Realty Income Corporation — Q2 2014 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2014. The company is a REIT focused on long-term, net-leased commercial properties and monthly dividends. Interim financial statements are unaudited.
Business context and portfolio
At June 30, the portfolio comprised 4,263 properties across 49 states and Puerto Rico, with 98.3% occupancy, 228 tenants and 47 industries. Approximately 97.8% of properties were net leased; the average remaining lease term on leased single-tenant properties was about 10.6 years. Retail generated 80.2% of rental revenue. The top 20 tenants accounted for approximately 52% of annualized revenue; Walgreens was the largest at 5.2%.
Key financial metrics
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Total revenue | $228.6m | $186.4m | $450.2m | $362.0m |
| Income from continuing operations | $62.2m | $51.9m | $117.1m | $85.3m |
| Net income available to common stockholders | $51.4m | $46.0m | $98.6m | $108.7m |
| Diluted net income per share | $0.23 | $0.23 | $0.46 | $0.59 |
| FFO available to common stockholders | $142.4m | $117.6m | $276.9m | $221.3m |
| Diluted FFO per share | $0.64 | $0.60 | $1.29 | $1.20 |
| AFFO available to common stockholders | $141.2m | $115.6m | $273.8m | $219.5m |
| Diluted AFFO per share | $0.64 | $0.59 | $1.28 | $1.19 |
Six-month operating cash flow was $298.8m, versus $221.4m. Investing activities used $887.3m, principally for real estate investment of $899.4m; financing activities provided $587.2m. Cash ended the period at $8.9m. These cash-flow measures should not be conflated with FFO or AFFO, which the company identifies as non-GAAP supplemental measures.
At June 30, total borrowings were approximately $4.58bn, or 30.3% of stated market capitalization. Debt included $3.55bn of senior notes and bonds, $892.3m of mortgages, a $70.0m term loan and $70.8m drawn on the credit facility. The company had $1.43bn of available credit-facility capacity and reported compliance with debt covenants. Trailing-twelve-month debt-service coverage was 3.7x and fixed-charge coverage was 3.1x. Weighted average interest on combined borrowings was 4.7%.
Common distributions paid in the first half totaled $234.6m, about 85.7% of AFFO. The monthly common dividend increased three times in 2014; the July rate was $0.1827917 per share, equivalent to an annualized $2.1935. Preferred dividends were current.
Material changes versus comparable periods
- Revenue rose 22.6% in Q2 and 24.4% in the first half, primarily reflecting acquisitions; first-half same-store rents increased 1.4%.
- Q2 net income available to common shareholders increased, but diluted EPS was unchanged at $0.23. First-half net income and diluted EPS declined year over year, largely because first-half 2013 included $44.3m of property-sale gains. The 2013 period also included $12.6m of ARCT merger costs.
- FFO and AFFO per share increased in both comparisons. First-half 2013 FFO was presented excluding ARCT merger costs; 2013 results also include subsequent acquisition-accounting adjustments.
- Depreciation and amortization and interest expense increased, reflecting the larger portfolio and financing. The company issued $350m of 3.875% notes due 2024 and raised $528.6m net from a common-stock offering; proceeds were used to repay credit-facility borrowings.
- First-half property investment was $1.06bn across 402 properties, compared with $866.5m across 206 properties in the 2013 period, excluding the 2013 ARCT acquisition. The 2014 acquisitions were 100% leased with a 12.8-year weighted average lease term.
Outlook, commentary and risks
- Management anticipated approximately $75m of property sales for full-year 2014 and intended to reinvest proceeds where attractive acquisition opportunities were available. This is a sales expectation, not earnings guidance.
- Management stated that cash on hand, operating cash flow and credit capacity were sufficient for liquidity needs over the next 12 months. It also noted that access to acceptable long-term financing is not assured.
- Risks identified include tenant defaults, economic and competitive conditions, interest-rate movements, access to debt and equity markets, real-estate impairment, environmental liabilities, natural disasters, legal proceedings and continued REIT qualification. A 1% rate change on the June 30 credit-facility balance would change annual interest cost by about $708,000.
- The company early adopted ASU 2014-08, changing the definition of discontinued operations. Some property disposal and held-for-sale results previously classified as discontinued operations are now reported in continuing operations, limiting period-to-period comparability.
- First-half impairment provisions were $2.2m. The company also reported $41.6m of construction-contract commitments expected to be paid within 12 months and $3.9m of contingent tenant-improvement and leasing-cost payments. Management said routine legal proceedings were not expected to materially affect financial position or results.
Important facts for investors to verify
- Whether acquisition-driven revenue and per-share FFO/AFFO growth continue, and how much reflects same-store performance versus portfolio expansion.
- Tenant credit quality and concentration, particularly the top 20 tenants’ approximately 52% revenue share and retail exposure.
- Dividend coverage against AFFO and operating cash flow, alongside ongoing common and preferred distributions.
- Debt maturities, borrowing costs, covenant headroom and continued access to capital markets.
- Comparability of reported GAAP results following early adoption of the discontinued-operations accounting standard, and the effect of property-sale gains and acquisition accounting.
- Execution of the expected property dispositions and planned reinvestment, including whether realized sale prices and new acquisition yields meet management’s assumptions.