STORE Capital (STOR) Q2 2021 Earnings Call Transcript

STORE Capital (STOR)
Q2 2021 Earnings Call
Aug 05, 2021, 12:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good day, and welcome to the STORE Capital's second-quarter 2021 earnings webcast and conference call. [Operator instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Ms.

Lisa Mueller, investor relations for STORE Capital. Ms. Mueller, the floor is yours, ma'am.

Lisa Mueller -- Investor Relations

Thank you, operator, and thank you all for joining us today to discuss STORE Capital's second-quarter 2021 financial results. This morning, we issued our earnings release and quarterly investor presentation, which includes supplemental information for today's call. These documents are available in the investor relations section of our website at ir.storecapital.com under news and results, quarterly results. I'm here today with Mary Fedewa, president and chief executive officer of STORE; Cathy Long, chief financial officer; Craig Barnett, EVP of underwriting and portfolio management; and Tyler Maertz, EVP of acquisitions.

On today's call, management will provide prepared remarks, and then we will open up the call for your questions. In order to maximize participation while keeping our call to an hour, we will be observing a two-question limit during the Q&A portion of the call. Participants can then reenter the queue if you have follow-up questions. Before we begin, I would like to remind you that today's comments will include forward-looking statements under the federal securities laws.

Forward-looking statements are identified by words such as will, be, intend, believe, expect, anticipate or other comparable words and phrases. Statements that are not historical facts, such as statements about our expected acquisitions, dispositions or our AFFO per share guidance for 2021 are also forward-looking statements. Our actual financial condition and results of operations may vary materially from those contemplated by such forward-looking statements. Discussion of the factors that could cause our results to differ materially from these forward-looking statements are contained in our SEC filings, including our reports on Form 10-K and Form 10-Q.

With that, I would now like to turn the call over to Mary Fedewa, STORE's chief executive officer. Mary, please go ahead.

Mary Fedewa -- President and Chief Executive Officer

Thank you, Lisa. Good morning, everyone, and thank you for joining us today. I'll begin the call with an overview of our second-quarter performance and discuss our growth strategy. Craig will provide an update on what we added to the portfolio this quarter, as well as our portfolio management activities, and Cathy will review our second-quarter financial results.

We will then all be available to answer your questions. As you saw in our press release, we delivered strong operational results for the second quarter. Through our selective acquisition strategy, we attained a weighted average cap rate of 7.8% on our acquisitions of $341 million in profit center real estate. We also delivered AFFO of $0.50 per share, reflecting the strong level of growth in revenues from our investment portfolio.

We continue to see cash collections increasing, with July cash collections at 98%, reflecting both the strength of our diverse portfolio and our belief that the financial impact from the unprecedented pandemic is now largely behind us. On the acquisition front, we continue to see increasing demand for our customized financing solutions as businesses are becoming more confident in their outlook and M&A activity is picking up momentum due to continued low interest rates, monetary stimulus and pent-up demand. We have a robust investment pipeline of $12.5 billion, which allows us to be highly selective in making acquisitions that are good for our customers, good for shareholders, and good for STORE. Our portfolio is in great shape and remains highly diversified with our largest tenant continuing to account for only 3% of base rent and interest.

We have contractual built-in rent growth from our annual rent escalations of 1.9%, which provides a nice hedge against inflation. Our weighted average lease term remains long at 14 years and we have virtually no near-term lease expirations. We closed the quarter with an occupancy rate of 99.6%, which has remained consistent over the past five years. As you all know, sustained low interest rates coupled with the historic attractive yield opportunities in the net lease sector are serving to attract an influx of new capital.

This is causing some cap rate compression, which can also result in increased real estate prices. At STORE, we are continuing to be deliberate in our acquisition strategy and believe the value-add we bring to our customers will continue to result in above-market cap rates and attractive risk-adjusted returns. As always, we remain committed to our disciplined approach to providing real estate capital to our customers, including an extensive review of the real estate during our underwriting process to ensure we are paying what we believe is the right price. On last quarter's call, as I stepped into the CEO role, I provided some broad observations of where we see STORE heading.

I mentioned that one of my primary objectives is scaling STORE to the next level of growth and success in collaboration with our experienced leadership team. I also mentioned that we would be open to new avenues of growth. Today, I want to provide some additional color on our plans. Over the past 10 years, we have been focused on building the front end of our business, our acquisition engine and developing valuable customer relationships.

Today, we have a highly diversified $10 billion real estate portfolio, an installed base of more than 500 customer relationships, a proven business model, an experienced team of more than 100 professionals, and a proprietary leading-edge technology platform that supports every aspect of our business. As we see it, STORE has reached an important inflection point. We can now accelerate our growth by fully leveraging the platform we have in place today to scale our business through increased volume while continuing to generate the strong risk-adjusted returns we've delivered since our inception. To achieve that, we have mapped out a three pronged approach.

First, we will continue to focus on organic growth. The addressable market for profit center real estate is estimated to be about $4 trillion comprised of over 2 million properties. We have a very strong pipeline, which more than exceeds the size of our current portfolio. Leveraging our proven strategy, we will remain focused on owning profit-center real estate while continuing to take a disciplined approach to build a diverse portfolio with the right real estate assets purchased at the right price with the right cap rates.

Our direct origination and customer relationship model will always be central to our strategy. It's our secret sauce, years in the making and hard to replicate. We know our customers and their businesses down to the profitability at the property level. Every quarter, our team checks in with our customers to evaluate the state of their business, mutually identifying issues and opportunities and strengthening our partnership.

This is a high-touch approach. It mitigates risk and allows us to play a vital role in helping our customers grow their businesses. Second, we now have the scale, platform and expertise to consider more transactions from outside our traditional origination channels. If opportunities that fit our business model and meet our shareholder return hurdles are presented, such as through larger portfolio transactions, we will consider them.

