Highwoods Properties, Inc. — FY 2011 Form 10-K
Reporting period: Fiscal year ended December 31, 2011; the filing also reports unaudited fourth-quarter results. Highwoods is a self-managed equity REIT focused primarily on office properties in the Southeastern and Midwestern United States. It wholly owned 303 in-service properties totaling 29.3 million rentable square feet and held interests in 35 additional in-service office properties. Office properties generated 87% of rental and other revenue.
Key financial results
| Metric | 2011 | 2010 | Change |
|---|---|---|---|
| Rental and other revenue | $482.9 million | $461.1 million | Up 4.7% |
| Income from continuing operations | $44.5 million | $70.9 million | Down 37.2% |
| Net income available to common stockholders | $38.7 million | $61.8 million | Down 37.4% |
| Basic and diluted EPS | $0.54 | $0.86 | Down $0.32 |
| Funds from operations (FFO), a non-GAAP measure | $190.2 million; $2.50 per share | $184.7 million; $2.44 per share | Up 3.0% in amount |
| Net operating income (NOI) | $306.7 million | $297.5 million | Up 3.1% |
| Same-property NOI | $282.2 million | $284.7 million | Down 0.9% |
| Same-property cash NOI | $270.9 million | $272.5 million | Down 0.6% |
Fourth-quarter revenue was $128.7 million, continuing-operations income was $12.9 million, and basic and diluted EPS was $0.16. The annual net-income comparison was affected by lower gains on disposition of unconsolidated affiliates: $2.3 million in 2011 versus $25.3 million in 2010. The 2011 results also included a $2.4 million impairment charge and a $1.9 million charge related to redeeming Series B preferred stock.
Operations, cash flow, debt and liquidity
- Wholly owned in-service properties were 90.0% occupied at year-end, compared with 90.3% in 2010. Average occupancy was 89.6% for 2011; management’s same-property average was 90.2%, up from 89.7% in 2010. Same-property revenue was approximately flat, as higher occupancy was offset by slightly lower GAAP rent per square foot.
- Operating margin, defined as revenue less property expenses divided by revenue, declined to 63.5% from 64.5%. Property expenses rose 7.6%, reflecting acquisitions, newly placed development properties, and higher same-property real estate taxes and utilities.
- Operating cash flow was $195.4 million, investing cash outflow was $215.5 million, and financing cash inflow was $17.1 million. Cash and cash equivalents ended the year at $11.2 million; restricted cash was $26.7 million.
- Mortgages and notes payable totaled $1.903 billion, up from $1.523 billion. Debt was 46.6% of the undepreciated book value of assets. Debt included $750.0 million of secured borrowings at a 5.51% weighted average rate and approximately $1.2 billion of unsecured borrowings at 4.28%.
- The $475 million unsecured revolver had $362 million drawn and $112.8 million unused at year-end. By February 1, 2012, after subsequent financing activity and repayments, unused capacity was $326.8 million. Management stated it expected cash, operating cash flow and revolver availability to cover short-term needs and reported compliance with debt covenants.
- Scheduled principal payments on company debt included approximately $85.6 million in 2012, $245.9 million in 2013, $407.0 million in 2015 and $358.5 million in 2016. The company also had $146.9 million of its proportionate share of unconsolidated joint-venture debt; that debt was generally non-recourse, subject to customary exceptions.
- Common dividends remained $1.70 per share for 2011, matching 2010; $0.55 per share was characterized as return of capital for tax purposes. Common dividends paid totaled $122.7 million.
Material changes and management outlook
- 2011 acquisitions included a 1.54-million-square-foot Pittsburgh office complex and a 503,000-square-foot Atlanta office building, as well as a Raleigh medical office property. Acquisitions and developments accounted for most of the year-over-year revenue increase. The company sold a Winston-Salem office property and adjacent land for $15.0 million gross proceeds.
- Management expected 2012 average occupancy to be similar to 2011. It expected revenue to increase, supported by a full year of contribution from 2011 acquisitions and slightly higher occupancy; property expenses and depreciation were also expected to increase. Management expected operating margin to be similar, G&A to decline, and interest expense to rise.
- Management anticipated up to $150 million of new development starts, up to $300 million of acquisitions and up to $150 million of non-core property sales in 2012. It expected debt relative to undepreciated book assets to remain below 50%. These are forward-looking expectations, not guarantees.
- In fourth-quarter leasing, the company leased 1.1 million square feet of second-generation office space at a weighted average 6.8-year term. GAAP rents were $21.96 per square foot, 2.8% above rents under the prior leases; tenant improvements averaged $11.45 per square foot, commissions $4.58, and rent concessions $3.41.
- In January 2012, the company obtained a $225 million, seven-year unsecured term loan at LIBOR plus 190 basis points and used the proceeds to repay revolver borrowings. Forward-starting swaps fixed the loan’s underlying LIBOR rate at a weighted average 1.678%.
Risks, contingencies and notable disclosures
- Office leasing and operating results are sensitive to employment and economic conditions in the company’s markets, occupancy and rental rates, tenant credit, competition, and leasing costs. Approximately 11.1% of total annualized cash rental revenue was scheduled to expire in 2012 and 14.2% in 2013.
- The Federal Government generated 9.2% of annualized cash rental revenue; the 20 largest customers represented 31.6%. Lease renewals, customer downsizing or defaults could pressure revenue and require additional tenant incentives or capital spending.
- Risks include refinancing and interest-rate exposure, covenant compliance, rising property costs, development and acquisition execution, joint-venture partner performance, environmental and insurance matters, and continued qualification as a REIT. A 100-basis-point rise in rates on unhedged variable-rate debt was estimated to increase annual interest expense by $6.1 million.
- The company reported ordinary-course legal matters that it did not expect to have a material adverse effect. Environmental assessments had not identified a liability management believed would materially affect the financial statements. A limited rent guarantee had maximum exposure of approximately $0.3 million, with no accrual recorded because loss was not considered probable.
- Prior-period financial results were revised to reflect certain properties in discontinued operations. 2010 and 2009 FFO were also revised to exclude impairment of depreciable real estate assets under updated NAREIT guidance. Deloitte & Touche issued unqualified opinions on the company’s financial statements and internal controls; management also concluded that the Operating Partnership’s controls were effective.
Most important facts for investors to verify
- Whether occupancy and leasing spreads improve as management expected, and how the 2012–2014 lease expirations perform on renewals and re-leasing.
- Whether same-property NOI stabilizes after its 2011 decline, particularly given rising taxes, utilities and other property costs.
- Debt maturities, refinancing terms, covenant headroom and revolver availability, including the effect of acquisitions and subsequent borrowing on leverage and liquidity.
- The quality and recurring nature of earnings: reconcile GAAP income and EPS with FFO, disposition gains, impairment charges and preferred-stock redemption costs.
- Actual delivery and leasing of planned development and acquisition activity, required capital spending, and the company’s ability to sustain its $1.70 annual common dividend.
- Changes in major-tenant exposure, joint-venture debt and obligations, and any developments affecting REIT qualification or disclosed contingencies.