COPT Defense Properties (Corporate Office Properties Trust) — Q3 2015 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2015; comparisons are with the corresponding 2014 periods. COPT is a REIT whose operating business and substantially all assets are held through Corporate Office Properties, L.P. The company focuses on office and data-center properties serving U.S. government agencies and contractors, particularly in the Greater Washington, DC/Baltimore region.
Financial and operating performance
- Revenue: Q3 total revenue was $150.7 million, down 1.5% year over year; nine-month revenue was $482.1 million, up 9.7%. Rental revenue rose 13.4% in Q3 and 8.4% year to date. Q3 construction and other service revenue fell to $17.1 million from $34.7 million; nine-month service revenue increased to $97.6 million from $80.4 million.
- Profit and earnings: Q3 operating income was $32.0 million, down from $37.4 million; nine-month operating income was $100.0 million, up from $94.5 million. Net income was $94.3 million in Q3 and $126.3 million year to date, versus $24.5 million and $39.3 million in 2014. The comparisons are heavily affected by an $85.7 million Q3 gain on early debt extinguishment in 2015; 2014 also included real-estate sale gains of $10.6 million in each comparison period. Diluted EPS was $0.91 for Q3 and $1.15 year to date, versus $0.22 and $0.24.
- Real-estate operations: Q3 real-estate NOI was $84.8 million, up from $75.4 million; nine-month NOI was $238.6 million, up from $222.6 million. Same-office NOI was nearly flat: $65.9 million in Q3 versus $65.1 million, and $192.3 million year to date versus $192.6 million. Same-office occupancy averaged 90.2% in Q3 versus 91.4%; reported portfolio occupancy at September 30 was 91.6%, compared with 90.9% at year-end 2014.
- Adjusted FFO: Diluted FFO per share, adjusted for comparability, was $0.52 in Q3 versus $0.48 and $1.49 for nine months versus $1.39. This non-GAAP measure excludes specified unusual and nonrecurring items; it should not be treated as cash flow or GAAP earnings.
- Cash flow and distributions: Nine-month operating cash flow was $147.7 million, versus $144.2 million. Investing activities used $371.3 million, principally for acquisitions and development; financing activities provided $221.3 million. Common dividends declared were $0.275 per share in Q3 and $0.825 year to date, unchanged from 2014.
- Debt and liquidity: Debt, net, was $2.121 billion at September 30, up from $1.920 billion at December 31, 2014. Cash was $3.8 million. The $800 million revolving facility had $698.2 million available. The company reported compliance with debt covenants and said liquidity was adequate for near- and longer-term needs.
Material changes, outlook, and risks
- Portfolio activity: Acquired three office properties for an aggregate stated purchase price of approximately $263.6 million, including assumed mortgage debt. Placed approximately 1.1 million square feet of new or redeveloped properties into service. Completed leasing of 11.25 megawatts at its wholesale data center; 17.8 of 19.25 megawatts were leased at period end, with additional expansion rights.
- Debt settlement and dispositions: Transferred two Northern Virginia properties securing a $150 million nonrecourse mortgage to the lender, extinguishing the debt and accrued interest and generating an $84.8 million gain. The properties were 25.1% occupied at transfer. Also sold a Northern Virginia property and land. A subsequent October 27 sale of a 397,000-square-foot property for $84 million was expected to produce an approximately $42 million gain; proceeds were intended primarily to repay revolving borrowings.
- Financing: Issued $300 million of 5.00% senior notes due 2025, with approximately $296.6 million proceeds before other offering expenses, primarily to repay revolving borrowings. Amended credit facilities, extending the revolver maturity to May 2019 and a term loan maturity to May 2020. Issued 890,241 common shares through its ATM program for $26.6 million net proceeds.
- Management outlook: No specific earnings or FFO guidance is provided. Management expected to spend more than $60 million on construction and development and approximately $25 million on operating-property improvements during the remainder of 2015. It expected to fund development with cash and revolver borrowings and improvements primarily with operating cash flow; property-sale proceeds were expected to reduce borrowings.
- Risks and obligations: Key stated risks include government shutdowns or budget reductions affecting tenant demand, real-estate and financing conditions, interest rates, development and leasing execution, joint-venture obligations, environmental matters, and equity dilution. Remaining contractual obligations included $97.9 million for development and redevelopment and $41.9 million for operating-property capital expenditures. The company estimated that a 1% increase in one-month LIBOR would have increased nine-month interest expense by $2.0 million. It reported no material litigation, no material changes to previously disclosed risk factors, and no material off-balance-sheet arrangements.
Investor facts to verify
- Separate recurring operating performance from the $85.7 million debt-extinguishment gain and other property-sale or impairment items; review adjusted FFO definitions and reconciliations.
- Assess same-office occupancy and NOI trends, regional exposure, and the occupancy and leasing economics of recently delivered and acquired properties.
- Review debt maturities, variable-rate exposure, swap positions, available revolver capacity, and the effect of the October maturity extension disclosed after quarter-end.
- Track execution and funding of development commitments, property dispositions, and the subsequent $84 million sale and estimated gain.
- Evaluate exposure to federal-government and contractor demand, including the potential effect of budget disruption or reduced government spending.