Item 2. Management’s Discussion and Analysis of Financial Conditions and Results of Operations
The following discussion and analysis should be read in conjunction with the unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for the quarter ended March 31, 2023 (the “Report”), the audited financial statements for the year ended December 31, 2022, which are included in our Annual Report on Form 10-K filed with the SEC on February 21, 2023, and the risk factors in Item 1A, “Risk Factors,” of our Annual Report on Form 10-K for the year ended December 31, 2022.
This discussion and analysis, and other sections of this Report contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), with respect to the expectations for future periods. Forward-looking statements do not discuss historical fact, but instead include statements related to expectations, projections, intentions or other items related to the future. Words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “will,” “assumes,” “may,” “projects,” “outlook,” “future,” and variations of those words and similar expressions are intended to identify forward-looking statements. These forward-looking statements involve known and unknown risks, uncertainties, and other factors that may cause the actual results, performance, or achievements to be materially different from the results of operations, financial condition, or plans expressed or implied by the forward-looking statements. Although we believe the expectations reflected in these forward-looking statements are based upon reasonable assumptions, we can give no assurance that our expectations will be achieved. Any statements contained herein that are not statements of historical fact should be deemed forward-looking statements. As a result, reliance should not be placed on these forward-looking statements, as these statements are subject to known and unknown risks, uncertainties, and other factors beyond our control and could differ materially from actual results and performance.
The following factors, among others, could cause our future results to differ materially from those expressed in the forward-looking statements:
•inflation and price volatility in the global economy;
•uncertain global macro-economic and political conditions;
•deteriorating economic conditions, including rising unemployment rates, energy costs, and inflation, in the markets where we own apartment communities or in which we may invest in the future;
•rental conditions in our markets, including occupancy levels and rental rates, potential inability to renew residents or obtain new residents upon expiration of existing leases, changes in tax and housing laws, include rent control laws, or other factors;
•timely access to material and labor required to renovate and maintain apartment communities;
•adverse changes in our markets, including future demand for apartment homes in those markets, barriers of entry into new markets, limitations on the ability to increase rental rates, inability to identify and consummate attractive acquisitions and dispositions on favorable terms, our ability to reinvest sales proceeds successfully, and inability to accommodate any significant decline in the market value of real estate serving as collateral for mortgage obligations;
•the COVID-19 pandemic and its ongoing effects on our employees, residents, and commercial tenants, third party vendors and suppliers, and apartment communities, as well as our cash flow, business, financial condition, and results of operation;
•the impact of the Russian invasion of Ukraine, including sanctions imposed on Russia by the U.S. and other countries, on inflation, trade, and general economic conditions;
•reliance on a single asset class (multifamily) and certain geographic areas (Midwest and Mountain West regions) of the U.S.;
•inability to expand operations into new or existing markets successfully;
•failure of new acquisitions to achieve anticipated results or be efficiently integrated;
•inability to complete lease-up of projects on schedule and on budget;
•inability to sell our non-core properties on terms that are acceptable;
•failure to reinvest proceeds from sales of properties into tax-deferred exchanges, which could necessitate special dividend and/or tax protection payments;
•inability to fund capital expenditures out of cash flow;
•inability to pay, or need to reduce, dividends on common shares;
•financing risks, including the potential inability to meet existing covenants in existing credit facilities or to obtain new debt or equity financing on favorable terms, or at all;
•level and volatility of interest or capitalization rates or capital market conditions;
•uninsured losses due to insurance deductibles, uninsured claims or casualties or losses in excess of applicable coverage;
•loss contingencies and the availability and cost of casualty insurance for losses;
•inability to continue to satisfy complex tax rules in order to maintain status as a REIT for federal income tax purposes, inability of the Operating Partnership to satisfy the rules to maintain its status as a partnership for federal income tax purposes, and the risk of changes in laws affecting REITs;
•inability to attract and retain qualified personnel;
•cyber liability or potential liability for breaches of privacy or information security systems;
•inability to address catastrophic weather, natural events, and climate change;
•inability to comply with laws and regulations applicable to the business and any related investigations or litigation; and
•other risks identified in this Report, in other SEC reports, or in other documents that we publicly disseminate.
New factors may also arise from time to time that could have an adverse effect on our business and results of operations. Except as otherwise required by law, we undertake no obligation to publicly update or revise these forward-looking statements to reflect events, circumstances, or changes in expectations after the date on which this Report is filed. Readers also should review the risks and uncertainties detailed from time to time in filings with the SEC, including the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” contained in our Annual Report on Form 10-K for the year ended December 31, 2022.
