Greetings and welcome to Gladstone Commercial's Third Quarter Earnings Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. . As a reminder, this conference is being recorded. I'd now like to turn the conference over to your host, Mr. David Gladstone, Chairman and Chief Executive Officer. Thank you, sir. Please, proceed.

Thank you, Latanya. That was a nice introduction and thanks to all of you for calling in. As I mentioned every time, we enjoy these times with you and have a chance for you to ask questions. I wish we had more time to talk with you, but we only do it once a quarter. Now, we'll start out, by hearing from Michael LiCalsi, he is our General Counsel and Secretary. He'll give you the legal and regulatory matters concerning the call report. Michael?

Thanks, David. Good morning everybody. Today's call may include forward-looking statements under the Securities Act of 1933 and the Securities Exchange Act of 1934, including those regarding our future performance. Now these forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. And many factors may cause our actual results to be materially different from any future results expressed or implied by these forward-looking statements, including all Risk Factors in our Forms 10-Q, 10-K and other documents we file with the SEC. You can find them on our website www.gladstonecommercial.com specifically go to the Investors page, or on the SEC's website, that's www.sec.gov. And we undertake no obligation to publicly update or revise any of these forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. Now, today, we will focus, we will discuss FFO, which Funds From Operations. FFO is a non-GAAP accounting term defined as net income, excluding the gains or losses from the sale of real estate, any impairment losses on property, plus depreciation and amortization of real estate assets. We'll also discuss FFO as adjusted for comparability, and core FFO, which are generally FFO adjusted for certain other nonrecurring revenues and expenses. Now we believe these metrics are a better indication of our operating results and allow better comparability of our period-over-period performance. And we ask that you visit our website gladstonecommercial.com, sign-up for our e-mail notification service. You could also find us on Facebook. The keyword there is The Gladstone Companies and Twitter handle is @GladstoneComps. Today's call is an overview of our results, so we ask that you review our press release and Form 10-Q, both issued yesterday for more detailed information. Again, they're on the Investors page of our website. With that, I'll hand it over to Gladstone Commercial's President, Bob Cutlip. Bob?

Thank you, Mike. Good morning, everyone. During the third quarter, we continued our focus on industrial acquisitions and increasing occupancy. We acquired an 80,600 square foot industrial facility and product storage yard in St. Louis, Missouri, for $22 million with 17.4 years of remaining lease term and a GAAP cap rate of 7.5%. Acquired in 81,700 square foot industrial facility in Peru, Illinois, which is just West of Chicago for $4.7 million with 15 years of remaining lease term and a GAAP cap rate of 7.6%. We leased 176,000 square feet at our Austin Texas property through 2026 to a rated investment grade tenant. Commenced the 12.5 year lease of our 238,000 square foot industrial facility at the Tulsa Port of Catoosa, renewed a lease of a 60,000 square foot flex office building in San Antonio, Texas through November of 2031, and collected 100% of cash-based rents during the third quarter, and 100% of October scheduled rents. Our recent investments further reinforce our strategy to increase our portfolios industrial allocation. The acquisition volume since 2019 is approaching $350 million and all assets have been industrial in nature. Our industrial allocation has increased from 33% to within striking distance of 50% today. Our near term objective is to reach 60% within the next 12 plus months. And our long-term objective is to reach 70% to 75% within the next two plus years. Our success has been with acquisition candidates in the 50,000 to 300,000 square foot range and we expect to continue this size focus. On the personnel front, we hired Ryan Carter, as an Executive Vice President to lead our Midwest and West regions. Ryan possesses over 20 years of experience as a principal acquiring and developing commercial properties and as a senior investment sales professional. He has a long…

