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| EGP > SEC Filings for EGP > Form 10-K on 27-Feb-2009 | All Recent SEC Filings |
27-Feb-2009
Annual Report
OVERVIEW
EastGroup's goal is to maximize shareholder value by being the leading
provider in its markets of functional, flexible, and quality business
distribution space for location sensitive tenants primarily in the 5,000 to
50,000 square foot range. The Company develops, acquires and operates
distribution facilities, the majority of which are clustered around major
transportation features in supply constrained submarkets in major Sunbelt
regions. The Company's core markets are in the states of Florida, Texas, Arizona
and California.
The Company expects the slowdown in the economy to affect its operations.
The Company is projecting a decrease in occupancy, and there are no plans for
development starts. The current economic situation is also impacting lenders,
and it is more difficult to obtain financing. The Company believes that its
lines of credit provide the capacity to fund debt maturities and the operations
of the Company for 2009 and 2010.
The Company's primary revenue is rental income; as such, EastGroup's
greatest challenge is leasing space. During 2008, leases on 4,223,000 square
feet (16.5%) of EastGroup's total square footage of 25,612,000 expired, and the
Company was successful in renewing or re-leasing 83% of that total. In addition,
EastGroup leased 1,354,000 square feet of other vacant space during the year.
During 2008, average rental rates on new and renewal leases increased by 11.1%.
EastGroup's total leased percentage was 94.8% at December 31, 2008 compared
to 96.0% at December 31, 2007. Leases scheduled to expire in 2009 were 14.6% of
the portfolio on a square foot basis at December 31, 2008, and this figure was
reduced to 12.2% as of February 25, 2009. Property net operating income (PNOI)
from same properties increased 0.3% for 2008 as compared to 2007. Excluding
termination fees of $798,000 and $1,149,000 in 2008 and 2007, respectively, PNOI
from same properties increased 0.6%. Excluding termination fees, the fourth
quarter of 2008 was the twenty-second consecutive quarter of improved same
property operations.
The Company generates new sources of leasing revenue through its
acquisition and development programs. During 2008, EastGroup purchased five
operating properties (669,000 square feet), one property for re-development
(150,000 square feet), and 125 acres of development land for a combined cost of
$58.2 million. The five operating properties and 9.9 acres of development land
are located in metropolitan Charlotte, North Carolina, where the Company now
owns over 1.6 million square feet. The property acquired for re-development is
located in Jacksonville, Florida, and the remaining development land is located
in Orlando (94.3 acres), San Antonio (12.7 acres), and Houston (8.1 acres).
EastGroup continues to see targeted development as a major contributor to
the Company's long-term growth. The Company mitigates risks associated with
development through a Board-approved maximum level of land held for development
and by adjusting development start dates according to leasing activity.
EastGroup's development activity has slowed considerably as a result of current
market conditions. The Company had one development start in the fourth quarter
of 2008 and does not currently have any plans to start construction on new
developments in 2009. During 2008, the Company transferred 16 properties
(1,391,000 square feet) with aggregate costs of $84.3 million at the date of
transfer from development to real estate properties. These properties, which
were collectively 91.8% leased as of February 25, 2009, are located in Fort
Myers, Orlando, and Tampa, Florida; Phoenix, Arizona; Houston and San Antonio,
Texas; and Denver, Colorado.
During 2008, the Company initially funded its acquisition and development
programs through its $225 million lines of credit (as discussed in Liquidity and
Capital Resources). As market conditions permit, EastGroup issues equity,
including preferred equity, and/or employs fixed-rate, non-recourse first
mortgage debt to replace the short-term bank borrowings.
EastGroup has one reportable segment-industrial properties. These
properties are primarily located in major Sunbelt regions of the United States,
have similar economic characteristics and also meet the other criteria that
permit the properties to be aggregated into one reportable segment. The
Company's chief decision makers use two primary measures of operating results in
making decisions: property net operating income (PNOI), defined as income from
real estate operations less property operating expenses (before interest expense
and depreciation and amortization), and funds from operations available to
common stockholders (FFO), defined as net income (loss) computed in accordance
with U.S. generally accepted accounting principles (GAAP), excluding gains or
losses from sales of depreciable real estate property, plus real estate related
depreciation and amortization, and after adjustments for unconsolidated
partnerships and joint ventures. The Company calculates FFO based on the
National Association of Real Estate Investment Trusts' (NAREIT) definition.
