COPT Defense Properties (Corporate Office Properties Trust) — Q1 2019 Form 10-Q
Business context and reporting period
Quarter ended March 31, 2019. COPT is a REIT whose operating business is conducted primarily through Corporate Office Properties, L.P. The company owns, manages, leases and develops office and data-center properties, with much of its portfolio serving U.S. government, defense and information-technology tenants. At quarter-end it reported 165 properties totaling 18.3 million square feet, plus a 19.25-megawatt wholesale data center.
Financial performance and liquidity
- Total revenue was $148.9 million, down 4.2% from $155.5 million. Real-estate operating revenue rose to $132.0 million from $128.3 million, while construction and other service revenue fell to $17.0 million from $27.2 million.
- Net income increased 18.8% to $22.3 million from $18.8 million. Net income attributable to COPT common shareholders was $20.9 million; diluted EPS was $0.19 versus $0.17.
- Real-estate NOI was $83.8 million, up $5.2 million from $78.5 million. Same-property NOI increased to $74.9 million from $73.2 million; same-property occupancy averaged 92.6%, up 1.2 percentage points year over year. FFO per diluted share was $0.50 versus $0.49; adjusted FFO per diluted share was $0.50 versus $0.50.
- Cash from operations was $54.7 million, compared with $26.2 million. Investing used $121.2 million, mainly for construction, development and redevelopment; financing provided $66.3 million. Cash and restricted cash ended at $11.8 million.
- Debt, net, was $1.876 billion, up from $1.824 billion at year-end 2018. Cash and cash equivalents were $7.8 million. The $800 million revolving facility had $538 million available. The company reported compliance with debt covenants and investment-grade ratings for COPLP.
- Interest expense was $18.7 million, slightly below $18.8 million a year earlier. Total assets were $3.776 billion and total liabilities were $2.092 billion at March 31.
Material changes and operating developments
- Lower construction-service activity reduced revenue, but those services have low margins; service NOI declined to $0.6 million from $1.0 million. Management attributed the lower activity to reduced tenant construction projects.
- Same-property NOI growth and newly placed-in-service properties supported stronger real-estate NOI. COPT placed 181,000 square feet into service during the quarter; the three properties were fully leased at quarter-end.
- Portfolio occupancy was 92.6%, down from 93.0% at December 31, 2018. The wholesale data center was 87.6% leased. The quarter included 956,000 square feet of leasing activity.
- Cash from operations rose year over year largely because 2018 included payment of construction costs on a contract the customer had prefunded in prior years. Investing cash use increased $86.4 million, primarily from higher development spending.
- COPT issued 1.6 million shares under forward equity agreements for $46.5 million net proceeds, used primarily to repay revolving-credit borrowings that had funded development. No capacity remained under those forward agreements; $300 million of gross capacity remained under the at-the-market program.
- Adoption of new lease accounting guidance added right-of-use assets and lease liabilities. The filing says non-incremental leasing costs are no longer deferred, contributing to higher general, administrative and leasing expense.
Outlook, risks and contingencies
- Management expected to spend approximately $240 million on construction and development and $55 million on operating-property improvements and leasing costs during the remainder of 2019. It expected to raise at least $200 million from property-interest sales during that period, using proceeds to repay borrowings and fund construction and development.
- Management stated available operating cash flow and revolver capacity were adequate for near- and longer-term needs without requiring property sales, while also describing the anticipated property-interest sales noted above. No earnings or FFO guidance was provided in the supplied filing text.
- Risks include government shutdowns, budget reductions or delays that could affect government-related rents and leasing; development delays, cost overruns or tenant non-occupancy; financing and interest-rate exposure; joint-venture risks; dilution from equity issuance; cybersecurity; environmental requirements; and REIT tax compliance.
- A 1% increase in LIBOR would have increased quarterly interest expense by approximately $0.5 million based on quarter-end variable-rate debt and swaps. Derivatives were a net liability of about $9.3 million at fair value; a $9.4 million other comprehensive loss on derivatives reduced comprehensive income in the quarter.
- Management reported no material litigation, no material change to previously disclosed risk factors, no material off-balance-sheet arrangements, and no expected funding under the National Business Park North tax-incremental-financing shortfall obligation. It considered potential losses from ordinary-course claims reasonably possible but not expected to materially affect financial position, liquidity or results.
Important facts for investors to verify
- Whether expected 2019 property-interest sales of at least $200 million are completed and at what valuation.
- Leasing, occupancy and rent trends, particularly in Defense/IT locations and the Regional Office portfolio, and the effect of government budget or shutdown activity.
- Development spending, project delivery and lease-up progress against the $240 million remainder-of-2019 construction and development expectation.
- Debt maturities, revolver usage, interest-rate exposure and continued covenant compliance.
- The sustainability of FFO growth given the decline in construction-service revenue, dilution from share issuance and the difference between FFO and cash available for distributions.