# Empire State Realty OP, L.P.: Form 10-Q for the period ended Mar 31, 2017

- Company: [Empire State Realty OP, L.P.](/companies/esba.md) (CIK 1553079)
- Form: 10-Q
- Filed: 2017-05-03
- Accepted by EDGAR: May 3, 2017, 11:45 ET
- Period: 2017-03-31
- Accession: 0001628280-17-004760
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1553079/000162828017004760/esrop3-31x1710xq.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1553079/000162828017004760/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2017-03-31.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2017-01-01 to 2017-03-31 | $165.0m | us-gaap:Revenues |
| Selling, general and administrative | 3 months, 2017-01-01 to 2017-03-31 | $11.1m | us-gaap:SellingGeneralAndAdministrativeExpense |
| Operating income | 3 months, 2017-01-01 to 2017-03-31 | $36.7m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2017-01-01 to 2017-03-31 | $17.7m | us-gaap:InterestExpense |
| Income tax | 3 months, 2017-01-01 to 2017-03-31 | −$468.0k | us-gaap:IncomeTaxExpenseBenefit |
| Diluted EPS | 3 months, 2017-01-01 to 2017-03-31 | $0.06 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2017-01-01 to 2017-03-31 | $0.06 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2017-01-01 to 2017-03-31 | 297,962,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 3 months, 2017-01-01 to 2017-03-31 | $60.0m | us-gaap:NetCashProvidedByUsedInOperatingActivities |
| Capital expenditure | 3 months, 2017-01-01 to 2017-03-31 | $48.1m | us-gaap:PaymentsToAcquireProductiveAssets |
| Dividends paid | 3 months, 2017-01-01 to 2017-03-31 | $31.6m | us-gaap:PaymentsOfDividends |
| Cash and equivalents | at 2017-03-31 | $532.4m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Total assets | at 2017-03-31 | $3.87bn | us-gaap:Assets |
| Total liabilities | at 2017-03-31 | $1.89bn | us-gaap:Liabilities |
| Long-term debt | at 2017-03-31 | $754.5m | us-gaap:LongTermDebt |

## Management's discussion and analysis

As filed, 49,948 characters.

*Unless the context otherwise requires or indicates, references in this section to "we," "our" and "us" refer to our company and its consolidated subsidiaries.*

### FORWARD-LOOKING STATEMENTS

*This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of 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”). For these statements, we claim the protections of the safe harbor for forward-looking statements contained in such Section. You can identify forward-looking statements by the use of forward-looking terminology such as “believes,” “expects,” “may,” “will,” “should,” “seeks,” “approximately,” “intends,” “plans,” “estimates,” “contemplates,” “aims,” “continues,” “would” or “anticipates” or the negative of these words and phrases or similar words or phrases. In particular, statements pertaining to our capital resources, portfolio performance, dividend policy and results of operations contain forward-looking statements. Likewise, all of our statements regarding anticipated growth in our portfolio from operations, acquisitions and anticipated market conditions, demographics and results of operations are forward-looking statements.*

*Forward-looking statements are subject to substantial risks and uncertainties, many of which are difficult to predict and are generally beyond our control, and you should not rely on them as predictions of future events. Forward-looking statements depend on assumptions, data or methods which may be incorrect or imprecise, and we may not be able to realize them. We do not guarantee that the transactions and events described will happen as described (or that they will happen at all).*

*The following factors, among others, could cause actual results and future events to differ materially from those set forth or contemplated in the forward-looking statements:*

- *changes in our industry, the real estate markets, either nationally or in Manhattan or the greater New York metropolitan area;*
- *resolution of legal proceedings involving the company;*
- *reduced demand for office or retail space;*
- *new office or observatory development in our market;*
- *general volatility of the capital and credit markets and the market price of ESRT's Class A common stock and our publicly-traded operating partnership units;*
- *changes in our business strategy;*
- *changes in technology and market competition, which affect utilization of our broadcast or other facilities;*
- *changes in domestic or international tourism, including geopolitical events and currency exchange rates;*
- *defaults on, early terminations of, or non-renewal of leases by tenants;*
- *bankruptcy or insolvency of a major tenant or a significant number of smaller tenants;*
- *fluctuations in interest rates;*
- *increased operating costs;*
- *declining real estate valuations and impairment charges;*
- *termination or expiration of our ground leases;*
- *availability, terms and deployment of capital;*
- *our failure to obtain necessary outside financing, including our unsecured revolving credit facility;*
- *our leverage;*
- *decreased rental rates or increased vacancy rates;*
- *our failure to generate sufficient cash flows to service our outstanding indebtedness;*
- *our failure to redevelop and reposition properties successfully or on the anticipated timeline or at the anticipated costs;*
- *difficulties in identifying properties to acquire and completing acquisitions;*
- *risks of real estate development (including our Metro Tower development site), including the cost of construction delays and cost overruns;*
- *inability to manage our properties and our growth effectively;*
- *inability to make distributions to our securityholders in the future;*
- *impact of changes in governmental regulations, tax law and rates and similar matters;*
- *failure to continue to qualify as a real estate investment trust, or REIT;*
- *a future terrorist event in the U.S.;*
- *environmental uncertainties and risks related to adverse weather conditions and natural disasters;*
- *lack, or insufficient amounts, of insurance;*
- *misunderstanding of our competition;*
- *changes in real estate and zoning laws and increases in real property tax rates;*
- *inability to comply with the laws, rules and regulations applicable to similar companies;*
- *risks associated with security breaches through cyberattacks, cyber intrusions or otherwise, as well as other significant disruptions of our technology (IT) networks related systems, which support our operations and our buildings; and*
- *other factors discussed under “Item 1A, Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2016 and additional factors that may be contained in any filing we make with the SEC, including Part II, Item 1A of our Quarterly Reports on Form 10-Q.*

*While forward-looking statements reflect our good faith beliefs, they are not guarantees of future performance. We disclaim any obligation to publicly update or revise any forward-looking statement to reflect changes in underlying assumptions or factors, of new information, data or methods, future events or other changes after the date of this Quarterly Report on Form 10-Q, except as required by applicable law. For a further discussion of these and other factors that could impact our future results, performance or transactions, see the sections entitled “Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2016 which we filed with the SEC. You should not place undue reliance on any forward-looking statements, which are based only on information currently available to us.*

### Overview

Empire State Realty OP, L.P. is the entity through which Empire State Realty Trust, Inc. (“ESRT”), a self-administered and self-managed real estate investment trust ("REIT"), conducts all of its business and owns (either directly or through subsidiaries) substantially all of its assets. We own, manage, operate, acquire and reposition office and retail properties in Manhattan and the greater New York metropolitan area.

