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| IRET > SEC Filings for IRET > Form 10-Q on 10-Dec-2008 | All Recent SEC Filings |
10-Dec-2008
Quarterly Report
The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements included in this report, as well as the Company's audited financial statements for the fiscal year ended April 30, 2008, which are included in the Company's Annual Report on Form 10-K, filed with the SEC.
Forward Looking Statements. Certain matters included in this discussion are forward looking statements within the meaning of the federal securities laws. Although we believe that the expectations reflected in the following statements are based on reasonable assumptions, we can give no assurance that the expectations expressed will actually be achieved. Many factors may cause actual results to differ materially from our current expectations, including general economic conditions, local real estate conditions, the general level of interest rates and the availability of financing and various other economic risks inherent in the business of owning and operating investment real estate.
Overview. IRET is a self-advised equity REIT engaged in owning and operating income-producing real estate properties. Our investments include multi-family residential properties and commercial office, industrial, medical and retail properties located primarily in the upper Midwest states of Minnesota and North Dakota. Our properties are diversified by type and location. As of October 31, 2008, our real estate portfolio consisted of 77 multi-family residential properties containing 9,564 apartment units and having a total real estate investment amount net of accumulated depreciation of $412.4 million, and 165 commercial properties containing approximately 11.6 million square feet of leasable space. Our commercial properties consist of:
• 66 office properties containing approximately 5.0 million square feet of leasable space and having a total real estate investment amount net of accumulated depreciation of $497.4 million;
• 49 medical properties (including senior housing) containing approximately 2.4 million square feet of leasable space and having a total real estate investment amount net of accumulated depreciation of $347.1 million;
• 17 industrial properties containing approximately 2.8 million square feet of leasable space and having a total real estate investment amount net of accumulated depreciation of $92.6 million; and
• 33 retail properties containing approximately 1.5 million square feet of leasable space and having a total real estate investment amount net of accumulated depreciation of $100.8 million.
Our primary source of income and cash is rents associated with multi-family residential and commercial leases. Our business objective is to increase shareholder value by employing a disciplined investment strategy. This strategy is focused on growing assets in desired geographical markets, achieving diversification by property type and location, and adhering to targeted returns in acquiring properties. We intend to continue to achieve our business objective by investing in multi-family residential properties and in office, industrial, retail and medical commercial properties that are leased to single or multiple tenants, usually for five years or longer, and are located throughout the upper Midwest. We operate mainly within the states of North Dakota and Minnesota, although we also have real estate investments in South Dakota, Montana, Nebraska, Colorado, Idaho, Iowa, Kansas, Michigan, Missouri, Texas and Wisconsin.
We compete with other owners and developers of multi-family and commercial properties to attract tenants to our properties, and we compete with other real estate investors to acquire properties. Principal areas of competition for tenants are in respect of rents charged and the attractiveness of location and quality of our properties. Competition for investment properties affects our ability to acquire properties we want to add to our portfolio, and the price we pay for acquisitions.
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 the Company's critical accounting policies is included in the Company's Annual Report on Form 10-K for the fiscal year ended April 30, 2008, in Management's Discussion and Analysis of Financial Condition and Results of Operations. There have been no significant changes to those policies during the first six months of fiscal year 2009.
RECENT ACCOUNTING PRONOUNCEMENTS
For disclosure regarding recent accounting pronouncements and the anticipated impact they will have on our operations, please refer to Note 2 to our condensed consolidated financial statements.
RESULTS OF OPERATIONS FOR THE THREE MONTHS AND SIX MONTHS ENDED OCTOBER 31, 2008 AND 2007
REVENUES
Total IRET revenues for the second quarter of fiscal year 2009 were $59.6 million, compared to $54.2 million recorded in the second quarter of the prior fiscal year. This is an increase of $5.4 million or 10.0%. Revenues for the six months ended October 31, 2008 were $118.4 million compared to $107.8 million in the six months ended October 31, 2007. This is an increase of $10.6 million or 9.8%. This increase in revenue resulted primarily from the additional investments in real estate made by IRET during fiscal years 2008 and 2009, as well as other factors shown by the following analysis:
Increase in Total Increase in Total
Revenue Revenue
Three Months Six Months
ended October 31, ended October 31,
2008 2008
Rent in Fiscal 2009 from 24 properties acquired in Fiscal
2008 in excess of that received in Fiscal 2008 from the same
24 properties $ 4,551 $ 9,583
Rent from 7 properties acquired in Fiscal 2009 398 469
Increase in rental income on stabilized properties primarily
due to a net increase in rental receipts 413 583
Net increase in total revenue $ 5,362 $ 10,635
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NET OPERATING INCOME
The following tables report segment financial information. We measure the performance of our segments based on net operating income ("NOI"), which we define as total revenues less property operating expenses and real estate taxes. We believe that NOI is an important supplemental measure of operating performance for a REIT's operating real estate because it provides a measure of core operations that is unaffected by depreciation, amortization, financing and general and administrative expense. NOI does not represent cash generated by operating activities in accordance with generally accepted accounting principles ("GAAP") and should not be considered an alternative to net income, net income available for common shareholders or cash flow from operating activities as a measure of financial performance.
