Essential Properties Realty Trust, Inc. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. The company was formed in January 2018 and completed its IPO in June; reported 2018 results consolidate the company and its predecessor, so comparisons with 2017 are not fully like-for-like.
Business context
The company owns and manages primarily single-tenant, long-term net-leased properties serving middle-market, service-oriented and experience-based businesses. At September 30, 2018, its portfolio comprised 634 investment locations, plus 11 properties securing mortgage loans, across 42 states. Management reported 99.8% occupancy, $99.8 million of annualized base rent, a 14.3-year weighted-average remaining lease term, and 92.4% of annualized rent from triple-net leases.
Financial results and liquidity
Amounts below are in millions except per-share data. Results are consolidated unless otherwise noted.
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Total revenue | $25.7 | $13.6 | $67.6 | $37.0 |
| Net income | $7.7 | $0.5 | $12.3 | $3.2 |
| Net income attributable to stockholders and members | $5.3 | $0.5 | $9.8 | $3.2 |
| Basic and diluted EPS | $0.12 | Not presented comparably | Not presented | Not presented |
| FFO attributable to stockholders, members and non-controlling interests | $15.8 | $4.6 | $33.6 | $14.1 |
| AFFO attributable to stockholders, members and non-controlling interests | $15.6 | $4.7 | $31.5 | $13.6 |
| Cash NOI | $23.2 | $12.7 | $61.0 | $33.7 |
- Revenue and earnings: Q3 rental revenue rose 89.9% to $25.5 million; nine-month rental revenue rose 85.9% to $67.1 million. Management attributed growth primarily to acquisitions. Interest expense was $6.6 million in Q3 and $23.5 million for nine months.
- Expenses and impairments: Nine-month depreciation and amortization increased to $22.8 million from $13.2 million. Impairment charges rose to $3.5 million from $1.4 million, affecting 16 properties versus six in the prior-year period.
- Cash flow: Nine-month operating cash flow was $28.8 million versus $16.3 million. Investing cash outflow was $371.7 million, including $386.8 million for real estate investments; financing cash inflow was $397.6 million, principally reflecting equity proceeds and repayment of related-party debt.
- Balance sheet and debt: Total assets were $1.355 billion and total equity $814.9 million at September 30. Secured borrowings had $517.1 million principal outstanding ($507.5 million net of financing costs); there were no related-party notes outstanding. Net debt was $443.0 million, compared with $733.5 million at year-end 2017. Cash and cash equivalents were $73.3 million, with $0.8 million restricted cash.
- Liquidity: The company had a $300 million senior unsecured revolving credit facility, undrawn at quarter-end. Management said cash, operating cash flow, the facility and access to debt capital should fund operations and current commitments for the foreseeable future. No formal earnings or acquisition guidance was provided.
Material changes and outlook
- The June IPO and concurrent private placements raised substantial equity; the company also issued additional shares in July. By September 30, it reported that IPO proceeds had been deployed, including repayment of $334 million of related-party notes and real estate investments.
- The portfolio expanded from 508 investment locations at December 31, 2017 to 634 at September 30, 2018. During the first nine months, the company acquired 165 properties for approximately $401.1 million, including acquisition costs.
- Management reported $47.6 million of 26 properties under contract as of November 5, subject to due diligence and customary closing conditions. It also expected to fund the remaining portion of approximately $22.7 million of construction financing and reimbursement commitments by December 31, 2019.
- The board declared a $0.224 per-share dividend; $14.1 million was payable at quarter-end and was paid October 12, 2018. Management intends to qualify as a REIT for 2018 and notes that REIT qualification generally requires distributing at least 90% of REIT taxable income.
- Secured debt bears a weighted-average fixed rate of 4.35%. The Series 2016-1 notes have a November 2021 anticipated repayment date, including a substantial balloon payment; failure to repay on schedule can trigger increased interest. The revolver carries floating-rate exposure if drawn.
Risks, contingencies and unusual items
- Tenant defaults, lease renewals and re-leasing, property values, acquisition availability, access to capital, interest rates, and the company’s ability to qualify as a REIT are identified risks. The top ten tenants generated 35.0% of annualized base rent; the largest tenant contributed 5.3%.
- One mortgage borrower may require the company to purchase nine secured properties for $8.2 million during an option window in January–February 2019. The company also disclosed construction funding and tenant reimbursement commitments.
- There were no material legal proceedings pending or known to be contemplated, and the company reported no known environmental condition expected to have a material adverse effect.
- Adoption of the new lease standard is scheduled for January 1, 2019. The company was evaluating presentation changes that could increase reported revenue and property expense by showing certain tenant-paid costs gross; it did not expect this presentation change to affect net income or cash flow.
- FFO, AFFO, NOI, Cash NOI and EBITDA measures are non-GAAP measures and should not be viewed as substitutes for GAAP earnings or operating cash flow.
Important facts for investors to verify
- How much of reported revenue and earnings growth reflects acquisitions rather than comparable-property performance, and how much is attributable to gains on dispositions or other non-recurring items.
- Tenant credit quality and rent coverage, especially among the largest tenants and concentrated industries or states; monitor occupancy, collections and impairment trends.
- Capacity to manage the 2021 anticipated repayment/balloon and other debt obligations, including covenant headroom, debt-service coverage and refinancing access.
- Whether the stated acquisition pipeline and construction commitments are completed on expected terms, and the impact on leverage, returns and liquidity.
- Progress toward REIT qualification and the implications of required distributions for internally funding growth.