We have the experience and the resources to lead and drive these types of strategic growth initiatives. Third, our strategy includes continuing to invest in our technology platform and leveraging our proprietary data analytics. For the past 10 years, we have been building this proprietary technology platform. We have collected a substantial amount of valuable information that gives us a 360-degree view of our customers and supports every aspect of our business from origination to portfolio management.

We are now able to utilize data analytics to drive volume and strong risk-adjusted returns. I want to say that I've never been more excited about STORE and our prospects for growth and success. Now turning to our dividend, which has always been an important part of our total return. As you know, our board evaluates our dividend policy at each board meeting and considers raising it at least annually.

In light of our strong operational performance and positive outlook, as well as our relatively low dividend payout ratio, you can anticipate that our board will consider a meaningful dividend increase as we complete the third quarter. And finally, before I turn the call over to Craig, I want to provide a quick update on our search for Cathy's successor. We are on track. We always knew Cathy would be here at least through second-quarter earnings.

We are pleased with the slate of highly qualified candidates and are moving through the process in a diligent and thorough manner. With that, I'll turn the call over to Craig.

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

Thank you, Mary. I'll take a few minutes to cover our acquisitions and portfolio management activities in the second quarter. As Mary mentioned, we originated 341 million in acquisitions across a diverse set of industries. We added 10 new customers and ended the quarter with 529 leading national and regional tenants.

Our customized financing solutions address a wide variety of customer needs. More than half of our second-quarter volume was to help customers finance acquisitions. For example, we helped an early childhood education operator capitalize on M&A opportunities. In addition, about 25% was to fund organic growth, such as unlocking real estate equity for a carwash operator with expansion plans, and the remainder was to help customers recapitalize their balance sheets.

Our customers are showing renewed confidence in their outlooks and activity is picking up. Two months into the third quarter, we are seeing more deal flow at the front end of our sales process which we expect to translate into more closed transactions in the back half of the year. Our portfolio mix remained consistent, with 64% in service industries, 17% in experiential retail, and 19% in manufacturing. At quarter end, our portfolio had more than 2,700 properties across 118 industries.

More than 80% of the portfolio was comprised of businesses, who individually represent less than 1% of our base rent and interest and collectively, our top 10 customers accounted for only 18% of base rent and interest. By design, we have intentionally built a very diverse portfolio that helps safeguard against market cycles, optimizing risk-adjusted returns. In the second quarter, repeat business was very strong as companies reengaged with their growth plans following the pandemic. We expect repeat business will play an increasingly greater role as we continue to acquire new customers and expand relationships with our large installed base.

Our portfolio continues to perform exceedingly well as our four-wall unit level fixed charge coverage ratio was 3 times at the end of the second quarter, up from 2.7 times last quarter. Out of our 2,700 properties, only 11 are vacant, which remains in line with pre-pandemic levels. Moving on to our portfolio management activity. During the quarter, we sold 13 properties for over 35 million in net proceeds.

When excluding noncore properties, we achieved a cap rate of 6.3% on those sales. The rent recovery on our noncore properties was higher than our historical average. Actively managing the portfolio creates accretive internal growth and demonstrates liquidity for STORE's assets. I'll now turn the call over to Cathy to discuss our financial results.

Cathy Long -- Chief Financial Officer

Thank you, Craig. I'll discuss our financial results for the second quarter, followed by an overview of our capital markets activity and balance sheet. Then I'll provide our updated guidance for 2021. All comparisons are year over year unless otherwise noted.

Beginning with our income statement, second-quarter revenues increased 14% from the year-ago quarter to $192 million, primarily reflecting the growth in our real estate portfolio. Interest expense decreased by $2.3 million from the year-ago quarter when we had a higher level of borrowings on our credit facility at the onset of the pandemic. The current quarter interest expense also includes approximately $500,000 of noncash accelerated amortization related to the prepayment of debt in May. Property costs for the second quarter declined slightly from the year-ago quarter to $5.2 million.

Excluding costs reimbursed by our tenants, property costs represented about 15 basis points of our average gross portfolio assets, down from 18 basis points a year ago. G&A expenses increased to $16 million from $13 million in the year-ago quarter, primarily due to an increase in stock-based performance-related compensation expense. Excluding this noncash expense, overall G&A costs were relatively flat year over year at about 46 basis points of average gross portfolio assets. During the second quarter, we recognized an aggregate $6.6 million impairment provision on properties we're likely to sell.

This amount was largely offset by a $5.9 million gain recognized on properties sold during the quarter. Second quarter AFFO on a per share basis increased 14% to $0.50 per diluted share from $0.44 a year ago, and total AFFO increased to $136 million from $109 million. The increase in AFFO primarily reflects the increased revenue from our real estate portfolio growth, as well as lower interest expense. As Mary mentioned, July cash collections increased to 98%, essentially in line with pre-COVID levels.

With respect to COVID deferrals, over 40% of our tenants who received deferrals have repaid them in full as of the end of the quarter. We expect the vast majority of the remaining 40 million in net COVID receivables to be collected by the end of 2022. In June, we declared a quarterly cash dividend of $0.36 per share and maintained a conservative dividend payout ratio of 72% for the quarter. Now turning to our capital markets activity and balance sheet.

We funded our second-quarter acquisitions with cash from operations, proceeds from the sale of equity through our ATM program and borrowings on our revolving credit facility. During the quarter, we issued approximately 1.6 million shares of common stock under our ATM program at an average price of $34.17 per share, raising net equity proceeds of $55 million. We took advantage of favorable debt-market conditions in the second quarter to raise attractively priced debt. In June, we completed the issuance of $515 million of seven and 12-year notes under our STORE Master Funding Program at a record low blended interest rate of 2.8%.

