-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, WwYIBrCpV9ewH0urWxm9P1irK7GRBT1OuaYKb7uB1uM9b0ZW54dQScPF6NhRdqzN nZVMPvPiLlZH+mqrZuEAkg== 0000726728-99-000028.txt : 19991115 0000726728-99-000028.hdr.sgml : 19991115 ACCESSION NUMBER: 0000726728-99-000028 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991112 FILER: COMPANY DATA: COMPANY CONFORMED NAME: REALTY INCOME CORP CENTRAL INDEX KEY: 0000726728 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798] IRS NUMBER: 330580106 STATE OF INCORPORATION: MD FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-13374 FILM NUMBER: 99748818 BUSINESS ADDRESS: STREET 1: 220 W CREST ST CITY: ESCONDIDO STATE: CA ZIP: 92025-1707 BUSINESS PHONE: 6197412111 MAIL ADDRESS: STREET 1: 220 WEST CREST ST CITY: ESCONDIDO STATE: CA ZIP: 92025-1707 10-Q 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-Q ========= [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 1999, or ====================== [ ] Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 COMMISSION FILE NUMBER 1-13318 ============================== REALTY INCOME CORPORATION ========================= (Exact name of registrant as specified in its charter) MARYLAND ======== (State or other jurisdiction of incorporation or organization) 33-0580106 ========== (I.R.S. Employer Identification No.) 220 WEST CREST STREET, ESCONDIDO, CALIFORNIA 92025 =================================================== (Address of principal executive offices) (760) 741-2111 ============== (Registrant's telephone number) 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 [X] NO [ ] There were 26,822,164 shares of common stock outstanding as of November 11, 1999. REALTY INCOME CORPORATION Form 10-Q September 30, 1999 Table of Contents ----------------- PART I. FINANCIAL INFORMATION Page ============================== ---- Item 1: Financial Statements Consolidated Balance Sheets........................ 3 Consolidated Statements of Income.................. 5 Consolidated Statements of Cash Flows.............. 6 Notes to Consolidated Financial Statements......... 8 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations...... 13 Item 3: Quantitative and Qualitative Disclosures About Market Risk........................................ 34 PART II. OTHER INFORMATION ========================== Item 6: Exhibits and Reports on Form 8-K................... 35 SIGNATURE................................................... 37 EXHIBIT INDEX............................................... 37
Page 2 PART I. FINANCIAL INFORMATION ============================== ITEM 1. FINANCIAL STATEMENTS REALTY INCOME CORPORATION AND SUBSIDIARIES Consolidated Balance Sheets =========================== As of September 30, 1999 and December 31, 1998 (dollars in thousands, except per share data) 1999 1998 (Unaudited) =========== ========= ASSETS Real estate, at cost: Land $ 345,663 $ 283,043 Buildings and improvements 694,872 606,792 --------- --------- 1,040,535 889,835 Less - accumulated depreciation and amortization (189,177) (171,555) --------- --------- Net real estate 851,358 718,280 Cash and cash equivalents 2,897 2,533 Accounts receivable 2,268 2,973 Goodwill, net 19,284 19,977 Other assets 14,535 15,471 --------- --------- Total assets $ 890,342 $ 759,234 ========= ========= Continued on next page Page 3 (continued) REALTY INCOME CORPORATION AND SUBSIDIARIES Consolidated Balance Sheets =========================== As of September 30, 1999 and December 31, 1998 (dollars in thousands, except per share data) 1999 1998 (Unaudited) =========== ========= LIABILITIES AND STOCKHOLDERS' EQUITY Distributions payable $ 4,761 $ 4,559 Accounts payable and accrued expenses 10,737 4,036 Other liabilities 3,467 5,630 Line of credit payable 102,500 84,800 Notes payable 230,000 210,000 --------- --------- Total liabilities 351,465 309,025 --------- --------- Stockholders' equity Preferred stock, par value $1.00 per share, 20,000,000 shares authorized, 4,140,000 shares issued and outstanding 4,140 -- Common stock, par value $1.00 per share, 100,000,000 shares authorized, 26,822,131 and 26,817,103 shares issued and outstanding in 1999 and 1998, respectively 26,822 26,817 Paid in capital in excess of par value 705,327 609,669 Distributions in excess of net income (197,412) (186,277) --------- --------- Total stockholders' equity 538,877 450,209 --------- --------- Total liabilities and stockholders' equity $ 890,342 $ 759,234 ========= =========
The accompanying notes to consolidated financial statements are an integral part of these statements. Page 4 REALTY INCOME CORPORATION AND SUBSIDIARIES Consolidated Statements Of Income ================================= For the three and nine months ended September 30, 1999 and 1998 (dollars in thousands, except per share amounts) (Unaudited) Three Three Nine Nine Months Months Months Months Ended Ended Ended Ended 9/30/99 9/30/98 9/30/99 9/30/98 ======== ======== ======== ======== REVENUE Rental $ 26,870 $ 21,814 $ 75,682 $ 61,325 Interest and other 30 155 106 233 -------- -------- -------- -------- 26,900 21,969 75,788 61,558 -------- -------- -------- -------- EXPENSES Depreciation and amortization 6,660 5,630 18,987 16,083 Interest 6,100 3,682 18,025 9,037 General and administrative 1,754 1,667 5,155 4,843 Property 478 497 1,356 1,396 -------- -------- -------- -------- 14,992 11,476 43,523 31,359 -------- -------- -------- -------- Income from operations 11,908 10,493 32,265 30,199 Gain on sales of properties 1,236 -- 1,236 526 -------- -------- -------- -------- Net income 13,144 10,493 33,501 30,725 Preferred stock dividends (2,163) -- (2,792) -- -------- -------- -------- -------- Net income available to common stockholders $ 10,981 $ 10,493 $ 30,709 $ 30,725 ======== ======== ======== ======== Basic and diluted net income per common share $ 0.41 $ 0.39 $ 1.14 $ 1.16 ======== ======== ======== ========
The accompanying notes to consolidated financial statements are an integral part of these statements. Page 5 REALTY INCOME CORPORATION AND SUBSIDIARIES Consolidated Statements Of Cash Flows ===================================== For the nine months ended September 30, 1999 and 1998 (dollars in thousands) (Unaudited) 1999 1998 ========= ========= CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 33,501 $ 30,725 Adjustments to net income: Depreciation and amortization 18,987 16,083 Gain on sales of properties (1,236) (526) Change in assets and liabilities: Accounts receivable and other assets 2,120 1,935 Accounts payable, accrued expenses and other liabilities 2,501 2,427 --------- --------- Net cash provided by operating activities 55,873 50,644 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES Proceeds from sales of properties 7,910 2,770 Acquisition of and additions to properties (154,150) (136,784) Payment of other liabilities (1,713) -- --------- --------- Net cash used in investing activities (147,953) (134,014) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES Borrowings from line of credit 184,500 145,100 Payments under line of credit (166,800) (50,700) Distributions to common stockholders (41,642) (38,826) Distributions to preferred stockholders (2,792) -- Proceeds from notes issued, net of costs of $501 19,499 -- Proceeds from stock offerings, net of offering costs of $3,821 and $109 in 1999 and 1998, respectively 99,679 28,392 Proceeds from other stock issuances -- 69 --------- --------- Net cash provided by financing activities 92,444 84,035 --------- --------- Continued on next page Page 6 (continued) REALTY INCOME CORPORATION AND SUBSIDIARIES Consolidated Statements Of Cash Flows ===================================== For the nine months ended September 30, 1999 and 1998 (dollars in thousands) (Unaudited) 1999 1998 ========= ========= Net increase in cash and cash equivalents 364 665 Cash and cash equivalents, beginning of period 2,533 2,123 --------- --------- Cash and cash equivalents, end of period $ 2,897 $ 2,788 ========= =========