Highlights for the three months ended March 31, 2017 included:

- Achieved net income of $19.1 million and Core Funds From Operations of $61.3 million.
- Occupancy and leased percentages at March 31, 2017:
- Total portfolio was 88.8% occupied; including signed leases not commenced (“SLNC”), the total portfolio was 89.5% leased.
- Manhattan office portfolio (excluding the retail component of these properties) was 87.8% occupied; including SLNC, the Manhattan office portfolio was 88.6% leased.
- Retail portfolio was 94.4% occupied; including SLNC, the retail portfolio was 94.5% leased.
- Empire State Building was 91.5% occupied; including SLNC, was 91.7% leased.
- Signed 27 leases, representing 200,992 rentable square feet across the total portfolio, achieving a portfolio-wide 44.0% increase in mark-to-market rent over previous fully escalated rents on new, renewal, and expansion leases.
- Signed 15 new leases representing 68,163 rentable square feet for the Manhattan office portfolio (excluding the retail component of these properties), achieving an increase of 22.4% in mark-to-market rent over previous fully escalated rents.
- At 112 West 34th Street, signed a new retail lease totaling 43,019 rentable square feet with Target for a term of 20.8 years.
- The Empire State Building Observatory revenue for the first quarter 2017 was $20.9 million compared to $21.2 million in the first quarter 2016.
- Lease termination fee income, included in other revenues and fees, was $7.9 million.
- Declared a dividend in the amount of $0.105 per share.

As of March 31, 2017, our total portfolio contained 10.1 million rentable square feet of office and retail space. We owned 14 office properties (including three long-term ground leasehold interests) encompassing approximately 9.4 million rentable square feet of office space. Nine of these properties are located in the midtown Manhattan market and aggregate approximately 7.6 million rentable square feet of office space, including the Empire State Building. Our Manhattan office properties also contain an aggregate of 504,016 rentable square feet of premier retail space on their ground floor and/or contiguous levels. Our remaining five office properties are located in Fairfield County, Connecticut and Westchester County, New York, encompassing in the aggregate approximately 1.9 million rentable square feet. The majority of square footage for these five properties is located in densely populated metropolitan communities with immediate access to mass transportation. Additionally, we have entitled land at the Stamford Transportation Center in Stamford, Connecticut, adjacent to one of our office properties, that will support the development of an approximately 380,000 rentable square foot office building and garage, which we refer to herein as Metro Tower. As of March 31, 2017, our portfolio included four standalone retail properties located in Manhattan and two standalone retail properties located in the city center of Westport, Connecticut, encompassing 204,452 rentable square feet in the aggregate.

The Empire State Building is our flagship property. The Empire State Building provides us with a diverse source of revenue through its office and retail leases, observatory operations and broadcasting licenses, and related leased space. Our observatory operations are a separate reporting segment. Our observatory operations are subject to regular patterns of tourist activity in Manhattan. During the past ten years, approximately 16.0% to 18.0% of our annual observatory revenue was realized in the first quarter, 26.0% to 28.0% was realized in the second quarter, 31.0% to 33.0% was realized in the third quarter, and 23.0% to 25.0% was realized in the fourth quarter.

The components of the Empire State Building revenue are as follows (dollars in thousands):

|  | Three months ended March 31, 2017 |  | 2016 |  |
| --- | ---: | ---: | ---: | ---: |
| Office leases | $30,582 | 46.7% | $28,678 | 42.7% |
| Retail leases | 1,925 | 2.9% | 2,902 | 4.3% |
| Tenant reimbursements & other income | 5,070 | 7.8% | 6,805 | 10.1% |
| Observatory operations | 20,940 | 32.0% | 21,181 | 31.5% |
| Broadcasting licenses and leases | 6,939 | 10.6% | 7,698 | 11.4% |
| Total | $65,456 | 100.0% | $67,264 | 100.0% |

We have been undertaking a comprehensive redevelopment and repositioning strategy of our Manhattan office properties. This strategy is designed to improve the overall value and attractiveness of our properties and has contributed significantly to our tenant repositioning efforts, which seek to increase our occupancy; raise our rental rates; increase our rentable square feet; increase our aggregate rental revenue; lengthen our average lease term; increase our average lease size; and improve our tenant credit quality. These improvements include restored, renovated and upgraded or new lobbies; elevator modernization; renovated public areas and bathrooms; refurbished or new windows; upgrade and standardization of retail storefront and signage; façade restorations; modernization of building-wide systems; and enhanced tenant amenities. We have also aggregated smaller spaces in order to offer larger blocks of office space, including multiple floors, that are attractive to larger, higher credit-quality tenants and to offer new, pre-built suites with improved layouts. This strategy has shown what we believe to be attractive results to date, and we believe has the potential to improve our operating margins and cash flows in the future. We believe we will continue to enhance our tenant base and improve rents as our pre-redevelopment leases continue to expire and be re-leased. From 2002 through March 31, 2017, we have invested a total of approximately $739.0 million (excluding tenant improvement costs and leasing commissions) in our Manhattan office properties pursuant to this program. We are in the process of substantially completing the redevelopment and repositioning program as originally contemplated. We intend to fund these capital improvements through a combination of operating cash flow, cash on hand, and borrowings.

