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EX-31.1 - EX-31.1 - Easterly Government Properties, Inc.dea-ex311_8.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2017

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      To                     

Commission file number 001-36834

 

EASTERLY GOVERNMENT PROPERTIES, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

Maryland

 

47-2047728

(State of Incorporation)

 

(IRS Employer Identification No.)

 

 

 

2101 L Street NW, Suite 650, Washington, D.C.

 

20037

(Address of Principal Executive Offices)

 

(Zip Code)

(202) 595-9500

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes      No  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer

 

 

Accelerated Filer

 

 

 

 

 

 

Non-Accelerated Filer

 

  (Do not check if smaller reporting company)

 

Smaller Reporting Company

 

 

 

 

 

 

Emerging growth company

 

 

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes      No  

As of November 1, 2017, the registrant had 43,873,796 shares of common stock, par value $0.01 per share, outstanding.

 

 

 

 


INDEX TO FINANCIAL STATEMENTS

 

 

Page

Part I: Financial Information

 

 

 

   Item 1: Financial Statements:

 

Consolidated Financial Statements

 

 

 

Consolidated Balance Sheets as of September 30, 2017 and December 31, 2016 (unaudited)

1

 

 

Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2017 and 2016 (unaudited)

2

 

 

 

 

 

Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2017 and 2016 (unaudited)

3

 

 

Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2017 and 2016 (unaudited)

4

 

 

Notes to the Consolidated Financial Statements

6

 

 

   Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

18

 

 

   Item 3: Quantitative and Qualitative Disclosures About Market Risk

29

 

 

   Item 4: Controls and Procedures

29

 

 

Part II: Other Information

 

 

 

   Item 1: Legal Proceedings

30

 

 

   Item 1A: Risk Factors

30

 

 

   Item 2: Unregistered Sales of Equity Securities and Use of Proceeds

30

 

 

   Item 3: Defaults Upon Senior Securities

30

 

 

   Item 4: Mine Safety Disclosures

30

 

 

   Item 5: Other Information

30

 

 

   Item 6: Exhibits

31

 

 

Signatures

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Easterly Government Properties, Inc.

Consolidated Balance Sheets (unaudited)

(Amounts in thousands, except share amounts)

 

 

 

September 30, 2017

 

 

December 31, 2016

 

Assets

 

 

 

 

 

 

 

 

Real estate properties, net

 

$

1,195,618

 

 

$

901,066

 

Cash and cash equivalents

 

 

6,551

 

 

 

4,845

 

Restricted cash

 

 

3,866

 

 

 

1,646

 

Deposits on acquisitions

 

 

1,100

 

 

 

1,750

 

Rents receivable

 

 

9,664

 

 

 

8,544

 

Accounts receivable

 

 

7,532

 

 

 

5,823

 

Deferred financing, net

 

 

1,158

 

 

 

2,787

 

Intangible assets, net

 

 

131,408

 

 

 

113,795

 

Interest rate swaps

 

 

3,088

 

 

 

3,785

 

Prepaid expenses and other assets

 

 

8,050

 

 

 

1,422

 

Total assets

 

$

1,368,035

 

 

$

1,045,463

 

Liabilities

 

 

 

 

 

 

 

 

Revolving credit facility

 

 

59,250

 

 

 

212,167

 

Term loan facility, net

 

 

99,167

 

 

 

 

Notes payable, net

 

 

173,676

 

 

 

 

Mortgage notes payable, net

 

 

203,999

 

 

 

80,806

 

Intangible liabilities, net

 

 

40,866

 

 

 

41,840

 

Accounts payable and accrued liabilities

 

 

21,946

 

 

 

13,784

 

Total liabilities

 

 

598,904

 

 

 

348,597

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies (Note 10)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity

 

 

 

 

 

 

 

 

Common stock, par value $0.01, 200,000,000 shares authorized,

   43,873,796 and 36,874,810 shares issued and outstanding at September 30, 2017

   and December 31, 2016, respectively

 

 

439

 

 

 

369

 

Additional paid-in capital

 

 

718,880

 

 

 

596,971

 

Retained earnings

 

 

4,414

 

 

 

1,721

 

Cumulative dividends

 

 

(72,195

)

 

 

(42,794

)

Accumulated other comprehensive income

 

 

2,627

 

 

 

3,038

 

Total stockholders' equity

 

 

654,165

 

 

 

559,305

 

Non-controlling interest in Operating Partnership

 

 

114,966

 

 

 

137,561

 

Total equity

 

 

769,131

 

 

 

696,866

 

Total liabilities and equity

 

$

1,368,035

 

 

$

1,045,463

 

 

The accompanying notes are an integral part of these consolidated financial statements.

1

 


Easterly Government Properties, Inc.

Consolidated Statements of Operations (unaudited)

(Amounts in thousands, except share and per share amounts)

 

 

 

For the three months ended September 30,

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Rental income

 

$

30,079

 

 

$

24,493

 

 

$

83,600

 

 

$

68,520

 

Tenant reimbursements

 

 

3,554

 

 

 

2,385

 

 

 

10,156

 

 

 

7,016

 

Other income

 

 

225

 

 

 

97

 

 

 

592

 

 

 

331

 

Total revenues

 

 

33,858

 

 

 

26,975

 

 

 

94,348

 

 

 

75,867

 

Operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property operating

 

 

6,718

 

 

 

5,308

 

 

 

18,904

 

 

 

14,726

 

Real estate taxes

 

 

3,452

 

 

 

2,533

 

 

 

9,166

 

 

 

7,233

 

Depreciation and amortization

 

 

14,141

 

 

 

12,237

 

 

 

40,663

 

 

 

34,174

 

Acquisition costs

 

 

206

 

 

 

660

 

 

 

1,194

 

 

 

1,339

 

Corporate general and administrative

 

 

2,920

 

 

 

3,066

 

 

 

9,506

 

 

 

9,154

 

Total expenses

 

 

27,437

 

 

 

23,804

 

 

 

79,433

 

 

 

66,626

 

Operating income

 

 

6,421

 

 

 

3,171

 

 

 

14,915

 

 

 

9,241

 

Other expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense, net

 

 

(5,495

)

 

 

(2,043

)

 

 

(11,626

)

 

 

(5,967

)

Net income

 

 

926

 

 

 

1,128

 

 

 

3,289

 

 

 

3,274

 

Non-controlling interest in Operating Partnership

 

 

(144

)

 

 

(233

)

 

 

(596

)

 

 

(1,005

)

Net income available to Easterly Government

   Properties, Inc.

 

$

782

 

 

$

895

 

 

$

2,693

 

 

$

2,269

 

Net income available to Easterly Government

   Properties, Inc. per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.02

 

 

$

0.02

 

 

$

0.07

 

 

$

0.08

 

Diluted

 

$

0.02

 

 

$

0.02

 

 

$

0.07

 

 

$

0.07

 

Weighted-average common shares outstanding

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

39,962,471

 

 

 

34,967,482

 

 

 

38,098,805

 

 

 

28,886,697

 

Diluted

 

 

41,903,977

 

 

 

36,904,564

 

 

 

40,012,282

 

 

 

30,722,389

 

Dividends declared per common share

 

$

0.25

 

 

$

0.23

 

 

$

0.74

 

 

$

0.68

 

 

The accompanying notes are an integral part of these consolidated financial statements.

2

 


Easterly Government Properties, Inc.

Consolidated Statements of Comprehensive Income (unaudited)

(Amounts in thousands, except share amounts)

 

 

 

For the three months ended September 30,

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Net income

 

$

926

 

 

$

1,128

 

 

$

3,289

 

 

$

3,274

 

Other comprehensive loss:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized loss on interest rate swaps

 

 

(111

)

 

 

 

 

 

(697

)

 

 

 

Other comprehensive loss:

 

 

(111

)

 

 

 

 

 

(697

)

 

 

 

Comprehensive income

 

 

815

 

 

 

1,128

 

 

 

2,592

 

 

 

3,274

 

Non-controlling interest in Operating Partnership

 

 

(144

)

 

 

(233

)

 

 

(596

)

 

 

(1,005

)

Other comprehensive loss attributable to

   non-controlling interest

 

 

77

 

 

 

 

 

 

286

 

 

 

 

Comprehensive income attributable to Easterly

   Government Properties, Inc.

 

$

748

 

 

$

895

 

 

$

2,282

 

 

$

2,269

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

3

 


Easterly Government Properties, Inc.

Consolidated Statements of Cash Flows (unaudited)

(Amounts in thousands)

 

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

Cash flows from operating activities

 

 

 

 

 

 

 

 

Net income

 

$

3,289

 

 

$

3,274

 

Adjustments to reconcile net income to net cash provided by operating activities

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

40,663

 

 

 

34,174

 

Straight line rent

 

 

(1,376

)

 

 

(17

)

Amortization of above- / below-market leases

 

 

(6,283

)

 

 

(5,225

)

Amortization of unearned revenue

 

 

(82

)

 

 

(77

)

Amortization of loan premium / discount

 

 

(64

)

 

 

(64

)

Amortization of deferred financing costs

 

 

848

 

 

 

649

 

Non-cash compensation

 

 

2,215

 

 

 

2,164

 

Net change in:

 

 

 

 

 

 

 

 

Rents receivable

 

 

265

 

 

 

(940

)

Accounts receivable

 

 

(1,709

)

 

 

(1,216

)

Prepaid expenses and other assets

 

 

(1,632

)

 

 

(336

)

Accounts payable and accrued liabilities

 

 

6,690

 

 

 

3,840

 

Net cash provided by operating activities

 

 

42,824

 

 

 

36,226

 

Cash flows from investing activities

 

 

 

 

 

 

 

 

Real estate acquisitions and deposits

 

 

(342,566

)

 

 

(140,403

)

Additions to operating properties

 

 

(2,221

)

 

 

(664

)

Additions to development properties

 

 

(5,560

)

 

 

(145

)

Restricted cash

 

 

(2,220

)

 

 

304

 

Net cash (used in) investing activities

 

 

(352,567

)

 

 

(140,908

)

Cash flows from financing activities

 

 

 

 

 

 

 

 

Payment of deferred financing costs

 

 

(3,398

)

 

 

(848

)

Issuance of common shares

 

 

107,190

 

 

 

84,943

 

Credit facility draws

 

 

108,000

 

 

 

73,250

 

Credit facility repayments

 

 

(260,917

)

 

 

(21,000

)

Term loan draws

 

 

100,000

 

 

 

 

Issuance of notes payable

 

 

175,000

 

 

 

 

Issuance of mortgage notes payable

 

 

127,500

 

 

 

 

Repayments of mortgage notes payable

 

 

(2,221

)

 

 

(2,131

)

Dividends and distributions paid

 

 

(35,483

)

 

 

(29,245

)

Payment of offering costs

 

 

(4,222

)

 

 

(4,105

)

Net cash provided by financing activities

 

 

311,449

 

 

 

100,864

 

Net increase (decrease) in cash and cash equivalents

 

 

1,706

 

 

 

(3,818

)

Cash and cash equivalents, beginning of period

 

 

4,845

 

 

 

8,176

 

Cash and cash equivalents, end of period

 

$

6,551

 

 

$

4,358

 

 

 The accompanying notes are an integral part of these consolidated financial statements.

 

4

 


Easterly Government Properties, Inc.

Consolidated Statements of Cash Flows (unaudited)

(Amounts in thousands)

 

Supplemental disclosure of cash flow information is as follows:

 

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

Cash paid for interest

 

$

8,456

 

 

$

5,531

 

Supplemental disclosure of non-cash information

 

 

 

 

 

 

 

 

Additions to operating properties accrued, not paid

 

$

819

 

 

$

174

 

Additions to development properties accrued, not paid

 

 

719

 

 

 

18

 

Financing costs accrued, not paid

 

 

 

 

 

78

 

Offering costs accrued, not paid

 

 

27

 

 

 

 

Unrealized loss on interest rate swaps

 

 

(697

)

 

 

 

Exchange of Common Units for Shares of Common Stock

 

 

 

 

 

 

 

 

Non-controlling interest in Operating Partnership

 

$

(20,401

)

 

$

(96,578

)

Common stock

 

 

14

 

 

 

64

 

Additional paid-in capital

 

 

20,387

 

 

 

96,514

 

Total

 

$

 

 

$

 

 

The accompanying notes are an integral part of these consolidated financial statements.

5

 


Easterly Government Properties, Inc.