Executive Summary
We are a real estate investment trust, or REIT, that owns, manages, acquires, redevelops, and develops apartment communities. We primarily focus on investing in markets characterized by stable and growing economies, strong employment, and an attractive quality of life that we believe, in combination, lead to higher demand for apartment homes and retention of our residents. As of March 31, 2023, we owned interests in 75 apartment communities consisting of 13,497 apartment homes. Property owned, as presented in our Condensed Consolidated Balance Sheets at historical cost, was $2.4 billion at March 31, 2023, compared to $2.5 billion at December 31, 2022.
Renting apartment homes is our primary source of revenue, and our business objective is to provide great homes for our residents. We strive to maximize resident satisfaction and retention by investing in high-quality assets in desirable locations and creating vibrant apartment communities through resident-centered operations. We believe that delivering superior resident experiences will enhance resident satisfaction while also driving profitability for our business and shareholders. We have paid quarterly distributions continuously since our first distribution in 1971.
Overview of the Three Months Ended March 31, 2023
•During the three months ended March 31, 2023, we sold nine non-core apartment communities for an aggregate sales price of $144.3 million and a realized gain on sale of $60.2 million. See Note 8 of the Notes to the Condensed Consolidated Financial Statements in the report for more details. In connection with the dispositions, we paid down our $100.0 million term loan.
•For the three months ended March 31, 2023, revenue increased by $7.6 million or 12.6% to $67.9 million, compared to $60.3 million for the three months ended March 31, 2022, due to a 10.5% increase from same-store communities and an increase from non-same-store communities.
•Total expenses increased by $1.2 million to $65.5 million for the three months ended March 31, 2023, compared to $64.2 million for the three months ended March 31, 2022 due to increased property operating expenses, real estate taxes, and general and administrative expenses, offset by lower depreciation and amortization.
•Net income was $2.76 per diluted share for the three months ended March 31, 2023, compared to net loss of $0.68 per diluted share for the same period of 2022.
•Non-GAAP Core Funds from Operations (“Core FFO”) applicable to common shares and Units for the three months ended March 31, 2023 increased by $1.6 million to $19.5 million compared to $17.9 million for the three months ended March 31, 2022. See the description of Core FFO on page 26 and the reconciliation of net income available to common shareholders to FFO and Core FFO on page 27. This increase was primarily due to increased NOI from same-store and non-same-store communities, offset by increased interest expense and decreased interest and other income. The drivers of these changes are discussed in more detail in the “Results of Operations” section below.
Results of Operations
GAAP and Non-GAAP Financial Measures
Net operating income (“NOI”) is a non-GAAP financial measure, which we define as total real estate revenues less property operating expenses, including real estate taxes which is reconciled to operating income (loss) below. We believe that NOI is an important supplemental measure of operating performance for real estate because it provides a measure of operations that is unaffected by depreciation, amortization, financing costs, property management expenses, casualty losses, and general and administrative expenses. NOI does not represent cash generated by operating activities in accordance with GAAP and should not be considered an alternative to net income (loss), net income (loss) available for common shareholders, or cash flow from operating activities as a measure of financial performance.
We have provided certain information on a same-store and non-same-store basis. Same-store apartment communities are owned or in service for the entirety of the periods being compared, and, in the case of newly-constructed properties, have achieved a target level of physical occupancy of 90%. On the first day of each calendar year, we determine the composition of our same-store pool for that year as well as adjust the previous year, which allows us to evaluate the performance of existing apartment communities and their contribution to net income. We believe that measuring performance on a same-store basis is useful to investors because it enables evaluation of how a fixed pool of communities are performing year-over-year. We use this measure to assess whether or not we have been successful in increasing NOI, raising average rental revenue, renewing the leases on existing residents, controlling operating costs, and making prudent capital improvements. The discussion below focuses on the main factors affecting real estate revenue and expenses from same-store apartment communities because changes from one year to another in real estate revenue and expenses from non-same-store apartment communities are generally due to the addition of those properties to the real estate portfolio, and accordingly provide less useful information for evaluating ongoing operational performance of the real estate portfolio.
For the comparison of the three months ended March 31, 2023 and 2022, five apartment communities were non-same-store. Sold communities are included in “Dispositions,” while “Other” includes non-multifamily properties and the non-multifamily components of mixed-use properties.
