Franklin Street Properties Corp. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. The company is a REIT focused on office properties, leasing, secured real-estate financing, and related management services. At quarter-end it owned 34 operating properties totaling approximately 9.76 million rentable square feet, plus one substantially redeveloped property in lease-up, and managed three Sponsored REITs.
Financial performance and condition
| Metric | Q3 2018 | Nine months 2018 | Comparable 2017 |
|---|---|---|---|
| Total revenue | $68.7 million | $202.3 million | $68.6 million and $205.8 million |
| Net income (loss) | $9.6 million | $11.7 million | $1.9 million and $(11.0) million |
| Net income (loss) per share | $0.09 | $0.11 | $0.02 and $(0.10) |
| Funds from Operations (FFO) | $26.2 million | $77.9 million | $28.0 million and $85.1 million |
| Cash from operating activities | $62.9 million for nine months | $69.3 million |
- Nine-month rental revenue fell 1.6% to $198.5 million, mainly reflecting lease expirations and property sales. Q3 total revenue was nearly flat year over year.
- Nine-month expenses were $197.2 million, roughly flat year over year. Interest expense increased $5.4 million to $29.2 million, partly offset by lower property costs and depreciation.
- Q3 net income included $7.2 million of equity income from non-consolidated REITs, principally related to the East Wacker property sale. Nine-month earnings also compare with a 2017 period that included an $18.5 million property-sale loss. These items make reported earnings comparisons less indicative of recurring operations.
- Same-store NOI increased 0.3% for the first nine months before nonrecurring items; comparative same-store NOI decreased 1.6% after those items. FFO declined 8.4% year over year for the nine-month period.
- At September 30, cash and restricted cash were $10.4 million. Operating cash flow was $62.9 million; investing activities provided $40.5 million, including $74.9 million of Sponsored REIT liquidation proceeds, while financing used $102.8 million, including $39.7 million of shareholder distributions and $61.0 million of net revolver repayments.
- Reported debt carrying value was approximately $979.7 million; contractual principal debt was $987 million. The latter comprised $17 million on the BAML revolver, $150 million JPM term loan, $400 million BAML term loan, $220 million BMO term loan, and $200 million senior notes. Cash was modest relative to debt. The company reported compliance with its debt covenants.
- Quarter-end occupancy was reported as 90.5% leased, up from 89.7% at December 31, 2017; approximately 931,000 square feet was vacant. The property table separately reports 87.0% weighted occupied space, a different measure.
Material changes, outlook, and risks
- In September, East Wacker and Grand Boulevard Sponsored REIT properties were sold and liquidated. FSP received initial cash distributions of $69.0 million and $5.9 million, respectively, and expected further trust distributions of approximately $1.0 million and $0.3 million. The East Wacker liquidation generated a reported $7.1 million gain; Grand Boulevard generated a $0.1 million loss.
- FSP amended and restated its JPM and BMO credit agreements in August and September 2018. The BMO loan has $55 million maturing in 2021 and $165 million in 2024. The BAML revolver had $17 million drawn against its $600 million facility at quarter-end.
- The quarterly distribution declined from $0.19 per share in Q1 2018 to $0.09 in Q2 and Q3. The board declared another $0.09 distribution for payment in November 2018. Management said future distributions depend significantly on rental income.
- Management expects existing cash, internally generated cash, and existing debt financing to cover working capital and anticipated capital expenditures for at least 12 months. It anticipated positive leasing activity for the remainder of 2018, but provided no numeric earnings or FFO guidance. Management noted improving or steady leasing conditions in many markets, including increased potential activity in Houston and Denver.
- Management cited U.S. and local economic conditions, interest-rate increases, office-space demand, tenant defaults or bankruptcies, and unanticipated operating costs as risks. Sponsored REIT loans expose the company to credit risk: $70.9 million was outstanding against $79.5 million of commitments. The company reported no impairment of these loans.
- Interest-rate swaps hedge the $400 million BAML and $220 million BMO term loans through September 2021 and August 2020, respectively; the revolving facility and JPM term loan remain exposed to floating rates. The filing estimates that a specified 10% increase in market rates on the BAML revolver would reduce annual earnings and cash flow by about $0.6 million.
- Adoption of the new lease standard in 2019 was expected to add approximately $3 million to assets and liabilities for the office lease, with no material effect expected on operations or liquidity. No material changes to previously disclosed risk factors were reported. Management considered disclosure controls effective.
Key facts for investors to verify
- How much of earnings and cash generation is recurring versus attributable to Sponsored REIT liquidations and other nonrecurring items.
- Whether occupancy and same-store NOI trends improve, and how the 801 Marquette redevelopment and vacant Houston property lease up.
- Debt maturities, borrowing costs, covenant headroom, and exposure to rising rates as hedges expire.
- The sustainability of the reduced $0.09 quarterly distribution relative to recurring FFO, capital needs, and rental cash flow.
- Repayment prospects and collateral values for Sponsored REIT loans, including the remaining undrawn commitments.