PNOI is a supplemental industry reporting measurement used to evaluate the
performance of the Company's real estate investments. The Company believes that
the exclusion of depreciation and amortization in the industry's calculation of
PNOI provides a supplemental indicator of the properties' performance since real
estate values have historically risen or fallen with market conditions. PNOI as
calculated by the Company may not be comparable to similarly titled but
differently calculated measures for other real estate investment trusts (REITs).
The major factors that influence PNOI are occupancy levels, acquisitions and
sales, development properties that achieve stabilized operations, rental rate
increases or decreases, and the recoverability of operating expenses. The
Company's success depends largely upon its ability to lease space and to recover
from tenants the operating costs associated with those leases.
Real estate income is comprised of rental income, pass-through income and
other real estate income including lease termination fees. Property operating
expenses are comprised of property taxes, insurance, utilities, repair and
maintenance expenses, management fees, other operating costs and bad debt
expense. Generally, the Company's most significant operating expenses are
property taxes and insurance. Tenant leases may be net leases in which the total
operating expenses are recoverable, modified gross leases in which some of the
operating expenses are recoverable, or gross leases in which no expenses are
recoverable (gross leases represent only a small portion of the Company's total
leases). Increases in property operating expenses are fully recoverable under
net leases and recoverable to a high degree under modified gross leases.
Modified gross leases often include base year amounts and expense increases over
these amounts are recoverable. The Company's exposure to property operating
expenses is primarily due to vacancies and leases for occupied space that limit
the amount of expenses that can be recovered.
The Company believes FFO is a meaningful supplemental measure of operating
performance for equity REITs. The Company believes that excluding depreciation
and amortization in the calculation of FFO is appropriate since real estate
values have historically
increased or decreased based on market conditions. FFO is not considered as an alternative to net income (determined in accordance with GAAP) as an indication of the Company's financial performance, nor is it a measure of the Company's liquidity or indicative of funds available to provide for the Company's cash needs, including its ability to make distributions. The Company's key drivers affecting FFO are changes in PNOI (as discussed above), interest rates, the amount of leverage the Company employs and general and administrative expense. The following table presents the reconciliations of PNOI and FFO Available to Common Stockholders to Net Income for three fiscal years.
Years Ended December 31,
---------------------------------------
2008 2007 2006
---------------------------------------
(In thousands, except per share data)
Income from real estate operations............................................ $ 168,327 150,083 132,417
Expenses from real estate operations.......................................... (47,374) (40,926) (37,014)
---------------------------------------
PROPERTY NET OPERATING INCOME................................................. 120,953 109,157 95,403
Equity in earnings of unconsolidated investment (before depreciation)......... 448 417 419
Income from discontinued operations (before depreciation and amortization).... 201 608 2,204
Interest income............................................................... 293 306 142
Gain on sales of securities................................................... 435 - -
Other income.................................................................. 248 92 182
Interest expense.............................................................. (30,192) (27,314) (24,616)
General and administrative expense............................................ (8,547) (8,295) (7,401)
Minority interest in earnings (before depreciation and amortization).......... (827) (783) (751)
Gain on sales of land and non-operating real estate........................... 321 2,602 791
Dividends on Series D preferred shares........................................ (1,326) (2,624) (2,624)
Costs on redemption of Series D preferred shares.............................. (682) - -
---------------------------------------
FUNDS FROM OPERATIONS AVAILABLE TO COMMON STOCKHOLDERS........................ 81,325 74,166 63,749
Depreciation and amortization from continuing operations...................... (51,221) (47,738) (41,198)
