UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q 
(Mark one)
T
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended
September 30, 2012
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from
 
to
 
           
Commission file number 1-14023
Corporate Office Properties Trust
(Exact name of registrant as specified in its charter)
Maryland
 
23-2947217
(State or other jurisdiction of
 
(IRS Employer
incorporation or organization)
 
Identification No.)
6711 Columbia Gateway Drive, Suite 300, Columbia, MD
21046
(Address of principal executive offices)
 
(Zip Code)
 
Registrant’s telephone number, including area code:  (443) 285-5400
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
ý Yes   o No
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
ý Yes   o No
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer o
 
Non-accelerated filer o
 
Smaller reporting company o
 
 
 
 
(Do not check if a smaller reporting company)
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) o Yes   ý No
 
As of October 18, 2012, 80,793,776 of the Company’s Common Shares of Beneficial Interest, $0.01 par value, were issued and outstanding.
 
 
 
 
 



TABLE OF CONTENTS
 
FORM 10-Q
 
 
PAGE
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2


PART I: FINANCIAL INFORMATION
ITEM 1. Financial Statements
Corporate Office Properties Trust and Subsidiaries
Consolidated Balance Sheets
(in thousands, except share data)
(unaudited)
 
September 30,
2012
 
December 31,
2011
Assets
 

 
 

Properties, net:
 

 
 

Operating properties, net
$
2,487,919

 
$
2,714,056

Projects in development or held for future development
614,595

 
638,919

Total properties, net
3,102,514

 
3,352,975

Assets held for sale, net
137,815

 
116,616

Cash and cash equivalents
5,009

 
5,559

Restricted cash and marketable securities
20,926

 
36,232

Accounts receivable (net of allowance for doubtful accounts of $4,754 and $3,546, respectively)
15,877

 
26,032

Deferred rent receivable
83,156

 
86,856

Intangible assets on real estate acquisitions, net
81,059

 
89,120

Deferred leasing and financing costs, net
58,753

 
66,515

Prepaid expenses and other assets
92,547

 
87,619

Total assets
$
3,597,656

 
$
3,867,524

Liabilities and equity
 

 
 

Liabilities:
 

 
 

Debt, net
$
2,169,315

 
$
2,426,303

Accounts payable and accrued expenses
87,390

 
96,425

Rents received in advance and security deposits
26,773

 
29,548

Dividends and distributions payable
26,954

 
35,038

Deferred revenue associated with operating leases
13,102

 
15,554

Distributions received in excess of investment in unconsolidated real estate joint venture
6,420

 
6,071

Interest rate derivatives
6,543

 
30,863

Other liabilities
10,938

 
9,657

Total liabilities
2,347,435

 
2,649,459

Commitments and contingencies (Note 16)


 


Equity:
 

 
 

Corporate Office Properties Trust’s shareholders’ equity:
 

 
 

Preferred Shares of beneficial interest at liquidation preference ($0.01 par value; shares authorized of 25,000,000 at September 30, 2012 and 15,000,000 at December 31, 2011; shares issued and outstanding of 12,821,667 at September 30, 2012 and 8,121,667 at December 31, 2011)
333,833

 
216,333

Common Shares of beneficial interest ($0.01 par value; 125,000,000 shares authorized, shares issued and outstanding of 72,157,635 at September 30, 2012 and 72,011,324 at December 31, 2011)
722

 
720

Additional paid-in capital
1,455,558

 
1,452,393

Cumulative distributions in excess of net income
(610,659
)
 
(532,288
)
Accumulated other comprehensive loss
(5,688
)
 
(1,733
)
Total Corporate Office Properties Trust’s shareholders’ equity
1,173,766

 
1,135,425

Noncontrolling interests in subsidiaries:
 

 
 

Common units in the Operating Partnership
48,973

 
55,281

Preferred units in the Operating Partnership
8,800

 
8,800

Other consolidated entities
18,682

 
18,559

Noncontrolling interests in subsidiaries
76,455

 
82,640

Total equity
1,250,221

 
1,218,065

Total liabilities and equity
$
3,597,656

 
$
3,867,524

See accompanying notes to consolidated financial statements.

3


Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Operations
(In thousands, except per share data)
(unaudited)
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Revenues
 

 
 

 
 
 
 
Rental revenue
$
92,783

 
$
87,692

 
$
273,089

 
$
258,896

Tenant recoveries and other real estate operations revenue
22,078

 
20,286

 
63,598

 
58,117

Construction contract and other service revenues
15,283

 
18,729

 
53,812

 
67,854

Total revenues
130,144

 
126,707

 
390,499

 
384,867

Expenses
 

 
 

 
 

 
 

Property operating expenses
42,799

 
41,669

 
126,339

 
123,135

Depreciation and amortization associated with real estate operations
28,698

 
31,269

 
84,920

 
84,205

Construction contract and other service expenses
14,410

 
18,171

 
51,302

 
65,698

Impairment losses
46,096

 
—

 
41,260

 
42,983

General and administrative expenses
5,061

 
6,154

 
19,820

 
19,251

Business development expenses and land carry costs
1,632

 
1,751

 
4,506

 
4,322

Total operating expenses
138,696

 
99,014

 
328,147

 
339,594

Operating (loss) income
(8,552
)
 
27,693

 
62,352

 
45,273

Interest expense
(23,239
)
 
(24,176
)
 
(71,909
)
 
(74,861
)
Interest and other income (loss)
1,095

 
(242
)
 
3,152

 
3,682

Loss on early extinguishment of debt
(768
)
 
(1,611
)
 
(937
)
 
(1,636
)
(Loss) income from continuing operations before equity in loss of unconsolidated entities and income taxes
(31,464
)
 
1,664

 
(7,342
)
 
(27,542
)
Equity in loss of unconsolidated entities
(246
)
 
(159
)
 
(522
)
 
(223
)
Income tax (expense) benefit
(106
)
 
457

 
(4,296
)
 
6,043

(Loss) income from continuing operations
(31,816
)
 
1,962

 
(12,160
)
 
(21,722
)
Discontinued operations
11,051

 
5,508

 
10,212

 
(18,109
)
(Loss) income before gain on sales of real estate
(20,765
)
 
7,470

 
(1,948
)
 
(39,831
)
Gain on sales of real estate, net of income taxes
—

 
—

 
21

 
2,728

Net (loss) income
(20,765
)
 
7,470

 
(1,927
)
 
(37,103
)
Net loss (income) attributable to noncontrolling interests:
 

 
 

 
 

 
 

Common units in the Operating Partnership
1,569

 
(178
)
 
1,020

 
3,188

Preferred units in the Operating Partnership
(165
)
 
(165
)
 
(495
)
 
(495
)
Other consolidated entities
(411
)
 
(561
)
 
(939
)
 
(1,038
)
Net (loss) income attributable to Corporate Office Properties Trust
(19,772
)
 
6,566

 
(2,341
)
 
(35,448
)
Preferred share dividends
(6,546
)
 
(4,025
)
 