For supplemental disclosures, see note 8. The accompanying notes to consolidated financial statements are an integral part of these statements. Page 7 REALTY INCOME CORPORATION AND SUBSIDIARIES Notes To Consolidated Financial Statements ========================================== September 30, 1999 (Unaudited) 1. Management Statement The consolidated financial statements of Realty Income Corporation ("Realty Income", the "Company", "we" or "our") were prepared from our books and records without audit and include all adjustments (consisting of only normal recurring accruals) necessary to present a fair statement of results for the interim periods presented. Readers of this quarterly report should refer to our audited financial statements for the year ended December 31, 1998, which are included in our 1998 Annual Report on Form 10-K, as certain disclosures which would substantially duplicate those contained in such audited financial statements have been omitted from this report. 2. Property Acquisitions During the first nine months of 1999, we invested $157.5 million in 104 new retail properties and properties under development with an initial aggregate contractual lease rate of 10.5%. These 104 properties are located in 24 states and will contain approximately 866,600 leasable square feet and are 100% leased, with an average initial lease term of 17.6 years. During the first nine months of 1998, we invested $140.2 million in 99 new retail properties and properties under development with an initial aggregate contractual lease rate of 10.4%. These 99 properties are located in 34 states and contain approximately 1.0 million leasable square feet and are 100% leased, with an average initial lease term of 14.6 years. 3. Distributions Paid and Payable Realty Income pays distributions monthly to our common shareholders. The following is a summary of the monthly cash distributions per common share for the nine months ended September 30, 1999 and 1998. As of September 30, 1999, a distribution of $0.1775 per common share was declared (and was paid on October 15, 1999). Page 8 3. Distributions Paid and Payable (continued) Month 1999 1998 -------- -------- -------- January $ 0.1700 $ 0.1600 February 0.1700 0.1600 March 0.1700 0.1600 April 0.1725 0.1625 May 0.1725 0.1625 June 0.1725 0.1625 July 0.1750 0.1650 August 0.1750 0.1650 September 0.1750 0.1650 -------- -------- -------- Total $ 1.5525 $ 1.4625 ======== ======== ========
In May 1999, we issued 2,760,000 shares of 9 3/8% Class B cumulative redeemable preferred stock (the "Class B Preferred"). Dividends on the Class B Preferred are paid quarterly in arrears. For the three and nine months ended September 30, 1999, dividends of $1,617,000 and $2,246,000, respectively, were paid on the Class B Preferred. In July 1999, we issued 1,380,000 shares of 9 1/2% Class C cumulative redeemable preferred stock (the "Class C Preferred"). Dividends on the Class C Preferred are paid monthly in arrears. For the three and nine months ended September 30, 1999, dividends of $546,000 were paid on the Class C Preferred. 4. Gain on Sales of Properties For the three and nine months ended September 30, 1999, we sold one home furnishings location for $7.9 million and recognized a gain of $1.2 million. For the three months ended September 30, 1998, no properties were sold. For the nine months ended September 30, 1998, we sold five properties (two childcare centers, one multi-tenant location and two restaurants) for $2.8 million and recognized a gain of $526,000. Page 9 5. Net Income per Common Share Basic net income per common share is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during each period. Diluted net income per common share is computed by dividing the amount of net income available to common stockholders for the period by each share that would have been outstanding assuming the issuance of common shares for all potentially dilutive common shares outstanding during the reporting period. The following is a reconciliation of the denominator of the basic net income per common share computation to the denominator of the diluted net income per common share computation, for the three and nine months ended September 30, 1999 and 1998: Three Three Months Months Ended Ended 9/30/99 9/30/98 ---------- ---------- Weighted average shares used for the basic net income per share computation 26,822,244 26,826,584 Incremental shares from the assumed exercise of stock options 5,047 8,034 ---------- ---------- Adjusted weighted average shares used for diluted net income per share computation 26,827,291 26,834,618 =========== ========== Nine Nine Months Months Ended Ended 9/30/99 9/30/98 ---------- ---------- Weighted average shares used for the basic net income per share computation 26,822,323 26,566,891 Incremental shares from the assumed exercise of stock options 4,082 9,035 ---------- ---------- Adjusted weighted average shares used for diluted net income per share computation 26,826,405 26,575,926 ========== ==========
Page 10 5. Net Income per Common Share (continued) For the three and nine months ended September 30, 1999, stock options of 168,047 were anti-dilutive and have been excluded from the incremental shares from the assumed conversion of stock options. For the three and nine months ended September 30, 1998, stock options of 25,000 were anti-dilutive and have been excluded from the incremental shares from the assumed conversion of stock options. 6. Notes Payable In January 1999, we issued $20 million of 8.00% senior notes due 2009 (the "1999 Notes"). The 1999 Notes are unsecured and were sold at 98.757% of par to yield 8.10%. The proceeds from the offering were used to pay down credit facility borrowings and for other corporate purposes. Currently, there is no formal trading market for the 1999 Notes and we have not listed and do not intend to list the 1999 Notes on any securities exchange. 7. Preferred Stock Offerings A. In May 1999, we issued 2,760,000 shares of Class B Preferred at a price of $25.00 per share. The net proceeds of $66.5 million were used to repay borrowings under the credit facility. B. In July 1999, we issued 1,380,000 shares of Class C Preferred stock at a price of $25.00 per share. The net proceeds of $33.2 million were used to repay borrowings under the credit facility. 8. Supplemental Disclosure of Cash Flow Information Interest paid during the first nine months of 1999 and 1998 was $14.6 million and $6.2 million, respectively. In the first nine months of 1999 and 1998, interest of $1.2 million and $420,000, respectively, was capitalized to properties under development. For the three months ended September 30, 1999 and 1998, interest of $544,000 and $186,000, respectively, was so capitalized. The following non-cash investing and financing activities are included in the accompanying consolidated financial statements: In 1999, the investment in properties resulted in an increase in buildings and other liabilities of $3.7 million. Page 11 9. Segment Information We evaluate performance and make resource allocation decisions on a property by property basis. For financial reporting purposes, we have grouped our operating segments into eight reportable segments. Our segments combine properties into groups based upon the business of the tenants. All of the properties have been acquired separately and are incorporated into one of the applicable segments. Revenue is the only components of segment profit and loss we measure. Since our revenue is primarily from net leases, expenditures for additions to long-lived assets were to acquire additional properties. The following tables set forth certain information as of September 30, 1999 (for the dates or periods presented below) regarding the properties owned by us classified according to the business of the respective tenants (dollars in thousands): Three Three Nine Nine Months Months Months Months Ended Ended Ended Ended Revenue for the: 9/30/99 9/30/98 9/30/99 9/30/98 ------- ------- ------- ------- Segment rental revenue: Automotive parts $ 2,238 $ 1,524 $ 6,420 $ 4,391 Automotive service 1,794 1,726 5,208 4,680 Child care 6,514 6,103 18,916 18,023 Consumer electronics 1,147 1,148 3,444 3,468 Convenience stores 2,232 1,330 5,118 3,731 Home furnishings 1,725 1,312 5,161 4,240 Restaurants 3,411 3,480 10,249 10,283 Video rental 1,128 855 3,315 2,222 Other non-reportable segments 6,681 4,336 17,851 10,287 Reconciling items - Interest and other revenue 30 155 106 233 ------- ------- ------- ------- Total revenue $26,900 $21,969 $75,788 $61,558 ======= ======= ======= ======= Page 12 9. Segment Information (continued) September 30, December 31, Assets as of: 1999 1998 ------------- ------------ Segment net real estate: Automotive parts $ 74,740 $ 65,847 Automotive service 51,578 46,731 Child care 156,434 138,875 Consumer electronics 39,544 40,447 Convenience stores 82,365 43,986 Home furnishings 64,850 71,366 Restaurants 87,731 87,682 Video Rental 41,094 39,650 Other non-reportable segments 253,022 183,696 ------- ------- Total segment net real estate 851,358 718,280 Reconciling items 38,984 40,954 -------- -------- Total assets $890,342 $759,234 ======== ========
