Business Context and Reporting Period
Company: Commercial Net Lease Realty, Inc. (NNN REIT, Inc.)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2004
Business Overview: A fully integrated Real Estate Investment Trust (REIT) operating through two primary segments: (1) NNN, which acquires and manages single-tenant retail and office properties held for investment (352 properties as of Sept 30, 2004); and (2) Services, a taxable REIT subsidiary (TRS) that acquires and develops real estate held for sale, primarily for Section 1031 exchanges. Effective January 1, 2004, the company consolidated Services under FASB Interpretation No. 46R.
Key Financial Metrics
| Metric (in thousands) | Q3 2004 | Q3 2003 | 9 Months 2004 | 9 Months 2003 |
|---|---|---|---|---|
| Total Revenues | $33,439 | $27,780 | $96,910 | $73,868 |
| Net Earnings | $17,005 | $15,384 | $46,008 | $37,882 |
| Earnings Available to Common (Basic) | $15,585 | $14,298 | $41,746 | $34,793 |
| Diluted EPS | $0.30 | $0.32 | $0.81 | $0.83 |
| Operating Cash Flow (9 Months) | $38,336 (2004) vs $20,196 (2003) | |||
| Total Assets | $1,327,832 | $1,213,778 | (As of Sept 30, 2004 vs Dec 31, 2003) | |
| Total Liabilities | $573,099 | $482,747 | (As of Sept 30, 2004 vs Dec 31, 2003) | |
| Cash and Equivalents | $16,921 | $5,335 | (As of Sept 30, 2004 vs Dec 31, 2003) |
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 20.4% for the quarter and 31.2% for the nine months ended September 30, 2004, compared to the prior year. This was driven by a 22.5% increase in rental income due to the acquisition of 33 investment properties and the completion of one new property since September 2003.
- Discontinued Operations: Significant earnings were recognized from discontinued operations ($3.6M for Q3 2004; $7.6M for 9 months 2004), primarily from the sale of real estate held for sale and investment properties sold in prior periods.
- Debt Restructuring: In June 2004, the company issued $150 million of 6.25% notes due 2014. Proceeds were used to repay $100 million of notes due in June 2004 and pay down the revolving credit facility. This resulted in a $4.1 million gain from terminating a forward-starting interest rate swap.
- Transition Costs: The company incurred $3.3 million in transition costs for the nine months ended September 30, 2004, related to the appointment of a new CEO and the resignation of the former President/COO. No such costs were recorded in the comparable 2003 period.
- Financing Lease: In July 2004, the company sold five properties for $26 million and leased them back under a 10-year financing lease, recorded as a financing obligation rather than a sale.
Guidance, Outlook, and Risks
- Outlook: Management anticipates significant increases in rental income will continue to come primarily from additional property acquisitions over the next several years. The company maintains a 97% occupancy rate.
- Liquidity: The company has a $35 million line of credit with $8 million available as of September 30, 2004. It also has a $600 million shelf registration statement with approximately $409 million remaining available for issuance.
- Dividends: The company declared a common stock dividend of $0.325 per share in October 2004. It maintains a policy of distributing a substantial portion of funds from operations to maintain REIT status.
- Risks:
- Tenant Concentration & Bankruptcy: 2% of the portfolio is leased to three tenants who have filed for Chapter 11 bankruptcy, creating a risk of lease rejection.
- Vacancy: The company owns 15 vacant properties (3% of gross leasable area).
- Interest Rate Risk: Exposure to variable rates on the credit facility and term note, though the company uses swaps to manage this risk.
- REIT Qualification: Failure to qualify as a REIT would subject the company to regular corporate income tax rates.
Investor Verification Checklist
- Debt Maturities: Verify the repayment schedule for the $20 million variable rate term note due November 2004 and the $150 million 6.25% notes due 2014.
- Bankruptcy Exposure: Assess the financial status of the three tenants in Chapter 11 bankruptcy and the potential impact of lease rejections on future cash flows.
- Discontinued Operations: Confirm the sustainability of earnings, noting that a significant portion of net income ($7.6M for the nine months) is derived from discontinued operations (property sales) rather than recurring rental income.
- Construction Commitments: Review the remaining funding requirements for the Arlington, Virginia office buildings ($5.2M remaining) and four development properties ($4.7M remaining).
- Related Party Transactions: Review the $35 million line of credit with CNL Commercial Finance, Inc. (a related party) and the guarantee of a $15.5 million note for an unconsolidated affiliate.