Empire State Realty Trust, Inc. — Q1 2017 Form 10-Q
Business context and reporting period. The filing covers the three months ended March 31, 2017. ESRT is a REIT focused on office and retail properties in Manhattan and the greater New York metropolitan area, with the Empire State Building observatory as a separate business segment. Its portfolio included 10.1 million rentable square feet. ESRT owned 52.5% of its operating partnership at quarter-end.
Key financial metrics
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Total revenue | $165.0 million | $157.1 million | +5.0% |
| Operating income | $36.7 million | $34.1 million | +7.5% |
| Operating margin | 22.2% | 21.7% | +0.5 percentage points |
| Net income | $19.1 million | $16.7 million | +14.6% |
| Net income attributable to common stockholders | $10.0 million | $7.4 million | +34.4% |
| Basic and diluted EPS | $0.06 | $0.06 | Unchanged |
| Operating cash flow | $60.0 million | $59.5 million | +$0.5 million |
| Cash and cash equivalents at quarter-end | $532.4 million | $554.4 million at year-end 2016 | -$21.9 million during quarter |
Rental revenue rose 1.9% to $117.1 million, primarily from higher rental rates. Other revenue and fees increased to $10.6 million from $2.3 million, principally reflecting lease cancellation income and higher interest income. Tenant reimbursements declined 11.8% to $16.0 million. Observatory revenue fell 1.1% to $20.9 million.
Net cash used in investing activities was $47.1 million, including $47.0 million of building and improvement additions, versus $24.1 million used in investing in Q1 2016. Net cash used in financing was $34.8 million. The quarterly dividend was $0.105 per share, compared with $0.085 a year earlier. Core FFO attributable to common stockholders and non-controlling interests was $61.3 million, up from $58.2 million; FFO and Core FFO are non-GAAP measures and are not cash-flow substitutes.
Debt, liquidity, and portfolio
Total debt principal was approximately $1.615 billion, with a 4.22% weighted-average interest rate and 4.5-year weighted-average maturity. ESRT reported $532.4 million in cash and $1.1 billion of available capacity on its undrawn revolving credit facility. Net debt to total market capitalization was approximately 14.8%. The company reported compliance with all debt covenants.
Debt maturities, excluding amortization, included approximately $336.0 million in 2017 and $262.2 million in 2018. In April 2017, after quarter-end, ESRT refinanced the $17.7 million 1542 Third Avenue mortgage with a new $30.0 million fixed-rate loan at 4.29%, maturing in May 2027. Management said it believed it could refinance remaining maturities, citing current liquidity and preliminary lender discussions.
At March 31, total portfolio occupancy was 88.8%, or 89.5% leased including signed leases not commenced. The Manhattan office portfolio was 87.8% occupied; retail was 94.4% occupied; and the Empire State Building was 91.5% occupied. The company signed 27 leases covering 200,992 square feet and reported a 44.0% portfolio-wide increase in mark-to-market rent on new, renewal, and expansion leases. A 43,019-square-foot Target retail lease at 112 West 34th Street has a 20.8-year term.
Changes, outlook, and material matters
- Revenue growth included approximately $7.9 million of lease termination fee income in Q1 2017; management cited a $7.7 million increase in lease cancellation income year over year. Investors should distinguish this item from recurring rental revenue.
- Operating expenses rose 4.3% to $128.3 million. Property operating costs and real estate taxes increased, while observatory expenses declined. Interest expense was broadly unchanged. A $0.2 million derivative-related loss arose from partial termination and redesignation of hedges.
- Observatory attendance was approximately 636,000 versus 719,000 a year earlier. Management attributed the decline to unfavorable weather, travel disruptions, and Easter falling in Q2 rather than Q1; observatory revenue is seasonal and tourism-sensitive.
- Management anticipated positive operating cash flows and expected to fund near-term needs from operating cash, cash on hand, debt issuance, and the revolving facility. No specific earnings or FFO guidance was provided. The company estimated approximately $51.5 million of capital spending obligations under existing leases, including tenant improvements and leasing commissions.
- Broadcasting revenues face industry and spectrum-auction uncertainty. ESRT signed long-term renewals with two radio broadcasters; Ion Television said it would not renew and planned to vacate at year-end 2017. Renewal proposals to other broadcasters could mean lower revenue and higher capital expenditures.
- A continuing arbitration and stayed court action brought by 12 former Empire State Building investors allege fiduciary-duty and related claims concerning the IPO and formation transactions. Respondents deny the allegations and intend to defend the matter; ESRT has indemnification obligations to certain respondents.
- The filing identifies risks including lease expirations and tenant defaults, property-market weakness, redevelopment costs and timing, refinancing and interest-rate exposure, tourism trends, environmental matters, and REIT qualification. Management reported no material changes to previously disclosed risk factors and no material change in internal controls; disclosure controls were deemed effective.
Important facts for investors to verify
- How much of revenue and earnings growth is repeatable after excluding lease cancellation income and other unusual items.
- Whether occupancy, signed leasing, and rent mark-to-market gains translate into commenced leases, cash rent growth, and sustained property-level performance.
- Progress refinancing the remaining 2017 and 2018 maturities, the cost and terms of refinancing, and continued covenant compliance.
- Actual leasing, redevelopment, and tenant-improvement costs against the estimated $51.5 million of existing lease obligations and the company’s available liquidity.
- Observatory attendance and revenue trends, broadcast tenant renewals and departures, and any developments in the investor arbitration.