As of March 31, 2017, excluding principal amortization, we had approximately $336.0 million of debt maturing in 2017 and approximately $262.2 million of debt maturing in 2018, and we had total debt outstanding of approximately $1.6 billion, with a weighted average interest rate of 4.22% (excluding premiums and discount) and a weighted average maturity of 4.5 years. As of March 31, 2017, we had cash and cash equivalents of $532.4 million. Our consolidated net debt to total market capitalization was approximately 14.8% as of March 31, 2017.

### Results of Operations

### Overview

The discussion below relates to our financial condition and results of operations for the three months ended March 31, 2017 and 2016, respectively.

### Three Months Ended March 31, 2017 Compared to the Three Months Ended March 31, 2016

The following table summarizes our historical results of operations for the three months ended March 31, 2017 and 2016 (dollars in thousands):

| Revenues: | Three Months Ended March 31, 2017 | 2016 | Change% |  |
| --- | ---: | ---: | ---: | ---: |
| Rental revenue | $117,113 | $114,908 | $2,205 | 1.9% |
| Tenant expense reimbursement | 15,974 | 18,120 | (2,146) | (11.8)% |
| Observatory revenue | 20,940 | 21,181 | (241) | (1.1)% |
| Third-party management and other fees | 351 | 545 | (194) | (35.6)% |
| Other revenues and fees | 10,576 | 2,320 | 8,256 | 355.9% |
| Total revenues | 164,954 | 157,074 | 7,880 | 5.0% |
| Operating expenses: |  |  |  |  |
| Property operating expenses | 42,210 | 39,104 | 3,106 | 7.9% |
| Ground rent expenses | 2,331 | 2,333 | (2) | (0.1)% |
| General and administrative expenses | 11,088 | 10,918 | 170 | 1.6% |
| Observatory expenses | 7,255 | 7,755 | (500) | (6.4)% |
| Real estate taxes | 24,558 | 23,525 | 1,033 | 4.4% |
| Acquisition expenses | — | 98 | (98) | (100.0)% |
| Depreciation and amortization | 40,846 | 39,227 | 1,619 | 4.1% |
| Total operating expenses | 128,288 | 122,960 | 5,328 | 4.3% |
| Operating income | 36,666 | 34,114 | 2,552 | 7.5% |
| Other expense: |  |  |  |  |
| Interest expense | (17,742) | (17,951) | 209 | (1.2)% |
| Loss from derivative financial instruments | (247) | — | (247) | —% |
| Income before income taxes | 18,677 | 16,163 | 2,514 | 15.6% |
| Income tax benefit | 468 | 542 | (74) | (13.7)% |
| Net income | 19,145 | 16,705 | 2,440 | 14.6% |
| Private perpetual preferred unit distributions | (234) | (234) | — | —% |
| Net income attributable to common unitholders | $18,911 | $16,471 | $2,440 | 14.8% |

### Rental Revenue

The increase in rental income was primarily attributable to increased rental rates.

### Tenant Expense Reimbursement

The decrease in tenant expense reimbursements was due to a decrease in our estimated billed expense reimbursements, lower electric reimbursement and the mix of updated base years for new and renewal leases.

### Observatory Revenue

Observatory revenues were lower primarily due to unfavorable weather conditions in the first quarter 2017 compared to the first quarter 2016 as well as the calendar shift of Easter weekend from the first quarter 2016 to the second quarter 2017.

### Third-Party Management and Other Fees

The decrease reflects lower management fee income due to the wind-down of activities in certain managed entities.

### Other Revenues and Fees

The increase in other revenues and fees was primarily due to higher lease cancellation income of $7.7 million and higher interest income of $0.6 million in the three months ended March 31, 2017.

### Property Operating Expenses

The increase in property operating expenses was primarily due to higher repairs and maintenance costs and higher utility costs in the three months ended March 31, 2017.

### Ground Rent Expenses

Ground rent expense was consistent with 2016.

### General and Administrative Expenses

The increase in general and administrative expenses was primarily due to higher salaries and equity compensation expense partially offset by lower incentive compensation bonus accruals.

### Observatory Expenses

The decrease in Observatory expenses was primarily due to lower marketing costs.

### Real Estate Taxes

The increase in real estate taxes was primarily due to higher assessed values for several properties.

### Depreciation and Amortization

The increase in depreciation and amortization was primarily attributable to assets that were placed in service towards the end of 2016 and hence, subject to a full quarter's depreciation in the three months ended March 31, 2017.

### Interest Expense

Interest expense was consistent with 2016.

### Loss from Derivative Financial Instruments

The loss from derivative financial instruments consists of the ineffectiveness attributable to a partial termination and re-designation of related cash flow hedges in the three months ended March 31, 2017.

### Income Taxes

The decrease in income tax benefit was attributable to activities within our taxable REIT subsidiaries, primarily related to our Observatory operations.

### Liquidity and Capital Resources

Liquidity is a measure of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain our assets and operations, including lease-up costs, fund our redevelopment and repositioning programs, acquire properties, make distributions to our securityholders and fulfill other general business needs. Based on the historical experience of our management and our business strategy, in the foreseeable future we anticipate we will generate positive cash flows from operations. In order for ESRT to qualify as a REIT, ESRT is required under the Internal Revenue Code of 1986 to distribute to its stockholders, on an annual basis, at least 90% of its REIT taxable income, determined without regard to the deduction for dividends paid and excluding net capital gains. We expect to make quarterly distributions to our securityholders.

