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HIW > SEC Filings for HIW > Form 10-Q on 29-Oct-2013All Recent SEC Filings

Show all filings for HIGHWOODS PROPERTIES INC

Form 10-Q for HIGHWOODS PROPERTIES INC


29-Oct-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Company is a fully integrated equity REIT that provides leasing, management, development, construction and other customer-related services for our properties and for third parties. The Company conducts virtually all of its activities through the Operating Partnership. The Operating Partnership is managed by the Company, its sole general partner. At September 30, 2013, we wholly owned: 282 in-service office, industrial and retail properties, comprising 30.1 million square feet; 592 acres of undeveloped land suitable for future development, of which 496 acres are considered core assets; and four office development properties. In addition, we owned interests (50.0% or less) in 23 in-service office properties, a rental residential development property and 11 acres of undeveloped land suitable for future development, which includes a 12.5% interest in a 261,000 square foot office property directly owned by the Company (not included in the Operating Partnership's Consolidated Financial Statements). We are based in Raleigh, North Carolina, and our properties and development land are located in Florida, Georgia, Missouri, North Carolina, Pennsylvania, South Carolina, Tennessee and Virginia. Additional information about us can be found on our website at www.highwoods.com. Information on our website is not part of this Quarterly Report.

You should read the following discussion and analysis in conjunction with the accompanying Consolidated Financial Statements and related notes contained elsewhere in this Quarterly Report.

Disclosure Regarding Forward-Looking Statements

Some of the information in this Quarterly Report may contain forward-looking statements. Such statements include, in particular, statements about our plans, strategies and prospects under this section. You can identify forward-looking statements by our use of forward-looking terminology such as "may," "will," "expect," "anticipate," "estimate," "continue" or other similar words. Although we believe that our plans, intentions and expectations reflected in or suggested by such forward-looking statements are reasonable, we cannot assure you that our plans, intentions or expectations will be achieved. When considering such forward-looking statements, you should keep in mind the following important factors that could cause our actual results to differ materially from those contained in any forward-looking statement:

the financial condition of our customers could deteriorate;

we may not be able to lease or release second generation space, defined as previously occupied space that becomes available for lease, quickly or on as favorable terms as old leases;

we may not be able to lease our newly constructed buildings as quickly or on as favorable terms as originally anticipated;

we may not be able to complete development, acquisition, reinvestment, disposition or joint venture projects as quickly or on as favorable terms as anticipated;

development activity by our competitors in our existing markets could result in an excessive supply of office, industrial and retail properties relative to customer demand;

our markets may suffer declines in economic growth;

unanticipated increases in interest rates could increase our debt service costs;

unanticipated increases in operating expenses could negatively impact our operating results;

we may not be able to meet our liquidity requirements or obtain capital on favorable terms to fund our working capital needs and growth initiatives or to repay or refinance outstanding debt upon maturity; and

the Company could lose key executive officers.

This list of risks and uncertainties, however, is not intended to be exhaustive. You should also review the other cautionary statements we make in "Business - Risk Factors" set forth in our 2012 Annual Report on Form 10-K. Given these uncertainties, you should not place undue reliance on forward-looking statements. We undertake no obligation to publicly release the results of any revisions to these forward-looking statements to reflect any future events or circumstances or to reflect the occurrence of unanticipated events.


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Executive Summary

Our Strategic Plan focuses on:

owning high-quality, differentiated real estate assets in the key infill business districts in our core markets;

improving the operating results of our existing properties through concentrated leasing, asset management, cost control and customer service efforts;

developing and acquiring office properties in key infill business districts that improve the overall quality of our portfolio and generate attractive returns over the long term for our stockholders;

selectively disposing of properties no longer considered to be core assets primarily due to location, age, quality and/or overall strategic fit; and

maintaining a conservative, flexible balance sheet with ample liquidity to meet our funding needs and growth prospects.

While we own and operate a limited number of industrial and retail properties, our operating results depend heavily on successfully leasing and operating our office properties. Economic growth and employment levels in our core markets are and will continue to be important determinative factors in predicting our future operating results.

The key components affecting our rental and other revenues are average occupancy, rental rates, levels of cost recovery income, new developments placed in service, acquisitions and dispositions. Average occupancy generally increases during times of improving economic growth, as our ability to lease space outpaces vacancies that occur upon the expirations of existing leases. Average occupancy generally declines during times of slower economic growth, when new vacancies tend to outpace our ability to lease space. Asset acquisitions, dispositions and new developments placed in service directly impact our rental revenues and could impact our average occupancy, depending upon the occupancy rate of the properties that are acquired, sold or placed in service. A further indicator of the predictability of future revenues is the expected lease expirations of our portfolio. As a result, in addition to seeking to increase our average occupancy by leasing current vacant space, we also must concentrate our leasing efforts on renewing leases on expiring space. For more information regarding our lease expirations, see "Properties - Lease Expirations" in our 2012 Annual Report. Our occupancy declined from 90.9% at December 31, 2012 to 90.0% at September 30, 2013 primarily due to a scheduled expiration of a large customer in Tampa, FL and the acquisition of relatively low occupied buildings in Atlanta, GA, Nashville, TN and Orlando, FL in the second and third quarters and the disposition of relatively high occupied industrial buildings in Atlanta, GA.

Whether or not our rental revenue tracks average occupancy proportionally depends upon whether rents under signed new and renewal leases are higher or lower than the rents under the previous leases. Annualized rental revenues from second generation leases expiring during any particular year are generally less than 15% of our total annual rental revenues. The following table sets forth information regarding second generation leases signed during the third quarter of 2013 (we define second generation leases as leases with new customers, renewals of existing customers for space that has been previously occupied under our ownership and leases with respect to vacant space in acquired buildings):

                                         Office                   Industrial                  Retail
                                    New        Renewal        New         Renewal        New       Renewal
Leased space (in rentable square
feet)                             251,375      977,133       41,544        42,164       6,042        7,390
Square foot weighted average
term (in years)                       6.3          6.0          5.2           1.8        10.2          2.0
Base rents (per square foot) (1) $  24.26     $  23.26     $   4.27     $    6.63     $ 51.67     $  38.37
Rent concessions (per square
foot) (1)                           (0.74 )      (0.39 )      (0.30 )           -           -            -
GAAP rents (per square foot) (1) $  23.52     $  22.87     $   3.97     $    6.63     $ 51.67     $  38.37
Tenant improvements (per square
foot) (1)                        $   2.79     $   1.75     $   1.08     $    0.17     $  6.29     $   0.72
Leasing commissions (per square
foot) (1)                        $   0.95     $   0.62     $   0.17     $    0.09     $  0.25     $   1.35


__________


(1) Weighted average per rentable square foot on an annual basis over the lease term.


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Compared to previous leases, annual GAAP rents for new and renewal leases combined were $23.01 per square foot, or 9.4% higher, for office leases, $5.31 per square foot, or 9.1% lower, for industrial leases and $44.35 per square foot, or 17.3% higher, for retail leases.

We strive to maintain a diverse, stable and creditworthy customer base. We have an internal guideline whereby customers that account for more than 3% of our revenues are periodically reviewed with the Company's Board of Directors. Currently, no customer accounts for more than 3% of our revenues other than the Federal Government, which accounted for less than 10.0% of our revenues on an annualized basis, as of September 30, 2013.

Our expenses primarily consist of rental property expenses, depreciation and amortization, general and administrative expenses and interest expense. From time to time, expenses also include impairments of real estate assets. Rental property expenses are expenses associated with our ownership and operation of rental properties and include expenses that vary somewhat proportionately to occupancy levels, such as maintenance, repairs and utilities, and expenses that do not vary based on occupancy, such as property taxes and insurance. Depreciation and amortization is a non-cash expense associated with the ownership of real property and generally remains relatively consistent each year, unless we buy, place in service or sell assets, since we depreciate our properties and related building and tenant improvement assets on a straight-line basis over fixed lives. General and administrative expenses, net of amounts capitalized, consist primarily of management and employee salaries and other personnel costs, corporate overhead and long-term incentive compensation.

We intend to maintain a conservative and flexible balance sheet that allows us to capitalize on favorable development and acquisition opportunities as they arise. We have announced the commencement of $205.6 million of new development in 2013. Such projects would not be placed in service until 2015 or beyond. To date in 2013, we have acquired $548.5 million of properties and sold $196.8 million of non-core assets. We anticipate selling up to an additional $53 million of non-core properties during the remainder of 2013. We generally seek to acquire and develop assets that are consistent with our Strategic Plan, improve the average quality of our overall portfolio and deliver consistent and sustainable value for our stockholders over the long-term. Whether or not an asset acquisition or new development results in higher per share net income or FFO in any given period depends upon a number of factors, including whether the net operating income for any such period exceeds the actual cost of capital used to finance the acquisition. Forward-looking information regarding 2013 operating performance contained below under "Results of Operations" excludes the impact of any potential acquisitions or dispositions that are completed during the remainder of 2013.

Results of Operations

Three Months Ended September 30, 2013 and 2012

Rental and Other Revenues

Rental and other revenues from continuing operations were $23.9 million, or 19.3%, higher in the third quarter of 2013 as compared to 2012 primarily due to recent acquisitions, which accounted for $22.5 million of the increase, and the recognition of $1.1 million of deferred leasing commission income that was received in connection with the acquisition of our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture. This amount relates to leasing fees that were scheduled to have been paid to us by the joint venture over the term of leases signed before the transaction.

Operating Expenses

Rental property and other expenses were $9.5 million, or 20.6%, higher in the third quarter of 2013 as compared to 2012 primarily due to recent acquisitions, which accounted for $9.1 million of the increase, and higher same property operating expenses of $0.6 million. Same property operating expenses were higher in the third quarter of 2013 as compared to 2012 primarily due to higher repairs and maintenance and contract services, partly offset by lower utilities.

Operating margin, defined as rental and other revenues less rental property and other expenses expressed as a percentage of rental and other revenues, was lower at 62.4% for the third quarter of 2013 as compared to 62.8% for the third quarter of 2012.

Depreciation and amortization was $11.1 million, or 29.9%, higher in the third quarter of 2013 as compared to 2012 primarily due to recent acquisitions.

General and administrative expenses were $0.8 million, or 7.8%, lower in the third quarter of 2013 as compared to 2012 primarily due to lower incentive compensation, partly offset by higher salaries and acquisition costs.


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Interest Expense

Interest expense was relatively unchanged in the third quarter of 2013 as compared to 2012 due to higher average debt balances and financing obligation interest expense offset by lower average interest rates and higher capitalized interest.

Other Income

Other income was $0.4 million, or 19.1%, lower in the third quarter of 2013 as compared to 2012 primarily due to a bankruptcy settlement in 2012.

Gain on Acquisition of Controlling Interest in Unconsolidated Affiliate

We recorded a gain on acquisition of controlling interest in unconsolidated affiliate of $7.5 million in the third quarter of 2013 due to acquiring our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture.

Equity in Earnings/(Losses) of Unconsolidated Affiliates

Equity in earnings/(losses) of unconsolidated affiliates was $4.5 million lower in the third quarter of 2013 as compared to 2012 primarily due to our share of impairment of real estate assets on an office property in our DLF I joint venture of $3.5 million, which resulted from a change in the assumed timing of future disposition, and the acquisition of our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture in the third quarter of 2013.

Net Gains on Disposition of Discontinued Operations

Net gains on disposition of discontinued operations were $15.0 million higher in the third quarter of 2013 as compared to 2012 due to the net effect of our disposition activity.

Earnings Per Common Share - Diluted

Diluted earnings per common share was $0.18, or 41.9%, higher in the third quarter of 2013 as compared to 2012 due to an increase in net income for the reasons discussed above, offset by an increase in the weighted average Common Shares outstanding from the 2012 and 2013 issuances under our equity sales agreements and the August 2013 Common Stock offering.

Nine Months Ended September 30, 2013 and 2012

Rental and Other Revenues

Rental and other revenues from continuing operations were $47.9 million, or 13.0%, higher in the nine months ended September 30, 2013 as compared to 2012 primarily due to recent acquisitions, which accounted for $46.6 million of the increase, and the recognition of $1.1 million of deferred leasing commission income that was received in connection with the acquisition of our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture. This amount relates to leasing fees that were scheduled to have been paid to us by the joint venture over the term of leases signed before the transaction.

Operating Expenses

Rental property and other expenses were $17.7 million, or 13.2%, higher in the nine months ended September 30, 2013 as compared to 2012 primarily due to recent acquisitions, which contributed $18.0 million to the net increase.

Operating margin, defined as rental and other revenues less rental property and other expenses expressed as a percentage of rental and other revenues, was slightly lower at 63.5% for the nine months ended September 30, 2013, as compared to 63.6% for the nine months ended September 30, 2012.

Depreciation and amortization was $19.7 million, or 17.8%, higher in the nine months ended September 30, 2013 as compared to 2012 primarily due to recent acquisitions.

General and administrative expenses were $0.4 million, or 1.2%, lower in the nine months ended September 30, 2013 as compared to 2012 primarily due to lower incentive compensation, partly offset by higher salaries and acquisition costs.


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Interest Expense

Interest expense was $1.8 million, or 2.5%, lower in the nine months ended September 30, 2013 as compared to 2012 primarily due to lower average interest rates and higher capitalized interest, partly offset by higher average debt balances.

Other Income

Other income was $0.1 million, or 2.5%, lower in the nine months ended September 30, 2013 as compared to 2012 primarily due to a decrease in interest income on notes receivable resulting from the 2012 repayment of a secured loan made to our DLF I joint venture in 2011 and a bankruptcy settlement in 2012, partly offset by a higher loss on debt extinguishment in 2012.

Gain on Acquisition of Controlling Interest in Unconsolidated Affiliate

We recorded a gain on acquisition of controlling interest in unconsolidated affiliate of $7.5 million in the nine months ended September 30, 2013 due to acquiring our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture.

Equity in Earnings/(Losses) of Unconsolidated Affiliates

Equity in earnings/(losses) of unconsolidated affiliates was $4.5 million lower in the nine months ended September 30, 2013 as compared to 2012 primarily due to our share of impairments of real estate assets on certain office properties in our DLF I joint venture of $4.5 million in the first and third quarters of 2013 and the acquisition of our joint venture partner's 60.0% interest in the HIW-KC Orlando, LLC joint venture in the third quarter of 2013. Partly offsetting this decrease was our share of impairments of real estate assets on two office properties in our DLF I joint venture of $1.0 million in the first quarter of 2012. These impairments were due to a change in the assumed timing of future dispositions and/or leasing assumptions.

Impairments of Real Estate Assets in Discontinued Operations

Impairments of real estate assets in discontinued operations were $2.2 million higher in the nine months ended September 30, 2013 as compared to 2012 due to impairments of $1.1 million on seven industrial properties in Atlanta, GA in the first quarter of 2013 and $1.1 million on four properties in a single office park in Winston-Salem, NC in the second quarter of 2013. These impairments were due to a change in the assumed timing of future dispositions and leasing assumptions. We recorded no such impairments in the first nine months of 2012.

Net Gains on Disposition of Discontinued Operations

Net gains on disposition of discontinued operations were $22.9 million higher in the nine months ended September 30, 2013 as compared to 2012 due to the net effect of our disposition activity.

Earnings Per Common Share - Diluted

Diluted earnings per common share was $0.27, or 32.1%, higher in the nine months ended September 30, 2013 as compared to 2012 due to an increase in net income for the reasons discussed above, offset by an increase in the weighted average Common Shares outstanding from the 2012 and 2013 issuances under our equity sales agreements and the August 2013 Common Stock offering.


Table of Contents

Liquidity and Capital Resources

Overview

Our goal is to maintain a conservative and flexible balance sheet with access to multiple sources of debt and equity capital and sufficient availability under our revolving credit facility. We generally use rents received from customers to fund our operating expenses, recurring capital expenditures and distributions. To fund property acquisitions, development activity or building renovations and repay debt upon maturity, we may use current cash balances, sell assets, obtain new debt and/or issue equity. Our debt generally consists of mortgage debt, unsecured debt securities, bank term loans and borrowings under our revolving credit facility.

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