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS - -------------------------- This quarterly report on Form 10-Q (the "Quarterly Report"), contains forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. When used in this Quarterly Report, the words estimated, anticipated and similar expressions are intended to identify forward-looking statements. Such forward-looking statements are subject to risks, uncertainties, and assumptions about Realty Income Corporation, including, among other things: - Our anticipated growth strategies; - Our intention to acquire additional properties; - Anticipated trends in our business, including trends in the market for long-term net leases of freestanding, single tenant retail properties; - Future expenditures for development projects; and - Availability of capital to finance our business. Future events and actual results, financial and otherwise, may differ materially from the results discussed in the forward-looking statements. In particular, among the factors that could cause actual results to differ materially are: Page 13 - The continued qualification as a real estate investment trust; - General business and economic conditions; - Competition; - Interest rates; - Accessibility of debt and equity capital markets; and - Other risks inherent in the real estate business including tenant defaults, potential liability relating to environmental matters and illiquidity of real estate investments. Additional factors that may cause risks and uncertainties include those discussed in the sections entitled "Business" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this filing. The Company undertakes no obligation to publicly release the results of any revisions to these forward-looking statements which may be made to reflect events or circumstances after the date of this filing or to reflect the occurrence of unanticipated events. In light of these risks and uncertainties, the forward-looking events discussed in this Quarterly Report might not occur. GENERAL - ------- Realty Income Corporation, a Maryland corporation ("Realty Income", the "Company", "our" or "we") was organized to operate as an equity real estate investment trust ("REIT"). We are a fully integrated, self-administered real estate company with in-house acquisition, leasing, legal, retail and real estate research, portfolio management and capital markets expertise. As of September 30, 1999, we owned a diversified portfolio of 1,072 retail properties located in 45 states with approximately 8.6 million square feet of leasable space. Of the 1,072 properties in the portfolio, 1,065 are single-tenant retail properties with the remainder being multi-tenant properties. As of September 30, 1999, 1,057, or 99.2%, of the 1,065 single-tenant properties were leased with an average remaining lease term (excluding extension options) of approximately 8.9 years. Our primary business objective is to generate dependable monthly distributions from a consistent and predictable level of funds from operations ("FFO") per share. Additionally, we generally will seek to increase distributions to stockholders and FFO per share through both active portfolio management and the acquisition of additional properties. Page 14 Our portfolio management focus includes: - Contractual rent increases on existing leases; - Rental increases at the termination of existing leases when market conditions permit; and - The active management of the Company's property portfolio, including selective sales of properties. Our acquisition of additional properties adheres to a focused strategy of acquiring primarily: - Freestanding, single-tenant, retail properties; - Properties leased to regional and national retail chains; and - Properties under long-term, net lease agreements. We typically acquire, then lease back, retail store locations from chain store operators, providing capital to the operators for continued expansion and other corporate purposes. Our acquisitions and investment activities are concentrated in well-defined target markets and focus generally on middle-market retailers providing goods and services that satisfy basic consumer needs. Our net lease agreements generally: - Are for initial terms of 10 to 20 years; - Require the tenant to pay a minimum monthly rent and property operating expenses (taxes, insurance and maintenance); and - Provide for future rent increases (typically subject to ceilings) based on increases in the consumer price index, fixed increases or additional rent calculated as a percentage of the tenant's gross sales above a specified level. We believe that the long-term ownership of an actively managed, diversified portfolio of retail properties under long-term, net lease agreements produces consistent, predictable income. We also believe that long-term leases, coupled with the tenant's responsibility for property expenses, generally produce a more predictable income stream than many other types of real estate portfolios, while continuing to offer the potential for growth in rental income. Since 1970 and through December 31, 1998, Realty Income has acquired and leased back to regional and national retail chains 944 properties (including 34 properties that have been sold) and has collected in excess of 98% of the original contractual rent obligations on those properties. We believe that within this market we can achieve an attractive risk-adjusted return on the financing that we provide to retailers. Page 15 RECENT DEVELOPMENTS - ------------------- ACQUISITION OF 104 PROPERTIES DURING THE FIRST NINE MONTHS OF 1999. During the first nine months of 1999, we continued implementing our growth plan, which is intended to increase our funds from operations per share. As part of our plan, we acquired 104 additional properties (the "1999 Properties") increasing the number of properties in the portfolio by 10.5% to 1,072 properties at September 30, 1999 from 970 properties at December 31, 1998. During the first nine months of 1999, we continued to diversify our portfolio with the addition of two new industry segments, Entertainment and Theaters, and eight new retail chains. As of September 30, 1999, our portfolio of 1,072 properties consists of 73 separate retail chains doing business in 23 separate retail segments. During the first nine months of 1999, we invested $157.5 million in the 1999 Properties and properties under development (including accrued development costs of $5.1 million at September 30, 1999 and excluding estimated unfunded development costs on properties under construction at September 30, 1999 of $25.0 million). We also paid $222,000 for lease commissions and $130,000 for building improvements on existing properties in our portfolio. The weighted average annual unleveraged return on the $157.5 million invested in the first nine months of 1999 is estimated to be 10.5%, computed as estimated contractual net operating income (which in the case of a net leased property is equal to the base rent or, in the case of properties under construction, the estimated base rent under the lease) for the first year of each lease, divided by the estimated total costs of each property. Since it is possible that a tenant could default on the payment of contractual rent, no assurance can be given that the actual return on the funds invested will not differ from the foregoing percentage. The 1999 Properties are leased to 19 separate tenants operating in 15 different retail industries. The 1999 Properties are located in 24 states, will contain approximately 866,600 leasable square feet and are 100% leased under net leases, with an average initial lease term of 17.6 years. Of the 1999 Properties, 96 were occupied as of November 10, 1999 and the remaining properties were pre-leased and under construction, pursuant to contracts under which the tenants have agreed to develop the properties (with development costs funded by Realty Income) and to begin paying rent when the premises open for business. INCREASE IN MONTHLY DISTRIBUTION TO COMMON SHAREHOLDERS. In January, April, July and October 1999, monthly distributions were increased $0.0025 to $0.17, $0.1725, $0.175 and $0.1775 