Empire State Realty Trust, Inc. — Q2 2022 Form 10-Q
Reporting period: Three and six months ended June 30, 2022; comparisons are with the corresponding 2021 periods. ESRT is a New York metropolitan-area REIT with office, retail and multifamily properties, plus the Empire State Building Observatory. Its portfolio totaled 9.9 million rentable square feet and included two multifamily properties with 625 units.
Financial and operating performance
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Total revenue | $198.0 million | $153.4 million | $362.1 million | $298.7 million |
| Operating income | $46.5 million | $26.5 million | $52.5 million | $44.8 million |
| Net income | $48.7 million | $4.4 million | $31.5 million | $1.2 million |
| Net income attributable to common stockholders | $29.6 million; $0.18 diluted EPS | $2.1 million; $0.01 diluted EPS | $18.3 million; $0.11 diluted EPS | $(0.5) million; $0.00 diluted EPS |
| Net cash provided by operating activities | Not presented quarterly | Not presented quarterly | $83.7 million | $83.7 million |
| Core FFO attributable to common stockholders and OP | $79.2 million | $48.8 million | $128.3 million | $89.8 million |
Q2 total revenue rose 29.1%; operating income increased 75.6%. Six-month revenue increased 21.2%, while operating income rose 17.2%. Core FFO, NOI and FFO are non-GAAP measures; the filing cautions they are not substitutes for GAAP earnings or cash flow and may not be comparable across companies.
Rental revenue was $149.3 million in Q2, up 6.1%, and $296.9 million for the first half, up 5.6%. Observatory revenue increased to $27.4 million in Q2 from $8.4 million, and to $40.6 million for the first half from $11.0 million. Lease termination fees were $18.9 million in Q2 and $20.0 million in the first half, versus $3.3 million and $4.6 million, respectively.
- Portfolio operations: The total commercial portfolio was 87.8% leased and the NYC office portfolio 88.3% leased. ESRT signed 320,225 rentable square feet of leases in Q2; 634,582 square feet of office leases were signed in the first half.
- Margins and expenses: Q2 operating margin was approximately 23.5%, versus 17.3% a year earlier. Higher property and observatory operating costs and depreciation and amortization partly offset revenue gains. Management attributed higher depreciation to accelerated depreciation at one property following a 2021 impairment and depreciation from recently acquired multifamily properties.
Balance sheet, liquidity and capital
- At June 30, 2022, cash and cash equivalents were $359.4 million and restricted cash was $53.3 million. ESRT also had $850 million available under its unsecured revolving credit facility, with no revolver borrowings.
- Total consolidated debt principal was approximately $2.30 billion; debt carrying value was $2.28 billion. Weighted-average interest rate was 3.9%, weighted-average maturity 6.9 years, and net debt to total market capitalization 49.0%. Excluding scheduled amortization, no debt matured before November 2024. All reported debt covenants were satisfied.
- Six-month cash flows included $83.7 million from operations, $56.6 million used in investing and $88.9 million used in financing. Cash and restricted cash declined $61.9 million to $412.8 million, primarily reflecting property acquisition and capital spending, share repurchases, and higher dividends and distributions.
- ESRT reported $105.3 million of estimated future capital expenditures, including tenant improvements and leasing commissions, under existing leases. Six-month portfolio capital expenditures excluding those leasing costs were $19.7 million.
- Common dividends were $0.035 per share in Q2 and $0.070 per share for the first half. Six-month repurchases of common shares used $64.4 million. Through July 21, 2022, management reported $53.7 million of Q2-period repurchases at a weighted-average $7.90 per share.
Material changes and unusual items
- Q2 net income included a $27.2 million gain on transferring 383 Main Avenue in Norwalk, Connecticut, to its lender in a consensual foreclosure; the property had a $30 million mortgage. The gain was non-cash, and debt associated with the property was extinguished.
- Observatory attendance reached 573,000 visitors in Q2, compared with 162,000 a year earlier. Management linked the recovery to tourism, while noting attendance remained sensitive to travel conditions and the pandemic.
- Revenue also benefited from higher lease termination fees, recently acquired multifamily properties, and higher observatory visitation. Higher operating costs reflected payroll, utilities, cleaning, maintenance and increased observatory operating hours.
- Interest-rate swap fair values improved substantially versus year-end 2021. ESRT entered into forward swaps totaling $390 million to replace an expiring $265 million swap; once effective, management said the term-loan interest rate would be fully fixed. The filing estimates a 1 percentage-point rate increase would have raised Q2 interest expense by approximately $0.6 million, based on floating-rate debt balances.
Outlook, risks and contingencies
The filing provides no specific quantitative earnings or revenue guidance. Management said it anticipated positive operating cash flow and expected to fund near-term needs through operating cash flow, cash, debt issuance and available revolver capacity. It expected to make distributions as required to maintain REIT qualification, while noting distributions remain subject to operating needs and debt obligations.
- Key business risks cited include lower office demand from hybrid work, lease defaults or non-renewals, vacancy and rent pressure, tourism declines and competition for observatory visitors, inflation or recession, rising interest rates, refinancing availability, property-value declines and impairment, and development, environmental, weather and supply-chain risks.
- Approximately 12.2% of portfolio rentable area was available to lease at quarter-end, excluding signed leases not yet commenced. Leases covering 3.4% of portfolio area were due to expire in 2022 and 6.2% in 2023; management estimated these represented 4.0% and 7.2% of annualized rent, respectively.
- Observatory goodwill fair value exceeded its carrying value by less than 15% in the second-quarter impairment test. Management noted that valuation estimates rely on assumptions that may change and said it would continue assessing impairment.
- A long-running arbitration-related matter includes a judgment of approximately $1.2 million, which respondents appealed. A motion to dismiss the appeal and judgment was pending; a magistrate judge also recommended rejecting additional claimant claims, subject to the district judge’s decision. ESRT said it was not otherwise involved in material litigation beyond ordinary-course matters.
Most important facts for investors to verify
- How much reported earnings growth reflects recurring rental and observatory operations versus the $27.2 million foreclosure gain and elevated lease termination fees.
- Whether leasing, occupancy and renewal activity sustain revenue amid the disclosed availability and upcoming lease expirations, and whether the observatory’s tourism recovery continues.
- Funding capacity for the $105.3 million of estimated lease-related capital commitments alongside dividends, repurchases and debt service.
- Debt maturities, refinancing costs, interest-rate exposure and covenant headroom, including the transition from LIBOR to SOFR-linked arrangements.
- Developments in the observatory goodwill impairment assessment and the pending litigation matters.