This includes $337 million of AAA-rated notes. As planned, we used a portion of the proceeds to prepay without penalty $170 million of two classes of Master Funding notes that were scheduled to mature in 2023 and had a weighted average interest rate of 5%. We are excited about the strong execution of this Master Funding transaction, which substantially decreases our cost of capital and also speaks to the resiliency of our portfolio through a global pandemic. We were thrilled to welcome back so many of our existing debt investors and that so many new investors participated in this transaction.

In November 2021, another series of Master Funding notes will be available for prepayment without penalty. These notes bear an interest rate of 5.2%, giving us another opportunity to lower our debt costs this year. Our debt maturities are intentionally well laddered, and we have no significant maturities until 2024. With the flexible prepayment windows under our Master Funding Program, we have the opportunity to prepay additional series during 2022 and in future years.

In June, we also recast our credit facility, increasing the maximum borrowing capacity to $1.6 billion by expanding the Accordion feature from $800 million to $1 billion. We also reduced the interest rate by 15 basis points and extended the maturity date of the facility to June 2025 with two six-month extension options. And finally, in April, we repaid our remaining $100 million bank-term note. At June 30th, we had approximately $4.1 billion of long-term fixed rate debt outstanding with a weighted average interest rate of 4.1% and a weighted average maturity of about seven years.

Our leverage remains at a very low 38% on a net debt to portfolio cost basis. Approximately 62% of our gross real estate portfolio was unencumbered, and the ratio of NOI to interest expense on the unencumbered portfolio remains exceptional at more than 7 times. We closed the quarter with a strong balance sheet. We have ample access to a variety of favorably priced debt and equity options to finance our growing pipeline of acquisition opportunities at very attractive spreads.

At quarter end, we had $169 million in cash, more than $610 million available under our ATM program and the full availability of our $600 million credit facility. Now turning to guidance. We are raising our 2021 AFFO per share guidance on stronger revenues from the range of $1.90 to $1.96, to a range of $1.94 to $1.97. The midpoint of our AFFO guidance is based on projected net acquisition volume of approximately 1 to $1.2 billion at a weighted average cap rate of 7.7% and a target leverage ratio in the range of 5.5 to 6 times run-rate net debt to EBITDA.

Our AFFO per share guidance for 2021 reflects anticipated net income, excluding gains or losses on property sales, of $0.85 to $0.87 per share plus $0.96 to $0.97 per share of expected real estate depreciation and amortization, plus approximately $0.13 per share related to items, such as straight line rents, equity compensation, and deferred financing cost amortization. As we move through the second half of the year, we'll continue to assess our outlook and provide updated guidance as appropriate. And now I'll turn this back to Mary.

Mary Fedewa -- President and Chief Executive Officer

Thank you, Cathy. In closing, we know that people have a lot of choices out there. STORE has a truly differentiated position in the net lease REIT space. We are a pure-play in profit center real estate.

We have a large, granular and diverse portfolio. We have a P&L for every site we own, so we know their profitability. We are set up to mitigate risk through our disciplined lease structures. We have a strong customer base with deep relationships that cultivate new business.

We have access to long-term capital at attractive rates, creating highly attractive spreads. And with that, I would like to turn the call over for your questions.

Questions & Answers:

Operator

[Operator instructions]. And the first question will come from Sheila McGrath with Evercore ISI. Please go ahead.

Sheila McGrath -- Evercore ISI -- Analyst

Yes. Good morning. Mary, you mentioned in your three prongs of growth considering more portfolio transactions. Just wondering if that means acquisition cap rates could move lower as portfolios typically are at lower cap rates?

Mary Fedewa -- President and Chief Executive Officer

Yes. So, Sheila, I'll answer that in a couple of ways. First of all, I'll talk a little bit about the approach, and then I'll address some cap rate compression here. So as I mentioned, we really think we're at an inflection point here, and we've been around over 10 years.

We've come through COVID. We have a well-tested portfolio, management team, and platform. We're sized in scale, and we've built a highly diverse portfolio. So as a result, we feel like we can really now pursue opportunities to acquire customers in these larger portfolio transactions.

As you know, our business model has always been very customer centric. So it's important to us that we are focused on acquiring customers, profit center real estate, building these long-term relationships with these customers and remaining very disciplined in our approach and focus on that. So we're going to look at opportunities as they present themselves. In terms of cap rate compression, we are seeing some cap rate compression in the marketplace.

So as you know, there's been a lot of influx of capital into the space resulting from low-interest rates, and a search for yield. And -- but that being said, we're really focused on our total return here. And cap rate is a big piece of that total return, but also our cost of capital as well. And in the second quarter, our spread was nearly 400 basis points.

And we could issue debt today, Sheila, in about the mid-twos. And so that would create nearly a 500-basis-point spread. So we're in a really good place to make very, very accretive acquisitions, and we're now ready, based on size and scale to take a look at things that come our way.

Sheila McGrath -- Evercore ISI -- Analyst

OK. Great. And my second question is, you also mentioned the data analytics platform as a means of growth. Just wondering if you could give us a little more detail on that? Are you planning on selling the data or the platform?

Mary Fedewa -- President and Chief Executive Officer

Yes. No, not selling the data, that's for sure. But yes, I will. The objective, Sheila, is to make better decisions more efficiently through the deployment of advanced analytic capabilities.

And these decisions include prospect targeting, as well as continuing to monitor the portfolio.

Sheila McGrath -- Evercore ISI -- Analyst

Thank you very much.

Operator

The next question will come from Caitlin Burrows with Goldman Sachs. Please go ahead.