per share, respectively. Realty Income continues its policy of paying distributions monthly to our common shareholders. During the first nine months of 1999, we paid three distributions of $0.17 per share, three distributions of $0.1725 per share and three distributions of $0.1750, totaling $1.5525 Page 16 per common share. During the first nine months of 1998, the Company paid three distributions of $0.16 per share, three distributions of $0.1625 per share, and three distributions of $0.1650 per share totaling $1.4625 per common share. In September and October 1999, we declared distributions of $0.1775 per share, which were paid on October 15, 1999 and payable on November 15, 1999, respectively. The monthly distribution of $0.1775 per share represents a current annualized distribution of $2.13 per share, and an annualized distribution yield of approximately 9.5% based on the last reported sale price of the Company's common stock on the NYSE of $22.4375 on November 10, 1999. Although we expect to continue our policy of paying monthly distributions, there can be no assurance that the current level of distributions will be maintained by the Company or as to the actual distribution yield for any future period. NOTES OFFERING. In January 1999, we issued $20 million of 8.00% unsecured senior notes due 2009 (the "1999 Notes"). The 1999 Notes were sold at 98.757% of par to yield 8.10%. The proceeds from the offering were used to pay down bank borrowings and for other corporate purposes. Currently, there is no formal trading market for the 1999 Notes and we have not listed and do not intend to list the 1999 Notes on any securities exchange. PREFERRED STOCK OFFERINGS. In May 1999, we issued 2,760,000 shares of 9 3/8% Class B cumulative redeemable preferred stock ("Class B Preferred") at a price of $25.00 per share. The Class B Preferred trades on the New York Stock Exchange ("NYSE") under the symbol "OprB". The cusip number of the Class B Preferred is 756109-302. Dividends on the Class B Preferred are payable quarterly in arrears. The net proceeds of $66.5 million were used to repay borrowings under the credit facility. In July 1999, we issued 1,380,000 shares of 9 1/2% Class C cumulative redeemable preferred stock ("Class C Preferred") at a price of $25.00 per share. The Class C Preferred trades on the NYSE under the symbol "OprC". The cusip number of the Class C Preferred is 756109-500. Dividends on the Class C Preferred are payable monthly in arrears. The net proceeds of $33.2 million were used to repay borrowings under the credit facility. OTHER INFORMATION - ----------------- Realty Income's common stock is listed on the New York Stock Exchange ("NYSE") under the symbol "O", our central index key ("CIK") number is 726728 and cusip number is 756109-104. In October 1998, we issued 8.25% Monthly Income Senior Notes due 2008, which are traded on the NYSE under the symbol "OUI". The cusip number of these Monthly Income Senior Notes is 756109-AA2. Realty Income had 46 employees as of November 11, 1999. Page 17 LIQUIDITY AND CAPITAL RESOURCES - ------------------------------- Cash and Cash Equivalents Realty Income is organized for the purpose of operating as an equity REIT which acquires and leases properties and distributes to stockholders, in the form of monthly cash distributions, a substantial portion of its net cash flow generated from leases on its retail properties. We intend to retain an appropriate amount of cash as working capital. At September 30, 1999, Realty Income had cash and cash equivalents totaling $2.9 million. We believe that our cash and cash equivalents on hand, cash provided by operating activities and borrowing capacity are sufficient to meet our liquidity needs for the foreseeable future. However, we intend to utilize additional sources of capital to fund property acquisitions and to repay our acquisition credit facility. Capital Funding Realty Income has a $170 million, three-year revolving, unsecured acquisition credit facility of which $52 million expires in December 2000 and $118 million expires in December 2001. The credit facility currently bears interest at 0.85% over the London Interbank Offered Rate ("LIBOR") and offers us other interest rate options. As of November 11, 1999, $63.0 million of borrowing capacity was available to us under the acquisition credit facility. At that time, the outstanding balance was $107.0 million with an effective interest rate of 6.29%. This credit facility has been and is expected to be used to acquire additional retail properties leased to regional and national retail chains under long-term lease agreements. Any additional borrowings will increase our exposure to interest rate risk. We expect to meet our long-term capital needs for the acquisition of properties through the issuance of public or private debt or equity. In June 1999, we filed a universal shelf registration statement with the Securities and Exchange Commission covering up to $409.2 million in value of common stock, preferred stock and/or debt securities. Through November 11, 1999, $34.5 million in value of preferred stock has been issued under the universal shelf registration statement. Historically the Company has met its long-term capital needs through the issuance of common stock, preferred stock and investment grade long-term unsecured debt. It is the Company's belief that it is best served by having the majority of its future issuances of securities be in the form of common stock. The Company will issue common stock when it believes that the share price of its common stock is at a level that allows for the investment of the proceeds of any offering to be invested on an accretive basis into additional properties or to pay down any short term borrowings on the Company's credit facility. The Company does not presently view its share price as attractive for Page 18 additional issuance of common stock. We do not anticipate issuing additional shares of common stock until such time as management determines the common stock price has risen to acceptable levels. In addition, we seek to maintain a conservative debt level on our balance sheet, which will result in solid interest and fixed charge coverage ratios. It is anticipated that the Company will not issue significant amounts of additional debt until such time as additional equity can be issued to offset the increase in debt. If the share price levels do not increase and the Company does not issue additional equity or debt, the Company will most likely seek a reduced level of property acquisitions. We intend to achieve our growth objectives by investing cash flow in excess of distributions and by strategically selling properties that have appreciated in value and investing the proceeds in new properties that will generate rental revenue in excess of those generated by the properties that were sold. We received investment grade corporate credit ratings on our senior unsecured debt from Duff & Phelps Rating Company, Moody's Investor Service, Inc., and Standard & Poor's Rating Group in December 1996. Currently, Duff & Phelps has assigned a rating of BBB, Moody's has assigned a rating of Baa3, and Standard & Poor's has assigned a rating of BBB- to our senior debt. These ratings could change based upon, among other things, our results of operations and financial condition. We have also received credit ratings from the same rating agencies on our preferred stock. Duff & Phelps Rating Company has assigned a rating of BBB-, Moody's Investor Service, Inc. has assigned a rating of Ba1, and Standard & Poor's Rating Group has assigned a rating of BB+. These ratings could change based upon, among other things, our results of operations and financial condition. Distributions Realty Income pays distributions monthly to its common stockholders. Cash distributions paid to common shareholders during the first nine months of 1999 and 1998 were $41.6 million and $38.8 million, respectively. During the first nine months of 1999, cash distributions paid to the Class B Preferred and Class C Preferred stockholders were $2.3 million and $546,000, respectively. We pay distributions quarterly on our Class B Preferred shareholders and monthly to our Class C Preferred shareholders. FUNDS FROM OPERATIONS ("FFO") - ----------------------------- For the third quarter of 1999, FFO increased by $297,000 or 1.9% to $16.4 million versus $16.1 million during the third quarter of 1998. The following is a reconciliation of net income to FFO, and information regarding distributions paid and diluted weighted average number of common shares outstanding for the third quarter of 1999 and 1998 (dollars in thousands): Page 19 1999 1998 -------- -------- Net income $ 13,144 $ 10,493 Plus depreciation and amortization 6,660 5,630 Less: Preferred stock dividends (2,163) -- Depreciation of furniture, fixtures and equipment and amortization of organization costs (25) (40) Gain on sales of properties (1,236) -- -------- -------- Total funds from operations available to common stockholders $ 16,380 $ 16,083 ======== ======== Distributions paid to common stockholders $ 14,082 $ 13,281 FFO in excess of distributions $ 2,298 $ 2,802 Diluted weighted average number of common shares outstanding 26,827,291 26,834,618
