SAUL CENTERS, INC. annual report, FY2013

Saul Centers, Inc. — 2013 Form 10-K

Reporting period: Fiscal year ended December 31, 2013; comparisons are primarily with fiscal 2012. Saul Centers is a REIT focused on owning, managing and developing neighborhood and community shopping centers and mixed-use properties, primarily in the Washington, D.C./Baltimore region. At year-end, its portfolio comprised 50 shopping centers and six mixed-use properties, totaling approximately 9.3 million square feet, plus three development parcels.

Financial performance and position

Metric	2013	2012
Total revenue	$197.9 million	$190.1 million
Operating income	$35.3 million	$35.1 million
Net income	$34.8 million	$39.8 million
Net income available to common shareholders	$11.7 million; $0.57 per diluted share	$18.2 million; $0.93 per diluted share
FFO available to common shareholders	$64.7 million; $2.37 per share	$60.1 million; $2.26 per share
Cash from operating activities	$73.5 million	$78.4 million
Cash and cash equivalents at year-end	$17.3 million	$12.1 million
Notes payable at year-end	$820.1 million	$827.8 million

• Revenue increased 4.1%; base rent rose 4.7% to $159.9 million. Same-property revenue increased 4.2% and same-property operating income rose 4.4%.
• Operating margin was approximately 17.8%, compared with 18.5% in 2012. Operating income was nearly flat as operating expenses grew 4.9%, including higher depreciation and Park Van Ness predevelopment costs.
• Net income declined 12.4%. Common-shareholder net income and diluted EPS also fell, reflecting the $5.2 million preferred-stock redemption charge, as well as the absence of 2012 property-sale gains. FFO, a non-GAAP measure, increased 7.6%.
• Operating cash flow decreased about 6.2%. Investing activities used $26.0 million, principally for capital improvements, development and a retail-pad acquisition. Financing activities used $42.3 million.
• Debt was predominantly fixed-rate: $789.9 million fixed-rate and $30.2 million variable-rate, with a 5.53% weighted-average rate and 9.8-year weighted-average maturity. The company reported that debt to management-estimated asset value was below its 50% policy limit and that it complied with its credit covenants.
• Liquidity included $17.3 million cash and approximately $164.2 million available under the $175 million revolving credit facility. Contractual obligations totaled $1.28 billion, including scheduled debt interest and principal, balloon payments, development obligations and leases.
• The common dividend remained $1.44 per share for the year. 2013 common and operating-partnership distributions totaled $39.2 million; preferred distributions totaled $14.6 million. The company reported that 67% of the common dividend was taxable dividend income and 33% return of capital.

Material changes and notable items

• Same-property portfolio leasing increased to 93.9% from 92.6%; shopping-center leasing was 94.5% and mixed-use commercial leasing was 90.5%. Average shopping-center base rent was $18.27 per square foot, up from $17.96.
• The company issued $135.2 million net proceeds of 6.875% Series C preferred stock, then redeemed 60% of its 8% Series A and all of its 9% Series B preferred stock. Year-end preferred stock was $180.0 million.
• 2013 refinancing included new fixed-rate, 15-year mortgages for Hampshire Langley, Beacon Center and Seabreeze Plaza. The Seabreeze refinancing resulted in a $497,000 early-extinguishment loss. Two property loans totaling approximately $30.2 million remained variable-rate.
• Park Van Ness redevelopment began after the existing building was vacated and demolition commenced. The planned project comprises 271 apartments and approximately 9,000 square feet of retail; expected cost is approximately $93 million, excluding land and predevelopment costs. A $71.6 million construction-to-permanent loan partially finances the project; completion was expected in late 2015.
• Depreciation and deferred-leasing-cost amortization increased 22.5%, largely because the former Van Ness Square building’s useful life was reduced to four months in connection with redevelopment. Predevelopment expense rose to $3.9 million, including lease-termination and demolition-related costs.

Outlook, risks and contingencies

• Management described retail sales and leasing activity as stabilizing or improving, but noted rents remained under pressure, vacancies remained above pre-recession levels in some submarkets, and retailers remained cautious. Office demand was affected by uncertainty about federal spending.
• Management expects to continue Park Van Ness redevelopment and evaluate other redevelopment, expansion and acquisition opportunities. No quantified earnings or revenue guidance was provided; acquisition opportunities were described as uncertain given limited quality supply and elevated pricing.
• Key risks include tenant defaults or bankruptcies, lease renewals and re-leasing on less favorable terms, anchor-tenant concentration, interest-rate and refinancing exposure, development cost and lease-up risk, and economic weakness in the company’s concentrated regional markets. Giant Food accounted for 4.8% and Safeway 2.6% of 2013 revenue.
• The Saul Organization and affiliated insiders hold significant influence; the filing describes potential conflicts involving shared services, related-party arrangements and allocation of investment opportunities. Related-party shared-service charges were $6.3 million in 2013.
• In February 2014, the company received a $1.85 million termination fee for a 50,000-square-foot Seven Corners lease. The fee was expected to be recognized in first-quarter revenue, partly offset by approximately $950,000 of foregone rental revenue in 2014 while long-term re-tenanting continued.
• Management said pending ordinary-course litigation was not expected to have a material adverse effect and reported no impairment losses for 2011–2013. Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting.

Important facts for investors to verify

• Whether reported leasing gains translate into rent growth and sustained same-property operating income, particularly as leases expire.
• Park Van Ness total cost, loan funding and construction/lease-up progress against the late-2015 completion expectation.
• Debt maturities, balloon payments, covenant headroom and refinancing terms, including the company’s asset-value leverage calculation and exposure to variable rates.
• Dividend coverage using recurring cash flow and FFO, while distinguishing FFO from GAAP earnings and cash available for distributions.
• Tenant concentration, regional exposure, related-party charges and governance safeguards surrounding the Saul Organization.
• The economics and long-term occupancy outlook for the Seven Corners replacement tenant and re-leasing plan.