Digital Realty Trust, Inc. — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011; financial statements are unaudited. Digital Realty Trust, Inc. is a REIT and the general partner of Digital Realty Trust, L.P., which holds substantially all assets and debt and conducts operations. Unless noted, amounts below are consolidated and in U.S. dollars.
Business context and portfolio
The company owns, develops, redevelops and manages technology-related real estate, particularly data centers. At quarter-end it had 98 properties, approximately 17.4 million rentable square feet including 2.1 million square feet held for redevelopment, and 93.7% occupancy excluding redevelopment space. About 1.145 million square feet was under construction. The portfolio spans North America, Europe and Asia.
Financial performance and liquidity
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Operating revenue | $273.5m | $237.5m | $792.1m | $626.7m |
| Operating income | $71.6m | $60.4m | $223.0m | $169.7m |
| Operating margin | 26.2% | 25.4% | 28.2% | 27.1% |
| Net income | $37.7m | $23.6m | $114.9m | $69.1m |
| Net income available to common stockholders | $31.9m | $9.6m | $94.9m | $33.5m |
| Diluted EPS | $0.31 | $0.11 | $0.97 | $0.40 |
| Diluted FFO per share and unit | $1.01 | $0.81 | $3.04 | $2.39 |
Revenue increased 15% year over year in Q3 and 26% for the nine months. Growth reflected new leasing at existing properties, acquisitions and construction-management activity. Operating expenses rose 14% in Q3 and 25% year to date; drivers included property operating costs, depreciation and construction-management expense. Interest expense was $37.1m in Q3 and $112.5m for nine months, versus $36.7m and $100.8m, respectively. FFO is a non-GAAP supplemental measure, not a substitute for net income or cash flow.
For the nine months, operating cash flow was $280.1m, investing cash flow was negative $591.7m and financing cash flow was positive $338.6m. Cash increased $27.0m to $38.7m; restricted cash was an additional $55.2m. Capital expenditures, excluding indirect costs, were $460.3m, including $327.6m for redevelopment. Dividends and distributions paid totaled approximately $277.0m.
At September 30, total debt was $2.797bn, compared with $2.807bn at December 31, 2010. Debt to total enterprise value was approximately 30%. The reported effective interest rate was 5.33%; 94.2% of debt was fixed-rate or hedged, and $163.1m was unhedged variable-rate debt. Total assets were $5.826bn and total equity $2.577bn. Debt is held at the operating partnership level; the parent guarantees certain obligations. The company reported compliance with debt covenants.
Liquidity included a $750m corporate revolving facility, with $148.8m drawn and approximately $571m available after letters of credit, plus an Asia Pacific facility with approximately $14.4m drawn. Both facilities were scheduled to mature in August 2012 at quarter-end. On November 3, 2011, after the reporting date, the company replaced them with a $1.5bn global revolver maturing in November 2015, with a one-year extension option.
Material changes versus the prior period
- Operating revenue growth was partly acquisition-driven: new properties contributed $71.3m of Q3 revenue versus $48.6m in Q3 2010, while same-store revenue increased $13.3m.
- The property portfolio grew from 95 properties and 16.4 million square feet at September 30, 2010 to 98 properties and 17.4 million square feet at September 30, 2011.
- Common shares outstanding rose to 104.1 million from 91.2 million at year-end 2010. The company raised $413.6m net from common stock and $277.4m net from a new 7.0% Series E preferred offering during the nine months.
- Unsecured senior notes increased with issuance of $400m of 5.25% notes due 2021. The remaining 4.125% exchangeable debentures due 2026 were exchanged or redeemed; related nine-month cash payments were approximately $100.5m, alongside common shares issued.
- Cash spent on acquisitions fell to $86.6m from $1.182bn in the prior-year period, while real estate improvements and advances rose to $489.7m from $248.7m. Operating cash flow increased $39.8m.
Outlook, commentary, risks and unusual items
- Management estimated $150m–$200m of development and redevelopment capital expenditures for Q4 2011, subject to demand, leasing results and capital availability. Open construction-contract commitments were approximately $134.2m at quarter-end.
- Management cited strong demand in most key markets and expected rental rates on certain 2011 expirations to generally exceed current rates; this is not a guarantee of renewals, occupancy or future rents. Nine-month leasing included 760,000 square feet of new leases and 1.164 million square feet of renewals.
- Key risks include economic and credit-market deterioration, tenant concentration or default, lease expirations and vacancy, data-center supply and technology changes, redevelopment execution and funding, interest and refinancing costs, foreign exchange exposure, joint-venture risks, energy and regulatory costs, and maintaining REIT qualification.
- Q3 comprehensive income attributable to the company was $1.5m, materially below net income, primarily reflecting $35.6m of foreign-currency translation loss. The nine-month translation loss was $10.5m. These are reported in other comprehensive income, not net income.
- Solyndra filed for bankruptcy in September 2011; after its sublease ended, it became the company’s direct tenant under a lease beginning September 30, at initial monthly cash base rent of approximately $345,500.
- Subsequent events included two redevelopment investments, an increase in authorized common shares from 145m to 165m, and a declared common dividend of $0.68 per share payable in January 2012. No legal proceedings or defaults on senior securities were reported. Management concluded disclosure controls were effective.
Important facts for investors to verify
- Reconcile revenue and FFO growth between same-store leasing, acquisitions, construction-management work and noncash items; review the FFO definition and dilution assumptions.
- Assess the 93.7% occupancy figure alongside 2.1 million square feet of redevelopment space, the 1.145 million square feet under construction, and leasing costs and commitments.
- Review debt maturities and refinancing requirements, covenant headroom, the November 2011 global revolver terms, and interest-rate and currency exposures.
- Evaluate the effect of common and preferred equity issuance, the 7.0% Series E dividend, convertible securities and debentures on per-share results and future distributions.
- Check tenant and market concentrations, related-party lease disclosures, contingent obligations, and whether operating cash flow can sustain dividends and planned capital spending.