Highwoods Properties, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. Highwoods is an office REIT operating through Highwoods Realty Limited Partnership, with 30.9 million rentable square feet in service, 0.6 million square feet under development and about 400 acres of development land. Amounts below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Rental and other revenues | $180.2 | $166.3 | $526.9 | $498.0 |
| Income from continuing operations | $59.5 | $33.8 | $132.6 | $95.5 |
| Net income | $59.5 | $33.8 | $132.6 | $514.1 |
| Net income available to common stockholders | $57.0 | $32.0 | $126.3 | $496.4 |
| Diluted EPS | $0.55 | $0.32 | $1.23 | $5.08 |
| Funds from operations (FFO) per share | $0.86 | $0.82 | $2.55 | $2.46 |
| Net cash from operating activities | — | — | $270.2 | $232.4 |
- Q3 net operating income (NOI) from continuing operations was $119.0 million, up 10.5%; same-property NOI was $105.8 million, up 3.2%. Nine-month NOI was $349.4 million, up 7.7%; same-property NOI was $317.5 million, up 2.6%.
- Q3 contractual interest expense was $16.4 million; total interest expense, including debt-cost amortization, was $17.2 million. Nine-month total interest expense was $51.2 million, down from $58.8 million.
- Common dividend declared was $0.44 per share for Q3, versus $0.425 a year earlier. The company declared another $0.44 per share for payment in December 2017.
Material changes and operating developments
- Revenue increased 8.4% in Q3 and 5.8% year to date, supported by developments placed in service, same-property growth and acquisitions. Q3 growth also included $1.5 million from acquisitions and $7.9 million from developments placed in service.
- Office occupancy declined from 92.9% at year-end 2016 to 92.2% at September 30, primarily due to scheduled expirations in Nashville and Atlanta. Q3 leases signed for 1.10 million square feet; weighted-average GAAP rents were 11.3% above prior leases in those spaces.
- Q3 sales of 12 buildings generated $78.0 million before buyer closing credits and $19.8 million of gains. Real estate impairments were $1.4 million. The company reported $25.2 million of property-sale gains for the first nine months.
- The nine-month 2016 comparison is substantially affected by the sale of the Country Club Plaza assets: 2016 included $418.6 million of discontinued-operations income and $414.5 million of discontinued-operations sale gains. Accordingly, the decline in total net income and EPS year over year does not reflect the trend in continuing operations.
- FFO, a non-GAAP measure, rose to $90.9 million in Q3 from $84.1 million and to $268.8 million for nine months from $247.7 million. FFO excludes, among other items, real estate depreciation and gains on property sales; it is not a substitute for GAAP earnings or cash flow.
Balance sheet, cash flow and liquidity
- At September 30, total assets were $4.56 billion and net real estate assets were $4.03 billion. Mortgages and notes payable, net, totaled $1.97 billion, compared with $1.95 billion at year-end 2016. Debt comprised $99.4 million secured and $1.88 billion unsecured.
- Debt represented 26.5% of total capitalization; the company’s leverage ratio, based on debt and preferred stock relative to undepreciated asset book value, was 34.7%. Weighted-average rates were 4.0% on secured debt and 3.54% on unsecured debt. $557 million of debt was variable-rate or not protected by hedges.
- Cash and cash equivalents were $4.9 million, down from $49.5 million at year-end; restricted cash was $47.8 million. Operating cash flow was $270.2 million. Investing activities used $176.6 million, including $121.4 million for development and $78.7 million for tenant improvements and leasing costs. Financing activities used $138.3 million, including $81.2 million of special common dividends.
- At September 30, the existing $475 million revolving facility had $72.0 million drawn and $402.4 million of unused capacity. On October 18, the company replaced it with a $600 million facility maturing in January 2022, with an accordion for up to $400 million subject to lender commitments. At October 18, $200 million was drawn and $399.4 million remained available.
- Also on October 18, the company extended a $200 million term loan to November 2022 and reduced its spread from LIBOR plus 120 to LIBOR plus 110 basis points. It prepaid $125 million on a $350 million term loan, leaving $225 million due June 2020. Management said it expected to meet short-term liquidity needs, including $200 million of notes due April 2018, using operating cash flow and financing sources.
Outlook, risks and unusual items
- No quantitative earnings or FFO guidance is provided in the supplied filing text. Management’s strategy is to focus on office properties in core-market business districts, improve leasing and operations, selectively develop or acquire assets, dispose of non-core properties and maintain liquidity; it generally aims to grow on a leverage-neutral basis.
- Five announced or in-process developments totaled about 728,400 square feet, with anticipated total investment of $246.0 million and 82.1% pre-leased. Expected capital expenditures for started or committed developments were about $226 million; contractual commitments through September 30, 2018 were $197.6 million.
- Management identified risks including tenant credit deterioration, slower or less favorable leasing, weaker office employment or economic growth, excess competitive supply, higher interest rates or operating costs, project delays or cost overruns, and difficulty obtaining capital or refinancing debt. Debt agreements contain financial covenants, acceleration and, in some cases, cross-default provisions. The company reported covenant compliance at period-end but cautioned that future compliance is not assured.
- Interest-rate swaps included $150 million of forward-starting swaps locking the 10-year Treasury rate at 2.44% for planned debt issuance, and $50 million of floating-to-fixed swaps through January 2022. The company reported no hedge ineffectiveness for the periods presented.
- The filing discusses upcoming accounting-standard changes, including lease accounting and expected expensing of certain leasing costs under the new lease standard; management was still evaluating the financial impact.
Important facts for investors to verify
- Whether occupancy stabilizes or improves, particularly following expirations in Atlanta and Nashville, and whether signed rent increases translate into realized revenue and cash flow.
- Progress, leasing, costs and delivery timing for the development pipeline, and the funding needs associated with committed development spending.
- Debt maturities, refinancing terms, variable-rate exposure and available revolver capacity after the October 2017 facility changes.
- The sustainability of dividends relative to recurring cash generation and FFO, considering the special dividend paid during the period and low period-end unrestricted cash.
- How much reported earnings growth depends on property-sale gains, and the effects of the $1.4 million impairment and future asset dispositions.