EPR Properties — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Figures are unaudited. EPR is a specialty REIT focused on entertainment, recreation and education properties in the U.S. and Canada.
Business context and portfolio
At June 30, the owned portfolio totaled 21.2 million square feet and was 99% leased. Entertainment properties were 99% leased, recreation properties 100% leased and education properties 98% leased. Total assets were $6.1 billion; total investments, a company-defined non-GAAP measure, were $6.7 billion.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Total revenue | $202.9 million | $147.8 million | $357.8 million | $276.9 million |
| Net income | $91.6 million | $80.5 million | $121.1 million | $134.5 million |
| Net income per diluted common share | $1.15 | $1.02 | $1.47 | $1.78 |
| FFOAA per diluted share (non-GAAP) | $1.87 | $1.29 | $3.12 | $2.48 |
| Operating cash flow | Not separately provided for quarter | Not separately provided for quarter | $249.7 million | $194.6 million |
Q2 rental revenue was $137.0 million, up from $123.4 million. Q2 mortgage and other financing income rose to $65.2 million from $23.1 million, including $47.3 million of prepayment fees. For the first half, reported net income fell despite higher revenue, reflecting refinancing costs, impairment, higher interest and expenses, and substantially lower real estate sale gains than in 2017.
Q2 property operating expense was $7.3 million; general and administrative expense was $13.0 million; net interest expense was $34.1 million; depreciation and amortization was $37.6 million. The company reported segment net operating income before unallocated items of $195.5 million for Q2, versus $141.7 million a year earlier. Common dividends were $1.08 per share for Q2 and $2.16 for the first half, versus $1.02 and $2.04, respectively, in 2017.
Balance sheet, debt and liquidity
Debt was $2.984 billion at June 30, down from $3.029 billion at year-end 2017; 99% was unsecured. Cash and cash equivalents were only $3.0 million, with another $11.3 million restricted. The company had $970 million available under its $1.0 billion revolving credit facility and reported compliance with debt covenants.
Net debt to adjusted EBITDA was 5.6x, at the top of management’s stated 4.6x–5.6x target range. Net debt was 44% of gross assets and 37% of total market capitalization. Operating cash flow was $249.7 million; investing activities used $39.0 million and financing activities used $255.3 million in the first half. The filing states there are no debt payments due until 2022.
Material changes and unusual items
- Revenue increased year over year, aided by portfolio investments and $47.3 million in mortgage prepayment fees. The company excluded these fees from Adjusted EBITDA; their effect should not be treated as recurring operating performance.
- First-half refinancing/payoff costs were $32.0 million, primarily from redeeming $250 million of 7.75% notes due 2020, including a $28.6 million redemption premium. EPR issued $400 million of unsecured notes due 2028 at 4.95% and used net proceeds to reduce its revolver.
- A $16.5 million impairment was recorded on four Children’s Learning Adventure (CLA) development properties. Approximately $7.2 million of CLA receivables were fully reserved.
- EPR settled the Cappelli Group litigation, which had sought at least $800 million, for a $2.0 million payment and mutual releases; the case was dismissed with prejudice.
- Investment spending was $238.5 million in the first half. A $142.9 million education mortgage converted to a 23-year triple-net master lease; a $175.4 million partial repayment of an OZRE mortgage generated a $45.9 million fee.
Outlook, risks and contingencies
Management expects cash on hand, operating cash flow, revolver capacity and asset-sale proceeds to cover financial commitments and distributions, while noting there is no assurance future financing will be available on acceptable terms. Management expects its net debt-to-adjusted-EBITDA ratio to remain within 4.6x–5.6x, subject to possible temporary deviations.
CLA’s 21 operating schools were under a one-month lease at $1.0 million, expiring August 31, 2018. EPR could extend it at its discretion; otherwise CLA must vacate and EPR intends to seek replacement operators. The outcome of restructuring, re-leasing and recovery of related receivables remains uncertain. EPR also had $110.8 million of development commitments and a further $201.2 million commitment for the Sullivan County waterpark hotel and adventure park, of which $86.1 million had been funded.
Key risks include tenant defaults and concentration, consumer discretionary spending, theatre-sector conditions, development and financing risks, leverage and interest rates, and the casino/resort project. AMC generated 16.0% of first-half revenue, down from 20.8% in the comparable 2017 period. A planned acquisition of four OZRE ski properties could prompt repayment of the remaining mortgage and an estimated prepayment fee of about $15 million; timing and amount depend on closing and repayment.
The filing provides no numeric full-year earnings or FFO guidance. EPR expected to adopt the new lease accounting standard in 2019; it estimated lessee right-of-use assets and liabilities would be less than 4% of total assets based on then-current contracts, while evaluating possible gross presentation of certain tenant payments.
Important facts for investors to verify
- Whether CLA restructuring or replacement tenants are secured after the short-term lease expires, and the recoverability of the related properties and receivables.
- How much reported growth depends on nonrecurring mortgage prepayment fees, and the outcome and timing of the expected OZRE loan repayment.
- Debt leverage, refinancing capacity and funding needs for development commitments, especially the Sullivan County project.
- Tenant concentration and credit exposure, including AMC’s share of revenue and the performance of education tenants.
- Cash available for distributions and the sustainability of dividends relative to recurring operating cash flow and FFO/AFFO measures.