Depreciation and amortization from discontinued operations.................... (71) (320) (1,019)
Depreciation from unconsolidated investment................................... (132) (132) (132)
Minority interest depreciation and amortization............................... 201 174 151
Gain on sales of depreciable real estate investments.......................... 2,032 960 5,059
---------------------------------------
NET INCOME AVAILABLE TO COMMON STOCKHOLDERS................................... 32,134 27,110 26,610
Dividends on Series D preferred shares........................................ 1,326 2,624 2,624
Costs on redemption of Series D preferred shares.............................. 682 - -
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NET INCOME.................................................................... $ 34,142 29,734 29,234
=======================================
Net income available to common stockholders per diluted share................. $ 1.30 1.14 1.17
Funds from operations available to common stockholders per diluted share...... 3.30 3.12 2.81
Diluted shares for earnings per share and funds from operations............... 24,653 23,781 22,692
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The Company analyzes the following performance trends in evaluating the progress of the Company:
o The FFO change per share represents the increase or decrease in FFO per share from the same quarter in the current year compared to the prior year. FFO per share for the fourth quarter of 2008 was $.85 per share compared with $.86 per share for the same period of 2007, a decrease of 1.2% per share. FFO for the fourth quarter of 2008 included gain on sales of land and non-operating real estate of $8,000 as compared to $2,579,000 in the same period of 2007. Excluding these gains for both periods, FFO per share increased 11.8%. The fourth quarter of 2008 was the eighteenth consecutive quarter of increased FFO (excluding gain on sales of land and non-operating real estate) as compared to the previous year's quarter. PNOI increased 11.2% primarily due to additional PNOI of $1,865,000 from newly developed properties, $740,000 from 2007 and 2008 acquisitions, and $587,000 from same property growth.
For the year 2008, FFO was $3.30 per share compared with $3.12 per share for 2007, an increase of 5.8% per share. Gain on sales of land and non-operating real estate was $321,000 ($.01 per share) for 2008 and $2,602,000 ($.11 per share) for 2007. Costs on redemption of preferred shares was $682,000 ($.03 per share) for 2008. Gain on sales of securities was $435,000 ($.02 per share) for 2008. PNOI increased 10.8% due to additional PNOI of $7,966,000 from newly developed properties, $3,660,000 from 2007 and 2008 acquisitions and $282,000 from same property growth.
o Same property net operating income change represents the PNOI increase or decrease for operating properties owned during the entire current period and prior year reporting period. PNOI from same properties increased 2.1% for the fourth quarter. Excluding termination fees of $68,000 and $133,000 in the fourth quarters of 2008 and 2007, respectively, PNOI from same properties increased 2.4% for the quarter. Excluding termination fees, the fourth quarter of 2008 was the twenty-second consecutive quarter of improved same property operations. For the year 2008, PNOI from same properties increased 0.3%. Excluding termination fees of $798,000 and $1,149,000 for 2008 and 2007, respectively, PNOI from same properties increased 0.6%.
o Occupancy is the percentage of leased square footage for which the lease term has commenced as compared to the total leasable square footage as of the close of the reporting period. Occupancy at December 31, 2008 was 93.8%. Occupancy has ranged from 93.8% to 95.4% in the previous four quarters.
o Rental rate change represents the rental rate increase or decrease on new and renewal leases compared to the prior leases on the same space. Rental rate increases on new and renewal leases (3.7% of total square footage) averaged 4.5% for the fourth quarter of 2008. For the year, rental rate increases on new and renewal leases (18.9% of total square footage) averaged 11.1%.
o Development starts were $48 million in 2008, and there are no planned development starts for 2009.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company's management considers the following accounting policies and estimates to be critical to the reported operations of the Company.
Real Estate Properties
The Company allocates the purchase price of acquired properties to net
tangible and identified intangible assets based on their respective fair values.
