COPT Defense Properties (Corporate Office Properties Trust) — Q2 2019 Form 10-Q
Business context and reporting period
Quarter ended June 30, 2019; comparisons are with Q2 and the first six months of 2018. COPT is a REIT whose operating business is conducted through Corporate Office Properties, L.P. The company focuses on office and data-center properties, primarily serving U.S. government, defense and information-technology tenants. At quarter-end, its portfolio included 169 properties totaling 18.9 million square feet, plus a wholesale data center.
Financial and operating performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Total revenue | $175.1 million | $146.7 million | $324.0 million | $302.2 million |
| Net income | $109.6 million | $21.1 million | $131.9 million | $39.9 million |
| Net income attributable to COPT common shareholders | $106.8 million | $19.4 million | $127.7 million | $36.6 million |
| Diluted EPS | $0.95 | $0.19 | $1.15 | $0.36 |
| Net cash from operating activities | Not reported separately for the quarter | Not reported separately for the quarter | $111.8 million | $80.7 million |
| Diluted FFO per share | $0.52 | $0.51 | $1.02 | $1.00 |
| Diluted FFO per share, adjusted for comparability | $0.52 | $0.51 | $1.03 | $1.01 |
Q2 net income included an $84.5 million gain from selling a 90% interest in seven Virginia data-center shell properties; the gain substantially drove the increase in reported earnings. Lease revenue was $131.4 million in Q2, up from $127.9 million. Real-estate NOI was $86.1 million, versus $80.9 million; same-property NOI increased to $73.3 million from $72.0 million. Approximate real-estate NOI as a share of real-estate revenue was 64.9% in Q2, compared with 62.6% in Q2 2018; this is a supplemental, non-GAAP operating measure.
Six-month investing cash flow was a $13.6 million use, while financing cash flow was a $59.4 million use. Cash and cash equivalents were $46.3 million at June 30, versus $8.1 million at December 31, 2018; cash plus restricted cash totaled $50.7 million. Construction, development and redevelopment spending was $219.6 million for the six months.
Balance sheet, debt and liquidity
- Total assets were $3.80 billion and total liabilities were $2.05 billion at June 30, 2019.
- Net debt carrying value was $1.784 billion, down from $1.824 billion at year-end 2018. The reported debt fair value was $1.826 billion. Debt included $450.2 million of variable-rate obligations; the revolving credit facility had $637.0 million of availability under its $800 million commitment.
- Interest expense was $18.5 million for Q2 and $37.1 million for the six months, modestly below the respective prior-year periods. Management reported compliance with debt covenants.
- Operating cash flow covered distributions only in part: common-share dividends paid were $61.0 million in the first half, compared with $111.8 million of operating cash flow. COPT paid a $0.275 per-share dividend for Q2.
Material changes, outlook and risks
- Total revenue rose 19% in Q2, largely because construction and other service revenue increased to $42.3 million from $17.6 million. Management said these activities generally have small margins; Q2 service NOI was $1.3 million.
- Occupancy was 92.7% at quarter-end, versus 93.0% at December 31, 2018. Same-property average occupancy was 92.0%, up from 90.9%. The wholesale data center was 82.1% leased, down from 87.6%; management expected it to decline to about 77% by year-end, based on tenant discussions.
- During the first half, 787,000 square feet of new or redeveloped space was placed in service; the completed properties were 100% leased at quarter-end. The company expected to spend approximately $190 million on construction and development and $45 million on operating-property improvements and leasing costs in the remainder of 2019.
- COPT expected a fourth-quarter 2019 sale of controlling interests in two Virginia data-center shells for approximately $67 million. It also reported $174.0 million of remaining development and redevelopment obligations and $51.8 million of tenant and other capital-improvement obligations at quarter-end.
- Key risks include government budget reductions, shutdowns or delayed demand; development costs, timing and leasing risks; access to financing and interest-rate changes; and joint-venture risks. The filing specifically highlights uncertainty around LIBOR’s expected transition after 2021. A 1% increase in applicable LIBOR would have increased first-half interest expense by an estimated $1.0 million.
- Lease-accounting guidance adopted January 1, 2019 added right-of-use assets and lease liabilities and changed certain revenue and leasing-cost presentations. The filing provides no clear numerical earnings guidance.
- A July 31, 2019 amendment to the Series I preferred-unit terms reduced the priority return from 7.5% to 3.5% beginning September 23, 2019 and changed redemption provisions. This occurred after the reporting date.
Important facts for investors to verify
- Separate recurring operating performance from the $84.5 million property-sale gain; compare FFO and same-property NOI as well as GAAP net income.
- Track occupancy, leasing and the expected decline in wholesale data-center utilization, along with completion and lease-up of development projects.
- Monitor debt maturities, revolving-credit availability, variable-rate exposure, derivative fair values and the LIBOR transition.
- Assess whether operating cash flow and financing sources can support planned development spending, distributions and capital improvements.
- Review the expected sale of the two data-center properties, contractual commitments and the amended Series I preferred-unit redemption terms.