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Section 1: 10-K (10-K)

Document
 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-K
 
(Mark One)
x    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
OR
¨    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 000-54691
 
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PHILLIPS EDISON & COMPANY, INC.
(Exact Name of Registrant as Specified in Its Charter)
 
Maryland
27-1106076
(State or Other Jurisdiction of
Incorporation or Organization)
(I.R.S. Employer
Identification No.)
 
 
11501 Northlake Drive
Cincinnati, Ohio
45249
(Address of Principal Executive Offices)
(Zip Code)
(513) 554-1110
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
None
 
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value per share
 
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.     Yes  ¨    No  þ  
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  þ  
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨  
Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).  Yes  þ    No  ¨  
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment of this Form 10-K.  ¨
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). (Check one):    
Large Accelerated Filer
¨
Accelerated Filer
¨
 
 
 
 
Non-Accelerated Filer
þ
Smaller reporting company
¨
 
 
 
 
Emerging growth company
¨
 
 
 



If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.   o
Indicate by check mark whether the Registrant is a shell company (as defined in rule 12b-2 of the Securities Exchange Act).    Yes  ¨    No  þ  
There is no established public market for the Registrant’s shares of common stock. On May 9, 2018, the Board of Directors of the Registrant approved an estimated value per share of the Registrant’s common stock of $11.05 based substantially on the estimated market value of its portfolio of real estate properties as of March 31, 2018. Prior to May 9, 2018, the estimated value per share was $11.00. For a full description of the methodologies used to establish the estimated value per share, see Part II, Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities - Market Information, of this Form 10-K. As of June 30, 2018, the last business day of the Registrant’s most recently completed second fiscal quarter, there were approximately 182.9 million shares of common stock held by non-affiliates.
As of March 1, 2019, there were approximately 281.8 million outstanding shares of common stock of the Registrant.
Documents Incorporated by Reference: Portions of the Registrant’s Proxy Statement for its 2019 annual meeting of stockholders, which will be filed with the SEC by April 30, 2019, are incorporated by reference into Part III of this Report.




PHILLIPS EDISON & COMPANY, INC.
FORM 10-K
TABLE OF CONTENTS
 
 
ITEM 2.    
ITEM 3.    
 
 
 
 
ITEM 7.    
ITEM 9.    
 
 
 
 
 
 
 
PART IV           
 
 
 
 



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Cautionary Note Regarding Forward-Looking Statements
Certain statements contained in this Annual Report on Form 10-K of Phillips Edison & Company, Inc. (“we,” the “Company,” “our,” or “us”), other than historical facts may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). We intend for all such forward-looking statements to be covered by the applicable safe harbor provisions for forward-looking statements contained in those Acts. Such forward-looking statements can generally be identified by our use of forward-looking terminology such as “may,” “will,” “expect,” “intend,” “anticipate,” “estimate,” “believe,” “continue,” “seek,” “objective,” “goal,” “strategy,” “plan,” “should,” “could,” or other similar words. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date this report is filed with the U.S. Securities and Exchange Commission (“SEC”). Such statements include, in particular, statements about our plans, strategies, and prospects, and are subject to certain risks and uncertainties, including known and unknown risks, which could cause actual results to differ materially from those projected or anticipated. These risks include, without limitation, (i) changes in national, regional, or local economic climates; (ii) local market conditions, including an oversupply of space in, or a reduction in demand for, properties similar to those in our portfolio; (iii) vacancies, changes in market rental rates, and the need to periodically repair, renovate, and re-let space; (iv) changes in interest rates and the availability of permanent mortgage financing; (v) competition from other available properties and the attractiveness of properties in our portfolio to our tenants; (vi) the financial stability of tenants, including the ability of tenants to pay rent; (vii) changes in tax, real estate, environmental, and zoning laws; (viii) the concentration of our portfolio in a limited number of industries, geographies, or investments; and (ix) any of the other risks included in this Annual Report on Form 10-K, including those set forth in Part I, Item 1A. Risk Factors. Therefore, such statements are not intended to be a guarantee of our performance in future periods.
Except as required by law, we do not undertake any obligation to update or revise any forward-looking statements contained in this Form 10-K.


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w PART I
ITEM 1. BUSINESS
All references to “Notes” throughout this Annual Report on Form 10-K refer to the footnotes to the consolidated financial statements in Part II, Item 8. Financial Statements and Supplementary Data.
Overview
Phillips Edison & Company, Inc. (“we,” the “Company,” “our,” or “us”) is an internally-managed real estate investment trust (“REIT”) that is one of the nation’s largest owners and operators of grocery-anchored shopping centers. Additionally, we operate an investment management business providing property management and advisory services to third-party owned grocery-anchored real estate.
Our portfolio primarily consists of well-occupied, grocery-anchored neighborhood and community shopping centers having a mix of national, regional, and local retailers providing necessity-based goods and services in strong demographic markets throughout the United States. As of December 31, 2018, we managed a diversified portfolio of 340 shopping centers, 303 of which are wholly-owned by us and comprised approximately 34.4 million square feet located in 32 states.
We were formed as a Maryland corporation in October 2009 and have elected to be taxed as a REIT for U.S. federal income tax purposes. Substantially all of our business is conducted through Phillips Edison Grocery Center Operating Partnership I, L.P. (“Operating Partnership”), a Delaware limited partnership formed in December 2009. We are a limited partner of the Operating Partnership, and our wholly-owned subsidiary, Phillips Edison Grocery Center OP GP I LLC, is the sole general partner of the Operating Partnership. The majority of our revenues are lease revenues derived from our owned real estate investments.
On November 16, 2018, we completed a $1.9 billion merger (the “Merger”) with Phillips Edison Grocery Center REIT II, Inc. (“REIT II”), a public non-traded REIT that was advised and managed by us. The 100% stock-for-stock transaction created an approximately $6 billion internally-managed REIT focused exclusively on grocery-anchored shopping centers. We also acquired an interest in a joint venture through the Merger (see Note 3 for more detail).
On November 9, 2018, we entered into a joint venture agreement with The Northwestern Mutual Life Insurance Company (“Northwestern Mutual”), one of the nation’s largest and most experienced commercial real estate investors, to create Grocery Retail Partners I LLC (“GRP I” or the “GRP I joint venture”). Under the terms of the GRP I joint venture, Northwestern Mutual acquired an 85% interest in 17 high-quality grocery-anchored shopping centers, previously owned and operated by us, with an aggregate fair value of approximately $359 million. We retained a 15% ownership in the portfolio while providing asset management and property management services to GRP I.
On October 4, 2017, we completed a transaction valued at approximately $1 billion to acquire certain real estate assets and the third-party investment management business of Phillips Edison Limited Partnership (“PELP”) in exchange for stock and cash (the “PELP transaction”). See Note 4 for more detail.
Business Objectives and Strategies
Our business objective is to own, operate, and manage well-occupied, grocery-anchored shopping centers that generate cash flows to support distributions to our stockholders and that have the potential for capital appreciation. We seek to achieve this objective through our focus on leasing, merchandising, and efficient property management within our wholly-owned portfolio; strategic acquisitions and capital recycling; and investment management activities. Altogether, our goal is to provide great grocery-anchored shopping experiences and improve our communities one center at a time.
Focus on Growth in Our Wholly-Owned Portfolio—We believe our focus on the following areas will lead to growth in our portfolio and improved return for our investors:
Protecting Our Core Investment—We add value by overseeing all aspects of operations at our properties. Our property managers maintain a local presence in order to effectively manage operating costs while maintaining a pleasant, clean, and safe environment where retailers can be successful and customers can enjoy their shopping experience. We utilize our effective accounting, billing, and tax review platform to facilitate our daily operations.
Leasing—Our national footprint of experienced leasing professionals is dedicated to (i) creating the optimal merchandising mix for a center, (ii) increasing occupancy at our centers, (iii) maximizing rental income by capitalizing on below-market rent opportunities within our portfolio, (iv) increasing rents as leases expire, and (v) executing leases with contractual rent increases.
Redevelopment—Our team of seasoned professionals identifies opportunities to unlock additional value at our properties through our redevelopment program. Our redevelopment strategies include outparcel construction, footprint reconfiguration, anchor repositioning, and anchor expansion, among others. We expect these opportunities to increase the overall yield and value of our properties, which will allow us to generate higher returns for our stockholders while creating great grocery-anchored shopping center experiences.
Capital Recycling and Strategic Acquisitions—We continually evaluate opportunities to recycle capital through the disposition of assets. The disposition of assets that we believe have achieved their maximum value, potentially have lower future growth profiles, or have higher retailer risk provides us with capital to strengthen our balance sheet or to pursue assets with higher growth opportunities. The recycled capital allows us to purchase assets located in attractive demographic markets throughout the United States where our management believes our fully-integrated operating platform can add value and create growth.

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Investment Management Activities—Our investment management business utilizes the in-house experience of owning and operating grocery-anchored shopping centers to generate revenue by providing comprehensive real estate and asset management services to third-party funds, including (i) Phillips Edison Grocery Center REIT III, Inc. (“PECO III”), a non-traded publicly registered REIT currently raising up to $1.5 billion dollars in equity; (ii) three institutional joint ventures, and (iii) one private fund. Collectively, the assets under management for these external funds totaled approximately $680 million as of December 31, 2018. Our investment management business will expand our platform and relationships while preserving our balance sheet and will afford us the opportunity to consider acquisitions in the future similar to what we have done historically.
Joint Ventures—We participate in certain joint venture opportunities which we feel are beneficial to our stockholders over the long-term. We have contributed certain assets to two joint ventures with well-respected institutional investors, where we maintain an ownership interest in the assets while maintaining operational control at the property level and generating fees from services. This provides us opportunities to increase our revenue and share in a portion of the potential capital appreciation of a given property.
Conservative Balance Sheet—Our goal is to preserve a flexible yet conservative capital structure, while maintaining a focus on driving stockholder returns. We believe it is critical to have access to multiple forms of capital, including common stock, unsecured debt, bank debt, and mortgage debt, to maximize availability and minimize our overall cost of capital. We believe maintaining a conservative balance sheet with an appropriately staggered debt maturity profile positions the Company well for long-term growth.
Competition
We are subject to significant competition in seeking real estate investments and tenants. We compete with many third parties engaged in real estate investment activities including other REITs, specialty finance companies, savings and loan associations, banks, insurance companies, mutual funds, institutional investors, investment banking firms, hedge funds, and other persons. Some of these competitors, including larger REITs, have greater financial resources than we do and may potentially enjoy competitive advantages that result from, among other things, increased access to capital, lower cost of capital, and enhanced operating efficiencies. In addition to these entities, we also face competition from smaller landlords and companies at the local level in seeking tenants to occupy our shopping centers. In these local markets, we seek to attract potential tenants and retain existing tenants from the same tenant base as do local landlords and entities of varying sizes. This further increases the number of competitors we have and the type of competition that we face in seeking to execute on our business objectives and strategies.
Segment Data
As of December 31, 2017, we operated through two business segments: Owned Real Estate and Investment Management. Following the Merger, we determined, as of December 31, 2018, we have one reportable segment. Our segment disclosures have been updated to reflect this change.
Environmental Matters
As an owner of real estate, we are subject to various environmental laws of federal, state, and local governments. Compliance with federal, state, and local environmental laws has not had a material, adverse effect on our business, assets, results of operations, financial condition, and ability to pay distributions, and we do not believe that our existing portfolio will require us to incur material expenditures to comply with these laws and regulations.
Corporate Headquarters and Employees
Our corporate headquarters, located at 11501 Northlake Drive, Cincinnati, Ohio 45249, is where we conduct a majority of our management, leasing, construction, and investment activities, as well as administrative functions such as accounting and finance. As of December 31, 2018, we had approximately 300 employees.
Access to Company Information
We electronically file our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Proxy and Information statements, and all amendments to those reports with the Securities and Exchange Commission (“SEC”). The SEC maintains an Internet site at www.sec.gov that contains the reports, proxy and information statements, and other information regarding issuers, including ours that are filed electronically.
We make available, free of charge, the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to those reports on our website, www.phillipsedison.com, free of charge. These reports are available as soon as reasonably practicable after such material is electronically filed or furnished to the SEC. The contents of our website are not incorporated by reference.

ITEM 1A. RISK FACTORS
You should specifically consider the following material risks in addition to the other information contained in this Annual Report on Form 10-K. The occurrence of any of the following risks might have a material adverse effect on our business and financial condition. The risks and uncertainties discussed below are not the only ones we face, but do represent those risks and uncertainties that we believe are most significant to our business, operating results, financial condition, prospects and forward-looking statements.
Risks Related to Our Structure and an Investment in Us
Because no public trading market for our shares currently exists, it is difficult for our stockholders to sell their shares and, if our stockholders are able to sell their shares, it may be at a discount to the public offering price.
There is no public market for our shares. Until our shares are listed, if ever, stockholders may not sell their shares unless the buyer meets the applicable suitability and minimum purchase standards. Under the share repurchase program (“SRP”), we repurchase shares at a price in place at the time of the repurchase and not based on the price at which you initially purchased your shares. We currently, and likely will continue to, repurchase fewer shares than have been requested to be repurchased due to lack of readily available funds under the SRP. While we have a limited SRP, in its sole discretion, our Board of Directors (“Board”) could amend, suspend, or terminate our SRP upon 30 days’ notice. Further, the SRP includes numerous restrictions that would limit a stockholder’s ability to sell his or her shares to us. These restrictions have limited us from repurchasing shares submitted to us under the SRP in the past and may do so again in the future.
Therefore, it is difficult for our stockholders to sell their shares promptly or at all. If a stockholder is able to sell his or her shares, it may be at a discount to the public offering price of such shares. It is also likely that our shares would not be accepted as the primary collateral for a loan.
Our stockholders may not be able to sell their shares under our share repurchase program and, if they are able to sell their shares under the program, they may not be able to recover the amount of their investment in our shares of common stock.
Our SRP includes numerous restrictions that limit our stockholders’ ability to sell their shares. During any calendar year, we may repurchase no more than 5% of the weighted-average number of shares outstanding during the prior calendar year. Our stockholders must hold their shares for at least one year in order to participate in the SRP, except for repurchases sought upon a stockholder’s death or “qualifying disability”. The cash available for redemption on any particular date is generally limited to the proceeds from the dividend reinvestment plan (“DRIP”) during the period consisting of the preceding four fiscal quarters, less any cash already used for redemptions since the start of the same period; however, subject to the limitations described above, we may use other sources of cash at the discretion of our Board. These limitations do not, however, apply to repurchases sought upon a stockholder’s death or “qualifying disability.” Only those stockholders who purchased their shares from us or received their shares from us (directly or indirectly) through one or more non-cash transactions may be able to participate in the SRP. In other words, once our shares are transferred for value by a stockholder, the transferee and all subsequent holders of the shares are not eligible to participate in the SRP. These limits may prevent us from accommodating all repurchase requests made in any year. For example, in 2018 repurchase requests exceeded the funding limits provided under the SRP, and we were unable to repurchase all of the shares of common stock submitted to us for repurchase. These restrictions would severely limit our stockholders’ ability to sell their shares should they require liquidity and would limit their ability to recover the value they invested.
In addition, the repurchase price per share for all stockholders under the SRP is equal to the estimated value per share as determined periodically by our Board, which is currently $11.05. The actual value per share as of the date on which an investor makes a repurchase request may be significantly different than the repurchase price such investor receives.
The actual value of shares that we repurchase under our SRP may be less than what we pay.
We repurchase shares under our SRP at the estimated value per share of our common stock. This value is likely to differ from the price at which a stockholder could resell his or her shares. Thus, when we repurchase shares of our common stock, the repurchase may be dilutive to our remaining stockholders.
We use an estimated value of our shares of common stock that is based on a number of assumptions that may not be accurate or complete and is also subject to a number of limitations.
To assist members of the Financial Industry Regulatory Authority (“FINRA”) and their associated persons that participated in our initial public offering, pursuant to applicable FINRA and National Association Security Dealers conduct rules, we disclose in each annual report distributed to stockholders a per share estimated value of our shares of common stock, the method by which it was developed, and the date of the data used to develop the estimated value. Effective May 9, 2018, the Board approved an estimated value per share of our common stock of $11.05 based on the estimated fair value range of our real estate portfolio as indicated in a third-party valuation report plus the value of our cash and cash equivalents less the value of our mortgages and loans payable as of March 31, 2018.
Our estimated value per share (“EVPS”) is based upon a number of estimates and assumptions that may not be accurate or complete. Different parties with different assumptions and estimates could derive a different EVPS, and this difference could be significant. The EVPS is not audited and does not represent a determination of the fair value of our assets or liabilities based on the accounting principles generally accepted in the United States (“GAAP”), nor does it represent a liquidation value of our assets and liabilities or the amount at which our shares of common stock would trade if they were listed on a national securities exchange. Accordingly, with respect to the EVPS, there can be no assurance that:
a stockholder would be able to resell his or her shares at the EVPS;
a stockholder would ultimately realize distributions per share equal to our EVPS upon liquidation of our assets and settlement of our liabilities or a sale of the Company;