(14,738
)
 
(12,076
)
Issuance costs associated with redeemed preferred shares
(1,827
)
 
—

 
(1,827
)
 
—

Net (loss) income attributable to Corporate Office Properties Trust common shareholders
$
(28,145
)
 
$
2,541

 
$
(18,906
)
 
$
(47,524
)
Net (loss) income attributable to Corporate Office Properties Trust:
 

 
 

 
 

 
 

(Loss) income from continuing operations
$
(30,200
)
 
$
1,381

 
$
(12,015
)
 
$
(18,454
)
Discontinued operations, net
10,428

 
5,185

 
9,674

 
(16,994
)
Net (loss) income attributable to Corporate Office Properties Trust
$
(19,772
)
 
$
6,566

 
$
(2,341
)
 
$
(35,448
)
Basic earnings per common share (1)
 

 
 

 
 

 
 

Loss from continuing operations
$
(0.54
)
 
$
(0.04
)
 
$
(0.40
)
 
$
(0.46
)
Discontinued operations
0.15

 
0.07

 
0.13

 
(0.24
)
Net (loss) income attributable to COPT common shareholders
$
(0.39
)
 
$
0.03

 
$
(0.27
)
 
$
(0.70
)
 
 
 
 
 
 
 
 
Diluted earnings per common share (1)
 

 
 

 
 
 
 
Loss from continuing operations
$
(0.54
)
 
$
(0.04
)
 
$
(0.40
)
 
$
(0.46
)
Discontinued operations
0.15

 
0.07

 
0.13

 
(0.24
)
Net (loss) income attributable to COPT common shareholders
$
(0.39
)
 
$
0.03

 
$
(0.27
)
 
$
(0.70
)
Dividends declared per common share
$
0.2750

 
$
0.4125

 
$
0.8250

 
$
1.2375

(1) Basic and diluted earnings per common share are calculated based on amounts attributable to common shareholders of Corporate Office Properties Trust.
See accompanying notes to consolidated financial statements.

4


Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Comprehensive Income
(in thousands)
(unaudited)
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Net (loss) income
$
(20,765
)
 
$
7,470

 
$
(1,927
)
 
$
(37,103
)
Other comprehensive loss
 

 
 

 
 

 
 

Unrealized losses on interest rate derivatives
(2,760
)
 
(21,869
)
 
(7,386
)
 
(30,463
)
Losses on interest rate derivatives included in net (loss) income
632

 
1,179

 
3,034

 
3,446

Other comprehensive loss
(2,128
)
 
(20,690
)
 
(4,352
)
 
(27,017
)
Comprehensive loss
(22,893
)
 
(13,220
)
 
(6,279
)
 
(64,120
)
Comprehensive loss (income) attributable to noncontrolling interests
1,111

 
302

 
(171
)
 
3,249

Comprehensive loss attributable to COPT
$
(21,782
)
 
$
(12,918
)
 
$
(6,450
)
 
$
(60,871
)
 
See accompanying notes to consolidated financial statements.


5


Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Equity
(Dollars in thousands)
(unaudited)
 
Preferred
Shares
 
Common
Shares
 
Additional
Paid-in
Capital
 
Cumulative
Distributions in
Excess of Net
Income
 
Accumulated
Other
Comprehensive
Loss
 
Noncontrolling
Interests
 
Total
Balance at December 31, 2010 (66,931,582 common shares outstanding)
$
216,333

 
$
669

 
$
1,295,592

 
$
(281,794
)
 
$
(4,163
)
 
$
96,501

 
$
1,323,138

Conversion of common units to common shares (83,506 shares)
—

 
1

 
1,275

 
—

 
—

 
(1,276
)
 
—

Common shares issued to the public (4,600,000 shares)
—

 
46

 
145,315

 
—

 
—

 
—

 
145,361

Exercise of share options (185,714 shares)
—

 
2

 
2,393

 
—

 
—

 
—

 
2,395

Share-based compensation
—

 
2

 
9,536

 
—

 
—

 
—

 
9,538

Restricted common share redemptions (112,683 shares)
—

 
—

 
(3,948
)
 
—

 
—

 
—

 
(3,948
)
Adjustments to noncontrolling interests resulting from changes in ownership of Operating Partnership by COPT
—

 
—

 
(2,542
)
 
—

 
—

 
2,542

 
—

Adjustments related to derivatives designated as cash flow hedges
—

 
—

 
—

 
—

 
(24,455
)
 
(2,562
)
 
(27,017
)
Net loss
—

 
—

 
—

 
(35,448
)
 
—

 
(1,655
)
 
(37,103
)
Dividends
—

 
—

 
—

 
(99,100
)
 
—

 
—

 
(99,100
)
Distributions to owners of common and preferred units in the Operating Partnership
—

 
—

 
—

 
—

 
—

 
(5,894
)
 
(5,894
)
Contributions from noncontrolling interests in other consolidated entities
—

 
—

 
(23
)
 
—

 
—

 
284

 
261

Distributions to noncontrolling interest in other consolidated entities
—

 
—

 
—

 
—

 
—

 
(8
)
 
(8
)
Balance at September 30, 2011 (71,986,936 common shares outstanding)
$
216,333

 
$
720

 
$
1,447,598

 
$
(416,342
)
 
$
(28,618
)
 
$
87,932

 
$
1,307,623

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2011 (72,011,324 common shares outstanding)
$
216,333

 
$
720

 
$
1,452,393

 
$
(532,288
)
 
$
(1,733
)
 
$
82,640

 
$
1,218,065

Conversion of common units to common shares (94,550 shares)
—

 
1

 
1,187

 
—

 
—

 
(1,188
)
 
—

Preferred shares issued to the public (6,900,000 shares)
172,500

 
—

 
(6,838
)
 
—

 
—

 
—

 
165,662

Costs associated with common shares issued to the public
—

 
—

 
(5
)
 
—

 
—

 
—

 
(5
)
Redemption of preferred shares (2,200,000 shares)
(55,000
)
 
—

 
1,827

 
(1,827
)
 
—

 
—

 
(55,000
)
Exercise of share options (44,624 shares)
—

 
—

 
666

 
—

 
—

 
—

 
666

Share-based compensation
—

 
1

 
9,191

 
—

 
—

 
—

 
9,192

Restricted common share redemptions (135,777 shares)
—

 
—

 
(3,279
)
 
—

 
—

 
—

 
(3,279
)
Adjustments to noncontrolling interests resulting from changes in ownership of Operating Partnership by COPT
—

 
—

 
373

 
—

 
—

 
(373
)
 
—

Adjustments related to derivatives designated as cash flow hedges
—

 
—

 
—

 
—

 
(3,955
)
 
(397
)
 
(4,352
)
Increase in tax benefit from share-based compensation
—

 
—

 
43

 
—

 
—

 
—

 
43

Net loss
—

 
—

 
—

 
(2,341
)
 
—

 
414

 
(1,927
)
Dividends
—

 
—

 
—

 
(74,203
)
 
—

 
—

 
(74,203
)
Distributions to owners of common and preferred units in the Operating Partnership
—

 
—

 
—

 
—

 
—

 
(3,993
)
 
(3,993
)
Distributions to noncontrolling interests in other consolidated entities
—

 
—

 
—

 
—

 
—

 
(648
)
 
(648
)
Balance at September 30, 2012 (72,157,635 common shares outstanding)
$
333,833

 
$
722

 
$
1,455,558

 
$
(610,659
)
 
$
(5,688
)
 
$
76,455

 
$
1,250,221

See accompanying notes to consolidated financial statements.

