Business Context and Reporting Period
Investors Real Estate Trust, a self-advised REIT focused primarily on multifamily properties, filed this unaudited Form 10-Q for the three months ended July 31, 2017, the first quarter of fiscal 2018. The portfolio included 88 multifamily properties with 13,076 apartments and 42 commercial properties, including 29 healthcare properties. The company also held 17 properties or parcels for sale.
Key Financial Metrics
| Metric | Q1 FY2018 | Q1 FY2017 | Change |
|---|---|---|---|
| Total revenue | $52.7 million | $49.6 million | +6.3% |
| Net operating income | $28.5 million | $28.0 million | +1.8% |
| NOI margin | 54.0% | 56.4% | Down 240 basis points |
| Operating loss | $4.7 million | $43.9 million | Improved by $39.2 million |
| Loss from continuing operations | $13.8 million | $45.2 million | Improved by $31.3 million |
| Net loss | $13.3 million | $40.6 million | Improved by $27.3 million |
| Net loss available to common shareholders | $13.6 million | $24.5 million | Improved by $11.0 million |
| Net loss per common share | $0.11 | $0.20 | Improved by $0.09 |
| FFO applicable to common shares and units | $13.1 million | $15.9 million | Down 17.6% |
| Operating cash flow | $15.8 million | $15.8 million | Essentially flat |
Cash and cash equivalents were $23.8 million at July 31, 2017, compared with $28.8 million at April 30, 2017. Net cash used in investing activities was $44.5 million, primarily reflecting the $61.7 million acquisition of real estate. Financing activities provided $23.7 million, including net revolving credit borrowings.
Total liabilities were $873.4 million, including $660.8 million of mortgages payable, $125.9 million drawn on the revolving line of credit, and $20.2 million of construction debt and other obligations. Mortgage debt, including debt on properties held for sale, totaled approximately $685.4 million, carried a weighted-average interest rate of 4.66%, and was approximately 88.3% fixed-rate. The revolving credit facility had a $220.0 million borrowing limit and $125.9 million outstanding. Management reported compliance with applicable loan covenants.
Material Changes Versus the Prior Comparable Period
- Revenue increased 6.3%, driven by same-store properties, fiscal 2017 acquisitions and developments, and the addition of the Oxbo multifamily property.
- Total NOI increased only 1.8%, as real estate expenses rose 12.1%. Same-store NOI declined 1.5%, with revenue growth more than offset by higher operating expenses and taxes.
- Multifamily same-store occupancy improved to 94.5% from 92.5%, but same-store multifamily NOI declined 3.4% because expenses increased 13.9%.
- Healthcare same-store occupancy was stable at 92.5% versus 92.6%, while total healthcare NOI declined 3.5% due primarily to non-same-store changes.
- Depreciation and amortization increased 102.8% to $28.9 million following a change in estimated useful lives of real estate assets. The change reduced quarterly net income by approximately $14.4 million, or $0.11 per share, including $9.0 million related to assets fully depreciated under the revised lives.
- Impairment expense fell to $256,000 from $54.2 million, which was recognized in the prior-year quarter primarily on energy-market-impacted properties in Williston, North Dakota.
- Interest expense decreased 10.3% to $9.3 million, primarily due to lower average outstanding debt, although revolving credit borrowings increased substantially during the quarter.
- FFO declined despite the improvement in GAAP net loss, reflecting lower operating performance after excluding depreciation, impairments, and property-sale gains.
- The common distribution was reduced to $0.07 per share from $0.13 per share. The company repurchased approximately 682,000 common shares for $3.9 million and redeemed approximately 960,000 operating partnership units for $5.7 million.
Outlook, Commentary, Risks, and Unusual Items
Management reported strong demand for investment-quality real estate and generally stable occupancy, rental rates, and expenses across most apartment investments. However, multifamily development is increasing competition in certain markets, and commodity- and supply-impacted markets remain challenging. Future occupancy and rent growth depend on household income growth and continued high employment.
The company expects operating cash flow, cash on hand, revolving credit availability, property sales, equity issuance, and additional secured or unsecured debt to support operating needs, distributions, capital improvements, acquisitions, and debt obligations. Management noted that deterioration in property performance could require reductions in development, capital improvements, or renovations.
- The company acquired a 191-unit multifamily property in St. Paul, Minnesota, for $61.5 million.
- It originated a $16.2 million loan for a multifamily development in New Hope, Minnesota; $3.0 million had been funded at quarter-end and $13.2 million remained committed.
- Subsequent to quarter-end, the company repurchased two senior housing properties for $36.9 million and signed an agreement to resell them for the same amount.
- Subsequent dispositions included land, industrial, multifamily, and healthcare properties for aggregate disclosed sales prices of approximately $26.6 million.
- The company signed a purchase agreement for a 500-unit multifamily property in Plymouth, Minnesota, for $92.3 million. The $7.0 million earnest-money deposit became nonrefundable on September 6, 2017, subject to closing conditions.
- Mortgage maturities and refinancing requirements remain material, with approximately $21.4 million of mortgage debt maturing in the second and third quarters of fiscal 2018 and approximately $31.7 million maturing over the following twelve months, based on the filing’s disclosed schedules.
- A 100-basis-point increase in 30-day LIBOR was estimated to reduce annual net income by approximately $2.1 million. The company did not use interest-rate derivatives or other hedging instruments.
- Risks include real estate values and operating conditions, new housing supply, geographic concentration in Minnesota and North Dakota, interest rates and refinancing, insurance and severe weather, environmental liabilities, tenant credit, legal matters, and maintaining REIT tax qualification.
Important Facts for Investors to Verify
- Reconcile the effect of the useful-life change on depreciation, GAAP earnings, FFO, and future reported results.
- Assess same-store expense growth and whether multifamily NOI pressure persists despite higher occupancy and rental rates.
- Review upcoming mortgage maturities, the $125.9 million revolving-credit balance, covenant requirements, and refinancing or asset-sale plans.
- Evaluate liquidity after the Plymouth acquisition commitment, the $13.2 million remaining development loan funding, tenant-improvement commitments, distributions, and share repurchases.
- Confirm completion and economics of the subsequent property acquisitions and dispositions, including the senior housing repurchase and resale.
- Monitor the sustainability of the $0.07 common distribution relative to operating cash flow, FFO, debt service, and capital requirements.
- Review the filing’s non-GAAP FFO definition and reconcile it with GAAP net loss and operating cash flow.