Kilroy Realty Corporation (NYSE: KRC) — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Unaudited. The filing presents Kilroy Realty Corporation and its operating partnership as a consolidated real estate business.
Business context
Kilroy is a REIT focused on Class A office and mixed-use properties in coastal California and Greater Seattle. At June 30, its stabilized office portfolio comprised 114 buildings and 14.3 million rentable square feet; office occupancy was 92.3% and leasing was 96.0%. The company also had development projects underway and a five-site future pipeline.
Key financial metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Total revenue | $219.4 million | $200.5 million | $440.8 million | $401.7 million |
| Net income | $24.4 million | $47.2 million | $69.8 million | $89.0 million |
| Net income available to common stockholders | $19.6 million | $42.2 million | $59.4 million | $79.1 million |
| Diluted earnings per share | $0.17 | $0.41 | $0.52 | $0.77 |
| Funds from Operations (FFO) | $93.1 million | $99.9 million | $203.3 million | $199.7 million |
Management-defined net operating income (NOI) was $157.4 million in Q2, up 10.9%, and $315.2 million for the half year, up 10.9%. Development and acquisition contributions more than offset weaker same-store NOI, which declined 1.3% in Q2 and 0.7% for the half year. FFO is a non-GAAP supplemental measure, not a substitute for GAAP results.
- Cash flow: Six-month operating cash flow was $224.0 million, versus $165.7 million a year earlier. Investing used $374.3 million, principally for development and property capital expenditures; financing provided $695.3 million.
- Liquidity: Cash and cash equivalents were $605.0 million at June 30, with $16.3 million restricted cash. The revolving credit facility had no borrowings and $750 million available.
- Debt: Gross debt principal was $3.682 billion; reported debt net of discounts and financing costs was approximately $3.655 billion. Debt represented 34.9% of total market capitalization. The company reported compliance with debt covenants.
- Distribution: The quarterly dividend was $0.485 per share; the corresponding distribution was paid July 15, 2020.
Material changes versus the prior comparable period
- Q2 revenue rose 9.4%, while net income available to common stockholders fell 53.5%. Higher depreciation, interest expense, and general and administrative costs contributed to the decline; Q2 2019 also included a $7.2 million property-sale gain.
- Q2 interest expense increased 35.4% to $15.9 million, primarily reflecting higher average debt. G&A rose 94.4% to $38.6 million, including cash severance costs related to executive and other employee departures.
- Occupancy at quarter-end declined from 94.6% at December 31, 2019 to 92.3%. Same-store occupancy averaged 92.5% in Q2, versus 93.9% a year earlier.
- Cash increased substantially from $60.0 million at year-end, following equity proceeds and new debt issuance. The company issued $350 million of 4.27% senior notes due 2031 and settled equity forward contracts, raising net proceeds of approximately $474.9 million and $247.3 million, respectively.
Outlook, management commentary, and risks
- COVID-19 and collections: The company reported collecting 95.1% of Q2 gross rent billings by June 30, including 100% from its 15 largest tenants. Retail collections were materially weaker: 32.3% of retail billings were collected, 34.5% deferred, and 29.7% remained outstanding. As of the report date, approximately 95% of July billings had been collected. Management cautioned that future collections and tenant relief efforts are uncertain.
- The company deferred rent for most retail tenants for April through July in exchange for lease-term extensions; office relief requests were assessed individually. COVID-related collectability reviews reduced rental income by $5.9 million in Q2 and $12.4 million for the six months.
- Management said liquidity was sufficient to navigate near-term uncertainty; as of July 28, it reported approximately $560 million cash and $750 million revolver availability. It cited no material debt maturities before July 2022. These are management assessments, not guarantees.
- Five projects were under construction, with estimated total investment of about $1.1 billion; management noted that COVID-related restrictions could delay construction or increase costs. Development spending, leasing, occupancy, rental rates, asset values, and access to financing remain exposed to pandemic and market conditions.
- No specific earnings or FFO guidance was provided. The company said it would reassess dividend levels during 2020 and that distributions remain at the board’s discretion.
- Other notable items include $61.9 million of accrued environmental remediation liabilities for development sites, with possible additional costs not currently estimable, and an approximately $814.8 million commitment for operating and development contracts and executed leases, excluding ground leases.
Most important facts for investors to verify
- Whether rent collections, especially from retail tenants, and tenant receivable collectability improve or deteriorate after the reporting date.
- Occupancy, leasing demand, renewal terms, and sublease availability across the office portfolio, including the effect of tenant work-from-home patterns.
- Progress, costs, leasing, and delivery timing for development projects, and whether projected commitments and financing needs change.
- Liquidity, debt covenant headroom, refinancing conditions ahead of July 2022 maturities, and the impact of further borrowing or equity issuance.
- Potential additional environmental remediation costs and the sustainability of the dividend amid uncertain operating conditions.