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our shares of common stock would trade at the EVPS on a national securities exchange;
a third party would offer the EVPS in an arm’s-length transaction to purchase all or substantially all of our shares of common stock;
an independent third-party appraiser or third-party valuation firm would agree with our EVPS; or
the methodology used to calculate our EVPS would be acceptable to FINRA or for compliance with Employee Retirement Income Security Act of 1974 (“ERISA”) reporting requirements.
Furthermore, we have not made any adjustments to the valuation of our EVPS for the impact of other transactions occurring subsequent to May 9, 2018, including, but not limited to, (i) the Merger in November 2018; (ii) the formation of the GRP I joint venture in November 2018; (iii) acquisitions or dispositions of assets; (iv) the issuance of common stock under the DRIP; (v) net operating income earned and dividends declared; (vi) the repurchase of shares; and (vii) changes in leases, tenancy or other business or operational changes. The value of our shares of common stock will fluctuate over time in response to developments related to individual real estate assets, the management of those assets, and changes in the real estate and finance markets. Because of, among other factors, the high concentration of our total assets in real estate and the number of shares of our common stock outstanding, changes in the value of individual real estate assets or changes in valuation assumptions could have a very significant impact on the value of our shares of common stock. The EVPS does not take into account any disposition costs or fees for real estate properties, debt prepayment penalties that could apply upon the prepayment of certain of our debt obligations, or the impact of restrictions on the assumption of debt. Accordingly, the EVPS of our common stock may or may not be an accurate reflection of the fair market value of our stockholders’ investments and will not likely represent the amount of net proceeds that would result from an immediate sale of our assets.
If we do not successfully implement a liquidity transaction, stockholders may have to hold their investment for an indefinite period.
There currently is no public trading market for shares of our common stock and our charter no longer contains a requirement that we effect a liquidity event by a specific date. In the future, our Board may consider various forms of liquidity, each of which is referred to as a liquidity event, including, but not limited to: (i) the listing of shares of common stock on a national securities exchange; (ii) the sale of all or substantially all of our assets; (iii) a sale or merger that would provide stockholders with cash and/or securities of a publicly traded company; or (iv) the dissolution of the Company. However, there can be no assurance that we will cause a liquidity event to occur. If we do not pursue a liquidity transaction, shares of our common stock may continue to be illiquid and stockholders may, for an indefinite period of time, be unable to easily convert their investment to cash and could suffer losses on their investments.
If we continue to pay distributions from sources other than our cash flows from operations, we may not be able to sustain our distribution rate, we may have fewer funds available for investment in properties and other assets, and our stockholders’ overall returns may be reduced.
Our organizational documents permit us to pay distributions from any source without limit (other than those limits set forth under Maryland law). To the extent we continue to fund distributions from borrowings, we will have fewer funds available for investment in real estate properties and other real estate-related assets, and our stockholders’ overall returns may be reduced.
At times, we may be forced to borrow funds to pay distributions, which could increase our operating costs. Furthermore, if we cannot cover our distributions with cash flows from operations, we may be unable to sustain our distribution rate. For the year ended December 31, 2018, we paid gross distributions to our common stockholders of $124.8 million, including distributions reinvested through the DRIP of $44.1 million. For the year ended December 31, 2018, our net cash provided by operating activities was $153.3 million, which represents a surplus of $28.5 million, or 22.8%, of our distributions paid, while our funds from operations (“FFO”) Attributable to Stockholders and Convertible Noncontrolling Interests were $156.2 million, which represents a surplus of $31.4 million, or 25.2%, of the distributions paid. For the year ended December 31, 2017, we paid distributions of $123.3 million, including distributions reinvested through the DRIP of $49.1 million. For the year ended December 31, 2017, our net cash provided by operating activities was $108.9 million, which represents a shortfall of $14.4 million, or 11.7%, of our distributions paid, while our FFO was $84.2 million, which represents a shortfall of $39.1 million, or 31.7% of our distributions paid. The shortfall was funded by proceeds from borrowings.
We cannot assure stockholders that we will be able to continue paying distributions at the rate currently paid.
We expect to continue our current distribution practices. Stockholders, however, may not receive distributions equivalent to those previously paid by us for various reasons, including the following:
as a result of the Merger, the total amount of cash required for us to pay distributions at our current rate has increased;
we may not have enough cash to pay such distributions due to changes in our cash requirements, indebtedness, capital spending plans, cash flows, or financial position, or as a result of unknown or unforeseen liabilities incurred in connection with the PELP transaction or the Merger;
decisions on whether, when and in what amounts to make any future distributions will remain at all times entirely at the discretion of the Board, which reserves the right to change our distribution practices at any time and for any reason;
our Board may elect to retain cash to maintain or improve our credit ratings and financial position; and
the amount of dividends that our subsidiaries may distribute to us may be subject to restrictions imposed by state law, restrictions that may be imposed by state regulators, and restrictions imposed by the terms of any current or future indebtedness that these subsidiaries may incur.
Existing and future stockholders have no contractual or other legal right to distributions that have not been declared.

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Loss of key personnel or inability to attract and retain personnel could adversely affect our business.
Our future success depends, in part, upon our ability to hire and retain a sufficient number of qualified personnel. Our future success also depends upon the service of our executive officers, who have extensive market knowledge and relationships and will exercise substantial influence over our operational, financing, acquisition, and disposition activity. Many of our other key executive personnel, particularly our senior managers, also have extensive experience and strong reputations in the industry. In particular, the extent and nature of the relationships that these individuals have developed with financial institutions and existing and prospective customers is critically important to the success of our business. Losing one or more members of our senior management team, or our inability to attract and retain highly qualified personnel, could adversely affect our business, diminish our investment opportunities, and weaken our relationships with lenders, business partners, and industry personnel, which could materially and adversely affect the Company.
We have agreed to nominate Mr. Edison to our Board for each annual meeting through 2027 and for Mr. Edison to continue serving as Chairman of the Board through 2020.
As part of the PELP transaction, we agreed to nominate Jeffrey S. Edison to the Board for each annual meeting through 2027, subject to certain terminating events. As a result, it is possible that Mr. Edison may continue to be nominated as a director in circumstances in which the independent directors would not otherwise have nominated him.
Our bylaws provide that Mr. Edison will continue to serve as Chairman of the Board until October 7, 2020, subject to certain terminating events, including the listing of our common stock on a national securities exchange. As a result, Mr. Edison may continue to serve as Chairman of the Board in circumstances when the independent directors would not otherwise have elected him.
We are subject to conflicts of interest relating to the management of another REIT by our officers.
We and our management team serve as the sponsor and advisor of PECO III. We and PECO III have overlapping investment objectives and investment strategies. As a result, we may be seeking to acquire properties and real estate-related investments at the same time as PECO III. We have implemented certain procedures to help manage any perceived or actual conflicts between us and PECO III, including adopting an allocation policy to allocate property acquisitions between the two companies.
If we determine that an investment opportunity may be equally appropriate for both entities, then the entity that has had the longest period of time elapse since it was allocated an investment opportunity will be allocated such investment opportunity, subject to an expected right of first offer to be provided to PECO III. There can be no assurance that these policies will be adequate to address all of the conflicts that may arise, or that these policies will address such conflicts in a manner that is favorable to us. Further, under our advisory agreement with PECO III, we receive fees for various services, including, but not limited to, the day-to-day management of PECO III and transaction-related services. The terms of the advisory agreement were not the result of arm’s-length negotiations between independent parties and, as a result, the terms of the agreement may not be as favorable to us as they would have been if we had negotiated the agreement with an unaffiliated third party.
The Operating Partnership’s limited partnership agreement grants certain rights and protections to the limited partners, which may prevent or delay a change of control transaction that might involve a premium price for our shares of common stock.
The Operating Partnership’s limited partnership agreement grants certain rights and protections to the limited partners, including granting them the right to consent to a change of control transaction. Furthermore, Mr. Edison currently has voting control over approximately 50.2% of the Operating Partnership’s limited partnership units (exclusive of those owned by us) and therefore could have a significant influence over votes on change of control transactions.
Our future results will suffer if we do not effectively manage our expanded portfolio and operations.
With the closing of the Merger, we have an expanded portfolio and operations, and likely will continue to expand our operations through additional acquisitions and other strategic transactions, some of which may involve complex challenges. Our future success will depend, in part, upon our ability to manage expansion opportunities; integrate new operations into our existing business in an efficient and timely manner; successfully monitor our operations, costs, regulatory compliance, and service quality; and maintain other necessary internal controls.
There can be no assurance, however, regarding when or to what extent we will be able to realize the anticipated benefits of the Merger. We will be required to devote significant management attention and resources to integrating our business practices and operations with the newly acquired companies. It is possible that the integration process could result in the distraction of our management, the disruption of our ongoing business, or inconsistencies in our operations, services, standards, controls, procedures, and policies, any of which could adversely affect our ability to maintain relationships with operators, vendors, and employees or to fully achieve the anticipated benefits of the Merger. There may also be potential unknown or unforeseen liabilities, increased expenses, or delays associated with integrating the companies we acquired in the Merger.
There can be no assurance that our expansion or acquisition opportunities will be successful, or when and to what extent we will realize our expected operating efficiencies, cost savings, revenue enhancements, synergies, or other benefits.
We may be liable for potentially large, unanticipated costs arising from our acquisition of companies contributed or transferred in the PELP transaction and the Merger.
Prior to completing the PELP transaction and the Merger, we performed certain due diligence reviews of the business of PELP and REIT II. Our due diligence review may not have adequately uncovered all of the contingent or undisclosed liabilities we may incur as a consequence of the PELP transaction or the Merger. Any such liabilities could cause us to experience potentially significant losses, which could materially adversely affect our business, results of operations and financial condition.

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In addition, we have agreed to honor and fulfill, following the closing, the rights to indemnification and exculpation from liabilities for acts or omissions occurring at or prior to the closing of each of the PELP transaction and the Merger in existence at closing in favor of a manager, director, officer, trustee, agent or fiduciary of any company contributed or transferred under the PELP transaction or the Merger or their respective subsidiaries contained in (i) the organizational documents of such company or subsidiary and (ii) all existing indemnification agreements of such companies and their subsidiaries. For six years after the closing, we may not amend, modify or repeal the organizational documents of companies contributed under the PELP transaction or the Merger and their respective subsidiaries in any way that would adversely affect such rights. We may incur substantial costs to address such claims and are limited in our ability to modify such indemnification obligations.
The tax protection agreement, during its term, could limit the Operating Partnership’s ability to sell or otherwise dispose of certain properties and may require the Operating Partnership to maintain certain debt levels that otherwise would not be required to operate its business.
We and the Operating Partnership entered into a tax protection agreement at closing of the PELP transaction, pursuant to which if the Operating Partnership (i) sells, exchanges, transfers, conveys or otherwise disposes of certain properties in a taxable transaction for a period of ten years commencing on the closing, or (ii) fails, prior to the expiration of such period, to maintain minimum levels of indebtedness that would be allocable to each protected partner for tax purposes or, alternatively, fails to offer such protected partners the opportunity to guarantee specific types of the Operating Partnership’s indebtedness in order to enable such partners to continue to defer certain tax liabilities, the Operating Partnership will indemnify each affected protected partner against certain resulting tax liabilities. Therefore, although it may be in the stockholders’ best interest for us to cause the Operating Partnership to sell, exchange, transfer, convey or otherwise dispose of one of these properties, it may be economically prohibitive for us to do so during the ten-year protection period because of these indemnity obligations. Moreover, these obligations may require us to cause the Operating Partnership to maintain more or different indebtedness than we would otherwise require for our business. As a result, the tax protection agreement could, during its term, restrict our ability to take actions or make decisions that otherwise would be in our best interests.
General Risks Related to Investments in Real Estate
Economic and regulatory changes that impact the real estate market generally may decrease the value of our investments and weaken our operating results.
Our properties and their performance are subject to the risks typically associated with real estate, including, but not limited to:
downturns in national, regional, and local economic conditions;
increased competition for real estate assets targeted by our investment strategy;
adverse local conditions, such as oversupply or reduction in demand for similar properties in an area and changes in real estate zoning laws that may reduce the desirability of real estate in an area;
vacancies, changes in market rental rates and the need to periodically repair, renovate and re-let space;
changes in interest rates and the availability of financing, which may render the sale or refinance of a property or loan difficult or unattractive;
changes in tax, real estate, environmental, and zoning laws;
periods of high interest rates and tight money supply; and
the illiquidity of real estate investments generally.
Any of these factors could result in a decrease in the value of our investments, which would have an adverse effect on our operations, on our ability to pay distributions to our stockholders and on the value of our stockholders’ investments.
E-commerce can have a negative impact on our business.
The use of the internet by consumers continues to gain popularity and the migration towards e-commerce is expected to continue. This increase in internet sales could result in a downturn in the business of our current tenants in their “brick and mortar” locations and could affect the way future tenants lease space. While we devote considerable effort and resources to analyze and respond to tenant trends, preferences and consumer spending patterns, we cannot predict with certainty what future tenants will want, what future retail spaces will look like and how much revenue will be generated at traditional “brick and mortar” locations. If we are unable to anticipate and respond promptly to trends in the market, our occupancy levels and rental amounts may decline.
Our revenue will be affected by the success and economic viability of our anchor tenants.
Anchor tenants (a tenant occupying 10,000 or more square feet) occupy large stores in our shopping centers, pay a significant portion of the total rent at a property and contribute to the success of other tenants by attracting shoppers to the property. Our net income and cash flow may be adversely affected by the loss of revenues and additional costs in the event a significant anchor tenant (i) becomes bankrupt or insolvent, (ii) experiences a downturn in its business, (iii) materially defaults on its leases, (iv) decides not to renew its leases as they expire, (v) renews its lease at lower rental rates and/or requires tenant improvements, or (vi) renews its lease but reduces its store size, which results in down-time and additional tenant improvement costs to us to re-lease the space. Some anchors have the right to vacate their space and may prevent us from re-tenanting by continuing to comply and pay rent in accordance with their lease agreement. Vacated anchor space, including space owned by the anchor, can reduce rental revenues generated by the shopping center in other spaces because of the loss of the departed anchor's customer drawing power. If a significant tenant vacates a property, co-tenancy clauses in select lease contracts may allow other tenants to modify or terminate their rent or lease obligations. Co-tenancy clauses have several variants: they may allow a tenant to postpone a store opening if certain other tenants fail to open their stores; they may allow a tenant to close its store prior to lease expiration if another tenant closes its store prior to lease expiration; or they may allow a tenant to pay reduced levels of rent until a certain number of tenants open their stores within the same shopping center.

