American Assets Trust, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. American Assets Trust is a REIT operating through its consolidated Operating Partnership and owned or controlled 28 retail, office, multifamily, and mixed-use properties. Unless noted, amounts below are in millions of dollars.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Total revenue | $84.1 | $85.0 | $169.4 | $165.8 |
| Property operating income (NOI) | $53.0 | $55.5 | $108.5 | $107.3 |
| Operating income | $24.5 | $17.2 | $53.3 | $30.2 |
| Net income | $11.9 | $4.4 | $27.2 | $3.7 |
| Net income attributable to AAT stockholders | $8.9 | $3.1 | $20.0 | $2.6 |
| Diluted EPS | $0.18 | $0.07 | $0.41 | $0.06 |
| FFO attributable to common shares and units | $33.8 | Not provided | $69.5 | Not provided |
Q2 property operating income was about 63% of revenue; the six-month ratio was about 64%. FFO per diluted share/unit was $0.51 for Q2 and $1.06 for the six months. Dividends declared were $0.28 per share in Q2 and $0.56 for the first half, versus $0.27 and $0.54 in the comparable 2018 periods.
- Cash flow: First-half operating cash flow was $70.2, down from $82.3. Investing used $550.1, mainly reflecting the La Jolla Commons acquisition; financing provided $477.1, primarily from the public offering. Cash, cash equivalents, and restricted cash totaled $54.5 at period-end, including $44.8 unrestricted cash.
- Debt and liquidity: Debt carrying value was approximately $1.302 billion: $162.4 secured notes, $1,045.9 unsecured notes, and $93.5 on the unsecured line of credit. The $350 million revolver had $95 million drawn at June 30, leaving approximately $255 million undrawn. The company reported compliance with debt covenants. AAT, Inc. itself holds no debt; debt is held by the Operating Partnership.
- Margins and leasing: Six-month same-store NOI increased 5%; retail redevelopment same-store NOI increased 3.9%. At June 30, occupancy/percentage leased was 97.5% retail, 93.7% office, 92.6% multifamily, and 98.2% for the retail portion of mixed-use.
Material changes versus comparable periods
- Q2 revenue decreased 1%, while rental income rose 4%; the decline reflected lower other property income, particularly the absence of prior-year office lease-termination fees. Q2 NOI fell 5%, mainly due to those prior-period fees and the expired Kmart lease, partly offset by rental growth.
- First-half revenue increased 2% and NOI increased 1%. Retail same-store NOI benefited from lease-termination income associated with the former Sears ground lease at Carmel Mountain Plaza; office results were affected by prior-year termination fees and higher rents at certain properties.
- Net income rose substantially year over year, in part because depreciation and amortization was lower by $10.3 in Q2 and $23.0 for the first half. Management attributed the comparison to unusually higher prior-year depreciation at Waikele Center and, for the first half, accelerated depreciation related to lease terminations at Lloyd District Portfolio.
- On June 20, AAT acquired La Jolla Commons, two San Diego office towers totaling approximately 724,000 square feet, an entitled development parcel, and parking structures. The stated purchase price was approximately $525 million before seller credits and closing costs. The property contributed $1.2 million revenue from acquisition through quarter-end and reported an operating loss of $0.8 million for that period.
- On June 14, the company issued 10.925 million shares in an underwritten offering, generating approximately $472.6 million net proceeds. It also sold Solana Beach–Highway 101 for approximately $9.4 million net proceeds and recorded a $0.6 million gain.
Outlook, risks, and unusual items
- Management said it remained cautiously optimistic about leasing trends and expected second-half 2019 leasing volume to be in line with historical averages, with overall positive rental income increases. This is not a quantified earnings or FFO forecast; management cautioned that individual lease increases may be positive or negative and signed leases may not commence or collect as expected.
- Q2 comparable office leases showed average rent increases of 17.5% cash and 26.7% GAAP; comparable retail leases showed increases of 3.1% cash and 12.5% GAAP overall. New comparable retail leases had rent decreases, while renewals increased. Office tenant improvements and incentives for comparable new leases averaged $74.15 per square foot.
- Management may pursue future development phases at Lloyd District Portfolio and La Jolla Commons, subject to market conditions and acceptable risk-adjusted returns. It warned that development, redevelopment, and acquisition plans may not proceed as intended; in deteriorating markets, it could delay projects, limit acquisitions, reduce spending, or reassess dividends.
- Key exposures include economic and real-estate-market conditions, tenant defaults or nonrenewals, interest rates and operating costs, financing availability, development execution, REIT qualification, and geographic and sector concentration. Fourteen properties were in Southern California; retail and office tenants represented 32.6% and 34.2% of first-half revenue, respectively.
- Environmental groundwater remediation continues at Del Monte Center, with monitoring expected for five to seven years; the company believes the seller-funded escrow is sufficient but could face additional costs. Potential Embassy Suites franchise termination payments could be as high as $7.6 million in specified circumstances. Management said pending legal matters were not expected to have a material adverse effect, while noting litigation uncertainty.
- The company adopted lease accounting standard Topic 842 on January 1, 2019, recognizing approximately $7.7 million of right-of-use assets and lease liabilities. After quarter-end, the Operating Partnership issued $150 million of 3.91% senior guaranteed notes due July 30, 2030. A treasury lock settled July 17 with an approximately $0.5 million gain to be amortized to interest expense over ten years.
Most important facts for investors to verify
- La Jolla Commons’ lease-up, operating performance, purchase-price assumptions, and potential future development requirements.
- Whether same-store rental growth and management’s expected leasing trends persist, particularly given the expired Kmart lease and the effect of lease-termination income on comparisons.
- Capital needs, revolver usage, debt maturities and interest-rate exposure, and the effect of future equity or debt financing on leverage and per-share results.
- The sustainability of dividends relative to operating cash flow, capital expenditures, tenant improvements, and required REIT distributions.
- Progress and potential cost exposure for Del Monte Center remediation, hotel franchise obligations, and other disclosed contingencies.