Empire State Realty OP, L.P. — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014. The 2013 comparison is the predecessor’s results, while 2014 includes properties and the observatory consolidated after the October 2013 offering and formation transactions. Accordingly, year-over-year comparisons are not on a like-for-like basis.
Business context and operating performance
The partnership owns, operates and redevelops office and retail properties in Manhattan and the greater New York metropolitan area, and operates the Empire State Building observatory. At June 30, the portfolio had 8.4 million rentable square feet; occupancy was 88.6%, or 89.6% including signed leases not yet commenced. Office occupancy was 88.3% and retail occupancy was 92.5%.
Second-quarter observatory revenue was $30.4 million, up 11.4% from the prior-year quarter; attendance rose 3.8% to approximately 1.22 million visitors. For the first half, observatory revenue was $47.7 million, up 8.4%, while attendance was unchanged at approximately 1.89 million.
Financial results and liquidity
| Metric | Q2 2014 | Six months 2014 |
|---|---|---|
| Total revenue | $155.2 million | $295.5 million |
| Operating income | $40.6 million | $66.2 million |
| Net income | $25.3 million | $36.5 million |
| Basic and diluted earnings per OP unit | $0.10 | $0.15 |
| FFO per unit, basic and diluted | $0.22 | $0.39 |
Revenue increased 160.5% for the quarter and 142.2% for the first half versus the predecessor periods, primarily reflecting the consolidation of four previously non-controlled properties and the observatory. Net income also rose substantially, but the changed reporting perimeter limits direct comparison. Q2 included $0.7 million of lease-cancellation income, a $0.6 million property-tax refund and a $1.0 million observatory lawsuit settlement; first-half other revenue included the same items and $1.1 million of lease-cancellation income.
For the first half, operating cash flow was $46.1 million, investing cash flow was negative $45.3 million and financing cash flow was negative $19.8 million. Cash and cash equivalents were $41.8 million at June 30, compared with $60.7 million at year-end 2013; restricted cash was $55.5 million. Capital expenditures were $50.4 million for building and improvements.
Total assets were $2.48 billion and total liabilities were $1.48 billion. Debt was $1.229 billion, comprising $873.9 million of mortgage notes and $355.0 million under the term loan and credit facility. Management reported a 4.47% weighted-average interest rate, 2.6-year weighted-average maturity and 67.2% fixed-rate debt. The company reported $445 million of availability under its secured credit facility, subject to a $27.3 million availability reduction pending specified Empire State Building capital expenditures. It was in compliance with facility covenants at quarter-end.
Debt principal maturities included $200.9 million in 2014 and $98.5 million in 2015. Management said it believed those maturities could be refinanced. Subsequent to quarter-end, three loans totaling $89.8 million were extended from August 1, 2014 to February 1, 2015.
Material changes, outlook and risks
On July 15, 2014, the partnership acquired the ground and operating leases at 112 West 34th Street and the ground lease at 1400 Broadway for total consideration of approximately $733.6 million, including cash, assumed debt and Series PR OP units. The properties add approximately 1.5 million rentable square feet of office space and 112,270 square feet of retail space. After quarter-end, the partnership also borrowed an additional $190 million under its credit facility in connection with the acquisitions.
Management estimated $80 million to $120 million of additional capital would be needed after June 30 to substantially complete the Manhattan office redevelopment and repositioning program, which it expected to continue through the end of 2016. It also estimated $60.8 million of tenant improvement and leasing commission obligations under signed leases over the following 12 months. Management expects to fund capital needs through operating cash flow and borrowings. No specific earnings or revenue guidance was provided.
Management cited leasing demand and the potential for redevelopment to support occupancy and rents over time, while noting that repositioning may temporarily reduce occupancy. Observatory results are seasonal, sensitive to tourism, weather, admission pricing and competition. Other stated risks include interest-rate changes, refinancing and financing availability, lease expirations and tenant defaults, redevelopment costs or delays, and ground-lease obligations. The company highlighted long-term ground leases at 1350 Broadway, 112 West 34th Street and 1400 Broadway; breach or expiration could materially harm results, and the partnership does not share in any increase in land or improvement value beyond the lease terms.
Appeals remained possible in litigation related to the formation transactions. A separate set of class actions was dismissed by a July 21, 2014 ruling, with plaintiffs retaining a right to appeal. The filing says a reversal in the formation-transaction litigation could result in monetary damages or equitable relief. The $55 million settlement of the earlier class actions is payable by specified parties other than the partnership; the partnership states it will not bear that payment.
Most important facts for investors to verify
- How much of reported revenue and earnings growth reflects the changed consolidation perimeter, versus comparable-property operating improvement.
- Availability and terms of refinancing for upcoming maturities, and the impact of the post-quarter $190 million revolver borrowing and acquisitions on leverage and liquidity.
- Actual remaining redevelopment, tenant-improvement and leasing costs compared with management’s estimates and available funding.
- Portfolio leasing progress, expirations and occupancy, including whether signed leases commence as expected.
- Developments in the formation-related appeals and any appeal of the dismissal of the second class actions.
- Final purchase-price allocations and operating contribution of the two July 2014 acquisitions; their allocations were preliminary, and their results are not included in Q2 financial results.