Notes to the Consolidated Financial Statements (unaudited)

1. Organization and Basis of Presentation

The information contained in the following notes to the consolidated financial statements is condensed from that which would appear in the annual consolidated financial statements; accordingly, the consolidated financial statements included herein should be reviewed in conjunction with the consolidated financial statements for the fiscal year ended December 31, 2016, and related notes thereto, included in the Annual Report on Form 10-K of Easterly Government Properties, Inc. (which may be referred to in these financial statements as the “Company,” “we,” “us,” or “our”) for the year ended December 31, 2016 filed with the U.S. Securities and Exchange Commission (the “SEC”) on March 2, 2017.

The Company is a Maryland corporation that has elected to be taxed as a real estate investment trust (“REIT”) under the Internal Revenue Code, as amended (the “Code”) commencing with its taxable year ended December 31, 2015. The operations of the Company are carried on primarily through Easterly Government Properties LP (the “Operating Partnership”) and the wholly owned subsidiaries of the Operating Partnership.

We are an internally managed REIT, focused primarily on the acquisition, development, and management of Class A commercial properties that are leased to U.S. Government agencies that serve essential functions. We generate substantially all of our revenue by leasing our properties to such agencies, either directly or through the U.S. General Services Administration (“GSA”). Our objective is to generate attractive risk-adjusted returns for our stockholders over the long term through dividends and capital appreciation.

As of September 30, 2017, we wholly owned 46 operating properties in the United States, including 43 operating properties that were leased primarily to U.S. Government tenant agencies and three operating properties that were entirely leased to private tenants, encompassing approximately 3.7 million square feet in the aggregate. In addition, we wholly owned two properties under development encompassing approximately 0.1 million square feet. We focus on acquiring, developing, and managing U.S. Government leased properties that are essential to supporting the mission of the tenant agency and strive to be a partner of choice for the U.S. Government, working with the tenant agency to meet its needs and objectives.

The Operating Partnership holds substantially all of our assets and conducts substantially all our business. The Company is the sole general partner of the Operating Partnership. The Company owned approximately 85.1% of the aggregate limited partnership interests in the Operating Partnership (“common units”) at September 30, 2017. We believe that we have operated and have been organized in conformity with the requirements for qualification and taxation as a REIT for U.S federal income tax purposes commencing with our taxable year ended December 31, 2015.

Principle of Consolidation

The accompanying consolidated financial statements are presented on the accrual basis of accounting in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and include the accounts of the Company, including Easterly Government Properties TRS, LLC, Easterly Government Services, LLC and the Operating Partnership. All significant intercompany balances and transactions have been eliminated in consolidation.

Basis of Presentation

The condensed consolidated financial statements included herein are unaudited; however, they include all adjustments (consisting only of normal recurring adjustments) which, in the opinion of management, are necessary to state fairly the consolidated financial position of the Company at September 30, 2017, and the consolidated results of operations for the three and nine months ended September 30, 2017 and 2016 and the consolidated cash flows for the nine months ended September 30, 2017 and 2016. The year-end condensed consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for the full year.

The preparation of the consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the balance sheet and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

 

6

 


2. Summary of Significant Accounting Policies

The significant accounting policies used in the preparation of the Company’s condensed consolidated financial statements are disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.

Recently Adopted Accounting Pronouncements

On January 1, 2017, the Company adopted ASU 2017-01, Business Combinations (Topic 805), which clarifies the framework for determining whether an integrated set of assets and activities meets the definition of a business. The revised framework establishes a screen for determining whether an integrated set of assets and activities is a business and narrows the definition of a business, which is expected to result in fewer transactions being accounted for as business combinations. Acquisitions of integrated sets of assets and activities that do not meet the definition of a business are accounted for as asset acquisitions. As a result, the Company believes most of our future acquisitions of operating properties will qualify as asset acquisitions and third-party transaction costs associated with these acquisitions will be capitalized while internal acquisition costs will continue to be expensed.

On January 1, 2017, the Company adopted ASU No. 2016-09, Compensation – Stock Compensation, which identifies areas for simplification involving several aspects of accounting for share-based payment transactions. The new guidance allows for entities to make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures when they occur. In addition, the guidance allows employers to withhold shares to satisfy minimum statutory tax withholding requirements up to the employees’ maximum individual tax rate without causing the award to be classified as a liability. The guidance also stipulates that cash paid by an employer to a taxing authority when directly withholding shares for tax-withholding purposes should be classified as a financing activity on the statement of cash flows. The implementation of this update did not have a material impact on our consolidated financial statements.

Recent Accounting Pronouncements Not Yet Adopted

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers and will replace most existing revenue recognition guidance when it becomes effective. This amendment applies to all contracts with customers except those that are within the scope of other topics in the FASB ASC (“Accounting Standards Codification”). In July 2015, the FASB issued ASU 2015-14 which deferred the effective date of ASU 2014-09 by one year to annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period.

The Company expects to adopt ASU 2014-09 using the modified retrospective approach. The Company has evaluated the impact of this new guidance and does not expect the adoption of this guidance to be material to its financial results. Additional information about the Company’s revenue streams and other considerations are summarized below.

Rental income from real property  is derived from rental agreements, whereby 43 of the Company’s operating properties are leased primarily to the U.S. Government and three of the Company’s operating properties are entirely leased to private tenants. Rental income from real property is specifically excluded from ASU 2014-09.

Tenant reimbursements – is comprised of tenant reimbursements for real estate taxes, and certain other expenses, as well as tenant construction project reimbursements that consist primarily of subcontracted costs that are reimbursed to us by the tenant. Reimbursements from real estate taxes and certain other expenses are not included within the scope of ASU 2014-09. After adoption of ASU 2014-09, we believe that we will account for tenant construction project reimbursement arrangements using the percentage of completion method, which is the method we have used historically.

Other income – is comprised primarily of the management fee income associated with tenant construction project reimbursements. After adoption of ASU 2014-09 we believe that we will account for the management fee associated with tenant construction project reimbursements using the percentage of completion method, which is the method we have used historically.

Once the new guidance setting forth principles for the recognition, measurement, presentation and disclosure of leases (discussed below) goes into effect, we believe that the new revenue standard may apply to executory costs and other components of revenue due under leases that are deemed to be non-lease components, even when the revenue for such activities is not separately stipulated in the lease. In that case, then revenue from these items previously recognized on a straight-line basis under current lease guidance would be recognized under the new revenue guidance as the related services are delivered. As a result, while the total revenue recognized over time would not differ under the new guidance, the recognition pattern could be different. The Company is currently in the process of evaluating the significance of the difference in the recognition pattern that would result from this change.  

7

 


The Company is continuing to evaluate the disclosure requirements in the guidance and has not determined the impact on the footnote disclosures to its consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02, Leases, which sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract (i.e., lessees and lessors). The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase of the leased asset by the lessee. This classification will determine whether the lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months regardless of their classification. Leases with a term of 12 months or less will be accounted for in the same manner as operating leases today.

As of September 30, 2017, the Company had a sublease for office space in Washington D.C. expiring in June 2021 and a lease for office space in San Diego, CA expiring in April 2022.  The remaining contractual payments under the Company’s lease and sublease for office space aggregate $2.0 million.

The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases.  As discussed in further detail above, in connection with the new revenue guidance, we believe that the new revenue standard may apply to executory costs and other components of revenue deemed to be non-lease components, even when the revenue for such activities is not separately stipulated in the lease. In that case, we would need to separate the lease components of revenue due under leases from the non-lease components. Under the new guidance, we would continue to recognize the lease components of lease revenue on a straight-line basis over our respective lease terms as we do under prior guidance. However, we would recognize the non-lease components under the new revenue guidance as the related services are delivered. As a result, while the total revenue recognized over time would not differ under the new guidance, the recognition pattern could be different. The Company is currently in the process of evaluating the significance of the difference in the recognition pattern that would result from this change.  

Additionally, ASU 2016-02 will require that lessees and lessors capitalize, as initial direct costs, only those costs that are incurred due to the execution of a lease.  Under ASU 2016-02, allocated payroll costs and other costs that are incurred regardless of whether the lease is obtained will no longer be capitalized as initial direct costs and instead will be expensed as incurred.  The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases.

ASU No. 2016-02 is effective for reporting periods beginning January 1, 2019, with modified retrospective application for each reporting period presented at the time of adoption. Early adoption is also permitted for this guidance. The Company is in the process of evaluating the impact of this new guidance.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230), which provides classification guidance for certain cash receipts and cash payments including payment of debt extinguishment costs, settlement of zero-coupon debt instruments, insurance claim payments and distributions from equity method investees. The standard is effective on January 1, 2018, with early adoption permitted. The Company is in the process of evaluating the impact of this new guidance.

In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230), which requires that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.  The standard is effective on January 1, 2018, with early adoption permitted. The Company is in the process of evaluating the impact of this new guidance.

In February 2017, the FASB issued ASU No. 2017-05, Other Income-Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20): Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets. This ASU clarifies the scope and accounting of a financial asset that meets the definition of an “in-substance nonfinancial asset” and defines the term “in-substance nonfinancial asset.”  This ASU also adds guidance for partial sales of nonfinancial assets.  ASU 2017-05 will be effective at the same time ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), is effective.  The Company is in the process of evaluating the impact of this new guidance.

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities. The purpose of this updated guidance is to better align a company’s financial reporting for hedging activities with the economic objectives of those activities. The transition guidance provides companies with the option of either adopting the new standard early using a modified retrospective transition method in any interim period after issuance of the update, or alternatively adopting the new standard for fiscal years beginning after December 15, 2018. This adoption method may require the Company to

8

 


recognize the cumulative effect of initially applying the ASU as an adjustment to accumulated other comprehensive income with a corresponding adjustment to the opening balance of retained earnings as of the beginning of the fiscal year that an entity adopts the update. While the Company continues to assess all potential impacts of the standard, we do not expect the adoption of this guidance to have a material impact on our consolidated financial statements.

 

 

3. Real Estate and Intangibles

During the nine months ended September 30, 2017, we acquired three operating properties, OSHA – Sandy, VA – Loma Linda and FBI – Salt Lake in asset acquisitions for an aggregate purchase price of $337.6 million, of which VA – Loma Linda comprised $212.6 million. We allocated the purchase price of the acquisition based on the estimated fair values of the acquired assets and assumed liabilities as follows (dollars in thousands):

 

 

 

Total

 

Real estate

 

 

 

 

Land

 

$

16,886

 

Building

 

 

281,195

 

Acquired tenant improvements

 

 

7,690

 

Total real estate

 

 

305,771

 

Intangible assets

 

 

 

 

In-place leases

 

 

25,748

 

Acquired leasing commissions

 

 

12,403

 

Total intangible assets

 

 

38,151

 

Intangible liabilities

 

 

 

 

Below-market leases

 

 

(6,357

)

Total intangible liabilities

 

 

(6,357

)

Purchase price

 

$

337,565

 

 

We did not assume any debt upon acquisition of these properties.  The intangible assets and liabilities of operating properties acquired during the nine months ended September 30, 2017 have a weighted average amortization period of 15.91 years as of September 30, 2017. During the nine months ended September 30, 2017, we included $7.5 million of revenues and $1.7 million of net income in our consolidated statement of operations related to operating properties acquired.

During the nine months ended September 30, 2017, we incurred $1.2 million of acquisition-related expenses including $1.0 million of internal costs associated with property acquisitions.

Pro Forma Financial Information

We did not have any business combinations during the nine months ended September 30, 2017. As such, the unaudited pro forma financial information set forth below presents results for the nine months ended September 30, 2016 as if the ICE – Albuquerque, NPS – Omaha, DEA – Birmingham, FBI – Birmingham and EPA – Kansas City acquisitions had occurred on January 1, 2015. The pro forma information is not necessarily indicative of the results that actually would have occurred nor does it intend to indicate future operating results (dollars in thousands):

 

 

 

For the nine months ended

 

Proforma (unaudited)

 

September 30, 2016

 

Total rental revenue

 

$

81,197

 

Net income (loss) (1)

 

 

5,219

 

 

 

(1)

The net income for the nine months ended September 30, 2016 excludes $1.3 million of property acquisition costs.

 

9

 


In addition to the above operating property acquisitions, we acquired one property which is currently under development, FDA – Lenexa, during the nine months ended September 30, 2017.