6


Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in thousands)
(unaudited) 
 
For the Nine Months Ended September 30,
 
2012
 
2011
Cash flows from operating activities
 

 
 

Revenues from real estate operations received
$
363,877

 
$
350,593

Construction contract and other service revenues received
58,637

 
73,382

Property operating expenses paid
(137,644
)
 
(143,481
)
Construction contract and other service expenses paid
(50,438
)
 
(73,009
)
General and administrative and business development expenses paid
(14,257
)
 
(15,921
)
Interest expense paid
(63,811
)
 
(69,237
)
Previously accreted interest expense paid
—

 
(17,314
)
Cash settlement of interest rate derivatives
(29,738
)
 
—

Proceeds from sale of trading marketable securities
18,975

 
—

Exit costs on property dispositions
(4,066
)
 
—

Payments in connection with early extinguishment of debt
(2,637
)
 
(350
)
Interest and other income received
786

 
377

Income taxes paid
(8
)
 
(174
)
Net cash provided by operating activities
139,676

 
104,866

Cash flows from investing activities
 

 
 

Purchases of and additions to properties
 

 
 

Construction, development and redevelopment
(107,621
)
 
(169,873
)
Acquisitions of operating properties
(48,308
)
 
(32,806
)
Tenant improvements on operating properties
(20,924
)
 
(27,421
)
Other capital improvements on operating properties
(9,571
)
 
(11,575
)
Proceeds from sales of properties
290,607

 
27,312

Proceeds from sale of equity method investment
—

 
5,773

Mortgage and other loan receivables funded or acquired
(11,603
)
 
(20,401
)
Mortgage and other loan receivables payments received
119

 
5,203

Leasing costs paid
(7,289
)
 
(10,357
)
Other
(1,646
)
 
(3,580
)
Net cash provided by (used in) investing activities
83,764

 
(237,725
)
Cash flows from financing activities
 

 
 

Proceeds from debt
 
 
 
Revolving Credit Facility
262,000

 
1,110,000

Other debt proceeds
399,296

 
438,619

Repayments of debt
 
 
 
Revolving Credit Facility
(844,000
)
 
(734,000
)
Scheduled principal amortization
(9,094
)
 
(10,647
)
Other debt repayments
(51,850
)
 
(698,050
)
Deferred financing costs paid
(3,210
)
 
(12,771
)
Net proceeds from issuance of preferred shares
165,662

 
—

Net proceeds from issuance of common shares
661

 
147,781

Redemption of preferred shares
(55,000
)
 
—

Common share dividends paid
(69,325
)
 
(84,971
)
Preferred share dividends paid
(12,345
)
 
(12,076
)
Distributions paid to noncontrolling interests in the Operating Partnership
(4,510
)
 
(5,937
)
Restricted share redemptions
(3,279
)
 
(3,948
)
Other
1,004

 
261

Net cash (used in) provided by financing activities
(223,990
)
 
134,261

Net (decrease) increase in cash and cash equivalents
(550
)
 
1,402

Cash and cash equivalents
 

 
 

Beginning of period
5,559

 
10,102

End of period
$
5,009

 
$
11,504

See accompanying notes to consolidated financial statements.

7


 

Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Cash Flows (continued)
(Dollars in thousands)
(unaudited)

 
For the Nine Months Ended September 30,
 
2012
 
2011
Reconciliation of net loss to net cash provided by operating activities:
 

 
 

Net loss
$
(1,927
)
 
$
(37,103
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 

 
 

Depreciation and other amortization
95,248

 
102,963

Impairment losses
60,593

 
72,347

Settlement of previously accreted interest expense
—

 
(17,314
)
Amortization of deferred financing costs
4,696

 
5,090

Increase in deferred rent receivable
(7,939
)
 
(7,587
)
Amortization of net debt discounts
2,357

 
4,778

Gain on sales of real estate
(20,969
)
 
(4,166
)
Gain on equity method investment
—

 
(2,452
)
Share-based compensation
8,262

 
8,156

(Gain) loss on early extinguishment of debt
(3,436
)
 
1,670

Other
(459
)
 
18

Changes in operating assets and liabilities:
 

 
 
Decrease (increase) in accounts receivable
10,063

 
(1,311
)
Decrease in restricted cash and marketable securities
15,051

 
3,035

Decrease (increase) in prepaid expenses and other assets
5,501

 
(8,197
)
Increase (decrease) in accounts payable, accrued expenses and other liabilities
3,413

 
(11,699
)
Decrease in rents received in advance and security deposits
(2,775
)
 
(3,362
)
Decrease in interest rate derivatives in connection with cash settlement
(28,003
)
 
—

Net cash provided by operating activities
$
139,676

 
$
104,866

Supplemental schedule of non-cash investing and financing activities:
 

 
 

(Decrease) increase in accrued capital improvements, leasing and other investing activity costs
$
(11,627
)
 
$
25,314

Increase in property, debt and other liabilities in connection with acquisitions
$
—

 
$
3,040

Decrease in property in connection with surrender of property in settlement of debt
$
12,812

 
$
—

Decrease in debt in connection with surrender of property in settlement of debt
$
16,304

 
$
—

Decrease in fair value of derivatives applied to AOCL and noncontrolling interests
$
4,398

 
$
27,064

Dividends/distribution payable
$
26,954

 
$
35,029

Decrease in noncontrolling interests and increase in shareholders’ equity in connection with the conversion of common units into common shares
$
1,188

 
$
1,276

Adjustments to noncontrolling interests resulting from changes in ownership of Operating Partnership by COPT
$
373

 
$
2,542

 
See accompanying notes to consolidated financial statements.


8


Corporate Office Properties Trust and Subsidiaries

Notes to Consolidated Financial Statements
(unaudited)
 
1.    Organization
 
Corporate Office Properties Trust (“COPT”) and subsidiaries (collectively, the “Company,” “we” or “us”) is a fully-integrated and self-managed real estate investment trust (“REIT”) that focuses primarily on serving the specialized requirements of strategic customers in the United States Government and defense information technology sectors.  We acquire, develop, manage and lease office and data center properties that are typically concentrated in large office parks primarily located adjacent to government demand drivers and/or in office markets that we believe possess growth opportunities.  As of September 30, 2012, our investments in real estate included the following:

•
206 operating office properties totaling 18.6 million square feet;
•
ten office properties under construction or redevelopment that we estimate will total approximately 1.2 million square feet upon completion, including two partially operational properties included above;
•
land held or under pre-construction totaling 1,696 acres (including 572 controlled but not owned) that we believe are potentially developable into approximately 19.8 million square feet; and
•
a partially operational, wholesale data center which upon completion and stabilization is expected to have a critical load of 18 megawatts.
 
