Empire State Realty OP, L.P. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017; comparisons are with the corresponding 2016 periods. The partnership owns and operates office, retail, and Empire State Building observatory properties in Manhattan and the greater New York metropolitan area. Its portfolio comprised 10.1 million rentable square feet.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Total revenue | $177.1 million | $165.8 million | $342.1 million | $322.9 million |
| Operating income | $51.4 million | $44.2 million | $88.1 million | $78.3 million |
| Net income | $31.4 million | $24.6 million | $50.5 million | $41.3 million |
| Net income attributable to common unitholders | $31.1 million | $24.4 million | $50.0 million | $40.9 million |
| Basic and diluted earnings per unit | $0.10 | $0.09 | $0.17 | $0.15 |
| Core FFO attributable to common stockholders (non-GAAP) | $73.2 million | $64.8 million | $134.5 million | $122.9 million |
Revenue rose 6.8% in Q2 and 5.9% for the first half; common-unit net income rose 27.5% and 22.4%, respectively. Operating margins, calculated as operating income divided by revenue, were approximately 29.0% versus 26.6% in Q2 and 25.8% versus 24.2% for the first half. Rental revenue increased 7.3% in Q2 and 4.6% year to date, primarily from higher rents and occupancy. Observatory revenue increased 6.7% in Q2 and 3.6% for the first half. Six-month other revenue and fees included $8.8 million of lease cancellation income, contributing to the year-over-year increase.
Cash flow, debt, and liquidity
- Six-month operating cash flow was $87.4 million, down from $92.1 million. Investing cash outflow was $105.2 million, versus $74.0 million, principally reflecting increased building and tenant-improvement spending. Financing cash outflow was $95.6 million, versus $29.3 million, reflecting higher distributions and net mortgage repayments.
- Cash and cash equivalents were $441.0 million at June 30, 2017, down from $554.4 million at year-end 2016. The company also reported $68.0 million of restricted cash. The $1.1 billion revolving credit facility was undrawn, with the full amount available at period end.
- Total debt principal was approximately $1.59 billion; the balance-sheet carrying amount was $1.58 billion. Weighted-average interest rate was 3.96%, weighted-average maturity 6.5 years, and net debt to total market capitalization approximately 15.5%. The company reported covenant compliance.
- Excluding scheduled amortization, approximately $262.2 million of debt matures in 2018 and $250.0 million in 2019. Management said it expected to refinance the 2018 maturity, citing current liquidity and preliminary lender discussions.
- Distributions paid during the first half totaled $63.4 million. The declared Q2 dividend was $0.105 per share.
Portfolio, developments, and material changes
- At quarter end, the total portfolio was 89.2% occupied and 91.3% leased including signed leases not yet commenced. Manhattan office occupancy was 88.3%; retail occupancy was 95.9%; and the Empire State Building was 92.1% occupied.
- During Q2, 51 leases covering 329,866 square feet were signed, with a reported 31.0% portfolio-wide mark-to-market rent increase over previous fully escalated rents. Manhattan office new leases represented 208,594 square feet and a 49.9% increase on that basis.
- The company began a multi-year Empire State Building capital project, including a new dedicated observatory entrance on 34th Street. It anticipates investing approximately $40 million to $50 million annually over the following three years; Q2 expenditures were $6.9 million. Separately, first-half property capital expenditures were $55.5 million, excluding tenant improvements and leasing commissions.
- Five mortgage refinancings occurred during the quarter, including a $180 million First Stamford Place refinancing. These transactions extended maturities on the refinanced loans. Total estimated tenant-improvement and related commitments under signed leases were $52.5 million at June 30.
Outlook, risks, and contingencies
- No specific earnings or FFO guidance was provided. Management expects positive operating cash flow and identifies cash, operations, debt issuance, mortgage financing, and unused revolving-credit capacity as liquidity sources.
- Management expects redevelopment and repositioning to support longer-term occupancy and rent growth, while acknowledging that renovation and tenant relocations may reduce occupancy in the short term.
- Observatory results depend on tourism, ticket pricing, seasonality, competition, and weather. First-half visitors fell 4.4% year over year, while revenue rose 3.6%; the filing cites more bad-weather days and a favorable ticket mix and pricing. Observatory activity is seasonal, with the third quarter typically the largest revenue period.
- Broadcasting revenues face industry and spectrum-auction uncertainty. Four radio broadcasters renewed long-term leases and licenses; Ion Television will vacate at the end of 2017, and negotiations with other broadcast tenants continued.
- A pending arbitration by former Empire State Building investors alleges fiduciary-duty and related claims concerning the offering and formation transactions. The respondents deny the allegations and intend to defend vigorously; additional hearings were scheduled for November 2017. The filing does not quantify potential exposure.
- Interest-rate, leasing, tenant-default, capital-market, development, operating-cost, environmental, and real-estate-market risks remain relevant. The company reported $790 million aggregate swap notional and estimated that a 1% increase in short-term rates would increase interest expense by approximately $2.6 million based on variable-rate debt balances.
Important facts for investors to verify
- Whether occupancy and signed leasing activity translate into commenced leases, sustained rent growth, and improved property cash flows.
- How much of the first-half revenue growth, particularly the increase in other revenue, is recurring versus lease cancellation income and other nonrecurring items.
- Refinancing terms and funding plans for the 2018 and 2019 maturities, alongside the impact of capital projects and $52.5 million of signed-lease commitments on liquidity.
- Progress, timing, and total cost of the Empire State Building project, and its eventual effect on observatory operations and retail value.
- Developments in the former-investor arbitration and broadcasting tenant renewals, including the departure of Ion Television.