Reconciliation of Operating Income (Loss) to Net Operating Income (non-GAAP)
The following table provides a reconciliation of operating income (loss) to NOI (non-GAAP), which is defined above.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| (in thousands, except percentages) |
| Three Months Ended March 31, | | | |
| 2023 | | 2022 | | $ Change | | % Change | | | | | | | | | |
Operating income (loss) | $ | 62,597 | | | $ | (3,911) | | | $ | 66,508 | | | (1,700.5) | % | | | | | | | | | |
Adjustments: | | | | | | | | | | | | | | | | |
Property management expenses | 2,568 | | | 2,253 | | | 315 | | | 14.0 | % | | | | | | | | | |
Casualty (gain) loss | 252 | | | 598 | | | (346) | | | (57.9) | % | | | | | | | | | |
Depreciation and amortization | 25,993 | | | 31,001 | | | (5,008) | | | (16.2) | % | | | | | | | | | |
| | | | | | | | | | | | | | | | |
General and administrative expenses | 7,723 | | | 4,500 | | | 3,223 | | | 71.6 | % | | | | | | | | | |
(Gain) loss on sale of real estate and other investments | (60,159) | | | — | | | (60,159) | | | N/A | | | | | | | | | |
Net operating income | $ | 38,974 | | | $ | 34,441 | | | $ | 4,533 | | | 13.2 | % | | | | | | | | | |
The following consolidated results of operations, including GAAP and non-GAAP metrics, cover the three months ended March 31, 2023 and 2022.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| (in thousands, except percentages) |
| Three Months Ended March 31, | | | |
| 2023 | | 2022 | | $ Change | | % Change | | | | | | | | | |
Revenue | | | | | | | | | | | | | | | | |
Same-store(1) | $ | 58,859 | | | $ | 53,249 | | | $ | 5,610 | | | 10.5 | % | | | | | | | | | |
Non-same-store(1) | 3,639 | | | 1,667 | | | 1,972 | | | 118.3 | % | | | | | | | | | |
Other(1) | 1,002 | | | 916 | | | 86 | | | 9.4 | % | | | | | | | | | |
Dispositions(1) | 4,397 | | | 4,482 | | | (85) | | | (1.9) | % | | | | | | | | | |
Total | 67,897 | | | 60,314 | | | 7,583 | | | 12.6 | % | | | | | | | | | |
Property operating expenses, including real estate taxes | | | | | | | | | | | | | | | | |
Same-store(1) | 24,593 | | | 22,370 | | | 2,223 | | | 9.9 | % | | | | | | | | | |
Non-same-store(1) | 1,310 | | | 710 | | | 600 | | | 84.5 | % | | | | | | | | | |
Other(1) | 151 | | | 329 | | | (178) | | | (54.1) | % | | | | | | | | | |
Dispositions(1) | 2,869 | | | 2,464 | | | 405 | | | 16.4% | | | | | | | | | |
Total | 28,923 | | | 25,873 | | | 3,050 | | | 11.8 | % | | | | | | | | | |
Net operating income(1) | | | | | | | | | | | | | | | | |
Same-store(1) | 34,266 | | | 30,879 | | | 3,387 | | | 11.0 | % | | | | | | | | | |
Non-same-store(1) | 2,329 | | | 957 | | | 1,372 | | | 143.4 | % | | | | | | | | | |
Other(1) | 851 | | | 587 | | | 264 | | | 45.0 | % | | | | | | | | | |
Dispositions(1) | 1,528 | | | 2,018 | | | (490) | | | (24.3) | % | | | | | | | | | |
Total | $ | 38,974 | | | $ | 34,441 | | | $ | 4,533 | | | 13.2 | % | | | | | | | | | |
Property management expenses | (2,568) | | | (2,253) | | | 315 | | | 14.0 | % | | | | | | | | | |
Casualty gain (loss) | (252) | | | (598) | | | (346) | | | (57.9) | % | | | | | | | | | |
Depreciation and amortization | (25,993) | | | (31,001) | | | (5,008) | | | (16.2) | % | | | | | | | | | |
| | | | | | | | | | | | | | | | |
General and administrative expenses | (7,723) | | | (4,500) | | | 3,223 | | | 71.6 | % | | | | | | | | | |
Gain (loss) on sale of real estate and other investments | 60,159 | | | — | | | (60,159) | | | N/A | | | | | | | | | |
Interest expense | (10,319) | | | (7,715) | | | 2,604 | | | 33.8 | % | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Interest and other income (loss) | 49 | | | 1,063 | | | (1,014) | | | (95.4) | % | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
NET INCOME (LOSS) | $ | 52,327 | | | $ | (10,563) | | | $ | 62,890 | | | (595.4) | % | | | | | | | | | |
Dividends to Series D preferred unitholders | (160) | | | (160) | | | — | | | — | | | | | | | | | | |
Net (income) loss attributable to noncontrolling interests – Operating Partnership and Series E preferred units | (8,566) | | | 2,157 | | | (10,723) | | | (497.1) | % | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Net (income) loss attributable to noncontrolling interests – consolidated real estate entities | (30) | | | (23) | | | (7) | | | 30.4 | % | | | | | | | | | |
Net income (loss) attributable to controlling interests | 43,571 | | | (8,589) | | | 52,160 | | | (607.3) | % | | | | | | | | | |
Dividends to preferred shareholders | (1,607) | | | (1,607) | | | — | | | — | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
NET INCOME (LOSS) AVAILABLE TO COMMON SHAREHOLDERS | $ | 41,964 | | | $ | (10,196) | | | $ | 52,160 | | | (511.6) | % | | | | | | | | | |
(1)This is a Non-GAAP financial measure which is a component of NOI (non-GAAP), as defined above. Refer to the reconciliation of Operating Income (Loss) to Net Operating Income above. Non-GAAP financial measures should not be considered an alternative to net income (loss), net income (loss) available for common shareholders, or cash flow from operating activities as a measure of financial performance.
