Business Context and Reporting Period
Company: Highwoods Properties, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2006
Business Overview: A fully-integrated, self-administered equity REIT operating office, industrial, retail, and apartment properties in the southeastern and midwestern United States. As of September 30, 2006, the portfolio included 414 in-service properties (34.9 million square feet) and 96 apartment units, plus 798 acres of development land.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2006 | Nine Months Ended Sep 30, 2006 |
|---|---|---|
| Rental and Other Revenues | $106.3 million | $313.9 million |
| Net Income | $8.9 million | $29.3 million |
| Net Income Available to Common Stockholders | $4.8 million | $14.6 million |
| Diluted EPS (Common) | $0.09 | $0.26 |
| Funds From Operations (FFO) | $32.8 million ($0.53/share) | $101.1 million ($1.66/share) |
| Total Assets | $2.83 billion (as of Sep 30, 2006) | |
| Total Debt (Mortgages & Notes Payable) | $1.46 billion | |
| Cash and Cash Equivalents | $7.5 million | |
| Revolving Credit Facility Availability | $167.7 million (as of Oct 19, 2006) |
Material Changes vs. Prior Period
- Revenue Growth: Rental revenues increased 6.2% for the quarter and 4.3% for the nine-month period compared to 2005, driven by higher occupancy, new developments, and the consolidation of the Markel joint venture.
- Net Income Decline: Net income available to common stockholders decreased 59.7% for the quarter and 49.8% for the nine-month period. This was primarily due to significantly lower gains from discontinued operations (property sales) compared to the prior year.
- Discontinued Operations: Gains on sales of discontinued operations dropped from $10.1 million to $2.6 million in the quarter, and from $24.9 million to $4.6 million for the nine-month period.
- Impairment Charges: Impairment of assets held for use decreased to $2.6 million for the quarter (from $4.4 million) and $2.6 million for the nine months (from $7.6 million).
- Capital Structure: The company redeemed $50 million of Series B Preferred Stock in Q1 2006. Total debt decreased slightly to $1.46 billion from $1.47 billion at year-end 2005.
Outlook, Risks, and Management Commentary
- Liquidity Strategy: Management continues a "capital recycling" program, disposing of non-core assets to fund development and debt reduction. Future capital expenditures for committed projects are estimated at $280 million.
- Debt Maturities: $110 million of unsecured notes mature in December 2006, and approximately $63 million of secured debt matures in February 2007. Management expects to refinance these using disposition proceeds or new debt issuance.
- Internal Control Deficiencies: Management identified a material weakness regarding the classification of assets held for sale under SFAS No. 144. Two assets totaling $14.5 million were reclassified from real estate assets to assets held for sale after the initial financial close. Disclosure controls were deemed ineffective as of the period end.
- Legal and Regulatory Risks:
- SEC Investigation: The SEC Division of Enforcement has issued a confidential formal order of investigation regarding previous financial restatements.
- Tax Assessments: The company received state excise tax assessments totaling approximately $4.5 million (plus potential additional $1.1 million) for periods 2002-2004. The company disputes these and has not recorded a provision.
- Forward-Looking Risks: Risks include speculative development by competitors, tenant financial deterioration, interest rate increases, and potential inability to refinance debt on favorable terms.
Investor Verification Checklist
- Asset Classification: Verify the impact of the reclassification of $14.5 million in assets to "held for sale" on future earnings and balance sheet presentation.
- Discontinued Operations: Assess the sustainability of earnings given the significant year-over-year decline in gains from property dispositions.
- Debt Refinancing: Monitor the company's ability to refinance the $110 million note maturing in December 2006 and the $63 million secured debt in February 2007.
- SEC Investigation Status: Track any updates regarding the SEC's confidential investigation into prior financial restatements.
- Tax Dispute Resolution: Monitor the outcome of the dispute regarding the $4.5 million state excise tax assessment.
- Internal Controls: Review future filings for confirmation that the material weakness regarding asset classification and financial reporting controls has been remediated.