Business Context and Reporting Period
Company: Agree Realty Corporation (REIT)
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Quarter and nine months ended September 30, 2007
Business Overview: Agree Realty is a self-administered REIT focused on owning, developing, and managing retail properties net-leased to national tenants. As of September 30, 2007, the portfolio consisted of 61 properties (49 freestanding, 12 shopping centers) totaling approximately 3.4 million square feet, with a 99.7% occupancy rate. Approximately 89% of annualized base rent is derived from national tenants, with the top three tenants (Borders, Walgreens, Kmart) accounting for 67% of rent.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2007 | Nine Months Ended Sep 30, 2007 |
|---|---|---|
| Total Revenues | $8,449,704 | $25,290,722 |
| Net Income | $3,613,244 | $10,821,455 |
| Earnings Per Share (Diluted) | $0.47 | $1.41 |
| Funds from Operations (FFO) | $5,169,702 | $15,473,329 |
| Net Cash Provided by Operating Activities | N/A (Quarterly not provided) | $15,709,932 |
| Cash and Cash Equivalents | $146,354 | $146,354 |
| Total Debt (Mortgages + Notes) | $76,574,292 | $76,574,292 |
| Dividend Declared Per Share | $0.49 | $1.47 |
Note: Total Debt includes $46,424,292 in Mortgages Payable and $30,150,000 in Notes Payable (Credit Facility and Line of Credit).
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 4% ($336k) for the quarter and 3% ($737k) for the nine months compared to the prior year periods. This was driven by new developments (Walgreens in Livonia, MI; Capital Plaza, MI) and acquisitions (Rite Aid, MI).
- Profitability: Net income increased 6% ($207k) for the quarter and 5% ($566k) for the nine months. Income from operations rose due to higher rental income, partially offset by increased interest expense.
- Expense Trends:
- Interest Expense: Increased 11% ($123k) for the quarter and 5% ($159k) for the nine months due to higher borrowings for development and acquisitions.
- General & Administrative (G&A): Decreased 4% ($40k) for the quarter and 5% ($141k) for the nine months, primarily due to reduced legal, auditing, and contracted service costs.
- Land Lease Payments: Decreased 14% in both periods following the purchase of the fee interest in land at the Lawrence, Kansas property.
- Cash Flow: Net cash provided by operating activities increased to $15.7 million for the nine months ended Sep 30, 2007, compared to $14.7 million in the prior year. Net cash used in investing activities increased significantly to $10.7 million (vs. $4.2 million) due to real estate acquisitions.
Outlook, Risks, and Management Commentary
- Development Pipeline: The company announced two new development projects in October 2007 (Marion County, FL and Shelby Township, MI) with budgeted costs of $6.0 million total, expected to complete in Q2 2008. Four other projects were under construction as of September 30, 2007.
- Liquidity: The company maintains a $50 million Credit Facility (matures Nov 2009) and a $5 million Line of Credit. As of September 30, 2007, $30.15 million was outstanding under these facilities. Management believes cash flow from operations and credit facilities are sufficient to fund operations and dividends for the next 12 months.
- Recent Transactions: In October 2007, the company sold its interest in a land contract to a national home improvement superstore, realizing a gain of approximately $1.5 million. The company plans to defer recognition of this gain for tax purposes under Section 1031.
- Regulatory Risks: New Michigan tax laws (Business Tax Act and Services Tax) enacted in 2007 take effect in late 2007/early 2008. Management notes substantial uncertainty regarding the applicability of these laws to its transactions.
- Internal Controls: Management identified a material weakness in internal controls regarding the segregation of duties in financial reporting, as the CFO is the sole employee with significant GAAP knowledge and controls the general ledger. Consequently, disclosure controls were deemed ineffective as of September 30, 2007.
Investor Verification Checklist
- Internal Control Weakness: Verify the status of remediation efforts regarding the lack of segregation of duties in financial reporting.
- Tenant Concentration: Assess the risk associated with the top three tenants (Borders, Walgreens, Kmart) comprising 67% of annualized base rent.
- Debt Maturity & Rates: Review the $30.15 million in variable-rate debt (Notes Payable) and its sensitivity to interest rate changes (10% adverse change estimated to increase interest expense by $196k).
- Michigan Tax Impact: Monitor the final impact of the new Michigan Business Tax Act and Services Tax on future operating expenses.
- Development Funding: Confirm the availability of the $50 million Credit Facility to fund the $4.7 million in remaining construction costs and new $6.0 million development projects.