Kilroy Realty Corporation (KRC) — Q1 2015 Form 10-Q
Business context and reporting period
For the three months ended March 31, 2015. Kilroy is a REIT focused on owning, developing, acquiring and managing primarily Class A office properties in coastal West Coast markets. The company owns approximately 98% of Kilroy Realty, L.P., which conducts substantially all operations. Financial results below are consolidated; amounts are in U.S. dollars.
Financial and operating performance
| Metric | Q1 2015 | Q1 2014 |
|---|---|---|
| Total revenue | $146.1 million | $123.8 million |
| Income from continuing operations | $44.0 million | $10.9 million |
| Net income available to common stockholders | $39.9 million | $96.5 million |
| Diluted EPS | $0.45 | $1.14 |
| Funds from Operations (FFO) | $91.5 million | $57.2 million |
| Cash from operating activities | $55.0 million | $45.1 million |
| Cash and cash equivalents at period end | $50.2 million | $95.5 million |
Revenue increased 18.0%. Net Operating Income (NOI), a company-defined non-GAAP measure, rose 23.0% to $107.6 million. Same-store NOI increased 6.3%; stabilized development and redevelopment properties added $11.9 million of NOI and acquired properties added $3.4 million. End-of-quarter stabilized portfolio occupancy was 96.1%, versus 94.4% at December 31, 2014. The company reported a $0.35 common dividend per share.
At March 31, total assets were $5.73 billion and total debt was approximately $2.43 billion in gross principal. Debt included $507.6 million secured debt, $1.79 billion unsecured debt and $130 million drawn on the revolving credit facility. The $600 million revolver had $470 million available. Debt was 86.8% fixed-rate; management reported compliance with covenants. Gross debt maturities included $325 million of unsecured notes due November 2015.
Material changes versus the prior comparable period
- Common-stockholder net income and EPS declined from Q1 2014 because that period included $90.1 million of gains on dispositions reported in discontinued operations. Q1 2015 included a $17.3 million gain on a land sale. Excluding the land gain, income from continuing operations before the gain was $26.7 million, versus $10.9 million in Q1 2014.
- Comparability is also affected by adoption of new discontinued-operations guidance: the ten properties held for sale at quarter-end remain in continuing operations under the new rules, while prior-period property sales remain in discontinued operations.
- Operating cash flow increased $9.9 million. Investing activities used $77.3 million, compared with $97.3 million provided in Q1 2014, when disposition proceeds were substantially higher. Financing activities provided $48.7 million, primarily reflecting $113.2 million of net ATM equity proceeds.
- At-the-market issuance during the quarter sold 1.51 million shares at a weighted-average $76.09, raising $113.2 million net and increasing shares outstanding. The program had $175.3 million of gross capacity remaining at quarter-end.
Outlook, management commentary and risks
- Management described West Coast markets as strengthening, with rental growth and leasing demand supported particularly by technology, media, life sciences and other regional industries. Portfolio cash rents were estimated to be about 10% below current average market rents; future re-leasing rates are not assured.
- Six development projects under construction were 85% pre-leased and had an estimated total investment of approximately $1.1 billion. About $654.5 million had been incurred and $338 million remained committed. Management estimated a further $50–$75 million of potential 2015 development spending beyond amounts committed at quarter-end, subject to market conditions and project approvals.
- The company expected to sell the remaining six properties held for sale in Q2 2015 for aggregate gross proceeds of approximately $309.2 million. Four properties had sold after quarter-end: a San Diego tranche for approximately $95 million on April 15 and a Redmond property for $51.2 million on April 28. Including the quarter’s $26 million land sale, management said expected 2015 asset sales of $335.2 million were within its initial $250–$400 million capital-recycling target.
- Management believed liquidity sources would meet projected needs for the next twelve months, but noted refinancing and capital access could be affected by economic or credit-market weakness, tenant defaults, weaker office demand, lower rents or property values, and credit-rating changes. The $325 million November 2015 debt maturity, development spending and lease-up execution are notable funding considerations.
- Quarter-end commitments included $338 million for development projects and approximately $412.6 million for operating and redevelopment property contracts and executed leases, excluding ground leases. Environmental remediation liabilities of approximately $16.1 million were accrued for certain development acquisitions; possible additional costs were not reasonably estimable. Routine litigation was disclosed, with no material adverse outcome identified by management.
- No specific full-year earnings or FFO guidance was provided. Management said it believed it could maintain 2015 distributions at current levels, subject to board discretion, REIT requirements and business conditions; a special dividend may be considered if disposition gains cannot be deferred through Section 1031 exchanges.
Important facts for investors to verify
- Progress and final proceeds from the remaining property sales, and whether the dispositions produce taxable gains or qualify for Section 1031 treatment.
- Refinancing or repayment plans for the $325 million November 2015 notes and compliance with debt covenants as development commitments come due.
- Development budgets, delivery schedules, leasing and stabilization of the six projects under construction, including the additional potential 2015 spending.
- Whether occupancy, rental-rate growth and leasing spreads persist, especially as leases representing 7.1% of stabilized occupied space expire during the remainder of 2015.
- Any additional environmental remediation costs beyond the $16.1 million accrued, and the effect of ATM share issuance and distributions on per-share results and capital needs.