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The leases of some anchor tenants may permit the anchor tenant to transfer its lease to another retailer. The transfer to a new anchor tenant could cause customer traffic in the retail center to decrease and thereby reduce the income generated by that retail center. A lease transfer to a new anchor tenant could also allow other tenants to make reduced rental payments or to terminate their leases. In the event that we are unable to re-lease the vacated space to a new anchor tenant in such situation, we may incur additional expenses in order to re-model the space to be able to re-lease the space to more than one tenant.
We depend on our tenants for revenue, and, accordingly, our net income and our ability to make distributions to stockholders is dependent upon the success and economic viability of our tenants.
We depend upon tenants for revenue. Non-anchor tenants may be more vulnerable to negative economic conditions as they have more limited resources than anchor tenants. A property may incur vacancies either by the expiration of a tenant lease, the continued default of a tenant under its lease, or the early termination of a lease by a tenant. If vacancies continue for a long period of time, we may suffer reduced revenues resulting in less cash available to distribute to stockholders. In order to maintain tenants, we may have to offer inducements, such as free rent and tenant improvements, to compete for attractive tenants. If we are unable to attract the right type or mix of non-anchor tenants into our centers, our revenues and cash flow may be adversely impacted. In addition, if we are unable to attract additional or replacement tenants, the resale value of the property could be diminished, even below our cost to acquire the property, because the market value of a particular property depends principally upon the value of the cash flow generated by the leases associated with that property. Such a reduction on the resale value of a property could also reduce the value of our stockholders’ investments.
The bankruptcy or insolvency of a major tenant may adversely impact our operations and our ability to pay distributions to stockholders.
The bankruptcy or insolvency of a significant tenant or a number of smaller tenants may have an adverse impact on financial condition and our ability to pay distributions to our stockholders. Generally, under bankruptcy law, a debtor tenant has 120 days to exercise the option of assuming or rejecting the obligations under any unexpired lease for nonresidential real property, which period may be extended once by the bankruptcy court. If the tenant assumes its lease, the tenant must cure all defaults under the lease and may be required to provide adequate assurance of its future performance under the lease. If the tenant rejects the lease, we will have a claim against the tenant’s bankruptcy estate. Although rent owing for the period between filing for bankruptcy and rejection of the lease may be afforded administrative expense priority and paid in full, pre- bankruptcy arrears and amounts owing under the remaining term of the lease will be afforded general unsecured claim status (absent collateral securing the claim). Moreover, amounts owing under the remaining term of the lease will be capped. Other than equity and subordinated claims, general unsecured claims are the last claims paid in a bankruptcy, and therefore, funds may not be available to pay such claims in full. In the event that a tenant with a significant number of leases in our shopping centers files bankruptcy and rejects its leases, we may experience a significant reduction in our revenues and may not be able to collect all pre-petition amounts owed by the bankrupt tenant.
If we enter into long-term leases with retail tenants, those leases may not result in fair value over time.
Long-term leases do not typically allow for significant changes in rental payments. If we do not accurately judge the potential for increases in market rental rates when negotiating these long-term leases, significant increases in future property operating costs could result in receiving less than fair value from these leases. Such circumstances would adversely affect our revenues and funds available for distribution.
We may be restricted from re-leasing space at our retail properties.
Leases with retail tenants may contain provisions giving the particular tenant the exclusive right to sell particular types of merchandise or provide specific types of services within the particular retail center. These provisions may limit the number and types of prospective tenants interested in leasing space in a particular retail property.
Our properties may be subject to impairment charges.
We routinely evaluate our real estate investments for impairment indicators. The judgment regarding the existence of impairment indicators is based on factors such as market conditions, actual marketing or listing price of properties actively being targeted for disposition, tenant performance, and lease structure. For example, the early termination of, or default under, a lease by a tenant may lead to an impairment charge. Since the majority of our properties are grocery-anchored, the financial failure of, or other default by, a grocery anchor under its lease may result in a significant impairment loss. If we determine that an impairment has occurred, we would be required to make a downward adjustment to the net carrying value of the property, which could have a material adverse effect on our results of operations in the period in which the impairment charge is recorded. Negative developments in the real estate market may cause us to reevaluate the business and macro-economic assumptions used in its impairment analysis. Changes in our assumptions based on actual results may have a material impact on our financial statements.
We face risks associated with the acquisition of properties.
Our investment strategy includes investing in high-quality grocery-anchored shopping centers. The acquisition of properties and/or real estate entities entails risks that include, but are not limited to, the following, any of which may adversely affect our results of operations and cash flows: (i) properties we acquire may fail to achieve the occupancy or rental rates we project, within the time frames we estimate, which may result in the properties' failure to achieve the investment returns we project; (ii) our investigation of an entity, property or building prior to our acquisition, and any representation we may have received from such seller, may fail to reveal various liabilities including defects and necessary repairs, which may increase our costs; (iii) our estimate of the costs to improve, reposition or redevelop a property may prove to be too low, or the time we estimate to complete the improvement, repositioning or redevelopment may be too short, either of which may result in the property failing to achieve our projected return, either temporarily or permanently; (iv) we may not recover our costs from an unsuccessful acquisition; (v) our acquisition activities may distract or strain our management capacity; and (vi) we may not be able to successfully integrate an acquisition into our existing operations platform.

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We may be unable to sell properties when desired because of market conditions.
Our properties, including their related tangible and intangible assets, represent the majority of our total consolidated assets and they may not be readily convertible to cash. As a result, our ability to sell one or more of our properties, including properties held in joint ventures, in response to changes in economic, industry, or other conditions may be limited. The real estate market is affected by many factors, such as general economic conditions, availability and terms of financing, interest rates and other factors, including supply and demand for space, that are beyond our control. There may be less demand for lower quality properties that we have identified for ultimate disposition in markets with uncertain economic or retail environments, and where buyers are more reliant on the availability of third party mortgage financing. If we want to sell a property, we can provide no assurance that we will be able to dispose of it in the desired time period or at all or that the sales price of a property will be attractive at the relevant time or even exceed the carrying value of our investment. Moreover, if a property is mortgaged, we may not be able to obtain a release of the lien on that property without the payment of a substantial prepayment penalty, which may restrict our ability to dispose of the property, even though the sale might otherwise be desirable.
Certain properties we own have a low tax basis, which may result in a taxable gain on sale. We intend to utilize 1031 exchanges to mitigate taxable income; however, there can be no assurance that we will identify properties that meet our investment objectives for acquisitions. In the event that we do not utilize 1031 exchanges, we may be required to distribute the gain proceeds to stockholders or pay income tax, which may reduce our cash flow available to fund our commitments and distributions to stockholders.
We do not have exclusive control over our joint ventures, such that we are unable to ensure that our objectives will be pursued.
We have invested capital, and may in the future invest additional capital, in joint ventures instead of owning directly. In these investments, we do not have exclusive control over the development, financing, leasing, management, and other aspects of these investments. As a result, the joint venture partners might have interests or goals that are inconsistent with ours, take action contrary to our interests, or otherwise impede our objectives. These activities are subject to the same risks as our investments in our wholly-owned properties. In addition, these investments and other future similar investments may involve risks that would not be present were a third party not involved, including the possibility that the joint venture partners might become bankrupt, suffer a deterioration in their creditworthiness, or fail to fund their share of required capital contributions. Conflicts arising between us and our partners may be difficult to manage and/or resolve and it could be difficult to manage or otherwise monitor the existing business arrangements.
In addition, joint venture arrangements may decrease our ability to manage risk and implicate additional risks, such as (i) potentially inferior financial capacity, diverging business goals and strategies and the need for our venture partners’ continued cooperation; (ii) our inability to take actions with respect to the joint ventures’ activities that we believe are favorable to us if our joint venture partners do not agree; (iii) our inability to control the legal entities that have title to the real estate associated with the joint ventures; (iv) our lenders may not be easily able to sell our joint venture assets and investments or may view them less favorably as collateral, which could negatively affect our liquidity and capital resources; (v) our joint venture partners can take actions that we may not be able to anticipate or prevent, which could result in negative impacts on our debt and equity; and (vi) our joint venture partners’ business decisions or other actions or omissions may result in harm to our reputation or adversely affect the value of our investments.
We have acquired, and may continue to acquire or finance, properties with lock-out provisions, which may prohibit us from selling a property, or may require us to maintain specified debt levels for a period of years on some properties.
A lock-out provision is a provision that prohibits the prepayment of a loan during a specified period of time. Lock-out provisions may include terms that provide strong financial disincentives for borrowers to prepay their outstanding loan balance and exist in order to protect the yield expectations of lenders. We currently own 14 properties with loans that are subject to lock-out provisions which prohibit us from prepayment, and we may acquire additional properties in the future subject to such provisions. Lock-out provisions could materially restrict us from selling or otherwise disposing of or refinancing properties when we may desire to do so. Lock-out provisions may prohibit us from reducing the outstanding indebtedness with respect to any properties, refinancing such indebtedness prior to or at maturity, or increasing the amount of indebtedness with respect to such properties. Lock-out provisions could impair our ability to take other actions during the lock-out period that could be in the best interests of our stockholders and, therefore, may have an adverse impact on the value of our shares relative to the value that would result if the lock-out provisions did not exist. In particular, lock-out provisions could preclude us from participating in major transactions that could result in a disposition of our assets or a change in control even though that disposition or change in control might be in the best interests of our stockholders.
If we set aside insufficient capital reserves, we may be required to defer necessary capital improvements.
If we do not have enough reserves for capital to supply needed funds for capital improvements throughout the life of the investment in a property and there is insufficient cash available from our operations, we may be required to defer necessary improvements to a property, which may cause that property to suffer from a greater risk of obsolescence or a decline in value, or a greater risk of decreased cash flow as a result of fewer potential tenants being attracted to the property. If this happens, we may not be able to maintain projected rental rates for affected properties, and our results of operations may be negatively affected.
Uninsured losses relating to real property or excessively expensive premiums for insurance coverage could reduce our cash flows and the return on our stockholders’ investments.
We maintain insurance coverage with third-party carriers who provide a portion of the coverage of potential losses, including commercial general liability, fire, flood, extended coverage and rental loss insurance on all of our properties. We currently self-insure a portion of our commercial insurance deductible risk through our captive insurance company. To the extent that our

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captive insurance company is unable to bear that risk, we may be required to fund additional capital to our captive insurance company or we may be required to bear that loss. As a result, our operating results may be adversely affected.
There are some types of losses, generally catastrophic in nature, that are uninsurable or not economically insurable, or may be insured subject to limitations, such as large deductibles. If an uninsured loss or a loss in excess of insured limits occurs, we could lose all or a portion of the capital we have invested in a property, as well as the anticipated future revenue it could generate but may remain obligated for any mortgage debt or other financial obligation related to the property.
As an owner and operator of real estate, we can face liabilities for environmental contamination.
We could become subject to liability in the form of fines or damages for noncompliance with environmental laws and regulations. U.S. federal, state and local laws and regulations relating to the protection of the environment may require us, as a current or previous owner or operator of real property, to investigate and clean up hazardous or toxic substances or petroleum product releases at a property or at impacted neighboring properties. Some of these laws and regulations may impose joint and several liability on tenants, owners, or operators for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the original disposal. Under various federal, state, and local environmental laws, ordinances, and regulations, a current or former owner or operator of real property may be liable for the cost to remove or remediate hazardous or toxic substances, wastes, or petroleum products on, under, from, or in such property. These costs could be substantial and liability under these laws may attach whether or not the owner or manager knew of, or was responsible for, the presence of such contamination. We may be subject to regulatory action and may also be held liable to third parties for personal injury or property damage incurred by the parties in connection with any such laws and regulations or hazardous or toxic substances. The costs of investigation, removal or remediation of hazardous or toxic substances, and related liabilities, may be substantial and could materially and adversely affect us. The presence of hazardous or toxic substances, or the failure to remediate the related contamination, may also adversely affect our ability to sell, lease or redevelop a property or to borrow money using a property as collateral.
Our efforts to identify environmental liabilities may not be successful.
Although we believe that our portfolio is in substantial compliance with U.S. federal, state and local environmental laws and regulations regarding hazardous or toxic substances, this belief is based on limited testing. Nearly all of our properties have been subjected to Phase I or similar environmental audits. These environmental audits have not revealed, nor are we aware of, any environmental liability that we believe is reasonably likely to have a material adverse effect on us. However, we cannot assure you that: (i) previous environmental studies with respect to the portfolio revealed all potential environmental liabilities; (ii) any previous owner, occupant or tenant of a property did not create any material environmental condition not known to us; (iii) the current environmental condition of the portfolio will not be affected by tenants and occupants, by the condition of nearby properties, or by other unrelated third parties; or (iv) future uses or conditions (including, without limitation, changes in applicable environmental laws and regulations or the interpretation thereof) will not result in environmental liabilities.
Compliance with the Americans with Disabilities Act and fire, safety, and other regulations may require us to make unintended expenditures.
Our properties are, or may become subject to, the Americans with Disabilities Act of 1990, as amended (“ADA”), which generally requires that all places of public accommodation be made accessible to people with disabilities. Compliance with the ADA’s requirements could require the removal of access barriers and noncompliance may result in fines by the U.S. government, an award of damages to private litigants, or both. While we attempt to acquire properties that are already in compliance with the ADA or place the burden of compliance on the seller or other third party, such as a tenant, we cannot assure stockholders that we will be able to acquire properties or allocate responsibilities in this manner. In addition, we are required to operate the properties in compliance with fire and safety regulations, building codes, and other land use regulations, as they may be adopted by governmental entities and become applicable to the properties. We may be required to make substantial capital expenditures to comply with these requirements, and these expenditures may have a material adverse effect on our ability to meet our financial obligations and make distributions to our stockholders.
We face risks relating to cybersecurity attacks which could adversely affect our business, cause loss of confidential information, and disrupt operations.
A cyber incident is considered to be any adverse event that threatens the confidentiality, integrity, or availability of our information resources. More specifically, a cyber incident is an intentional attack or an unintentional event that can include gaining unauthorized access to systems to disrupt operations, corrupt data, or steal confidential information. We may face cyber incidents and security breaches through malware, computer viruses, attachments to e-mails, persons inside our organization, or persons with access to systems inside our organization and other significant disruptions of our IT networks and related systems. The risk of a cybersecurity breach or disruption, particularly through a cyber incident, including by computer hackers, foreign governments and cyber terrorists, has generally increased as the number, intensity and sophistication of attempted attacks and intrusions from around the world have increased. Our IT networks and related systems are essential to the operation of our business and our ability to perform day-to-day operations and, in some cases, may be critical to the operations of certain of our tenants. Although we make efforts to maintain the security and integrity of these types of IT networks and related systems, and we have implemented various measures to manage the risk of a security breach or disruption, there can be no assurance that our security efforts and measures will be effective or that attempted security breaches or disruptions would not be successful or damaging.

While we maintain some of our own critical information technology systems, we also depend on third parties to provide important information technology services relating to several key business functions, such as payroll, human resources, electronic communications and certain finance functions. Our measures to prevent, detect and mitigate these threats, including password protection, firewalls, backup servers, threat monitoring and periodic penetration testing, may not be successful in preventing a data breach or limiting the effects of a breach. Furthermore, the security measures employed by third-party service providers may prove to be ineffective at preventing breaches of their systems.

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The primary risks that could directly result from the occurrence of a cyber incident include operational interruption, damage to our relationship with our tenants, and private data exposure. Our financial results may be negatively impacted by such an incident or resulting negative media attention. A cyber incident could (i) disrupt the proper functioning of our networks and systems and therefore our operations and/or those of certain of our tenants; (ii) result in the unauthorized access to, and destruction, loss, theft, misappropriation or release of proprietary, confidential, sensitive, or otherwise valuable information of the Company or others, which others could use to compete against us or for disruptive, destructive, or otherwise harmful purposes and outcomes; (iii) result in our inability to maintain the building systems relied upon by our tenants for the efficient use of their leased space; (iv) require significant management attention and resources to remedy and damages that result; (v) result in misstated financial reports, violations of loan covenants and/or missed reporting deadlines; (vi) result in our inability to properly monitor our compliance with the rules and regulations regarding our qualification as a REIT; (vii) subject us to claims for breach of contract, damages, credits, penalties, or termination of leases or other agreements; or (viii) damage our reputation among our tenants, investors and associates. Such security breaches also could result in a violation of applicable federal and state privacy and other laws, and subject us to private consumer, business partner, or securities litigation and governmental investigations and proceedings, any of which could result in our exposure to material civil or criminal liability, and we may not be able to recover these expenses from our service providers, responsible parties, or insurance carriers. Moreover, cyber incidents perpetrated against our tenants, including unauthorized access to customers’ credit card data and other confidential information, could diminish consumer confidence and consumer spending and negatively impact our business.
Risks Associated with Debt Financing
We utilize a significant amount of indebtedness in the operation of our business. Required debt service payments and other risks related to our debt financing could adversely affect our financial condition, operating results, and cash flows.
We have obtained, and are likely to continue to obtain, lines of credit and other long-term financing that are secured by our properties and other assets. In some instances, we may acquire real properties by financing a portion of the price of the properties and mortgaging or pledging some or all of the properties purchased as security for that debt. We may also incur mortgage debt on properties that we already own in order to obtain funds to acquire additional properties. In addition, we may borrow as necessary or advisable to ensure that we maintain our qualification as a REIT for U.S. federal income tax purposes, including borrowings to satisfy the REIT requirement that we distribute at least 90% of our annual REIT taxable income to our stockholders (computed without regard to the dividends-paid deduction and excluding net capital gain). We, however, can give our stockholders no assurance that we will be able to obtain such borrowings on satisfactory terms.
High debt levels will cause us to incur higher interest charges, which would result in higher debt service payments and could be accompanied by restrictive covenants. If we do mortgage a property and there is a shortfall between the cash flow from that property and the cash flow needed to service mortgage debt on that property, then the amount of cash available for distributions to stockholders may be reduced. In addition, incurring mortgage debt increases the risk of loss of a property since defaults on indebtedness secured by a property may result in lenders initiating foreclosure actions. Additionally, we may give full or partial guarantees to lenders of mortgage debt on behalf of the entities that own our properties. When we give a guaranty on behalf of an entity that owns one of our properties, we will be responsible to the lender for satisfaction of the debt if it is not paid by such entity. If any mortgages contain cross-collateralization or cross-default provisions, a default on a single property could affect multiple properties.
We may also obtain recourse debt to finance our acquisitions and meet our REIT distribution requirements. If we have insufficient income to service our recourse debt obligations, our lenders could institute proceedings against us to foreclose upon our assets.
We may be adversely affected by changes in LIBOR reporting practices or the method in which LIBOR is determined.
LIBOR, the London Interbank Offered Rate, is the basic rate of interest used in lending transactions between banks on the London interbank market, and is widely used as a reference for setting the interest rate on loans globally. LIBOR and certain other interest “benchmarks” may be subject to regulatory guidance and/or reform that could cause interest rates under our current or future debt agreements to perform differently than in the past or cause other unanticipated consequences. The United Kingdom’s Financial Conduct Authority, which regulates LIBOR, has announced that it intends to stop encouraging or requiring banks to submit LIBOR rates after 2021, and it is unclear if LIBOR will cease to exist or if new methods of calculating LIBOR will evolve. If LIBOR ceases to exist or if the methods of calculating LIBOR change from their current form, interest rates and financing costs on our current or future indebtedness may be adversely affected.
Increases in interest rates could increase the amount of our loan payments and adversely affect our ability to pay distributions to our stockholders.
Interest we pay on our loan obligations reduces cash available for distributions. If we obtain variable rate loans, increases in interest rates would increase our interest costs, which would reduce our cash flows and our ability to pay distributions to stockholders. In addition, if we need to repay existing loans during periods of rising interest rates, we could be required to liquidate one or more of our investments in properties at times which may not permit realization of the maximum return on such investments.
If mortgage debt is unavailable at reasonable rates, we may not be able to finance the purchase of properties. If we place mortgage debt on properties, we run the risk of being unable to refinance the properties when the debt becomes due or of being unable to refinance on favorable terms. If interest rates are higher when we refinance the properties, our income could be reduced. We may be unable to refinance properties. If any of these events occurs, our cash flow would be reduced. This, in turn, would reduce cash available for distribution to stockholders and may hinder our ability to raise capital by issuing more stock or borrowing more money.

