Hudson Pacific Properties, Inc. annual report, FY2017

Hudson Pacific Properties, Inc. — 2017 Form 10-K Summary

Reporting period: Fiscal year ended December 31, 2017; filed February 15, 2018. The filing reports full-year results, with selected fourth-quarter figures noted below. Hudson Pacific is a REIT operating primarily through Hudson Pacific Properties, L.P. and focuses on office and media and entertainment real estate in California and the Pacific Northwest.

Business context and portfolio

At year-end, the portfolio comprised 54 properties totaling approximately 14.5 million square feet: 51 office properties (approximately 13.3 million square feet) and three media and entertainment properties (approximately 1.2 million square feet), including redevelopment, development and held-for-sale assets.
In-service office properties were 92.1% leased including signed but uncommenced leases (90.3% excluding those leases). Stabilized office occupancy was 96.7%; same-store media and entertainment occupancy averaged 90.7% for 2017.
Approximately 90% of properties were in California. Technology and media and entertainment tenants accounted for approximately 34% and 16% of rentable square feet, respectively.

Financial and operating performance

Metric	2017	2016	Change
Total revenue	$728.1 million	$639.6 million	+13.8%
Income from operations	$136.6 million	$89.4 million	+52.8%
Net income	$94.6 million	$43.8 million	+116.1%
Net income attributable to common stockholders	$67.6 million; $0.44 per diluted share	$27.2 million; $0.25 per diluted share	Higher earnings
Property NOI (non-GAAP)	$474.6 million	$410.9 million	+15.5%
FFO to common stockholders and unitholders (non-GAAP)	$306.1 million	$261.2 million	+17.2%
Cash from operating activities	$293.0 million	$226.8 million	+29.2%

Full-year revenue growth reflected rent increases and lease-up, the 2016 acquisitions, commencement of Netflix’s lease at ICON, and the 2017 acquisition of Sunset Las Palmas Studios. Same-store NOI grew 9.7%; total NOI growth also included non-same-store properties. Interest expense rose 18.4% to $90.0 million. Gains on real estate sales were $45.6 million versus $30.4 million in 2016, contributing materially to GAAP net income. Calculated from reported totals, NOI was approximately 65% of revenue and operating income approximately 19%; these are simple ratios, not company-reported margin measures.

Q4 2017: Revenue was $189.3 million, operating income $43.8 million, net income $48.9 million, and net income attributable to common stockholders $32.5 million, or $0.21 per basic and diluted share.
Liquidity and debt: Year-end cash and cash equivalents were $78.9 million, with $22.4 million of restricted cash. Gross notes payable were $2.439 billion and notes payable, net, were $2.421 billion. Debt and Series A preferred units were approximately 31.2% of total market capitalization, as calculated by the company.
The $400 million unsecured revolving facility had $100 million drawn and $300 million available at year-end. The company reported covenant compliance and no off-balance-sheet arrangements. A further $100 million was drawn in January 2018; the Rincon Center mortgage was repaid in full on February 1, 2018.
Operating, investing and financing cash flows were respectively $293.0 million, negative $333.0 million and positive $33.2 million. The company declared $1.00 per common share for 2017, up from $0.80 in 2016.

Material changes, transactions and outlook

Acquisitions totaled $253.2 million in 2017, led by Sunset Las Palmas Studios for $200 million, plus the remaining land interest at 11601 Wilshire and an adjacent parcel. The company sold three office-property groups for gross proceeds of $436.8 million; the Pinnacle I and II sale included the purchasers’ assumption of $216 million in secured debt. These dispositions generated $45.6 million of gains.
Four additional properties were classified as held for sale at year-end, with stated gross sale prices totaling $254.8 million. Embarcadero Place and 2600 Campus Drive building 6 were sold in January 2018; the filing expected the other two sales to close during the first quarter of 2018.
Financing included $400 million of 3.95% senior notes due 2027. Proceeds and sale proceeds were used in part to repay term-loan and revolving-credit balances. Common-stock offerings also funded repurchases of operating-partnership units from selling holders.
Management emphasized leasing, repositioning and selective development, and said average office rents were generally below quoted market rates, which it views as potential rent-growth opportunity. Development and redevelopment require significant capital; approximately $239.3 million of capital-improvement commitments were disclosed, all shown as due within one year in the contractual-obligations table.
The filing provides no quantified operating or earnings guidance. Management’s outlook is subject to leasing, occupancy, market rental rates, acquisition opportunities, capital availability, interest rates and development execution. Future minimum base rents were reported at $2.90 billion, including rents subject to early termination, but exclude media and entertainment leases of one year or less.

Risks, contingencies and unusual items

Geographic and tenant-industry concentration exposes results to economic, regulatory and natural-disaster risks in California and the Pacific Northwest, and to changes in technology and entertainment demand. The 15 largest office tenants represented 37.3% of office annualized base rent; Google and Netflix together represented 9.8%.
Office lease risk includes 10.5% of portfolio square footage available at year-end and approximately 13.8% scheduled to expire in 2018, including leases scheduled to expire on December 31, 2017. Tenant improvements, leasing commissions, concessions and redevelopment spending may pressure cash flow.
Interest-rate exposure remains: $1.02 billion, or 41.8% of gross notes payable, was variable-rate debt, of which $839.5 million was hedged. Management estimated a 100-basis-point increase in one-month LIBOR would raise annual interest expense by $1.8 million, based on year-end debt and hedge positions.
Other disclosed risks include refinancing and capital-market access, ground-lease obligations, environmental and ADA compliance, insurance limitations, development costs, joint-venture governance and maintaining REIT qualification. Minimum future ground-lease payments were $452.8 million.
The 2017 Tax Legislation could affect REITs and stockholders; management was assessing its full impact. No material legal proceedings or loan defaults were reported. Management and the auditor reported effective internal controls; the auditor issued unqualified opinions on the financial statements and company internal controls.
Related-party transactions warrant review: the Pinnacle I and II sale was to Blackstone affiliates, and the 222 Kearny sale was to a joint venture with a Farallon-affiliated partner; directors had disclosed affiliations with those parties.

Important facts for investors to verify

Reconcile reported earnings growth with the $45.6 million real-estate sale gain and compare GAAP earnings with NOI and FFO, which are non-GAAP measures.
Track leasing and renewal outcomes for the 2018–2019 expirations, available space, signed-but-uncommenced leases, and the large tenant exposures.
Confirm completion and net proceeds of the four held-for-sale transactions, and monitor the planned development and redevelopment schedule, costs and lease-up assumptions.
Review debt maturities, variable-rate exposure, hedging effectiveness, revolving-facility usage, covenant headroom and the effect of the post-year-end borrowing and Rincon Center repayment.
Assess capital needs and distributions against operating cash flow, tenant-improvement and leasing costs, development commitments, ground leases and the REIT distribution requirement.
Review the full financial statements and notes for property-level performance, debt terms, related-party transactions, tax-reform impacts and the accounting estimates underlying real-estate values and rent receivables.