While we may be able to anticipate and plan for certain liquidity needs, there may be unexpected increases in uses of cash that are beyond our control and which would affect our financial condition and results of operations. For example, we may be required to comply with new laws or regulations that cause us to incur unanticipated capital expenditures for our properties, thereby increasing our liquidity needs. Even if there are no material changes to our anticipated liquidity requirements, our sources of liquidity may be fewer than, and the funds available from such sources may be less than, anticipated or needed. Our primary sources of liquidity will generally consist of cash on hand and cash generated from our operating activities, debt issuances and unused borrowing capacity under our unsecured revolving credit facility. We expect to meet our short-term liquidity requirements, including distributions, operating expenses, working capital, debt service, and capital expenditures from cash flows from operations, debt issuances, and available borrowing capacity under our unsecured revolving credit facility. The availability of these borrowings is subject to the conditions set forth in the applicable loan agreements. We expect to meet our long-term capital requirements, including acquisitions, redevelopments and capital expenditures through our cash flows from operations, cash on hand, our unsecured revolving credit facility, mortgage financings, debt issuances, common and/or preferred equity issuances and asset sales. Our properties require periodic investments of capital for individual lease related tenant improvements allowances, general capital improvements and costs associated with capital expenditures. Our overall leverage will depend on our mix of investments and the cost of leverage. ESRT's charter does not restrict the amount of leverage that we may use.

At March 31, 2017, we had approximately $532.4 million available in cash and cash equivalents, and there was $1.1 billion available under our unsecured revolving credit facility.

As of March 31, 2017, we had approximately $1.6 billion of total consolidated indebtedness outstanding, with a weighted average interest rate of 4.22% (excluding premiums and discount) and a weighted average maturity of 4.5 years. Excluding principal amortization, we have approximately $336.0 million of debt maturing in 2017 and approximately $262.2 million of debt maturing in 2018. Our consolidated net debt to total market capitalization was approximately 14.8% as of March 31, 2017. Given our current liquidity, including availability under our unsecured revolving credit facility, and preliminary discussions with lenders, we believe we will be able to refinance the maturing debt.

### Unsecured Revolving Credit Facility

The unsecured revolving credit facility is comprised of a revolving credit facility in the maximum original principal amount of $800.0 million. The unsecured revolving credit facility contains an accordion feature that would allow us to increase the maximum aggregate principal amount to $1.25 billion under specified circumstances. On July 6, 2016, we partially exercised the accordion feature and increased our borrowing capacity under the unsecured revolving credit facility from $800 million to $1.1 billion.

The unsecured revolving credit facility has an initial maturity in January 2019. We have the option to extend the initial term of the unsecured revolving credit facility for up to two additional six-month periods, subject to certain conditions, including the payment of an extension fee equal to 0.075% of the then outstanding commitments under the unsecured revolving credit facility.

The unsecured revolving credit facility includes the following financial covenants: (i) maximum leverage ratio of total indebtedness to total asset value (as defined in the agreement) of the loan parties and their consolidated subsidiaries will not exceed 60%, (ii) consolidated secured indebtedness will not exceed 40% of total asset value, (iii) tangible net worth will not be less than $745.4 million plus 75% of net equity proceeds received by the Operating Partnership (other than proceeds received within ninety (90) days after the redemption, retirement or repurchase of ownership or equity interests in the Operating Partnership up to the amount paid by the Operating Partnership in connection with such redemption, retirement or repurchase, where, the net effect is that the Operating Partnership shall not have increased its net worth as a result of any such proceeds), (iv) adjusted EBITDA (as defined in the unsecured revolving credit facility) to consolidated fixed charges will not be less than 1.50x, (v) the aggregate net operating income with respect to all unencumbered eligible properties to the portion of interest expense attributable to unsecured indebtedness will not be less than 1.75x, (vi) the ratio of total unsecured indebtedness to unencumbered asset value will not exceed 60%, and (vii) consolidated secured recourse indebtedness will not exceed 10% of total asset value (provided, however, this covenant shall not apply at any time after either the company or the Operating Partnership achieves debt ratings from at least two of Moody’s, S&P and Fitch, and such debt ratings are Baa3 or better (in the case of a rating by Moody’s) or BBB- or better (in the case of a rating by S&P or Fitch)). As of March 31, 2017, we were in compliance with the covenants (dollars in thousands):

| Financial covenant | Required | March 31, 2017 | In Compliance |
| --- | --- | ---: | --- |
| Maximum total leverage | \< 60% | 24.7% | Yes |
| Maximum secured debt | \< 40% | 11.5% | Yes |
| Minimum fixed charge coverage | \> 1.50x | 4.1x | Yes |
| Minimum unencumbered interest coverage | \> 1.75x | 7.3x | Yes |
| Maximum unsecured leverage | \< 60% | 22.1% | Yes |
| Maximum secured recourse indebtedness | \< 10% | 0.0% | Yes |
| Minimum tangible net worth | $1,203,815 | $1,661,808 | Yes |

29

The unsecured revolving credit facility contains customary covenants, including limitations on liens, investment, debt, fundamental changes, and transactions with affiliates, and requires certain customary financial reports.

The unsecured revolving credit facility contains customary events of default (subject in certain cases to specified cure periods), including but not limited to non-payment, breach of covenants, representations or warranties, cross defaults, bankruptcy or other insolvency events, judgments, ERISA events, invalidity of loan documents, loss of real estate investment trust qualification, and occurrence of a change of control (as defined in the agreement for the unsecured credit facility).

### Mortgage Debt

During April 2017, we refinanced a mortgage loan collateralized by 1542 Third Avenue. The new $30.0 million loan bears interest at a fixed rate of 4.29% and matures in May 2027.