Caitlin Burrows -- Goldman Sachs -- Analyst

Hi, everyone. Yes, so just following up in terms of those three prongs, but I guess, the middle one in terms of large portfolios. I mean, the supplement shows that about 80% of STORE's portfolio has been from direct origination as of Q2 '21, '20, and '19. So just wondering, as you scale the business, do you expect that ratio to change? Or as you go from here is there something about the process that will change?

Mary Fedewa -- President and Chief Executive Officer

Yes. No, you know what, Caitlin, I suspect that, that will stay in line. I suspect the process will not change. Again, we're acquiring customers and we're going to have our same process to do that.

Our same disciplined approach. We're going to look for profit center real estate. We're going to have the same foundation that we have here. So I think you'll see that maybe change a little bit, but a big part of our three prong is organic growth.

And the market is so big, you're going to see that be a large, large share of what we do, for sure, continue to be.

Caitlin Burrows -- Goldman Sachs -- Analyst

So then is it just that you'll kind of keep on doing the same thing, but the size of those transactions might happen to get larger?

Mary Fedewa -- President and Chief Executive Officer

Yes. I think that's a good way to think about it, Caitlin.

Caitlin Burrows -- Goldman Sachs -- Analyst

OK. And then also in the prepared remarks, you mentioned how STORE's coverage levels are now above 2020 and even 2019. So just wondering if you could give some commentary. Is that a function of just strong underlying tenant businesses, the mix of the tenants that you have now or something else?

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

This is Craig. I'll take that question. Yes. So it's really a function of how diverse our portfolio is.

If you recall, we really only had a handful of industries that are highly impacted. And those tenants within those industries, they've all reopened. Our collections actually continue to improve. And these tenants actually have experienced really strong rebounds in their businesses.

So for example, in our casual dining restaurant, our operator's actually reporting single-digit same-store sales increases in the first half of this year when actually you're comparing that to 2019. And they've actually seen margins improve just, because they've streamlined their businesses. They have simplified menus. They have higher profitability to-go business, investments in technology and they focus -- they've been focusing on overhead efficiencies.

In regards to our gyms, our health clubs are actually experiencing improving membership counts, growth between about 8 to 10% actually in the first half of 2021. And our operators are actually saying that the pandemic has placed a greater emphasis on health and well-being, and people are investing in gym memberships. And so I think this all kind of translates into higher coverages on our highly impacted industries, and as well as we by being diverse and being over 118 industries, we had some COVID benefiting and COVID resilient tenants as well that's helped our coverage increase.

Caitlin Burrows -- Goldman Sachs -- Analyst

Got it. Thanks.

Operator

The next question will come from Haendel St. Juste with Mizuho. Please go ahead.

Haendel St. Juste -- Mizuho Securities -- Analyst

Hey, there. Good morning.

Mary Fedewa -- President and Chief Executive Officer

Hello. Good morning.

Haendel St. Juste -- Mizuho Securities -- Analyst

I appreciated the comment on the meaningful dividend increase that you're telegraphing here a bit. But curious, maybe you could talk a bit about what meaningful might perhaps mean? Can you give us a sense of how large that could be? What parameters you're considering as you look at resizing the dividend? And did I hear you correctly in saying that this increase will be implemented with the third quarter with the next dividend?

Mary Fedewa -- President and Chief Executive Officer

Yes. Haendel, this is Mary. Yes, you heard the script correct. So our board will determine that, as you know.

But also, as you know, that last year during COVID, we increased the dividend by a penny with slightly under a 3% increase. And currently, we're seeing AFFO rebounding nicely. And we think the board is encouraged by that. But it will be the board that will determine that at the end of the day.

Haendel St. Juste -- Mizuho Securities -- Analyst

Sure, sure. And maybe just how you're thinking about it overall. Is it -- historically, it's been a, I guess, relative to AFFO growth expectations? Or is there anything else in there we need to consider perhaps a tax basis or anything to that degree?

Cathy Long -- Chief Financial Officer

It's Cathy. I'll jump in. When we get to a certain payout ratio, this quarter, we were at about 72% AFFO payout ratio. That's about our target, around 70%.

So once we get there, the idea being that AFFO growth then translates to dividend growth. So yes, there's sort of an AFFO component to that, as well as other things they consider overall. Outlook on the economy, outlook on the business, and things like that.

Haendel St. Juste -- Mizuho Securities -- Analyst

OK. Fair enough. Thank you, Cathy. And then going back to the yields, 7.8%.

Can you guys talk a bit about what you're buying? You mentioned 10 new customers. Are there any new industries in there? And it sounds like you expect cap rates here to stay in that high seven range here near term. Does that mean that there are no portfolio transactions assumed within that -- the current guidance as well? Thanks.

Tyler Maertz -- Executive Vice President, Acquisitions

Haendel, this is Tyler. I'll cover that question. So for Q2, our volume mix was just under 60% service and about 20% each for manufacturing and retail. So very much in line with our overall portfolio composition, and it's been geared toward companies and industries that have rebounded and are now focused on their own growth.

A couple of examples. On the service side, a lot of the typical industries like lumber, wholesalers, car washes, education, specialty medical. As for manufacturing, it tends to be comprised of a wide range of industries. In this quarter, about half of it was actually in food manufacturing.

And then in retail, it's primarily in the auto dealership space.

Haendel St. Juste -- Mizuho Securities -- Analyst

Thank you, all of you. Appreciate that.

Operator

The next question will come from Ronald Kamdem with Morgan Stanley. Please go ahead.

Ronald Kamdem -- Morgan Stanley -- Analyst

Just two quick ones. So one, on just I think the CFO transition, I think you mentioned it's on track. Just wondering if there's any more color you could provide there? Is that something we can expect in 3Q or 4Q or what rounds you're in? Just any other -- I can appreciate it's a fluid situation, but just curious any other color to that comment on being on track. Thanks.

