Phillips Edison & Company, Inc. 10-Q

ITEM 5. OTHER INFORMATION Long-Term Incentive Award On April 29, 2021, the Compensation Committee of the Board of Directors of the Company (the “Committee”) modified the Company’s long-term incentive program applicable to Devin I. Murphy, President of the Company, and granted Mr. Murphy a long-term incentive award (the “2021 LTIP Award”) in the form of 41,143 fully vested Class B limited partnership units of Phillips Edison Grocery Center Operating Partnership I, L.P. and 123,429 performance-based Class C Units of Phillips Edison Grocery Center Operating Partnership I, L.P. (“Class C Units”). In March 2019, the Compensation Committee granted Mr. Murphy a one-time long-term incentive award of performance-based Class C units (the “Special LTIP Award”) in order to drive long-term incremental revenue streams from the investment management business, focusing his efforts more on building recurring revenue than transaction-based fee income. In 2018, prior to approval of the Special LTIP Award tied specifically to performance of the investment management business, the form of Mr. Murphy’s long-term incentive mirrored that of the other executives, consisting of an annual restricted time-based award, and a performance-based award. At the time the Special LTIP Award was granted, the Committee intended that the Special LTIP Award would be in lieu of any other long-term incentive awards to Mr. Murphy under the Company’s 2019 long-term incentive program. Several factors have led the Committee to reinstate an annual long-term incentive award, like those granted to each of the other executives, in addition to the Special LTIP, including: (1) continued focus on building recurring revenue streams from the investment management business; (2) further alignment of incentives across the executive team on 3-year Core FFO per share and Same-Center NOI growth; and (3) a market evaluation of Mr. Murphy’s total compensation package and structure, including but not limited to the retention value of the plan. Mr. Murphy’s performance-based 2021 LTIP Award is earned based on the achievement of the following two equally-weighted performance metrics measured at the end of the three-year performance period commencing January 1, 2021 and ending December 31, 2023: (i) the Company’s three-year average Same-Center NOI growth measured against a peer group of eight public retail real estate investment trusts, and (ii) the Company’s three-year Core FFO per share growth measured against the same peer group. The maximum number of Class C Units earned under the performance-based 2021 LTIP Award cannot exceed two times the target number of Class C Units. One hundred percent of the Class C Units earned under the performance-based 2021 LTIP Award will vest when earned at the end of the three-year performance period. If Mr. Murphy’s employment terminates for any reason other than by the Company for cause, he will remain eligible to vest in the performance-based 2021 LTIP Award as follows: (i) if the termination occurs before 50% of the performance period has elapsed, a pro-rated portion of the award actually earned will vest based on performance at the end of the performance period, with the pro-ration calculated based on the ratio of the number of days employed during the performance period to the total number of days in the performance period, and (ii) if the termination occurs after 50% or more performance period has elapsed, 100% of the Class C Units that are actually earned at the end of the performance period will vest. The performance metrics, threshold, target, and maximum performance levels, and other terms of the performance-based 2021 LTIP Award are substantially similar to those applicable to similar performance-based long-term incentive awards granted to the Company’s other named executive officers and described in the Company’s proxy statement filed on April 9, 2021. 39 Estimated Value per Share Valuation Overview —On April 29, 2021, the independent directors of our Board declared the estimated value per share (“EVPS”) of our common stock as $10.55. The valuation was based substantially on the estimated “as is” market value of our portfolio of real estate properties in various geographic locations in the United States as well as our pro rata share of those properties owned through our joint ventures (collectively, our “Portfolio”) and the estimated value of in-place contracts of our third-party asset management business as of March 31, 2021. We provided the EVPS to assist broker-dealers that participated in our public offering in meeting their customer account statement reporting obligations under Financial Industry Regulatory Authority (“FINRA”) Rule 2231. This valuation was performed in accordance with the provisions of Practice Guideline 2013-01, Valuations of Publicly Registered Non-Listed REITs, issued by the Institute for Portfolio Alternatives (“IPA”) in April 2013 (“IPA Valuation Guidelines”). We engaged Duff & Phelps, LLC (“Duff & Phelps”), an independent valuation expert that 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, 2021. 