Thank you, Bob, and good morning, everyone. I'll start my remarks by reviewing our operating results for the third quarter. All per share numbers I referenced are based on fully diluted weighted average common shares. FFO and core FFO available to common shareholders were $0.44 and $0.39 per share for the quarter respectively. FFO and core FFO available to common share stock shareholders during the third quarter of 2020 were $0.39 and $0.40 per share respectively. FFO adjusted for comparability and core FFO available to common shareholders for the first nine months of 2021 were $1.20 and $1.17 respectively. FFO and core FFO adjusted for comparability available to common shareholders during the first nine months of 2020 were $1.19 and $1.20 per share respectively. Our same-store cash rent in the third quarter grew at 2.2% over the third quarter of 2020 and for the first nine months of 2021, it grew at 3.4% over the first nine months of 2020. Our third quarter results reflected total operating revenues of $34.3 million with operating expenses of $25.5 million as compared to operating revenues of $33.1 million and operating expenses of $25.3 million for the same period in 2020. We continued to enhance our strong balance sheet, as we grow our assets and continue to focus on reducing our leverage. We have reduced our debt to gross assets over the past six years to 44.8% through refinancing maturing debt, and financing new acquisitions at lower leverage levels. We believe we're between 1% and 2% away from our target leverage level. We continue to primarily use long-term mortgage debt to make acquisitions. As we grow through disciplined investments, we also continue to expand our unsecured property pool with additional high quality assets. Over time, we expect this will increase our debt financing options.…

Thank you very much. That was a good report Gary and a good one from Bob Cutlip and Michael LiCalsi too. Team has performed very well this quarter and we've not incurred much by the various government reactions to the virus. So we ended up with a very nice quarter. You've heard a lot today on the numbers of new transactions and new leases and the quarter was impressive. The team's collected 100% of the cash-based rents during the quarter and the team also acquired the two industrial assets during the quarter and leased over half of our Austin property. That was one that had dragged us down for quite a while and now it's back paying and we're in good shape. That led to us thinking about increasing the dividend which we did. Including the Austin property with the team executed 13 lease transactions year-to-date, ending September 30, and represents about $12.8 million in annualized straight-line rents. Commercial team is growing the real estate we own at a really good pace and the team is doing a great job managing the properties we already own, especially during the pandemic time. This team has a strong professional group and continues to pursue quality properties on the list of acquisitions they are reviewing. The acquisition team is seeking strong credit tenants we look at the credit first and the real estate second. They know that quality tenants and real estate make excellent investments. And the asset managers that we have are very active managing the properties that the company owns in order to maximize their value. It's a different environment we're in today, but the team has been up to the challenges and has done a great job. The outlook, well we're in the middle market business like many of our tenants, we've been challenged with previous government restrictions related to the virus. With our teams continue to pay there -- our tenants continue to pay their rents and these times we are in have never been seen before and there will be future challenges, I'm sure but our first class team is doing a fantastic job. Okay, let's stop here and have our operator come on and help our listeners ask a few questions.

Thank you. At this time, we will conduct a question-and-answer session. . Our first question comes from Craig Kucera with B. Riley and Securities. Please proceed.

Yes, hey good morning, guys. I just want to make sure I'm connecting the dots here and thinking about Austin, which I think is a big part of the story here this quarter. So GM shows back up as your top tenant. It looks like you leased about half of the building but at pretty close to the same total rent, should we infer from that, that that whereas before you they were paying $14, $15, you thought you could get close to $20, but that was actually closer to maybe the high 20s. And how to think about, what the rent might be at that building, or I guess just additional color on that building would be great.

Sure, Craig. And as I've indicated in, we’ve got a non-disclosure and a confidentiality agreement with the tenant. So I can't disclose specific numbers. But if you look at the last couple of quarters where I indicated that rents, new asking rents, which of course are less than straight-line, but new asking rents were in the low to mid 20s, we ended up at that location. And we feel very, very good about it and probably relates to the balance of the building. We think that we're going to still be in that price range. So since we've got 45 -- 45% of the building still to lease we're very excited about what the ultimate outcome will be with that building and activity has picked up, we have one RFP out right now on for a tenant. And so we're just going to see how things unfold. But we're definitely encouraged because the activity in Austin has in fact picked up and when you see some of the research reports that have just recently been released, CBRE indicates that tech leasing, comprise, I think, over -- over a fourth of all leases that were done in the third quarter and Austin was signaled out as one of the strongest market. So we're encouraged, of course, we participated in that third quarter with us leasing that property. But we think going forward; it still is going to be very, very strong for us.

Got it. And is there of course recognizing that there is a non-disclosure agreement here, but can you give us an additional color as far as maybe a period of free rent or at what point that tenant might take occupancy and start paying rent, and it starts to hit your income statement?

All I can say is it was minimal, and our tenant improvements were very low. So we're very excited about the outcome. Team did an absolutely phenomenal job in the negotiations, and we're encouraged about this new tenant who we believe who could be in there for a long time.

