UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
(Mark one) |
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ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 |
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For the quarterly period ended March 31, 2004 |
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or |
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o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 |
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For the transition period from to |
Commission file number 1-14023
(Exact name of registrant as specified in its charter)
Maryland |
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23-2947217 |
(State or other jurisdiction of |
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(IRS Employer |
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8815 Centre Park Drive, Suite 400, Columbia MD |
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21045 |
(Address of principal executive offices) |
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(Zip Code) |
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Registrants telephone number, including area code: (410) 730-9092 |
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 is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). ýYes o No
On April 30, 2004, 33,963,316 shares of the Companys Common Shares of Beneficial Interest, $0.01 par value, were issued.
TABLE OF CONTENTS
Form 10-Q
2
PART I: FINANCIAL INFORMATION
ITEM 1. Financial Statements
Corporate Office Properties Trust and Subsidiaries
(Dollars in thousands)
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March 31, |
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December
31, |
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(unaudited) |
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Assets |
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Investment in real estate: |
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Operating properties, net |
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$ |
1,191,104 |
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$ |
1,116,847 |
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Projects under construction or development |
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94,618 |
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67,149 |
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Total commercial real estate properties, net |
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1,285,722 |
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1,183,996 |
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Investments in and advances to unconsolidated real estate joint ventures |
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1,059 |
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5,262 |
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Investment in real estate, net |
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1,286,781 |
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1,189,258 |
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Cash and cash equivalents |
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9,536 |
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9,481 |
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Restricted cash |
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13,528 |
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11,030 |
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Accounts receivable, net |
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9,708 |
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13,047 |
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Investments in and advances to other unconsolidated entities |
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1,621 |
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1,621 |
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Deferred rent receivable |
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18,673 |
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17,903 |
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Intangible assets on real estate acquisitions, net |
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55,577 |
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55,692 |
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Deferred charges, net |
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19,551 |
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17,723 |
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Prepaid and other assets |
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14,719 |
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14,311 |
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Furniture, fixtures and equipment, net |
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2,316 |
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2,010 |
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Total assets |
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$ |
1,432,010 |
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$ |
1,332,076 |
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Liabilities and shareholders equity |
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Liabilities: |
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Mortgage and other loans payable |
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$ |
829,755 |
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$ |
738,698 |
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Accounts payable and accrued expenses |
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29,217 |
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23,126 |
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Rents received in advance and security deposits |
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11,842 |
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10,112 |
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Dividends and distributions payable |
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12,991 |
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12,098 |
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Deferred revenue associated with acquired operating leases |
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8,734 |
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9,630 |
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Fair value of derivatives |
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429 |
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467 |
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Other liabilities |
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3,184 |
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7,768 |
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Total liabilities |
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896,152 |
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801,899 |
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Minority interests: |
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Common units in the Operating Partnership |
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79,245 |
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79,796 |
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Other consolidated real estate joint ventures |
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5,498 |
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Total minority interests |
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84,743 |
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79,796 |
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Commitments and contingencies (Note 16) |
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Shareholders equity: |
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Preferred Shares of beneficial interest ($0.01 par value; 10,000,000 shares authorized) |
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1,725,000 designated as Series B Cumulative Redeemable Preferred Shares of beneficial interest (1,250,000 shares issued with an aggregate liquidation preference of $31,250 at March 31, 2004 and December 31, 2003) |
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13 |
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13 |
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544,000 designated as Series D Cumulative Convertible Redeemable Preferred Shares of beneficial interest (544,000 shares issued at December 31, 2003 with an aggregate liquidation preference of $13,600 at December 31, 2003) |
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5 |
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1,265,000 designated as Series E Cumulative Redeemable Preferred Shares of beneficial interest (1,150,000 shares issued with an aggregate liquidation preference of $28,750 at March 31, 2004 and December 31, 2003) |
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11 |
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11 |
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1,425,000 designated as Series F Cumulative Redeemable Preferred Shares of beneficial interest (1,425,000 shares issued with an aggregate liquidation preference of $35,625 at March 31, 2004 and December 31, 2003) |
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14 |
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14 |
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2,200,000 designated as Series G Cumulative Redeemable Preferred Shares of beneficial interest (2,200,000 shares issued with an aggregate liquidation preference of $55,000 at March 31, 2004 and December 31, 2003) |
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22 |
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22 |
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2,000,000 designated as Series H Cumulative Redeemable Preferred Shares of beneficial interest (2,000,000 shares issued with an aggregate liquidation preference of $50,000 at March 31, 2004 and December 31, 2003) |
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20 |
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20 |
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Common Shares of beneficial interest ($0.01 par value; 45,000,000 shares authorized, shares issued of 31,142,779 at March 31, 2004 and 29,563,867 at December 31, 2003) |
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312 |
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296 |
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Additional paid-in capital |
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499,132 |
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494,299 |
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Cumulative distributions in excess of net income |
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(41,123 |
) |
(38,483 |
) |
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Value of unearned restricted common share grants |
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(5,543 |
) |
(4,107 |
) |
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Treasury shares, at cost (166,600 shares) |
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(1,415 |
) |
(1,415 |
) |
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Accumulated other comprehensive loss |
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(328 |
) |
(294 |
) |
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Total shareholders equity |
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451,115 |
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450,381 |
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Total liabilities and shareholders equity |
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$ |
1,432,010 |
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$ |
1,332,076 |
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See accompanying notes to consolidated financial statements.
3
Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Operations
(Dollars in thousands, except per share data)
(unaudited)
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For the
three months ended |
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2004 |
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2003 |
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Real Estate Operations: |
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Revenues |
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Rental revenue |
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$ |
43,194 |
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$ |
35,989 |
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Tenant recoveries and other revenue |
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5,777 |
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5,529 |
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Revenue from real estate operations |
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48,971 |
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41,518 |
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Expenses |
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Property operating |
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15,039 |
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13,654 |
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Interest |
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10,262 |
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10,135 |
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Amortization of deferred financing costs |
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859 |
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589 |
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Depreciation and other amortization |
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10,359 |
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8,044 |
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Expenses from real estate operations |
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36,519 |
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32,422 |
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Earnings from real estate operations before equity in loss of unconsolidated real estate joint ventures |
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12,452 |
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9,096 |
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Equity in loss of unconsolidated real estate joint ventures |
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(88 |
) |
(153 |
) |
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Earnings from real estate operations |
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12,364 |
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8,943 |
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Service operations: |
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Construction contract revenues |
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6,137 |
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3,931 |
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Other service revenues |
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1,721 |
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538 |
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Construction contract expenses |
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(5,818 |
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(3,788 |
) |
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Other expenses |
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(1,298 |
) |
(762 |
) |
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Income (loss) from service operations |
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742 |
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(81 |
) |
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General and administrative expenses |
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(2,286 |
) |
(1,948 |
) |
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Income before gain on sales of real estate, minority interests, income taxes and discontinued operations |
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10,820 |
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6,914 |
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(Loss) gain on sales of real estate |
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(222 |
) |
404 |
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Income before minority interests, income taxes and discontinued operations |
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10,598 |
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7,318 |
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Minority interests |
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Common units in the Operating Partnership |
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(1,452 |
) |
(1,215 |
) |
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Preferred units in the Operating Partnership |
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(572 |
) |
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Income before income taxes and discontinued operations |
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9,146 |
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5,531 |
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Income tax (expense) benefit, net of minority interests |
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(153 |
) |
21 |
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Income before discontinued operations |
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8,993 |
|
5,552 |
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Income from discontinued operations, net of minority interests |
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2,435 |
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Net income |
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8,993 |
|
7,987 |
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Preferred share dividends |
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(4,456 |
) |
(2,533 |
) |
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Net income available to common shareholders |
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$ |
4,537 |
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$ |
5,454 |
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Basic earnings per common share |
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Income before discontinued operations |
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$ |
0.15 |
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$ |
0.13 |
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Discontinued operations |
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0.10 |
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Net income available to common shareholders |
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$ |
0.15 |
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$ |
0.23 |
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Diluted earnings per common share |
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Income before discontinued operations |
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$ |
0.14 |
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$ |
0.12 |
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Discontinued operations |
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0.10 |
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Net income available to common shareholders |
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$ |
0.14 |
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$ |
0.22 |
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See accompanying notes to consolidated financial statements.
4
Corporate Office Properties Trust and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in thousands)
(unaudited)
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For the
three months ended |
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|
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2004 |
|
2003 |
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Cash flows from operating activities |
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Net income |
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$ |
8,993 |
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$ |
7,987 |
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Adjustments to reconcile net income to net cash provided by operating activities: |
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Minority interests |
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1,405 |
|
2,805 |
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Depreciation and other amortization |
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10,359 |
|
8,063 |
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Amortization of deferred financing costs |
|
859 |
|
589 |
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Amortization of value of acquired operating leases to rental revenue |
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(309 |
) |
(549 |
) |
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Equity in loss of unconsolidated entities |
|
88 |
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153 |
|
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Loss (gain) on sales of real estate, including amounts in discontinued operations |
|
222 |
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(3,415 |
) |
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Changes in operating assets and liabilities: |
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|
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Increase in deferred rent receivable |
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(763 |
) |
(1,179 |
) |
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Decrease (increase) in accounts receivable, restricted cash and prepaid and other assets |
|
685 |
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(2,607 |
) |
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(Decrease) increase in accounts payable, accrued expenses, rents received in advance and security deposits |
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(5,408 |
) |
2,743 |
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Other |
|
1,317 |
|
564 |
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Net cash provided by operating activities |
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17,448 |
|
15,154 |
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Cash flows from investing activities |
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|
|
|
|
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Purchases of and additions to commercial real estate properties |
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(60,024 |
) |
(26,427 |
) |
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Proceeds from sales of properties |
|
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|
36,965 |
|
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Investments in and advances to unconsolidated real estate joint ventures |
|
(4 |
) |
(944 |
) |
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Leasing costs paid |
|
(552 |
) |
(463 |
) |
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Advances to certain real estate joint ventures |
|
(515 |
) |
|
|
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Other |
|
(3,298 |
) |
(5,358 |
) |
||
Net cash (used in) provided by investing activities |
|
(64,393 |
) |
3,773 |
|
||
Cash flows from financing activities |
|
|
|
|
|
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Proceeds from mortgage and other loans payable |
|
189,125 |
|
27,540 |
|
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Repayments of mortgage and other loans payable |
|
(129,549 |
) |
(41,608 |
) |
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Deferred financing costs paid |
|
(1,948 |
) |
(206 |
) |
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Increase in other liabilities associated with financing activities |
|
|
|
4,000 |
|
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Net proceeds from issuance of common shares |
|
2,189 |
|
566 |
|
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Dividends paid |
|
(10,732 |
) |
(8,066 |
) |
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Distributions paid |
|
(2,085 |
) |
(2,131 |
) |
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Other |
|
|
|
1,269 |
|
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Net cash provided by (used in) financing activities |
|
47,000 |
|
(18,636 |
) |
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Net increase in cash and cash equivalents |
|
55 |
|
291 |
|
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Cash and cash equivalents |
|
|
|
|
|
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Beginning of period |
|
9,481 |
|
5,991 |
|
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End of period |
|
$ |
9,536 |
|
$ |
6,282 |
|
See accompanying notes to consolidated financial statements.
5
Corporate Office Properties Trust and Subsidiaries
Notes
to Consolidated Financial Statements
(Dollars in thousands, except per share data)
Corporate Office Properties Trust (COPT) and subsidiaries (collectively, the Company) is a fully-integrated and self-managed real estate investment trust (REIT). We focus principally on the ownership, management, leasing, acquisition and development of suburban office properties located in select submarkets in the Mid-Atlantic region of the United States. COPT is qualified as a REIT as defined in the Internal Revenue Code of 1986 and is the successor to a corporation organized in 1988. As of March 31, 2004, our portfolio included 129 office properties, including one property owned through a joint venture.
We conduct almost all of our operations through our operating partnership, Corporate Office Properties, L.P. (the Operating Partnership), for 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 Partnerships forms of ownership and the percentage of those ownership forms owned by COPT as of March 31, 2004 follows:
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% Owned |
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Common Units |
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77 |
% |
Series B Preferred Units |
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100 |
% |
Series E Preferred Units |
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100 |
% |
Series F Preferred Units |
|
100 |
% |
Series G Preferred Units |
|
100 |
% |
Series H Preferred Units |
|
100 |
% |
The Operating Partnership also owns 100% of Corporate Office Management, Inc. (COMI) (together with its subsidiaries defined as the Service Companies). COMIs consolidated subsidiaries are set forth below:
Entity Name |
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Type of Service Business |
Corporate Realty Management, LLC (CRM) |
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Real Estate Management |
Corporate Development Services, LLC (CDS) |
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Construction and Development |
Corporate Cooling and Controls, LLC (CC&C) |
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Heating and Air Conditioning |
COMI owns 100% of these entities.
The accompanying unaudited interim Consolidated Financial Statements have been prepared in accordance with the rules and regulations for reporting on Form 10-Q. Accordingly, certain information and disclosures required by accounting principles generally accepted in the United States for complete Consolidated Financial Statements are not included herein. These interim financial statements should be read together with the financial statements and notes thereto included in our 2003 Annual Report on Form 10-K. The interim financial statements on the previous pages reflect all adjustments which we believe are necessary for the fair presentation of our financial position and results of operations for the interim periods presented. These adjustments are of a normal recurring nature. The results of operations for such interim periods are not necessarily indicative of the results for a full year.
We use four different accounting methods to report our investments in entities: the consolidation method, the equity method, the cost method and the financing method.
6
Consolidation Method
We use the consolidation method when we own most of the outstanding voting interests in an entity and can control its operations. This means the accounts of the entity are combined with our accounts. We eliminate balances and transactions between companies when we consolidate these accounts. Our Consolidated Financial Statements include the accounts of:
COPT;
the Operating Partnership and its subsidiary partnerships and LLCs;
the Service Companies; and
Corporate Office Properties Holdings, Inc. (of which we own 100%).
See the section in Note 3 entitled Recent Accounting Pronouncements for a description of Financial Accounting Standards Board (FASB) Interpretation No. 46R, Consolidation of Variable Interest Entities (FIN 46R). FIN 46R affects our determination of when to use the consolidation method of accounting.
Equity Method
We use the equity method of accounting when we own an interest in an entity and can exert significant influence over the entitys operations but cannot control the entitys operations. Under the equity method, we report:
our ownership interest in the entitys capital as an investment on our Consolidated Balance Sheets; and
our percentage share of the earnings or losses from the entity in our Consolidated Statements of Operations.
See the section in Note 3 entitled Recent Accounting Pronouncements for a description of FIN 46R. FIN 46R affects our determination of when to use the equity method of accounting.
Cost Method
We use the cost method of accounting when we own an interest in an entity and cannot exert significant influence over the entitys operations. Under the cost method, we report:
the cost of our investment in the entity as an investment on our Consolidated Balance Sheets; and
distributions to us of the entitys earnings in our Consolidated Statements of Operations.
Financing Method
We use the financing method of accounting for certain real estate joint ventures. We use this method when we contribute a parcel of land into a real estate joint venture and have an option to acquire our partners joint venture interest for a pre-determined purchase price. Details of the financing method of accounting are described below:
the costs associated with a land parcel at the time of its contribution into a joint venture are reported as commercial real estate properties on our Consolidated Balance Sheets;
the cash received from a joint venture in connection with our land contribution is reported as other liabilities on our Consolidated Balance Sheets. The liability is accreted towards the pre-determined purchase price over the life of our option to acquire our partners interest in the joint venture. We also report interest expense in connection with the accretion of the liability;
as construction of a building on the land parcel is completed and operations of the building commence, we report 100% of the revenues and expenses associated with the property on our Consolidated Statements of Operations; and
construction costs and debt activity for the real estate project relating to periods after the land contribution are not reported by us.
At the time we exercise the option to acquire our partners joint venture interest, we begin consolidating the accounts of the entity with our accounts. See the section in Note 3 entitled Recent Accounting Pronouncements for a description of FIN 46R. FIN 46R affects our determination of when to use the financing method of accounting.
7
Use of Estimates in the Preparation of Financial Statements
We make estimates and assumptions when preparing financial statements under generally accepted accounting principles (GAAP). These estimates and assumptions affect various matters, including:
the reported amounts of assets and liabilities in our Consolidated Balance Sheets at the dates of the financial statements;
the disclosure of contingent assets and liabilities at the dates of the financial statements; and
the reported amounts of revenues and expenses in our Consolidated Statements of Operations during the reporting periods.
These estimates involve judgments with respect to, among other things, future economic factors that are difficult to predict and are often beyond managements control. As a result, actual amounts could differ from these estimates.
Our accounts receivable are reported net of an allowance for bad debts of $538 at March 31, 2004 and $548 at December 31, 2003.
As discussed previously, we consolidate the accounts of our Operating Partnership and its subsidiaries into our financial statements. However, we do not own 100% of the Operating Partnership. We also do not own 100% of four consolidated real estate joint ventures. The amounts reported for minority interests on our Consolidated Balance Sheets represent the portion of these consolidated entities equity that we do not own. The amounts reported for minority interests on our Consolidated Statements of Operations represent the portion of these consolidated entities net income not allocated to us.
Common units of the Operating Partnership (common units) are substantially similar to our common shares of beneficial interest (common shares). Common units are also exchangeable into our common shares, subject to certain conditions.
The only preferred units in the Operating Partnership not owned by us during the reporting periods were 1,016,662 Series C Preferred Units. These units were convertible, subject to certain conditions, into common units on the basis of 2.381 common units for each Series C Preferred Unit. These units were repurchased by the Operating Partnership on June 16, 2003.
Earnings Per Share (EPS)
We present both basic and diluted EPS. We compute basic EPS by dividing net income available to common shareholders by the weighted average number of common shares outstanding during the year. Our computation of diluted EPS is similar except that:
the denominator is increased to include the weighted average number of potential additional common shares that would have been outstanding if securities that are convertible into our common shares were converted; and
the numerator is adjusted to add back any convertible preferred dividends and any other changes in income or loss that would result from the assumed conversion into common shares.
Our computation of diluted EPS does not assume conversion of securities into our common shares if conversion of those securities would increase our diluted EPS in a given year. A summary of the numerator and denominator for purposes of basic and diluted EPS calculations is set forth below (dollars and shares in thousands, except per share data):
8
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
Numerator: |
|
|
|
|
|
||
Numerator for basic EPS on net income available to common shareholders |
|
$ |
4,537 |
|
$ |
5,454 |
|
Less: Income from discontinued operations, net |
|
|
|
(2,435 |
) |
||
Numerator for basic EPS before discontinued operations |
|
4,537 |
|
3,019 |
|
||
Add: Convertible preferred share dividends |
|
21 |
|
136 |
|
||
Numerator for diluted EPS before discontinued operations |
|
4,558 |
|
3,155 |
|
||
Add: Income from discontinued operations, net |
|
|
|
2,435 |
|
||
Numerator for diluted EPS on net income available to common shareholders |
|
$ |
4,558 |
|
$ |
5,590 |
|
Denominator (all weighted averages): |
|
|
|
|
|
||
Denominator for basic EPS (common shares) |
|
29,814 |
|
23,323 |
|
||
Assumed conversion of share options |
|
1,749 |
|
972 |
|
||
Assumed conversion of convertible preferred shares |
|
539 |
|
1,197 |
|
||
Denominator for diluted EPS |
|
32,102 |
|
25,492 |
|
||
|
|
|
|
|
|
||
Basic EPS: |
|
|
|
|
|
||
Income before discontinued operations |
|
$ |
0.15 |
|
$ |
0.13 |
|
Income from discontinued operations |
|
|
|
0.10 |
|
||
Net income available to common shareholders |
|
$ |
0.15 |
|
$ |
0.23 |
|
Diluted EPS: |
|
|
|
|
|
||
Income before discontinued operations |
|
$ |
0.14 |
|
$ |
0.12 |
|
Income from discontinued operations |
|
|
|
0.10 |
|
||
Net income available to common shareholders |
|
$ |
0.14 |
|
$ |
0.22 |
|
Our diluted EPS computations do not include the effects of the following securities since the conversions of such securities would increase diluted EPS for the respective periods:
|
|
Weighted
average shares in denominator |
|
||
|
|
2004 |
|
2003 |
|
Conversion of weighted average common units |
|
8,863 |
|
8,990 |
|
Conversion of weighted average convertible preferred units |
|
|
|
2,421 |
|
Restricted common shares |
|
149 |
|
330 |
|
Conversion of share options |
|
5 |
|
48 |
|
We and the Service Companies recognize expense from share options issued to employees using the intrinsic value method. As a result, we do not record compensation expense for share option grants except as set forth below:
When the exercise price of a share option grant is less than the market price of our common shares on the option grant date, we recognize compensation expense equal to the difference between the exercise price and the grant-date market price; this compensation expense is recognized over the service period to which the options relate.
In 1999, we reduced the exercise price of 360,500 share options from $9.25 to $8.00. We recognize compensation expense on the share price appreciation and future vesting associated with the re-priced share options. As of March 31, 2004, 4,400 of these shares options were outstanding.
