Piedmont Office Realty Trust, Inc. — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. The filing registrant is Piedmont Office Realty Trust, Inc., a REIT focused on owning, developing, and managing U.S. office properties.
Business context
At quarter-end, Piedmont owned 66 office properties comprising 18.5 million square feet, plus redevelopment and development assets and an interest in one office building through an unconsolidated joint venture. The in-service portfolio was 91.4% leased, versus 91.5% at December 31, 2015. Approximately 80% of annualized lease revenue came from eight principal markets. Average remaining lease term was 6.9 years.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Total revenue | $135.3 million | $146.7 million | $273.3 million | $296.5 million |
| Real estate operating income | $17.4 million | $20.8 million | $43.8 million | $49.0 million |
| Income from continuing operations | $1.1 million | $3.4 million | $11.5 million | $12.5 million |
| Net income applicable to Piedmont | $80.1 million | $30.0 million | $90.4 million | $49.2 million |
| Diluted EPS | $0.55 | $0.20 | $0.62 | $0.32 |
| NAREIT FFO per diluted share | $0.40 | $0.39 | $0.81 | $0.78 |
| Core FFO per diluted share | $0.40 | $0.39 | $0.81 | $0.78 |
| AFFO per diluted share | $0.34 | $0.30 | $0.64 | $0.59 |
Q2 revenue fell about 7.8% year over year; real estate operating margin was approximately 12.9%, compared with 14.2%. For the first half, revenue also declined about 7.8%, and the corresponding margin was approximately 16.0%, versus 16.5%. GAAP net income and EPS benefited substantially from property-sale gains: $79.0 million in Q2 2016 versus $26.6 million in Q2 2015. Continuing-operations income declined despite lower interest expense.
Same-store cash-basis NOI increased 6.6% in Q2 and 3.9% for the first half year over year. Management attributed this to leases commencing or rent-abatement periods ending. Piedmont cautions that its FFO, Core FFO, AFFO, and NOI measures are non-GAAP and may not be comparable with other REITs.
Cash flow, debt, and liquidity
- First-half operating cash flow was $102.7 million, up from $96.5 million. Investing activities provided $131.0 million, primarily reflecting $201.7 million of property-sale proceeds; financing activities used $218.1 million, including $357.6 million of debt repayments and $61.1 million of dividends.
- Cash and cash equivalents were $21.1 million at June 30, 2016, versus $5.4 million at year-end 2015.
- Debt carrying value was $1.884 billion, down from $2.030 billion at year-end. Debt fair value was estimated at $1.930 billion. The weighted-average stated rate was 3.47%; the company reported that most debt was fixed or effectively fixed.
- The $125 million fixed-rate loan and the outstanding balance on the $500 million unsecured credit line were repaid during the first half, primarily with disposition proceeds and cash. The credit line had no balance at June 30; management reported $400 million of capacity as of the filing date. A $42.5 million fixed-rate loan was repaid July 11, after which no debt maturity remained in 2016.
- A 1 percentage-point increase in rates on existing variable-rate borrowings would increase annual interest expense by approximately $1.7 million. Interest-rate swaps had $900 million aggregate notional amount and a $22.1 million liability at quarter-end.
Material changes, outlook, and notable items
- Portfolio dispositions reduced rental income and tenant reimbursements, partly offset by new leases. The company sold three properties during the first half, including 1055 East Colorado, Fairway Center II, and 1901 Main Street. Management said it had disposed of 12 assets since January 1, 2015, including the Aon Center.
- Q2 impairment charges totaled $8.3 million: approximately $6.0 million for 150 West Jefferson in Detroit and $2.3 million for 9221 Corporate Boulevard in Rockville. Both properties sold in July 2016, for $81.5 million and $12.7 million, respectively.
- On August 1, 2016, Piedmont acquired a 99% interest in the entity owning CNL Tower I and II in Orlando for $166.7 million. The board declared a Q3 dividend of $0.21 per common share, payable September 16, 2016.
- The active development project was 500 TownPark, a 135,000-square-foot, 80%-preleased building in Lake Mary, Florida. Completion was expected in early 2017, with $20–$22 million of additional project costs, including leasing costs. The filing gives no company-wide earnings or revenue guidance.
- Management identified leasing and capital spending as ongoing priorities. Approximately 0.6 million square feet of executed leases for vacant space had not commenced, and 0.9 million square feet of commenced leases remained subject to abatements. Lease expirations represented 2.1% of annualized lease revenue for the remainder of 2016 and 6.9% for 2017.
- Existing-lease commitments included approximately $37.7 million of potential non-incremental tenant improvements over five years and $29.5 million of incremental tenant-improvement commitments. One tenant dispute carried a reasonably possible loss range of $0 to $1.8 million, net of reserves. Derivative default provisions could require settlement of approximately $22.5 million if triggered.
Principal risks include office-market and economic weakness, competition to renew or re-let space, tenant defaults or lease terminations, concentration in markets including Washington, D.C., New York, and Chicago, impairment risk, development costs and delays, interest-rate exposure, and REIT qualification. Management reported compliance with debt covenants, effective disclosure controls, and no material changes in internal control over financial reporting.
Important facts for investors to verify
- How much of reported earnings growth reflects property-sale gains rather than recurring operations; compare GAAP income with FFO, Core FFO, AFFO, and same-store NOI.
- Whether portfolio occupancy and leasing improve, and the timing and cash-flow effects of uncommenced leases, abatements, expirations, and tenant-improvement spending.
- Net liquidity after the Orlando acquisition, subsequent property sales, debt repayments, and any credit-line borrowing.
- Actual costs and completion timing for 500 TownPark, and performance of the newly acquired Orlando properties.
- Outcomes of the tenant dispute, property dispositions, and other potential commitments or contingencies.