| | | | | | | | | | | | | | | |
| Three Months Ended March 31, | | |
Weighted Average Occupancy(1) | 2023 | | 2022 | | | | |
Same-store | 94.8 | % | | 94.1 | % | | | | |
Non-same-store | 95.9 | % | | 91.5 | % | | | | |
Total | 94.9 | % | | 94.0 | % | | | | |
(1)Weighted average occupancy is defined as the percentage resulting from dividing actual rental revenue by scheduled rental revenue. Scheduled rental revenue represents the value of all apartment homes, with occupied homes valued at contractual rental rates pursuant to leases and vacant apartment homes valued at estimated market rents. When calculating actual rents for occupied apartment homes and market rents for vacant homes, delinquencies and concessions are not taken into account. Market rates are determined using the currently offered effective rates on new leases at the community and are used as the starting point in determination of the market rates of vacant apartment homes. Centerspace believes that weighted average occupancy is a meaningful measure of occupancy because it considers the value of each vacant unit at its estimated market rate. Weighted average occupancy may not completely reflect short-term trends in physical occupancy, and the calculation of weighted average occupancy may not be comparable to that disclosed by other REITs.
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Number of Apartment Homes | March 31, 2023 | | March 31, 2022 |
Same-store | 12,885 | | | 12,885 | |
Non-same-store | 612 | | | 397 | |
Total | 13,497 | | | 13,282 | |
Same-store analysis. Revenue from same-store communities increased 10.5% or $5.6 million in the three months ended March 31, 2023, compared to the same period in the prior year. The increase was attributable to 9.6% growth in average monthly revenue per occupied home for the three months ended March 31, 2023 and an increase of 0.7% in occupancy as weighted average occupancy increased from 94.1% in the three months ended March 31, 2022 to 94.8% for the three months ended March 31, 2023. Property operating expenses, including real estate taxes, at same-store communities increased by 9.9% or $2.2 million in the three months ended March 31, 2023, compared to the same period in the prior year. At same-store communities, controllable expenses (which exclude insurance and real estate taxes) increased by $1.2 million, primarily due to repairs and maintenance, which includes turnover and snow removal costs, and compensation. Non-controllable expenses at same-store communities increased by $1.0 million, primarily due to real estate taxes and an increase in insurance premiums and claims. Same-store NOI increased by $3.4 million to $34.3 million for the three months ended March 31, 2023 compared to $30.9 million in the same period of the prior year.
Non-same-store analysis. Revenue from non-same-store communities increased by $2.0 million in the three months ended March 31, 2023, compared to the same period in the prior year. Property operating expenses, including real estate taxes at non-same-store communities increased by $600,000. NOI at non-same-store communities increased by $1.4 million to $2.3 million for the three months ended March 31, 2023 compared to $957,000 in the same period of the prior year. The increase in revenue, property operating expenses, and NOI from non-same-store communities is primarily due to the addition of four apartment communities during the three months ended March 31, 2022 and one apartment community at the end of the third quarter of 2022.
Other and dispositions analysis. Revenue from other properties increased by $86,000 while revenue from dispositions decreased by $85,000 in the three months ended March 31, 2023, compared to the same period in the prior year. Property operating expenses, including real estate taxes at other properties decreased by $178,000 while they increased by $405,000 for dispositions, compared to the same period in the prior year. NOI at other properties increased by $264,000 while NOI on dispositions decreased $490,000, compared to the same period in the prior year.
Property management expenses. Property management expense, consisting of property management overhead and property management fees paid to third parties increased by 14.0% to $2.6 million in the three months ended March 31, 2023, compared to $2.3 million in the same period of the prior year. The increase is primarily due to $352,000 in compensation costs due to filling open positions, additional staffing, and higher pay rates, offset by a decrease related to technology initiatives.
Casualty gain (loss). Casualty gain (loss) decreased to a loss of $252,000 in the three months ended March 31, 2023, compared to a gain of $598,000 in the same period of the prior year. The decrease is due to larger casualty loss activity in the prior year.
Depreciation and amortization. Depreciation and amortization decreased by 16.2% to $26.0 million in the three months ended March 31, 2023, compared to $31.0 million in the same period of the prior year, primarily attributable to a decrease in amortization of in-place leases in the prior year, offset by an increase in depreciation on same-store apartment communities.