We conduct almost all of our operations through our operating partnership, Corporate Office Properties, L.P. (the “Operating Partnership”), of which we are the managing general partner.  The Operating Partnership owns real estate both directly and through subsidiary partnerships and limited liability companies (“LLCs”).  A summary of our Operating Partnership’s forms of ownership and the percentage of those ownership forms owned by COPT as of September 30, 2012 follows: 
Common Units
94
%
Series H Preferred Units
100
%
Series I Preferred Units
0
%
Series J Preferred Units
100
%
Series K Preferred Units
100
%
Series L Preferred Units
100
%
 
Three of our trustees also controlled, either directly or through ownership by other entities or family members, an additional 5% of the Operating Partnership’s common units (“common units”) as of September 30, 2012.
 
In addition to owning real estate, the Operating Partnership also owns entities that provide real estate services such as property management and construction and development services primarily for our properties but also for third parties.
 
2.     Summary of Significant Accounting Policies
 
Basis of Presentation
 
The consolidated financial statements include the accounts of COPT, the Operating Partnership, their subsidiaries and other entities in which we have a majority voting interest and control.  We also consolidate certain entities when control of such entities can be achieved through means other than voting rights (“variable interest entities” or “VIEs”) if we are deemed to be the primary beneficiary of such entities.  We eliminate all significant intercompany balances and transactions in consolidation.
 
We use the equity method of accounting when we own an interest in an entity and can exert significant influence over the entity’s operations but cannot control the entity’s operations.
 
We use the cost method of accounting when we own an interest in an entity and cannot exert significant influence over its operations.
 
These interim financial statements should be read together with the financial statements and notes thereto as of and for the year ended December 31, 2011 included in our 2011 Annual Report on Form 10-K.  The unaudited consolidated financial

9


statements include all adjustments that are necessary, in the opinion of management, to fairly present our financial position and results of operations.  All adjustments are of a normal recurring nature except for the out-of-period adjustment described below.  The consolidated financial statements have been prepared using the accounting policies described in our 2011 Annual Report on Form 10-K.

 During the second quarter of 2012, we identified an error in the consolidated financial statements for the year ended December 31, 2011 and the quarter ended March 31, 2012.  The error was attributable to the misapplication of accounting guidance related to the recognition of a deferred tax asset resulting from an impairment of assets in the fourth quarter of 2011 that failed to consider a partial reversal of that asset that would result from a cancellation of related inter-company debt in the first quarter of 2012.  The effect of this error was an overstatement of our income tax benefit and an understatement of our net loss for the year ended December 31, 2011 of $4.0 million ($0.05 per share).  During the first quarter of 2012, we identified an error that impacted the above-referenced periods.  The error was an over-accrual of incentive compensation cost.  The effect of this error was an overstatement of general and administrative expenses and an overstatement of net loss for the year ended December 31, 2011 of $0.7 million ($0.01 per share). The net impact of these errors was an understatement of our net loss for the year ended December 31, 2011 of $3.3 million ($0.04 per share).  We have determined that the errors were not material in 2011 and are not material to our expected annual results for the year ending December 31, 2012.  Accordingly, this cumulative change is reported as an out-of-period adjustment in the three months ended March 31, 2012 and nine months ended September 30, 2012 as follows: a reduction in net income of $3.3 million ($0.04 per share); an increase in income tax expense of $4.0 million ($0.05 per share); and a decrease in general and administrative expenses of approximately $0.7 million ($0.01 per share) on our consolidated statements of operations.

Reclassifications
 
We reclassified certain amounts from prior periods to conform to the current period presentation of our consolidated financial statements with no effect on previously reported net income or equity.  Included among these reclassifications are retrospective changes in the presentation of:

•
our preferred shares of beneficial interest; these shares are reported on our consolidated balance sheets at their liquidation preference value after having been reported at par value in our 2011 Annual Report on Form 10-K; and
•
costs expensed in connection with properties not in operations; these costs are included in the line on our consolidated statements of operations entitled “business development expenses and land carry costs,” after having been included in property operating expenses in our 2011 Annual Report on Form 10-K.
 
Recent Accounting Pronouncements
 
We adopted guidance issued by the Financial Accounting Standards Board (“FASB”) effective January 1, 2012 related to the presentation of comprehensive income that requires us to present the total of comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  We adopted this guidance using retrospective application.  This guidance eliminates the option to present the components of other comprehensive income as part of the statement of equity.  Our adoption of this guidance did not affect our financial position, results of operations, cash flows or measurement of comprehensive income but did change the location of our disclosure pertaining to comprehensive income in our consolidated financial statements.
 
We adopted guidance issued by the FASB effective January 1, 2012 that amends measurement and disclosure requirements related to fair value measurements to improve consistency with International Financial Reporting Standards.  In connection with our adoption of this guidance, we made an accounting policy election to use an exception provided for in the guidance with respect to measuring counterparty credit risk for derivative instruments; this election enables us to continue to measure the fair value of groups of assets and liabilities associated with derivative instruments consistently with how market participants would price the net risk exposure at the measurement date.  Our adoption of this guidance did not affect our financial position, results of operations or cash flows but did result in additional disclosure pertaining to our fair value measurements.
 
We adopted guidance issued by the FASB effective January 1, 2012 relating to the testing of goodwill for impairment that permits us to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform a quantitative impairment test.  This guidance eliminates the requirement to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount.  Our adoption of this guidance did not materially affect our consolidated financial statements or disclosures.


10


In July 2012, the FASB issued guidance on the testing of indefinite-lived intangible assets for impairment that permits us to first assess qualitative factors to determine whether it is more likely than not that the fair value of such an asset is less than its carrying amount as a basis for determining whether it is necessary to perform a quantitative impairment test.  This guidance permits an entity to bypass the qualitative assessment for any indefinite-lived intangible asset in any period and proceed directly to performing the quantitative impairment test. This guidance will be effective for us in 2013 and early adoption is permitted. We do not believe that this guidance will have a material effect on our consolidated financial statements or disclosures.

3.     Fair Value Measurements

For a description on how we estimate fair value, see Note 3 to the consolidated financial statements in our 2011 Annual Report on Form 10-K.
 