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We may not be able to access financing or refinancing sources on attractive terms, which could adversely affect our ability to execute our business plan.
We may finance our assets over the long-term through a variety of means, including repurchase agreements, credit facilities, issuance of commercial mortgage-backed securities, collateralized debt obligations and other structured financings. Our ability to execute this strategy will depend on various conditions in the markets for financing in this manner that are beyond our control, including lack of liquidity and greater credit spreads. We cannot be certain that these markets will remain an efficient source of long-term financing for our assets. If our strategy is not viable, we will have to find alternative forms of long-term financing for our assets, as secured revolving credit facilities and repurchase facilities may not accommodate long-term financing. This could subject us to more recourse indebtedness and the risk that debt service on less efficient forms of financing would require a larger portion of our cash flows, thereby reducing cash available for distribution to our stockholders and funds available for operations as well as for future business opportunities.
Lenders may require us to enter into restrictive covenants relating to our operations, which could limit our ability to make distributions to our stockholders.
When providing financing, a lender may impose restrictions on us that affect our distribution and operating policies and our ability to incur additional debt. Loan agreements into which we enter may contain covenants that limit our ability to further mortgage a property or discontinue insurance coverage. In addition, loan documents may limit our ability to replace a property’s property manager or terminate certain operating or lease agreements related to a property. These or other limitations would decrease our operating flexibility and our ability to achieve our operating objectives, which may adversely affect our ability to make distributions to our stockholders.
We have substantial indebtedness and we may need to incur additional indebtedness in the future.
In connection with the Merger, we assumed and/or refinanced certain indebtedness of REIT II and we are subject to risks associated with debt financing, including a risk that our cash flow could be insufficient to meet required payments on our debt. On December 31, 2018, we had indebtedness of $2.5 billion, comprised of outstanding $195.0 million secured loan facilities, $1.9 billion unsecured debt, and $334.7 million mortgage loans and capital lease obligations.
In connection with executing our business strategies, we expect to evaluate the possibility of additional acquisitions and strategic investments, and we may elect to finance these endeavors by incurring additional indebtedness. The amount of such indebtedness could have material adverse consequences for the Company, including hindering our ability to adjust to changing market, industry or economic conditions; limiting our ability to access the capital markets to refinance maturing debt or to fund acquisitions or emerging businesses; requiring the use of a substantial portion of our cash flow from operations for the payment of principal and interest on our debt, thereby limiting the amount of free cash flow available for future operations, acquisitions, dividends, stock repurchases or other uses; making us more vulnerable to economic or industry downturns, including interest rate increases; and placing us at a competitive disadvantage compared to less leveraged competitors. If we default under a mortgage loan, we will automatically be in default under any other loan that has cross-default provisions and we may lose the properties securing these loans.
Risks Related to Organization and Qualification as a REIT
Our stockholders have limited control over changes in our policies and operations, which increases the uncertainty and risks our stockholders face.
Our Board determines our major policies, including our policies regarding financing, growth, debt capitalization, REIT qualification and distributions. Our Board may amend or revise these and other policies without a vote of the stockholders. Under the Maryland General Corporation Law and our charter, our stockholders have a right to vote only on limited matters. Our board’s broad discretion in setting policies and our stockholders’ inability to exert control over those policies increases the uncertainty and risks our stockholders face.
Although we have currently opted out of the protection of the Maryland General Corporation Law relating to deterring or defending hostile takeovers, the Board could elect to become subject to these provisions of Maryland law in the future, which may discourage others from trying to acquire control of us and may prevent our stockholders from receiving a premium price for their stock in connection with a business combination.
Under Maryland law, “business combinations” between a Maryland corporation and certain interested stockholders or affiliates of interested stockholders are prohibited for five years after the most recent date on which the interested stockholder becomes an interested stockholder. These business combinations include a merger, consolidation, share exchange, or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities. Also under Maryland law, control shares of a Maryland corporation acquired in a control share acquisition have no voting rights except to the extent approved by stockholders by a vote of two-thirds of the votes entitled to be cast on the matter. These restrictions may have the effect of delaying, deferring, or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer, or sale of all or substantially all of our assets) that might provide our stockholders a premium price for their shares of common stock.
Our charter limits the number of shares a person may own, which may discourage a takeover that could otherwise result in a premium price to our stockholders.
Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our qualification as a REIT. To help us comply with the REIT ownership requirements of the Internal Revenue Code (“IRC”), among other purposes, our charter prohibits a person from directly or constructively owning more than 9.8% in value of our aggregate outstanding stock or more than 9.8% in value or number of shares, whichever is more restrictive, of our aggregate outstanding common stock, unless exempted by our Board. This restriction may have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our common stock.

14



Our charter permits the Board to issue stock with terms that may subordinate the rights of our common stockholders or discourage a third party from acquiring us in a manner that could result in a premium price to our stockholders.
Our Board may classify or reclassify any unissued common stock or preferred stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications, and terms or conditions of redemption of any such stock. Thus, our Board could authorize the issuance of preferred stock with priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock. Such preferred stock could also have the effect of delaying, deferring or preventing a change in control, including an extraordinary transaction (such as a merger, tender offer, or sale of all or substantially all of our assets) that might provide a premium price to holders of our common stock.
Because Maryland law permits the Board to adopt certain anti-takeover measures without stockholder approval, investors may be less likely to receive a “control premium” for their shares.
In 1999, the State of Maryland enacted legislation that enhances the power of Maryland corporations to protect themselves from unsolicited takeovers. Among other things, the legislation permits our board, without stockholder approval, to amend our charter to:
stagger our Board into three classes;
require a two-thirds stockholder vote for removal of directors;
provide that only the Board can fix the size of the board;
require that special stockholder meetings may only be called by holders of a majority of the voting shares entitled to be cast at the meeting; and
provide the Board with the exclusive right to fill vacancies on the Board, with any individual elected to fill such a vacancy to serve for the full term of the directorship.
Under Maryland law, a corporation can opt to be governed by some or all of these provisions if it has a class of equity securities registered under the Securities Exchange Act of 1934, as amended (“Exchange Act”), and has at least three independent directors. Our charter does not prohibit our Board from opting into any of the above provisions permitted under Maryland law. Becoming governed by any of these provisions could discourage an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our securities.
Our rights and the rights of our stockholders to recover claims against our officers and directors are limited, which could reduce our stockholders' and our recovery against them if they cause us to incur losses.
Maryland law provides that a director has no liability in that capacity if he or she performs his or her duties in good faith, in a manner he or she reasonably believes to be in the corporation's best interests and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Our charter, in the case of our directors and officers, requires us to indemnify our directors and officers to the maximum extent permitted by Maryland law. Additionally, our charter limits the liability of our directors and officers for monetary damages to the maximum extent permitted under Maryland law. As a result, we and our stockholders may have more limited rights against our directors, officers, employees and agents, than might otherwise exist under common law, which could reduce our stockholders' and our recovery against them. In addition, we may be obligated to fund the defense costs incurred by our directors, officers, employees and agents in some cases which would decrease the cash otherwise available for distribution to stockholders.
If the Operating Partnership fails to qualify as a partnership for U.S. federal income tax purposes, we would fail to qualify as a REIT and suffer adverse consequences.
We believe that the Operating Partnership is organized and will be operated in a manner so as to be treated as a partnership, and not an association or publicly traded partnership taxable as a corporation for U.S. federal income tax purposes. As a partnership, the Operating Partnership will not be subject to U.S. federal income tax on its income. Instead, each of its partners, including us, will be allocated that partner’s share of the Operating Partnership’s income. No assurance can be provided, however, that the Internal Revenue Service will not challenge the Operating Partnership’s status as a partnership for U.S. federal income tax purposes, or that a court would not sustain such a challenge. If the Internal Revenue Service were successful in treating the Operating Partnership as an association or publicly traded partnership taxable as a corporation for U.S. federal income tax purposes, we would fail to meet the gross income tests and certain of the asset tests applicable to REITs and, accordingly, would cease to qualify as a REIT. Also, the failure of the Operating Partnership to qualify as a partnership would cause it to become subject to U.S. federal corporate income tax, which would reduce significantly the amount of its cash available for debt service and for distribution to its partners, including us.
The Operating Partnership has a carryover tax basis on certain of its assets as a result of the PELP transaction, and the amount that we have to distribute to stockholders therefore may be higher.
As a result of the PELP transaction, certain of the Operating Partnership’s properties have carryover tax bases that are lower than the fair market values of these properties at the time of the acquisition. As a result of this lower aggregate tax basis, the Operating Partnership will recognize higher taxable gain upon the sale of these assets, and the Operating Partnership will be entitled to lower depreciation deductions on these assets than if it had purchased these properties in taxable transactions at the time of the acquisition. Such lower depreciation deductions and increased gains on sales allocated to us generally will increase the amount of our required distribution under the REIT rules, and will decrease the portion of any distribution that otherwise would have been treated as a “return of capital” distribution.

15



We intend to use taxable REIT subsidiaries (“TRS”), which may cause us to fail to qualify as a REIT.
To qualify as a REIT for federal income tax purposes, we hold, and plan to continue to hold, our non-qualifying REIT assets and conduct our non-qualifying REIT income activities in or through one or more TRS. A TRS is a corporation other than a REIT in which a REIT directly or indirectly holds stock, and that has made a joint election with such REIT to be treated as a TRS. A TRS also includes any corporation other than a REIT with respect to which a TRS owns securities possessing more than 35% of the total voting power or value of the outstanding securities of such corporation. Other than some activities relating to lodging and health care facilities, a TRS may generally engage in any business, including the provision of customary or non- customary services to tenants of its parent REIT. A TRS is subject to income tax as a regular C-corporation.
The net income of our TRS is not required to be distributed to us and income that is not distributed to us will generally not be subject to the REIT income distribution requirement. However, our TRS may pay dividends. Such dividend income should qualify under the 95%, but not the 75%, gross income test. We will monitor the amount of the dividend and other income from our TRS and will take actions intended to keep this income, and any other non-qualifying income, within the limitations of the REIT income tests. While we expect these actions will prevent a violation of the REIT income tests, we cannot guarantee that such actions will in all cases prevent such a violation.
Our ownership of TRS will be subject to limitations that could prevent us from growing our management business and our transactions with our TRS could cause us to be subject to a 100% penalty tax on certain income or deductions if those transactions are not conducted on an arm’s-length basis.
Overall, (i) for taxable years beginning prior to January 1, 2018, no more than 25% of the value of a REIT’s gross assets, and (ii) for taxable years beginning after December 31, 2017, no more than 20% of the value of a REIT’s gross assets may consist of interests in TRS; compliance with this limitation could limit our ability to grow our management business. The IRC also imposes a 100% excise tax on certain transactions between a TRS and its parent REIT that are not conducted on an arm’s-length basis. We will monitor the value of investments in our TRS in order to ensure compliance with TRS ownership limitations and will structure our transactions with our TRS on terms that we believe are arm’s-length to avoid incurring the 100% excise tax described above. There can be no assurance, however, that we will be able to comply with the TRS ownership limitation or be able to avoid application of the 100% excise tax.
REIT distribution requirements could adversely affect our ability to execute our business plans, including because we may be required to borrow funds to make distributions to stockholders or otherwise depend on external sources of capital to fund such distributions.
We generally must distribute annually at least 90% of our REIT taxable income (which is determined without regard to the dividends paid deduction or net capital gain for this purpose) in order to continue to qualify as a REIT. To the extent that we satisfy the distribution requirement but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we may elect to retain and pay income tax on our net long-term capital gain. In that case, if we so elect, a stockholder would be taxed on its proportionate share of our undistributed long-term gain and would receive a credit or refund for its proportionate share of the tax we paid. A stockholder, including a tax-exempt or foreign stockholder, would have to file a federal income tax return to claim that credit or refund. Furthermore, we will be subject to a 4% nondeductible excise tax if the actual amount that we distribute to our stockholders in a calendar year is less than a minimum amount specified under federal tax laws.
We intend to make distributions to our stockholders to comply with the REIT requirements of the IRC and to avoid corporate income tax and the 4% excise tax. We may be required to make distributions to our stockholders at times when it would be more advantageous to reinvest cash in its business or when we do not have funds readily available for distribution. Thus, compliance with the REIT requirements may hinder our ability to operate solely on the basis of maximizing profits.
If we do not have other funds available, we could be required to borrow funds on unfavorable terms, sell investments at disadvantageous prices or find another alternative source of funds to make distributions sufficient to enable us to distribute enough of our taxable income to satisfy the REIT distribution requirement and to avoid corporate income tax and the 4% excise tax in a particular year. These alternatives could increase our costs or reduce our equity.
Complying with REIT requirements may cause us to forego otherwise attractive opportunities or liquidate otherwise attractive investments.
To continue to qualify as a REIT for federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to stockholders and the ownership of our stock. As discussed above, we may be required to make distributions to you at disadvantageous times or when we do not have funds readily available for distribution. Additionally, we may be unable to pursue investments that would be otherwise attractive to us in order to satisfy the requirements for qualifying as a REIT.
We must also ensure that at the end of each calendar quarter, at least 75% of the value of our assets consists of cash, cash items, government securities and qualified real estate assets, including certain mortgage loans and mortgage-backed securities. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets can consist of the securities of any one issuer (other than government securities and qualified real estate assets) and no more than 20% of the value of our gross assets may be represented by securities of one or more TRS. Finally, no more than 25% of our assets may consist of debt investments that are issued by “publicly offered REITs” and would not otherwise be treated as qualifying real estate assets. If we fail to comply with these requirements at the end of any calendar quarter, we must correct such failure within 30 days after the end of the calendar quarter to avoid losing our REIT status and suffering adverse tax consequences, unless certain relief provisions apply. As a result, compliance with the REIT requirements may hinder our ability to operate solely on the basis of profit maximization and may require us to liquidate investments from our portfolio, or refrain from making otherwise attractive investments. These actions could have the effect of reducing our income and amounts available for distribution to stockholders.

