Kilroy Realty Corporation — FY 2013 Form 10-K
Reporting period: Year ended December 31, 2013; filed February 13, 2014. This is an annual filing, not a standalone Q4 report. The company is a REIT focused on Class A office properties on the West Coast; substantially all operations are conducted through Kilroy Realty, L.P.
Business context and operating performance
At year-end, the stabilized portfolio comprised 105 buildings, 12.7 million rentable square feet and 514 tenants, with 93.4% occupancy, up from 92.8% in 2012. The portfolio is concentrated in California and greater Seattle. The 15 largest tenants contributed 33.0% of annualized base rent; technology and media tenants represented 36%.
| Metric | FY 2013 | FY 2012 | Change / context |
|---|---|---|---|
| Total revenue | $465.1 million | $381.0 million | Up 22.1% |
| Net operating income (NOI) | $324.4 million | $269.1 million | Up 20.5% |
| Income from continuing operations | $15.8 million | Loss of $3.5 million | Improved by $19.3 million |
| Net income available to common stockholders | $30.6 million; $0.37 per share | $249.8 million; $3.56 per share | Prior year included substantially higher disposition gains |
| FFO | $218.6 million | $165.5 million | Up 32.1%; supplemental, non-GAAP measure |
| Cash from operating activities | $240.6 million | $180.7 million | Up 33.1% |
| Cash used in investing activities | $506.5 million | $706.5 million | Primarily acquisitions and development spending |
| Cash from financing activities | $284.6 million | $537.7 million | Lower equity issuance than prior year |
Revenue growth reflected acquisitions, leasing and newly stabilized properties. Same-store NOI increased 1.7%; acquisition-property NOI increased $37.2 million. NOI was approximately 69.8% of revenue, calculated from reported figures; this is a derived ratio, not a company-reported GAAP margin.
Financial position, liquidity and capital allocation
- Total assets were $5.11 billion and total debt was approximately $2.2 billion at December 31, 2013. Debt was 33.2% of market capitalization; debt plus preferred equity was 36.3%.
- Cash and cash equivalents were $35.4 million, with $49.8 million of restricted cash. The $500 million revolver had $45 million drawn and $455 million available; it matures in April 2017.
- About 91.1% of debt was fixed-rate. The reported weighted-average GAAP effective debt rate was 4.8%. A 100-basis-point LIBOR increase was estimated to add about $2.0 million to annual interest expense before capitalization.
- Approximately $265.3 million of principal was scheduled to mature in 2014, including $172.5 million of 4.25% exchangeable notes due November and $83.0 million of senior notes due August.
- Common dividends remained $0.35 per share quarterly, or $1.40 for 2013. Management said it believed it could maintain the 2013 distribution level in 2014, subject to board discretion, cash needs and REIT requirements.
- Development spending was substantial: six projects under construction represented an estimated total investment of about $1.5 billion. The company reported $558 million of remaining development and redevelopment commitments at year-end and estimated $45–$50 million of 2014 capital improvements, tenant improvements and leasing costs for stabilized properties.
Material changes and notable items
- Leasing activity totaled 2.2 million square feet in 2013. Stabilized occupancy rose 0.6 percentage points year over year. Management estimated portfolio cash rents were about 5% below current average market rents, while noting outcomes vary by property and submarket.
- The company acquired four operating office buildings for approximately $296.4 million and expanded its development pipeline. It completed the 331 Fairchild Drive development and stabilized the 3880 Kilroy Airport Way redevelopment.
- During 2013, the company issued 6.175 million common shares in a public offering, raising approximately $295.9 million net, and raised another $54.4 million net through its at-the-market program. It also issued $300 million of 3.80% senior notes due 2023.
- Three office buildings were sold for gross proceeds of approximately $56.9 million. Twelve San Diego properties were classified as held for sale at year-end; their sale closed January 9, 2014 for gross proceeds of approximately $294.7 million.
- Net income fell sharply from 2012 primarily because 2012 included $259.2 million of gains on discontinued-operation dispositions, compared with $12.3 million in 2013. The 2013 continuing-operations results included a $5.2 million property-damage settlement recorded in other property income.
- Fourth-quarter 2013 supplementary data reported revenue of $120.6 million and net income available to common stockholders of $19.3 million, or $0.23 per share; these quarterly figures are unaudited.
Outlook, risks and contingencies
Management emphasized leasing, acquisitions, development and redevelopment, and selective asset sales as growth and capital-recycling strategies. There is no explicit quantitative earnings or FFO guidance in the provided filing text. Development schedules, costs and leasing assumptions are estimates and depend on market conditions; four of the six projects under construction were fully preleased at year-end.
- Lease rollover and vacancy: 9.9% of leased square footage was scheduled to expire in 2014 and 13.3% in 2015. The filing identifies San Diego lease terminations and potential early termination as a regional concern.
- Tenant and market concentration: the largest 15 tenants contributed one-third of base rent, and technology/media tenants contributed 36%. Weakness in these tenants’ industries or regional economies could pressure occupancy, rents and collections.
- Leverage and refinancing: significant 2014 maturities, debt covenants, access to capital and refinancing terms could affect liquidity and distributions. The company reported compliance with its debt covenants at year-end.
- Development execution: delays, cost overruns, entitlement issues or slower lease-up could reduce expected returns or require impairment charges. The filing reported no impairment losses for the periods presented.
- Geographic, casualty and environmental exposure: assets are concentrated in earthquake-prone California and greater Seattle; insurance may not cover all losses. Environmental liabilities, regulation, ground leases and property taxes also pose risks.
- Tax and distribution risks: maintaining REIT status requires compliance with technical rules and distribution requirements. Some 2013 sale proceeds were intended for Section 1031 exchanges; the company cautioned that qualification and reinvestment cannot be assured.
The company and Operating Partnership reported effective disclosure controls and internal control over financial reporting. Deloitte & Touche issued unqualified opinions on the financial statements and internal controls. The filing reported no legal proceeding believed likely to have a material adverse effect and no off-balance-sheet arrangements as of year-end.
Most important facts for investors to verify
- Whether the 2014 debt maturities were refinanced or repaid, and the resulting borrowing cost and leverage.
- Progress, total costs, preleasing and occupancy for the six development projects and the $558 million of remaining commitments.
- Actual renewal, termination and re-leasing outcomes for 2014–2015 expirations, particularly in San Diego.
- Cash flow and distribution coverage after development, tenant-improvement and leasing expenditures; FFO is not a substitute for GAAP income or cash available for distribution.
- Proceeds, use of proceeds and tax treatment from the January 2014 San Diego property sale and related Section 1031 exchanges.
- Tenant concentration, property insurance coverage and any new environmental, casualty or litigation exposures.