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, 2021, before calculating a range of estimated values based on the number of outstanding shares of our common stock as of March 31, 2021. These calculations produced an EVPS in the range of $9.87 to $11.22 as of March 31, 2021, and the independent directors, after discussions with management, approved $10.55 as the EVPS as of March 31, 2021. We previously established an EVPS of $8.75 (as of March 31, 2020) on May 6, 2020 based substantially on the same methodology and process. We expect to review the EVPS at least annually. The following table summarizes the material components of the EVPS of our common stock as of March 31, 2021 (in thousands, except per share amounts): Low High Investment in Real Estate Assets: Phillips Edison real estate valuation $ 5,363,344 $ 5,788,544 Management company 44,000 44,000 Joint venture properties (1) 71,758 77,854 Total market value 5,479,102 5,910,398 Other Assets: Cash and cash equivalents 15,649 15,649 Restricted cash 41,621 41,621 Accounts receivable 67,457 67,457 Prepaid expenses and other assets 16,184 16,184 Total other assets 140,911 140,911 Liabilities: Notes payable and credit facility 21,500 21,500 Mark to market - debt 2,322,090 2,322,090 Derivative liability 42,970 42,970 Accounts payable and accrued expenses 65,777 65,777 Total liabilities 2,452,337 2,452,337 Net Asset Value $ 3,167,676 $ 3,598,972 Common stock and Operating Partnership units (“OP units”) outstanding 320,892 320,892 Net Asset Value Per Share $ 9.87 $ 11.22 (1) Represents our pro rata share of the properties owned by our joint ventures. Our goal is to provide an estimate of the market value of our shares. However, the majority of our assets 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. 40 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 —We retained Duff & Phelps on February 11, 2021, 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 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, 2021 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 upper and lower bounds of the average terminal capitalization rates and discount rates that were used to arrive at the estimated market values of our Portfolio: Range in Values Terminal Capitalization Rate 6.77% - 7.27% Discount Rate 7.38% - 7.88% 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, solely fee income related to properties owned as of March 31, 2021 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. All other assets 41 and liabilities acquired are short term in nature and therefore the carrying value is considered to approximate the fair value. 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%. 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 $9.56 - $10.84 $10.20 - $11.61 $9.44 - $10.73 $10.33 - $11.74 Discount Rate $9.56 - $10.88 $10.18 - $11.56 $9.40 - $10.73 $10.35 - $11.71 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, 2021. Role of the Independent Directors —The independent directors discussed the valuation process and results with representatives of Duff & Phelps. The independent directors also discussed the results, 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 $10.55 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’ discussion with Duff & Phelps 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 $9.87 to $11.22 was appropriate. The independent directors agreed to accept the recommendation of management and approved $10.55 as the EVPS of our common stock as of March 31, 2021, which determination was ultimately and solely the responsibility of the independent directors. Limitations of Estimated Value per Share —We are providing 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, the price a third party would pay to acquire us, the price at which our shares of common stock would trade in secondary markets, or the amount at which our shares of common stock would trade on a national securities exchange. Accordingly, we can give no assurance that: • our shares would trade at or near the EVPS if listed on a national securities exchange; • a stockholder would be able to resell his or her shares at the EVPS; • a stockholder would ultimately realize distributions per share equal to the EVPS upon a liquidation of our assets and settlement of our liabilities; • a stockholder would receive an amount per share equal to the EVPS upon a sale of the Company; • 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 for use on customer account statements or that the EVPS will satisfy the applicable annual valuation requirements under the Employee Retirement Income Security Act of 1974. Further, we have not made any adjustments to the valuation of our EVPS for the impact of other transactions occurring subsequent to March 31, 2021, including, but not limited to, (1) acquisitions or dispositions of assets; (2) the issuance of common stock under the Dividend Reinvestment Plan (“DRIP”), which was suspended beginning with the distribution payable April 1, 2021; (3) NOI and dividends declared (see “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Non-GAAP Measures - Same-Center Net Operating Income” of this filing on Form 10-Q for the calculation of NOI); (4) the repurchase of shares; and (5) changes in leases, tenancy, or other business and 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 may be incurred 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. 42 ITEM 6. EXHIBITS Ex. Description 31.1 Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002* 31.2 Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002* 32.1 Certification of Principal Executive Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002* 32.2 Certification of Principal Financial Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes -Oxley Act of 2002* 99.1 Consent of Duff & Phelps, LLC* 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document 101.SCH Inline XBRL Taxonomy Extension Schema Document 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF Inline XBRL Taxonomy Definition Linkbase Document 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document 104 Cover Page Interactive Data File (formatted as inline XBRL and contained in exhibit 101) *Filed herewith 43 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. PHILLIPS EDISON & COMPANY, INC. Date: May 4, 2021 By: /s/ Jeffrey S. Edison Jeffrey S. Edison Chairman of the Board and Chief Executive Officer (Principal Executive Officer) Date: May 4, 2021 By: /s/ John P. Caulfield John P. Caulfield Chief Financial Officer, Senior Vice President and Treasurer (Principal Financial Officer) 44