The following tables show revenues, property operating expenses and NOI by reportable operating segment for the three months and six months ended October 31, 2008 and 2007. For a reconciliation of net operating income of reportable segments to income before gain on sale of other investments and minority interest and discontinued operations as reported, see Note 5 of the Notes to the condensed consolidated financial statements in this report.
The tables also show net operating income by reportable operating segment on a stabilized property and non-stabilized property basis. Stabilized properties are properties owned and in operation for the entirety of the periods being compared (including properties that were redeveloped or expanded during the periods being compared, with properties purchased or sold during the periods being compared excluded from the stabilized property category). This comparison allows the Company to evaluate the performance of existing properties and their contribution to net income. Management believes that measuring performance on a stabilized property basis is useful to investors because it enables evaluation of how the Company's properties are performing year over year. Management uses this measure to assess whether or not it has been successful in increasing net operating income, renewing the leases of existing tenants, controlling operating costs and appropriately handling capital improvements.
(in thousands)
Three Months Ended October Multi-Family Commercial- Commercial- Commercial- Commercial-
31, 2008 Residential Office Medical Industrial Retail Total
Real estate revenue $ 19,402 $ 20,723 $ 12,960 $ 2,975 $ 3,513 $ 59,573
Real estate expenses
Utilities 1,714 2,108 665 24 96 4,607
Maintenance 2,655 2,564 1,004 114 248 6,585
Real estate taxes 1,929 3,390 1,103 529 536 7,487
Insurance 316 251 98 43 46 754
Property management 2,315 890 993 92 230 4,520
Total expenses $ 8,929 $ 9,203 $ 3,863 $ 802 $ 1,156 $ 23,953
Net operating income $ 10,473 $ 11,520 $ 9,097 $ 2,173 $ 2,357 $ 35,620
Stabilized net operating
income $ 9,955 $ 11,031 $ 6,648 $ 1,661 $ 2,357 $ 31,652
Non-stabilized net
operating income 518 489 2,449 512 0 3,968
Total net operating income $ 10,473 $ 11,520 $ 9,097 $ 2,173 $ 2,357 $ 35,620
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(in thousands)
Multi-Family
Three Months Ended October 31, 2007 Residential Commercial-Office Commercial-Medical Commercial-Industrial Commercial-Retail Total
Real estate revenue $ 18,268 $ 20,611 $ 8,920 $ 3,027 $ 3,385 $ 54,211
Real estate expenses
Utilities 1,660 2,067 448 29 92 4,296
Maintenance 2,563 2,487 606 121 244 6,021
Real estate taxes 1,874 3,075 655 346 513 6,463
Insurance 289 227 14 34 42 606
Property management 2,290 865 320 96 96 3,667
Total expenses $ 8,676 $ 8,721 $ 2,043 $ 626 $ 987 $ 21,053
Net operating income $ 9,592 $ 11,890 $ 6,877 $ 2,401 $ 2,398 $ 33,158
Stabilized net operating income $ 9,468 $ 11,857 $ 6,819 $ 1,979 $ 2,398 $ 32,521
Non-stabilized net operating income 124 33 58 422 0 637
Total net operating income $ 9,592 $ 11,890 $ 6,877 $ 2,401 $ 2,398 $ 33,158
(in thousands)
Multi-Family
Six Months Ended October 31, 2008 Residential Commercial-Office Commercial-Medical Commercial-Industrial Commercial-Retail Total
Real estate revenue $ 38,003 $ 41,529 $ 25,825 $ 6,071 $ 6,991 $ 118,419
Real estate expenses
Utilities 3,423 3,987 1,419 28 184 9,041
Maintenance 5,259 5,538 1,991 293 503 13,584
Real estate taxes 3,872 6,787 2,205 917 1,076 14,857
Insurance 632 500 196 85 91 1,504
Property management 4,468 1,835 1,814 212 442 8,771
Total expenses $ 17,654 $ 18,647 $ 7,625 $ 1,535 $ 2,296 $ 47,757
Net operating income $ 20,349 $ 22,882 $ 18,200 $ 4,536 $ 4,695 $ 70,662
Stabilized net operating income $ 19,425 $ 21,963 $ 13,333 $ 3,323 $ 4,695 $ 62,739
Non-stabilized net operating income 924 919 4,867 1,213 0 7,923
Total net operating income $ 20,349 $ 22,882 $ 18,200 $ 4,536 $ 4,695 $ 70,662
(in thousands)
Multi-Family
Six Months Ended October 31, 2007 Residential Commercial-Office Commercial-Medical Commercial-Industrial Commercial-Retail Total
