Gladstone Commercial Corporation — FY2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016; comparisons are primarily with FY2015. The filing also reports fourth-quarter results. Gladstone Commercial is an externally managed REIT focused on owning and leasing office and industrial properties, mainly under long-term net leases.
Business context and portfolio
- At year-end, the company owned 96 properties totaling 11.1 million square feet across 24 states; the portfolio was 97.9% leased, with a 7.8-year average remaining lease term.
- During 2016, it acquired three properties for $66.6 million and sold six non-core properties for $7.1 million. A further property sale in January 2017 generated $12.8 million in proceeds.
- As of February 15, 2017, following the subsequent sale, the company reported 95 properties and 10.9 million square feet.
Financial performance and liquidity
| Metric | FY2016 | FY2015 |
|---|---|---|
| Total operating revenue | $86.4 million | $83.8 million |
| Net income | $4.0 million | $3.6 million |
| Net loss attributable to common stockholders | $3.7 million; $0.16 loss per share | $1.5 million; $0.07 loss per share |
| FFO available to common stockholders | $35.6 million; $1.53 per share | $32.9 million; $1.55 per share |
| Cash provided by operating activities | $41.2 million | $31.5 million |
- Revenue rose 3.1%, mainly reflecting higher rental revenue, up 4.5%, including contributions from acquisitions. FFO available to common stockholders increased 8.3% in total, while basic FFO per share slipped 1.3%, to $1.53.
- Operating expenses increased 9.1% to $55.6 million. Depreciation and amortization were $37.5 million; impairment charges were $2.0 million, versus $0.6 million in 2015. Interest expense declined 7.5% to $25.9 million.
- Cash and cash equivalents were $4.7 million at year-end. Reported available liquidity was $42.6 million, comprising cash and $37.9 million of Credit Facility availability; facility availability was $30.8 million as of February 15, 2017.
- Mortgage notes payable had $450.2 million in principal outstanding, with a 4.7% weighted-average rate and 6.5-year weighted-average maturity. Including the Revolver and Term Loan, total debt obligations were $514.9 million. The company reported $71.7 million of variable-rate mortgage principal and $64.7 million outstanding under the Credit Facility.
- Common distributions remained $1.50 per share for the year. Basic FFO per share exceeded the common distribution by $0.03; distributions are subject to board discretion, liquidity, REIT requirements and debt covenants.
Material changes and unusual items
- Net income improved modestly, but the loss attributable to common stockholders widened as preferred and senior common distributions rose, including following issuance of Series D preferred stock.
- The company issued $115.5 million of net equity proceeds in 2016 through common and preferred offerings and ATM programs. It issued $54.7 million net from Series D direct placements and used $38.5 million to redeem all outstanding Series C preferred stock; remaining proceeds were used partly to repay debt.
- 2016 investing cash outflow was $58.7 million, chiefly for acquisitions and property improvements, partly offset by asset-sale proceeds. Financing cash inflow was $17.0 million, after equity proceeds, debt activity, distributions and the Series C redemption.
- Seven properties classified as held for sale during the year incurred $2.0 million of impairment charges. Six non-core properties were sold during 2016; the company recorded a $0.2 million net gain on real estate sales.
- Fourth-quarter 2016 revenue was $22.0 million and net income was $2.3 million; the quarter still recorded a $0.3 million loss attributable to common stockholders.
- The company early adopted ASU 2017-01 in October 2016. The new acquisition accounting treatment resulted in capitalizing costs for the King of Prussia acquisition that would otherwise have been expensed.
Outlook, commentary and risks
- Management described U.S. office and industrial leasing conditions as improved in many markets, while noting that some secondary and tertiary markets remained weaker. It also cited volatile and potentially rising interest rates, tighter lending spreads, economic uncertainty and the possibility that the real estate cycle was nearing a peak.
- Management said available liquidity was sufficient for near-term distributions, debt service and operating costs, and expected to refinance upcoming maturities using mortgage debt, Credit Facility capacity and equity issuance. These are expectations, not guarantees; no quantified earnings or FFO guidance is provided.
- Mortgage principal due in 2017 was $58.9 million and in 2018 was $46.6 million. The filing separately highlights $35.7 million of balloon payments payable during the remainder of 2017.
- Key risks include tenant defaults and lease renewals, property vacancies and re-leasing costs, concentration in a limited number of tenants and industries, refinancing and variable-rate exposure, covenant compliance, property impairments, environmental liabilities, and reliance on the external Adviser. The five largest tenants generated about 18.8% of rental income; telecommunications, healthcare and automobile tenants contributed 16.3%, 16.1% and 12.5%, respectively.
- The company was in compliance with Credit Facility covenants at December 31, 2016. The facility limits distributions to 100% of FFO. The filing reports no material legal proceedings or material off-balance-sheet arrangements.
Important facts for investors to verify
- Whether refinancing plans cover the 2017 and 2018 maturities and 2017 balloon payments on acceptable terms.
- Whether operating cash flow and FFO per share sustain the current common distribution after preferred distributions and financing needs.
- Tenant credit quality, renewal prospects and exposure to the largest tenants and concentrated industries.
- Occupancy, leasing progress on vacant space, and the costs and rents achieved on new or renewed leases.
- The impact of further equity issuance, preferred-stock obligations and potential dilution on common-stockholder returns.
- Whether assumptions behind property valuations and impairment assessments remain reasonable, particularly in non-core markets.