General and administrative expenses. General and administrative expenses increased by 71.6% to $7.7 million in the three months ended March 31, 2023, compared to $4.5 million in the same period of the prior year, primarily attributable to $3.2 million in executive severance and transition costs related to the CEO departure.
Gain (loss) on sale of real estate and other investments. Gain on sale of real estate and other investments increased to $60.2 million in the three months ended March 31, 2023, compared to no gain or loss in the same period of the prior year, primarily due to the sale of nine apartment communities in the current year that did not occur in the prior year.
Interest expense. Interest expense increased by 33.8% to $10.3 million in the three months ended March 31, 2023, compared to $7.7 million in the same period of the prior year, primarily due to maintaining larger debt balances with 2022 acquisition activity compared to the same period of the prior year, combined with rising interest rates.
Interest and other income (loss). Interest and other income decreased to income of $49,000 in the three months ended March 31, 2023, compared to income of $1.1 million in the same period of the prior year. The decrease was primarily due to interest income on mortgages receivable that were outstanding in the prior year and a prior year gain on the mark to market adjustment for an interest rate swap contract.
Net income (loss) available to common shareholders. Net income available to common shareholders increased $52.2 million to income of $42.0 million for the three months ended March 31, 2023, compared to a net loss of $10.2 million in the three months ended March 31, 2022.
Funds from Operations and Core Funds from Operations.
We believe that Funds from Operations (“FFO”), which is a non-GAAP financial measures used as a standard supplemental measure for equity real estate investment trusts, is helpful to investors in understanding operating performance, primarily because its calculation does not assume the value of real estate assets diminishes predictably over time, as implied by the historical cost convention of GAAP and the recording of depreciation and amortization.
We use the definition of Funds from Operations FFO adopted by the National Association of Real Estate Investment Trusts, Inc. (“Nareit”). Nareit defines FFO as net income or loss calculated in accordance with GAAP, excluding:
•depreciation and amortization related to real estate;
•gains and losses from the sale of certain real estate assets;
•impairment write-downs of certain real estate assets and investments in entities when the impairment is directly attributable to decreases in the value of depreciable real estate held by the entity; and
•similar adjustments for partially owned consolidated real estate entities.
The exclusion in Nareit’s definition of FFO of impairment write-downs and gains and losses from the sale of real estate assets helps to identify the operating results of the long-term assets that form the base of investments, and assists management and investors in comparing those operating results between periods.
Due to limitations of the Nareit FFO definition, we have made certain interpretations in applying this definition. We believe that all such interpretations not specifically provided for in the Nareit definition are consistent with this definition. Nareit’s FFO White Paper 2018 Restatement clarified that impairment write-downs of land related to a REIT’s main business are excluded from FFO and a REIT has the option to exclude impairment write-downs of assets that are incidental to the main business.
While FFO is widely used by us as a primary performance metric, not all real estate companies use the same definition of FFO or calculate FFO the same way. Accordingly, FFO presented here is not necessarily comparable to FFO presented by other real estate companies. FFO should not be considered as an alternative to net income or any other GAAP measurement of performance, but rather should be considered as an additional, supplemental measure. FFO also does not represent cash generated from operating activities in accordance with GAAP, nor is it indicative of funds available to fund all of the our needs, including our ability to service indebtedness or make distributions to shareholders.
Core Funds from Operations (“Core FFO”), a non-GAAP measure, is FFO adjusted for non-routine items or items not considered core to business operations. By further adjusting for items that are not considered part of core business operations, we believe that Core FFO provides investors with additional information to compare core operating and financial performance between periods. Core FFO should not be considered as an alternative to net income or as any other GAAP measurement of performance, but rather should be considered an additional supplemental measure. Core FFO also does not represent cash generated from operating activities in accordance with GAAP, nor is it indicative of funds available to fund all cash needs, including the ability to service indebtedness or make distributions to shareholders. Core FFO is a non-GAAP and non-standardized financial measure that may be calculated differently by other REITs and that should not be considered a substitute for operating results determined in accordance with GAAP.
Net income available to common shareholders for the three months ended March 31, 2023, increased to $42.0 million compared to a net loss of $10.2 million for the same period of the prior year. FFO applicable to common shares and Units for the three
months ended March 31, 2023, decreased to $16.3 million compared to $18.5 million for the comparable period of the prior year, a decrease of 12.3%. This decrease was primarily due to $3.2 million in severance and transition expenses related to the departure of Mark Decker, former CEO, increased interest expense, and less interest and other income including a mark to market gain on an interest rate swap, offset by increased NOI from same-store communities and non-same-store communities.
