Prologis, Inc. and Prologis, L.P. — Q2 2012 Form 10-Q
Business context and reporting period. The filing covers the quarter and six months ended June 30, 2012. Prologis owns, operates and develops industrial real estate across the Americas, Europe and Asia, and manages co-investment ventures through its Private Capital segment. The combined filing reports the REIT and Operating Partnership as one enterprise; interim financial statements are unaudited.
Key financial metrics
Amounts below are in millions of dollars, except per-share and portfolio data. Prior-period comparisons are affected by the 2011 merger and PEPR acquisition; 2012 also includes the first-quarter acquisitions of NAIF II and Prologis California.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Total revenue | $520.7 | $320.9 | $1,018.7 | $549.7 |
| Operating income (loss) | $107.0 | ($47.0) | $197.4 | ($18.4) |
| Net earnings (loss) attributable to controlling interests | $1.9 | ($143.8) | $214.9 | ($184.1) |
| Net earnings (loss) available to common stockholders | ($8.1) | ($151.5) | $194.3 | ($198.1) |
| Basic and diluted EPS | ($0.02) | ($0.49) | $0.42 | ($0.70) |
| Core FFO | $201.3 | $109.7 | $386.1 | $184.1 |
| Operating cash flow | Not presented by quarter | $160.1 | ($15.9) |
- Revenue and operating performance: Q2 rental income was $387.1 million and rental recoveries were $100.9 million. Real Estate Operations segment NOI was $350.5 million for Q2 and $687.3 million for the first half; Private Capital NOI was $15.9 million and $31.4 million, respectively. The filing defines NOI as rental income less rental expenses for real estate operations.
- Margins and portfolio: Same-store rental income grew 1.5% year over year in Q2, while same-store rental expense increased 4.8%; same-store NOI increased 0.37%. Q2 lease commencements in the same-store portfolio had effective rental rates 3.9% below prior rents. The total owned-and-managed operating portfolio was 92.4% occupied and 92.7% leased at quarter-end.
- Cash flow and investment: First-half investing activities provided $189.8 million, principally reflecting $888.7 million of property disposition proceeds, offset by development spending of $379.5 million and other investment. Financing activities used $239.4 million. Cash and cash equivalents were $293.6 million at June 30.
- Debt and liquidity: Debt was $12.43 billion, versus $11.38 billion at December 31, 2011; weighted-average effective interest rate was 4.35%, down from 5.12%. Credit facilities had $940.8 million available after borrowings and letters of credit. Total assets were $28.42 billion, total liabilities $14.25 billion and total equity $14.17 billion. The Company reported compliance with all debt covenants.
- Development: The consolidated development portfolio had 30 properties, current investment of $660.4 million, expected total investment of $1.0 billion and $369.9 million remaining to spend; it was 51.8% leased. Management separately described the broader owned-and-managed development portfolio as 13 million square feet, 44.4% leased and expected to require $1.3 billion. These figures use different portfolio scopes.
Material changes versus prior period
- First-half revenue rose substantially, primarily reflecting the merger/PEPR portfolio, the Q1 venture acquisitions and higher occupancy, rather than a directly comparable same-property increase. The 2012 results included $514.5 million of rental income from merger, PEPR and Q1 venture-acquired properties; 2011 included approximately one month of results from the merger and PEPR acquisition.
- First-half earnings improved from a GAAP loss to profit, but included a $273.0 million gain from gaining control of Prologis California. Debt increased by about $1.05 billion from year-end, principally due to the Q1 venture acquisitions, partly offset by debt repayment funded by property sales and contributions.
- First-half interest expense increased to $261.3 million from $203.4 million, mainly due to higher debt levels; effective borrowing cost fell to 4.8% from 6.1%. Merger, acquisition and integration expense declined to $31.9 million from $109.0 million. Impairment charges were $19.3 million in 2012 versus $103.8 million in 2011.
- Foreign currency translation produced a first-half comprehensive loss of $168.7 million in 2012, compared with a gain of $214.3 million in 2011, primarily reflecting weaker euro and yen exchange rates against the U.S. dollar.
Outlook, commentary, risks and unusual items
- Outlook: Management estimated U.S. industrial net absorption of 150 million square feet for 2012 and described demand as positive, though economic growth had slowed. It cited rising utilization and falling availability, but also said Q2 same-store lease rates remained below expiring rents. The stated objective was to stabilize the operating portfolio at 95% leased; this is a target, not formal earnings guidance. Management expected development activity to increase in selected markets.
- Strategy: Priorities include portfolio rationalization, reducing leverage and foreign-currency exposure, streamlining and growing Private Capital, improving low-yielding assets, and realizing merger synergies. Management expected to realize the full $115 million annualized merger-synergy target by year-end 2012 and anticipated similar integration costs for the rest of 2012.
- Capital needs and commitments: Near-term uses include debt service, development and leasing, property capital expenditures, distributions and potential investments. Scheduled debt principal payments for the remainder of 2012 were $67 million. The company reported $293.5 million of its own remaining equity commitments across listed ventures, plus $122.3 million for a consolidated venture; venture-partner commitments were also substantial. Development completion and leasing remain significant cash requirements.
- Debt and market risks: Approximately $3.8 billion of debt was variable-rate, with $1.6 billion hedged through swaps. Management’s sensitivity analysis estimated a $1.8 million impact over six months from a hypothetical 10% adverse interest-rate change. No foreign-currency put options or forward contracts were outstanding at quarter-end, leaving earnings exposed to exchange-rate movements. Unconsolidated ventures had $7.1 billion of third-party debt; Prologis guaranteed $28 million and noted refinancing may not be available on favorable terms or at all.
- Unusual transactions and contingencies: The Prologis California transaction generated the $273.0 million remeasurement gain. PEPR, in which Prologis held 99.5%, voted to wind up in August 2012; Prologis elected an in-kind distribution and would assume its liabilities. Cisco sought approximately $200 million in damages in a Pacific Commons arbitration; Prologis disputed the claims, recorded no liability and stated the low end of its loss range was zero. Management reported no material change in risk factors from the 2011 Form 10-K.
- Accounting review: KPMG conducted interim reviews, not audits, and reported no material modifications needed for GAAP conformity. Management concluded disclosure controls were effective and reported no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- How much of reported revenue and earnings growth reflects acquired assets and one-time remeasurement/disposition gains versus organic operating performance?
- Whether occupancy, lease-rate trends and same-store NOI improve, given that Q2 renewal and new-lease rates were 3.9% below prior rents.
- Debt maturities, variable-rate exposure, refinancing capacity and the availability of liquidity as development spending and distributions continue.
- Whether PEPR’s wind-up, venture commitments and refinancing needs create additional cash, debt or execution demands.
- Developments in the Cisco arbitration and any changes to the company’s estimate of potential loss.