Factors considered by management in allocating the cost of the properties
acquired include an estimate of carrying costs during the expected lease-up
periods considering current market conditions and costs to execute similar
leases. The allocation to tangible assets (land, building and improvements) is
based upon management's determination of the value of the property as if it were
vacant using discounted cash flow models. The remaining purchase price is
allocated among three categories of intangible assets consisting of the above or
below market component of in-place leases, the value of in-place leases and the
value of customer relationships. The value allocable to the above or below
market component of an acquired in-place lease is determined based upon the
present value (using a discount rate which reflects the risks associated with
the acquired leases) of the difference between (i) the contractual amounts to be
paid pursuant to the lease over its remaining term and (ii) management's
estimate of the amounts that would be paid using fair market rates over the
remaining term of the lease. The amounts allocated to above and below market
leases are included in Other Assets and Other Liabilities, respectively, on the
Consolidated Balance Sheets and are amortized to rental income over the
remaining terms of the respective leases. The total amount of intangible assets
is further allocated to in-place lease values and to customer relationship
values based upon management's assessment of their respective values. These
intangible assets are included in Other Assets on the Consolidated Balance
Sheets and are amortized over the remaining term of the existing lease, or the
anticipated life of the customer relationship, as applicable.
During the period in which a property is under development, costs
associated with development (i.e., land, construction costs, interest expense,
property taxes and other direct and indirect costs associated with development)
are aggregated into the total capitalized costs of the property. Included in
these costs are management's estimates for the portions of internal costs
(primarily personnel costs) that are deemed directly or indirectly related to
such development activities.
The Company reviews its real estate investments for impairment of value
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. If any real estate investment is considered
permanently impaired, a loss is recorded to reduce the carrying value of the
property to its estimated fair value. Real estate assets to be sold are reported
at the lower of the carrying amount or fair value less selling costs. The
evaluation of real estate investments involves many subjective assumptions
dependent upon future economic events that affect the ultimate value of the
property. Currently, the Company's management is not aware of any impairment
issues nor has it experienced any significant impairment issues in recent years.
EastGroup currently has the intent and ability to hold its real estate
investments and to hold its land inventory for future development. In the event
of impairment, the property's basis would be reduced and the impairment would be
recognized as a current period charge on the Consolidated Statements of Income.
Valuation of Receivables
The Company is subject to tenant defaults and bankruptcies that could
affect the collection of outstanding receivables. In order to mitigate these
risks, the Company performs credit reviews and analyses on prospective tenants
before significant leases are executed. On a quarterly basis, the Company
evaluates outstanding receivables and estimates the allowance for doubtful
accounts. Management specifically analyzes aged receivables, customer
credit-worthiness, historical bad debts and current economic trends when
evaluating the adequacy of the allowance for doubtful accounts. The Company
believes that its allowance for doubtful accounts is adequate for its
outstanding receivables for the periods presented. In the event that the
allowance for doubtful accounts is insufficient for an account that is
subsequently written off, additional bad debt expense would be recognized as a
current period charge on the Consolidated Statements of Income.
Tax Status
EastGroup, a Maryland corporation, has qualified as a real estate
investment trust under Sections 856-860 of the Internal Revenue Code and intends
to continue to qualify as such. To maintain its status as a REIT, the Company is
required to distribute at least 90% of its ordinary taxable income to its
stockholders. The Company has the option of (i) reinvesting the sales price of
properties sold through tax-deferred exchanges, allowing for a deferral of
capital gains on the sale, (ii) paying out capital gains to the stockholders
with no tax to the Company, or (iii) treating the capital gains as having been
distributed to the stockholders, paying the tax on the gain deemed distributed
and allocating the tax paid as a credit to the stockholders. The Company
distributed all of its 2008, 2007 and 2006 taxable income to its stockholders.
Accordingly, no provision for income taxes was necessary.
FINANCIAL CONDITION
EastGroup's assets were $1,156,205,000 at December 31, 2008, an increase of
$100,372,000 from December 31, 2007. Liabilities increased $91,693,000 to
$742,829,000 and stockholders' equity increased $8,455,000 to $410,840,000
during the same period. The paragraphs that follow explain these changes in
detail.
ASSETS
Real Estate Properties
Real estate properties increased $137,316,000 during the year ended
December 31, 2008, primarily due to the purchase of five operating properties in
a single transaction and the transfer of 16 properties from development, as
detailed under Development below. These increases were offset by the disposition
of two operating properties, North Stemmons I and Delp Distribution Center III,
during the year. In addition, EastGroup sold 41 acres of residential land in San
Antonio, Texas, for $841,000 with no gain or loss. This property was acquired as
part of the Company's Alamo Ridge industrial land acquisition in September 2007.