16



The prohibited transactions tax may limit our ability to engage in transactions, including disposition of assets, which would be treated as sales for federal income tax purposes.
A REIT’s net income from prohibited transactions is subject to a 100% tax. In general, prohibited transactions are sales or other dispositions of dealer property, other than foreclosure property. We may be subject to the prohibited transaction tax upon a disposition of real property. Although a safe-harbor exception to prohibited transaction treatment is available, we cannot assure you that we can comply with such safe harbor or that we will avoid owning property that may be characterized as held primarily for sale to customers in the ordinary course of our trade or business. Consequently, we may choose not to engage in certain sales of real property or may conduct such sales through a TRS.
It may be possible to reduce the impact of the prohibited transaction tax by conducting certain activities through a TRS. However, to the extent that we engage in such activities through a TRS, the income associated with such activities will be subject to a corporate income tax. In addition, the IRS may attempt to ignore or otherwise recast such activities in order to impose a prohibited transaction tax on us, and there can be no assurance that such recast will not be successful.
We may recognize substantial amounts of REIT taxable income, which we would be required to distribute to our stockholders, in a year in which we are not profitable under GAAP principles or other economic measures.
We may recognize substantial amounts of REIT taxable income in years in which we are not profitable under GAAP or other economic measures as a result of the differences between GAAP and tax accounting methods. For instance, certain of our assets will be marked-to-market for GAAP purposes but not for tax purposes, which could result in losses for GAAP purposes that are not recognized in computing our REIT taxable income. Additionally, we may deduct our capital losses only to the extent of our capital gains in computing our REIT taxable income for a given taxable year. Consequently, we could recognize substantial amounts of REIT taxable income and would be required to distribute such income to you in a year in which we are not profitable under GAAP or other economic measures.
Our qualification as a REIT could be jeopardized as a result of an interest in joint ventures or investment funds.
We may hold certain limited partner or non-managing member interests in partnerships or limited liability companies that are joint ventures or investment funds. If a partnership or limited liability company in which we own an interest takes or expects to take actions that could jeopardize our qualification as a REIT or require us to pay tax, we may be forced to dispose of our interest in such entity. In addition, it is possible that a partnership or limited liability company could take an action which could cause us to fail a REIT gross income or asset test, and that we would not become aware of such action in time to dispose of our interest in the partnership or limited liability company or take other corrective action on a timely basis. In that case, we could fail to continue to qualify as a REIT unless we are able to qualify for a statutory REIT “savings” provision, which may require us to pay a significant penalty tax to maintain our REIT qualification.
Distributions paid by REITs do not qualify for the reduced tax rates that apply to other corporate distributions.
The maximum tax rate for “qualified dividends” paid by corporations to non-corporate stockholders is currently 20%. Distributions paid by REITs to non-corporate stockholders generally are taxed at rates lower than ordinary income rates, but those rates are higher than the 20% tax rate on qualified dividend income paid by corporations. Although this does not adversely affect the taxation of REITs or dividends payable by REITs, to the extent that the preferential rates continue to apply to regular corporate qualified dividends, the more favorable rates for corporate dividends may cause non-corporate investors to perceive that an investment in a REIT is less attractive than an investment in a non-REIT entity that pays dividends, thereby reducing the demand and market price of shares of our common stock.
Legislative or regulatory tax changes could adversely affect us or our stockholders.
At any time, the federal income tax laws or regulations governing REITs or the administrative interpretations of those laws or regulations may be amended. We cannot predict when or if any new federal income tax law, regulation or administrative interpretation, or any amendment to any existing federal income tax law, regulation or administrative interpretation, will be adopted, promulgated or become effective and any such law, regulation or interpretation may take effect retroactively. Any such change could result in an increase in our, or our stockholders’, tax liability or require changes in the manner in which we operate in order to minimize increases in our tax liability. A shortfall in tax revenues for states and municipalities in which we operate may lead to an increase in the frequency and size of such changes. If such changes occur, we may be required to pay additional taxes on our assets or income or be subject to additional restrictions. These increased tax costs could, among other things, adversely affect our financial condition, the results of operations and the amount of cash available for the payment of dividends. We and our stockholders could be adversely affected by any such change in, or any new, federal income tax law, regulation, or administrative interpretation.
On December 22, 2017, H.R. 1, known as the “Tax Cuts and Jobs Act” (the “TCJA”), was enacted into law. The provisions of the TCJA generally apply to taxable years beginning after December 31, 2017. Significant provisions of the TCJA that investors should be aware of include provisions that: (i) permanently eliminate the progressive corporate tax rate structure with a maximum corporate tax rate of 35%, and replace it with a flat corporate tax rate of 21%; (ii) provide noncorporate taxpayers with a deduction of up to 20% of certain income earned through relevant passthrough entities and REITs for taxable years beginning after December 31, 2017 and before January 1, 2026; (iii) generally limit the net operating loss deduction to 80% of taxable income for taxable years beginning after December 31, 2017, where taxable income is determined without regard to the net operating loss deduction itself; (iv) generally eliminate net operating loss carrybacks generated in taxable years after December 31, 2017 (for net operating losses generated in tax years beginning after December 31, 2017, the losses may be carried forward indefinitely); (v) allow unused net operating losses to be carried forward indefinitely, for net operating losses generated in tax years beginning after December 31, 2017; (vi) expand the ability of businesses to deduct the cost of certain property investments in the year in which the property is purchased; (vii) eliminate the corporate alternative minimum tax; and (viii) generally temporarily lower tax rates for individuals and other noncorporate taxpayers, while limiting deductions such as miscellaneous itemized deductions and state and local tax deductions, and limiting the deduction for net interest expense incurred by a business to 30% of the “adjusted taxable income” of the taxpayer. However, the limitation on the interest expense deduction does not apply to certain small-business taxpayers or electing real property trades or businesses,

17



such as any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business. Making the election to be treated as a real property trade or business requires the electing real property trade or business to depreciate non-residential real property, residential rental property, and qualified improvement property over a longer period using the alternative depreciation system. We believe that we will be eligible to make this election. If we make this election, although we would not be subject to the interest expense limitation described above, our depreciation deductions may be reduced and, as a result, our REIT taxable income for a taxable year may be increased.
Our stockholders are urged to consult with their own tax advisors with respect to the impact that the TCJA and other legislation may have on their investment and the status of legislative, regulatory or administrative developments and proposals and their potential effect on their investment in shares of our common stock.
If the fiduciary of an employee benefit plan subject to ERISA (such as a profit sharing, Section 401(k) or pension plan) or an owner of a retirement arrangement subject to Section 4975 of the IRC (such as an individual retirement account (“IRA”)) fails to meet the fiduciary and other standards under ERISA or the IRC as a result of an investment in our stock, the fiduciary could be subject to penalties and other sanctions.
There are special considerations that apply to employee benefit plans subject to ERISA (such as profit sharing, Section 401(k) or pension plans) and other retirement plans or accounts subject to Section 4975 of the IRC (such as an IRA) that are investing in shares of our common stock. Fiduciaries and IRA owners investing the assets of such a plan or account in our common stock should satisfy themselves that:
the investment is consistent with their fiduciary and other obligations under ERISA and the IRC;
the investment is made in accordance with the documents and instruments governing the plan or IRA, including the plan’s or account’s investment policy;
the investment satisfies the prudence and diversification requirements of Sections 404(a)(1)(B) and 404(a)(1)(C) of ERISA and other applicable provisions of ERISA and the IRC;
the investment in our shares, for which no public market currently exists, is consistent with the liquidity needs of the plan or IRA;
the investment will not produce an unacceptable amount of “unrelated business taxable income” for the plan or IRA;
our stockholders will be able to comply with the requirements under ERISA and the IRC to value the assets of the plan or IRA annually; and
the investment will not constitute a prohibited transaction under Section 406 of ERISA or Section 4975 of the IRC.
Failure to satisfy the fiduciary standards of conduct and other applicable requirements of ERISA and the IRC may result in the imposition of civil and criminal penalties and could subject the fiduciary to claims for damages or for equitable remedies, including liability for investment losses. In addition, if an investment in our shares constitutes a prohibited transaction under ERISA or the IRC, the fiduciary or IRA owner who authorized or directed the investment may be subject to the imposition of excise taxes with respect to the amount invested. In addition, the investment transaction must be undone. In the case of a prohibited transaction involving an IRA owner, the IRA may be disqualified as a tax-exempt account and all of the assets of the IRA may be deemed distributed and subjected to tax. ERISA plan fiduciaries and IRA owners should consult with counsel before making an investment in our common stock.
If our assets are deemed to be plan assets, we may be exposed to liabilities under Title I of ERISA and the IRC.
In some circumstances where an ERISA plan holds an interest in an entity, the assets of the entity are deemed to be ERISA plan assets unless an exception applies. This is known as the “look-through rule.” Under those circumstances, the obligations and other responsibilities of plan sponsors, plan fiduciaries and plan administrators, and of parties in interest and disqualified persons, under Title I of ERISA or Section 4975 of the IRC, may be applicable, and there may be liability under these and other provisions of ERISA and the IRC. We believe that our assets should not be treated as plan assets because the shares of our common stock should qualify as “publicly-offered securities” that are exempt from the look-through rules under applicable Treasury Regulations. We note, however, that because certain limitations are imposed upon the transferability of shares of our common stock so that we may qualify as a REIT, and perhaps for other reasons, it is possible that this exemption may not apply. If that is the case, and if we are exposed to liability under ERISA or the IRC, our performance and results of operations could be adversely affected.
If stockholders invested in our shares through an IRA or other retirement plan, they may be limited in their ability to withdraw required minimum distributions.
If stockholders established an IRA or other retirement plan through which they invested in our shares, federal law may require them to withdraw required minimum distributions (“RMDs”) from such plan in the future. Our SRP limits the amount of repurchases (other than those repurchases as a result of a stockholder’s death or disability) that can be made in a given year. Additionally, our stockholders will not be eligible to have their shares repurchased until they have held their shares for at least one year. As a result, they may not be able to have their shares repurchased at a time in which they need liquidity to satisfy the RMD requirements under their IRA or other retirement plan. Even if they are able to have their shares repurchased, our share repurchase price is based on the EVPS of our common stock as determined by our Board, and this value is expected to fluctuate over time. As such, a repurchase may be at a price that is less than the price at which the shares were initially purchased. If stockholders fail to withdraw RMDs from their IRA or other retirement plan, they may be subject to certain tax penalties.

ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable. 

18



ITEM 2. PROPERTIES
Real Estate Investments—As of December 31, 2018, we wholly owned 303 properties throughout the United States. In addition, we also have an interest in 30 properties through two separate joint ventures.
The following table presents information regarding the geographic location of our properties, including wholly-owned and the prorated portion of those owned through our joint ventures, by Annualized Base Rent (“ABR”) as of December 31, 2018. For additional portfolio information, refer to Schedule III - Real Estate Assets and Accumulated Depreciation (dollars and square feet in thousands):
State
 
ABR(1)
 
% ABR
 
ABR/Leased Square Foot
 
GLA(2)
 
% GLA
 
% Leased
 
Number of Properties
Florida
 
$
48,154

 
12.2
%
 
$
12.01

 
4,377

 
12.5
%
 
91.6
%
 
56

California
 
39,197

 
10.0
%
 
17.33

 
2,386

 
6.8
%
 
94.8
%
 
25

Texas
 
34,966

 
8.8
%
 
15.07

 
2,442

 
7.0
%
 
95.0
%
 
19

Georgia
 
31,957

 
8.2
%
 
11.52

 
2,904

 
8.3
%
 
95.5
%
 
31

Ohio
 
29,418

 
7.5
%
 
9.71

 
3,189

 
9.1
%
 
95.0
%
 
28

Illinois
 
18,351

 
4.7
%
 
13.28

 
1,498

 
4.3
%
 
92.3
%
 
13

Colorado
 
15,599

 
4.0
%
 
13.77

 
1,192

 
3.4
%
 
95.1
%
 
11

Massachusetts
 
15,425

 
3.9
%
 
13.98

 
1,126

 
3.2
%
 
98.0
%
 
10

Virginia
 
15,216

 
3.9
%
 
12.47

 
1,361

 
3.9
%
 
89.6
%
 
13

South Carolina
 
11,450

 
2.9
%
 
8.81

 
1,469

 
4.2
%
 
88.4
%
 
13

Pennsylvania
 
11,243

 
2.9
%
 
11.58

 
1,082

 
3.1
%
 
89.7
%
 
7

Minnesota
 
10,489

 
2.7
%
 
12.21

 
902

 
2.6
%
 
95.2
%
 
9

Arizona
 
10,486

 
2.7
%
 
11.56

 
1,019

 
2.9
%
 
89.0
%
 
9

North Carolina
 
10,443

 
2.7
%
 
9.38

 
1,154

 
3.3
%
 
96.4
%
 
15

Wisconsin
 
8,990

 
2.3
%
 
9.90

 
944

 
2.8
%
 
96.2
%
 
8

Indiana
 
8,869

 
2.3
%
 
7.78

 
1,244

 
3.6
%
 
91.6
%
 
8

Maryland
 
8,458

 
2.2
%
 
19.31

 
460

 
1.3
%
 
95.2
%
 
4

Tennessee
 
7,817

 
2.0
%
 
7.82

 
1,038

 
3.0
%
 
96.2
%
 
7

Michigan
 
7,750

 
2.0
%
 
8.75

 
920

 
2.6
%
 
96.3
%
 
7

New Mexico
 
6,625

 
1.7
%
 
12.72

 
609

 
1.7
%
 
85.6
%
 
6

Oregon
 
6,256

 
1.6
%
 
13.84

 
472

 
1.4
%
 
95.8
%
 
6

Connecticut
 
5,400

 
1.4
%
 
13.74

 
422

 
1.2
%
 
93.1
%
 
4

Nevada
 
4,885

 
1.2
%
 
17.96

 
279

 
0.8
%
 
97.5
%
 
4

Kansas
 
4,618

 
1.2
%
 
10.54

 
452

 
1.3
%
 
96.9
%
 
4

New Jersey
 
4,424

 
1.1
%
 
16.51

 
272

 
0.8
%
 
98.5
%
 
2

Kentucky
 
4,293

 
1.1
%
 
9.76

 
598

 
1.7
%
 
73.6
%
 
4

Iowa
 
2,993

 
0.8
%
 
8.53

 
360

 
1.1
%
 
97.5
%
 
3

Washington
 
2,477

 
0.6
%
 
15.10

 
170

 
0.5
%
 
96.5
%
 
2

Missouri
 
2,191

 
0.6
%
 
10.19

 
222

 
0.6
%
 
96.8
%
 
2

New York
 
1,421

 
0.4
%
 
10.93

 
165

 
0.5
%
 
78.8
%
 
1

Alabama
 
1,070

 
0.3
%
 
7.38

 
174

 
0.5
%
 
83.3
%
 
1

Utah
 
237

 
0.1
%
 
16.93

 
14

 
%
 
100.0
%
 
1

Total
 
$
391,168

 
100.0
%
 
$
12.02

 
34,916

 
100.0
%
 
93.2
%
 
333

(1) 
We calculate ABR as monthly contractual rent as of December 31, 2018, multiplied by 12 months.
(2) 
Gross leasable area (“GLA”) is defined as the portion of the total square feet of a building that is available for tenant leasing.

Additionally, the following table details information for our joint ventures, the prorated information for which is included in the preceding and subsequent tables (dollars and square feet in thousands):
Joint Venture
 
Ownership Percentage
 
Number of Properties
 
ABR
 
GLA
Necessity Retail Partners
 
20%
 
13
 
$
18,236

 
1,391

Grocery Retail Partners I
 
15%
 
17
 
24,013

 
1,908





19



Lease Expirations—The following chart shows, on an aggregate basis, all of the scheduled lease expirations after December 31, 2018, for each of the next ten years and thereafter for our 303 wholly-owned shopping centers and the prorated portion of those owned through our joint ventures. The chart shows the leased square feet and ABR represented by the applicable lease expiration year:397107111_chart-0a893e7fbe045bd2be3.jpgFor the years ended December 31, 2018 and 2017:
New leases accounted for approximately 0.7 million total square feet of GLA with ABR of $15.53, and approximately 0.5 million total square feet of GLA with ABR of $14.81, respectively; and
Renewals accounted for approximately 2.8 million total square feet with ABR of $12.40, and approximately 2.0 million total square feet with ABR of $12.75, respectively.
During the year ended December 31, 2018, rent per square foot for renewed leases increased 6.6% when compared to rent per square foot prior to renewal. Our leased occupancy decreased 0.93% during the year ended December 31, 2018, and decreased 1.68% during the year ended December 31, 2017.
Subsequent to December 31, 2018, we renewed approximately 0.4 million total square feet and $6.6 million of total ABR of the expiring leases, inclusive of our pro rata share related to our joint ventures.
See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Results of Operations - Leasing Activity, for further discussion of leasing activity. Based on current market base rental rates, we believe we will achieve an overall positive increase in our average ABR for expiring leases. However, changes in base rental income associated with individual signed leases on comparable spaces may be positive or negative, and we can provide no assurance that the base rents on new leases will continue to increase from current levels.

