ONE LIBERTY PROPERTIES INC quarterly report, Q2 FY2015

Business Context and Reporting Period

One Liberty Properties, Inc. is a self-managed REIT that owns and manages retail, industrial, flex, health and fitness, and other properties, many under long-term net leases. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2015; amounts below are in millions unless stated otherwise. The company owned 118 properties in 30 states and reported approximately 98.8% occupancy by square footage.

Financial Performance and Position

Rental income rose 7.5% in Q2 and 4.1% for the half year, primarily reflecting acquired properties. Total revenue increased only 0.7% in Q2 and 3.5% for the half year, partly because lease termination fees were lower than in 2014. Operating expenses increased 12.2% in Q2 and 11.7% for the half year, outpacing revenue; operating margin was approximately 50.2% in Q2 versus 55.3% a year earlier, and 49.5% for the half year versus 53.2%.

Six-month earnings included a $5.4 million gain on the Cherry Hill property sale and a $960,000 purchase-price fair-value adjustment when the company took control of its Lincoln, Nebraska joint venture property. The sale also involved $568,000 of debt prepayment costs, including a $472,000 swap termination charge. These items helped lift reported six-month net income; FFO excludes the property-sale gain and fair-value adjustment.

Cash from operating activities was $14.5 million for the six months, compared with $16.5 million in 2014. Investing activities used $35.0 million, including $31.7 million of real estate purchases and $12.7 million invested in unconsolidated joint ventures, partly offset by $16.0 million of sale proceeds. Financing activities provided $17.3 million. Cash and cash equivalents were $17.1 million at June 30, down from $20.3 million at year-end.

At June 30, total assets were $624.6 million and total liabilities were $365.0 million. Mortgages payable were $302.3 million and the revolving credit line balance was $30.3 million. At August 3, the company reported approximately $50.0 million of available liquidity, including $8.2 million of cash net of its required deposit balance and $41.8 million available under the credit facility. The $75 million facility matures December 31, 2018; its first-half average interest rate was approximately 1.93%, and the company was in covenant compliance at June 30. Mortgage debt had a 4.84% weighted-average fixed rate after swaps and a 9.4-year weighted-average remaining term. The common dividend declared was $0.39 per share for Q2 and $0.78 per share for the first half.

Material Changes, Outlook, and Risks

• During the first half, the company acquired five properties or interests for an aggregate $37.8 million, including the purchase of its partner’s interest in the Lincoln property. It also invested through a 50%-owned joint venture in a New Jersey retail center purchased for approximately $43.5 million.
• In January, a consolidated joint venture sold the Cherry Hill property for approximately $16.0 million net of closing costs, generating the $5.4 million gain. A Georgia property was acquired by its mortgagee in a foreclosure proceeding.
• After quarter-end, the company purchased a 294,000-square-foot industrial property in McCalla, Alabama, for $16.8 million, net leased through 2022. Also after quarter-end, a Philadelphia Pathmark tenant filed for Chapter 11 and moved to reject its lease. It represented approximately 1% of first-half rental income; mortgage debt on the property was $4.6 million. The company said it was seeking a replacement tenant.
• Management expects operating cash flow to fund substantially all operating needs, including dividends and mortgage amortization. It generally intends to refinance or extend mortgages maturing in 2016–2017, but provides no assurance of success. Scheduled mortgage amortization and maturities from July 2015 through 2019 total $101.2 million, including $66.2 million due at maturity.
• Key stated business risks include tenant payment and lease-renewal risk, difficulty acquiring accretive properties, retail-sector exposure to e-commerce, and refinancing and interest-rate risk. A 100-basis-point increase in rates was estimated to raise annual interest cost on the credit line by approximately $302,500 at its June 30 balance. The company uses swaps to hedge mortgage-rate exposure; potential changes in swap fair value would not affect net income or cash under the sensitivity analysis presented.
• The company’s land positions beneath apartment complexes in Georgia and Illinois are subordinated to the operators’ mortgages. The stated maximum exposure to loss on these identified interests was $16.5 million at June 30. The filing provides no specific earnings guidance.

Important Facts for Investors to Verify

• Whether the Pathmark lease rejection proceeds and whether a replacement tenant can be secured without a material rent or occupancy impact.
• The final purchase-price allocations for first-half acquisitions, which were preliminary, and the operating contribution and financing of the post-quarter Alabama acquisition.
• The refinancing or repayment plan for the $66.2 million of mortgage maturities due through 2019, especially the 2016–2017 maturities, and continued compliance with credit-facility covenants.
• The sustainability of the $0.78 first-half dividend relative to cash generation and AFFO; AFFO is a non-GAAP measure and does not represent cash available for all capital needs or distributions.
• Tenant concentration, lease expirations, and potential losses on the subordinated ground-lease land positions and interest-rate swaps.