An overview of Realty Income’s Acquisition of Spirit Capital

Written by Quorica Capital M&A Team – Anton Meaney

On January 23rd, 2024, Realty Income closed on its target Spirit Realty Capital. It was an all-stock transaction valued at US$9.3bn. It acts as a significant moment in Realty Income’s history, as well as placing them in a strong position in the real estate investment trust (REIT) sector.

Transaction Overview:

• Acquirer: Realty Income
• Target: Spirit Capital
• Announcement: January 23rd, 2024
• Deal value: US$9.3bn
• Deal Structure: All-stock
• Acquirer transaction advisors: Wells Fargo
• Target transaction advisors: J.P. Morgan Securities and Morgan Stanley

Strategic Rationale:

• Expansion and diversification: Deal is expected to increase annualized
  contractual rent from US3.8bn to US$4.5bn. Realty Income’s industrial property assets are expected to represent 15.1% of annualized contractual rent, up from 13.1% prior to the acquisition.
• Valuation and capital markets: The acquisition saw Realty Income’s total enterprise value reach US$63bn. This sees Realty Income become the 4th largest REIT in the S&P 500, expecting to remain in the top 200 companies.
• Significant AFFO per share (cashflow per shareholder) accretion without taking on further debt: Realty Income estimates annualized AFFO per share to be over 2.5% accretive, while maintaining a combined leverage ratio of 5.5x, compared to its standalone position.
• Deal not expected to require public capital: Realty Income will likely finance this deal without raising additional public capital. This is supported by Spirit’s existing cheap debt of US$4.1bn at a 3.48% interest rate.

Strategic Advantages for Realty Income and their Shareholders:

• Assets of Realty Income and Spirit will form under one portfolio, increasing revenue. The combined portfolios will increase annualized contractual rent from US$3.8bn to US$4.5bn, a significant rise in revenue.
• Further, the combined portfolio will benefit Realty Income in terms of reduced rent concentration for nine of its top ten industries. This will ensure diversity across different industries, meaning it won’t rely as heavily on just a few, increasing long-term stability.
• As Realty Income is a real estate investment trust (REIT), they pay most of their income as dividends to their shareholders. Increased rental revenue and significant AFFO per share accretion benefits shareholder as their dividends will rise.

Strategic Advantages for Spirit Realty Income:

• This deal increases the scale at which Spirit operates at. Their portfolio
  previously consisted of just 2,064 properties, significantly less than the over 13,100 of Realty Income. They become part of a much larger and more established entity with a dominant market presence.
• Spirit shareholders may see an increase in their stock price through the benefits of this merger. This could prove a favourable exit strategy, allowing investors to realize on their investments.

Competitive Edge for the Combined Entity:

• Increased scale, diversification and stronger market presence. Can also benefit from economies of scale and spread costs over more properties.

Impact on Real Estate Market:

• May lead to higher valuations of properties within the combined entities portfolio. Due to its scale, diversification and role as a market leader.
• Increased competitive pressure on smaller REITs and private investors. Could lead to the new entity offering more attractive lease terms to tenants due to their improved operational efficiency.

Impact on REIT sector:

• May increase borrowing costs for smaller REITs as they perceive them as risker than the combined entity.
• Investors may choose to invest into more diverse REITs and focus on dividend reliability when choosing where to invest.

To conclude, this merger improves Realty Income’s scale, diversification and market position. It has strong benefits for shareholders as increased revenues will likely see increased dividends paid. The overall impact on the real estate market is a growing pressure on smaller REITs and private investors, as they struggle to compete with the combined entities operational efficiency. This may lead to reduced competition in the future.