20



Portfolio Tenancy—Prior to the acquisition of a property, we assess the suitability of the grocery-anchor tenant and other tenants in light of our investment objectives, namely, preserving capital and providing stable cash flows for distributions. Generally, we assess the strength of the tenant by consideration of company factors, such as its financial strength and market share in the geographic area of the shopping center, as well as location-specific factors, such as the store’s sales, local competition, and demographics. When assessing the tenancy of the non-anchor space at the shopping center, we consider the tenant mix at each shopping center in light of our portfolio, the proportion of national and national-franchise tenants, the creditworthiness of specific tenants, and the timing of lease expirations. When evaluating non-national tenancy, we attempt to obtain credit enhancements to leases, which typically come in the form of deposits and/or guarantees from one or more individuals.
We define national tenants as those tenants that operate in at least three states. Regional tenants are defined as those tenants that have at least three locations. The following charts present the composition of our portfolio, including our wholly-owned properties and the prorated portion of those owned through our joint ventures, by tenant type as of December 31, 2018:
397107111_chart-245d778413c55774897.jpg397107111_chart-a62194c861fd5fe197e.jpg

The following charts present the composition of our portfolio by tenant industry as of December 31, 2018:
397107111_chart-2ef98ed6521f502c878.jpg397107111_chart-56a51066731556c2818.jpg


21



The following table presents our top twenty tenants, including our wholly-owned properties and the prorated portion of those owned through our joint ventures, grouped according to parent company, by ABR, as of December 31, 2018 (dollars and square feet in thousands):
Tenant  
 
ABR
 
% of ABR
 
Leased Square Feet
 
% of Leased Square Feet
 
Number of Locations(1)
Kroger
 
$
26,221

 
6.7
%
 
3,515

 
10.8
%
 
69

Publix
 
21,378

 
5.5
%
 
2,229

 
6.8
%
 
58

Ahold Delhaize
 
17,696

 
4.5
%
 
1,308

 
4.0
%
 
26

Albertsons-Safeway
 
16,948

 
4.3
%
 
1,680

 
5.2
%
 
32

Walmart
 
10,451

 
2.7
%
 
1,956

 
6.0
%
 
16

Giant Eagle
 
9,114

 
2.3
%
 
900

 
2.8
%
 
13

Dollar Tree
 
4,521

 
1.2
%
 
504

 
1.5
%
 
49

Sprouts Farmers Market
 
4,285

 
1.1
%
 
304

 
0.9
%
 
10

SUPERVALU
 
4,050

 
1.0
%
 
508

 
1.6
%
 
11

Raley's
 
3,788

 
1.0
%
 
253

 
0.8
%
 
4

Subway
 
3,168

 
0.8
%
 
134

 
0.4
%
 
100

Southeastern Grocers
 
2,798

 
0.7
%
 
331

 
1.0
%
 
8

Anytime Fitness
 
2,583

 
0.7
%
 
172

 
0.5
%
 
38

Schnuck's
 
2,513

 
0.6
%
 
248

 
0.8
%
 
4

Save Mart
 
2,469

 
0.6
%
 
359

 
1.1
%
 
7

Lowe's
 
2,407

 
0.6
%
 
371

 
1.1
%
 
4

Petco
 
2,306

 
0.6
%
 
142

 
0.4
%
 
12

Kohl's
 
2,205

 
0.6
%
 
365

 
1.1
%
 
4

Food 4 Less (PAQ)
 
2,125

 
0.5
%
 
119

 
0.4
%
 
2

H&R Block
 
2,079

 
0.5
%
 
117

 
0.4
%
 
71

Total
 
$
143,105

 
36.5
%
 
15,515

 
47.6
%
 
538

(1) 
Number of locations excludes auxiliary leases with grocery anchors such as fuel stations, pharmacies, and liquor stores.

ITEM 3. LEGAL PROCEEDINGS
From time to time, we are party to legal proceedings that arise in the ordinary course of our business. We are not currently involved in any legal proceedings in which we are not covered by our liability insurance or the outcome is reasonably likely to have a material impact on our results of operations or financial condition, nor are we aware of any such legal proceedings contemplated by governmental authorities.

ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.

w PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
As of March 1, 2019, we had approximately 281.8 million shares of common stock outstanding, held by a total of 63,703 stockholders of record. The number of stockholders is based on the records of our registrar and transfer agent. Our common stock is not currently traded on any exchange, and there is no established trading market for our common stock. Therefore, there is a risk that a stockholder may not be able to sell our stock at a time or price acceptable to the stockholder, or at all.
Valuation Overview
On May 9, 2018, the independent directors of our Board established an estimated value per share (“EVPS”) of our common stock of $11.05. The valuation was based substantially on the estimated market value of our portfolio of real estate properties in various geographic locations in the United States (“Portfolio”) and our third-party asset management business as of March 31, 2018.
We provided the EVPS to assist broker-dealers that participated in our public offering in meeting their customer account

22



statement reporting obligations under National Association of Securities Dealers Conduct Rule 2340 as required by the FINRA. This valuation was performed in accordance with the provisions of the IPA Valuation Guidelines.
We engaged Duff & Phelps, an independent valuation expert which has expertise in appraising commercial real estate assets, to provide a calculation of the range in EVPS of our common stock as of March 31, 2018. Duff & Phelps prepared a valuation report (“Valuation Report”) that provided this range based substantially on its estimate of the “as is” market value of the Portfolio and the estimated value of in-place contracts of the third-party asset management business. Duff & Phelps made adjustments to the aggregate estimated value of our Portfolio to reflect balance sheet assets and liabilities provided by our management as of March 31, 2018, before calculating a range of estimated values based on the number of outstanding shares of our common stock as of March 31, 2018. These calculations produced an EVPS in the range of $10.35 to $11.75 as of March 31, 2018. The Independent Directors ultimately increased the EVPS of our common stock to $11.05 on May 9, 2018. We previously established an EVPS on November 8, 2017, of $11.00 based substantially on the estimated market value of our Portfolio of real estate properties and our third-party asset management business as of October 5, 2017. We expect to update this valuation as of March 31, 2019.
The following table summarizes the material components of the EVPS of our common stock as of March 31, 2018 (in thousands, except per share amounts):
 
Low
 
High
Investment in Real Estate Assets:
 
 
 
Phillips Edison real estate valuation
$
4,020,630

 
$
4,343,460

Management company
90,000

 
90,000

Total market value
4,110,630

 
4,433,460

 
 
 
 
Other Assets:
 
 
 
Cash and cash equivalents
18,795

 
18,795

Restricted cash
10,177

 
10,177

Accounts receivable
38,369

 
38,369

Prepaid expenses and other assets
6,494

 
6,494

Total other assets
73,835

 
73,835

 
 
 
 
Liabilities:
 
 
 
Notes payable and credit facility
1,844,150

 
1,844,150

Mark to market - debt
(73,724
)
 
(73,724
)
Accounts payable and accrued expenses
28,035

 
28,035

Total liabilities
1,798,461

 
1,798,461

 
 
 
 
Net Asset Value
$
2,386,004

 
$
2,708,834

 
 
 
 
Common stock and OP units outstanding
230,480

 
230,480

Net Asset Value Per Share
$
10.35

 
$
11.75

Our goal is to provide an estimate of the market value of our shares. However, the majority of our assets will consist of commercial real estate and, as with any valuation methodology, the methodologies used were based upon a number of assumptions and estimates that may not have been accurate or complete. Different parties with different assumptions and estimates could have derived a different EVPS, and those differences could have been significant. These limitations are discussed further under “Limitations of Estimated Value per Share” below.
Valuation Methodologies—Our goal in calculating an EVPS was to arrive at a value that was reasonable and based off of what we deemed to be appropriate valuation and appraisal methodologies and assumptions and a process that was in accordance with the IPA Valuation Guidelines. The following is a summary of the valuation methodologies and components used to calculate the EVPS.
Independent Valuation Firm—Duff & Phelps was retained by us on March 8, 2018, as authorized by the independent directors of the Board, to provide independent valuation services. Duff & Phelps, who is not affiliated with us, is a leading global valuation advisor with expertise in complex valuation work. Duff & Phelps had previously provided services to us pertaining to the allocation of acquisition purchase prices for financial reporting purposes in connection with the Portfolio, for which it received usual and customary compensation. Duff & Phelps may be engaged to provide professional services to us in the future. The Duff & Phelps personnel who prepared the valuation had no present or prospective interest in the Portfolio and no personal interest with us.
Duff & Phelps’ engagement for its valuation services was not contingent upon developing or reporting predetermined results. In addition, Duff & Phelps’ compensation for completing the valuation services was not contingent upon the development or reporting of a predetermined value or direction in value that favors the cause of us, the amount of the value opinion, the attainment of a stipulated result, or the occurrence of a subsequent event directly related to the intended use of its Valuation

23



Report. We agreed to indemnify Duff & Phelps against certain liabilities arising out of this engagement.
Duff & Phelps’ analyses, opinions, or conclusions were developed, and the Valuation Report was prepared, in conformity with the Uniform Standards of Professional Appraisal Practice. The Valuation Report was reviewed, approved and signed by individuals with the professional designation of MAI (Member of the Appraisal Institute). The use of the Valuation Report is subject to the requirements of the Appraisal Institute relating to review by its duly authorized representatives. Duff & Phelps did not inspect the properties that formed the Portfolio.
In preparing the Valuation Report, Duff & Phelps relied on information provided by us regarding the Portfolio. For example, we provided information regarding building size, year of construction, land size and other physical, financial, and economic characteristics. We also provided lease information, such as current rent amounts, rent commencement and expiration dates, and rent increase amounts and dates.
Duff & Phelps did not investigate the legal description or legal matters relating to the Portfolio, including title or encumbrances, and title to the properties was assumed to be good and marketable. The Portfolio was also assumed to be free and clear of liens, easements, encroachments and other encumbrances, and to be in full compliance with zoning, use, occupancy, environmental and similar laws unless otherwise stated by us. The Valuation Report contains other assumptions, qualifications and limitations that qualify the analysis, opinions and conclusions set forth therein. Furthermore, the prices at which our real estate properties may actually be sold could differ from their appraised values.
The foregoing is a summary of the standard assumptions, qualifications and limitations that generally apply to the Valuation Report.
Real Estate Portfolio Valuation—Duff & Phelps estimated the “as is” market values of the Portfolio as of March 31, 2018, using various methodologies. Generally accepted valuation practice suggests assets may be valued using a range of methodologies. Duff & Phelps utilized the income capitalization approach with support from the sales comparison approach for each property. The income approach was the primary indicator of value, with secondary consideration given to the sales approach. Duff & Phelps performed a study of each market to measure current market conditions, supply and demand factors, growth patterns, and their effect on each of the subject properties.
The income capitalization approach simulates the reasoning of an investor who views the cash flows that would result from the anticipated revenue and expense on a property throughout its lifetime. Under the income capitalization approach, Duff & Phelps used an estimated net operating income (“NOI”) for each property, and then converted it to a value indication using a discounted cash flow analysis. The discounted cash flow analysis focuses on the operating cash flows expected from a property and the anticipated proceeds of a hypothetical sale at the end of an assumed holding period, with these amounts then being discounted to their present value. The discounted cash flow method is appropriate for the analysis of investment properties with multiple leases, particularly leases with cancellation clauses or renewal options, and especially in volatile markets.
The sales comparison approach estimates value based on what other purchasers and sellers in the market have agreed to as a price for comparable improved properties. This approach is based upon the principle of substitution, which states that the limits of prices, rents and rates tend to be set by the prevailing prices, rents and rates of equally desirable substitutes. Duff & Phelps gathered comparable sales data throughout various markets as secondary support for its valuation estimate.
The following summarizes the range of capitalization rates that were used to arrive at the estimated market values of our Portfolio:
 
Range in Values
Overall Capitalization Rate
6.66% - 7.20%
Terminal Capitalization Rate
6.92% - 7.42%
Discount Rate
7.51% - 8.01%
Management Company Valuation—Duff & Phelps estimated the aggregate market value associated with our third-party asset management business using various methodologies. Duff & Phelps considered various applications of the income approach, market approach, and underlying assets approach, with the income approach determined to be the most reliable method for purposes of the analysis. The income approach analysis considered the projected fee income earned for services provided pursuant to various management and advisory agreements over the expected duration of that contract, assuming normal and customary renewal provisions. Such services include property management services performed for the properties in the Portfolio, as well as property and asset management services for certain unaffiliated real estate investment portfolios. In performing this analysis, fee income related to properties owned or managed as of March 31, 2018, was considered. The income approach also considered a reasonable level of expenses to support such activities, as well as other adjustments, and a discount rate that accounted for the time value of money and the risk of achieving the projected cash flows. The result of the income approach analysis was the aggregate market value of the third-party asset management business, from which an estimated market value of net tangible assets (liabilities) was subtracted (added) to result in the aggregate intangible value of the management company.
Sensitivity Analysis—While we believe that Duff & Phelps’ assumptions and inputs were reasonable, a change in these assumptions would have impacted the calculations of the estimated value of the Portfolio, the estimated value of our third-party asset management business, and our EVPS. The table below illustrates the impact on Duff & Phelps’ range in EVPS if the terminal capitalization rates or discount rates were adjusted by 25 basis points and assumes all other factors remain unchanged. Additionally, the table illustrates the impact if only one change in assumptions was made, with all other factors held constant. Further, each of these assumptions could change by more than 25 basis points or 5%.

24



 
Resulting Range in Estimated Value Per Share
 
Increase of 25 basis points
 
Decrease of 25 basis points
 
Increase of 5%
 
Decrease of 5%
Terminal Capitalization Rate
$10.04 - $11.37
 
$10.69 - $12.17
 
$9.91 - $11.26
 
$10.84 - $12.31
Discount Rate
$10.03 - $11.41
 
$10.68 - $12.12
 
$9.86 - $11.25
 
$10.87 - $12.29
Other Assets and Other Liabilities—Duff & Phelps made adjustments to the aggregate estimated values of our investments to reflect our other assets and other liabilities based on balance sheet information provided by us as of March 31, 2018.
Role of the Independent Directors—The independent directors received a copy of the Valuation Report and discussed the report with representatives of Duff & Phelps. The independent directors also discussed the Valuation Report, the Portfolio, the third-party asset management business, our other assets and liabilities, and other matters with management. Management recommended to the independent directors that $11.05 per share be approved as the EVPS of our common stock. The independent directors discussed the rationale for this value with management.
Following the independent directors’ receipt and review of the Valuation Report and the recommendation of management, and in light of other factors considered by the independent directors, the independent directors concluded that the range in EVPS of $10.35 and $11.75 was appropriate. Our independent directors agreed to accept the recommendation of management and approved $11.05 as the EVPS of our common stock as of March 31, 2018, which determination was ultimately and solely the responsibility of the independent directors.
Limitations of Estimated Value per Share—We provided this EVPS to assist broker-dealers that participated in our public offering in meeting our customer account statement reporting obligations. This valuation was performed in accordance with the provisions of the IPA Valuation Guidelines. As with any valuation methodology, the methodologies used were based upon a number of estimates and assumptions that may not have been accurate or complete. Different parties with different assumptions and estimates could have derived a different EVPS, and this difference could have been significant. The EVPS is not audited and does not represent a determination of the fair value of our assets or liabilities based on accounting principles generally accepted in the United States (“GAAP”), nor does it represent a liquidation value of our assets and liabilities or the amount at which our shares of common stock would trade on a national securities exchange.
Accordingly, with respect to the EVPS, we can give no assurance that:
a stockholder would be able to resell his or her shares at the EVPS;
a stockholder would ultimately realize distributions per share equal to our EVPS upon liquidation of our assets and settlement of our liabilities or a sale of us;
our shares of common stock would trade at the EVPS on a national securities exchange;
a third party would offer the EVPS in an arm’s-length transaction to purchase all or substantially all of our shares of common stock;
another independent third-party appraiser or third-party valuation firm would agree with our EVPS; or
the methodologies used to calculate our EVPS would be acceptable to FINRA or for compliance with ERISA reporting requirements.
Further, we have not made any adjustments to the valuation of our EVPS for the impact of other transactions occurring subsequent to May 9, 2018, including, but not limited to, (i) our merger with Phillips Edison Grocery Center REIT II, Inc. (“REIT II”), a public non-traded real estate investment trust (“REIT”) that was formerly advised and managed by us, in November 2018 (the “Merger”); (ii) the formation of the Grocery Retail Partners I LLC joint venture (“GRP I” or the “GRP I joint venture”) in November 2018; (iii) acquisitions or dispositions of assets; (iv) the issuance of common stock under the dividend reinvestment plan (“DRIP”); (v) NOI earned and dividends declared; (vi) the repurchase of shares; and (vii) changes in leases, tenancy or other business or operational changes. The value of our shares of common stock will fluctuate over time in response to developments related to individual real estate assets, the management of those assets, and changes in the real estate and finance markets. Because of, among other factors, the high concentration of our total assets in real estate and the number of shares of our common stock outstanding, changes in the value of individual real estate assets or changes in valuation assumptions could have a very significant impact on the value of our shares of common stock. The EVPS does not take into account any disposition costs or fees for real estate properties, debt prepayment penalties that could apply upon the prepayment of certain of our debt obligations, or the impact of restrictions on the assumption of debt. Accordingly, the EVPS of our common stock may or may not be an accurate reflection of the fair market value of our stockholders’ investments and will not likely represent the amount of net proceeds that would result from an immediate sale of our assets.
Amended and Restated DRIP—We have adopted the DRIP, through which stockholders may elect to reinvest an amount equal to the distributions declared on their shares of common stock into additional shares of our common stock in lieu of receiving cash distributions. In accordance with the DRIP, participants acquire shares of common stock at a price equal to the estimated value per share. Participants in the DRIP may purchase fractional shares so that 100% of the distributions may be used to acquire additional shares of our common stock. For the year ended December 31, 2018, 4.0 million shares were issued through the DRIP, resulting in proceeds of approximately $44.1 million. For the year ended December 31, 2017, 4.8 million shares were issued through the DRIP, resulting in proceeds of approximately $49.1 million.
Distributions—We elected to be taxed as a REIT for federal income tax purposes commencing with our taxable year ended December 31, 2010. As a REIT, we have made, and intend to continue to make, distributions each taxable year equal to at least 90% of our taxable income (excluding capital gains and computing without regard to the dividends paid deduction).

