Realty Income Corporation (NYSE: O) — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. The filing also provides unaudited fourth-quarter results. Realty Income is a REIT that owns primarily single-tenant commercial properties leased under long-term net leases; tenants generally pay rent and specified property expenses.
Business context and portfolio
- At year-end, the portfolio included 5,797 properties across 49 states and Puerto Rico, leased to 262 major commercial tenants in 48 industries. Occupancy was 98.6%, versus 98.4% a year earlier; weighted-average remaining lease term for leased single-tenant properties was approximately 9.2 years.
- Retail generated 81.7% of fourth-quarter rental revenue and industrial 12.1%. Convenience stores were the largest industry exposure at 11.2% of 2018 rental revenue; no individual tenant exceeded 10% of rental revenue.
- During 2018, the company invested approximately $1.8 billion in 764 new properties and development or expansion projects. These investments were 100% leased, with a 14.8-year weighted-average lease term and a 6.4% initial weighted-average contractual lease rate.
Financial and operating metrics
| Metric | 2018 | 2017 |
|---|---|---|
| Total revenue | $1.328 billion | $1.216 billion |
| Net income | $364.6 million | $319.3 million |
| Net income available to common stockholders | $363.6 million; $1.26 diluted per share | $301.5 million; $1.10 diluted per share |
| Net cash provided by operating activities | $940.7 million | $875.9 million |
| FFO available to common stockholders | $903.3 million; $3.12 diluted per share | $772.7 million; $2.82 diluted per share |
| AFFO available to common stockholders | $924.6 million; $3.19 diluted per share | $838.6 million; $3.06 diluted per share |
| Total debt | $6.50 billion | $6.11 billion |
| Cash and cash equivalents | $10.4 million | $6.9 million |
Same-store rents increased 0.9%. The filing does not provide a single clearly stated operating-margin measure. Debt was approximately 25.4% of total market capitalization; debt-service and fixed-charge coverage was 4.4x. The company reported $2.75 billion of available revolving-credit capacity and stated that cash, operating cash flow and borrowing capacity were sufficient for expected liquidity needs over the next 12 months.
Cash distributions paid to common stockholders were $761.6 million, or 82.4% of AFFO. Cash distributions paid per share totaled $2.6305 for 2018, up 4.1% from 2017. The February 2019 monthly dividend was $0.2255 per share, equivalent to a $2.706 annualized rate; future dividends remain at the Board’s discretion.
Fourth-quarter revenue was $342.6 million and net income available to common stockholders was $85.1 million, or $0.29 per diluted share. The quarterly financial data reports $0.6615 per share of distributions paid in the quarter.
Material changes versus the prior year
- Revenue grew 9.2%; management attributed rental-revenue growth mainly to property acquisitions, with same-store rents contributing $9.5 million of growth.
- Net income available to common stockholders increased 20.6%, while diluted earnings per share rose 14.5%. FFO increased 16.9% in total and 10.6% per diluted share; AFFO increased 10.3% in total and 4.2% per diluted share.
- Operating cash flow increased to $940.7 million. Investment in real estate was $1.77 billion, and net cash used in investing activities was $1.64 billion.
- Year-end debt increased by approximately $389 million. The company issued $500 million of 3.875% notes due 2025 and raised $1.1 billion gross from common-stock ATM sales. In October, it replaced its credit facility with a $3.0 billion revolving facility and a $250 million term loan.
- Impairment provisions rose to $26.3 million from $14.8 million. Property-sale gains declined to $24.6 million from $40.9 million.
Outlook, commentary, risks and unusual items
- Management anticipated $75–$100 million of property sales in 2019, with proceeds intended for acquisitions if attractive opportunities are available. It provided no specific earnings or AFFO guidance in the supplied filing text and cautioned that sale values and reinvestment are not assured.
- CEO Sumit Roy, previously COO, was appointed CEO in October 2018. The former CEO’s departure resulted in an $18.7 million incremental severance expense, approximately $0.06 per share; total related cash, stock compensation and professional fees were $28.3 million before previously accrued compensation.
- 2017 comparisons were affected by a $42.4 million loss on early debt extinguishment and a $13.4 million non-cash preferred-stock redemption charge. These items make year-over-year GAAP earnings comparisons less representative of recurring operations.
- Key risks include tenant defaults or bankruptcies, economic or industry downturns, lease renewals and vacancies, interest-rate and refinancing exposure, access to capital markets, real-estate illiquidity, environmental liabilities, property damage and the need to maintain REIT qualification. Convenience stores and drug stores were the largest industry exposures.
- The company identified possible disruption or added costs from its 2018 enterprise resource planning system implementation. Management and the auditor reported effective internal control over financial reporting; the auditor issued unqualified opinions on the financial statements and controls.
- Ordinary-course legal claims were disclosed; management did not expect their resolution to materially adversely affect consolidated financial position or results. Lease Accounting Standard Topic 842 was adopted effective January 1, 2019; the company expected the ground-lease right-of-use asset to be approximately 1% of total assets.
Most important facts for investors to verify
- Reconcile dividend coverage using operating cash flow and AFFO, noting that FFO and AFFO are non-GAAP measures and are not substitutes for cash-flow analysis.
- Review the debt maturity schedule, especially $950 million of notes due in 2022, $750 million due in 2023, and variable-rate credit-facility borrowings; assess refinancing and interest-rate sensitivity.
- Monitor tenant and industry concentration, particularly convenience stores and drug stores, and track occupancy, lease expirations and rent recapture.
- Assess acquisition returns against funding costs: 2018 acquisitions carried a 6.4% initial contractual lease rate, while new unsecured notes were issued at a 3.957% effective yield.
- Confirm the 2019 disposition plan, the impact of CEO-transition costs, and any continuing costs or control effects from the new ERP system.