And one more for me on the same topic, over the past years that building has been those assets have been vacant. You've contemplated leasing it up or selling it and you've leased up about half of it, are you thinking once that those assets are leased up that they were going to be long-term holds or is that still potentially something you might sell down those down the line which you get it all leased up?

Well we don't, all the options are on the table. I think right now our objective is to lease the balance of the building. And then, at that point, I think David and I and Gary will make a decision as to whether or not we want to exit that property and redeploy it into industrial assets. I'm more of an industrial player, as you know, and so long-term, I think as I indicated, our goal is to get to 75% on the industrial side. And this could be a very, very huge sale for us that could be redeployed into another industrial portfolio, which from an operating efficiency standpoint, as we all know, industrial releasing is much less expensive compared to office releasing.

Got it. And then one more for me, sorry, just thinking about acquisitions for 2021 kind of where are you thinking you're going to settle in as far as cumulative closings for the year versus where we were kind of your thoughts last quarter or so.

We've been saying -- and we've been kind of sticking to the thought that we wanted to be somewhere between a $100 million and $120 million this year with some of the disruption we had at the beginning of the year. The team has now come back extremely strong. When I think that we've got $54 million in the bond so to speak and another $63 million under letter of intent and those would all be probably by the end of January 1st, part of February. We may not finish this year much more over a $100 million, but we start off 2022 really with the wind at our back, particularly with a number of properties that'll close within the first two months of 2022.

Okay. Thanks. That's it.

And we're seeing a lot more listings. I mean the team is staying extremely focused on our target markets. We're staying within our -- let's say $5 million to let's say $20 million range and are successful. And we do participate a lot on sale lease backs. As you saw those two leases that we did were in excess of, well, one was 17 and one was 15 years. We like that. We like that middle market kind of non-traded company that we can underwrite the credit and work with private equity companies to offload those assets so they can put the money into the operating business.

Okay. Appreciate the color. Thanks.

Other questions?

Our next question comes from John Massocca with Ladenburg. Please proceed.

Good morning.

Good morning, John. How you're doing?

Not bad. So on the lease expiration front, I know you touched a bit on 2022, but there's still a little left for 2021. Can you maybe just give any color on how that is progressing and maybe what that's composed of?

Yes. We have an 86,000 square foot office property in Salt Lake City occupied by a strong tenant. They are going to move. Right now we have a prospect for a third of the building. And then the other property is it's like a 16 -- 16,000 square foot tenant in Tampa, Florida. And we're talking to the lead tenant in that building to take the balance of the space, which we're somewhat encouraged about. But until we get it across the goal line, as you know, it's not done. But I still feel very good about what we have done so far. But those two leases, John and expire at the very end of December. So we've got a little bit of headway yet, but we don't have it across the goal line. And then the next year we have just three leases that are expiring, as I indicated in June, July and October. One of which we are already in conversations, the tenant is moving out. But we have another tenant that we're in final negotiations that they would move in actually before that tenant moves out in July. So somewhat encouraged about what's going on there.

Okay. And then, obviously, we kind of talked about a little bit with Austin specifically, but what's kind of the bigger appetite for maybe recycling out of office properties and redeploying that capital into industrial. And I guess how do you balance maybe what could potentially be a headwind from the cap rate environment for office versus industrial versus that desire to get to 75% or more industrial exposure in a couple of years.

Sure. As you probably know as you do know the last six properties we've sold have been single-story office properties, which everybody on our team knows that I despise, and that's why we have exited some of those properties. And we're going to continue to do that. Gary and I have done an assessment and I think probably over the next two to three years, I mean, I'm still interested in suburban office that are in mixed use environment. I think that's a great long-term play regardless, particularly the type of assets that we buy, which are mission critical. But we will continue to exit those single-story office properties. The releasing costs are just too high per square foot basis. And I think we'll probably move out of anywhere from $15 million to $20 million a year. Most of those, John, are well under $10 million or smaller facilities, but we will move out of them and then redeploy the capital. And yes, I agree, there's going to be some cap rate, let's say, arbitrage, but if we can keep it to just to $15 million to $20 million, it's not going to be a major impact to us. And I'm more of a long-term looker at our strategy and bringing on properties that have much better operating efficiencies, less cost to renew and to -- and/or release stickier product. We're going to go industrial.