25



Unregistered Sales of Equity Securities—During 2018, we did not sell any equity securities that were not registered under the Securities Act.
Share Repurchases—Our Share Repurchase Program (“SRP”) provides a limited opportunity for stockholders to have shares of common stock repurchased, subject to certain restrictions and limitations that are discussed below:
During any calendar year, we may repurchase no more than 5% of the weighted-average number of shares outstanding during the prior calendar year.
We have no obligation to repurchase shares if the repurchase would violate the restrictions on distributions under Maryland law, which prohibits distributions that would cause a corporation to fail to meet statutory tests of solvency.
The cash available for repurchases, of which we may use all or a portion, on any particular date will generally be limited to the proceeds from the DRIP during the preceding four fiscal quarters, less any cash already used for repurchases since the beginning of the same period; however, subject to the limitations described above, we may use other sources of cash at the discretion of the Board. The availability of DRIP proceeds is not a minimum repurchase requirement and we may use all or no portion. The limitations described above do not apply to shares repurchased due to a stockholder’s death, “qualifying disability,” or “determination of incompetence.”
Only those stockholders who purchased their shares from us or received their shares from us (directly or indirectly) through one or more non-cash transactions may be able to participate in the SRP. In other words, once our shares are transferred for value by a stockholder, the transferee and all subsequent holders of the shares are not eligible to participate in the SRP.
The Board reserves the right, in its sole discretion, at any time and from time to time, to reject any request for repurchase.
The repurchase price per share for all stockholders is equal to the estimated value per share. Repurchases of shares of common stock may be made monthly upon written notice received by us at least five days prior to the end of the applicable month, assuming no limitations, as noted above, exist. Stockholders may withdraw their repurchase request at any time up to five business days prior to the repurchase date. Unfulfilled repurchase requests are treated as requests for repurchase during future months until satisfied or withdrawn.
In 2018 and 2017, repurchase requests surpassed the funding limits under the SRP. Due to the program’s funding limits, no funds were available for repurchases outside of death, “qualifying disability,” or “determination of incompetence” during the fourth quarter of 2018 and no funds will be available for the first quarter of 2019. All standard repurchase requests must be on file and in good order to be included for the next standard repurchase, which is expected to be in July 2019. At that time, should the demand for standard repurchases exceed the funding available for repurchases, of which the Company may use all or a portion, we expect to make pro-rata redemptions.
As of December 31, 2018, we had 2.4 million shares subject to unfulfilled repurchase requests.
Our Board may amend, suspend, or terminate the program upon 30 days’ notice. We may provide notice by including such information (a) in a current report on Form 8-K or in our annual or quarterly reports, all publicly filed with the SEC, or (b) in a separate mailing to the stockholders. In connection with the Merger, the SRP was temporarily suspended for the month of July 2018 and resumed in August 2018 (see Note 13).
The following table presents all share repurchases for the years ended December 31, 2018 and 2017 (in thousands, except per share amounts):
 
 
2018
 
2017
Shares repurchased
 
4,884

 
4,617

Cost of repurchases
 
$
53,758

 
$
47,157

Average repurchase price
 
$
11.01

 
$
10.21

During the quarter ended December 31, 2018, we repurchased shares, all sought upon a stockholder’s death, qualifying disability, or determination of incompetence in accordance with the terms of the SRP, as follows (shares in thousands):
Period
 
Total Number of Shares 
Redeemed
 
Average Price Paid per Share (1)
 
Total Number of Shares Purchased as Part of a Publicly Announced Plan or Program
 
Approximate Dollar Value of Shares Available That May Yet Be Redeemed Under the Program
October 2018
 
81

 
$
11.05

 
81

 
(2) 
November 2018
 
123

 
11.05

 
123

 
(2) 
December 2018
 
169

 
11.05

 
169

 
(2) 
(1) 
We announced the commencement of the SRP on August 12, 2010, and it was subsequently amended on September 29, 2011, and on April 14, 2016. All of the shares we purchased in the year ended December 31, 2018 were pursuant to the SRP.
(2) 
We currently limit the dollar value and number of shares that may yet be repurchased under the SRP, as described above.
On November 16, 2018, we completed the Merger in a 100% stock-for-stock transaction valued at approximately $1.9 billion. In connection with the Merger, the combined company reset its share repurchase queue and all SRP requests on file as of the Merger closing date were canceled. All stockholders were required to submit a new SRP form to the transfer agent, DST, in order to participate in the SRP after the Merger and to be included in our next standard repurchase. All standard repurchase requests must be on file and in good order to be included for our next standard repurchase, which is expected to be in July 2019. At that time, should the demand for standard redemptions exceed the funding available for repurchases, of which the Company may use all or a portion, we expect to make pro-rata redemptions. Following that standard repurchase, standard

26



repurchase requests that are on file with us and in good order that have not been fully executed (due to pro-rata redemptions) will remain on file for future redemptions.

ITEM 6. SELECTED FINANCIAL DATA
As of and for the years ended December 31,
(in thousands, except per share amounts)
2018(1)

2017(2)

2016

2015

2014
Balance Sheet Data:(3)
  

  

  

  


Investment in real estate assets at cost
$
5,380,344

 
$
3,751,927

 
$
2,584,005

 
$
2,350,033

 
$
2,201,235

Cash and cash equivalents
16,791


5,716


8,224


40,680


15,649

Total assets
5,163,477

 
3,526,082

 
2,380,188

 
2,226,248

 
2,141,196

Debt obligations, net
2,438,826


1,806,998


1,056,156


845,515


640,889

Operating Data:
  

  

  

  


Total revenues
$
430,392


$
311,543


$
257,730


$
242,099


$
188,215

Property operating expenses
(77,209
)

(53,824
)

(41,890
)

(38,399
)

(32,919
)
Real estate tax expenses
(55,335
)

(43,456
)

(36,627
)

(35,285
)

(25,262
)
General and administrative expenses(4)
(50,412
)
 
(36,348
)
 
(31,804
)
 
(15,829
)
 
(8,632
)
Interest expense, net
(72,642
)

(45,661
)

(32,458
)

(32,390
)

(20,360
)
Net income (loss)
46,975

 
(41,718
)
 
9,043


13,561

 
(22,635
)
Net income (loss) attributable to stockholders
39,138

 
(38,391
)
 
8,932


13,360

 
(22,635
)
Other Operational Data:(4)(5)
 
 
 
 
 
 
 
 
 
NOI for real estate investments
$
272,450

 
$
204,407

 
$
173,910

 
$
163,017

 
$
125,816

Funds from operations (“FFO”) attributable to stock-
   holders and convertible noncontrolling interests
156,222

 
84,150

 
110,406

 
115,040

 
56,513

Modified funds from operations (“MFFO”)
166,440

 
125,183

 
107,862

 
114,344

 
94,552

Cash Flow Data:(6)
  

  

  

  


Cash flows provided by operating activities
$
153,291


$
108,861


$
103,076


$
106,073


$
75,671

Cash flows used in investing activities
(258,867
)

(640,742
)

(191,328
)

(110,744
)

(718,828
)
Cash flows provided by financing activities
162,435


509,380


90,685


29,732


195,500

Per Share Data:
  

  

  

  


Net income (loss) per share—basic and diluted
$
0.20


$
(0.21
)

$
0.05


$
0.07


$
(0.13
)
Common stock distributions declared
$
0.67


$
0.67


$
0.67


$
0.67


$
0.67

Weighted-average shares outstanding—basic
196,602


183,784


183,876


183,678


179,280

Weighted-average shares outstanding—diluted
241,367

 
196,497

 
186,665

 
186,394

 
179,280

(1) 
Includes the impact of the Merger (see Note 3).
(2) 
Includes the impact of the PELP transaction (see Note 4).
(3) 
Certain prior period balance sheet amounts have been reclassified to conform with our adoption in 2016 of Accounting Standards Update (“ASU”) 2015-03, Simplifying the Presentation of Debt Issuance Costs.
(4) 
Certain prior period amounts have been reclassified to conform with current year presentation.
(5) 
See Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - Non-GAAP Measures, for further discussion and for a reconciliation of the non-GAAP financial measures to Net Income (Loss).
(6) 
Certain prior period cash flow amounts have been reclassified to conform with our adoption in 2018 of ASU 2016-15, Statement of Cash Flows.
The selected financial data should be read in conjunction with the consolidated financial statements and notes appearing in this Annual Report on Form 10-K.


27



ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with our accompanying consolidated financial statements and notes thereto. See also “Cautionary Note Regarding Forward-Looking Statements” preceding Part I.
Overview
We are one of the nation’s largest owners and operators of grocery-anchored shopping centers. The majority of our revenues are lease revenues derived from our real estate investments. Additionally, we operate an investment management business providing property management and advisory services to approximately $680 million of third-party assets. This business provides comprehensive real estate and asset management services to (i) Phillips Edison Grocery Center REIT III, Inc. (“PECO III”), a non-traded publicly registered REIT; (ii) three institutional joint ventures, and (iii) one private fund (“Managed Funds”).
Below are statistical highlights of our portfolio:
 
Total Portfolio as of December 31, 2018
 
Property Acquisitions During the Year Ended December 31, 2018(1)
Number of properties
303

 
91

Number of states
32

 
24

Total square feet (in thousands)
34,352

 
10,886

Leased occupancy %
93.2
%
 
94.0
%
Average remaining lease term (in years)(2)
4.9

 
5.2

(1) 
Property acquisitions include the 86 properties acquired as part of the Merger.
(2) 
The average remaining lease term in years excludes future options to extend the term of the lease.
The following describes how we continued our strategic plans that include achieving superior results:
Completed a $1.9 billion merger with REIT II, a public non-traded REIT that was previously advised and managed by us, which grew our portfolio by 86 wholly-owned grocery-anchored shopping centers and a joint venture
Formed the GRP I joint venture with Northwestern Mutual, investing in 17 grocery-anchored shopping centers valued at $359 million
Together, PECO and REIT II surpassed $1.0 billion of cumulative stockholder distributions as of December 31, 2018
Net income totaled $47.0 million for the year ended December 31, 2018
FFO per diluted share increased to $0.65 from $0.43; total FFO represented 101.8% of total distributions made during the year
MFFO per diluted share increased 7.8% to $0.69; total MFFO represented 108.5% of total distributions made during the year
Pro forma same-center NOI increased 3.7% to $325.5 million
Executed 0.7 million square feet of new leases and 2.8 million square feet of renewal leases, with comparable rent spreads of 14.6% and 6.7%, respectively
Acquired five grocery-anchored shopping centers for a total cost of $97.9 million and realized $78.7 million of net proceeds from the sale of eight properties (excluding the merger and joint venture activity described above)
Further enhanced our balance sheet by recapitalizing a significant portion of our debt, reduced our interest rate spreads on several loans, and increased PECO’s weighted average loan maturity to 4.9 years. Highlights include:
We used proceeds from the GRP I joint venture to pay down $130 million of outstanding debt to reduce our leverage.
At the closing of the Merger, we entered into two new unsecured term loans totaling $400 million and exercised an accordion feature for $217.5 million on an existing unsecured term loan. The weighted average term of the $617.5 million of new unsecured debt is 5.6 years as of December 31, 2018.
We have no unsecured loan maturities until 2021, including extension options.
We reduced our interest rate spreads by 5 basis points, subject to our leverage levels, on $400 million of unsecured term loans as compared to a previous term loan, and reduced our interest rate spread by 10 basis points, subject to our leverage levels, on $255 million of an existing unsecured term loan.

28



Leasing Activity—The average rent per square foot and cost of executing leases fluctuates based on the tenant mix, size of the leased space, and lease term. Leases with national and regional tenants generally require a higher cost per square foot than those with local tenants. However, generally such tenants will also pay for a longer term.
Below is a summary of leasing activity for the years ended December 31, 2018 and 2017:
 
 
Total Deals (1)
 
Inline Deals(1)(2)
 
 
2018(3)
 
2017(4)
 
2018(3)
 
2017(4)
New leases:
 
 
 
 
 
 
 
 
Number of leases
 
254

 
185

 
245

 
179

Square footage (in thousands)
 
730

 
547

 
562

 
382

First-year base rental revenue (in thousands)
 
$
11,340

 
$
8,108

 
$
9,876

 
$
6,762

Average rent per square foot (“PSF”)
 
$
15.53

 
$
14.81

 
$
17.57

 
$
17.69

Average cost PSF of executing new leases(5)
 
$
27.91

 
$
27.03

 
$
27.39

 
$
28.11

Number of comparable leases(6)
 
85

 
64

 
83

 
63

Comparable rent spread(7)
 
14.6
%
 
15.9
%
 
11.5
%
 
13.5
%
Weighted average lease term (in years)
 
7.2

 
7.9

 
6.9

 
7.0

Renewals and options:
 
 
 
 
 
 
 
 
Number of leases
 
508

 
369

 
453

 
334

Square footage (in thousands)
 
2,792

 
1,977

 
1,025

 
676

First-year base rental revenue (in thousands)
 
$
34,618

 
$
25,196

 
$
19,483

 
$
14,664

Average rent PSF
 
$
12.40

 
$
12.75

 
$
19.02

 
$
21.68

Average rent PSF prior to renewals
 
$
11.64

 
$
11.74

 
$
17.36

 
$
19.42

Percentage increase in average rent PSF
 
6.6
%
 
8.5
%
 
9.5
%
 
11.6
%
Average cost PSF of executing renewals and options
 
$
2.81

 
$
3.12

 
$
4.51

 
$
4.80

Number of comparable leases
 
370

 
278

 
349

 
266

Comparable rent spread
 
6.7
%
 
13.3
%
 
9.8
%
 
13.6
%
Weighted average lease term (in years)
 
5.1

 
5.2

 
5.0

 
5.1

Portfolio retention rate(8)
 
83.2
%
 
93.8
%
 
77.9
%
 
85.9
%
(1) 
Per square foot amounts may not recalculate exactly based on other amounts presented within the table due to rounding.
(2) 
We consider an inline deal to be a lease for less than 10,000 square feet of gross leasable area.
(3) 
Leasing activity in 2018 only reflects activity for the REIT II properties from the date they were acquired, November 16, 2018.
(4) 
Leasing activity in 2017 only reflects activity for the PELP properties from the date they were acquired, October 4, 2017.
(5) 
The cost of executing new leases, renewals, and options includes leasing commissions, tenant improvement costs, landlord work, and tenant concessions. The costs associated with landlord work are excluded for repositioning and redevelopment projects, if any.
(6) 
A comparable lease is a lease that is executed for the exact same space (location and square feet) in which a tenant was previously located. For a lease to be considered comparable, it must have been executed within 365 days from the earlier of legal possession or the day the prior tenant physically vacated the space.
(7) 
The comparable rent spread compares the first year ABR of a new lease over the last year ABR of the prior lease of a unit that was occupied within the past twelve months.
(8) 
The portfolio retention rate is calculated by dividing (a) total square feet of retained tenants with current period lease expirations by (b) the square feet of leases expiring during the period.