For the first nine months of 1999, FFO increased by $2.2 million or 4.8% to $48.4 million versus $46.2 million during the same period of 1998. The following is a reconciliation of net income to FFO, and information regarding distributions paid and diluted weighted average number of common shares outstanding for the first nine months of 1999 and 1998 (dollars in thousands): 1999 1998 -------- -------- Net income $ 33,501 $ 30,725 Plus depreciation and amortization 18,987 16,083 Less: Preferred stock dividends (2,792) -- Depreciation of furniture, fixtures and equipment and amortization of organization costs (69) (119) Gain on sales of properties (1,236) (526) -------- -------- Total funds from operations available to common stockholders $ 48,391 $ 46,163 ======== ======== Distributions paid to common stockholders $ 41,642 $ 38,826 FFO in excess of distributions $ 6,749 $ 7,337 Diluted weighted average number of common shares outstanding 26,826,405 26,575,926
Page 20 We consider FFO to be an appropriate measure of the performance of equity REITs. FFO is used by financial analysts in evaluating REITs and can be one measure of a REIT's ability to make cash distribution payments. Presentation of this information provides the reader with an additional measure to compare the performance of different REITs, although it should be noted that not all REITs calculate FFO the same way so comparisons with such REITs may not be meaningful. We define FFO as net income before gain on sales of properties, plus depreciation and amortization. In accordance with the recommendations of the National Association of Real Estate Investment Trusts ("NAREIT"), amortization of deferred financing costs is not added back to net income to calculate FFO. Amortization of financing costs is included in interest expense in the consolidated statements of income. FFO is not necessarily indicative of cash flow available to fund cash needs and should not be considered as an alternative to net income as an indication of Realty Income's performance or to cash flows from operating, investing, and financing activities as a measure of liquidity or ability to make cash distributions or to pay debt service. RESULTS OF OPERATIONS - --------------------- The following is a comparison of our results of operations for the three and nine months ended September 30, 1999 to the three and nine months ended September 30, 1998. Rental revenue was $26.9 million for the third quarter of 1999 versus $21.8 million for the comparable quarter of 1998, an increase of $5.1 million or 23.4%. The increase in rental revenue was primarily due to the acquisition of 104 properties during the first nine months of 1999 and 149 properties during 1998 (the "New Properties"). Of the $5.1 million increase in rental revenue, $5.0 million was attributable to revenue from the New Properties. The New Properties generated revenue of $7.6 million in the third quarter of 1999 compared to $2.6 million in the third quarter of 1998. Rental revenue was $75.7 million for the first nine months of 1999 versus $61.3 million for the comparable period of 1998, an increase of $14.4 million or 23.5%. The increase in rental revenue was primarily due to the acquisition of the New Properties. Of the $14.4 million increase in rental revenue, $14.0 million was attributable to revenue from New Properties. The New Properties generated revenue of $18.2 million in the first nine months of 1999 compared to $4.2 million in the comparable period of 1998. Page 21 Of the 1,072 properties in the portfolio as of September 30, 1999, 1,065 are single-tenant properties with the remaining properties being multi-tenant properties. Of the 1,065 single-tenant properties, 1,057, or 99.2%, were net leased with an average remaining lease term (excluding extension options) of approximately 8.9 years. Of our 1,057 leased single-tenant properties, 1,049 or 99.2% were under leases that provide for increases in rents through: - Base rent increases tied to a consumer price index with adjustment ceilings; - Overage rent based on a percentage of the tenants' gross sales; or - Fixed increases. Some leases contain more than one of these clauses. Percentage rent, which is included in rental revenue, was $273,000 during the third quarter of 1999 and $228,000 in the comparable quarter of 1998. Same store rents generated on 798 leased properties owned during all of both the first nine months of 1999 and 1998 increased by $727,000 or 1.3%, to $55.450 million from $54.724 million. Same store rents generated on the same 798 leased properties owned during all of both the third quarter of 1999 and 1998 increased by $193,000 or 1.1%, to $18.540 million from $18.347 million. Approximately 56% of our annualized rental revenue is attributable to properties that were acquired over the last four and a half years. A majority of the leases on these acquisitions provide for rent increases after the fifth year of the lease. We anticipate rental increases on some of these acquisitions to start in the second half of the year 2000. At September 30, 1999, 1,064 or 99.3% of the 1,072 properties in the portfolio were under lease agreements with third party tenants. At September 30, 1999, we had eight properties that were not under lease, as compared to five at December 31, 1998 and three at September 30, 1998. Depreciation and amortization was $6.7 million in the third quarter of 1999 versus $5.6 million in the third quarter of 1998. Depreciation and amortization was $19.0 million in the first nine months of 1999 versus $16.1 million in the first nine months of 1998. The increase in 1999 was primarily due to depreciation of the New Properties. Interest expense in the third quarter of 1999 increased by $2.4 million to $6.1 million, as compared to $3.7 million in the third quarter of 1998. Interest expense was higher in the third quarter of 1999 than in the third quarter of 1998 due to an increase in the average balances outstanding and higher average interest rates. Page 22 The following is a summary of the five components of interest expense for the third quarter of 1999 and 1998 (dollars in thousands): 1999 1998 Net Change ------- ------- ---------- Interest on outstanding loans and notes $ 6,183 $ 3,742 $ 2,441 Amortization of settlements on treasury lock agreements 189 (29) 218 Credit facility commitment fees 64 58 6 Amortization of credit facility origination costs and deferred bond financing costs 208 97 111 Interest capitalized (544) (186) (358) -------- -------- -------- Interest expense $ 6,100 $ 3,682 $ 2,418 ======== ======== ======== Credit facility and notes outstanding (dollars in thousands) - ------------------------------------------------------------ Three months ended September 30, 1999 1998 Net Change ------- ------- ---------- Average outstanding balances $333,349 $208,066 $125,283 Average interest rates 7.36% 7.14%
Interest expense in the first nine months of 1999 increased by $9.0 million to $18.0 million, as compared to $9.0 million in the first nine months of 1998. Interest expense was higher in 1999 than in 1998 due to an increase in the average balances outstanding and higher average interest rates. The following is a summary of the five components of interest expense for the first nine months of 1999 and 1998 (dollars in thousands): 1999 1998 Net Change ------- ------- ---------- Interest on outstanding loans and notes $ 17,826 $ 9,085 $ 8,741 Amortization of settlements on treasury lock agreements 567 (86) 653 Credit facility commitment fees 194 171 23 Amortization of credit facility origination costs and deferred bond financing costs 620 287 333 Interest capitalized (1,182) (420) (762) -------- -------- -------- Interest expense $ 18,025 $ 9,037 $ 8,988 ======== ======== ======== (table continued on the next page) Page 23 (table continued) Credit facility and notes outstanding (dollars in thousands) - ------------------------------------------------------------ Nine months ended September 30, 1999 1998 Net Change ------- ------- ---------- Average outstanding balances $320,584 $165,142 $155,442 Average interest rates 7.43% 7.36%
