HIGHWOODS PROPERTIES, INC. quarterly report, Q1 FY2014

Business context and reporting period

Highwoods Properties, Inc. and its operating partnership filed this combined, unaudited Form 10-Q for the quarter ended March 31, 2014. Highwoods is a REIT focused primarily on office properties. At quarter-end, it owned or held interests in 32.1 million rentable square feet of in-service properties, 0.8 million square feet under office development, and about 600 acres of development land.

Key financial metrics

Q1 investment cash use was $44.3 million, versus $99.3 million in Q1 2013; financing provided $16.0 million, versus $55.5 million. Cash and cash equivalents were $13.3 million at March 31. Mortgages and notes payable totaled $2.013 billion, including $485.5 million secured and $1.527 billion unsecured. Weighted-average rates were 4.98% on secured and 3.95% on unsecured debt. Debt and preferred stock were 36.2% of total capitalization and 42.2% of undepreciated asset book value. The $475 million revolver had $275 million drawn and $199.9 million unused at quarter-end.

Material changes versus the prior comparable period

• Revenue growth was primarily attributable to acquisitions and developments placed in service, which contributed $20.3 million of the increase; same-property revenue declined $1.7 million.
• Rental property expenses rose 21.0%, reflecting acquisitions and higher same-property costs, including utilities and snow removal. Depreciation and amortization increased 20.1%, principally due to acquisitions.
• Same-property NOI fell about 5.2%; same-property cash NOI was $75.0 million, compared with $77.1 million.
• Interest expense declined 10.5% to $21.4 million, mainly from lower average rates, partly offset by higher average debt.
• Net income available to common stockholders was slightly lower and diluted EPS declined. Q1 2013 included $2.5 million of discontinued-operations income, including impairment and disposition items; Q1 2014 included a $0.4 million gain tied to repayment of seller financing.
• Occupancy declined to 89.2% at March 31 from 89.9% at December 31, 2013, due mainly to customer move-outs in Tampa and Nashville.

Outlook, commentary, and risks

Management expected average occupancy of about 90.5% over the final three quarters of 2014 and year-end occupancy of 91.3%–92.5%, based on leases signed and forecast leasing activity. Management anticipated up to $150 million of new development starts, $100–$300 million of acquisitions, and $100–$175 million of non-core dispositions during 2014; these are plans, not assured outcomes. Started or committed development projects had $135.3 million remaining to fund at quarter-end.

Management expected higher remaining-2014 rental revenue, operating cash flow, and slightly improved operating margin, while also expecting higher property expenses and depreciation. Interest expense was expected to decrease, subject to higher average debt balances. On April 1, the company prepaid a $123.7 million mortgage without penalty. By April 21, revolver borrowings had increased to $409 million, leaving $65.9 million unused capacity. The company reported compliance with debt covenants but cautioned that future compliance is not assured.

Key risks include weaker customer credit, difficulty leasing vacant or newly completed space, excess market supply, slower economic growth, rising interest rates or operating costs, and inability to obtain capital or refinance debt on acceptable terms. Development, acquisition, disposition, and leasing plans may not be completed on expected terms or timing. The company also recorded a $1.353 million impairment of an investment in an unconsolidated affiliate, partly offsetting affiliate earnings; no real estate asset impairments were recorded in Q1 2014.

Important facts for investors to verify

• Whether occupancy recovers as forecast and whether signed lease rents translate into sustained revenue growth.
• Drivers and persistence of the decline in same-property NOI and operating margin.
• Revolver usage, remaining availability, debt maturities, refinancing costs, and continued covenant compliance.
• Funding and execution of planned development and acquisition activity, including the $135.3 million remaining commitment.
• That FFO is a non-GAAP measure and should be considered alongside GAAP earnings; FFO per share declined despite higher total FFO.