Consolidated Real Estate and Intangibles

Real estate and intangibles consisted of the following as of September 30, 2017 (dollars in thousands):

 

 

 

Total

 

Real estate properties, net

 

 

 

 

Land

 

$

129,709

 

Building

 

 

1,068,758

 

Acquired tenant improvements

 

 

47,626

 

Construction in progress

 

 

10,855

 

Accumulated amortization

 

 

(61,330

)

Total Real estate properties, net

 

$

1,195,618

 

Intangible assets, net

 

 

 

 

In-place leases

 

$

148,409

 

Acquired leasing commissions

 

 

35,587

 

Above market leases

 

 

10,631

 

Accumulated amortization

 

 

(63,219

)

Total Intangible assets, net

 

$

131,408

 

Intangible liabilities, net

 

 

 

 

Below market leases

 

$

(62,855

)

Accumulated amortization

 

 

21,989

 

Total Intangible liabilities, net

 

$

(40,866

)

 

 

10

 


4. Debt

At September 30, 2017, our borrowings consisted of the following (dollars in thousands):

 

Loan

 

Principal Outstanding

 

 

Interest Rate (1)

 

 

Maturity Date

 

Revolving credit facility:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured revolving credit facility (2)

 

$

59,250

 

 

L + 150bps

 

 

February 2019 (3)

 

Total revolving credit facility

 

 

59,250

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Term loan facility:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured term loan facility

 

 

100,000

 

 

3.17% (4)

 

 

September 2023

 

Total term loan facility

 

 

100,000

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(833

)

 

 

 

 

 

 

 

Total term loan facility, net

 

 

99,167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes payable:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured notes payable, series A

 

 

95,000

 

 

 

4.05%

 

 

May 2027

 

Senior unsecured notes payable, series B

 

 

50,000

 

 

 

4.15%

 

 

May 2029

 

Senior unsecured notes payable, series C

 

 

30,000

 

 

 

4.30%

 

 

May 2032

 

Total notes payable

 

 

175,000

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(1,324

)

 

 

 

 

 

 

 

Total notes payable, net

 

 

173,676

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mortgage notes payable:

 

 

 

 

 

 

 

 

 

 

 

CBP - Savannah

 

 

14,388

 

 

3.40% (5)

 

 

July 2033

 

ICE - Charleston

 

 

20,088

 

 

4.21% (5)

 

 

January 2027

 

MEPCOM - Jacksonville

 

 

11,016

 

 

4.41% (5)

 

 

October 2025

 

USFS II - Albuquerque

 

 

16,969

 

 

4.46% (5)

 

 

July 2026

 

DEA - Pleasanton

 

 

15,700

 

 

L + 150bps (5)

 

 

October 2023

 

VA - Loma Linda

 

 

127,500

 

 

 

3.59%

 

 

July 2027

 

Total mortgage notes payable

 

 

205,661

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(2,059

)

 

 

 

 

 

 

 

Less: Total unamortized premium/discount

 

 

397

 

 

 

 

 

 

 

 

Total mortgage notes payable, net

 

 

203,999

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt

 

 

536,092

 

 

 

 

 

 

 

 

 

(1)

At September 30, 2017, the one-month LIBOR (“L”) was 1.23%. The current interest rate is not adjusted to include the amortization of deferred financing fees or debt issuance costs incurred in obtaining debt or any unamortized fair market value premiums. The spread over the applicable rate for the Company's senior unsecured revolving credit facility and senior unsecured term loan facility is based on the Company's consolidated leverage ratio, as defined in the respective loan agreements.

 

(2)

Available capacity of $340.7 million at September 30, 2017 with an accordion feature that provides additional capacity of up to $250.0 million, for a total facility size of not more than $650.0 million.

 

(3)

Our senior unsecured revolving credit facility has two six-month as-of-right extension options subject to certain conditions and the payment of an extension fee.

 

(4)

Entered into two interest rate swaps with an effective date of March 29, 2017 with an aggregate notional value of $100.0 million to effectively fix the interest rate at 3.17% annually, based on the Company’s consolidated leverage ratio, as defined in the senior unsecured term loan facility agreement.

 

(5)

Effective interest rates are as follows: CBP - Savannah 4.12%, ICE - Charleston 3.93%, MEPCOM - Jacksonville 3.89%, USFS II - Albuquerque 3.92%, DEA - Pleasanton 1.8%.

 

11

 


The table below sets forth the costs included in interest expense related to the Company’s debt arrangements on the accompanying Consolidated Statement of Operations for the three and nine months ended September 30, 2017 and 2016 (dollars in thousands):

 

 

For the three months ended September 30,

 

 

For the nine months ended September 30,

 

Costs Included in Interest Expense

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Amortization of deferred financing fees

 

$

332

 

 

$

217

 

 

$

848

 

 

$

649

 

On May 25, 2017, the Operating Partnership issued $175 million of fixed rate, senior unsecured notes (the “Notes) in a private placement pursuant to a purchase agreement among the Operating Partnership, the Company and the purchasers of the Notes (the “Purchase Agreement”). The Notes are unconditionally guaranteed by the Company and various subsidiaries of the Operating Partnership (the “Subsidiary Guarantors”).

Subject to the terms of the Purchase Agreement and the Notes, upon certain events of default, including, but not limited to, (i) a default in the payment of any principal, “make-whole” amount or interest under the Notes, and (ii) a default in the payment of certain other indebtedness of the Operating Partnership or of the Company or of the Subsidiary Guarantors, the principal and accrued and unpaid interest and the make-whole amount on the outstanding Notes will become due and payable at the option of the holders. The Purchase Agreement and the Notes also contain various covenants, including, among others, financial covenants with respect to debt service coverage, consolidated net worth, fixed charges and consolidated leverage and covenants relating to liens. If the Operating Partnership or the Company breaches any of these covenants, the principal and accrued and unpaid interest and the make-whole amount on the outstanding Notes will become due and payable at the option of the holders.

The Operating Partnership may prepay at any time all, or from time to time any part of, the Notes, in the amount not less than 5% of the aggregate principal amount of the Notes then outstanding at (i) 100% of the principal amount so prepaid, together with accrued interest, and (ii) a make-whole amount that is calculated by discounting the value of the remaining scheduled interest payments that would otherwise be payable through the scheduled maturity date of the applicable Notes on the principal amount being prepaid. The Operating Partnership has the right to make tender offers and is required to make other prepayment offers under the terms set forth in the Purchase Agreement.

On June 28, 2017, the Company, through a wholly-owned subsidiary of the Operating Partnership, entered into a $127.5 million mortgage loan secured by VA – Loma Linda.

Financial Covenant Considerations

The Company was in compliance with all financial and other covenants as of September 30, 2017 related to its senior unsecured revolving credit facility, senior unsecured term loan facility, senior unsecured notes payable and secured mortgage notes payable.

Fair Value of Debt

As of September 30, 2017, the carrying value of our senior unsecured revolving credit facility approximated fair value. In determining the fair value we considered the short term maturity, variable interest rate and credit spreads. We deem the fair value of our senior unsecured revolving credit facility as a Level 3 measurement.

As of September 30, 2017, the carrying value of our senior unsecured term loan facility approximated fair value. In determining the fair value we considered the variable interest rate and credit spreads. We deem the fair value of our senior unsecured term loan facility as a Level 3 measurement.

At September 30, 2017, the fair value of our notes payable was determined by discounting future contractual principal and interest payments using prevailing market rates. We deem the fair value measurement of our notes payable instruments as a Level 3 measurement. At September 30, 2017, the fair value of our notes payable was $178.3 million.

At September 30, 2017, the fair value of our mortgage debt was determined by discounting future contractual principal and interest payments using prevailing market rates. We deem the fair value measurement of our mortgage debt instruments as a Level 3 measurement. At September 30, 2017, the fair value of our mortgage debt was $204.8 million. 

 

 

12

 


5. Derivatives and Hedging Activities

As of September 30, 2017, the Company had two outstanding forward-starting interest rate swaps with an aggregate notional value of $100.0 million that were designated as cash flow hedges. The forward swaps have an effective date of March 29, 2017 and extend until the maturity of our senior unsecured term loan facility on September 29, 2023. The forward swaps effectively fix the interest rate under our senior unsecured term loan facility at 3.17% annually based on the Company’s current consolidated leverage ratio and a variable interest rate of one-month LIBOR.

Cash Flow Hedges of Interest Rate Risk

As of September 30, 2017, our forward swaps were classified as an asset on our consolidated balance sheet at $3.1 million. The effective portion of changes in the fair value of derivatives designated and qualified as cash flow hedges is recorded in accumulated other comprehensive income and will be reclassified to interest expense in the period that the hedged forecasted transactions affect earnings on the Company’s variable rate debt.  The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings into interest expense.  For the nine months ended September 30, 2017 the amount of unrealized loss recognized in accumulated other comprehensive income on interest rate swaps was $0.7 million and the amount of loss reclassified from accumulated other comprehensive income into interest expense was $0.2 million.  Additionally, during the nine months ended September 30, 2017, there was no ineffectiveness.

The Company estimates that less than $0.1 million will be reclassified from accumulated other comprehensive income as a decrease to interest expense over the next 12 months.

Credit-Risk-Related Contingent Features

The Company has agreements with each of its derivative counterparties that contain a provision where the Company could be declared in default on its derivative obligations if repayment of the underlying indebtedness is accelerated by the lender due to the Company’s default on such indebtedness.  As of September 30, 2017, the Company did not have any derivatives in a net liability position.

 

 

6. Fair Value Measurements

Accounting standards define fair value as the exit price, or the amount that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  The standards also establish a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.  Observable inputs are inputs market participants would use in valuing the asset or liability developed based on market data obtained from sources independent of us.  Unobservable inputs are inputs that reflect our assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances.  The hierarchy of these inputs is broken down into three levels: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. Categorization within the valuation hierarchy is based upon the lowest level of input that is most significant to the fair value measurement.

Recurring fair value measurements

The fair values of our interest rate swaps are determined using widely accepted valuation techniques, including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities in such interest rates.   While the Company determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by the Company and its counterparties. The Company has determined that the significance of the impact of the credit valuation adjustments made to its derivative contracts, which determination was based on the fair value of each individual contract, was not significant to the overall valuation. As a result, all of the Company’s derivatives held as of September 30, 2017 were classified as Level 2 of the fair value hierarchy.  

The carrying values of cash and cash equivalents, restricted cash, accounts receivable, other assets and accounts payable and accrued expenses are reasonable estimates of fair values because of the short maturities of these instruments. For our disclosure of debt fair values in Note 4, we estimated the fair value of our unsecured senior revolving credit facility based on the short term maturity, variable interest rates and credit spreads (categorized within Level 3 of the fair value hierarchy), estimated the fair value of our senior unsecured term loan facility based on the variable interest rate and credit spreads (categorized within Level 3 of the fair

13

 


value hierarchy) and estimated the fair value of our other debt based on the discounted estimated future cash payments to be made on such debt (categorized within Level 3 of the fair value hierarchy); the discount rates used approximate current market rates for loans, or groups of loans, with similar maturities and credit quality, and the estimated future payments included scheduled principal and interest payments.  Fair value estimates are made as of a specific point in time, are subjective in nature and involve uncertainties and matters of significant judgment.  Settlement at such fair value amounts may not be possible and may not be prudent management decision.

The table below presents the Company’s assets and liabilities measured at fair value on a recurring basis as of September 30, 2017, aggregated by the level in the fair value hierarchy within which those measurements fall.