### Leverage Policies

We expect to employ leverage in our capital structure in amounts determined from time to time by ESRT's board of directors. Although ESRT's board of directors has not adopted a policy that limits the total amount of indebtedness that we may incur, we anticipate that ESRT's board of directors will consider a number of factors in evaluating our level of indebtedness from time to time, as well as the amount of such indebtedness that will be either fixed or floating rate. ESRT's charter and bylaws do not limit the amount or percentage of indebtedness that we may incur nor do they restrict the form in which our indebtedness will be taken (including, but not limited to, recourse or non-recourse debt and cross-collateralized debt). Our overall leverage will depend on our mix of investments and the cost of leverage, however, we initially intend to maintain a level of indebtedness consistent with our plan to seek an investment grade credit rating. ESRT's board of directors may from time to time modify our leverage policies in light of the then-current economic conditions, relative costs of debt and equity capital, market values of our properties, general market conditions for debt and equity securities, fluctuations in the market price of ESRT's common stock and our traded OP units, growth and acquisition opportunities and other factors.

### Capital Expenditures

The following tables summarize our tenant improvement costs, leasing commission costs and our capital expenditures for each of the periods presented (dollars in thousands, except per square foot amounts).

### Office Properties(1)

| Total New Leases, Expansions, and Renewals | Three months ended March 31, 2017 | 2016 |
| --- | ---: | ---: |
| Number of leases signed(2) | 26 | 41 |
| Total square feet | 157,973 | 242,098 |
| Leasing commission costs(3) | $2,333 | $3,908 |
| Tenant improvement costs(3) | 7,826 | 12,476 |
| Total leasing commissions and tenant improvement costs(3) | $10,159 | $16,384 |
| Leasing commission costs per square foot(3) | $14.77 | $16.14 |
| Tenant improvement costs per square foot(3) | 49.54 | 51.53 |
| Total leasing commissions and tenant improvement costs per square foot(3) | $64.31 | $67.67 |

30

### Retail Properties(4)

| Total New Leases, Expansions, and Renewals | Three months ended March 31, 2017 | 2016 |
| --- | ---: | ---: |
| Number of leases signed(2) | 1 | 6 |
| Total square feet | 43,019 | 13,625 |
| Leasing commission costs(3) | $3,297 | $1,360 |
| Tenant improvement costs(3) | 1,991 | 2,393 |
| Total leasing commissions and tenant improvement costs(3) | $5,288 | $3,753 |
| Leasing commission costs per square foot(3) | $76.64 | $99.85 |
| Tenant improvement costs per square foot(3) | 46.28 | 175.62 |
| Total leasing commissions and tenant improvement costs per square foot(3) | $122.92 | $275.47 |

(1) Excludes an aggregate of 504,016 and 516,201 rentable square feet of retail space in our Manhattan office properties in 2017 and 2016, respectively. Includes the Empire State Building broadcasting licenses and observatory operations.

(2) Presents a renewed and expansion lease as one lease signed.

(3) Presents all tenant improvement and leasing commission costs as if they were incurred in the period in which the lease was signed, which may be different than the period in which they were actually paid.

(4) Includes an aggregate of 504,016 and 516,201 rentable square feet of retail space in our Manhattan office properties in 2017 and 2016, respectively. Excludes the Empire State Building broadcasting licenses and observatory operations.

| Total Portfolio | Three months ended March 31, 2017 | 2016 |
| --- | ---: | ---: |
| Capital expenditures (1) | $19,875 | $12,332 |

(1) Includes all capital expenditures, excluding tenant improvements and leasing commission costs, which are primarily attributable to the redevelopment and repositioning program conducted at our Manhattan office properties.

As of March 31, 2017, we expect to incur additional costs relating to obligations under signed new leases of approximately $51.5 million, consisting of approximately $50.3 million for tenant improvements and other improvements related to new leases and approximately $1.2 million on leasing commissions. We intend to fund the tenant improvements and leasing commission costs through a combination of operating cash flow, cash on hand and borrowings under the unsecured revolving credit facility.

Capital expenditures are considered part of both our short-term and long-term liquidity requirements. We intend to fund the capital improvements to complete the redevelopment and repositioning program through a combination of operating cash flow, cash on hand and borrowings under the unsecured revolving credit facility.

### Contractual Obligations

Refer to our Annual Report on Form 10-K for the year ended December 31, 2016 for a discussion of our contractual obligations. There has been no material changes, outside the ordinary course of business, to these contractual obligations during the three months ended March 31, 2017.

### Off-Balance Sheet Arrangements

As of March 31, 2017, we did not have any off-balance sheet arrangements.

### Distribution Policy

In order for ESRT to qualify as a REIT, it must distribute to its securityholders, on an annual basis, at least 90% of its REIT taxable income, determined without regard to the deduction for dividends paid and excluding net capital gains. In addition, it will be subject to U.S. federal income tax at regular corporate rates to the extent that it distributes less than 100% of its net taxable income (including net capital gains) and will be subject to a 4% nondeductible excise tax on the amount, if any, by which its distributions in any calendar year are less than a minimum amount specified under U.S. federal income tax laws. We intend to distribute our net income to our securityholders in a manner intended to allow ESRT to satisfy its REIT 90% distribution requirement and to allow ESRT to avoid U.S. federal income tax liability on its income and the 4% nondeductible excise tax.

Before we pay any distribution, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating requirements and obligations to make payments of principal and interest, if any. However, under some circumstances, we may be required to use cash reserves, incur debt or liquidate assets at rates or times that we regard as unfavorable or make a taxable distribution of our units in order to allow ESRT to satisfy its REIT 90% distribution requirement and to avoid U.S. federal income tax and the 4% nondeductible excise tax in that year.

### Distributions to Securityholders

Distributions and dividends amounting to $31.6 million and $22.9 million have been made to securityholders for the three months ended March 31, 2017 and 2016.

### Cash Flows

### Comparison of Three Months Ended March 31, 2017 to the Three Months Ended March 31, 2016

*Net cash*. Cash and cash equivalents were $532.4 million and $44.4 million, respectively, as of March 31, 2017 and 2016. The increase was primarily due to net proceeds on issuance of common stock to QIA in August 2016.

*Operating activities*. Net cash provided by operating activities increased by $0.5 million, to $60.0 million, for the three months ended March 31, 2017 compared to $59.5 million for the three months ended March 31, 2016, primarily due to higher cash rents.