Results of Operations
Due to the timing of the closing of the Merger and the PELP transaction, there is no financial data related to the properties and investment management business acquired in those transactions included in our results of operations prior to their closings on November 16, 2018 and October 4, 2017, respectively. Therefore, the results of those properties and entities prior to those dates are not comparable to previous periods.

29



Summary of Operating Activities for the Years Ended December 31, 2018 and 2017
 
 
 
 
 
 
Favorable (Unfavorable) Change
(dollars in thousands, except per share amounts)
 
2018
 
2017
 
$
 
%
Operating Data:
 
 
 
 
 
 
 
 
Total revenues
 
$
430,392

 
$
311,543

 
$
118,849

 
38.1
 %
Property operating expenses
 
(77,209
)
 
(53,824
)
 
(23,385
)
 
(43.4
)%
Real estate tax expenses
 
(55,335
)

(43,456
)
 
(11,879
)
 
(27.3
)%
General and administrative expenses
 
(50,412
)
 
(36,878
)
 
(13,534
)
 
(36.7
)%
Vesting of Class B units
 

 
(24,037
)
 
24,037

 
NM

Termination of affiliate arrangements
 

 
(5,454
)
 
5,454

 
NM

Depreciation and amortization
 
(191,283
)
 
(130,671
)
 
(60,612
)
 
(46.4
)%
Impairment of real estate assets
 
(40,782
)
 

 
(40,782
)
 
NM

Interest expense, net
 
(72,642
)
 
(45,661
)
 
(26,981
)
 
(59.1
)%
Gain on sale or contribution of property, net
 
109,300

 
1,760

 
107,540

 
NM

Transaction expenses
 
(3,331
)
 
(15,713
)
 
12,382

 
78.8
 %
Other (expense) income, net
 
(1,723
)
 
673

 
(2,396
)
 
NM

Net income (loss)
 
46,975


(41,718
)
 
88,693

 
NM

Net (income) loss attributable to noncontrolling interests
 
(7,837
)
 
3,327

 
(11,164
)
 
NM

Net income (loss) attributable to stockholders
 
$
39,138

 
$
(38,391
)
 
$
77,529

 
NM

Below are explanations of the significant fluctuations in our results of operations for the years ended December 31, 2018, and 2017.
397107111_chart-a1c392deeeb5695299e.jpg
 
Change related to the timing of the PELP transaction
 
 
Change related to our management company and corporate operations for comparable periods presented
 
 
 
 
Change related to our properties acquired in the Merger
 
 
Change related to our same-center portfolio
 
 
 
 
Change related to property activity since January 1, 2017, exclusive of the PELP transaction and the Merger
 
 
 
 
 
 

30



Total Revenues
$91.0 million was related to the acquisition of properties from the PELP transaction, of which $27.1 million is attributed to the third-party management business and captive insurance company.
$18.4 million was related to the Merger, which includes $20.7 million related to the 86 properties acquired, which is partially offset by a reduction of $2.3 million in management fee revenue previously received from the acquired properties.
$3.0 million was related to the properties acquired before January 1, 2017, outside of the PELP transaction and the Merger (“same-center portfolio”). The increase was driven by a $0.19 increase in rental rate, which is a combination of renewals of expiring leases and positive new leasing spreads.
$6.1 million was the net impact of property activity since January 1, 2017, which are assets not included in the same-center portfolio. This includes 13 properties acquired and 9 properties disposed of during the period. Also included are the 17 properties contributed or sold to GRP I, as well as the acquired PELP properties during the comparable periods presented.
Vesting of Class B Units
The $24.0 million expense in 2017 resulted from the PELP transaction and was a combination of the vesting of 2.8 million Class B units as well as the reclassification of previous distributions on those Class B units to noncontrolling interests. The vesting of the Class B units was a non-cash expense of $27.6 million for asset management services rendered between December 2014 and September 2017. Distributions paid on these units totaled $3.6 million over this time period and were reclassified from the 2017 consolidated statement of operations and reflected as distributions from equity.
Termination of Affiliate Arrangements
The $5.5 million of expense in 2017 was related to the redemption of unvested Class B units at the estimated value per share on the date of termination that had been earned by our former advisor for historical asset management services (see Note 13).
Depreciation and Amortization
The $60.6 million increase in depreciation and amortization included a $50.8 million increase related to the total fair value of the 76 properties and the management contracts acquired in the PELP transaction.
The increase also included $10.0 million of expense related to the total base value of 86 properties acquired in the Merger.
The increase also included a $1.8 million net increase related to property acquired in the PELP transaction, as well as 13 properties acquired outside of the PELP transaction since January 1, 2017, offset by the 17 properties contributed or sold to GRP I, as well as nine properties sold outside of GRP I since January 1, 2017.
These amounts were offset by a $2.0 million decrease attributed to certain intangible lease assets becoming fully amortized on our same-center portfolio.
Impairment of Real Estate Assets
During the year ended December 31, 2018, we recognized impairment charges totaling $40.8 million associated with eleven properties where the book value exceeded the estimated fair value, of which two properties were sold and nine properties were determined to be impaired based upon operational factors during the year ended December 31, 2018. See Note 18 for more details.
Interest Expense, Net
The $27.0 million increase was related to $464.5 million of debt assumed and new debt entered into in connection with the Merger. Interest expense, net was comprised of the following for the years ended December 31, 2018 and 2017 (dollars in thousands):
 
Twelve Months Ended December 31,
 
2018
 
2017
Interest on revolving credit facility
$
2,261

 
$
6,195

Interest on term loans, net
41,190

 
22,073

Interest on mortgages
24,273

 
13,919

Amortization and write-off of deferred financing expenses and assumed market debt and derivative adjustments, net
4,918

 
3,474

Interest expense, net
$
72,642

 
$
45,661

 
 
 
 
Weighted-average interest rate as of end of period
3.5
%
 
3.4
%
Weighted-average term (in years) as of end of period
4.9

 
5.5

Gain on Sale or Contribution of Property, Net
The $107.5 million increase was related to the sale or contribution of 25 properties during the year ended December 31, 2018 (see Notes 5 and 6), as compared to the sale of one property during the year ended December 31, 2017.

31



Transaction Expenses
Transaction expenses include third-party professional fees, such as financial advisory, consulting, accounting, legal, and tax fees necessary to complete such transactions. The $12.4 million decrease in transaction expenses was primarily driven by the business combination treatment of the PELP transaction (see Note 4) and related costs of $15.7 million incurred in 2017, as compared to the asset acquisition treatment related to the Merger (see Note 3) in 2018 which allowed for the capitalization of transaction expenses.
This decrease is offset by non-capitalizable costs incurred in 2018 of $1.8 million related to the formation of the GRP I joint venture, $0.8 million related to the Merger, and $0.7 million related to other property acquisitions (see Notes 3 and 6).
Other (Expense) Income, Net
The $2.4 million change was partially due to a $1.5 million expense to increase the fair value of our earn-out liability in 2018 (see Note 18).
The change also included a $0.5 million reduction in gains recognized from the sale of land.

Summary of Operating Activities for the Years Ended December 31, 2017 and 2016
 
 
 
 
 
Favorable (Unfavorable) Change
(in thousands, except per share amounts)
2017
 
2016
 
$
 
%
Operating Data:
  
 
  
 
 
 
 
Total revenues
$
311,543

 
$
257,730

 
$
53,813

 
20.9
 %
Property operating expenses
(53,824
)
 
(41,890
)
 
(11,934
)
 
(28.5
)%
Real estate tax expenses
(43,456
)
 
(36,627
)
 
(6,829
)
 
(18.6
)%
General and administrative expenses
(36,878
)
 
(37,607
)
 
729

 
1.9
 %
Vesting of Class B units

(24,037
)
 

 
(24,037
)
 
NM

Termination of affiliate arrangements
(5,454
)
 

 
(5,454
)
 
NM

Depreciation and amortization
(130,671
)
 
(106,095
)
 
(24,576
)
 
(23.2
)%
Interest expense, net
(45,661
)
 
(32,458
)
 
(13,203
)
 
(40.7
)%
Transaction expenses
(15,713
)
 

 
(15,713
)
 
NM

Gain on the sale of property, net
1,760

 
4,732

 
(2,972
)
 
(62.8
)%
Other income, net
673

 
1,258

 
(585
)
 
NM

Net (loss) income
(41,718
)

9,043


(50,761
)

NM

Net loss (income) attributable to noncontrolling interests
3,327

 
(111
)
 
3,438

 
NM

Net (loss) income attributable to stockholders
$
(38,391
)
 
$
8,932

 
$
(47,323
)
 
NM

 
 
 
 
 
 
 

Net (loss) income per share—basic and diluted
$
(0.21
)
 
$
0.05

 
$
(0.26
)
 
NM


















32




Below are explanations of the significant fluctuations in our results of operations for the years ended December 31, 2017 and 2016.
397107111_chart-9f56e8c506505b35c3c.jpg
 
Change related to the 76 properties and management company acquired from PELP
 
 
Change related to our properties acquired before January 1, 2017
 
 
 
 
Change related to properties acquired after December 31, 2016, exclusive of the PELP transaction, net of properties disposed of
 
 
 
 
 
 

Total Revenues
$29.2 million was related to the acquisition of PELP. This includes $21.2 million related to the acquisition of the 76 properties under PELP, as well as services provided to the Managed Funds including $4.0 million attributed to advisory agreements, inclusive of acquisition, disposition, and asset management fees, and $3.8 million attributed to property management agreements, inclusive of property management fees, leasing commissions, and construction management fees.
$21.4 million was related to 15 properties acquired after December 31, 2015, exclusive of the PELP transaction, net of two properties disposed of during each reporting period.
$3.2 million was related to the properties acquired before January 1, 2016, outside of the PELP transaction (“same-center portfolio”). The increase was driven by a $0.23 increase in minimum rent per square foot and a 0.9% increase in occupancy.
General and Administrative Expenses
The increase in general and administrative expenses, as shown in the chart above, is primarily driven by the acquisition of the management company during the PELP transaction. This resulted in additional employee compensation costs for managing the day-to-day affairs of the Managed Funds, identifying and making acquisitions and investments on their behalf, and recommending to the respective boards of directors an approach for providing investors of the Managed Funds with liquidity, offset by the elimination of the asset management fee.
This increase shown in the chart above is offset by $4.0 million in the capitalization of acquisition expenses recognized prior to January 1, 2017, directly related to asset acquisitions prior to that date, which was attributed to the implementation of ASU 2017-01 on January 1, 2017.

33




Vesting of Class B Units
The $24.0 million expense resulted from the PELP transaction and was a combination of the vesting of 2.8 million Class B units as well as the reclassification of previous distributions on those Class B units to noncontrolling interests. The vesting of the Class B units was a noncash expense of $27.6 million for asset management services rendered between December 2014 and September 2017. Distributions paid on these units totaled $3.6 million over this time period and have been reclassified from the 2017 consolidated statement of operations and reflected as distributions from equity instead.
Termination of Affiliate Arrangements
The $5.5 million expense was related to the redemption of unvested Class B units at the estimated value per share on the date of the termination, that had been earned by our former advisor for historical asset management services.
Depreciation and Amortization
The $24.6 million increase in depreciation and amortization included a $16.1 million increase related to the 76 properties and the management contracts acquired in the PELP transaction.
The increase included a $12.1 million increase related to properties acquired after December 31, 2015, excluding properties acquired in the PELP transaction, as well as properties classified as redevelopment.
The increase was offset by a $1.7 million decrease due to the disposition of two properties in December 2016 and October 2017.
The increase was also offset by a $1.8 million decrease attributed to certain intangible lease assets becoming fully amortized on our same-center portfolio.
Interest Expense, net
The $13.2 million increase was primarily due to additional borrowings on our revolving credit facility and new secured and unsecured term loan facilities entered into in 2017, including $485 million in new term loans that were entered into in order to extinguish the corporate debt from PELP in the PELP transaction. Interest expense, net was comprised of the following for the years ended December 31, 2017 and 2016 (dollars in thousands):
 
Twelve Months Ended December 31,
 
2017
 
2016
Interest on revolving credit facility
$
6,195

 
$
3,932

Interest on term loans, net
22,073

 
12,287

Interest on mortgages
13,919

 
13,420

Amortization and write-off of deferred financing expenses and assumed market debt adjustments, net
3,474

 
2,819

Interest expense, net
$
45,661

 
$
32,458

 
 
 
 
Weighted-average interest rate as of end of period
3.4
%
 
3.0
%
Weighted-average term (in years) as of end of period
5.5

 
4.0

Transaction Expenses
The transaction expenses incurred resulted from costs related to the PELP transaction (see Note 4), primarily third-party professional fees, such as financial advisor, consulting, accounting, legal, and tax fees, as well as fees associated with obtaining lender consents necessary to complete the transaction.
Gain on the Sale of Property, net
The $3.0 million decrease in gain on the sale of property, net is related to a $1.8 million gain recognized on one property sold during the year ended December 31, 2017, as compared to a $4.7 million gain recognized on one property sold during the year ended December 31, 2016.
Other Income, Net
The $0.6 million decrease was largely due to a 2016 gain related to hedging ineffectiveness that is no longer realized due to our adoption of a new accounting standard in 2017, partially offset by a gain on the sale of land in 2018.


34



Non-GAAP Measures
Pro Forma Same-Center Net Operating Income—Same-Center NOI represents the NOI for the properties that were owned and operational for the entire portion of both comparable reporting periods. For purposes of evaluating Same-Center NOI on a comparative basis, and in light of the PELP transaction as well as the Merger, we are presenting Pro Forma Same-Center NOI, which is Same-Center NOI on a pro forma basis as if the PELP transaction and the Merger had occurred on January 1, 2017. This perspective allows us to evaluate Same-Center NOI growth over a comparable period. Pro Forma Same-Center NOI is not necessarily indicative of what actual Same-Center NOI and growth would have been if the PELP transaction and the Merger had occurred on January 1, 2017, nor does it purport to represent Same-Center NOI and growth for future periods.
Pro Forma Same-Center NOI highlights operating trends such as occupancy rates, rental rates, and operating costs on properties that were operational for both comparable periods. Other REITs may use different methodologies for calculating Same-Center NOI, and accordingly, our Pro Forma Same-Center NOI may not be comparable to other REITs.
Pro Forma Same-Center NOI should not be viewed as an alternative measure of our financial performance since it does not reflect the operations of our entire portfolio, nor does it reflect the impact of general and administrative expenses, acquisition expenses, depreciation and amortization, interest expense, other income, or the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties that could materially impact our results from operations.
The table below compares Pro Forma Same-Center NOI for the years ended December 31, 2018 and 2017 (dollars in thousands):
 
2018
 
2017
 
$ Change
 
% Change
Revenues(1):
 
 
 
 
 
 
 
Rental income(2)
$
348,765

 
$
341,382

 
$
7,383

 


Tenant recovery income
117,796

 
115,849

 
1,947

 


Other property income
2,193

 
2,130

 
63

 


Total revenues
468,754

 
459,361


9,393


2.0
 %
Operating expenses(1):
 
 
 
 
 
 
 
Property operating expenses
74,103

 
76,621

 
(2,518
)
 


Real estate taxes
69,194

 
68,873

 
321

 


Total operating expenses
143,297


145,494


(2,197
)

(1.5
)%
Total Pro Forma Same-Center NOI
$
325,457


$
313,867


$
11,590


3.7
 %
(1) 
Adjusted for the same-center operating results of PELP and the Merger prior to the respective transaction dates for these periods. For additional information and details about the operating results of PELP and the Merger included herein, refer to the PELP and REIT II Same-Center NOI table below.
(2) 
Excludes straight-line rental income, net amortization of above- and below-market leases, and lease buyout income.

35



Pro Forma Same-Center Net Operating Income Reconciliation—Below is a reconciliation of Net Income (Loss) to Pro Forma Same-Center NOI for the years ended December 31, 2018 and 2017 (in thousands):
 
2018
 
2017
Net income (loss)
$
46,975

 
$
(41,718
)
Adjusted to exclude: