Essential Properties Realty Trust, Inc. — 2018 Form 10-K
Business context and reporting period
Annual report for the fiscal year ended December 31, 2018. Essential Properties is an internally managed net-lease REIT focused primarily on single-tenant properties leased long term to middle-market businesses in service-oriented and experience-based industries. The company completed its IPO in June 2018; therefore, 2018 was its first year as a publicly traded company, and per-share results cover only the period after the IPO. Comparisons are also affected by rapid portfolio growth.
At year-end, the portfolio comprised 677 locations across 43 states, leased to 161 tenants operating 180 concepts. It was 100% occupied, had $106.8 million of annualized base rent and a 14.2-year weighted-average remaining lease term. Service- and experience-based businesses represented 91.1% of annualized base rent.
Financial and operating metrics
| Metric | 2018 | 2017 |
|---|---|---|
| Total revenue | $96.2 million | $54.4 million |
| Rental revenue | $94.9 million | $53.4 million |
| Net income | $20.6 million | $6.3 million |
| Net income attributable to stockholders and members | $15.6 million | $6.3 million |
| FFO / AFFO | $51.0 million / $48.4 million | $21.4 million / $20.3 million |
| Net cash provided by operating activities | $45.9 million | $22.5 million |
| Net cash used in investing activities | $461.9 million | $464.4 million |
For the fourth quarter of 2018, revenue was $28.7 million and net income was $8.3 million. Reported basic and diluted EPS of $0.26 applies only to the period from June 25 through December 31, 2018; dividends declared during that period were $0.43 per share. The filing does not provide a clear standalone annual operating margin.
At December 31, gross debt was $549.1 million and net debt was $532.9 million; cash and cash equivalents were $4.2 million, with $12.0 million of restricted cash. The $300 million unsecured revolving facility had $34.0 million drawn and $266.0 million available. Net debt to annualized Adjusted EBITDAre was reported as 5.2x; the reconciliation gives annualized Adjusted EBITDAre of approximately $101.6 million, while another narrative passage cites $102.3 million.
Changes versus the prior comparable period
- Revenue rose 76.7% year over year, primarily from acquisitions; rental revenue increased $41.6 million. The portfolio expanded from 508 to 677 locations.
- Net income increased to $20.6 million from $6.3 million. Expenses also rose: interest expense to $30.2 million from $22.6 million, general and administrative expense to $13.8 million from $8.8 million, and depreciation and amortization to $31.4 million from $19.5 million.
- Real estate impairment charges increased to $4.5 million from $2.4 million. The company recorded impairments on 20 investments, compared with nine in 2017.
- Operating cash flow more than doubled. Acquisitions and other investing uses were largely offset by IPO and private-placement proceeds; financing cash flow was $412.8 million.
- The IPO and concurrent Eldridge private placement raised substantial equity. Proceeds helped repay all related-party warehouse notes, which had $230 million outstanding at year-end 2017; none remained at December 31, 2018.
Outlook, management commentary, risks and unusual items
- Management said cash from operations, available cash, the revolving facility and access to long-term debt should fund operations for the foreseeable future. It targets net debt generally below six times annualized Adjusted EBITDAre and intends to continue growing through acquisitions and sale-leasebacks. No formal earnings or acquisition guidance was provided.
- As of February 22, 2019, the company had purchase agreements for 20 properties totaling $40.1 million. It also had $19.5 million of remaining tenant development, construction and renovation funding obligations due in 2019; a separate disclosure describes $34.4 million of total commitments, of which $14.9 million had been funded by year-end.
- The principal debt refinancing exposure is the Series 2016-1 notes’ anticipated November 2021 repayment date, including a $259.5 million balloon payment. Failure to repay on schedule can increase interest and direct collateral cash flows to repayment. 2019 scheduled principal payments were $8.0 million.
- Master Trust Funding Program debt was secured by 347 properties with $609.2 million of net investments. Cash may be trapped or used for early amortization if collateral debt-service coverage falls to specified thresholds; reported 2018 coverage was 1.53x.
- Portfolio risks include tenant default or bankruptcy, reliance on unrated tenants and internal credit assessments, consumer-spending and industry exposure (including restaurants and retail), and regional concentration in the South and Midwest. Texas and Georgia contributed 12.5% and 10.8% of annualized base rent, respectively. Master leases comprise 67.4% of annualized base rent, which can magnify the effects of a tenant default across multiple properties.
- The company intends to qualify as a REIT beginning with tax year 2018; qualification is not assured. REIT distribution requirements and debt covenants may constrain retained cash and distributions. The board retains discretion over future dividends.
- During 2018 the company sold 45 properties for $60.2 million of net proceeds and reported a 3.6% gain versus gross investment. A borrower exercised an option in February 2019 requiring the company to buy nine properties for $8.2 million by March 29, 2019.
- The filing reports an earlier material weakness in internal control, identified in the predecessor’s 2016 audit, as remediated; no material weaknesses were identified in the 2017 or 2018 audits. Disclosure controls were deemed effective, but the auditor did not attest to internal-control effectiveness because of the new-public-company transition relief.
Important facts for investors to verify
- Reconcile the $101.6 million and $102.3 million annualized Adjusted EBITDAre disclosures and assess the assumptions behind the 5.2x leverage figure.
- Evaluate the ability to refinance or repay the November 2021 notes balloon, covenant headroom and potential cash trapping under the Master Trust Funding Program.
- Review tenant credit, rent coverage and exposure to top tenants, restaurants, consumer spending, and the South/Midwest concentration; reported coverage relies partly on tenant data and management estimates.
- Confirm completion and funding of the 20-property pipeline, 2019 construction commitments and the required $8.2 million property purchase.
- Assess recurring cash available for dividends, particularly since 2018 distributions were partly return of capital and operating cash flow was substantially below acquisition spending.
- Monitor REIT qualification, lease-accounting adoption effects and continued effectiveness of financial reporting controls.