Business Context and Reporting Period
Corporate Office Properties Trust (COPT), a REIT, and its operating partnership, Corporate Office Properties, L.P. (COPLP), filed this combined unaudited Form 10-Q for the quarter ended September 30, 2013. The company focuses on office and data-center properties serving U.S. government agencies and defense contractors, primarily in the Washington, D.C./Baltimore region. COPLP conducts substantially all operations; COPT is its general partner.
At quarter-end, the portfolio included 210 operating office properties totaling 19.2 million square feet, 1.3 million square feet under construction or committed for construction, and a wholesale data center with 9 megawatts operating.
Financial Results and Key Metrics
- Third-quarter revenue: $136.0 million, up 4.9% from $129.6 million a year earlier. Operating income was $21.3 million versus an $8.9 million operating loss, while consolidated net loss was $2.0 million. Net loss attributable to COPT common shareholders was $7.5 million, or $0.09 per share, compared with a $27.5 million loss, or $0.39 per share.
- First nine months: Revenue was $407.2 million, up 4.7% from $389.0 million. Operating income rose to $99.6 million from $60.4 million; consolidated net income was $8.9 million versus $1.3 million. COPT common shareholders had a net loss of $11.7 million, or $0.14 per share, versus a $14.1 million loss, or $0.20 per share.
- Property performance: Nine-month real estate NOI was $238.3 million, up from $236.2 million. Same-office occupancy averaged 90.4%, versus 88.7%; period-end portfolio occupancy was 88.5%, versus 87.8% at December 31, 2012. The company completed 2.7 million square feet of leasing and renewed 68.6% of lease expirations.
- FFO: Diluted FFO per share was $0.48 for the quarter versus $0.52; nine-month diluted FFO per share was $1.18 versus $1.65. Adjusted diluted FFO per share was $0.49 and $1.49, respectively, compared with $0.53 and $1.60 in 2012.
- Cash flow and investment: Nine-month operating cash flow was $107.0 million, down from $139.7 million. Investing cash flow was negative $186.8 million, including $156.8 million for construction, development and redevelopment. Cash and cash equivalents were $27.3 million at quarter-end, up from $10.6 million at year-end 2012.
- Debt and liquidity: Debt, net, was $2.135 billion, up from $2.019 billion at year-end 2012. The $800 million revolving facility had $798.9 million available. Total assets were $3.756 billion and total equity was $1.434 billion. The company reported compliance with debt covenants.
- Distributions: The quarterly common dividend was $0.275 per share, unchanged from 2012; nine-month declared dividends were $0.825 per share.
Material Changes Versus the Prior Comparable Period
- Revenue growth and higher same-office occupancy supported improved operating income. Lower impairment charges also contributed: operating impairment losses were $16.3 million in Q3 2013 versus $46.1 million in Q3 2012, and $16.3 million for the first nine months versus $41.3 million.
- Nine-month interest expense fell to $66.9 million from $71.9 million, reflecting lower average debt balances. However, the company recorded a $27.0 million nine-month loss on early debt extinguishment, primarily from repaying $239.4 million principal amount of exchangeable notes; $25.9 million of the loss related to that repayment.
- Cash from operations declined partly because of debt-repayment-related cash costs and timing of construction-service collections and payments. Investing cash flow worsened mainly because property-sale proceeds fell substantially from 2012.
- Capital structure changed materially: COPT issued $118.1 million net proceeds from a common-share offering and $38.5 million through its ATM program, redeemed $84.8 million of Series J preferred shares, issued $350 million of 3.60% notes due 2023 and $250 million of 5.25% notes due 2024, and repaid most of its exchangeable notes.
- The filing revises certain 2012 comparative amounts for prior-period errors and reclassifications. In particular, nine-month 2012 net income is presented as $1.3 million versus a previously reported $1.9 million loss; the filing describes the underlying adjustments and classifications.
Outlook, Risks, Contingencies and Unusual Items
- Management said liquidity and capital resources were adequate for near- and longer-term needs, without requiring property sales; it nevertheless expected continued sales under its Strategic Reallocation Plan. No specific earnings or FFO guidance was provided.
- The company expected to convey 14 operating properties securing a $146.5 million non-recourse loan to the lender, because property cash flows were expected to be insufficient for debt service. Conveyance was expected in stages in Q4 2013 and Q1 2014. It recognized $10.4 million of impairment and expected an approximately $70 million gain on extinguishment, subject to completion and final accounting. Two additional properties securing another non-recourse loan were expected to be conveyed in 2014.
- Development commitments remained significant: nine construction projects and two redevelopments were estimated to require $113.4 million of remaining costs through 2015. The company expected to spend more than $50 million on construction and development and about $20 million on operating-property improvements during the rest of 2013.
- Risks include federal budget reductions, government shutdowns or impasses affecting strategic tenants and demand; development execution and leasing; property dispositions and impairments; interest rates and refinancing; and joint-venture partner obligations. Management reported no material change to previously disclosed risk factors.
- Contingencies include guarantees tied to a joint venture’s debt, with maximum potential exposure of approximately $64 million plus interest and penalties (subject to an 80% indemnity from a partner affiliate), environmental indemnities, and a $2.5 million estimated tax-increment financing obligation. Management said routine litigation and environmental matters were not expected to materially affect financial position, operations or liquidity.
Most Important Facts for Investors to Verify
- Whether and when the 14-property conveyance is completed, the loan is extinguished, and the projected gain is recognized; also verify the status of the separate two-property loan.
- Whether occupancy, leasing, and same-office NOI trends continue, particularly given government-related tenant exposure and the portfolio’s development pipeline.
- Debt maturities, refinancing plans, interest-rate exposure, and continued covenant compliance; the filing anticipated refinancing 2014 balloon maturities.
- Actual costs, leasing and funding needs for committed development and property improvements, alongside operating cash flow and planned asset sales.
- The assumptions behind property impairment valuations and the implications of the revised 2012 comparative figures.