 

 

 

As of September 30, 2017

 

Balance Sheet Line Item

 

Level 1

 

 

Level 2

 

 

Level 3

 

Interest rate swaps - Asset

 

$

 

 

$

3,088

 

 

$

 

 

 

7. Equity

The following table summarizes the changes in our stockholders’ equity for the nine months ended September 30, 2017 and 2016 (dollars in thousands):

 

 

 

Shares

 

 

Common

Stock

Par

Value

 

 

Additional

Paid-in

Capital

 

 

Retained Earnings

(Deficit)

 

 

Cumulative Dividends

 

 

Accumulated Other Comprehensive Income

 

 

Non-

controlling

Interest in

Operating

Partnership

 

 

Total

Equity

 

Nine months ended September 30, 2017

 

Balance at December 31, 2016

 

 

36,874,810

 

 

$

369

 

 

$

596,971

 

 

$

1,721

 

 

$

(42,794

)

 

$

3,038

 

 

$

137,561

 

 

$

696,866

 

Stock based compensation

 

 

 

 

 

 

 

 

 

240

 

 

 

 

 

 

 

 

 

 

 

 

1,975

 

 

 

2,215

 

Dividends and distributions paid

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(29,401

)

 

 

 

 

 

(6,082

)

 

 

(35,483

)

Grant of unvested restricted stock

 

 

17,912

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Redemption of common units for shares of common stock

 

 

1,361,594

 

 

 

14

 

 

 

20,387

 

 

 

 

 

 

 

 

 

 

 

 

(20,401

)

 

 

 

Issuance of common stock

 

 

5,619,480

 

 

 

56

 

 

 

102,885

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

102,941

 

Unrealized loss on interest rate swaps

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(411

)

 

 

(286

)

 

 

(697

)

Net income

 

 

 

 

 

 

 

 

 

 

 

 

2,693

 

 

 

 

 

 

 

 

 

596

 

 

 

3,289

 

Allocation of non-controlling interest in Operating Partnership

 

 

 

 

 

 

 

 

 

(1,603

)

 

 

 

 

 

 

 

 

 

 

 

1,603

 

 

 

 

Balance at September 30, 2017

 

 

43,873,796

 

 

$

439

 

 

$

718,880

 

 

$

4,414

 

 

$

(72,195

)

 

$

2,627

 

 

$

114,966

 

 

$

769,131

 

Nine months ended September 30, 2016

 

Balance at December 31, 2015

 

 

24,168,379

 

 

$

241

 

 

$

391,767

 

 

$

(1,694

)

 

$

(13,051

)

 

$

 

 

$

242,631

 

 

$

619,894

 

Stock based compensation

 

 

 

 

 

 

 

 

 

221

 

 

 

 

 

 

 

 

 

 

 

 

1,943

 

 

 

2,164

 

Dividends and distributions paid

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(20,893

)

 

 

 

 

 

(8,352

)

 

 

(29,245

)

Grant of unvested restricted stock

 

 

16,128

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Redemption of common units for shares of common stock

 

 

6,257,640

 

 

 

64

 

 

 

96,514

 

 

 

 

 

 

 

 

 

 

 

 

(96,578

)

 

 

 

Public offering

 

 

4,719,045

 

 

 

47

 

 

 

80,791

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

80,838

 

Net income

 

 

 

 

 

 

 

 

 

 

 

 

2,269

 

 

 

 

 

 

 

 

 

1,005

 

 

 

3,274

 

Allocation of non-controlling interest in Operating Partnership

 

 

 

 

 

 

 

 

 

(773

)

 

 

 

 

 

 

 

 

 

 

 

773

 

 

 

 

Balance at September 30, 2016

 

 

35,161,192

 

 

$

352

 

 

$

568,520

 

 

$

575

 

 

$

(33,944

)

 

$

 

 

$

141,422

 

 

$

676,925

 

On March 8, 2017, the Company issued an aggregate of 2,692 shares of restricted common stock to certain employees pursuant to our 2015 Equity Incentive Plan. The restricted common stock grants will vest upon the second anniversary of the grant date so long as the grantee remains an employee of the Company on such date.

In connection with our 2017 annual meeting of stockholders, we issued an aggregate of 15,220 shares of restricted common stock to our non-employee directors pursuant to our 2015 Equity Incentive Plan. The restricted common stock grants will vest upon the earlier of the anniversary of the date of grant or the next annual stockholder meeting.

14

 


A summary of our shares of restricted common stock and long-term incentive plan units in the Operating Partnership (“LTIP units”) awards at September 30, 2017 is as follows:

 

 

 

Restricted Shares

 

 

Restricted Shares Weighted Average Grant Date Fair Value Per Share

 

 

LTIP Units

 

 

LTIP Units Weighted Average Grant Date Fair Value Per Share

 

Outstanding, December 31, 2016

 

 

16,128

 

 

$

18.60

 

 

 

926,000

 

 

$

8.91

 

Vested

 

 

(16,128

)

 

 

18.60

 

 

 

 

 

 

 

Granted

 

 

17,912

 

 

 

19.72

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding, September 30, 2017

 

 

17,912

 

 

$

19.72

 

 

 

926,000

 

 

$

8.91

 

We recognized $2.2 million in compensation expense related to our shares of restricted common stock and the LTIP unit awards for the nine months ended September 30, 2017.  As of September 30, 2017, unrecognized compensation expense for both sets of awards was $2.3 million, which will be amortized over the vesting period.

We valued our non-vested restricted share award issued in 2017 at the grant date fair value, which was the market price of our shares of common stock as of the applicable grant date.

On March 27, 2017, we completed an underwritten public offering of an aggregate of 4,945,000 shares of common stock, including 645,000 shares sold pursuant the underwriters’ exercise in full of their option to purchase additional shares.  The shares were offered on a forward basis in connection with certain forward sales agreements entered into with certain financial institutions, acting as forward purchasers.  Pursuant to the forward sales agreements, the forward purchasers borrowed and the forward sellers, acting as agents for the forward purchasers, sold an aggregate of 4,945,000 shares in the public offering.  On September 11, 2017, the Company physically settled the forward sales agreements by issuing an aggregate of 4,945,000 shares of common stock in exchange for approximately $92.7 million. The Company accounted for the forward share agreements as equity.

In connection with the liquidation of certain private investment funds that contributed assets in our initial public offering, we issued 1,361,594 shares of our common stock between January 1, 2017 and September 30, 2017 upon the redemption of 1,361,594 common units in accordance with the terms of the partnership agreement of the Operating Partnership.

 A summary of dividends declared by the board of directors per share of common stock and per common unit at the date of record is as follows:

 

Quarter

 

Declaration Date

 

Record Date

 

Pay Date

 

Dividend (1)

 

Q1 2017

 

May 3, 2017

 

June 14, 2017

 

June 29, 2017

 

 

0.25

 

Q2 2017

 

August 2, 2017

 

September 13, 2017

 

September 28, 2017

 

 

0.25

 

Q3 2017

 

November 2, 2017

 

December 6, 2017

 

December 21, 2017

 

 

0.26

 

 

(1)

Our board of directors also declared a dividend for each LTIP unit in an amount equal to 10% of the dividend paid per common unit.

On March 3, 2017, we entered into separate equity distribution agreements with each of Citigroup Global Markets Inc., BTIG, LLC, Jefferies LLC, Raymond James & Associates, Inc., RBC Capital Markets, LLC and SunTrust Robinson Humphrey, Inc. (collectively, the “managers”), pursuant to which we may issue and sell the shares of our common stock having an aggregate offering price of up to $100.0 million from time to time through the managers, acting as sales agents and/or principals (the “ATM Program”). The sales of shares of our common stock under the equity distribution agreements may be made in negotiated transactions or transactions that are deemed to be “at the market” offerings as defined in Rule 415 under the Securities Act. During the nine months ended September 30, 2017, we issued an aggregate of 674,480 shares of our common stock through the ATM Program, generating proceeds of approximately $14.3 million, net of offering costs. We used the proceeds for general corporate purposes. As of September 30, 2017, we had approximately $85.5 million of gross sales of our common stock available under the ATM Program.

 

 

8. Earnings Per Share

Basic earnings or loss per share of common stock (“EPS”) is calculated by dividing net income attributable to common stockholders by the weighted average shares of common stock outstanding for the periods presented. Diluted EPS is computed after adjusting the basic EPS computation for the effect of dilutive common equivalent shares outstanding during the periods presented. Unvested restricted shares, LTIP units and shares issuable under forward sales agreements are considered participating securities,

15

 


which require the use of the two-class method for the computation of basic and diluted earnings per share. The following table sets forth the computation of the Company’s basic and diluted earnings per share of common stock for the three and nine months ended September 30, 2017 and 2016 (amounts in thousands, except per share amounts):

 

 

 

For the three months ended September 30,

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Numerator

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

926

 

 

$

1,128

 

 

$

3,289

 

 

$

3,274

 

Less: Non-controlling interest in Operating Partnership

 

 

(144

)

 

 

(233

)

 

 

(596

)

 

 

(1,005

)

Net income available to Easterly Government

   Properties, Inc.

 

 

782

 

 

 

895

 

 

 

2,693

 

 

 

2,269

 

Less: Dividends on participating securities

 

 

(28

)

 

 

(25

)

 

 

(81

)

 

 

(76

)

Net income available to common stockholders

 

$

754

 

 

$

870

 

 

$

2,612

 

 

$

2,193

 

Denominator for basic EPS

 

 

39,962,471

 

 

 

34,967,482

 

 

 

38,098,805

 

 

 

28,886,697

 

Dilutive effect of share-based compensation awards

 

 

4,673

 

 

 

4,686

 

 

 

9,193

 

 

 

12,772

 

Dilutive effect of LTIP units

 

 

1,936,833

 

 

 

1,708,468

 

 

 

1,904,284

 

 

 

1,673,218

 

Dilutive effect of shares issuable under forward sales agreements

 

 

 

 

 

223,928

 

 

 

 

 

 

149,702

 

Denominator for diluted EPS

 

 

41,903,977

 

 

 

36,904,564

 

 

 

40,012,282

 

 

 

30,722,389

 

Basic EPS

 

$

0.02

 

 

$

0.02

 

 

$

0.07

 

 

$

0.08

 

Diluted EPS

 

$

0.02

 

 

$

0.02

 

 

$

0.07

 

 

$

0.07

 

 

 

9. Operating Leases

Our rental properties are subject to generally non-cancelable operating leases generating future minimum contractual rent payments due from tenants. As of September 30, 2017, future non-cancelable minimum contractual rent payments are as follows (dollars in thousands):

 

 

 

Payments due by period

 

 

 

Total

 

 

2017

 

 

2018

 

 

2019

 

 

2020

 

 

2021

 

 

Thereafter

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Minimum lease payments

 

$

829,871

 

 

 

25,276

 

 

 

95,771

 

 

 

91,319

 

 

 

85,685

 

 

 

74,788

 

 

 

457,032

 

 

The Company’s consolidated operating properties were 100% occupied by 24 tenants at September 30, 2017.  

For the nine months ended September 30, 2017 we recognized $75.4 million in rental income attributable to base rent, $6.3 million in rental income attributable to the amortization of our above- and below-market leases and a straight-line adjustment of $1.4 million.  

 

 

10. Commitments and Contingencies

We sublease 5,682 square feet of office space in Washington, D.C. under a sublease agreement with a commencement date of March 2016 and expiration date of June 2021.

We also lease 5,752 square feet of office space in San Diego, CA under an operating lease that commenced February 2015 and expires in April 2022.

 


16

 


For the nine months ended September 30, 2017 rent expense incurred under the terms of the corporate office leases, was $0.3 million. Future minimum rental payments under the Company’s corporate office leases as of September 30, 2017 are summarized as follows (dollars in thousands):

 

 

 

Payments due by period

 

 

 

Total

 

 

2017

 

 

2018

 

 

2019

 

 

2020

 

 

2021

 

 

Thereafter

 

Corporate office leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Minimum lease payments

 

$

1,967

 

 

 

113

 

 

 

462

 

 

 

479

 

 

 

496

 

 

 

352

 

 

 

65

 

 

 

11. Concentrations Risk

Concentrations of credit risk arise for the Company when multiple tenants of the Company are engaged in similar business activities, are located in the same geographic region or have similar economic features that impact in a similar manner their ability to meet contractual obligations, including those to the Company. The Company regularly monitors its tenant base to assess potential concentrations of credit risk.

As stated in Note 1 above, the Company leases commercial space to the U.S. Government or nongovernmental tenants. At September 30, 2017, the U.S Government accounted for approximately 97.4% of rental income and non-governmental tenants accounted for the remaining approximately 2.6%.

Fourteen of our 46 operating properties are located in California, accounting for approximately 25.8% of our total rentable square feet and approximately 34.0% of our total annualized lease income as of September 30, 2017. In addition, we owned one property under development located in California. To the extent that weak economic or real estate conditions or natural disasters affect California more severely than other areas of the country, our business, financial condition and results of operations could be significantly impacted.

 

 

12. Subsequent Events

For its consolidated financial statements as of September 30, 2017, the Company evaluated subsequent events and noted no significant events.

17

 


Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). We caution investors that forward-looking statements are based on management’s beliefs and on assumptions made by, and information currently available to, management. When used, the words “anticipate”, “believe”, “estimate”, “expect”, “intend”, “may”, “might”, “plan”, “project”, “result”, “should”, “will”, and similar expressions which do not relate solely to historical matters are intended to identify forward-looking statements. These statements are subject to risks, uncertainties, and assumptions and are not guarantees of future performance, which may be affected by known and unknown risks, trends, uncertainties, and factors that are beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated, or projected. We expressly disclaim any responsibility to update our forward-looking statements, whether as a result of new information, future events, or otherwise. Accordingly, investors should use caution in relying on forward-looking statements, which are based on results and trends at the time they are made, to anticipate future results or trends.

