Business context and reporting period
Digital Realty Trust, Inc. and Digital Realty Trust, L.P. filed a combined annual report for the fiscal year ended December 31, 2017. The company is a REIT that owns, develops and operates global data centers, colocation and interconnection facilities. The results are annual, not standalone fourth-quarter results.
On September 14, 2017, Digital Realty completed its all-stock acquisition of DuPont Fabros Technology (DFT) for approximately $6.2 billion of equity consideration, adding 15 data centers. At year-end, the portfolio comprised 205 data centers, including joint-venture and held-for-sale properties; occupancy was 90.2% excluding space under active development and held for development.
Key financial metrics
Dollar amounts are in millions except per-share data. Company and Operating Partnership consolidated results are substantially the same; common-stockholder and common-unitholder amounts differ.
| Metric | 2017 | 2016 |
|---|---|---|
| Operating revenue | $2,457.9 | $2,142.2 |
| Operating income | $451.3 | $497.3 |
| Net income | $256.3 | $431.9 |
| Net income available to common stockholders | $173.1 | $332.1 |
| Diluted earnings per share | $0.99 | $2.20 |
| Operating cash flow | $1,023.3 | $911.2 |
| Cash used in investing activities | $(1,357.2) | $(1,303.6) |
| Cash from financing activities | $321.2 | $350.6 |
| Diluted FFO per share and unit | $5.65 | $5.67 |
Revenue increased 14.7%, while operating income declined. Operating margin was approximately 18.4%, versus 23.2% in 2016. Net income available to common stockholders fell 47.9%, and diluted EPS declined 55.0%. FFO available to common stockholders and unitholders increased to $1,011.3 million from $867.7 million, but diluted FFO per share and unit was slightly lower.
- Revenue growth reflected the DFT acquisition, the European portfolio acquisition and leasing of completed development space. Stabilized portfolio revenue increased $25.7 million, including $21.2 million of higher interconnection and other revenue.
- Operating expenses rose 22.0% to $2,006.6 million, including depreciation and amortization of $842.5 million and transaction and integration costs of $76.0 million. Interest expense increased 9.4% to $258.6 million.
- 2017 included a $29.0 million real estate impairment and a $40.4 million gain on property sales; 2016 included $169.9 million of property-sale gains. These items, as well as acquisition-related costs and higher depreciation, affect year-over-year earnings comparisons.
- Capital expenditures, excluding indirect costs, were $1,054.8 million, up from $654.2 million. Cash and cash equivalents were $0.1 million at year-end, plus $13.1 million of restricted cash.
- Consolidated debt was approximately $8.7 billion at year-end, compared with $5.8 billion in 2016. Weighted average interest rate was 3.47%; 86% of debt was fixed-rate or hedged. Debt-to-enterprise value was approximately 25%. The $2.0 billion revolving facility had approximately $1.5 billion available, net of letters of credit.
Material changes versus the prior comparable period
- The DFT merger materially expanded the portfolio and balance sheet. Reported 2017 revenue includes DFT only from the September 14 closing; DFT contributed approximately $177.8 million of revenue and $5.4 million of net income for the post-acquisition period.
- Net investments in real estate increased to $13.8 billion from $9.0 billion, and total assets rose to $21.4 billion from $12.2 billion. Goodwill increased to $3.4 billion, including $2.6 billion recorded for DFT.
- Operating cash flow increased $112.1 million, while investing outflows reflected greater development spending. Development project capital expenditures rose to $912.2 million from $574.0 million.
- Common dividends increased to $3.72 per share for 2017 from $3.52 in 2016. Fourth-quarter declared dividend was $0.93 per share.
Outlook, risks and unusual items
- Management estimated 2018 development-program capital expenditures of $0.9 billion to $1.1 billion, subject to demand, leasing, and access to debt or equity capital. The filing does not provide clear numerical earnings or FFO guidance.
- Management reported strong demand in most key markets and expected rents on 2018 expirations to be generally higher on a GAAP basis but slightly lower on a cash basis, in aggregate. This is an expectation, not a guarantee.
- Management targets debt-to-adjusted EBITDA at or below 5.5x, fixed-charge coverage above 3x and floating-rate debt below 20% of total debt. Actual debt-to-adjusted EBITDA and fixed-charge coverage values are not clearly provided in the supplied filing text.
- Key risks include data-center supply and pricing competition, customer concentration and lease renewals, power availability and reliability, development cost and lease-up risk, cybersecurity and service interruptions, foreign-currency exposure, interest rates and refinancing, and integration of DFT. The 20 largest customers represented 52.3% of annualized rent; the largest represented 6.5%. Leases covering 22.1% of portfolio square footage were scheduled to expire through 2019.
- Other notable exposures include $317.3 million of construction commitments and a DFT-related tax protection agreement that may affect debt allocation through 2023. Management reported no legal proceeding believed to have a material adverse effect. The audit opinion was unqualified; management and the auditor concluded internal controls were effective, though DFT controls covering $8.4 billion of assets and $178 million of revenue were excluded from the year-end assessment.
Most important facts for investors to verify
- Whether DFT integration delivers expected leasing, operating efficiencies and returns, and how much recurring earnings growth it contributes after merger costs.
- Development completion, leasing, capital needs and returns on the 2.7 million square feet under active development; assess the planned 2018 development spend against available liquidity.
- Debt maturities and refinancing: approximately $1.6 billion is scheduled for 2020 and $1.5 billion for 2021, including the revolving facility maturity in 2020; confirm extension or refinancing plans.
- Lease renewal outcomes, cash rent trends, occupancy and customer concentration, particularly in Northern Virginia, which represented 21.6% of annualized rent.
- Dividend and distribution coverage by operating cash flow after recurring and development capital requirements, given very low unrestricted cash at year-end.