General and administrative expenses increased by $87,000 to $1.8 million in the third quarter of 1999 versus $1.7 million in the third quarter of 1998. General and administrative expenses as a percentage of revenue decreased to 6.5% in the third quarter of 1999 as compared to 7.6% in 1998. The increase in general and administrative expenses was primarily due to an increase in state taxes and personnel costs. General and administrative expenses increased by $312,000 to $5.16 million in the first nine months of 1999 versus $4.84 million in the first nine months of 1998. General and administrative expenses as a percentage of revenue decreased to 6.8% in the first nine months of 1999 as compared to 7.9% in 1998. The increase in general and administrative expenses was primarily due to an increase in state taxes and personnel costs. In March 1998, the Emerging Issues Task Force reached a consensus on Issue No. 97-11, "Accounting for Internal Costs Relating to Real Estate Property Acquisitions" ("EITF 97-11"). EITF 97-11 provides that internal costs of activities incurred in connection with the acquisition of a property that will be classified as operating at the date of acquisition should be expensed as incurred. Prior to EITF 97- 11, these costs were capitalized. Of the increases in general and administrative expenses during the first nine months of 1999, approximately $81,000 is due to the change in accounting for internal acquisition costs. EITF 97-11 was effective at the end of the first quarter of 1998. Property expenses are broken down into costs associated with non-net leased multi-tenant properties, unleased single-tenant properties and general portfolio expenses. Expenses related to the multi-tenant and unleased single-tenant properties include, but are not limited to, property taxes, maintenance, insurance, utilities, property inspections, bad debt expense and legal fees. General portfolio costs include, but are not limited to, insurance, legal, property inspections and title search fees. At September 30, 1999, eight properties were available for lease as compared to five at December 31, 1998 and three at September 30, 1998. Property expenses were $478,000 in the third quarter of 1999 and $497,000 in 1998. The $19,000 decrease in property expenses is primarily attributable to lower insurance costs, which was partially offset by costs associated with vacant properties. We anticipate Page 24 property expenses to increase as we acquire additional properties. Property expenses were $1.36 million in the first nine months of 1999 and $1.40 million in the first nine months of 1998. The $40,000 decrease in property expenses is primarily attributable to lower insurance costs, which was partially offset by costs associated with vacant properties. During the three and nine months ended September 30, 1999, we sold one home furnishing location for $7.9 million and realized a gain of $1.2 million. We sold no properties during the third quarter of 1998. During the first nine months of 1998, we sold five properties (two child care centers, two restaurants and a multi-tenant location) for a total of $2.8 million and recognized a gain of $526,000. In the third quarter of 1999 and 1998, we had net income of $13.1 million and $10.5 million, respectively, an increase of $2.6 million. Rental revenue and gain on sale of properties increased by $5.1 million and $1.2 million, respectively. The increase in rental revenue was due to an increase in rental revenue from New Properties of $5.0 million. These increases were substantially offset by an increase of $3.4 million in the following expenses: - Depreciation and amortization of $1.0 million; and - Interest expense of $2.4 million. In the first nine months of 1999 and 1998, we had net income of $33.5 million and $30.7 million, respectively, an increase of $2.8 million. Rental revenue increased by $14.4 million due to an increase in rental revenue from New Properties of $14.0 million, which was substantially offset by an increase of $11.9 million in the following expenses: - Depreciation and amortization of $2.9 million; and - Interest expense of $9.0 million. For the three and nine months ended September 30, 1999, we paid preferred stock dividends of $2.2 million and $2.8 million, respectively. Page 25 PROPERTIES - ---------- As of September 30, 1999, we owned a diversified portfolio of 1,072 properties located in 45 states with approximately 8.6 million square feet of leasable space. Of the 1,072 properties in the portfolio, 1,065 are single-tenant properties with the remaining properties being multi-tenant properties. At September 30, 1999, 1,057 or 99.2% of the 1,065 properties were under net lease agreements. Net leases typically require the tenant to be responsible for minimum monthly rent and property operating expenses including property taxes, insurance and maintenance. Our net leased retail properties are primarily leased to regional and national retail chain store operators. The average leasable retail space of the 1,072 properties is approximately 8,000 square feet on approximately 55,500 square feet of land. Generally, buildings are single-story properties with adequate parking on site to accommodate peak retail traffic periods. The properties tend to be on major thoroughfares with relatively high traffic counts and adequate access, egress and proximity to a sufficient population base to constitute a suitable market or trade area for the retailer's business. The following table sets forth certain information regarding our properties classified according to the business of the respective tenants (dollars in thousands): Page 26 Annualized Percentage of Total Rent as of Rental Revenue for Number Sept. 30, 1999(1) the Years Ended of ------------------- ------------------- Prop- Rental Percentage Industry erties Revenue of Total 1998 1997 1996 - -------------------- ------ -------- ---------- ------ ------ ------ Apparel Stores 5 $ 3,927 3.3% 4.1% 0.7% --% Automotive Parts 138 9,467 8.1 7.8 9.1 10.5 Automotive Service 105 7,220 6.2 7.5 6.4 4.8 Book Stores 1 450 0.4 0.6 0.5 -- Business Services 1 124 0.1 * -- -- Child Care 336 28,264 24.1 29.2 35.9 42.0 Consumer Electronics 37 4,647 4.0 5.4 6.5 0.9 Convenience Stores 103 9,597 8.2 6.1 5.5 4.6 Craft and Novelty 2 425 0.4 * -- -- Drug Stores 1 235 0.2 0.1 -- -- Entertainment 6 2,115 1.8 -- -- -- General Merchandise 11 687 0.6 * -- -- Grocery Stores 2 694 0.6 * -- -- Health and Fitness 6 3,329 2.8 0.1 -- -- Home Furnishings 33 6,080 5.2 7.8 5.6 4.4 Home Improvement 35 5,698 4.8 * -- -- Office Supplies 8 2,476 2.1 3.0 1.7 -- Pet Supplies and Services 8 1,595 1.4 0.6 0.2 -- Private Education 5 1,507 1.3 0.9 -- -- Restaurants 178 14,367 12.3 16.2 19.8 24.4 Shoe Stores 4 1,234 1.0 0.8 0.2 -- Theaters 2 2,406 2.1 -- -- -- Video Rental 35 4,510 3.8 3.8 0.6 -- Other 10 6,145 5.2 6.0 7.3 8.4 - -------------------- ------ -------- ------ ------ ------ ------ Totals 1,072 $117,199 100.0% 100.0% 100.0% 100.0% ==================== ====== ======== ====== ====== ====== ======