Some of the risks and uncertainties that may cause our actual results, performance, or achievements to differ materially from those expressed or implied by forward-looking statements include, among others, the following:

 

the factors included under the heading “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 and the factors included under the heading “Risk Factors” in the Company’s other public filings;

 

risks associated with our dependence on the U.S. Government and its agencies for substantially all of our revenues, including credit risk and risk that the U.S. Government reduces its spending on real estate or that it changes its preference away from leased properties;

 

risks associated with ownership and development of real estate;

 

decreased rental rates or increased vacancy rates;

 

loss of key personnel;

 

general volatility of the capital and credit markets and the market price of our common stock;

 

the risk we may lose one or more major tenants;

 

difficulties in completing and successfully integrating acquisitions;

 

failure of acquisitions or development projects to occur at anticipated levels or yield anticipated results;

 

risks associated with actual or threatened terrorist attacks;

 

intense competition in the real estate market that may limit our ability to attract or retain tenants or re-lease space;

 

insufficient amounts of insurance or exposure to events that are either uninsured or underinsured;

 

uncertainties and risks related to adverse weather conditions, natural disasters and climate change;

 

exposure to liability relating to environmental and health and safety matters;

 

limited ability to dispose of assets because of the relative illiquidity of real estate investments and the nature of our assets;

 

exposure to litigation or other claims;

 

risks associated with breaches of our data security;

 

risks associated with our indebtedness;

 

failure to refinance current or future indebtedness on favorable terms, or at all;

 

failure to meet the restrictive covenants and requirements in our existing and new debt agreements;

 

fluctuations in interest rates and increased costs to refinance or issue new debt;

 

risks associated with derivatives or hedging activity; and

 

risks associated with mortgage debt or unsecured financing or the unavailability thereof, which could make it difficult to finance or refinance properties and could subject us to foreclosure.

18

 


For a further discussion of these and other factors, see the section entitled “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2016.

Overview

References to “we,” “our,” “us” and “the Company” refer to Easterly Government Properties, Inc., a Maryland corporation, together with our consolidated subsidiaries including Easterly Government Properties LP, a Delaware limited partnership, which we refer to herein as our operating partnership.

We are an internally managed real estate investment trust, or REIT, focused primarily on the acquisition, development and management of Class A commercial properties that are leased to U.S. Government agencies that serve essential functions. We generate substantially all of our revenue by leasing our properties to such agencies, either directly or through the U.S. General Services Administration, or GSA. Our objective is to generate attractive risk-adjusted returns for our stockholders over the long term through dividends and capital appreciation.

As of September 30, 2017, we wholly owned 46 operating properties in the United States, including 43 operating properties that were leased primarily to U.S. Government tenant agencies and three operating properties that were entirely leased to private tenants, encompassing approximately 3.7 million square feet in the aggregate. In addition, we wholly owned two properties under development encompassing approximately 0.1 million square feet. We focus on acquiring, developing and managing U.S. Government leased properties that are essential to supporting the mission of the tenant agency and strive to be a partner of choice for the U.S. Government, working with the tenant agency to meet its needs and objectives.

Our operating partnership holds substantially all of our assets and conducts substantially all of our business. As of September 30, 2017, we owned approximately 85.1% of the aggregate limited partnership interests in our operating partnership, or common units. We have elected to be taxed as a REIT and operate in a manner that we believe allows us to continue to qualify as a REIT for federal income tax purposes commencing with our taxable year ended December 31, 2015.

Recent Acquisitions

On September 28, 2017, the Company acquired a 169,542-square foot Federal Bureau of Investigation (FBI) Field Office in Salt Lake City, Utah. The building was constructed in 2012 and is 100% leased by the FBI under a 20-year lease.  

On June 1, 2017, the Company acquired a 327,614-square foot Department of Veterans Affairs (VA) Ambulatory Care Center in Loma Linda, California. The building was constructed in 2016 and is 100% leased to the VA under a 20-year lease.  

On May 31, 2017, the Company acquired property located in Lenexa, Kansas, which is currently under development to become a 52,870-square foot Food and Drug Administration (FDA) laboratory. The laboratory will be leased to the GSA for a 20-year term, beginning upon completion of development of the property.

On February 3, 2017, the Company acquired a 75,000-square foot laboratory located in Sandy, Utah. The building was constructed in 2003 and is 100% leased to the GSA and occupied by the Occupational Safety and Health Administration (OSHA) under a 20-year lease. The lease includes two five-year renewal options with fixed rental increases that, if exercised, would carry the lease term to 2034.

Operating Properties

As of September 30, 2017, our 46 operating properties were 100% leased with a weighted average annualized lease income per leased square foot of $34.93 and a weighted average age of approximately 12.0 years. We calculate annualized lease income as annualized contractual base rent for the last month in a specified period, plus the annualized straight-line rent adjustments for the last month in such period and the annualized expense reimbursements earned by us for the last month in such period.

19

 


Information about our operating properties as of September 30, 2017 is set forth in the table below:

 

Property Name

 

Location

 

Property

Type (1)

 

Tenant Lease

Expiration

Year (2)

 

Rentable

Square

Feet

 

 

Annualized

Lease

Income

 

 

Percentage

of Total

Annualized

Lease

Income

 

 

Annualized

Lease

Income per

Leased

Square

Foot

 

U.S Government Leased

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

VA - Loma Linda

 

Loma Linda, CA

 

OC

 

 

2036

 

 

 

 

327,614

 

 

$

16,039,347

 

 

 

12.5

%

 

$

48.96

 

IRS - Fresno

 

Fresno, CA

 

O

 

 

2018

 

 

 

 

180,481

 

 

 

7,495,047

 

 

 

5.9

%

 

 

41.53

 

FBI - Salt Lake

 

Salt Lake City, UT

 

O

 

 

2032

 

 

 

 

169,542

 

 

 

6,723,832

 

 

 

5.3

%

 

 

39.66

 

PTO - Arlington

 

Arlington, VA

 

O

 

2019 / 2020

 

(3)

 

 

189,871

 

 

 

6,550,786

 

 

 

5.1

%

 

 

34.50

 

FBI - San Antonio

 

San Antonio, TX

 

O

 

 

2021

 

 

 

 

148,584

 

 

 

5,037,895

 

 

 

3.9

%

 

 

33.91

 

FBI - Omaha

 

Omaha, NE

 

O

 

 

2024

 

 

 

 

112,196

 

 

 

4,433,604

 

 

 

3.5

%

 

 

39.52

 

EPA - Kansas City

 

Kansas City, KS

 

L

 

 

2023

 

 

 

 

71,979

 

 

 

3,852,671

 

 

 

3.0

%

 

 

53.52

 

ICE - Charleston (4)

 

North Charleston, SC

 

O

 

2021 / 2027

 

(5)

 

 

86,733

 

 

 

3,758,257

 

 

 

2.9

%

 

 

43.33

 

DOT - Lakewood

 

Lakewood, CO

 

O

 

 

2024

 

 

 

 

122,225

 

 

 

3,492,465

 

 

 

2.8

%

 

 

28.57

 

USCIS - Lincoln

 

Lincoln, NE

 

O

 

 

2020

 

 

 

 

137,671

 

 

 

3,257,771

 

 

 

2.6

%

 

 

23.66

 

AOC - El Centro (6)

 

El Centro, CA

 

C/O

 

 

2019

 

 

 

 

46,813

 

 

 

3,079,731

 

 

 

2.4

%

 

 

65.79

 

FBI - Birmingham

 

Birmingham, AL

 

O

 

 

2020

 

 

 

 

96,278

 

 

 

3,017,500

 

 

 

2.4

%

 

 

31.34

 

OSHA - Sandy

 

Sandy, UT

 

L

 

 

2024

 

(7)

 

 

75,000

 

 

 

2,972,463

 

 

 

2.3

%

 

 

39.63

 

USFS II - Albuquerque

 

Albuquerque, NM

 

O

 

2026

 

(8)

 

 

98,720

 

 

 

2,856,679

 

 

 

2.2

%

 

 

28.94

 

ICE - Albuquerque

 

Albuquerque, NM

 

O

 

 

2027

 

 

 

 

71,100

 

 

 

2,794,202

 

 

 

2.2

%

 

 

39.30

 

DEA - Vista

 

Vista, CA

 

L

 

 

2020

 

 

 

 

54,119

 

 

 

2,761,077

 

 

 

2.2

%

 

 

51.02

 

FBI - Richmond

 

Richmond, VA

 

O

 

 

2021

 

 

 

 

96,607

 

 

 

2,756,395

 

 

 

2.2

%

 

 

28.53

 

DEA - Pleasanton

 

Pleasanton, CA

 

L

 

 

2035

 

 

 

 

42,480

 

 

 

2,741,304

 

 

 

2.1

%

 

 

64.53

 

USFS I - Albuquerque

 

Albuquerque, NM

 

O

 

2021

 

(8)

 

 

92,455

 

 

 

2,737,373

 

 

 

2.1

%

 

 

29.61

 

AOC - Del Rio (6)

 

Del Rio, TX

 

C/O

 

 

2024

 

 

 

 

89,880

 

 

 

2,666,267

 

 

 

2.1

%

 

 

29.66

 

DEA - Dallas Lab

 

Dallas, TX

 

L

 

2021

 

 

 

 

49,723

 

 

 

2,395,557

 

 

 

2.0

%

 

 

48.18

 

MEPCOM - Jacksonville

 

Jacksonville, FL

 

O

 

 

2025

 

 

 

 

30,000

 

 

 

2,180,022

 

 

 

1.8

%

 

 

72.67

 

FBI - Little Rock

 

Little Rock, AR

 

O

 

 

2021

 

 

 

 

101,977

 

 

 

2,165,285

 

 

 

1.7

%

 

 

21.23

 

CBP - Savannah

 

Savannah, GA

 

L

 

 

2033

 

 

 

 

35,000

 

 

 

2,131,266

 

 

 

1.7

%

 

 

60.89

 

FBI - Albany

 

Albany, NY

 

O

 

 

2018

 

 

 

 

98,184

 

 

 

2,094,025

 

 

 

1.6

%

 

 

21.33

 

DEA - Santa Ana

 

Santa Ana, CA

 

O

 

 

2024

 

 

 

 

39,905

 

 

 

2,077,243

 

 

 

1.6

%

 

 

52.05

 

DOE - Lakewood

 

Lakewood, CO

 

O

 

 

2029

 

 

 

 

115,650

 

 

 

2,061,963

 

 

 

1.6

%

 

 

17.83

 

DEA - Dallas

 

Dallas, TX

 

O

 

 

2021

 

 

 

 

71,827

 

 

 

1,807,861

 

 

 

1.4

%

 

 

25.17

 

NPS - Omaha

 

Omaha, NE

 

O

 

 

2024

 

 

 

 

62,772

 

 

 

1,758,880

 

 

 

1.4

%

 

 

28.02

 

ICE - Otay

 

San Diego, CA

 

O

 

2022 / 2026

 

(9)

 

 

52,881

 

 

 

1,752,325

 

 

 

1.4

%

 

 

35.43

 

CBP - Chula Vista

 

Chula Vista, CA

 

O

 

 

2018

 

 

 

 

59,397

 

 

 

1,710,318

 

 

 

1.3

%

 

 

28.79

 

DEA - North Highlands

 

Sacramento, CA

 

O

 

 

2017

 

 

 

 

37,975

 

 

 

1,707,569

 

 

 

1.3

%

 

 

44.97

 

CBP - Sunburst

 

Sunburst, MT

 

O

 

 

2028

 

 

 

 

33,000

 

 

 

1,588,434

 

 

 

1.2

%

 

 

48.13

 

USCG - Martinsburg

 

Martinsburg, WV

 

O

 

 

2027

 

 

 

 

59,547

 

 

 

1,574,367

 

 

 

1.2

%

 

 

26.44

 

AOC - Aberdeen (6)

 

Aberdeen, MS

 

C/O

 

 

2025

 

 

 

 

46,979

 

 

 

1,464,428

 

 

 

1.1

%

 

 

31.17

 

DEA - Birmingham(10)

 

Birmingham, AL

 

O

 

 

2020

 

 

 

 

35,616

 

 

 

1,392,038

 

 

 

1.1

%

 

 

39.08

 

DEA - Albany

 

Albany, NY

 

O

 

 

2025

 

 

 

 

31,976

 

 

 

1,340,360

 