Reconciliation of Net Income Available to Common Shareholders to Funds from Operations and Core Funds from Operations
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| (in thousands, except per share and unit amounts) |
| Three Months Ended March 31, | | | |
| 2023 | | 2022 | | | | | |
Net income (loss) available to common shareholders | $ | 41,964 | | | $ | (10,196) | | | | | | |
Adjustments: | | | | | | | | |
Noncontrolling interests – Operating Partnership and Series E preferred units | 8,566 | | | (2,157) | | | | | | |
| | | | | | | | |
Depreciation and amortization | 25,993 | | | 31,001 | | | | | | |
Less depreciation – non real estate | (91) | | | (101) | | | | | | |
Less depreciation – partially owned entities | (19) | | | (21) | | | | | | |
| | | | | | | | |
(Gain) loss on sale of real estate and other investments | (60,159) | | | — | | | | | | |
FFO applicable to common shares and Units | $ | 16,254 | | | $ | 18,526 | | | | | | |
| | | | | | | | |
Adjustments to Core FFO: | | | | | | | | |
Non-cash casualty (gain) loss | 13 | | | 25 | | | | | | |
| | | | | | | | |
Technology implementation costs(1) | — | | | 103 | | | | | | |
| | | | | | | | |
Interest rate swap termination, amortization, and mark-to-market | 138 | | | (613) | | | | | | |
Amortization of assumed debt | (116) | | | (115) | | | | | | |
Pursuit costs | 5 | | | — | | | | | | |
Severance and transition related costs | 3,199 | | | — | | | | | | |
Other miscellaneous items(2) | 49 | | | (4) | | | | | | |
Core FFO applicable to common shares and Units | $ | 19,542 | | | $ | 17,922 | | | | | | |
| | | | | | | | |
FFO applicable to common shares and Units | $ | 16,254 | | | $ | 18,526 | | | | | | |
Dividends to preferred unitholders | 160 | | | 160 | | | | | | |
FFO applicable to common shares and Units - diluted | $ | 16,414 | | | $ | 18,686 | | | | | | |
| | | | | | | | |
Core FFO applicable to common shares and Units | $ | 19,542 | | | $ | 17,922 | | | | | | |
Dividends to preferred unitholders | 160 | | | 160 | | | | | | |
Core FFO applicable to common shares and Units - diluted | $ | 19,702 | | | $ | 18,082 | | | | | | |
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Per Share Data | | | | | | | | |
Net income (loss) per common share - diluted | $ | 2.76 | | | $ | (0.68) | | | | | | |
FFO per share and Unit - diluted | $ | 0.89 | | | $ | 1.01 | | | | | | |
Core FFO per share and Unit - diluted | $ | 1.07 | | | $ | 0.98 | | | | | | |
| | | | | | | | |
Weighted average shares - basic | 15,025 | | | 15,097 | | | | | | |
Effect of redeemable operating partnership Units | 968 | | | 965 | | | | | | |
Effect of Series D preferred units | 228 | | | 228 | | | | | | |
Effect of Series E preferred units | 2,118 | | | 2,186 | | | | | | |
Effect of dilutive restricted stock units and stock options | 20 | | | 66 | | | | | | |
Weighted average shares and Units - diluted | 18,359 | | | 18,542 | | | | | | |
(1)Costs are related to a two-year implementation.
(2)Consists of (gain) loss on investments.
Acquisitions and Dispositions
During the three months ended March 31, 2023, we disposed of nine apartment communities, in four exchange transactions, located in Minnesota and Nebraska for an aggregate sales price of $144.3 million. We had no acquisitions during the three months ended March 31, 2023.
Distributions Declared
Distributions of $0.73 per common share and Unit were declared during the three months ended March 31, 2023 and 2022. Distributions of $0.4140625 per Series C preferred share were declared during the three months ended March 31, 2023 and 2022. Distributions of $0.9655 per Series D preferred unit were declared during the three months ended March 31, 2023 and 2022. Distributions of $0.96875 per Series E preferred unit were declared during the three months ended March 31, 2023 and 2022.
Liquidity and Capital Resources
Overview
We strive to maintain a strong balance sheet and preserve financial flexibility, which we believe should enhance our ability to capitalize on appropriate investment opportunities as they may arise. We intend to continue to focus on core fundamentals, which include generating positive cash flows from operations, maintaining appropriate debt levels and leverage ratios, and controlling overhead costs.
Our primary sources of liquidity are cash and cash equivalents on hand and cash flows generated from operations. Other sources include availability under the unsecured lines of credit, proceeds from property dispositions, including restricted cash related to net tax deferred proceeds, offerings of preferred and common shares under the shelf registration statement, including offerings of common shares under a 2021 at-the-market offering (“2021 ATM Program”), and long-term unsecured debt and secured mortgages.