Mary Fedewa -- President and Chief Executive Officer

Ron, it's Mary. Actually, we're -- that's about what we can tell you at this point, we're on track. We're looking at some really highly qualified candidates. We're lucky to have Cathy and a long-standing relationship with Cathy and her team are here to work through a really, really smooth transition.

And so we're taking our time and we're going to find the right person for the company, and Cathy is going to be here to make that smooth transition. So -- but we're on track to do that.

Ronald Kamdem -- Morgan Stanley -- Analyst

Got it. Helpful. Just switching gears a little bit. Can you just remind us when you take a look back at the portfolio, clearly, it's done well and recovered.

Just can you remind us in terms of the cash-basis tenants, what percent is still on cash basis? Has that changed at all? And maybe what collections look like and what you're assuming for guidance? Thanks.

Cathy Long -- Chief Financial Officer

Yes. This is Cathy. For cash-basis tenants, as you recall, at the beginning of the year, about 5% of our annualized base rent and interest was cash basis, and that's gone down to 4%. So we've moved about a third of the tenants off of cash basis that were on cash basis.

And hopefully, we will just continue to do that as they continue to pay as agreed and things like that. So some of the pickup in revenue this quarter was indeed cash basis players paying more.

Ronald Kamdem -- Morgan Stanley -- Analyst

Got it. And then just in terms of collections or where you're assuming for guidance, to the extent you could share?

Cathy Long -- Chief Financial Officer

Yes. For collections, my guidance assumes that we stay right around the collection percentage that we reported for July. So we're at 98% collections. And guidance assumes that if that gets better, then we'll pick up more revenue.

So there's potential upside there or if we decide, we can reverse some additional reserves or something like that, we could pick up something there as well.

Operator

The next question will come from Spenser Allaway with Green Street Advisors. Please go ahead.

Spenser Allaway -- Green Street Advisors -- Analyst

Thank you. As it relates to your latest massive funding issuance, can you guys just talk a little bit about your appetite for additional capital raising under this program? And then how you guys are currently thinking about the breakout in funding for acquisitions over the near term?

Cathy Long -- Chief Financial Officer

This is Cathy again. So we have two investment-grade debt options. So the Master Funding is one of them where we're issuing AAA paper and A-plus paper under that option. But we balance that with always going back to the senior unsecured market for the more traditional financing, 10-year financing.

If we were to issue, for example, some senior unsecured notes today, with the treasury being fairly low and spreads really coming in, you're looking at a 2.5% coupon. So just as attractive as the Master Funding transaction that we recently did. The idea between keeping two of those debt options is to have the broadest group of debt investors we can have. That gives us the most flexibility, because those 2 markets, the secured market and the unsecured market don't always act the same way in different economic environments.

So we like having this flexibility. But the idea would be for Master Funding transactions, we mentioned there are some tranches that will come due in November. Not come due, come prepayable in November that would give us an opportunity to prepay and replace it with debt that's less expensive. We love that part of the Master Funding program.

The fact that the prepayment windows are so large. They're two to three-year prepayment windows. So we can pick our spots in different economic environments to be able to continue to reduce our cost of capital. You won't see us get too much out of our -- the way the balance is today, where a third of the assets are going to be encumbered by the Master Funding program, the Master Funding debt.

And then two-thirds of the assets will basically be unencumbered, and we'll use senior unsecured note on that side. So the balance that you're seeing today is pretty much very close to where we think it will be over time, if that helps.

Spenser Allaway -- Green Street Advisors -- Analyst

Yes, that's great color. And then just one more. In terms of your dispositions, can you just remind us what percent we should expect to be opportunistic versus strategic in the near term? And then which industries you're focusing on in terms of the strategic divestments?

Cathy Long -- Chief Financial Officer

I can jump in. So what we're -- what we have been modeling is the 3 to 5% of our investment portfolio at the beginning of the year. 3 to 5% of that would be somehow disposed of during the year. And that's really going to be a mix, Spenser.

It's -- there are always some opportunistic things that come along. But a lot of it is strategic. A lot of it is us rebalancing the portfolio, looking to augment the quality of the portfolio as we go along, either through reducing exposure to certain industries, certain locations, certain whatever. Or just getting ahead of something that we see based on looking at those quarterly financial statements from our tenants.

If we see some weakening, and we decided that, that tenant is no longer a real core part of the portfolio, we would look to divest to that property. So honestly, it's been sort of across the board. There's not been any real trend, not even in what type of industry or location or anything. It's really just sort of across the board.

And it's based on just that active portfolio management. Does that help?

Spenser Allaway -- Green Street Advisors -- Analyst

Yes, great. Thank you so much, Cathy.

Operator

The next question will come from Todd Thomas with KeyBanc Capital Markets. Please go ahead.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Hi. Thanks. Good morning. The first question -- Hi.

Good morning. First question I guess, just a quick follow-up, Cathy, on the model. Were there any reversals of previously reserved amounts in the quarter? Anything that impacted the quarter that would have an impact on the run rate?

Cathy Long -- Chief Financial Officer

There was a small amount. It was less than $0.005 of pickup on reversal of reserves.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

OK. All right. That's helpful. And then, Mary, just following up on the acquisition commentary and the comments that you made about the platform being in a position to increase investment volumes.

Sounds like there should be an expected ramp from the 1 to $1.2 billion pace of investments as we think about '22. Is that the right read? And then as we think about investments, I think in your comments, you mentioned expanding into other industries. Can you just talk about some examples of other industries that we might see STORE expanding into? Just to give us a sense of what you're contemplating?