* Less than 0.1% [FN] (1) Annualized rental revenue is calculated by multiplying the monthly contractual base rent as of September 30, 1999 for each of the properties by 12 and adding the previous 12 month's historic percentage rent, which totaled $1.8 million (i.e., additional rent calculated as a percentage of the tenant's gross sales above a specified level.) For properties under construction, an estimated contractual base rent is used based upon the estimated total costs of each property. Of the 1,072 properties in the portfolio at September 30, 1999, 1,065 were single-tenant properties with the remaining properties being Page 27 multi-tenant properties. As of September 30, 1999, 1,057 of the 1,065 single-tenant properties, or 99.2%, were net leased with an average remaining lease term (excluding extension options) of approximately 8.9 years. The following table sets forth certain information regarding the timing of the lease term expirations (excluding extension options) on our 1,057 net leased, single-tenant retail properties as of September 30, 1999. Number of Annualized Percent of Leases Rent (1) (2) Annualized Year Expiring (2) (in thousands) Rent - ------ ------------ -------------- ---------- 1999 15 $ 783 0.7% 2000 36 1,895 1.7 2001 47 3,926 3.5 2002 85 6,789 6.0 2003 68 5,669 5.1 2004 115 9,753 8.7 2005 81 6,011 5.4 2006 28 2,535 2.3 2007 94 6,552 5.8 2008 68 5,877 5.2 2009 24 2,862 2.6 2010 42 3,376 3.0 2011 38 5,507 4.9 2012 52 5,886 5.2 2013 103 16,473 14.7 2014 36 7,178 6.4 2015 29 3,164 2.8 2016 13 1,992 1.8 2017 11 4,130 3.7 2018 16 1,614 1.4 2019 50 8,135 7.3 2024 2 605 0.5 2033 2 940 0.8 2034 2 570 0.5 - ------ ------- ---------- ------- Totals 1,057 $112,222 100.0% ====== ======= ========== =======
[FN] (1) Annualized rent is calculated by multiplying the monthly contractual base rent as of September 30, 1999 for each of the properties by 12 and adding the previous 12 month's historic percentage rent, which totaled $1.8 million (i.e., additional rent calculated as a percentage of the tenant's gross sales above a specified level). For the properties under construction, an estimated contractual base rent is used based upon the estimated total costs of each property. Page 28 (2) This table does not include seven multi-tenant properties and eight vacant, unleased single-tenant properties owned by the Company. The lease expirations for properties under construction are based on the estimated date of completion of such properties. The following table sets forth certain state-by-state information regarding Realty Income's property portfolio as of September 30, 1999. Annualized Approximate Rent (1) Percent of Number of Percent Leasable (in thou- Annualized State Properties Leased Square Feet sands) Rent - ------------ ---------- ------- ----------- ---------- ---------- Alabama 9 100% 63,300 $ 636 0.5% Arizona 31 99 211,800 3,045 2.6 Arkansas 5 100 36,700 614 0.5 California 61 95 1,039,400 13,476 11.5 Colorado 43 100 275,700 3,859 3.3 Connecticut 10 100 223,800 2,979 2.5 Delaware 1 100 5,400 72 0.1 Florida 86 99 903,500 11,831 10.1 Georgia 59 98 336,000 5,523 4.7 Idaho 12 100 58,500 845 0.7 Illinois 35 100 258,300 3,589 3.1 Indiana 29 100 170,400 2,222 1.9 Iowa 10 100 67,900 683 0.6 Kansas 23 100 240,400 2,602 2.2 Kentucky 13 100 43,500 1,107 1.0 Louisiana 5 100 39,600 500 0.4 Maryland 8 100 48,300 723 0.6 Massachusetts 8 100 57,500 1,069 0.9 Michigan 11 100 73,500 1,012 0.9 Minnesota 25 100 261,500 2,834 2.4 Mississippi 15 100 148,500 1,183 1.0 Missouri 33 100 203,800 2,599 2.2 Montana 2 100 30,000 291 0.2 Nebraska 10 100 98,700 1,236 1.1 Nevada 7 100 86,400 1,319 1.1 New Hampshire 1 100 6,400 130 0.1 New Jersey 4 75 45,400 586 0.5 New Mexico 5 100 46,000 336 0.3 New York 20 95 253,300 4,722 4.0 North Carolina 32 100 171,400 4,291 3.7 North Dakota 1 100 22,000 65 0.1 Ohio 66 100 331,200 5,312 4.5 Oklahoma 17 100 102,200 1,305 1.1 Oregon 17 100 92,400 1,246 1.1 Pennsylvania 23 100 168,600 2,285 2.0 (continued on the next page) Page 29 (continued) Annualized Approximate Rent (1) Percent of Number of Percent Leasable (in thou- Annualized State Properties Leased Square Feet sands) Rent - ------------ ---------- ------- ----------- ---------- ---------- South Carolina 48 100 147,000 $ 4,007 3.4% South Dakota 1 100 6,100 82 0.1 Tennessee 25 96 221,300 2,648 2.3 Texas 155 100 1,288,900 13,964 11.9 Utah 9 100 58,200 808 0.7 Virginia 29 100 133,100 2,848 2.4 Washington 43 100 252,600 3,381 2.9 West Virginia 2 100 16,800 156 0.1 Wisconsin 19 100 231,900 2,909 2.5 Wyoming 4 100 20,100 269 0.2 - -------------- -------- ------- ----------- ---------- --------- Totals/Average 1,072 99% 8,597,300 $117,199 100.0% ============== ======== ======= =========== ========== =========
[FN] (1) Annualized rent is calculated by multiplying the monthly contractual base rent as of September 30, 1999 for each of the properties by 12 and adding the previous 12 month's historic percentage rent, which totaled $1.8 million (i.e., additional rent calculated as a percentage of the tenant's gross sales above a specified level). For the properties under construction, an estimated contractual base rent is used based upon the estimated total costs of each property. The table on the next page sets forth certain information regarding the properties owned by Realty Income as of September 30, 1999, classified according to the retail business types and the level of services they provide (dollars in thousands). Page 30 Percent of Number of Annualized Annualized Industry Properties Rent (1) Rent - -------- ---------- ---------- ---------- Tenants providing services - -------------------------- Automotive Service 105 $ 7,220 6.2% Child Care 336 28,264 24.1 Entertainment 6 2,115 1.8 Health and Fitness 6 3,329 2.8 Private Education 5 1,507 1.3 Theaters 2 2,406 2.1 Other 9 6,119 5.2 ---------- ---------- ---------- 469 50,960 43.5 ---------- ---------- ---------- Tenants selling goods and services - ---------------------------------- Automotive Parts 57 4,790 4.1 Business Services 1 124 0.1 Convenience Stores 103 9,597 8.2 Home Improvement 22 4,321 3.6 Pet Supplies and Services 6 1,128 1.0 Restaurants 178 14,367 12.3 Video Rental 35 4,510 3.8 ---------- ---------- ---------- 402 38,837 33.1 ---------- ---------- ---------- Tenants selling goods - --------------------- Apparel Stores 5 3,927 3.3 Automotive Parts 81 4,677 4.0 Book Stores 1 450 0.4 Consumer Electronics 37 4,647 4.0 Craft and Novelty 2 425 0.4 Drug Stores 1 235 0.2 General Merchandise 11 687 0.6 Grocery Stores 2 694 0.6 Home Furnishings 34 6,106 5.2 Home Improvement 13 1,377 1.2 Office Supplies 8 2,476 2.1 Pet Supplies 2 467 0.4 Shoe Stores 4 1,234 1.0 ---------- ---------- ---------- 201 27,402 23.4 ---------- ---------- ---------- TOTALS 1,072 $ 117,199 100.0% ========== ========== ==========
Page 31 [FN] (1) Annualized rent is calculated by multiplying the monthly contractual base rent as of September 30, 1999 for each of the properties by 12 and adding the previous 12 month's historic percentage rent, which totaled $1.8 million (i.e., additional rent calculated as a percentage of the tenant's gross sales above a specified level). For the properties under construction, an estimated contractual base rent is used based upon the estimated total costs of each property. THE YEAR 2000 ISSUE =================== Some computer programs identify a year by using only two digits instead of four. This method of identification could cause these programs to fail or create erroneous results in the year 2000. This situation has been referred to generally as the Year 2000 issue. The first essential component of our Year 2000 assessment program was to determine if our internal mission-critical computer systems were compliant. We have completed a review of our software and hardware and determined (through a combination of internal testing and vendor representations that their products have been tested and are compliant) that all internal mission-critical systems (those systems that are necessary to conduct our business activities) are Year 2000 compliant. We completed remediation of our internal computer systems in October 1999. In addition, we reviewed our non-mission critical software and hardware and have completed upgrades or replacement of third party products that were not Year 2000 compliant. The total cost of remediation associated with our corporate level computer systems was less than $30,000. The second essential component of our Year 2000 assessment program was to ensure that our tenants are assessed for Year 2000 compliance. We corresponded with each of our tenants that represent more than 0.5% of our revenue in order to assess their readiness for the Year 2000 issue. Of this group, tenants representing approximately 98% of our revenue from these tenants have confirmed that they are Year 2000 compliant or anticipate being compliant by the end of 1999. Due to the nature of the tenants' businesses, we do not believe the Year 2000 issue will materially impact the tenants' ability to pay rent. However, in the worst case scenario for us, the failure of one or more tenants as a result of the Year 2000 issue could have a material adverse effect on our results of operations or financial position, including our ability to pay distributions for one or more