*Investing activities*. Net cash used in investing activities increased by $23.0 million, to $47.1 million, for the three months ended March 31, 2017 compared to $24.1 million for the three months ended March 31, 2016, primarily due to higher expenditures on building and tenant improvements.

*Financing activities*. Net cash used in financing activities decreased by $2.9 million, to $34.8 million, for the three months ended March 31, 2017 compared to $37.7 million used in financing activities for the three months ended March 31, 2016, primarily due to lower debt repayments partially offset by higher dividends and distributions in the three months ended March 31, 2017.

### Net Operating Income ("NOI")

Our internal financial reports include a discussion of property net operating income. NOI is a non-GAAP financial measure of performance. NOI is used by our management to evaluate and compare the performance of our properties and to determine trends in earnings and to compute the fair value of our properties as it is not affected by: (i) the cost of funds of the property owner, (ii) the impact of depreciation and amortization expenses as well as gains or losses from the sale of operating real estate assets that are included in net income computed in accordance with GAAP, (iii) acquisition expenses and break-up fee, or (iv) general and administrative expenses and other gains and losses that are specific to the property owner. The cost of funds is eliminated from net operating income because it is specific to the particular financing capabilities and constraints of the owner. The cost of funds is also eliminated because it is dependent on historical interest rates and other costs of capital as well as past decisions made by us regarding the appropriate mix of capital which may have changed or may change in the future. Depreciation and amortization expenses as well as gains or losses from the sale of operating real estate assets are eliminated because they may not accurately represent the actual change in value in our office or retail properties that result from use of the properties or changes in market conditions. While certain aspects of real property do decline in value over time in a manner that is reasonably captured by depreciation and amortization, the value of the properties as a whole have historically increased or decreased as a result of changes in overall economic conditions instead of from actual use of the property or the passage of time. Gains and losses from the sale of real property vary from property to property and are affected by market conditions at the time of sale which will usually change from period to period. These gains and losses can create distortions when comparing one period to another or when comparing our operating results to the operating results of other real estate companies that have not made similarly-timed purchases or sales. We believe that eliminating these costs from net income is useful because the resulting measure captures the actual revenue, generated and actual expenses incurred in operating our properties as well as trends in occupancy rates, rental rates and operating costs.

However, the usefulness of NOI is limited because it excludes general and administrative costs, interest expense, depreciation and amortization expense and gains or losses from the sale of properties, and other gains and losses as stipulated by GAAP, the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties, all of which are significant economic costs. NOI may fail to capture significant trends in these components of net income which further limits its usefulness.

NOI is a measure of the operating performance of our properties but does not measure our performance as a whole. NOI is therefore not a substitute for net income as computed in accordance with GAAP. This measure should be analyzed in conjunction with net income computed in accordance with GAAP and discussions elsewhere in this Management’s Discussion and Analysis of Financial Condition and Results of Operations regarding the components of net income that are eliminated in the calculation of NOI. Other companies may use different methods for calculating NOI or similarly titled measures and, accordingly, our NOI may not be comparable to similarly titled measures reported by other companies that do not define the measure exactly as we do.

The following table presents a reconciliation of our net income, the most directly comparable GAAP measure, to NOI for the periods presented (amounts in thousands):

*(unaudited)*

|  | Three Months Ended March 31, 2017 | 2016 |
| --- | ---: | ---: |
| Net income | $19,145 | $16,705 |
| Add: |  |  |
| General and administrative expenses | 11,088 | 10,918 |
| Depreciation and amortization | 40,846 | 39,227 |
| Interest expense | 17,742 | 17,951 |
| Loss from derivative financial instruments | 247 | — |
| Acquisition expenses | — | 98 |
| Income tax benefit | (468) | (542) |
| Less: |  |  |
| Third-party management and other fees | (351) | (545) |
| **Net operating income** | $88,249 | $83,812 |
| **Other Net Operating Income Data** |  |  |
| Straight-line rental revenue | $5,998 | $5,080 |
| Net increase in rental revenue from the amortization of above- and below-market lease assets and liabilities | $1,428 | $4,231 |
| Amortization of acquired below-market ground leases | $1,958 | $1,958 |

### Funds from Operations ("FFO")

We present below a discussion of FFO. We compute FFO in accordance with the “White Paper” on FFO published by the National Association of Real Estate Investment Trusts, or NAREIT, which defines FFO as net income (loss) (determined in accordance with GAAP), excluding impairment write-downs of investments in depreciable real estate and investments in in-substance real estate investments, gains or losses from debt restructurings and sales of depreciable operating properties, plus real estate-related depreciation and amortization (excluding amortization of deferred financing costs), less distributions to non-controlling interests and gains/losses from discontinued operations and after adjustments for unconsolidated partnerships and joint ventures. FFO is a widely recognized non-GAAP financial measure for REITs that we believe, when considered with financial statements determined in accordance with GAAP, is useful to investors in understanding financial performance and providing a relevant basis for comparison among REITs. In addition, FFO is useful to investors as it captures features particular to real estate performance by recognizing that real estate has generally appreciated over time or maintains residual value to a much greater extent than do other depreciable assets. Investors should review FFO, along with GAAP net income, when trying to understand an equity REIT’s operating performance. We present FFO because we consider it an important supplemental measure of our operating performance and believe that it is frequently used by securities analysts, investors and other interested parties in the evaluation of REITs. However, because FFO excludes depreciation and amortization and captures neither the changes in the value of our properties that result from use or market conditions nor the level of capital expenditures and leasing commissions necessary to maintain the operating performance of our properties, all of which have real economic effect and could materially impact our results of operations, the utility of FFO as a measure of performance is limited. There can be no assurance that FFO presented by us is comparable to similarly titled measures of other REITs. FFO does not represent cash generated from operating activities and should not be considered as an alternative to net income (loss) determined in accordance with GAAP or to cash flow from operating activities determined in accordance with GAAP. FFO is not indicative of cash available to fund ongoing cash needs, including the ability to make cash distributions. Although FFO is a measure used for comparability in assessing the performance of REITs, as the NAREIT White Paper only provides guidelines for computing FFO, the computation of FFO may vary from one company to another.