 

 

1.0

%

 

 

41.92

 

DEA - Otay (11)

 

San Diego, CA

 

O

 

 

2017

 

 

 

 

32,560

 

 

 

1,301,353

 

 

 

1.0

%

 

 

39.97

 

DEA - Riverside

 

Riverside, CA

 

O

 

 

2017

 

 

 

 

34,354

 

 

 

1,300,738

 

 

 

1.0

%

 

 

37.86

 

AOC - South Bend (6)

 

South Bend, IN

 

C/O

 

 

2027

 

 

 

 

30,119

 

 

 

816,214

 

 

 

0.7

%

 

 

27.10

 

SSA - Mission Viejo

 

Mission Viejo, CA

 

O

 

 

2020

 

 

 

 

11,590

 

 

 

535,860

 

 

 

0.4

%

 

 

46.23

 

DEA - San Diego

 

San Diego, CA

 

W

 

 

2032

 

 

 

 

16,100

 

 

 

534,011

 

 

 

0.4

%

 

 

33.17

 

SSA - San Diego

 

San Diego, CA

 

O

 

 

2032

 

 

 

 

10,856

 

 

 

442,966

 

 

 

0.3

%

 

 

44.04

 

Subtotal

 

 

 

 

 

 

 

 

 

 

 

3,408,336

 

 

$

125,157,749

 

 

 

97.9

%

 

$

36.77

 

Privately Leased

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2650 SW 145th Avenue -

   Parbel of Florida

 

Miramar, FL

 

W/D

 

 

2018

 

 

 

 

81,721

 

 

 

1,668,732

 

 

 

1.3

%

 

 

20.42

 

5998 Osceola Court -

   United Technologies

 

Midland, GA

 

W/M

 

 

2023

 

(12)

 

 

105,641

 

 

 

538,932

 

 

 

0.4

%

 

 

5.10

 

501 East Hunter Street -

   Lummus Corporation

 

Lubbock, TX

 

W/D

 

 

2028

 

(7)

 

 

70,078

 

 

 

527,845

 

 

 

0.4

%

 

 

7.53

 

Subtotal

 

 

 

 

 

 

 

 

 

 

 

257,440

 

 

$

2,735,509

 

 

 

2.1

%

 

$

10.63

 

Total / Weighted Average

 

 

 

 

 

 

 

 

 

 

 

3,665,776

 

 

$

127,893,258

 

 

 

100.0

%

 

$

34.93

 

(1)

OC=Outpatient Clinic; O=Office; C=Courthouse; L=Laboratory; W=Warehouse; D=Distribution; M=Manufacturing

(2)

The year of lease expiration does not include renewal options. All leases with renewal options are noted in the following footnotes to this table.

(3)

168,468 rentable square feet leased to the PTO will expire on March 31, 2019, and 21,403 rentable square feet leased to the PTO will expire on January 7, 2020.

(4)

This property is only partially leased to the U.S. Government. We Are Sharing Hope SC (formerly known as LifePoint, Inc.) occupies 21,609 rentable square feet.

(5)

21,609 rentable square feet leased to We Are Sharing Hope SC will expire on September 30, 2021, and 65,124 rentable square feet leased to ICE will expire on January 31, 2027.

20

 


(6)

A portion of this property is occupied by the U.S. Marshals Service to provide security and otherwise support the mission of the Administrative Office of the Courts. Because of the interrelated nature of the U.S. Marshals Service and the Administrative Office of the Courts, we have not separately addressed occupancy by the U.S. Marshals Service.

(7)

Lease contains two five-year renewal options.

(8)

Lease contains one five-year renewal option.

(9)

40,485 rentable square feet leased to ICE will expire on November 27, 2022, 7,434 rentable square feet leased to the DOT will expire on June 4, 2022 and 1,538 rentable square feet leased to the Department of Agriculture (DOA) will expire on January 1, 2026.

(10)

The Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF) occupies 8,680 rentable square feet.

(11)

ICE occupies 5,813 rentable square feet.

(12)

Lease contains three five-year renewal options.

Certain of our leases are currently in the “soft-term” period of the lease, meaning that the U.S. Government tenant agency has the right to terminate the lease prior to its stated lease end date. We believe that, from the U.S. Government’s perspective, leases with such provisions are helpful for budgetary purposes. While some of our leases are contractually subject to early termination, we do not believe that our tenant agencies are likely to terminate these leases early given the build-to-suit features at the properties subject to the leases, the average age of these properties (approximately 15.9 years as of September 30, 2017), the mission-critical focus of the properties subject to the leases and the current level of operations at such properties.

The following table sets forth a schedule of lease expirations for leases in place as of September 30, 2017.

 

Year of Lease Expiration (1)

 

Number of

Leases

Expiring

 

 

Square

Footage

Expiring

 

 

Percent of

Portfolio Square

Footage

Expiring

 

 

Annualized

Lease Income Expiring

 

 

Percentage

of Total

Annualized

Lease Income Expiring

 

 

Annualized Lease

Income per

Leased Square

Foot Expiring

 

2017

 

 

3

 

 

 

104,889

 

 

 

2.9

%

 

$

4,309,660

 

 

 

3.4

%

 

$

41.09

 

2018

 

 

4

 

 

 

419,783

 

 

 

11.5

%

 

 

12,968,122

 

 

 

10.1

%

 

 

30.89

 

2019

 

 

2

 

 

 

215,281

 

 

 

5.9

%

 

 

8,860,647

 

 

 

6.9

%

 

 

41.16

 

2020

 

 

7

 

 

 

356,677

 

 

 

9.7

%

 

 

11,734,115

 

 

 

9.2

%

 

 

32.90

 

2021

 

 

7

 

 

 

582,782

 

 

 

15.8

%

 

 

17,508,923

 

 

 

13.7

%

 

 

30.04

 

2022

 

 

2

 

 

 

47,919

 

 

 

1.3

%

 

 

1,697,327

 

 

 

1.3

%

 

 

35.42

 

2023

 

 

2

 

 

 

177,620

 

 

 

4.9

%

 

 

4,391,603

 

 

 

3.4

%

 

 

24.72

 

2024

 

 

6

 

 

 

501,978

 

 

 

13.7

%

 

 

17,400,921

 

 

 

13.6

%

 

 

34.66

 

2025

 

 

3

 

 

 

108,955

 

 

 

3.0

%

 

 

4,984,810

 

 

 

3.9

%

 

 

45.75

 

2026

 

 

2

 

 

 

100,258

 

 

 

2.7

%

 

 

2,911,678

 

 

 

2.3

%

 

 

29.04

 

Thereafter

 

 

12

 

 

 

1,045,413

 

 

 

28.6

%

 

 

41,125,452

 

 

 

32.2

%

 

 

39.34

 

Total / Weighted Average

 

 

50

 

 

 

3,661,555

 

 

 

100.0

%

 

$

127,893,258

 

 

 

100.0

%

 

$

34.93

 

(1)

The year of lease expirations is pursuant to current contract terms. Some tenants have the right to vacate their space during a specified period, or “soft term,” before the stated terms of their leases expire. As of September 30, 2017, five tenants occupying approximately 12.5% of our rentable square feet and contributing approximately 11.4% of our annualized lease income have exercisable rights to terminate their leases before the stated term of their lease expires.

21

 


Results of Operations

Comparison of Results of Operations for the Three Months Ended September 30, 2017 and 2016

The financial information presented below summarizes the results of operations of the Company for the three months ended September 30, 2017 and 2016 (dollars in thousands).

 

(Amounts in thousands)

 

For the three months ended September 30,

 

 

 

 

2017

 

 

2016

 

 

Change

 

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

 

 

Rental income

 

$

30,079

 

 

$

24,493

 

 

$

5,586

 

 

Tenant reimbursements

 

 

3,554

 

 

 

2,385

 

 

 

1,169

 

 

Other income

 

 

225

 

 

 

97

 

 

 

128

 

 

Total revenues

 

 

33,858

 

 

 

26,975

 

 

 

6,883

 

 

Operating Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

Property operating

 

 

6,718

 

 

 

5,308

 

 

 

1,410

 

 

Real estate taxes

 

 

3,452

 

 

 

2,533

 

 

 

919

 

 

Depreciation and amortization

 

 

14,141

 

 

 

12,237

 

 

 

1,904

 

 

Acquisition costs

 

 

206

 

 

 

660

 

 

 

(454

)

 

Corporate general and administrative

 

 

2,920

 

 

 

3,066

 

 

 

(146

)

 

Total expenses

 

 

27,437

 

 

 

23,804

 

 

 

3,633

 

 

Operating income

 

 

6,421

 

 

 

3,171

 

 

 

3,250

 

 

Other expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

(5,495

)

 

 

(2,043

)

 

 

(3,452

)

 

Net income

 

$

926

 

 

$

1,128

 

 

$

(202

)

 

Revenues

Total revenue consists primarily of rental income from our operating properties, tenant reimbursements for real estate taxes and certain other expenses, and project management income.

Total revenue increased by $6.9 million to $33.9 million for the three months ended September 30, 2017 compared to $27.0 million for the three months ended September 30, 2016. The increase was primarily attributable to an additional $5.9 million of revenue from the five operating properties acquired since September 30, 2016, $0.5 million of revenue from an increase in tenant project reimbursements and the associated project management income, and $0.5 million increase in rental income and other tenant reimbursements from properties owned in both periods.

Operating Expenses

Total expenses increased by $3.6 million to $27.4 million for the three months ended September 30, 2017 compared to $23.8 million for the three months ended September 30, 2016. $3.6 million of the increase to our property operating expenses, real estate taxes, and depreciation and amortization is primarily attributable to the five operating properties acquired since September 30, 2016, a $0.5 million increase related to an increase in expenses associated with projects fully reimbursed by the tenant, and a $0.5 million increase in operating expenses from properties owned in both periods offset by $0.5 million decrease in depreciation related to the timing of intangible asset amortization.  Additionally, acquisition costs decreased by $0.5 million due to a decrease in internal employee costs and the capitalization of costs associated with probable acquisitions in the third quarter of 2017 due to the adoption of ASU 2017-01 as of January 1, 2017.

Interest Expense

Interest expense increased $3.5 million to $5.5 million for three months ended September 30, 2017 compared to $2.0 million for the three months ended September 30, 2016. This increase is primarily due to increases of $1.9 million associated with the issuance of the senior unsecured notes, $1.2 million associated with the mortgage loan secured by VA – Loma Linda, and $0.9 million attributable to our $100 million senior unsecured term loan facility and interest rate swap offset by a decrease of $0.5 million attributable to interest our senior unsecured credit facility. The $0.5 million decrease in interest on our senior unsecured credit facility was primarily attributable to a decrease in the weighted average borrowings under our senior unsecured revolving credit facility from $207.1 million to $63.1 million quarter over quarter offset by an increase in the weighted average interest rate of 2.68% for the three months ended September 30, 2017 compared to 1.90% for the three months ended September 30, 2016.  

22

 


Comparison of Results of Operations for the Nine Months Ended September 30, 2017 and 2016

The financial information presented below summarizes the results of operations of the Company for the nine months ended September 30, 2017 and 2016 (dollars in thousands).

 

(Amounts in thousands)

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

Change

 

Revenues

 

 

 

 

 

 

 

 

 

 

 

 

Rental income

 

$

83,600

 

 

$

68,520

 

 

$

15,080

 

Tenant reimbursements

 

 

10,156

 

 

 

7,016

 

 

 

3,140

 

Other income

 

 

592

 

 

 

331

 

 

 

261

 

Total revenues

 

 

94,348

 

 

 

75,867

 

 

 

18,481

 

Operating Expenses

 

 

 

 

 

 

 

 

 

 

 

 

Property operating

 

 

18,904

 

 

 

14,726

 

 

 

4,178

 

Real estate taxes

 

 

9,166

 

 

 

7,233

 

 

 

1,933

 

Depreciation and amortization

 

 

40,663

 

 

 

34,174

 

 

 

6,489

 

Acquisition costs

 

 

1,194

 

 

 

1,339

 

 

 

(145

)

Corporate general and administrative

 

 

9,506

 

 

 

9,154

 

 

 

352

 

Total expenses

 

 

79,433

 

 

 

66,626

 

 

 

12,807

 

Operating income

 

 

14,915

 

 

 

9,241

 

 

 

5,674

 

Other (expenses) / income

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

(11,626

)

 

 

(5,967

)

 

 

(5,659

)

Net income (loss)

 

$

3,289

 

 

$

3,274

 

 

$

15

 

Revenues

Total revenue consists primarily of rental income from our properties, tenant reimbursements for real estate taxes and certain other expenses, and project management income.