Okay. And I guess today is in kind of the specific areas you look at, what's maybe the cap rate mixed between industrial, some of the office that looks attractive to you and then some of the office that you might potentially be looking to kind of capital recycle out of?

Well, I would say that on the industrial side, where we're seeing deals that make sense from -- for us are in the mid-5s to low-6s going in. You saw the two that we bought this last quarter were higher than that. We were fortunate. But that's really what we're seeing in our target markets. As you know, there's a lot of cap rate compression completely across the country on the industrial side, but we can still find deals that are between 5.5, and let's say 6 in a quarter that suit our needs. And you can look at the office product that we're looking at is probably 50 to 75 basis points higher. We're really not finding much that makes any sense. I mean the people who are selling office product are smart. There's CapEx requirements. We're not into a bunch of HVAC replacement, roof replacement, parking replacement, redoing lobbies and quite frankly, the smart office sellers are selling assets that are like that. So as you can tell, we have one out of 18, are office products, and that's kind of the way I think we're going to see it going forward. It's going to be less than 20% of our total pipeline, let's say. And the arbitrage, I do think that the arbitrage is going to be probably 50 basis points anyhow, maybe 75, but I still look at it long-term and since we're talking about $15 million to $20 million per year, I don't think it's a significant impact on our same-store performance and going forward FFO per share.

Okay, understood. Thanks for taking the questions. That's it for me.

Thanks.

Next question, please.

. Our next question comes from Brian Hollenden with Aegis. Please proceed.

How much does the Austin asset 55% still impacts the same-store revenue. I know that your same-store revenue was 2.2% in the quarter. What would that have been the Austin asset was leased for that full quarter?

It would have been a boy. I might have to kind of have to tell you, but I would say for the full quarter, we're talking about --

About a 1.5 million.

About a 1.5 million of rent and 1.5 million of rent, and we've got 38 million shares. So you can probably do the calculation on that. But it was only really participating about 15 days because they moved in September 15th.

Okay. And then year-to-date about 13 lease transactions and how much of an increase are you getting for industrial versus office when you exclude that Austin asset?

I don't have the specifics. All I can tell you is that through September of the 13 assets that were done, five of them were office and the balance were industrial. And our overall straight-line rent on that was an excess of 11% through September. We did another lease at the end of October, which we had a roll down in the rent down there. And so that reduced our straight-line rent increase to the high-single-digit. So and that was an industrial property, but it was cold storage. And there was a big roll down. We bought that property back in 2007. So the rents were well over market. The key for us is that we got the tenant in there for another 10 years. And I'm going to get 2% to 3% increases in the rents every year.

Thank you. And then maybe last one for me, can you just talk a little bit about what you're seeing on the acquisition front this quarter, maybe in the last couple of quarters, it does look like, was that three assets in due diligence and three LOI that you have quite a pipeline coming over the next few months?

Yes. What we're seeing is a combination of quasi manufacturing and quasi distribution, and in our secondary growth markets, that is playing well for us, with 18 properties in due diligence, and what our history has been that if we get something into the letter of intent stage, we typically close on about a third of those for sure, at the bottom side. So I expect that we're going to continue to see that amount of velocity. As I indicated we average anywhere, we average really between 16 million and 18 million per copy on our acquisitions over the last couple of years. I think that's going to continue. If we stay at that level, then we're not competing against I would say the larger peers, and we're much more competitive there. And I still think that we'll have the opportunity to have a pipeline in excess of $300 million and our expectations, Gary's and my expectation is for us to grow the portfolio by $120 million to $150 million a year going forward.

Thank you.

Next question?

We have a follow-up question from Craig Kucera with B. Riley. Please proceed.

Hey, guys, just one more for me. Just going through Q, you did have a $2.4 million legal settlements that that kind of booked in other income. And I'm just curious, do you have any other lawsuits out there. Are there any other potential legal settlements that might close over the next quarter or two? Or was that really sort of a unique situation?

That that was a very unique situation non-recurring one-time. So no, we don't have anything else like that coming up.

Okay, thanks. Appreciate it.

Next question?

Mr. Gladstone, we have no further questions in queue. At this time, I would like to turn it back over to you for closing comments, please.

Well, thank you all for calling in and asking good questions and ask a lot more next time we meet, because we only meet once a quarter and we'd love to hear from all of you and your concerns and you bring up some good questions. So that's the end of this. Thank you for calling in.

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time and thank you for your participation and have a great day.