NNN REIT, INC. annual report, FY2016

NNN REIT, Inc. (formerly National Retail Properties, Inc.) — Fiscal 2016 Form 10-K

Business context and reporting period

The filing covers the fiscal year ended December 31, 2016, with fourth-quarter information included in the annual filing. NNN is a fully integrated equity REIT focused primarily on acquiring, developing, owning and leasing single-tenant retail properties under long-term net leases.

Portfolio: 2,535 properties totaling approximately 27.2 million square feet across 48 states.
Occupancy: approximately 99% leased at year-end; weighted-average remaining lease term of 11.6 years.
2016 acquisitions: 313 properties; $846.9 million invested; initial cash yield of 6.9%.
2016 dispositions: 38 properties; $103.2 million of net sales proceeds; $27.2 million gain after tax.

Financial performance and key metrics

Metric	2016	2015	Change
Revenues from continuing operations	$533.6 million	$482.9 million	+10.5%
Net earnings attributable to NNN	$239.5 million	$197.8 million	+21.1%
Net earnings attributable to common stockholders	$200.9 million	$162.4 million	+23.7%
Diluted earnings per share	$1.38	$1.20	+15.0%
FFO available to common stockholders	$330.5 million	$289.2 million	+14.3%
Common dividends per share	$1.78	$1.71	+4.1%
Cash flow from operating activities	$415.3 million	$341.1 million	+21.8%
Total assets	$6.33 billion	$5.46 billion	+16.0%
Total debt	$2.31 billion	$1.98 billion	+17.0%

Operating earnings were $309.1 million, implying an operating margin of approximately 57.9%. Net earnings attributable to NNN imply a margin of approximately 44.9%, while FFO was approximately $2.29 per diluted common share based on the reported FFO and diluted share count. These are derived metrics and may not be directly comparable with non-GAAP measures reported by other REITs.

Rental income increased 10.9% to $516.0 million, primarily from the 2016 and 2015 acquisitions.
Operating expenses increased 15.6% to $224.6 million, led by higher depreciation and amortization and impairment charges.
Interest expense increased 7.0% to $96.4 million.
Cash and cash equivalents increased to $294.5 million from $13.7 million.
Capital expenditures and acquisitions drove investing cash outflows of $779.9 million, funded substantially through debt and equity financing.

Debt, liquidity and capital resources

Total outstanding debt was $2.31 billion, consisting of $2.30 billion of unsecured notes and $13.9 million of mortgages payable.
Debt represented approximately 30% of gross assets before accumulated depreciation and amortization and approximately 22% of total market capitalization.
Secured debt was less than 1% of gross assets.
The $650 million unsecured revolving credit facility had no balance outstanding at year-end and $650 million available, excluding $230,000 of undrawn letters of credit. The facility matures in January 2019, with an extension option to January 2020.
2016 financing included $350 million of 3.6% notes due 2026, $345 million of Series F preferred stock, and $265.7 million of net proceeds from the at-the-market common equity program.
Contractual obligations totaled approximately $2.95 billion, including $2.34 billion of debt principal and $606.1 million of stated-rate interest. Debt principal maturities include $250.5 million in 2017 and $300.6 million in 2021.
NNN reported compliance with its credit facility and note covenants at December 31, 2016.

Material changes versus the prior comparable period

The property portfolio expanded from 2,257 to 2,535 properties, and gross leasable area increased from 25.0 million to 27.2 million square feet.
Revenue, operating cash flow, net earnings and FFO all increased, primarily due to acquisitions and rent growth under existing leases.
Debt increased by approximately $335.7 million, while equity also increased through common and preferred stock issuances.
Real estate impairment charges increased to $8.0 million from $4.0 million, and commercial mortgage residual-interest impairment increased to $6.8 million from $0.5 million.
Five of seven commercial mortgage residual-interest securitizations were subject to clean-up calls, substantially reducing the residual-interest balance from $11.1 million to $36,000.
Common dividends increased for the 27th consecutive year, from $1.71 to $1.78 per share.
NNN issued $345 million of Series F preferred stock in October 2016. Series D preferred stock was called for redemption in January 2017.

Guidance, outlook, commentary and risks

Management expects future rental-income growth to come primarily from additional property acquisitions and contractual rent increases. The filing does not provide a specific quantitative earnings, FFO or acquisition outlook.

Management expects operating cash flow, available liquidity, property dispositions and future debt or equity issuance to fund dividends, acquisitions, development, capital expenditures and debt obligations.
NNN has committed $114.2 million for construction on 21 properties, of which $59.4 million remained unfunded at year-end.
Management announced a planned leadership transition: CEO and Chairman Craig Macnab was to retire effective April 28, 2017, with President and COO Julian Whitehurst becoming President and CEO.
Key risks include tenant defaults or bankruptcies, retail-sector disruption and e-commerce, geographic and industry concentration, interest-rate changes, capital-market access, refinancing of balloon maturities, property impairments, vacancies and declining re-leasing rates.
Five tenants generated approximately 20.1% of annual base rent; five retail lines of trade generated approximately 48.6%; and five states generated approximately 43.6%. Texas alone represented 18.4% of annual base rent.
NNN reported 27 vacant properties at year-end and less than 1% of gross leasable area leased to tenants with Chapter 11 bankruptcy petitions as of January 31, 2017.
As of February 6, 2017, 76 properties were subject to some level of environmental remediation or monitoring. Environmental insurance covering substantially all properties was scheduled to expire in August 2018.
Subsequent events included the planned redemption of Series D preferred stock and entry into a $125 million forward-starting interest-rate swap in February 2017.
Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded that disclosure controls and internal controls were effective.

Most important facts for investors to verify

Whether the approximately 99% occupancy rate and 11.6-year lease term remain stable as leases expire and tenants face retail-sector pressure.
Tenant, industry and geographic concentration, particularly exposure to convenience stores, restaurants, Texas and the five largest tenants.
Debt-refinancing plans for the $250.5 million of 2017 maturities and later balloon payments, including the 2019 revolving-credit-facility maturity.
Coverage of common and preferred dividends by recurring operating cash flow and FFO after acquisitions, development commitments and debt service.
Actual performance and funding requirements for the $59.4 million of remaining construction commitments.
Environmental remediation obligations, insurance renewal terms and potential uninsured liabilities.
Effects of the Series D redemption, the leadership transition and any subsequent equity or debt issuance on per-share results.