Gladstone Commercial Corporation (GOOD) — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Gladstone Commercial is an externally managed REIT focused primarily on industrial and office properties. As of August 8, it reported 137 properties across 27 states, 96.0% occupancy, and a 6.8-year average remaining lease term.
Financial performance
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Lease revenue | $38.7 million | $36.4 million | $75.2 million | $71.9 million |
| Net income (loss) | ($4.6 million) | $1.6 million | ($1.4 million) | $5.1 million |
| Net income (loss) attributable to common stockholders | ($7.7 million) | ($1.4 million) | ($7.6 million) | ($1.1 million) |
| Basic/diluted common loss per share | ($0.19) | ($0.04) | ($0.19) | ($0.03) |
| FFO per common share and OP unit, basic | $0.41 | $0.39 | $0.77 | $0.78 |
Q2 operating expenses rose 21.4% to $33.7 million, including a $6.8 million impairment charge; interest expense increased 27.5% to $9.1 million. Six-month operating cash flow was $30.7 million, down from $34.6 million. Investing used $6.9 million and financing used $19.2 million. Cash and cash equivalents were $16.5 million at quarter-end; cash, cash equivalents and restricted cash totaled $20.6 million.
At June 30, total debt carrying value was approximately $753.7 million: $348.4 million of mortgage notes, $38.5 million drawn on the revolver and $366.9 million of term loans. Weighted-average interest rates were 5.48% across debt and 6.54% on the credit facility. The company reported $70.3 million of additional credit-facility capacity and $86.8 million of total available liquidity at quarter-end; facility capacity was $36.5 million as of August 8. It was in compliance with credit-facility covenants.
Material changes and notable items
- Lease revenue increased 6.2% year over year in Q2 and 4.6% for the first half. Same-store lease revenue rose 13.0% and 9.5%, respectively; management cited rent recoveries, accelerated rent from a lease termination and tenant-funded improvements.
- Higher interest costs on variable-rate debt, impairment charges and a $0.5 million loss on property sales drove the deterioration in GAAP earnings. The $6.8 million impairment related to two held-for-sale properties and one held-and-used property.
- Q2 FFO per share improved to $0.41 from $0.39, while first-half FFO per share declined to $0.77 from $0.78. FFO is a non-GAAP supplemental measure, not cash flow or GAAP earnings.
- Common-stock distributions were $0.30 per share in Q2, compared with $0.3762 in Q2 2022. Preferred-stock distribution rates were unchanged across the reported periods.
- The company sold two non-core properties in the first half for aggregate sales proceeds of $4.65 million, recording a net loss of $0.45 million. Six properties were classified as held for sale at June 30.
- The company corrected previously reported depreciation calculations for tenant-funded improvements. It characterized the effects as immaterial for each affected period; the revisions changed prior-period depreciation, income and balance-sheet amounts, but did not change reported FFO per share.
Outlook, management commentary and risks
Management gave no specific earnings or revenue guidance. It expects to continue its capital-recycling program, selling non-core assets and using proceeds for acquisitions or debt reduction. Management said near-term liquidity was adequate and expects to address mortgage maturities through refinancing, cash from operations, equity offerings and credit-facility availability. Mortgage principal payments due during the remainder of 2023 were $50.2 million and during 2024 were $28.6 million.
Management reported collecting 100% of outstanding cash rents for the first half. It cited continuing uncertainty in commercial real estate, tighter credit, volatile and higher interest rates, and potential recessionary conditions. Office fundamentals were described as weakening; industrial conditions had normalized but remained comparatively sound. Vacant space represented 4.0% of total square footage, with estimated annual carrying costs of $3.9 million. The company also reported a manageable 2.1% of lease revenue associated with expirations for the remainder of 2023.
Interest-rate exposure is a key risk: the filing estimates that a 1 percentage-point increase in SOFR would raise annual interest expense and reduce net income by approximately $391,000, assuming no other changes. Most variable-rate debt had transitioned to SOFR, but $20.5 million of hedged variable-rate mortgages remained LIBOR-based. The company noted that refinancing access, tenant creditworthiness, property values and capital-market availability could be affected by economic and rate conditions.
After quarter-end, the company acquired two Texas properties for a combined $12.0 million, sold a Pittsburgh property for $6.8 million and recorded a $3.6 million gain, and repaid $35.7 million of mortgage debt. The advisory agreement was renewed through August 31, 2024; incentive fees were contractually eliminated for Q1 and Q2 2023 and subsequently for Q3 and Q4 2023. The company is externally managed by affiliates of its chairman and CEO.
Important facts for investors to verify
- Whether cash flow, FFO and distributions support the current common and preferred stock payouts, especially given GAAP losses and higher interest expense.
- Refinancing plans and available liquidity for the $50.2 million of mortgage principal due in the rest of 2023 and the $28.6 million due in 2024; monitor the reduced credit-facility availability reported in August.
- Progress selling the six held-for-sale properties, the potential for further impairments, and leasing progress on vacant space carrying approximately $3.9 million in annual costs.
- Tenant retention and credit quality, lease expirations, and whether reported rent growth and collections persist amid office-sector weakness and tighter financing conditions.
- The effect of the depreciation revisions on future comparative reporting, and the ongoing costs and governance implications of the affiliated external-management arrangements.