Total revenue increased by $18.5 million to $94.3 million for the nine months ended September 30, 2017 compared to $75.9 million for the nine months ended September 30, 2016. The increase was primarily attributable to an additional $15.9 million of revenue from the five operating properties acquired since September 30, 2016 as well as a full period of operations from the five operating properties acquired during the nine months ended September 30, 2016, a $1.6 million increase in tenant project reimbursements and the associated project management income, and a $1.0 million increase in rental income and other tenant reimbursements from properties owned in both periods.

Operating Expenses

Total expenses increased by $12.8 million to $79.4 million for the nine months ended September 30, 2017 compared to $66.6 million for the nine months ended September 30, 2016. $11.1 million of the increase is attributable to our property operating expenses, real estate taxes, and depreciation and amortization associated with the five operating properties acquired since September 30, 2016, as well as a full period of operations from the five operating properties acquired during the nine months ended September 30, 2016, a $1.4 million increase in expenses associated with projects and other services that were fully reimbursed by the tenant and a $0.8 million increase in operating expenses from properties owned in both periods offset by $0.7 million decrease in depreciation related to the timing of intangible asset amortization. Additionally, general and administrative costs increased $0.4 million due primarily to an increase in employee costs. 

Interest Expense

Interest expense increased $5.7 million to $11.6 million for nine months ended September 30, 2017 compared to $6.0 million for the nine months ended September 30, 2016. This increase is primarily due to a $2.6 million increase associated with the issuance of the senior unsecured notes, an additional $1.8 million attributable to our $100 million senior unsecured term loan facility and interest rate swap, and an increase of $1.3 million associated with the mortgage loan secured by VA – Loma Linda.

Liquidity and Capital Resources

We anticipate that our cash flows from the sources listed below will provide adequate capital for the next 12 months for all anticipated liquidity needs, including all scheduled principal and interest payments on our outstanding indebtedness, current and anticipated tenant improvements, stockholder distributions to maintain our qualification as a REIT and other capital obligations

23

 


associated with conducting our business. At September 30, 2017, we had $6.6 million available in cash and cash equivalents and there was $340.7 million available under our senior unsecured revolving credit facility.

Our primary expected sources of capital are as follows:

 

cash and cash equivalents;

 

operating cash flow;

 

available borrowings under our senior unsecured revolving credit facility;

 

secured loans collateralized by individual properties;

 

issuance of long-term debt;

 

issuance of equity, including under our ATM program (as described below); and

 

asset sales.

Our short-term liquidity requirements consist primarily of funds to pay for the following:

 

development and redevelopment activities, including major redevelopment, renovation or expansion programs at individual properties;

 

property acquisitions under contract;

 

tenant improvements allowances and leasing costs;

 

recurring maintenance capital expenditures;

 

debt repayment requirements;

 

corporate and administrative costs;

 

interest swap payments; and

 

distribution payments.

Our long-term liquidity needs, in addition to recurring short-term liquidity needs as discussed above, consist primarily of funds necessary to pay for acquisitions, non-recurring capital expenditures, and scheduled debt maturities. Although we may be able to anticipate and plan for certain of our liquidity needs, unexpected increases in uses of cash that are beyond our control and which affect our financial condition and results of operations may arise, or our sources of liquidity may be fewer than, and the funds available from such sources may be less than, anticipated or required. As of the date of this filing, there were no known commitments or events that would have a material impact on our liquidity.

Universal Shelf

On March 9, 2016, we filed a universal shelf registration statement on Form S-3 with the Securities and Exchange Commission, or SEC, which was declared effective on May 3, 2016. The universal shelf registration statement allows us, from time to time, to offer and sell up to $500.0 million of equity securities, including shares of our common stock that were offered and sold pursuant to the offerings described below. However, there can be no assurance that we will be able to complete any such offerings of securities in the future.

Offering of Common Stock on a Forward Basis

On March 27, 2017, we completed an underwritten public offering of an aggregate of 4,945,000 shares of our common stock, including 645,000 shares sold pursuant the underwriters exercise in full of their option to purchase additional shares.  The shares were offered on a forward basis in connection with certain forward sales agreements entered into with certain financial institutions, acting as forward purchasers.  Pursuant to the forward sales agreements, the forward purchasers borrowed and the forward sellers, acting as agents for the forward purchasers, sold an aggregate of 4,945,000 shares in the public offering.  On September 11, 2017, the Company physically settled the forward sales agreements by issuing an aggregate of 4,945,000 shares of common stock in exchange for approximately $92.7 million in gross proceeds.

24

 


ATM Program

On March 3, 2017, we entered into equity distribution agreements with each of Citigroup Global Markets Inc., BTIG, LLC, Jefferies LLC, Raymond James & Associates, Inc., RBC Capital Markets, LLC and SunTrust Robinson Humphrey, Inc., whom we refer to collectively as, the managers, pursuant to which we may issue and sell the shares of our common stock having an aggregate offering price of up to $100.0 million from time to time through the managers, acting as sales agents and/or principals, which we refer to as our ATM program. The sales of shares of our common stock, under the equity distribution agreements may be made in negotiated transactions or transactions that are deemed to be “at the market” offerings as defined in Rule 415 under the Securities Act. During the nine months ended September 30, 2017, we issued an aggregate of 674,480 shares of our common stock through our ATM program, generating proceeds of approximately $14.3 million, net of offering costs. We used the proceeds for general corporate purposes. As of September 30, 2017, we had approximately $85.5 million of gross sales of our common stock available under on our ATM program.

Debt

At September 30, 2017, our borrowings consisted of the following (dollars in thousands):

 

Loan

 

Principal Outstanding

 

 

Interest Rate (1)

 

 

Maturity Date

 

Revolving credit facility:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured revolving credit facility (2)

 

$

59,250

 

 

L + 150bps

 

 

February 2019 (3)

 

Total revolving credit facility

 

 

59,250

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Term loan facility:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured term loan facility

 

 

100,000

 

 

3.17% (4)

 

 

September 2023

 

Total term loan facility

 

 

100,000

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(833

)

 

 

 

 

 

 

 

Total term loan facility, net

 

 

99,167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes payable:

 

 

 

 

 

 

 

 

 

 

 

Senior unsecured notes payable, series A

 

 

95,000

 

 

 

4.05%

 

 

May 2027

 

Senior unsecured notes payable, series B

 

 

50,000

 

 

 

4.15%

 

 

May 2029

 

Senior unsecured notes payable, series C

 

 

30,000

 

 

 

4.30%

 

 

May 2032

 

Total notes payable

 

 

175,000

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(1,324

)

 

 

 

 

 

 

 

Total notes payable, net

 

 

173,676

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mortgage notes payable:

 

 

 

 

 

 

 

 

 

 

 

CBP - Savannah

 

 

14,388

 

 

3.40% (5)

 

 

July 2033

 

ICE - Charleston

 

 

20,088

 

 

4.21% (5)

 

 

January 2027

 

MEPCOM - Jacksonville

 

 

11,016

 

 

4.41% (5)

 

 

October 2025

 

USFS II - Albuquerque

 

 

16,969

 

 

4.46% (5)

 

 

July 2026

 

DEA - Pleasanton

 

 

15,700

 

 

L + 150bps (5)

 

 

October 2023

 

VA - Loma Linda

 

 

127,500

 

 

 

3.59%

 

 

July 2027

 

Total mortgage notes payable

 

 

205,661

 

 

 

 

 

 

 

 

Less: Total unamortized deferred financing fees

 

 

(2,059

)

 

 

 

 

 

 

 

Less: Total unamortized premium/discount

 

 

397

 

 

 

 

 

 

 

 

Total mortgage notes payable, net

 

 

203,999

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt

 

 

536,092

 

 

 

 

 

 

 

 

 

(1)

At September 30, 2017, the one-month LIBOR (“L”) was 1.23%. The current interest rate is not adjusted to include the amortization of deferred financing fees or debt issuance costs incurred in obtaining debt or any unamortized fair market value premiums. The spread over the applicable rate for the Company's senior unsecured revolving credit facility and senior unsecured term loan facility is based on the Company's consolidated leverage ratio, as defined in the respective loan agreements.

 

(2)

Available capacity of $340.7 million at September 30, 2017 with an accordion feature that provides additional capacity of up to $250.0 million, for a total facility size of not more than $650.0 million.

25

 


 

(3)

Our senior unsecured revolving credit facility has two six-month as-of-right extension options subject to certain conditions and the payment of an extension fee.

 

(4)

Entered into two interest rate swaps with an effective date of March 29, 2017 with an aggregate notional value of $100.0 million to effectively fix the interest rate at 3.17% annually, based on the Company’s consolidated leverage ratio, as defined in the senior unsecured term loan facility agreement.

 

(5)

Effective interest rates are as follows: CBP - Savannah 4.12%, ICE - Charleston 3.93%, MEPCOM - Jacksonville 3.89%, USFS II - Albuquerque 3.92%, DEA - Pleasanton 1.8%.

On May 25, 2017, the Operating Partnership issued $175 million of fixed rate, senior unsecured notes, which we refer to as the Notes, in a private placement pursuant to a purchase agreement among the Operating Partnership, the Company and the purchasers of the Notes, which we refer to as the Purchase Agreement. The Notes are unconditionally guaranteed by the Company and various subsidiaries of the Operating Partnership, or the Subsidiary Guarantors.

Subject to the terms of the Purchase Agreement and the Notes, upon certain events of default, including, but not limited to, (i) a default in the payment of any principal, “make-whole” amount or interest under the Notes, and (ii) a default in the payment of certain other indebtedness of the Operating Partnership or of the Company or of the Subsidiary Guarantors, the principal and accrued and unpaid interest and the make-whole amount on the outstanding Notes will become due and payable at the option of the holders. The Purchase Agreement and the Notes also contain various covenants, including, among others, financial covenants with respect to debt service coverage, consolidated net worth, fixed charges and consolidated leverage and covenants relating to liens. If the Operating Partnership or the Company breaches any of these covenants, the principal and accrued and unpaid interest and the make-whole amount on the outstanding Notes will become due and payable at the option of the holders.

The Operating Partnership may prepay at any time all, or from time to time any part of, the Notes, in the amount not less than 5% of the aggregate principal amount of the Notes then outstanding at (i) 100% of the principal amount so prepaid, together with accrued interest, and (ii) a make-whole amount that is calculated by discounting the value of the remaining scheduled interest payments that would otherwise be payable through the scheduled maturity date of the applicable Notes on the principal amount being prepaid. The Operating Partnership has the right to make tender offers and is required to make other prepayment offers under the terms set forth in the Purchase Agreement.

On June 28, 2017, the Company, through a wholly-owned subsidiary of the Operating Partnership, entered into a $127.5 million mortgage loan secured by VA – Loma Linda.

Our unsecured credit facility, unsecured term loans, unsecured notes, and mortgage notes are subject to ongoing compliance with a number of financial and other covenants. As of September 30, 2017, we were in compliance with the applicable financial covenants.

The chart below details our debt capital structure as of September 30, 2017 (dollars in thousands):

Debt Capital Structure

 

September 30, 2017

 

Total principal outstanding

 

$

539,911

 

Weighted average maturity

 

8.5 years

 

Weighted average interest rate

 

 

3.6

%

% Variable debt

 

 

13.9

%

% Fixed debt

 

 

86.1

%

% Secured debt

 

 

38.1

%

 

(1)

Our senior unsecured term loan facility is swapped to be fixed and as such is included as fixed rate debt in the table above.

