Seritage Growth Properties — 2017 Form 10-K
Business context and period. The filing covers the fiscal year ended December 31, 2017. Seritage is a retail-property REIT focused on recapturing, redeveloping and leasing former Sears and Kmart space. At year-end, it reported 230 wholly owned properties and 23 joint-venture properties, totaling approximately 39.4 million square feet of gross leasable area (GLA). Its strategy is to convert single-tenant sites into multi-tenant properties and increase rents and tenant diversification.
Key financial metrics
| Metric | 2017 | 2016 |
|---|---|---|
| Total revenue | $241.0 million | $248.7 million |
| Net loss | $120.8 million | $91.0 million |
| Net loss attributable to common shareholders | $74.0 million; $2.19 loss per share | $51.6 million; $1.64 loss per share |
| Total NOI (non-GAAP) | $174.8 million | $190.5 million |
| FFO / Company FFO (non-GAAP) | $91.7 million / $81.8 million | $106.5 million / $127.3 million |
| Adjusted EBITDA (non-GAAP) | $145.3 million | $186.8 million |
| Cash from operating activities | $69.6 million | $110.0 million |
| Cash and cash equivalents | $241.6 million | $52.0 million |
| Restricted cash | $175.7 million | $87.6 million |
| Total assets / total liabilities | $2.78 billion / $1.45 billion | $2.71 billion / $1.29 billion |
Figures are reported in U.S. dollars; financial statement amounts above are converted from thousands. Non-GAAP measures are company-defined supplemental measures and are not substitutes for GAAP results or cash flow.
Material changes and operating developments
- Rental income declined 4% to $178.5 million. Lower Master Lease rent and lower straight-line rent were partly offset by $14.0 million of termination-fee income and higher third-party rent.
- Sears-related rental income was $112.9 million, or 73.2% of rental income on the filing’s stated basis, compared with $133.2 million, or 79.5%, in 2016. Separately, signed annual base rent including leases not yet commenced showed third-party tenants at 52.2% of rent at year-end, up from 36.1% a year earlier; these measures use different bases.
- Leased GLA was 80.0% at year-end, versus 99.2% in 2016, reflecting substantial Sears terminations and space recapture. The portfolio table includes signed leases not yet open; occupancy and rent figures should be read with that qualification.
- Depreciation and amortization increased to $262.2 million from $177.1 million, including accelerated charges tied to recaptured or terminated Sears space and buildings demolished for redevelopment. General and administrative expense rose to $27.9 million from $17.5 million; interest expense rose to $70.1 million from $63.6 million.
- Seritage sold interests in joint ventures and contributed properties to a new GGP joint venture. These transactions generated $60.3 million of gains on JV-interest sales and $11.4 million on real estate sales, and provided proceeds for redevelopment and general purposes.
Cash, debt and liquidity
- Operating cash flow fell to $69.6 million from $110.0 million. Investing activities provided $27.2 million, including $308.2 million of property and JV-interest sale proceeds, while development and property improvements used $243.1 million. Financing activities provided $180.8 million.
- At year-end, consolidated debt was approximately $1.36 billion: $1.211 billion of variable-rate mortgage loans and future-funding borrowings, plus $145 million outstanding under the unsecured term loan. The mortgage debt matures in July 2019, with two one-year extension options subject to conditions; the unsecured term loan matures no later than December 31, 2018.
- The mortgage borrowings carried a weighted-average spread of 470 basis points over LIBOR and averaged 6.03% interest in 2017, versus 5.24% in 2016. Management estimated that a 100-basis-point interest-rate increase would raise annual interest expense by $12.1 million.
- Management cited $241.6 million of unrestricted cash, $175.7 million of restricted cash, expected operating cash flow and $55.0 million of permitted but uncommitted unsecured borrowing capacity as liquidity sources. Restricted cash is subject to uses and should not be treated as freely available.
- Debt agreements include financial covenants, collateral and cash-sweep triggers linked in part to debt yield, Sears performance and tenant diversification. Management reported compliance and stated that no cash-flow sweep was imposed under the amended arrangements.
Outlook, risks and unusual items
- Management’s stated objective is to grow NOI through redevelopment, re-leasing at higher rents and tenant diversification. The filing gives no quantified earnings, occupancy or development-return guidance. It reported 63 redevelopment projects with estimated total investment of approximately $1.07 billion, of which about $801.7 million remained to be spent at year-end.
- Sears Holdings remained a major credit and concentration risk. The filing cites Sears’ prior going-concern disclosure and warns that a default, bankruptcy or additional store closures could materially reduce rent, cash flow and the capacity to service debt or pay distributions. Sears had terminated leases on 56 stores totaling approximately 7.4 million square feet; related base rent at termination was $23.6 million, and termination fees paid were approximately $45.1 million.
- Common dividends were $1.00 per share for 2017. The company also issued 2.8 million 7.00% Series A cumulative redeemable preferred shares in December, raising approximately $66.7 million net. Preferred dividends rank ahead of common distributions; payment remains subject to board declaration and applicable constraints.
- Seritage paid $19.0 million toward a $40.0 million settlement of litigation challenging the original Sears property transaction; the court approved the settlement in May 2017. Management said ordinary-course legal matters were not expected to have a material effect.
- The company reported no material operating or financial impact from 2017 wildfires and hurricanes. It reported no real-estate impairment losses in 2017 or 2016, while noting that future impairment charges are possible. Environmental liabilities, redevelopment cost overruns and leasing delays remain risks; environmental escrow cash was $10.8 million at year-end.
- The Tax Cuts and Jobs Act was enacted in December 2017; Seritage reported no material income-tax effect on its 2017 financial statements, while noting possible future interpretive and tax consequences. The company intends to maintain REIT status, which entails distribution and other requirements.
- Deloitte issued unqualified opinions on the financial statements and internal control over financial reporting. Management also concluded that disclosure controls and internal controls were effective at year-end.
Important facts for investors to verify
- Latest Sears Holdings financial condition, rent-payment performance, store closure plans and any developments affecting the Master Lease.
- Leasing and occupancy progress, including the status of signed-but-not-open leases, vacant properties and the economics of completed redevelopment projects.
- Remaining redevelopment funding needs, project budgets and timing, sources of capital, and whether restricted reserves are available for intended uses.
- Debt maturity and refinancing plans, variable-rate exposure, covenant headroom, cash-sweep triggers and the unsecured term loan’s related-party lender arrangements.
- Reconciliation and assumptions behind non-GAAP NOI, FFO, Company FFO and Adjusted EBITDA, as well as the drivers of the widening GAAP net loss.
- Common and preferred dividend capacity, REIT distribution requirements and the priority of preferred distributions over common dividends.