Mary Fedewa -- President and Chief Executive Officer

Todd, I'm happy to talk about that. So I would say that for now, where we are today, halfway through the year on a gross basis, we feel like we're right on track. And what I talked about in terms of looking at larger portfolio, there's nothing really specific in the hopper right now, but we're ready. And I think the environment might be right for some of that as businesses have started to look toward growth as opposed to how -- just managing their business during COVID, and now they're in a growth mode.

And we're ready for that. And -- so we're going to continue to sort of look for things like that. And in terms of industries, we're a pure-play in profit center assets, and that's where we're going to stay, and we're going to look at anything in that space.

Todd Thomas -- KeyBanc Capital Markets -- Analyst

When you -- are there certain industries or segments -- I guess, manufacturing has been increasing over the last couple of years as an exposure. I mean can you just give us a sense of how you're thinking about some of the different areas where there might be opportunity for you to exploit or take advantage of some of the larger opportunities that you might be considering?

Mary Fedewa -- President and Chief Executive Officer

Yes. I think we're -- again, Todd, we're going to continue to stay pretty granular. We're going to continue to probably stay about two-thirds service. Manufacturing, you're correct, has creeped up, and that was driven a little bit by COVID and some of the COVID impacted industries that we had less velocity and that we did less of last year, but those are, as Tyler mentioned earlier, 60% of our second-quarter volume was service.

So those businesses have -- they're in vital industries. They've performed well in COVID. They now are able to shift toward M&A activity. And so -- and they have pent-up demand for executing on their pipeline of opportunities and stuff.

So -- but I would say, as we sit here today, we're going to look to a similar mix that we have today.

Operator

The next question will come from Frank Lee with BMO. Please go ahead.

Frank Lee -- BMO Capital Markets -- Analyst

Hi. Good morning, everyone. Just a follow-up -- I just had a follow-up on the revised guidance. If we look at the top end of the range, the $1.97, this implies no AFFO growth from the $0.50 you posted in the second quarter.

Just wondering, are there any items that we should think about that could be a drag to earnings in the back half of the year? Or is this partly due to some conservatism baked into the guidance?

Cathy Long -- Chief Financial Officer

Hi, Frank. Yes. So this quarter, there was about $0.005, a little less than $0.005 that was a reversal of reserves. So that would be sort of onetime, if you think about it that way.

Not that there couldn't be reversal of reserve next quarter or the quarter after, but that's something we're not going to necessarily count on in guidance. If you recall, gosh, over the years that we've been in this business, acquisition activity, 4Q is always the biggest. And oftentimes, that activity is all falling in December, especially when you have tenants that are doing M&A transactions, they oftentimes like the transaction to close right at the end of the year, so they have a nice cutoff for their reporting and things. So that kind of activity, oftentimes, you're not going to capture a lot of the AFFO per share in this year.

That doesn't mean that's not great for next year, but it will be volume this year, but not really very much revenue coming in, because you just don't have it that many days. So some of the guidance assumes there's some back-end weighting to the acquisition activity. And there's a little bit of conservatism in there just because you're not quite out of COVID, but for -- we hoped to have it in the back -- in the rearview mirror. So just being conservative, I think, is appropriate.

Frank Lee -- BMO Capital Markets -- Analyst

OK. Great. And then just a question on the customer revenue distribution chart you have in your presentation. It looks like for the customers with 500 million or higher, it's modestly lower versus last quarter.

Is this mainly due to like the financials capturing more COVID-impacted quarters? Any other reasons or anything to read into this?

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

This is Craig. Good question. You're exactly right. It's just a function of, as we received updated financials that there's COVID-impacted quarters within those 12-month statements.

So we don't see any issues there. And again, a lot of these tenants have actually rebounded beginning in Q1 and Q2 of this year. So we're really pleased with how -- the performance of the portfolio.

Frank Lee -- BMO Capital Markets -- Analyst

OK. Great. Thank you.

Operator

The next question will come from Linda Tsai with Jefferies. Please go ahead.

Linda Tsai -- Jefferies -- Analyst

Hi. Good afternoon. On the pipeline increasing from 12.4 billion to 12.5 billion how do you break that down in terms of under LOI versus under contract?

Mary Fedewa -- President and Chief Executive Officer

So, this is Mary. Linda, we actually -- we have it internally here. We don't break it down externally. But the pipeline goes all the way from new opportunities all the way through credit --

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

In closing.

Mary Fedewa -- President and Chief Executive Officer

-- in closing. So you have new opportunities that you're cultivating and looking at. These are -- most of our tenants, they perform a sale-leaseback at the right time when they have an event, when they have an acquisition they need to make or an estate planning they're trying to do or they're recapitalizing their balance sheet. So that's why we're in constant contact with our tenants all the time.

Timing matters. And so we start with really a new opportunity that then goes into an LOI sent and an LOI signed and then it goes into credit approval and into closing. So there's many stages in that pipeline. But overall, Tyler can provide a little color on the pipeline, and hopefully, that will be helpful.

Tyler Maertz -- Executive Vice President, Acquisitions

Sure. So yes, so first of all, generally, the composition of the pipeline remained largely the same. There's really a few industries ups and downs. But as an example, specialty medical went up, it was up 2% this time versus last quarter, so like urgent cares, behavioral health.

But really, it's mostly kind of up one, down one here. Pipeline is dynamic. Our acquisitions team is always calling on customers, keeping our relationships warm like Mary was just mentioning. So -- and when it happens -- when there happens to be an opportunity, you can never exactly plan for that.

So we just want -- our direct origination team's always going out there and establishing and maintaining relationships so that we're ready to provide capital to our customers when their growth plans are taking hold.

Linda Tsai -- Jefferies -- Analyst

And then a question for Cathy. On rent collections, what -- what were collections like for movie theaters and health clubs in 2Q? And how did it compare to 1Q?

