Seritage Growth Properties — Q3 2021 Form 10-Q
Reporting period: Three and nine months ended September 30, 2021. Dollar figures are in millions unless otherwise noted. The filing is unaudited.
Business context and reporting period
Seritage owns, develops, redevelops, manages and leases retail and mixed-use properties. At quarter-end, its portfolio comprised interests in 170 properties and approximately 10.0 million square feet of gross leasable or build-to-suit area, including approximately 4.0 million square feet in unconsolidated entities. The company also reported approximately 600 acres held for or under development and approximately 10.0 million square feet, or 850 acres, designated for disposal. Sears no longer occupied space in the portfolio after March 15, 2021.
Following a 2021 restructuring and portfolio review, management said it expects to reposition the portfolio around residential developments, premier mixed-use assets and multi-tenant retail destinations.
Key financial metrics
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Total revenue | $29.0 | $33.7 | $88.2 | $88.8 |
| Rental income | $28.8 | $34.0 | $87.6 | $88.7 |
| Net loss | $(26.3) | $(72.4) | $(132.6) | $(103.3) |
| Net loss attributable to Seritage common shareholders | $(21.8) | $(51.3) | $(104.8) | $(74.3) |
| Class A loss per share | $(0.50) | $(1.33) | $(2.50) | $(1.95) |
| Operating cash flow | Not separately presented for the quarter | $(85.6) | $(25.3) | |
| Investing cash flow | Not separately presented for the quarter | $95.8 | $(9.7) |
Operating measure: Company-reported non-GAAP NOI was $7.4 million in Q3 2021 versus $4.7 million in Q3 2020; nine-month NOI was $21.4 million versus $26.1 million. Total NOI, including Seritage’s share of unconsolidated properties, was $8.1 million versus $6.0 million for Q3 and $25.1 million versus $29.1 million for nine months. These measures are not GAAP cash flow or net income measures.
Cash, debt and equity: September 30 cash and cash equivalents were $153.4 million, plus $7.2 million of restricted cash. The Term Loan Facility had $1.6 billion of principal outstanding, carried a 7.0% rate and matures July 31, 2023; its balance sheet carrying value, net of issuance costs, was $1,599.2 million. The company also reported $20.6 million of sale-leaseback financing obligations. Nine-month interest expense was $81.8 million, compared with $66.4 million; cash interest paid was $86.3 million. Total equity was $751.7 million, down from $882.7 million at December 31, 2020.
Material changes versus the prior comparable period
- Q3 revenue fell $4.7 million year over year, primarily reflecting the absence of $6.0 million of Sears/Kmart rent after lease terminations, partly offset by $3.2 million more rent from diversified tenants and new leases.
- Q3 net loss narrowed year over year, helped by a $22.8 million real estate sale gain versus a $14.7 million loss a year earlier, lower depreciation and amortization, and lower impairment expense. Nine-month net loss widened, principally alongside impairment charges of $70.1 million versus $16.4 million and higher interest expense.
- Q3 interest expense increased $4.0 million, and nine-month interest expense increased $15.4 million, primarily because less interest was capitalized; the nine-month increase also reflected mortgage-recording costs.
- Operating cash outflow increased to $85.6 million from $25.3 million. Investing cash flow improved, mainly due to property-sale proceeds, but was partly offset by development spending and investments in unconsolidated entities.
- Seritage sold 14 properties and pad sites in the first nine months for aggregate consideration of $203.7 million and recorded $65.1 million of net sale gains. Net cash proceeds from real estate sales were $195.2 million. It also recorded $70.1 million of impairments on 34 real estate assets.
- Class A shares outstanding rose to 43.6 million from 38.9 million at year-end, mainly following exchanges of 4.65 million Operating Partnership units for shares.
Outlook, liquidity, risks and unusual items
- Management said rental income did not cover operating obligations during the first nine months and expects obligations to continue exceeding property rental income. It plans to rely on cash on hand and capital sources including property and joint-venture interest sales, joint-venture financing, and potentially debt or equity issuance. Management judged its plans probable to be implemented within one year of issuance of the statements and expected them to fund obligations and development spending.
- The $400 million incremental facility is not currently accessible: Seritage had not met its $200 million annualized non-Sears tenant rental-income conditions. Access also depends on other agreement requirements.
- As of September 30, the company was not in compliance with certain Term Loan Facility financial metrics. This restricted asset sales and joint ventures without Berkshire Hathaway’s consent and triggered springing collateral requirements; the filing says this was not itself an event of default. The lender had consented to transactions submitted for approval to date, but future consent is not assured. Seritage said it had paid all interest due and had not deferred interest.
- COVID-19 effects remain uncertain. Seritage reported collecting 97% of rental income for the three- and nine-month periods and agreeing to defer an additional 1%; it cautioned that tenant payment performance and future rent modifications remain uncertain.
- Impairment expense reflected a portfolio review and changes in asset plans, anticipated holding periods or projected cash flows. Management said additional impairments may occur. Q3 impairments were $3.8 million on five properties being marketed for sale.
- Risks include construction-material and labor inflation, supply-chain disruption, project delays, higher borrowing costs, consumer and retail-market weakness, and tenants’ ability to pay rent.
- A Sears-related lawsuit alleges, among other claims, that the 2015 property transactions were fraudulent transfers and seeks rescission or damages; the complaint alleges the properties were worth $649 million to $749 million more than the purchase price. Seritage disputes the claims and intends to defend itself. No litigation liability was recorded; the filing does not provide a clear estimate of potential loss. Seritage also sued certain D&O insurers over defense costs.
- No numerical earnings, revenue or development guidance was provided. The board had not declared common-share dividends in 2021; quarterly Series A preferred dividends were $0.4375 per share. Common dividends had not been declared since Q1 2019.
Important facts for investors to verify
- Cash runway and the pace of property sales relative to recurring operating cash outflows, debt service and development commitments.
- Compliance with Term Loan Facility metrics, collateral requirements, lender approvals for asset sales, and the path to the July 2023 maturity.
- Whether rental income and signed leases can meet the $200 million threshold for access to the incremental facility.
- Progress, budgets, financing and expected returns for development projects, particularly amid cost inflation and supply-chain constraints.
- Updates on impairment assumptions, asset dispositions and the Sears-related litigation, including any changes to potential exposure or insurance recovery.