Piedmont Office Realty Trust, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. The filing reports Piedmont Office Realty Trust, Inc. (NYSE: PDM), a REIT focused on commercial office properties. At quarter-end, it owned 66 in-service properties totaling approximately 19 million square feet; the portfolio was 89.2% leased, versus 93.4% a year earlier.
Key financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $137.6 million | $138.5 million | $434.7 million | $411.8 million |
| Real estate operating income | $28.8 million | $3.0 million | $97.5 million | $44.2 million |
| Net income (loss) attributable to Piedmont | $126.1 million | $(13.1) million | $164.9 million | $69.5 million |
| Diluted earnings per share | $0.87 | $(0.09) | $1.13 | $0.48 |
| NAREIT FFO per diluted share | $0.42 | $0.41 | $1.33 | $1.22 |
| Adjusted FFO | $52.4 million | $50.5 million | $157.4 million | $143.7 million |
Q3 real estate operating margin was approximately 20.9% of revenue, compared with 2.2% a year earlier; the prior-year quarter included a $23.0 million impairment charge. For the first nine months, the comparable margins were 22.4% and 10.7%, respectively; 2016 included $33.9 million of impairment charges. FFO, Core FFO, AFFO and NOI measures are non-GAAP measures and may not be comparable with similarly named measures at other REITs.
Cash flow: Nine-month operating cash flow was $176.3 million, compared with $172.0 million in 2016. Capital expenditures were $65.4 million, down from $88.4 million. Investing activities provided $301.5 million, principally reflecting property sales; financing activities used $448.8 million. Cash and cash equivalents were $36.1 million at September 30, up from $7.0 million at year-end 2016.
Debt and liquidity: Debt carrying value was $1.704 billion at September 30, down from $2.020 billion at December 31, 2016; estimated debt fair value was $1.732 billion. The weighted-average effective debt rate was 3.47%. The company reported no borrowings on its $500 million revolving credit facility and said its full capacity was available, in addition to cash on hand. Management reported compliance with debt covenants. The earliest stated debt maturity was the $170 million term loan due May 2018.
Material changes and notable items
- Q3 net income included a $109.5 million gain on the July sale of Two Independence Square in Washington, D.C. The property generated $352.2 million in net proceeds. The gain was approximately $0.75 per diluted share; it is a major reason reported earnings rose sharply and should not be treated as recurring operating performance.
- The company used sale proceeds to repay the $140 million WDC fixed-rate loans and the outstanding $178 million balance on its $500 million credit line. It also sold Sarasota Commerce Center II in June and its 72% interest in the 8560 Upland Drive joint-venture property in July; the latter generated a $3.7 million gain recognized through joint-venture income.
- Nine-month revenue increased $22.9 million year over year, primarily from leases commencing in 2016 and 2017. Q3 revenue declined $0.9 million, with property sales partly offset by leasing activity and the operation of the completed 500 TownPark building.
- Same-store NOI increased 5.2% on a cash basis and 1.1% on an accrual basis in Q3; for the first nine months, increases were 11.0% and 6.7%, respectively. Management cited lease commencements, the end of rent abatements, and one-time items including tenant-dispute reimbursement recovery as contributors.
Outlook, risks and contingencies
The filing provides no numerical earnings or FFO guidance. Management expected to remain a net seller of assets in 2017 and described cash on hand, operating cash flow, the available credit line and selective property dispositions as liquidity sources. The Board declared a fourth-quarter dividend of $0.21 per common share, payable January 4, 2018 to holders of record November 24, 2017.
- Leasing and occupancy: occupancy fell to 89.2%, partly because roughly 700,000 square feet of development and redevelopment space entered service, lease expirations and property sales. About 421,000 square feet of executed leases for vacant space had not commenced; approximately 1.1 million square feet of commenced leases were in rent or operating-expense abatement. Expirations represented 0.6% of annualized lease revenue for the remainder of 2017 and 7.9% for 2018.
- Capital commitments: existing leases carried approximately $32.1 million of potential non-incremental tenant-improvement commitments over five years, much of it expected within three years, plus $15.2 million of incremental tenant-improvement commitments. Future leasing can also require substantial improvement allowances and commissions.
- Interest-rate exposure: most debt was fixed or effectively fixed, but the $170 million term loan and any future revolver borrowings were variable-rate exposures. Management estimated a 1 percentage-point increase in rates on existing variable borrowings would add approximately $1.7 million to annual interest expense.
- Other risks include office-market demand and competition, large-tenant defaults or terminations, property-sale and impairment assumptions, development and leasing costs, inflation not fully recovered through leases, and continued REIT qualification. Routine litigation was not expected to materially affect the company; no material pending legal proceedings or material changes to previously disclosed risk factors were reported.
- Accounting updates: management did not anticipate a material financial-statement impact from the revenue-recognition changes effective in 2018, though some revenue classification may change. The potential impact of the new lease standard effective in 2019 remained under evaluation.
Important facts for investors to verify
- How much of reported earnings and the increase in year-to-date net income reflects property-sale gains rather than recurring operations; consider FFO, AFFO and same-store NOI definitions and reconciliations.
- Whether leasing activity improves occupancy and converts uncommenced or abated leases into rent and cash flow, while managing upcoming expirations and tenant-improvement costs.
- The company’s refinancing plans for the $170 million May 2018 maturity and subsequent 2019–2020 term-loan maturities, along with its use of the available credit facility.
- Whether post-sale portfolio performance, disposition plans, capital spending and dividends remain consistent with available operating cash flow and REIT distribution requirements.