periods. The third component of our Year 2000 assessment program was to ensure that our mission-critical vendors are assessed for Year 2000 compliance. We corresponded with these significant vendors in order to assess their ability to successfully resolve the Year 2000 issue. Page 32 Of our mission-critical vendors, 100% have confirmed that they are Year 2000 compliant or anticipate being compliant by the end of 1999. Our transfer agent has advised us it is Year 2000 compliant. However, the cessation of the operations of our transfer agent could impact our ability to pay distributions. While we are continually reviewing the Year 2000 preparedness of our key tenants and vendors, we rely on their representations and can not be assured that all of their computer systems will be Year 2000 compliant. It is possible that relevant information has not been made available for our assessment, or that potential solutions will not be within our control. We have completed our assessment program and remediation program. Though we do not expect the Year 2000 issue to have a material adverse effect on our results of operations or financial position, there can be no assurances of that position. As part of our contingency planning, we have considered utilizing manual accounting and portfolio management processes as necessary. IMPACT OF INFLATION =================== Tenant leases generally provide for limited increases in rent as a result of increases in the tenant's sales volumes, increases in the consumer price index, and/or fixed increases. We expect that inflation will cause these lease provisions to result in increases in rent over time. However, during times when inflation is greater than increases in rent as provided for in the leases, rent increases may not keep up with the rate of inflation. Approximately 98.6% or 1,057 of the properties in the portfolio are leased to tenants under net leases in which the tenant is responsible for property costs and expenses. These features in the leases reduce our exposure to rising property expenses due to inflation. Inflation and increased costs may have an adverse impact on the tenants if increases in the tenant's operating expenses exceed increases in revenue. Page 33 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ==================================================================== We are exposed to interest rate changes primarily as a result of our credit facility and long-term debt used to maintain liquidity and expand our real estate investment portfolio and operations. Our interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower our overall borrowing costs. To achieve our objectives we borrow primarily at fixed rates and may selectively enter into derivative financial instruments such as interest rate lock agreements, interest rate swaps and caps in order to mitigate our interest rate risk on a related financial instrument. We do not enter into any transactions for speculative or trading purposes. Our interest rate risk is monitored using a variety of techniques. The table below presents the principal amounts, weighted average interest rates, fair values and other terms required by year of expected maturity to evaluate the expected cash flows and sensitivity to interest rate changes (dollars in table in millions). Expected Maturity Data ---------------------- There- Fair 2001 after Total Value (2) ---- ------ ------ --------- Fixed rate debt -- $230.0(1) $230.0 $207.3 Average interest rate 7.99% 7.99% Variable rate debt $102.5 -- $102.5 $102.5 Average interest rate 6.28% -- 6.28%
[FN] (1) $110 million matures in 2007, $100 million matures in 2008 and $20 million matures in 2009. (2) The fair value of the fixed rate debt at September 30, 1999 is based upon the closing market price or indicative price per each note. The fair value of the variable rate debt approximates its carrying value because its terms are similar to those available in the market place. As the table incorporates only those exposures that exist as of September 30, 1999, it does not consider those exposures or positions that could arise after that date. As a result, our ultimate realized gain or loss with respect to interest rate fluctuations will depend on the exposures that arise during the period, our hedging strategies at the time, and interest rates. Page 34 PART II. OTHER INFORMATION - --------------------------- ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A. Exhibits: Exhibit No. Description =========== =========== 3.1 Articles of Incorporation of the Company (filed as Appendix B to the Company's Proxy Statement dated March 28, 1997 ("1997 Proxy Statement") and incorporated herein by reference). 3.2 Articles Supplementary of the Class A Junior Participating Preferred Stock of Realty Income Corporation (filed as exhibit A of exhibit 1 to Realty Income's registration statement on Form 8-A, dated June 26, 1998, and incorporated herein by reference). 3.3 Bylaws of the Company (filed as Appendix C to the Company's 1997 Proxy Statement and incorporated herein by reference). 3.4 Articles Supplementary to the Articles of Incorporation of Realty Income Corporation classifying and designating the Class B Preferred Stock (filed as exhibit 4.1 to the Company's Form 8-K dated May 24, 1999 and incorporated herein by reference). 3.5 Articles Supplementary to the Articles of Incorporation of Realty Income Corporation classifying and designating the Class C Preferred Stock (filed as exhibit 4.1 to the Company's Form 8-K dated July 29, 1999 and incorporated herein by reference). 4.1 Pricing Committee Resolutions and Form of 7.75% Notes due 2007 (filed as Exhibit 4.2 to the Company's Form 8-K dated May 5, 1997 and incorporated herein by reference). 4.2 Indenture dated as of May 6, 1997 between the Company and The Bank of New York (filed as Exhibit 4.1 to the Company's Form 8-K dated May 5, 1997 and incorporated herein by reference). 4.3 First Supplemental Indenture dated as of May 28, 1997, between the Company and The Bank of New York (filed as Exhibit 4.3 to the Company's Form 8-B and incorporated herein by reference). Page 35 4.4 Rights Agreement, dated as of June 25, 1998, between Realty Income Corporation and The Bank of New York (filed as an exhibit 1 to the Company's registration statement on Form 8-A, dated June 26, 1998, and incorporated herein by reference). 4.5 Pricing Committee Resolutions (filed as an exhibit 4.2 to Realty Income's Form 8-K, dated October 27, 1998 and incorporated herein by reference). 4.6 Form of 8.25% Notes due 2008 (filed as an exhibit 4.3 to Realty Income's Form 8-K, dated October 27, 1998 and incorporated herein by reference). 4.7 Form of Indenture dated as of October 28, 1998 between Realty Income and The Bank of New York (filed as exhibit 4.1 to Realty Income's Form 8-K, dated October 27, 1998 and incorporated herein by reference). 4.8 Pricing Committee Resolutions and Form of 8% Notes due 2009 (filed as exhibit 4.2 to Realty Income's Form 8-K, dated January 21, 1999 and incorporated herein by reference). 27 Financial Data Schedule, filed herein B. One report on Form 8-K was filed by registrant during the quarter for which this report is filed. A report on Form 8-K was dated and filed on July 30, 1999 reporting the issuance of 1,380,000 shares of our 9 1/2% Class C Cumulative Redeemable Preferred Stock. Page 36 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. REALTY INCOME CORPORATION (Signature and Title) /s/ GARY M. MALINO Date: November 12, 1999 ------------------------------------- Gary M. Malino, Senior Vice President Chief Financial Officer (Principal Financial and Accounting Officer) EXHIBIT INDEX Exhibit No. Description =========== =========== 27 Financial Data Schedule Page 37 EX-27 2
5 This Schedule contains summary financial information extracted from the registrant's Balance Sheet as of September 30, 1999 and Income Statement for the nine months ended September 30, 1999 and is qualified in its entirety by reference to such financial statements. 1 9-MOS DEC-31-1999 SEP-30-1999 2,897,000 0 2,268,000 0 0 0 1,040,535,000 (189,177,000) 890,342,000 0 332,500,000 26,822,000 0 4,140,000 507,915,000 890,342,000 0 75,788,000 0 0 25,498,000 0 18,025,000 33,501,000 0 33,501,000 0 0 0 33,501,000 1.14 1.14 Current assets and current liabilities are not applicable to the Company under current industry standards.
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