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

So in regards to gyms, movie theaters, our collections have increased since the beginning of the pandemic from about 40% to nearly 90% today. However, we see tailwinds in that 90% in the second half of this year, as the deferrals end for our operators. Product is actually scheduled to be rolled out in the second half of this year. And they've actually seen some early success as -- with the current product that's rolled out over the last month or so.

And the consumer confidence with the vaccine rollout. We also see some tailwinds in our collections on movie theaters, just due to the additional liquidity, their balance sheets are in better shape. The shuttered venue grant program has bridged these operators to get them to the second half. But again, our theater exposure is not material.

It's about 3.6% of our annual rent and interest. So we definitely see some tailwinds in our movie theater collections.

Linda Tsai -- Jefferies -- Analyst

And then health clubs?

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

In regard to health clubs, it's right around mid-90% as of July. Again, with tailwinds again there as they are experiencing improving membership counts in the first half of 2021. And as deferrals are ending with the tenant group there.

Operator

The next question will come from Ki Bin Kim with Truist. Please go ahead.

Ki Bin Kim -- Truist Securities-- Analyst

Thanks. Good afternoon. So I just want to go back to the prior questions regarding some non -- you guys seeking some nontraditional origination channels. I would imagine for you to put down in your opening remarks that you have a pretty well-laid out thought process on what you're looking at today, just wondering if you can go a little bit deeper into that.

Because when you say you're looking at service, profit center type of real estate, it is a pretty broad definition. I was just curious if that includes other things that you haven't traditionally done like entertainment venues, concerts, or golf clubs. Just trying to see how wide you're thinking about that net.

Mary Fedewa -- President and Chief Executive Officer

Ki Bin, it's Mary. So it is a wide range. I mean, obviously, today, over 10 years, we've come into 118 industries. So there's a lot -- what's really important to us, though, is that we have the box, a single-tenant that has a P&L attached to it, that is a profit center asset.

So we're going to -- even if we begin to look at larger portfolios within that, it's about acquiring customers. It's where we can help a customer by owning their real estate, so they can be better off if we own their real estate and focus on their business and grow. So we're going to continue to focus on -- and that's how we add value to the world, by helping customers out there in the middle market and larger space to prosper in their businesses. So when you talk -- I mean, entertainment venues are profit centers generally.

Golf clubs are -- golf courses are profit centers generally. So that just -- it is a broad range of assets, and we're going to look at it. What's important, though, is that we -- when we look at these things that we say that we will stay very disciplined in our underwriting of it and in our lease structures that are important to us. So that's what we're going to take a look at that.

We'll be open. But again, it has to fit our lease structure. We're going to -- fit our underwriting, our risk-adjusted return -- good risk-adjusted return that we've been delivering since inception. All of those things will come into play and when we look at these things.

But it is a broad space, you're correct.

Ki Bin Kim -- Truist Securities-- Analyst

Can you provide any additional color -- yes. The second question, just going back to the revenues you posted this quarter. I mean it was up 10 million from the first quarter, and that's a pretty big jump just quarter to quarter. I know you mentioned about $0.005 of prior period rents.

I was just wondering if there's anything else that was embedded in that? Or if the 192 is a good starting point as we start modeling out the rest of the year?

Cathy Long -- Chief Financial Officer

Yes. So this is Cathy. So if you kind of look at it from last quarter to this quarter, there's a $0.03 jump in AFFO and about $0.005 of that is on the expense side, just reduction of expenses. About $0.025 then is the revenue pickup.

And $0.01 of that is just acquisition volume. If you recall, in Q1, a lot of the acquisitions were back-end weighted. So you didn't see a lot of revenue from those acquisitions in Q1 and the full impact hit in Q2. So there's $0.01 right there.

And then the other $0.015 is really COVID problems falling off and about a little less than $0.005 was reversal of reserves just because the portfolio is doing so well now. So those are -- that's kind of how it comes out. Does that help?

Ki Bin Kim -- Truist Securities-- Analyst

Yes, it does. Just -- sorry, I'm going to question No. 3 here, but the $0.015 of COVID stuff -- COVID-related items falling off, what does that mean? Does that mean like lower reserves? Or just trying to understand, is that sustainable to 3Q?

Cathy Long -- Chief Financial Officer

Yes, just less than $0.005 was onetime. Of the $0.015, less than $0.005 was onetime, and the rest is customers paying more that we assume is sustainable. Does that help?

Operator

The next question will come from John Massocca with Ladenburg Thalmann. Please go ahead.

John Massocca -- Ladenburg Thalmann -- Analyst

Good morning.

Cathy Long -- Chief Financial Officer

Hey, John.

John Massocca -- Ladenburg Thalmann -- Analyst

Maybe following up a little bit on Ki Bin's question. Just -- is there anything kind of in the 2Q '21 revenue number -- and I know you kind of probably are always assuming some level of abstract credit loss and guidance -- but anything where you received rent from a tenant and kind of know that, that maybe not coming in 3Q or even possibly 4Q as maybe there's some downtime on releasing certain assets or something like that?

Cathy Long -- Chief Financial Officer

No. Other than the $0.005 I just talked about.

John Massocca -- Ladenburg Thalmann -- Analyst

OK. I mean, just specifically, I mean, the Loves boxes, I mean, have those kind of all been resolved or at least there was no real impact from them in 2Q?

Cathy Long -- Chief Financial Officer

Yes. Craig can talk to Loves.

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

Yes. So on Loves, they are still in bankruptcy. But of our original 23, we have resolved or have pending resolutions in all but three. And the majority of the resolutions are long-term leases with experienced furniture operators.

And the recoveries on those are above our historical rent recovery.

John Massocca -- Ladenburg Thalmann -- Analyst

OK. But I think of like the 2Q impact versus what you're going to see in 3Q and 4Q from then, it would be fairly de minimis. Then you were collecting some rent from them in 2Q, correct?