26

 


Contractual Obligations

The following table summarizes our contractual obligations as of September 30, 2017 (dollars in thousands):

 

 

 

Payments due by period

 

 

 

Total

 

 

2017

 

 

2018

 

 

2019

 

 

2020

 

 

2021

 

 

Thereafter

 

Mortgage principal and interest

 

$

271,110

 

 

 

2,674

 

 

 

10,657

 

 

 

10,656

 

 

 

10,700

 

 

 

11,199

 

 

 

225,224

 

Senior unsecured revolving credit

   facility principal and interest

 

 

62,907

 

 

 

671

 

 

 

2,683

 

 

 

59,553

 

 

 

 

 

 

 

 

 

 

Senior unsecured term loan

   facility principal and interest

 

 

119,093

 

 

 

796

 

 

 

3,185

 

 

 

3,185

 

 

 

3,185

 

 

 

3,185

 

 

 

105,557

 

Senior unsecured notes payable

   principal and interest

 

 

255,206

 

 

 

1,803

 

 

 

7,213

 

 

 

7,213

 

 

 

7,213

 

 

 

7,213

 

 

 

224,551

 

Corporate office leases

 

 

1,967

 

 

 

113

 

 

 

462

 

 

 

479

 

 

 

496

 

 

 

352

 

 

 

65

 

 

Dividend Policy

In order to qualify as a REIT, we are required to distribute to our stockholders, on an annual basis, at least 90% of our REIT taxable income, determined without regard to the deduction for dividends paid and excluding net capital gains. We anticipate distributing all of our taxable income. We expect to make quarterly distributions to our stockholders in a manner intended to satisfy this requirement. Prior to making any distributions for U.S. federal tax purposes or otherwise, we must first satisfy our operating and debt service obligations. It is possible that it would be necessary to utilize cash reserves, liquidate assets at unfavorable prices or incur additional indebtedness in order to make required distributions. It is also possible that our board of directors could decide to make required distributions in part by using shares of our common stock.

A summary of dividends declared by the board of directors per share of common stock and per common unit of our operating partnership at the date of record is as follows:

Quarter

 

Declaration Date

 

Record Date

 

Pay Date

 

Dividend (1)

 

Q1 2017

 

May 3, 2017

 

June 14, 2017

 

June 29, 2017

 

 

0.25

 

Q2 2017

 

August 2, 2017

 

September 13, 2017

 

September 28, 2017

 

 

0.25

 

Q3 2017

 

November 2, 2017

 

December 6, 2017

 

December 21, 2017

 

 

0.26

 

 

(1)

Our board of directors also declared a dividend for each LTIP unit in an amount equal to 10% of the dividend paid per common unit

Off-balance Sheet Arrangements

We had no material off-balance sheet arrangements as of September 30, 2017.

Inflation

Substantially all of our leases provide for operating expense escalations. We believe inflationary increases in expenses may be at least partially offset by the operating expenses that are passed through to our tenants and by contractual rent increases. We do not believe inflation has had a material impact on our historical financial position or results of operations.

Cash Flows

The following table sets forth a summary of cash flows for the nine months ended September 30, 2017 and 2016:

 

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

 

(amounts in thousands)

 

Net cash (used in) provided by:

 

 

 

 

 

 

 

 

Operating activities

 

$

42,824

 

 

$

36,226

 

Investing activities

 

 

(352,567

)

 

 

(140,908

)

Financing activities

 

 

311,449

 

 

 

100,864

 

 

27

 


Operating Activities

The Company generated $42.8 million and $36.2 million of cash from operating activities during the nine months ended September 30, 2017 and 2016, respectively. Net cash provided by operating activities for the nine months ended September 30, 2017 includes a $39.2 million increase in net cash from rental activities net of expenses and a $3.6 million increase related to the change in rents receivable, accounts receivable, prepaid and other assets, and accounts payable and accrued liabilities. Net cash from operating activities for the nine months ended September 30, 2016 includes a $34.9 million increase in net cash from rental activities net of expenses and $1.3 million related to the change in rents receivable, accounts receivable, prepaid and other assets, and accounts payable and accrued liabilities.

Investing Activities

The Company used $352.6 million and $140.9 million in cash for investing activities during the nine months ended September 30, 2017 and 2016, respectively. Net cash used in investing activities for the nine months ended September 30, 2017 includes $337.6 million in real estate acquisitions related to the purchase of OSHA – Sandy, VA – Loma Linda, FDA – Lenexa, and FBI – Salt Lake, $5.6 million in additions to development properties, a $5.0 million note receivable, $2.2 million in additions to operating properties and a $2.2 million increase in restricted cash offset by a $0.7 million decrease in deposits on acquisitions. Net cash used for investing activities for the nine months ended September 30, 2016 primarily includes $139.2 million in real estate acquisitions related to the purchase of ICE – Albuquerque, NPS – Omaha, DEA – Birmingham, FBI – Birmingham, EPA – Kansas City and FDA – Alameda.

Financing Activities

The Company generated $311.4 million and $100.9 million in cash from financing activities during the nine months ended September 30, 2017 and 2016, respectively. Net cash provided by financing activities for the nine months ended September 30, 2017 includes $100.0 million in draws under our senior unsecured term loan facility, $175.0 million in proceeds from the issuance of senior unsecured notes, $127.5 million in mortgage notes, $107.2 million in gross proceeds from issuance of shares of our common stock, offset by $152.9 million in net pay downs under our senior unsecured revolving credit facility, $35.5 million in dividends, $3.4 million in payment of deferred financing costs, $4.2 million in payment of deferred offering costs and $2.2 million in mortgage debt repayment. Net cash generated by financing activities for the nine months ended September 30, 2016 includes $84.9 million in gross proceeds from the issuance of shares of our common stock and $52.3 million in draws under our senior unsecured revolving credit facility offset by $29.2 million in dividends, $4.1 million in offering costs and $2.1 million in mortgage debt repayment.

Non-GAAP Financial Measures

We use and present funds from operations, or FFO, and FFO, as Adjusted as supplemental measures of our performance. The summary below describes our use of FFO and FFO, as Adjusted, provides information regarding why we believe these measures are meaningful supplemental measures of our performance and reconciles these measures from net income (loss), presented in accordance with GAAP.

Funds from Operations and Funds from Operations, as Adjusted

Funds from Operations, or FFO, is a supplemental measure of our performance. We present FFO calculated in accordance with the current National Association of Real Estate Investment Trusts, or NAREIT, definition. In addition, we present FFO, as Adjusted for certain other adjustments that we believe enhance the comparability of our FFO across periods and to the FFO reported by other publicly traded REITs. FFO is a supplemental performance measure that is commonly used in the real estate industry to assist investors and analysts in comparing results of REITs.

FFO is defined by NAREIT as net income (loss), calculated in accordance with GAAP, excluding gains or losses from sales of property and impairment losses on depreciable real estate, plus real estate depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures. We present FFO because we consider it an important supplemental measure of our operating performance, and we believe it is frequently used by securities analysts, investors and other interested parties in the evaluation of REITs, many of which present FFO when reporting results.

We adjust FFO to present FFO, as Adjusted as an alternative measure of our operating performance, which, when applicable, excludes the impact of acquisition costs, straight-line rent, above-/below-market leases, non-cash interest expense and non-cash compensation. By excluding income and expense items such as straight-line rent, above-/below-market leases, non-cash interest expense and non-cash compensation from FFO, as Adjusted, we believe we provide useful information as these items have no cash impact.  In addition, by excluding acquisition related costs we believe FFO, as Adjusted provides useful information that is comparable across periods and more accurately reflects the operating performance of our properties.  

28

 


FFO and FFO, as Adjusted are presented as supplemental financial measures and do not fully represent our operating performance. Other REITs may use different methodologies for calculating FFO and FFO, as Adjusted or use other definitions of FFO and FFO, as Adjusted and, accordingly, our presentation of these measures may not be comparable to other REITs. Neither FFO nor FFO, as Adjusted is intended to be a measure of cash flow or liquidity. Please refer to our financial statements, prepared in accordance with GAAP, for purposes of evaluating our financial condition, results of operations and cash flows.

The following table sets forth a reconciliation of our net income to FFO and FFO, as Adjusted for the three and nine months ended September 30, 2017 and 2016 (dollars in thousands):

 

 

 

For the three months ended September 30,

 

 

For the nine months ended September 30,

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

Net income

 

$

926

 

 

$

1,128

 

 

$

3,289

 

 

$

3,274

 

Depreciation and amortization

 

 

14,141

 

 

 

12,237

 

 

 

40,663

 

 

 

34,174

 

Funds From Operations

 

 

15,067

 

 

 

13,365

 

 

 

43,952

 

 

 

37,448

 

Adjustments to FFO:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Acquisition costs

 

 

206

 

 

 

660

 

 

 

1,194

 

 

 

1,339

 

Straight-line rent

 

 

(883

)

 

 

(50

)

 

 

(1,376

)

 

 

(17

)

Above-/below-market leases

 

 

(2,065

)

 

 

(1,816

)

 

 

(6,283

)

 

 

(5,225

)

Non-cash interest expense

 

 

310

 

 

 

196

 

 

 

784

 

 

 

585

 

Non-cash compensation

 

 

748

 

 

 

742

 

 

 

2,215

 

 

 

2,164

 

Funds from Operations, as Adjusted

 

$

13,383

 

 

$

13,097

 

 

$

40,486

 

 

$

36,294

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

Market risk is the risk of loss from adverse changes in market prices and interest rates. Our future earnings, cash flows and fair values relevant to financial instruments are dependent upon prevailing market interest rates. Our primary market risk results from our indebtedness, which bears interest at both fixed and variable rates. We manage and may continue to manage our market risk on variable rate debt by entering into swap arrangements to, in effect, fix the rate on all or a portion of the debt for varying periods up to maturity. This in turn, reduces the risks of variability of cash flows created by variable rate debt and mitigates the risk of increases in interest rates. Our objective when undertaking such arrangements is to reduce our floating rate exposure and we do not intend to enter into hedging arrangements for speculative purposes.

As of September 30, 2017, $465.0 million, or 86.1% of our debt, excluding unamortized premiums and discounts, had fixed interest rates and $75.0 million, or 13.9% had variable interest rates. If market rates of interest on our variable rate debt fluctuate by 25 basis points, interest expense would increase or decrease, depending on rate movement, future earnings and cash flows, by $0.2 million annually.

 

 

Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We carried out an evaluation required by the Exchange Act, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rule 13a -15(e) and Rule 15d-15 of the Exchange Act, as of September 30, 2017. Based on this evaluation, our principal executive officer and principal financial officer concluded that, as of September 30, 2017, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the 1935 Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and to provide reasonable assurance that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosures.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the quarter ended September 30, 2017 that have materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

29

 


Part II

Item 1.

Legal Proceedings

We are not currently involved in any material litigation nor, to our knowledge, is any material litigation currently threatened against us.

Item 1A.

Risk Factors

There have been no material changes to the risk factors included in our Annual Report on Form 10-K for the year ended December 31, 2016.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3.

Defaults Upon Senior Securities

Not applicable

Item 4.

Mine Safety Disclosures

Not applicable

Item 5.

Other Information

None


30

 


Item 6.Exhibits

The following exhibits are included, or incorporated by reference, in this Quarterly Report on Form 10-Q:

 

Exhibit 

 

Exhibit Description 

 

 

 

    3.1

 

Amended and Restated Articles of Amendment and Restatement of Easterly Government Properties, Inc. (previously filed as Exhibit 3.1 to Amendment No. 2 to the Company’s Registration Statement on Form S-11 on January 30, 2015 and incorporated herein by reference)

 

 

 

    3.2

 

Amended and Restated Bylaws of Easterly Government Properties, Inc. (previously filed as Exhibit 3.2 to Amendment No. 2 to the Company’s Registration Statement on Form S-11 on January 30, 2015 and incorporated herein by reference)

 

 

 

    4.1

 

 

Specimen Certificate of Common Stock of Easterly Government Properties, Inc. (previously filed as Exhibit 4.1 to Amendment No. 2 to the Company’s Registration Statement on Form S-11 on January 30, 2015 and incorporated herein by reference)

 

 

 

  31.1*

 

Certification of Chief Executive Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended

 

 

 

  31.2*

 

Certification of Chief Financial Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended

 

 

 

  32.1**

 

Certification of Chief Executive Officer and Chief Financial Officer Required by Rule 13a-14(b) of the Securities Exchange Act of 1934, as amended

 

 

 

101*

 

The following materials from Easterly Government Properties, Inc.’s Quarterly Report on Form 10-Q for nine months ended September 30, 2017 formatted in XBRL (eXtensible Business Reporting Language): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Operations, (iii) the Consolidated Statements of Equity, (iv) the Consolidated Statements of Cash Flows and (v) the related notes to these consolidated financial statements

 

 

 

 

 

 

 

*

Filed herewith

**

Furnished herewith

 

 

 

31

 


SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

Easterly Government Properties, Inc.

 

 

 

 

 

Date: November 7, 2017

 

/s/ William C. Trimble, III 

 

 

William C. Trimble, III

 

 

Chief Executive Officer and President

(Principal Executive Officer)

 

 

 

Date: November 7, 2017

 

/s/ Meghan G. Baivier 

 

 

Meghan G. Baivier

 

 

Executive Vice President, Chief Financial Officer and Chief Operating Officer

(Principal Financial Officer)