NNN

Business Context and Reporting Period

Company: National Retail Properties, Inc. (NNN REIT, Inc.)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2009
Business Overview: NNN is a fully integrated Real Estate Investment Trust (REIT) owning and managing single-tenant retail properties leased under long-term net leases. Operations are divided into two segments: Investment Assets (operating leases, mortgages, residual interests) and Inventory Assets (properties held for sale).

Key Financial Metrics

Note: Q2 2008 and YTD 2008 figures have been restated to reflect the adoption of FSP APB 14-1 regarding convertible debt accounting.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues from continuing operations increased 4.1% in Q2 2009 and 5.6% YTD 2009 compared to the prior year. This was driven by rental income from properties acquired in 2008 and lease termination fees ($2.2M in Q2 2009).
• Earnings Decline: Net earnings attributable to NNN decreased 7.9% in Q2 2009 and 12.6% YTD 2009. The decline is attributed to higher real estate expenses, impairment charges, and restructuring costs, partially offset by gains on debt extinguishment and note foreclosures.
• Impairments: The company recorded $1.1M in real estate impairment charges for the quarter and YTD 2009, compared to none in the same periods of 2008.
• Restructuring: $0.7M in restructuring costs were incurred YTD 2009 due to workforce reductions, with no comparable costs in 2008.
• Debt Reduction: Interest expense decreased 5.2% in Q2 2009 and 4.9% YTD 2009, primarily due to the repurchase of convertible notes and a lower weighted average interest rate on the Credit Facility (1.19% vs 3.99% in 2008).

Outlook, Risks, and Unusual Items

• Unusual Items:
  • Gain on Note Foreclosure: $1.0M gain recognized in Q2 2009 from acquiring 12 auto service businesses following a tenant default.
  • Gain on Extinguishment of Debt: $1.0M gain in Q2 2009 and $3.4M YTD 2009 from repurchasing convertible notes at a discount.
  • Discontinued Operations: Significant earnings from discontinued operations ($3.0M in Q2 2009) related to the sale of Investment and Inventory properties.
• Bankruptcy Risks:
  • Uni-Mart: A major tenant (Uni-Mart) filed for Chapter 11. NNN recorded $3.4M in rent settlement income YTD 2009. Most properties have been re-leased or subleased.
  • Titlemax: Another tenant (Titlemax) filed for Chapter 11 in April 2009. Management does not believe this will have a material adverse effect.
• Liquidity: Cash and cash equivalents decreased to $1.6M at period end. The company maintains a $400M Credit Facility with $378M available. Management expects to fund obligations through operations, the Credit Facility, and asset dispositions.
• Dividends: Common dividends declared were $0.375 per share for July 2009 (payable August 2009). Series C Preferred dividends remain at $0.9218 per share.

Investor Verification Checklist

• Occupancy Rates: Verify the current occupancy rate of the Investment Portfolio (94% as of June 30, 2009) and the status of the 33 vacant properties.
• Tenant Bankruptcy Exposure: Confirm the re-leasing status of properties affected by Uni-Mart and Titlemax bankruptcies and the stability of sublease rents.
• Debt Maturity Profile: Review the maturity schedule of the $1.01B debt, specifically the $340M in convertible notes and the $22M line of credit.
• Impairment Trends: Monitor future quarters for additional real estate impairment charges given the economic environment.
• DRIP Compliance: Note the disclosure regarding the inadvertent sale of shares under an expired registration statement for the Dividend Reinvestment Plan (DRIP) in Q2 2009.