Recurring Fair Value Measurements
 
The table below sets forth our financial assets and liabilities that are accounted for at fair value on a recurring basis as of September 30, 2012 and the hierarchy level of inputs used in measuring their respective fair values under applicable accounting standards (in thousands):
Description
 
Quoted Prices in
Active Markets for
Identical Assets(Level 1)
 
Significant Other
Observable Inputs(Level 2)
 
Significant
Unobservable Inputs(Level 3)
 
Total
Assets:
 
 

 
 

 
 

 
 

Marketable securities in deferred compensation plan (1)
 
 

 
 

 
 

 
 

Mutual funds
 
$
6,161

 
$
—

 
$
—

 
$
6,161

Common stocks
 
533

 
—

 
—

 
533

Other
 
242

 
—

 
—

 
242

Common stock (1)
 
438

 
—

 
—

 
438

Warrants to purchase common shares in KEYW (2)
 
—

 
295

 
—

 
295

Assets
 
$
7,374

 
$
295

 
$
—

 
$
7,669

Liabilities:
 
 

 
 

 
 

 
 

Deferred compensation plan liability (3)
 
$
6,936

 
$
—

 
$
—

 
$
6,936

Interest rate derivatives
 
—

 
6,543

 
—

 
6,543

Liabilities
 
$
6,936

 
$
6,543

 
$
—

 
$
13,479


(1)          Included in the line entitled “restricted cash and marketable securities” on our consolidated balance sheet.
(2)          Included in the line entitled “prepaid expenses and other assets” on our consolidated balance sheet.
(3)          Included in the line entitled “other liabilities” on our consolidated balance sheet.

At December 31, 2011, we owned 1.9 million shares, or approximately 7%, of the common stock of The KEYW Holding Corporation (“KEYW”).  During the nine months ended September 30, 2012, we completed the sale of all of these shares for $14.0 million.  At September 30, 2012 and December 31, 2011, we owned warrants to purchase 50,000 shares of KEYW common stock at an exercise price of $9.25 per share.
 
The carrying values of cash and cash equivalents, restricted cash, accounts receivable, other assets (excluding mortgage loans receivable) and accounts payable and accrued expenses are reasonable estimates of their fair values because of the short maturities of these instruments.  We estimated the fair values of our mortgage loans receivable as discussed in Note 7 based on the discounted estimated future cash flows of the loans (categorized within Level 3 of the fair value hierarchy); the discount rates used approximate current market rates for loans with similar maturities and credit quality, and the estimated cash payments include scheduled principal and interest payments.  For our disclosure of debt fair values in Note 8 to the consolidated financial statements, we estimated the fair value of our exchangeable senior notes based on quoted market prices for publicly-traded debt (categorized within Level 2 of the fair value hierarchy) and estimated the fair value of our other debt based on the discounted estimated future cash payments to be made on such debt (categorized within Level 3 of the fair value hierarchy); the discount rates used approximate current market rates for loans, or groups of loans, with similar maturities and credit quality, and the estimated future payments include scheduled principal and interest payments.  Fair value estimates are made at a specific point in time, are subjective in nature and involve uncertainties and matters of significant judgment.  Settlement of such fair value amounts may not be possible and may not be a prudent management decision.
 
For additional fair value information, please refer to Note 7 for mortgage loans receivable, Note 8 for debt and Note 9 for

11


interest rate derivatives.
 
Nonrecurring Fair Value Measurements
 
We assess each of our operating properties for impairment quarterly using cash flow projections and estimated fair values that we derive for each of the properties.  We update the leasing and other assumptions used in these projections regularly, paying particular attention to properties that have experienced chronic vacancy or face significant market challenges.  We review our plans and intentions for our development projects and land parcels quarterly.  Each quarter, we also review the reasonableness of changes in our estimated operating property fair values from amounts estimated in the prior quarter.  If events or changes in circumstances indicate that the carrying values of certain operating properties, properties in development or land held for future development may be impaired, we perform a recovery analysis for such properties.  For long-lived assets to be held and used, we analyze recoverability based on the estimated undiscounted future cash flows expected to be generated from the operations and eventual disposition of the assets over, in most cases, a ten-year holding period.  If we believe there is a significant possibility that we might dispose of the assets earlier, we analyze recoverability using a probability weighted analysis of the estimated undiscounted future cash flows expected to be generated from the operations and eventual disposition of the assets over the various possible holding periods.  If the recovery analysis indicates that the carrying value of a tested property is not recoverable from estimated future cash flows, it is written down to its estimated fair value and an impairment loss is recognized.  If and when our plans change, we revise our recoverability analyses to use the cash flows expected from the operations and eventual disposition of each asset using holding periods that are consistent with our revised plans. Changes in holding periods may require us to recognize significant impairment losses.
 
Property fair values are determined based on contract prices, indicative bids, discounted cash flow analyses or yield analyses. The estimated cash flows used are based on our plans for the property and our views of market and economic conditions. The estimates consider items such as current and future rental rates, occupancies for the tested property and comparable properties, estimated operating and capital expenditures and recent sales data for comparable properties; most of these items are influenced by market data obtained from third party sources such as CoStar Group and real estate leasing and brokerage firms and our direct experience with the properties and their markets.
 
We recognized impairment losses on certain properties and other assets associated with such properties during the three and nine months ended September 30, 2012.  Accordingly, certain properties and related assets were adjusted to fair value.  The table below sets forth the fair value hierarchy of the valuation techniques used by us in determining such fair values (dollars in thousands):
 
 
 
 
 
 
 
 
 
 
Impairment Losses
 
 
Quoted Prices in
 
 
 
Significant
 
 
 
Recognized (1)
 
 
Active Markets for
 
Significant Other
 
Unobservable
 
 
 
Three Months
 
Nine Months
 
 
Identical Assets
 
Observable Inputs
 
Inputs
 
 
 
Ended
 
Ended
Description
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
Total
 
September 30, 2012
 
September 30, 2012
Assets (2):
 
 

 
 

 
 

 
 

 
 

 
 

Properties, net
 
$
—

 
$
—

 
$
369,312

 
$
369,312

 
$
52,900

 
$
60,593


(1) Represents impairment losses, excluding exit costs of $2.9 million for the three months ended September 30, 2012 and $4.2 million for the nine months ended September 30, 2012.
(2) Reflects balance sheet classifications of assets at time of fair value measurement, excluding the effect of held for sale classifications.


12


The table below sets forth quantitative information about significant unobservable inputs used for the Level 3 fair value measurements reported above (dollars in thousands):
Description
 
Fair Value on 
Measurement Date
 
Valuation Technique
 
 Unobservable Input
 
Range (Weighted Average)
Properties on which impairment losses were recognized
 
$
369,312

 
Bid for properties indicative of value
 
Indicative bid (1)
 
(1)
 
 
 
 
Contract of sale
 
Contract price (1)
 
(1)
 
 
 
 
Discounted cash flow
 
Discount rate
 
10.1% to 11.0% (10.4%)
 
 
 
 
 
 
Terminal capitalization rate
 
8.7% to 10.0% (8.9%)
 
 
 
 
 
 
Market rent growth rate
 
3.0% (2)
 
 
 
 
 
 
Expense growth rate
 
3.0% (2)
 
 
 
 
Yield Analysis
 
Yield
 
12% (2)
 
 
 
 
 
 
Market rent rate
 
$8.50 per square foot (2)
 
 
 
 
 
 
Leasing costs
 
$20.00 per square foot (2)
(1) These fair value measurements were developed from third party sources, subject to our corroboration for reasonableness.
(2) Only one value applied to this unobservable input.

4.    Properties, net
 
Operating properties, net consisted of the following (in thousands):
 
 
September 30,
2012
 
December 31,
2011
Land
$
427,559

 
$
472,483

Buildings and improvements
2,626,084

 
2,801,252

Less: accumulated depreciation
(565,724
)
 
(559,679
)
Operating properties, net
$
2,487,919

 
$
2,714,056

 
Projects we had in development or held for future development consisted of the following (in thousands):
 
 
September 30,
2012
 
December 31,
2011
Land
$
220,234

 
$
229,833

Construction in progress, excluding land
394,361

 
409,086

Projects in development or held for future development
$
614,595

 
$
638,919

 
Dispositions and Impairments

 Operating property dispositions during the nine months ended September 30, 2012 consisted of the following (dollars in thousands):

13


Project Name
 
Location
 
Date of Sale
 
Number of Buildings
 
Total Rentable Square Feet
 
Transaction Value
 
Gain on Disposition
White Marsh Portfolio Disposition
 
White Marsh, Maryland
 
1/30/2012
 
5

 
163,000

 
$
19,100

 
$
2,445

1101 Sentry Gateway
 
San Antonio, Texas
 
1/31/2012
 
1

 
95,000

 
13,500

 
1,739

222 and 224 Schilling Circle
 
Hunt Valley, Maryland
 
2/10/2012
 
2

 
56,000

 
4,400

 
102

15 and 45 West Gude Drive
 
Rockville, Maryland
 
5/2/2012
 
2

 
231,000

 
49,107

 
—

11800 Tech Road
 
Silver Spring, Maryland
 
6/14/2012
 
1

 
240,000

 
21,300

 
—

400 Professional Drive
 
Gaithersburg, Maryland
 
7/2/2012
 
1

 
130,000

 
16,198

 
—

July 2012 Portfolio Disposition
 
Baltimore/Washington Corridor and Greater Baltimore
 
7/24/2012
 
23

 
1,387,000

 
161,901

 
16,908

 
 
 
 
 
 
35

 
2,302,000

 
$
285,506

 
$
21,194


Each of the above dispositions represent property sales except for 400 Professional Drive, the disposition of which was completed in connection with a debt extinguishment, as described further below. We also had dispositions of non-operating properties during the nine months ended September 30, 2012 for aggregate transaction values totaling $28.1 million; in addition to the gain on sales reflected above, we also recognized impairment losses on certain of these sales that are disclosed below.
 
On July 2, 2012, the mortgage lender on a $15 million nonrecourse mortgage loan that was secured by our 400 Professional Drive property accepted a deed in lieu of foreclosure on the property. As a result, we transferred title to the property to the mortgage lender and we were relieved of the debt obligation plus accrued interest. As of the transfer date, the property had an estimated fair value of $11 million. Upon completion of this transfer, we recognized a gain on extinguishment of debt of $3.7 million, representing the difference between the mortgage loan and interest payable extinguished over the fair value of the property transferred as of the transfer date.

In September 2012, our Board of Trustees approved a plan by Management to shorten the holding period for all of our office properties and developable land in Greater Philadelphia, Pennsylvania because the properties no longer meet our strategic investment criteria. We determined that the carrying amounts of these properties will not likely be recovered from the cash flows from the operations and sales of such properties over the likely remaining holding period. Accordingly, during the three months ended September 30, 2012, we recognized aggregate non-cash impairment losses of $46.1 million for the amounts by which the carrying values of the properties exceeded their respective estimated fair values. These losses contemplate our expectation that we will incur future cash expenditures of approximately $25 million to complete the redevelopment of certain of these properties.

As discussed in our 2011 Annual Report on Form 10-K, we implemented a plan in 2011 (the “Strategic Reallocation Plan”) to dispose of office properties and land that are no longer closely aligned with our strategy.  During the nine months ended September 30, 2012, we recognized aggregate net impairment losses in connection with the Strategic Reallocation Plan of $18.7 million ($23.5 million classified as discontinued operations and including $4.2 million in exit costs), including $6.9 million pertaining to certain properties in Colorado Springs, Colorado classified as held for sale at September 30, 2012.  Approximately $5.1 million of these losses related to our disposition of an additional property from which the cash flows were not sufficient to recover its carrying value.

The table below sets forth the impairment losses and exit costs recognized in the nine months ended September 30, 2012 by period of recognition and by property classification (in thousands):
 
Three Months Ended
 
9/30/2012
 
6/30/2012
 
3/31/2012
 
Total
Operating properties
$
55,829

 
$
2,354

 
$
11,833

 
$
70,016

Non-operating properties
—

 
—

 
(5,246
)
 
(5,246
)
Total
$
55,829

 
$
2,354

 
$
6,587

 
$
64,770





14


2012 Acquisition

On July 11, 2012, we acquired 13857 McLearen Road, a 202,000 square foot office property in Herndon, Virginia that was 100% leased, for $48.3 million. The table below sets forth the allocation of the acquisition costs of this property (in thousands):

Land, operating properties
 
$
3,507

Building and improvements
 
30,177

Intangible assets on real estate acquisitions
 
14,993

Total assets
 
48,677

Below-market leases
 
(369
)
Total acquisition cost
 
$
48,308


Intangible assets recorded in connection with the above acquisition included the following (dollars in thousands):
 
 
 
 Weighted Average Amortization Period (in Years)
Tenant relationship value
$
7,472

 
10
In-place lease value
7,109

 
5
Above-market leases
412

 
5
 
$
14,993

 
7

We expensed $229,000 in operating property acquisition costs during the nine months ended September 30, 2012 that are included in business development expenses and land carry costs on our consolidated statements of operations.

2012 Construction Activities

As of September 30, 2012, we had construction underway on eight office properties that we estimate will total 913,000 square feet upon completion, including four in the Baltimore/Washington Corridor, two in Huntsville, Alabama, one in Greater Baltimore and one in Northern Virginia. We also had redevelopment underway on two office properties in Greater Philadelphia that we estimate will total 297,000 square feet upon completion.

5.    Real Estate Joint Ventures
 
During the nine months ended September 30, 2012, we had an investment in one unconsolidated real estate joint venture accounted for using the equity method of accounting.  Information pertaining to this joint venture investment is set forth below (dollars in thousands):
Investment Balance at (1)
 
Date
 
 
 
Nature of
 
Maximum Exposure
September 30, 2012
 
December 31, 2011
 
Acquired
 
Ownership
 
Activity
 
to Loss (2)
$
(6,420
)
 
$
(6,071
)
 
9/29/2005
 
20%
 
Operates 16 Buildings
 
$
—


(1)   The carrying amount of our investment in this joint venture was lower than our share of the equity in the joint venture by $5.2 million at September 30, 2012 and December 31, 2011 due to our deferral of gain on the contribution by us of real estate into the joint venture upon its formation.  A difference will continue to exist to the extent the nature of our continuing involvement in the joint venture remains the same.
(2)   Derived from the sum of our investment balance and maximum additional unilateral capital contributions or loans required from us.  Not reported above are additional amounts that we and our partner are required to fund when needed by this joint venture; these funding requirements are proportional to our respective ownership percentages.  Also not reported above are additional unilateral contributions or loans from us, the amounts of which are uncertain, that we would be required to make if certain contingent events occur (see Note 16).
 