### Modified Funds From Operations ("Modified FFO")

Modified FFO adds back an adjustment for any above or below-market ground lease amortization to traditionally defined FFO. We consider this a useful supplemental measure in evaluating our operating performance due to the non-cash accounting treatment under GAAP, which stems from the third quarter 2014 acquisition of two option properties as they carry significantly below market ground leases, the amortization of which is material to our overall results. We present Modified FFO because we consider it an important supplemental measure of our operating performance in that it adds back the non-cash amortization of below-market ground leases. There can be no assurance that Modified FFO presented by us is comparable to similarly titled measures of other REITs. Modified FFO does not represent cash generated from operating activities and should not be considered as an alternative to net income (loss) determined in accordance with GAAP or to cash flow from operating activities determined in accordance with GAAP. Modified FFO is not indicative of cash available to fund ongoing cash needs, including the ability to make cash distributions.

### Core Funds From Operations ("Core FFO")

Core FFO adds back to Modified FFO the following items: acquisition expenses, deferred financing costs write-offs, prepayment penalties, construction severance expenses and acquisition break-up fee. The Company presents Core FFO because it considers it an important supplemental measure of its operating performance in that it excludes non-recurring items. There can be no assurance that Core FFO presented by the Company is comparable to similarly titled measures of other REITs. Core FFO does not represent cash generated from operating activities and should not be considered as an alternative to net income (loss) determined in accordance with GAAP or to cash flow from operating activities determined in accordance with GAAP. Core FFO is not indicative of cash available to fund ongoing cash needs, including the ability to make cash distributions. In future periods, we may also exclude other items from Core FFO that we believe may help investors compare our results.

The following table presents a reconciliation of our net income, the most directly comparable GAAP measure, to FFO, Modified FFO and Core FFO for the periods presented (amounts in thousands, except per unit amounts):

*(unaudited)*

|  | Three Months Ended March 31, 2017 | 2016 |
| --- | ---: | ---: |
| Net income | $19,145 | $16,705 |
| Private perpetual preferred unit distributions | (234) | (234) |
| Real estate depreciation and amortization | 40,424 | 39,075 |
| **FFO attributable to common stockholders** | 59,335 | 55,546 |
| Amortization of below-market ground leases | 1,958 | 1,958 |
| **Modified FFO attributable to common stockholders** | 61,293 | 57,504 |
| Deferred financing costs write-off and prepayment penalty | — | 552 |
| Acquisition expenses | — | 98 |
| **Core FFO attributable to common stockholders** | $61,293 | $58,154 |
| **Weighted average Operating Partnership units** |  |  |
| Basic | 296,388 | 266,134 |
| Diluted | 297,962 | 266,134 |

34

### Factors That May Influence Future Results of Operations

### Leasing

We signed 1.0 million rentable square feet of new leases, expansions and lease renewals for the year ended December 31, 2016. During the three months ended March 31, 2017, we signed 0.2 million rentable square feet of new leases, expansions and renewals.

Due to the relatively small number of leases that are signed in any particular quarter, one or more larger leases may have a disproportionately positive or negative impact on average rent, tenant improvement and leasing commission costs for that period. As a result, we believe it is more appropriate when analyzing trends in average rent and tenant improvement and leasing commission costs to review activity over multiple quarters or years. Tenant improvement costs include expenditures for general improvements occurring concurrently with, but that are not directly related to, the cost of installing a new tenant. Leasing commission costs are similarly subject to significant fluctuations depending upon the length of leases being signed and the mix of tenants from quarter to quarter.

As of March 31, 2017, there were approximately 1.1 million rentable square feet of space in our portfolio available to lease (excluding leases signed but not yet commenced) representing 10.5% of the net rentable square footage of the properties in our portfolio. In addition, leases representing 5.2% and 8.3% of net rentable square footage of the properties in our portfolio will expire in 2017 and in 2018, respectively. These leases are expected to represent approximately 5.5% and 8.7%, respectively, of our annualized rent for such periods. Our revenues and results of operations can be impacted by expiring leases that are not renewed or re-leased or that are renewed or re-leased at base rental rates equal to, above or below the current average base rental rates. Further, our revenues and results of operations can also be affected by the costs we incur to re-lease available space, including payment of leasing commissions, redevelopments and build-to-suit remodeling that may not be borne by the tenant.

We believe that as we complete the redevelopment and repositioning of our properties we will, over the long-term, experience increased occupancy levels and rents. Over the short term, as we renovate and reposition our properties, which includes aggregating smaller spaces to offer large blocks of space, we may experience lower occupancy levels as a result of having to relocate tenants to alternative space and the strategic expiration of existing leases. We believe that despite the short-term lower occupancy levels we may experience, we will continue to experience increased rental revenues as a result of the increased rents which we expect to obtain following the redevelopment and repositioning of our properties.

### Observatory and Broadcasting Operations

The Empire State Building Observatory revenue for the first quarter 2017 was $20.9 million, compared to $21.2 million for the first quarter 2016. The Observatory hosted approximately 636,000 visitors in the first quarter 2017 versus 719,000 visitors in the first quarter 2016. In the first quarter 2017, there were 22 bad weather days, six of which fell on weekend days, compared to eight bad weather days, two of which fell on weekend days, in the first quarter 2016. One of the bad weather days was the snowstorm on March 14, 2017 which resulted in the closing of public transport and cancelled flights into and out of New York City and two additional days of street, mass transit, and airport disruptions. In addition, Easter weekend was in the first quarter in 2016 and in the second quarter in 2017.