Our primary liquidity demands are normally-recurring operating and overhead expenses, debt service and repayments, capital improvements to communities, distributions to the holders of preferred shares, common shares, Series D and Series E preferred units, and Units, value-add redevelopment, common and preferred share buybacks and Unit redemptions, and acquisitions of additional communities.
Although we believe that our financial condition and liquidity are sufficient to meet our reasonably anticipated liquidity demands, factors that could impact our future liquidity include, but are not limited to, volatility in capital and credit markets, interest rate increases, the ability to access capital and credit markets, the minimum REIT dividend requirements, and our ability to complete asset purchases, sales, or developments.
As of March 31, 2023, we had total liquidity of approximately $121.4 million, which included $112.5 million available on the lines of credit and $8.9 million of cash and cash equivalents. As of December 31, 2022, we had total liquidity of approximately $153.0 million, which included $142.5 million on the lines of credit and $10.5 million of cash and cash equivalents.
Debt
As of March 31, 2023, we had a multibank, revolving line of credit with total commitments and borrowing capacity of $250.0 million, based on the value of unencumbered properties. As of March 31, 2023, the additional borrowing availability was $110.5 million beyond the $139.5 million drawn. At December 31, 2022, the line of credit borrowing capacity was $250.0 million based on the value of unencumbered properties, of which $113.5 million was drawn on the line. This credit facility matures in September 2025 and has an accordion option to increase borrowing capacity up to $400.0 million.
The interest rates on the line of credit is based, at the Company’s option, on either the lender’s base rate plus a margin, ranging from 25-80 basis points, or the London Interbank Offered Rate (“LIBOR”), plus a margin that ranges from 125-180 basis points based on the consolidated leverage ratio, as defined under the Third Amended and Restated Credit Agreement. The terms of this unsecured credit facility allow for the transition to an alternate benchmark interest rate, including the secured overnight financing rate (“SOFR”), to replace any outstanding LIBOR borrowings at the time LIBOR is no longer published.
We also have a $6.0 million operating line of credit. As of March 31, 2023, the outstanding balance on this line of credit was $4.0 million. This operating line of credit is designed to enhance treasury management activities and more effectively manage cash balances. This operating line matures on August 31, 2024, with pricing based on SOFR.
In January 2021, we amended and expanded our private shelf agreement with PGIM, Inc., an affiliate of Prudential Financial, Inc., and certain affiliates of PGIM, Inc. (collectively, “PGIM”) to increase the aggregate amount available for issuance of unsecured senior promissory notes to $225.0 million. In September 2021, we entered into a note purchase agreement for the issuance of $125.0 million of senior unsecured promissory notes, of which $25.0 million was under the private shelf agreement with PGIM. Under the private shelf agreement with PGIM, we have issued $200.0 million unsecured senior notes with $25.0 million remaining available. The following table shows the notes issued under both private shelf agreements.
| | | | | | | | | | | | | | | | | |
| (in thousands) | | | | |
| Amount | | Maturity Date | | Interest Rate |
Series A | $ | 75,000 | | | September 13, 2029 | | 3.84 | % |
Series B | $ | 50,000 | | | September 30, 2028 | | 3.69 | % |
Series C | $ | 50,000 | | | June 6, 2030 | | 2.70 | % |
Series 2021-A | $ | 35,000 | | | September 17, 2030 | | 2.50 | % |
Series 2021-B | $ | 50,000 | | | September 17, 2031 | | 2.62 | % |
Series 2021-C | $ | 25,000 | | | September 17, 2032 | | 2.68 | % |
Series 2021-D | $ | 15,000 | | | September 17, 2034 | | 2.78 | % |
In November 2022, the Company entered into a $100.0 million term loan agreement (“Term Loan”) with PNC Bank, National Association as administrative agent. The interest rate on the Term Loan is based on SOFR, plus a margin that ranges from 120 to 175 basis points based on the consolidated leverage ratio. The Term Loan had a 364-day term with an option for an additional 364-day term. As of March 31, 2023, the term loan was paid in full. As of December 31, 2022, the term loan had a balance of $100.0 million.
We have a $198.9 million Fannie Mae Credit Facility Agreement (the “FMCF”). The FMCF is currently secured by mortgages on 12 apartment communities. The notes are interest-only, have varying maturity dates of 7, 10, and 12 years, and a blended, weighted average interest rate of 2.78%. As of March 31, 2023 and December 31, 2022, the FMCF had a balance of $198.9 million. The FMCF is included within mortgages payable on the Condensed Consolidated Balance Sheets.
Mortgage loan indebtedness, excluding the FMCF, was $279.3 million and $299.4 million at March 31, 2023 and December 31, 2022, respectively. All of our mortgage debt is collateralized by apartment communities and is non-recourse at fixed rates of interest, with staggered maturities. This decreases the exposure to changes in interest rates, which reduces the effect of interest rate fluctuations on our results of operations and cash flows. As of March 31, 2023 and December 31, 2022, the weighted average interest rate on mortgage debt was 3.85%.