15


The following table sets forth condensed balance sheets for this unconsolidated real estate joint venture (in thousands):
 
September 30,
2012
 
December 31,
2011
Properties, net
$
58,763

 
$
59,792

Other assets
4,223

 
3,529

Total assets
$
62,986

 
$
63,321

 
 
 
 
Liabilities (primarily debt)
$
69,120

 
$
67,710

Owners’ equity
(6,134
)
 
(4,389
)
Total liabilities and owners’ equity
$
62,986

 
$
63,321

 
The following table sets forth condensed statements of operations for this unconsolidated real estate joint venture (in thousands):
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Revenues
$
1,778

 
$
1,905

 
$
5,497

 
$
5,719

Property operating expenses
(758
)
 
(904
)
 
(2,219
)
 
(2,869
)
Interest expense
(1,138
)
 
(984
)
 
(3,291
)
 
(2,983
)
Depreciation and amortization expense
(568
)
 
(578
)
 
(1,732
)
 
(1,753
)
Net loss
$
(686
)
 
$
(561
)
 
$
(1,745
)
 
$
(1,886
)
 
In October 2012, the holder of mortgage debt encumbering all of the joint venture’s properties initiated foreclosure proceedings.

The table below sets forth information pertaining to our investments in consolidated real estate joint ventures at September 30, 2012 (dollars in thousands):
 
 
 
 
Ownership
 
 
 
September 30, 2012
(1)
 
 
Date
 
% at
 
 
 
Total
 
Pledged
 
Total
 
 
Acquired
 
9/30/2012
 
Nature of Activity
 
Assets
 
Assets
 
Liabilities
LW Redstone Company, LLC
 
3/23/2010
 
85%
 
Developing business park (2)
 
$
68,494

 
$
16,146

 
$
13,364

M Square Associates, LLC
 
6/26/2007
 
50%
 
Operating two buildings and developing others (3)
 
60,608

 
47,642

 
43,762

Arundel Preserve #5, LLC
 
7/2/2007
 
50%
 
Operating one building (4)
 
38,636

 
36,838

 
20,118

COPT-FD Indian Head, LLC
 
10/23/2006
 
75%
 
Holding land parcel (5)
 
6,538

 
—

 
—

MOR Forbes 2 LLC
 
12/24/2002
 
50%
 
Operating one building (6)
 
3,831

 
—

 
95

 
 
 
 
 
 
 
 
$
178,107

 
$
100,626

 
$
77,339

(1) Excludes amounts eliminated in consolidation.
(2) This joint venture’s property is in Huntsville, Alabama.
(3) This joint venture’s properties are in College Park, Maryland (in the Suburban Maryland region).
(4) This joint venture’s property is in Hanover, Maryland (in the Baltimore/Washington Corridor).
(5) This joint venture’s property is in Charles County, Maryland. In 2012, the joint venture exercised its option under a development agreement to require Charles County to repurchase the land parcel at its original acquisition cost. Under the terms of the agreement with Charles County, the repurchase is expected to occur by August 2014.
(6) This joint venture’s property is in Lanham, Maryland (in the Suburban Maryland region).
 
Our commitments and contingencies pertaining to our real estate joint ventures are disclosed in Note 16.


16


6.    Intangible Assets on Real Estate Acquisitions

Intangible assets on real estate acquisitions consisted of the following (in thousands):


 
 
September 30, 2012
 
December 31, 2011
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net
 Carrying Amount
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net
Carrying Amount
In-place lease value
 
$
134,964

 
$
89,808

 
$
45,156

 
$
151,361

 
$
97,594

 
$
53,767

Tenant relationship value
 
46,827

 
22,192

 
24,635

 
45,940

 
23,246

 
22,694

Above-market cost arrangements
 
12,416

 
3,789

 
8,627

 
12,416

 
2,857

 
9,559

Above-market leases
 
8,925

 
7,278

 
1,647

 
10,118

 
8,037

 
2,081

Market concentration premium
 
1,333

 
339

 
994

 
1,333

 
314

 
1,019

 
 
$
204,465

 
$
123,406

 
$
81,059

 
$
221,168

 
$
132,048

 
$
89,120


Amortization of the intangible asset categories set forth above totaled $16.2 million in the nine months ended September 30, 2012 and $20.7 million in the nine months ended September 30, 2011. The approximate weighted average amortization periods of the categories set forth above follow: in-place lease value: seven years; tenant relationship value: eight years; above-market cost arrangements: 27 years; above-market leases: four years; and market concentration premium: 30 years. The approximate weighted average amortization period for all of the categories combined is ten years. Estimated amortization expense associated with the intangible asset categories set forth above for the next five years is: $4.3 million for the three months ending December 31, 2012; $14.3 million for 2013; $12.3 million for 2014; $10.6 million for 2015; $9.5 million for 2016; and $7.1 million for 2017.

7.    Prepaid Expenses and Other Assets
 
Prepaid expenses and other assets consisted of the following (in thousands):
 
 
September 30,
2012
 
December 31,
2011
Mortgage and other investing receivables
$
40,761

 
$
27,998

Prepaid expenses
24,396

 
20,035

Furniture, fixtures and equipment, net
8,657

 
10,177

Deferred tax asset
6,666

 
10,892

Lease incentives
5,595

 
5,233

Other assets
6,472

 
13,284

Prepaid expenses and other assets
$
92,547

 
$
87,619

 
Mortgage and Other Investing Receivables
 
Mortgage and other investing receivables consisted of the following (in thousands):
 
 
September 30,
2012
 
December 31,
2011
Notes receivable from City of Huntsville
$
30,623

 
$
17,741

Mortgage loans receivable
10,138

 
10,257

 
$
40,761

 
$
27,998

 
Our notes receivable from the City of Huntsville funded infrastructure costs in connection with our LW Redstone Company, LLC joint venture (see Note 5).  Our mortgage loans receivable reflected above consists of two loans secured by properties in Greater Baltimore and the Baltimore/Washington Corridor.  We did not have an allowance for credit losses in connection with these receivables at September 30, 2012 or December 31, 2011.  The fair value of our mortgage and other investing receivables totaled $40.7 million at September 30, 2012 and $28.0 million at December 31, 2011.


17


Operating Notes Receivable
 
We had operating notes receivable due from tenants with terms exceeding one year totaling $373,000 at September 30, 2012 and $530,000 at December 31, 2011.  We carried allowances for estimated losses for most of these balances.