Observatory revenues and admissions are dependent upon the following: (i) the number of tourists (domestic and international) that come to New York City and visit the observatory, as well as any related tourism trends; (ii) the prices per admission that can be charged; (iii) seasonal trends affecting the number of visitors to the observatory; (iv) competition, in particular from other new and existing observatories; and (v) weather trends.

We license the use of the Empire State Building mast to third party television and radio broadcasters and providers of data communications. We also lease space in the upper floors of the building to such licensees to house their transmission equipment and related facilities. During the three months ended March 31, 2017, we derived $5.2 million of revenue and $1.7 million of expense reimbursements from the Empire State Building’s broadcasting licenses and related leases. The broadcasting licenses and related leases generally expire between 2017 and 2032. The business of broadcasting TV and radio signals over the air is in flux, due to deteriorating industry fundamentals and the ongoing Federal Communications Commission spectrum auction, and there is competition from other broadcasting operations. We have made preliminary renewal proposals which, if accepted, would yield reduced revenues and higher capital expenditures.

During the first quarter 2017 we signed long-term lease and license renewals with two of our radio broadcasters, Spanish Broadcast Systems and New York Public Radio, for a total of four radio stations at the Empire State Building. In addition, Ion Television notified us that they will not renew their lease and license and will vacate upon their lease expiration at the end of 2017. We remain in ongoing negotiations with our other broadcast tenants.

### Critical Accounting Estimates

Refer to our Annual Report on Form 10-K for the year ended December 31, 2016 for a discussion of our critical accounting estimates. There were no material changes to our critical accounting estimates disclosed in our Annual Report on Form 10-K for the year ended December 31, 2016.

## Market risk

As filed, 3,482 characters.

Our future income, cash flows and fair values relevant to financial instruments are dependent upon prevalent market interest rates. Market risk refers to the risk of loss from adverse changes in market prices and interest rates. One of the principal market risks facing us is interest rate risk on our variable rate indebtedness. As of March 31, 2017, our variable rate debt of $265.0 million represented 3.4% of our total enterprise value.

Subject to maintaining ESRT's qualification as a REIT for U.S. federal income tax purposes, we may mitigate the risk of interest rate volatility through the use of hedging instruments, such as interest rate swap agreements and interest rate cap agreements. Our primary objectives when undertaking hedging transactions and derivative positions will be to reduce our floating rate exposure and to fix a portion of the interest rate for anticipated financing and refinancing transactions. This in turn will reduce the risk that the variability of cash flows will impose on floating rate debt. However, we can provide no assurances that our efforts to manage interest rate volatility will successfully mitigate the risks of such volatility on our portfolio. We are not subject to foreign currency risk.

We are exposed to interest rate changes primarily on our term loan, unsecured revolving credit facility and mortgage refinancings. Our objectives with respect to interest rate risk are to limit the impact of interest rate changes on operations and cash flows, and to lower our overall borrowing costs. To achieve these objectives, we may borrow at fixed rates and may enter into derivative financial instruments such as interest rate swaps or caps in order to mitigate our interest rate risk on a related floating rate financial instrument. We do not enter into derivative or interest rate transactions for speculative purposes.

We entered into interest rate LIBOR swap agreements with an aggregate notional value of $970.0 million, which fix LIBOR interest rates between 2.1485% and 2.7620% and mature between August 2022 and June 2028. All interest rate swaps as of March 31, 2017 have been designated as cash flow hedges and are deemed effective, with a fair value of $1.5 million which is included in prepaid expenses and other assets and ($5.2 million) which is included in accounts payable and accrued expenses on the condensed consolidated balance sheet.

Based on our variable rate debt balances, interest expense would have increased by approximately $2.6 million if short-term interest rates had been 1% higher. As of March 31, 2017, the weighted average interest rate on the $1.3 billion of fixed-rate indebtedness outstanding was 4.54% per annum, each with maturities at various dates through March 27, 2030.

As of March 31, 2017, the fair value of our outstanding debt was approximately $1.6 billion, which was approximately $35.0 million more than the historical book value as of such date. Interest risk amounts were determined by considering the impact of hypothetical interest rates on our financial instruments. These analyses do not consider the effect of any change in overall economic activity that could occur in that environment. Further, in the event of a change of that magnitude, we may take actions to further mitigate our exposure to the change. However, due to the uncertainty of the specific actions that would be taken and their possible effects, these analyses assume no changes in our financial structure.

## Controls and procedures

As filed, 2,328 characters.

### Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as such term is defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed in our reports under the Exchange Act is processed, recorded, summarized and reported within the time periods specified in the SEC’s rules and regulations and that such information is accumulated and communicated to management, including ESRT's Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As of March 31, 2017, the end of the period covered by this Report, we carried out an evaluation, under the supervision and with the participation of ESRT management, including ESRT's Chief Executive Officer and Chief Financial Officer, regarding the effectiveness of our disclosure controls and procedures at the end of the period covered by this Report. Based on the foregoing, ESRT's Chief Executive Officer and Chief Financial Officer concluded, as of that time, that our disclosure controls and procedures were effective in ensuring that information required to be disclosed by us in reports filed or submitted under the Exchange Act (i) is processed, recorded, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) is accumulated and communicated to our management, including ESRT's Chief Executive Officer and Chief Financial Officer, as appropriate to allow for timely decisions regarding required disclosure.

### Changes in Internal Control over Financial Reporting

No changes to our internal control over financial reporting were identified in connection with the evaluation referenced above that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

## Risk factors

As filed, 156 characters.

There have been no material changes to the risk factors included in the section entitled "Risk Factors" in our December 31, 2016 Annual Report on Form 10-K.

Filed May 3, 2017.
Source: SEC EDGAR, the filing index for accession 0001628280-17-004760. Last ingested by Listed: Nov 2, 2026, 20:18 ET. No prices; not investment advice.