CSR

Business Context and Reporting Period

Company: Investors Real Estate Trust (IRET), a self-advised equity REIT focused on multi-family residential and commercial properties (office, medical, industrial, retail) primarily in the upper Midwest.

Reporting Period: First quarter of fiscal year 2010, ended July 31, 2009.

Portfolio Overview: As of July 31, 2009, the portfolio consisted of 77 multi-family properties (9,645 units) and 167 commercial properties (11.7 million square feet).

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenue increased 3.4% ($2.0 million) driven by acquisitions made in fiscal 2009, lease termination fees ($574,000), and rental income increases on stabilized properties.
• Net Income Decline: Despite revenue growth, net income decreased 12.7% due to higher operating expenses (maintenance, insurance, real estate taxes) and increased depreciation/amortization on new properties.
• Expense Trends:
  • Maintenance: Increased 3.0% ($208,000), primarily due to recurring repairs in the multi-family segment.
  • Utilities: Decreased 6.0% ($267,000) due to lower heating costs.
  • Real Estate Taxes: Increased 8.2% ($601,000) due to higher assessments on stabilized properties.
  • Insurance: Increased 29.7% ($223,000) due to higher premiums in the multi-family segment.
• Occupancy: Economic occupancy rates declined across most segments compared to the prior year (e.g., Multi-family stabilized dropped from 92.5% to 91.1%; Commercial Office from 89.1% to 88.5%).
• Capital Activity: The company completed a public offering of 3 million common shares, raising approximately $24.8 million in net proceeds. No property acquisitions or dispositions occurred during the quarter.

Outlook, Risks, and Contingencies

• Economic Outlook: Management expects continued challenges due to high unemployment and credit market stress, which may lead to increased vacancies and past-due accounts. The timing of economic recovery is considered unclear.
• Tenant Bankruptcies:
  • Smurfit-Stone Container: A top-10 commercial tenant (1.4% of commercial rents) filed for Chapter 11 bankruptcy but has assumed its leases and remains current on payments.
  • Sunwest Management: Tenants at two senior housing projects (Fox River and Stevens Point, WI) filed for Chapter 11. IRET has written off or recorded as past due approximately $1.7 million related to these projects. IRET is evaluating options to market the properties to recover investment.
• Liquidity: The company maintains $43.9 million in cash and has access to unsecured lines of credit totaling $36 million (with $11.5 million outstanding). Management is monitoring the conservatorship of Fannie Mae and Freddie Mac, which provide a majority of multi-family debt financing.
• Commitments: The company is committed to funding approximately $6.6 million in tenant improvements over the next 12 months.
• Subsequent Events: In August 2009, the company acquired a 42,180 sq. ft. industrial property in Iowa for $3.4 million and declared quarterly distributions of $0.1710 per common share/unit and $0.5156 per preferred share.

Investor Verification Checklist

• Debt Maturities: Verify the refinancing status of the $118.2 million in mortgage debt maturing in the remainder of fiscal 2010, particularly the portion dependent on Fannie Mae/Freddie Mac.
• Non-Performing Assets: Monitor the resolution of the Sunwest Management bankruptcy and the potential write-downs or recovery values for the Fox River and Stevens Point projects.
• Occupancy Trends: Track economic occupancy rates, specifically in the commercial office and multi-family segments, to assess the impact of the economic downturn on future rental revenue.
• Capital Expenditures: Review the $6.6 million commitment for tenant improvements and ensure cash flow coverage given the current economic environment.
• FFO vs. Net Income: Note the divergence where FFO increased 2.8% while GAAP Net Income decreased, driven by non-cash depreciation and amortization charges.