Cathy Long -- Chief Financial Officer

Yes. So this is Cathy. So yes, we would assume that these resolutions will all come to fruition in the second half of the year. Not all at the same time because there are several resolutions included in here.

But yes, they'll all come on. So there should be some upswing going forward.

John Massocca -- Ladenburg Thalmann -- Analyst

OK. But I think my one question probably was a couple in there. So I'll cede the floor.

Cathy Long -- Chief Financial Officer

Thanks, John.

Operator

The next question will come from Wes Golladay with Baird. Please go ahead.

Wes Golladay -- Baird -- Analyst

Hi. Good morning, everyone. I just have one for you as well. When we look at this pipeline, the $12.5 billion that you have at the end of the quarter, does that include any of the portfolio deals you're talking about potentially doing?

Mary Fedewa -- President and Chief Executive Officer

As I -- yes, less, as I mentioned, there's nothing specific in the hopper now, but we think it might be -- this time might be right for some things to come up, and we're poised to take advantage of that.

Wes Golladay -- Baird -- Analyst

Got you. OK. Thanks a lot.

Mary Fedewa -- President and Chief Executive Officer

You're welcome.

Operator

The next question will come from Nate Crossett with Berenberg. Please go ahead.

Nate Crossett -- Berenberg -- Analyst

Hi. Good morning. Thanks for taking the question. Maybe a question for Cathy.

How are the credit agencies viewing the Master Funding program these days? Does having it have any adverse effect on the credit rating they're willing to give you and ultimately, the rating you could get in the unsecured market? We've seen some of the peers in this space eliminate this funding source. So I'm just trying to understand if there's any negatives to having a Master Funding program.

Cathy Long -- Chief Financial Officer

Yes. OK. So that's a good question. So how the rating agencies think about it is that historically, they felt that having a lot of secured debt, when I mean a lot, 20% in their world is a lot.

They think traditional CMBS debt, inflexible type of debt. And they are sort of concerned about that level of secured debt. When we press them on it, we don't really always get a fulsome answer as to why, other than traditional secured debt is oftentimes inflexible. And it does -- in a difficult scenario, it does take longer to resolve, let's put it that way.

Just because of the way secured debt in the CMBS world is set up. The Master Funding program is totally different in that it is our own conduit. So we're not relying on selling it into a CMBS type conduit. This is our own conduit.

And it is entirely flexible, the same way that you would have a flexible portfolio if you had unsecured debt. So I think that part of what the rating agencies wanted to see was for this portfolio and the Master Funding portfolio to go through a baptism by fire. And I think the pandemic fits that bill, and Master Funding came through it just fine. And I think that has really helped them understand better what happens in the draconian scenario, what happens to that vehicle.

And it turns out that it's actually beneficial to the company in that if something got worse than the pandemic, which is hard to imagine, but if something got worse than the pandemic, you can actually take those subsidiaries and jettison them. And then you would be left with a company that had two-thirds of the assets and only one-third of the debt. So I think it makes sense that there's less trepidation around something like a Master Funding transaction. And in fact, we're starting to see it outside the public REIT space.

So it's an efficient vehicle. It's a big market, and we're seeing more of it. So I think the rating agencies will get more comfortable with it. Does that help?

Nate Crossett -- Berenberg -- Analyst

Yes. No, that's helpful. Thank you. And then maybe just one quick one.

I know there's been a lot of questions about portfolio deals. Can you guys just give us kind of a range in terms of size as to what you mean by portfolio deals? And also, I don't know if I missed it, but what was the average deal size in the quarter?

Mary Fedewa -- President and Chief Executive Officer

This is Mary. The average deal size in the quarter was just consistent around 9 or $10 million there. So that's been very consistent. In terms of portfolio transactions, again, we want to stay very disciplined to our approach and the foundation we built here, which is granular and diverse.

We like that's our top 10 industries' percent of base rent and interest. So when we talk about portfolio transactions, we talk still about granular and acquiring many customers while we do these portfolio transactions. So I think we're going to stick within our guidelines as it relates to granular and diverse here. And then -- and when we buy -- so a portfolio can be comprised of a lot of new tenants, new customers, granular new customers.

And from that perspective, that's how we'll look at size of those.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Mary Fedewa, chief executive officer, for any closing remarks. Please go ahead.

Mary Fedewa -- President and Chief Executive Officer

Thank you. Thank you all for participating in our call today and for your continued support and interest in STORE. We look forward to seeing some of you next week at the New York Stock Exchange REIT Investor Access Day and at other upcoming conferences in September. Please feel free to reach out any time if we can answer additional questions, and have a great day.

Operator

[Operator signoff]

Duration: 62 minutes

Call participants:

Lisa Mueller -- Investor Relations

Mary Fedewa -- President and Chief Executive Officer

Craig Barnett -- Executive Vice President, Underwriting and Portfolio Management

Cathy Long -- Chief Financial Officer

Sheila McGrath -- Evercore ISI -- Analyst

Caitlin Burrows -- Goldman Sachs -- Analyst

Haendel St. Juste -- Mizuho Securities -- Analyst

Tyler Maertz -- Executive Vice President, Acquisitions

Ronald Kamdem -- Morgan Stanley -- Analyst

Spenser Allaway -- Green Street Advisors -- Analyst

Todd Thomas -- KeyBanc Capital Markets -- Analyst

Frank Lee -- BMO Capital Markets -- Analyst

Linda Tsai -- Jefferies -- Analyst

Ki Bin Kim -- Truist Securities-- Analyst

John Massocca -- Ladenburg Thalmann -- Analyst

Wes Golladay -- Baird -- Analyst

Nate Crossett -- Berenberg -- Analyst

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