Real estate revenue $ 35,987 $ 41,206 $ 17,885 $ 5,689 $ 7,017 $ 107,784
Real estate expenses
Utilities 3,146 3,888 987 50 173 8,244
Maintenance 5,011 5,083 1,186 210 537 12,027
Real estate taxes 3,776 6,141 1,309 639 1,027 12,892
Insurance 577 445 86 64 84 1,256
Property management 4,450 1,880 748 162 268 7,508
Total expenses $ 16,960 $ 17,437 $ 4,316 $ 1,125 $ 2,089 $ 41,927
Net operating income $ 19,027 $ 23,769 $ 13,569 $ 4,564 $ 4,928 $ 65,857
Stabilized net operating income $ 18,724 $ 23,729 $ 13,445 $ 3,955 $ 4,928 $ 64,781
Non-stabilized net operating income 303 40 124 609 0 1,076
Total net operating income $ 19,027 $ 23,769 $ 13,569 $ 4,564 $ 4,928 $ 65,857
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FACTORS IMPACTING NET OPERATING INCOME
Real estate revenue increased in the three months and six months ended October 31, 2008 compared to the year-earlier periods in all of our reportable segments except commercial industrial and retail, despite declines in economic occupancy rates at our stabilized properties in two of our five segments during the three months and six months ended October 31, 2008 compared to the three months and six months ended October 31, 2007. Our overall level of tenant concessions increased in the first three months and six months of fiscal year 2009 compared to the year-earlier period. Revenue increases in the first three months and six months of fiscal year 2009 compared to the first three months and six months of fiscal year 2008 were offset by increases in utility, maintenance, real estate tax, insurance and property management expense.
• Economic Occupancy. During the three months and six months ended October 31, 2008, economic occupancy levels at our stabilized properties declined from year-earlier levels in two of our five reportable segments. Economic occupancy represents actual rental revenues recognized for the period indicated as a percentage of scheduled rental revenues for the period. Percentage rents, tenant concessions, straightline adjustments and expense reimbursements are not considered in computing either actual revenues or scheduled rent revenues. Economic occupancy rates on a stabilized property and all property basis for the three months and six months periods ended October 31, 2008, compared to the three months and six months periods ended, are shown below:
Stabilized Properties All Properties
Three Months Ended October 31, Three Months Ended October 31,
2008 2007 2008 2007
Multi-Family Residential 95.1 % 94.2 % 94.9 % 93.8 %
Commercial Office 88.5 % 92.9 % 88.8 % 92.9 %
Commercial Medical 95.8 % 95.6 % 95.6 % 95.6 %
Commercial Industrial 96.5 % 98.4 % 97.3 % 97.2 %
Commercial Retail 88.8 % 86.9 % 88.8 % 86.9 %
Stabilized Properties All Properties
Six Months Ended October 31, Six Months Ended October 31,
2008 2007 2008 2007
Multi-Family Residential 93.9 % 93.2 % 93.6 % 92.8 %
Commercial Office 88.7 % 93.1 % 88.9 % 93.1 %
Commercial Medical 95.8 % 95.8 % 96.1 % 95.9 %
Commercial Industrial 96.2 % 98.5 % 97.0 % 97.6 %
Commercial Retail 87.7 % 87.0 % 87.7 % 87.0 %
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Worsening conditions in the economy and credit markets during the second quarter of our fiscal year 2009 continued to restrain demand for commercial office, medical, industrial and retail space throughout our portfolio. While revenues in our medical office segment increased as two development projects (our Southdale Medical Building expansion project and 2828 Chicago Avenue Medical Building development project) were completed and rental income commenced, on balance we expect occupancy to continue to decline in our commercial segments, with our multi-family residential segment holding steady. Our expectation remains that current credit market conditions and continuing deterioration in the economy will increase credit stresses on our tenants through the remainder of our current fiscal year. We expect this tenant stress to continue to lead to moderate increases for us in past due accounts and vacancies.