8.    Debt
 
Our debt consisted of the following (dollars in thousands):
 
Maximum
 
 
 
 
 
 
 
 
 
 Availability at
 
Carrying Value at
 
 
 
Scheduled Maturity
 
September 30,
2012
 
September 30,
2012
 
December 31,
2011
 
Stated Interest Rates at
 
 Dates at
 
 
 
 
September 30, 2012
 
September 30, 2012
Mortgage and Other Secured Loans:
 

 
 

 
 

 
 
 
 
Fixed rate mortgage loans (1)
N/A

 
$
978,461

 
$
1,052,421

 
5.20% - 7.87% (2)
 
2013-2034
Variable rate secured loans
N/A

 
38,671

 
39,213

 
LIBOR + 2.25% (3)
 
2015
Other construction loan facilities
$
123,802

 
70,374

 
40,336

 
LIBOR + 1.95% to 2.75% (4)
 
2013-2015
Total mortgage and other secured loans
 

 
1,087,506

 
1,131,970

 
 
 
 
Revolving Credit Facility (5)
800,000

 
80,000

 
662,000

 
LIBOR + 1.75% to 2.50% (6)
 
September 1, 2014
Term Loan Facilities (7)
770,000

 
770,000

 
400,000

 
LIBOR + 1.65% to 2.60% (8)
 
2015-2019
Unsecured notes payable
N/A

 
1,809

 
5,050

 
0% (9)
 
2026
4.25% Exchangeable Senior Notes
N/A

 
230,000

 
227,283

 
4.25%
 
April 2030 (10)
Total debt
 

 
$
2,169,315

 
$
2,426,303

 
 
 
 

(1)  
Several of the fixed rate mortgages carry interest rates that were above or below market rates upon assumption and therefore were recorded at their fair value based on applicable effective interest rates.  The carrying values of these loans reflect net unamortized premiums totaling $1.5 million at September 30, 2012 and $2.4 million at December 31, 2011.
(2)
The weighted average interest rate on these loans was 6.00% at September 30, 2012.
(3) 
The interest rate on the loan outstanding was 2.48% at September 30, 2012.
(4) 
The weighted average interest rate on these loans was 2.72% at September 30, 2012.
(5)
Effective August 10, 2012, we exercised our right to reduce the lenders’ aggregate commitment under the facility from $1.0 billion to $800 million, with the ability for us to increase the lenders’ aggregate commitment to $1.3 billion, provided that there is no default under the facility and subject to the approval of the lenders.
(6)   
The weighted average interest rate on the Revolving Credit Facility was 2.19% at September 30, 2012.
(7)  
We have the ability to borrow an aggregate of an additional $180.0 million under these term loan facilities, provided that there is no default under the facilities and subject to the approval of the lenders. As described further below, we entered into new facilities in 2012.
(8) 
The weighted average interest rate on these loans was 2.19% at September 30, 2012.
(9)  
These notes carry interest rates that were below market rates upon assumption and therefore were recorded at their fair value based on applicable effective interest rates.  The carrying value of these notes reflects an unamortized discount totaling $902,000 at September 30, 2012 and $1.8 million at December 31, 2011.
(10) 
As described further in our 2011 Annual Report on Form 10-K, these notes have an exchange settlement feature that provides that the notes may, under certain circumstances, be exchangeable for cash and, at the Operating Partnership’s discretion, our common shares at an exchange rate (subject to adjustment) of 20.8513 shares per one thousand dollar principal amount of the notes (exchange rate is as of September 30, 2012 and is equivalent to an exchange price of $47.96 per common share).  The carrying value of these notes included a principal amount of $240 million and an unamortized discount totaling $10.0 million at September 30, 2012 and $12.7 million at December 31, 2011.  The effective interest rate under the notes, including amortization of the issuance costs, was 6.05%.  Because the closing price of our common shares at September 30, 2012 and December 31, 2011 was less than the exchange price per common share applicable to these notes, the if-converted value of the notes did not exceed the principal amount.  The table below sets forth interest expense recognized on these notes before deductions for amounts capitalized (in thousands):
 
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2012
 
2011
 
2012
 
2011
Interest expense at stated interest rate
$
2,550

 
$
2,550

 
$
7,650

 
$
7,650

Interest expense associated with amortization of discount
919

 
866

 
2,717

 
2,558

Total
$
3,469

 
$
3,416

 
$
10,367

 
$
10,208


Effective February 14, 2012, we entered into an unsecured term loan agreement with a group of lenders for which J.P. Morgan Securities LLC and KeyBank Capital Markets acted as joint lead arrangers and joint book runners, KeyBank National Association acted as administrative agent and JPMorgan Chase Bank, N.A. acted as syndication agent.  We borrowed $250

18


million under the term loan.  The term loan matures on February 14, 2017.  The variable interest rate on the loan is based on the LIBOR rate (customarily the 30-day rate) plus 1.65% to 2.40%, as determined by our leverage levels.

Effective August 3, 2012, we entered into an unsecured term loan agreement with a group of lenders for which Wells Fargo Securities, LLC acted as sole arranger and sole book runner, Wells Fargo Bank, National Association acted as administrative agent and Capital One, N.A. acted as documentation agent.  We borrowed $120 million under the term loan, with the ability for us to borrow an additional $80 million, provided that there is no default under the loan and subject to the approval of the lenders.  The term loan matures on August 2, 2019.  The variable interest rate on the loan is based on the LIBOR rate (customarily the 30-day rate) plus 2.10% to 2.60%, as determined by our leverage levels.

We capitalized interest costs of $3.4 million in the three months ended September 30, 2012, $4.5 million in the three months ended September 30, 2011, $10.8 million in the nine months ended September 30, 2012 and $13.1 million in the nine months ended September 30, 2011.

The following table sets forth information pertaining to the fair value of our debt (in thousands): 
 
September 30, 2012
 
December 31, 2011
 
Carrying
 
Estimated
 
Carrying
 
Estimated
 
Amount
 
Fair Value
 
Amount
 
Fair Value
Fixed-rate debt
 

 
 

 
 

 
 

4.25% Exchangeable Senior Notes
$
230,000

 
$
240,335

 
$
227,283

 
$
238,077

Other fixed-rate debt
980,270

 
992,977

 
1,057,471

 
1,054,424

Variable-rate debt
959,045

 
959,944

 
1,141,549

 
1,139,856

 
$
2,169,315

 
$
2,193,256

 
$
2,426,303

 
$
2,432,357

 

9.    Interest Rate Derivatives
 
The following table sets forth the key terms and fair values of our interest rate swap derivatives (dollars in thousands):
 
 
 
 
 
 
 
 
 
 
Fair Value at
Notional Amount
 
Fixed Rate
 
Floating Rate Index
 
Effective Date
 
Expiration Date
 
September 30,
2012
 
December 31,
2011
$
100,000

 
0.6123
%
 
One-Month LIBOR
 
1/3/2012
 
9/1/2014
 
$
(671
)
 
$
55

100,000

 
0.6100
%
 
One-Month LIBOR
 
1/3/2012
 
9/1/2014
 
(667
)
 
56

100,000

 
0.8320
%