CSR

Business Context and Reporting Period

Company: Investors Real Estate Trust (IRET), operating as a self-administered, externally managed equity REIT and UPREIT.
Reporting Period: Fiscal year ended April 30, 2003.
Business Overview: IRET owns and operates income-producing real estate, primarily in the upper Midwest (Minnesota and North Dakota). The portfolio consists of multi-family residential properties (64 properties, 8,227 units) and commercial properties (125 properties, 6.1 million sq. ft.). The company has shifted its acquisition strategy significantly toward commercial properties, which now represent 56.6% of the portfolio by investment value.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenue increased 31.0% to $120.8 million, driven primarily by the acquisition of 64 new properties (mostly commercial) and the merger with T.F. James Company, rather than organic rent increases.
• Portfolio Shift: Commercial properties now comprise 59% of real estate investments (up from 49% in 2002), while residential dropped to 41%. Approximately 90.4% of acquisitions in the last 24 months were commercial.
• Expense Increases: Operating expenses rose significantly due to new acquisitions and higher costs on existing assets:
  • Real estate taxes increased 49.8% ($4.5 million increase).
  • Maintenance expenses increased 64.3% ($4.7 million increase).
  • Utility expenses increased 54.3% ($2.8 million increase).
• Net Income Dilution: Despite revenue growth, net income per share decreased from $0.42 to $0.38. This was caused by uninvested cash from a prior equity offering, increased minority interest allocations, and higher operating costs.

Guidance, Outlook, and Risks

• Acquisition Outlook: Management anticipates acquiring $100 million to $200 million of real estate assets annually, subject to capital availability. Pending acquisitions totaling $22.5 million were identified as of year-end.
• Vacancy Risks: Economic vacancy increased for both stabilized residential (5.9% to 7.8%) and commercial (0.9% to 4.7%) properties. Approximately 16.1% of commercial square footage leases expire in the next 12 months.
  • Bankruptcy Exposure: Three properties leased to Fleming Companies, Inc. (Chapter 11 filer) are at risk. Fleming has until September 30, 2003, to accept or reject leases. One location has been assumed by Roundy's Inc.
• Geographic Concentration: 81.5% of commercial revenue comes from Minnesota and 10.2% from North Dakota. The North Dakota economy is described as depressed with little prospect for improvement, posing a risk to residential occupancy.
• Interest Rate Risk: $23.2 million (4.3%) of mortgage debt is variable rate. A 1% increase in rates would increase annual interest expense by $2.3 million.
• Related Party Transactions: Significant acquisitions and management contracts involve affiliates of Board members (e.g., Steven B. Hoyt, Charles Wm. James), including the acquisition of the Brenwood Office Complex and management of various commercial buildings.

Investor Verification Checklist

• Occupancy Trends: Verify if the trend of increasing vacancies in stabilized properties continues into fiscal 2004, particularly in North Dakota and the Minneapolis commercial market.
• Fleming Bankruptcy Resolution: Monitor the outcome of Fleming Companies' lease decisions for the three affected properties (Rochester, Forest Lake, Pine City) by September 2003.
• Capital Deployment: Confirm the speed at which the company deploys cash raised from equity offerings to avoid further dilution of earnings per share.
• Related Party Valuations: Review the independent appraisals and terms for recent acquisitions from Board affiliates (e.g., Brenwood Office Complex, Thresher Square) to ensure fair value.
• Debt Refinancing: Assess the ability to refinance $15.1 million of debt maturing in fiscal 2004 and $18.5 million in fiscal 2005 on favorable terms.