Equity
We have an equity distribution agreement in connection with the 2021 ATM Program through which we may offer and sell common shares having an aggregate gross sales price of up to $250.0 million, in amounts and at times determined by management. The proceeds from the sale of common shares under the 2021 ATM program may be used for general corporate purposes, including the funding of acquisitions, construction or mezzanine loans, community renovations, and the repayment of indebtedness. As of March 31, 2023, common shares having an aggregate offering price of up to $126.6 million remained available under the 2021 ATM Program. Further information can be found in Note 4 - Equity and Mezzanine Equity in the Condensed Consolidated notes.
On March 10, 2022, the Board of Trustees approved a new share repurchase program (the “Share Repurchase Program”), providing for the repurchase of up to an aggregate of $50.0 million of the Company’s outstanding common shares. Under the Share Repurchase Program, the Company is authorized to repurchase common shares through open market purchases, privately-negotiated transactions, block trades or otherwise in accordance with applicable federal securities laws, including through Rule 10b5-1 trading plans and under Rule 10b-18 of the Securities and Exchange Act of 1934, as amended. The repurchases have no time limit and may be suspended or discontinued completely at any time. The specific timing and amount of repurchases will vary based on available capital resources or other financial and operational performance, market conditions, securities law limitations, and other factors. The table below provides details on the shares repurchased during the three months ended March 31, 2023. As of March 31, 2023, the Company had $19.9 million remaining authorized for purchase under this program.
| | | | | | | | | | | | |
| (in thousands, except per share amounts) |
Three Months Ended March 31, | Number of Common Shares | | Aggregate Cost(1) | Average Price Per Share(1) |
2023 | 19.464 | | | $ | 1,022 | | $ | 52.51 | |
(1)Amount includes commissions.
Changes in Cash, Cash Equivalents, and Restricted Cash
The following discussion relates to changes in consolidated cash, cash equivalents, and restricted cash which are presented in the Condensed Consolidated Statements of Cash Flows in Part I, Item 1 above.
In addition to cash flow from operations, during the three months ended March 31, 2023, we generated capital from various activities, including:
•Receiving $141.6 million in net proceeds from the sale of nine apartment communities; and
•Receiving $30.0 million in net proceeds from the line of credit.
During the three months ended March 31, 2023, we used capital for various activities, including:
•Repaying $100.0 million on a variable rate term loan;
•Repaying $20.7 million of mortgage principal;
•Paying distributions on common shares, Series E preferred units, Units, and Series E preferred shares of $14.9 million;
•Repurchasing 19,464 common shares for $1.0 million; and
•Funding capital improvements for apartment communities of approximately $11.2 million.
Contractual Obligations and Other Commitments
Contractual obligations and other commitments were disclosed in our Form 10-K for the year ended December 31, 2022. Refer to Note 10 of the Notes to the Condensed Consolidated Financial Statements for additional details. There have been no material changes to our contractual obligations and other commitments since that report was filed.
Inflation and Supply Chain
Our apartment leases generally have terms of one year or less, which means that, in an inflationary environment, we would have the ability, subject to market conditions, to increase rents upon the commencement of new leases or renewal of existing leases to manage the impact of inflation on our business. However, the cost to operate and maintain communities could increase at a rate greater than our ability to increase rents, which could adversely affect our results of operations. High inflation could have a negative impact on our residents and their ability to absorb rent increases.
We also continue to monitor pressures surrounding supply chain challenges. Supply chain and inflationary pressures are likely to result in increasing operating expenses, specifically, increases in energy costs, salary related costs, and construction materials for repairs and maintenance or value add projects. A worsening of the current environment could contribute to delays in obtaining construction materials and result in higher than anticipated costs, which could prevent us from obtaining expected returns on value add projects.
We continue to have access to the financial markets; however, a prolonged disruption of the markets or a decline in credit and financing conditions could negatively affect our ability to access capital necessary to fund our operations or refinance maturing debt in the future. Additionally, rising interest rates could negatively impact our borrowing costs for any variable rate borrowings or refinancing activity.
Off-Balance Sheet Arrangements
As of March 31, 2023, we had no significant off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.
Critical Accounting Policies
In preparing the Condensed Consolidated Financial Statements, management has made estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates. A summary of critical accounting policies is included in our Form 10-K for the year ended December 31, 2022, filed with the SEC on February 21, 2023 under the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Refer to Note 2 of the Notes to Condensed Consolidated Financial Statements in this report for additional information. There have been no other significant changes to the critical accounting policies during the three months ended March 31, 2023.