways to grow CAGR and ABR across the portfolio. And when you're 97.5% occupied, we have room to continue to move not only occupancy, options are definitely one of those things that are very tenant-friendly. We don't like to give them. The issue is we've acquired so many large grocery stores in our portfolio that they lock the property down at least 50% of the ABR, give or take, for the next 30 years with either flat options or very mild options. On the inline neighbors, we're able to continue to push and negotiate options away from not only new deals, but also further renewals. You touched on this, but the nonmonetary clauses, we're all over. And you think about removing exclusives and caps and restrictions and co-tenancies and no build areas, we've been very successful in our ability to negotiate those items to free up potential development land, redevelopment categories, outparcels. So it's a little bit of everything. Options are definitely the one that we start with. I tell our leasing team during every new lease negotiation that you're not allowed to give options. So sometimes the retailers will need it just given their capital that they're investing in the property, and they want to make sure that they're going to stay there. And then our job is to really try to push those to 15%, 20% or better. So it's a combination of everything, and we are in the environment to take advantage of everything.

Your next question comes from the line of Ronald Kamden with Morgan Stanley.

This is Caroline on for Ron. I appreciate the commentary that you gave on the transaction markets. I was wondering if you could give a little bit of color into what you're seeing in cap rates in the traditional retail or anchored centers versus more of the Everyday Retail centers from an IRR or cap rate perspective. And then you spoke a little bit too on the mid-20s local mix for the grocery-anchored centers. And so I was just wondering what you were seeing is kind of a similar rate as to how you were thinking about the exposure of local tenants for the Everyday Retail centers?

Bob, do you want to talk a little bit about sort of where we're seeing the cap rates on the grocery as well as the Everyday Retail? And then I think the second question was really just local mix. What kind of local mix are we seeing in the Everyday Retail?