Date
Real Estate Properties Acquired in 2008 Location Size Acquired Cost (1)
------------------------------------------------------------------------------------------------------------------
(Square feet) (In thousands)
Airport Commerce Center I & II,
Interchange Park, Ridge Creek III and
Waterford Distribution Center.............. Charlotte, NC 669,000 02/29/08 $ 39,018
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(1) Total cost of the properties acquired was $41,913,000, of which $39,018,000 was allocated to real estate properties as indicated above and $855,000 was allocated to development. Intangibles associated with the purchases of real estate were allocated as follows: $2,143,000 to in-place lease intangibles, $252,000 to above market leases (both included in Other Assets on the Consolidated Balance Sheets) and $355,000 to below market leases (included in Other Liabilities on the Consolidated Balance Sheets). All of these costs are amortized over the remaining lives of the associated leases in place at the time of acquisition.
The Company made capital improvements of $15,210,000 on existing and acquired properties (included in the Capital Expenditures table under Results of Operations). Also, the Company incurred costs of $4,116,000 on development properties subsequent to transfer to real estate properties; the Company records these expenditures as development costs on the Consolidated Statements of Cash Flows during the 12-month period following transfer.
Development
The investment in development at December 31, 2008 was $150,354,000
compared to $152,963,000 at December 31, 2007. Total capital invested for
development during 2008 was $85,441,000, which primarily consisted of costs of
$81,642,000 as detailed in the development activity table and costs of
$4,116,000 on developments transferred to real estate properties during the
12-month period following transfer.
During 2007, the Company executed a ten-year lease for a 404,000 square
foot build-to-suit development in its Southridge Commerce Park in Orlando. In
March 2008, construction on this project (Southridge XII) was completed, and the
tenant, United Stationers Supply Company, occupied the space. In connection with
this transaction, EastGroup entered into contracts with United Stationers to
purchase two of its existing properties in Jacksonville and Tampa. In July 2008,
EastGroup closed on the first contract for the acquisition of 12th Street
Distribution Center, a 150,000 square foot building in Jacksonville. The Company
purchased the vacant property for $3,776,000 and is re-developing it for
multi-tenant use for a projected total investment of $4,900,000. In August 2008,
EastGroup closed the second contract for the acquisition of a 128,000 square
foot warehouse in Tampa through its taxable REIT subsidiary. The Company then
sold the building, recognizing a gain of $294,000.
During 2008, EastGroup purchased 125 acres of developable land for a total
cost of $13,368,000. Costs associated with these acquisitions are included in
the development activity table. The Company transferred 16 developments to Real
Estate Properties during 2008 with a total investment of $84,251,000 as of the
date of transfer.
Costs Incurred
----------------------------------------------
Costs For the Cumulative Estimated
Transferred Year Ended as of Total
DEVELOPMENT Size in 2008 (1) 12/31/08 12/31/08 Costs (2)
------------------------------------------------------------------------------------------------------------------------------------
(Square feet) (In thousands)
LEASE-UP
40th Avenue Distribution Center, Phoenix, AZ......... 89,000 $ - 1,392 6,539 6,900
Wetmore II, Building B, San Antonio, TX.............. 55,000 - 750 3,633 3,900
Beltway Crossing VI, Houston, TX..................... 128,000 - 2,084 5,607 6,700
Oak Creek VI, Tampa, FL............................. 89,000 - 1,682 5,587 6,100
Southridge VIII, Orlando, FL......................... 91,000 - 1,961 6,001 6,900
Techway SW IV, Houston, TX........................... 94,000 - 2,875 4,843 6,100
SunCoast III, Fort Myers, FL......................... 93,000 - 2,543 6,718 8,400
Sky Harbor, Phoenix, AZ.............................. 264,000 - 8,821 22,829 25,100
World Houston 26, Houston, TX........................ 59,000 1,110 1,708 2,818 3,300
12th Street Distribution Center, Jacksonville, FL.... 150,000 - 4,850 4,850 4,900
. . .
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