During the first quarter of our fiscal year 2009, we recorded past due balances of $65,000 and $223,000, respectively, in regard to our Fox River Cottages senior housing patio homes in Appleton, Wisconsin, and our Stevens Point assisted living facility in Stevens Point, Wisconsin. These past due balances increased to $70,000 and $253,000, respectively, as of October 31, 2008, and we have written off an additional $173,000 at the Fox River project and an additional $244,000 at the Stevens Point project as of October 31, 2008. The Fox River project was acquired by IRET in fiscal year 2006 as a partially-completed eight-unit senior housing project with adjoining vacant land, and IRET subsequently funded the completion of the eight senior living villas and the construction of ten new senior living patio homes, which were completed in September 2007. The Stevens Point project was acquired by IRET in fiscal year 2006, and at acquisition consisted of an existing senior housing complex and an adjoining vacant parcel of land. IRET subsequently funded the construction of an expansion to the existing facility on the adjoining parcel, which was completed in June 2007. The tenants in these two properties, affiliates of Sunwest Management, Inc., have been unable to finance their portion of the construction cost for the ten new Fox River patio homes, and have been unable to fund the shortfall between the Stevens Point project's cash flow
and the lease payments due to IRET. IRET's investment in the Fox River and Stevens Point properties leased to Sunwest is approximately $3.8 million and $14.8 million, respectively, or approximately 0.2% and 0.9% of IRET's property owned as of October 31, 2008.
IRET is currently receiving all of the cash flow generated by the Stevens Point project (approximately $75,000 per month, or approximately 54.4% of the Schedule Rent due under the lease), and expects to continue to do so until approximately early calendar year 2009, when project lease-up is expected to be complete and the project stabilized, at which point IRET currently anticipates that the project will generate sufficient cash flow to pay the full rent due to IRET going forward, plus accumulated arrearages. The Stevens Point project is currently approximately 80% leased in total, with the existing facility 100% leased and all vacancy confined to the assisted living and memory care units completed in late fall 2007. IRET is currently receiving no payments from the Fox River project, and is exercising its rights under the lease to remove Sunwest as the tenant and manager at the project and to pursue collection of amounts owed under guarantees provided in conjunction with the lease agreement. IRET is evaluating its options in respect of this project; at this time IRET considers that, subject to its analysis of market values in Appleton, Wisconsin, IRET would proceed to market the patio homes and senior living villas and the balance of the vacant parcel (approximately 12 acres) in an attempt to recover its investment and provide some return on investment.
Individual special-purpose, bankruptcy-remote entities affiliated with Sunwest were the tenants in 19 additional senior housing facilities owned by IRET. During the second quarter of fiscal year 2009, IRET was notified that Sunwest has relinquished its ownership of these entities, and has assigned its management contracts in respect of these facilities, to an entity owned by a former principal of Edgewood Vista Senior Living, Inc., a developer and operator of senior living communities with which IRET has had a long-standing business relationship. To date all of these 19 entities are fully current on all lease obligations, and IRET does not currently expect that these 19 facilities will experience any shortfalls in lease payments.
During the second quarter of fiscal year 2009, Berman's the Leather Experts, Inc., a subsidiary of Wilson's the Leather Experts, Inc. and the Company's tenant in an approximately 353,000 square foot industrial building located in Brooklyn Park, Minnesota, declared bankruptcy along with other Wilson's Leather-affiliated entities, and rejected its lease with the Company. AM Retail, Berman's sub-tenant in the premises, currently occupies the premises pursuant to the sublease. The rent paid under the sublease with AM Retail, which terminates May 31, 2009, is approximately 85% of the total rent previously payable per month under the Company's former lease with Berman's.
• Concessions. Our overall level of tenant concessions increased in the three months and six months ended October 31, 2008 compared to the year-earlier period. To maintain or increase physical occupancy levels at our properties, we may offer tenant incentives, generally in the form of lower or abated rents, which results in decreased revenues and income from operations at our properties. Rent concessions offered during the three months ended October 31, 2008 will lower, over the lives of the respective leases, our operating revenues by approximately $923,000, as compared to an approximately $746,000 reduction, over the lives of the respective leases, in operating revenues attributable to rent concessions offered in the three months ended October 31, 2007. Rent concessions offered during the six months ended October 31, 2008 and 2007 will lower, over the lives of the respective leases, our operating revenues by approximately $1.8 million.
(in thousands)
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