We recognize compensation expense on share options granted to employees of CRM and CC&C prior to January 1, 2001 equal to the difference between the exercise price of such share options and the market price of our common shares on January 1, 2001, to the extent such amount relates to service periods remaining after January 1, 2001.
9
We grant common shares subject to forfeiture restrictions to certain employees. We recognize compensation expense for such grants over the service periods to which the grants relate. We compute compensation expense for common share grants based on the value of such grants, as determined by the value of our common shares on the applicable measurement date, as defined below:
When forfeiture restrictions on grants only require the recipient to remain employed by us over defined periods of time for such restrictions to lapse, the measurement date is the date the shares are granted.
When forfeiture restrictions on grants require (1) that the recipient remain employed by us over defined periods of time and (2) that the Company meet certain performance criteria for such restrictions to lapse, the measurement date is the date that the performance criteria are deemed to be met.
Expenses from stock-based compensation are reflected in our Consolidated Statements of Operations as follows:
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
Increase in general and administrative expenses |
|
$ |
359 |
|
$ |
230 |
|
Decrease in income from service operations |
|
139 |
|
91 |
|
||
The following table summarizes our operating results as if we elected to account for our stock-based compensation under the fair value provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation:
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
Net income available to common shareholders, as reported |
|
$ |
4,537 |
|
$ |
5,454 |
|
Add: Stock-based compensation expense, net of related tax effects and minority interests, included in the determination of net income available to common shareholders |
|
337 |
|
202 |
|
||
Less: Stock-based compensation expense determined under the fair value based method, net of related tax effects and minority interests |
|
(279 |
) |
(188 |
) |
||
Net income available to common shareholders, pro forma |
|
$ |
4,595 |
|
$ |
5,468 |
|
Basic earnings per share on net income available to common shareholders, as reported |
|
$ |
0.15 |
|
$ |
0.23 |
|
Basic earnings per share on net income available to common shareholders, pro forma |
|
$ |
0.15 |
|
$ |
0.23 |
|
Diluted earnings per share on net income available to common shareholders, as reported |
|
$ |
0.14 |
|
$ |
0.22 |
|
Diluted earnings per share on net income available to common shareholders, pro forma |
|
$ |
0.14 |
|
$ |
0.22 |
|
The stock-based compensation expense under the fair value method, as reported in the above table, was computed using the Black-Scholes option-pricing model.
Recent Accounting Pronouncements
In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of ARB 51 (FIN 46). In December 2003, FASB issued FIN No. 46R which replaced FIN 46 and clarified Accounting Research Bulletin 51 (ARB 51). FIN 46R provides guidance in identifying situations in which an entity is controlled by its owners without such owners owning most of the outstanding voting rights in the entity; it defines the entity in such situations as a variable interest entity (VIE). Situations identified by FIN 46R include when the equity owners do not have the characteristics of controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46R then provides guidance in determining when an owner of a VIE should use the consolidation
10
method in accounting for its investment in the VIE. It also provides for additional disclosure requirements for certain owners of VIEs. We adopted FIN 46R immediately for all VIEs created subsequent to January 31, 2003 and effective March 31, 2004 for VIEs created prior to February 1, 2003. In connection with our adoption of FIN 46R, we began to use the consolidation method of accounting effective March 31, 2004 for our investments in the following joint ventures: MOR Forbes 2 LLC, Gateway 70 LLC and MOR Montpelier 3 LLC, which were previously accounted for using the equity method of accounting, and NBP 220, LLC, which was previously accounted for using the financing method of accounting (see Note 2). The effect of consolidating these joint ventures on our Consolidated Balance Sheet as of March 31, 2004 is set forth below.
Operating properties |
|
$ |
2,176 |
|
Projects under construction or development |
|
17,959 |
|
|
Investments in and advances to unconsolidated real estate joint ventures |
|
(3,957 |
) |
|
Restricted cash |
|
10 |
|
|
Accounts receivable, net |
|
145 |
|
|
Deferred rent receivable |
|
7 |
|
|
Deferred charges, net |
|
1,026 |
|
|
Prepaid and other assets |
|
(3,263 |
) |
|
Mortgage and other loans payable |
|
(10,171 |
) |
|
Accounts payable and accrued expenses |
|
(2,737 |
) |
|
Rents received in advance and security deposits |
|
(347 |
) |
|
Other liabilities |
|
4,650 |
|
|
Minority interests-other consolidated real estate entities |
|
(5,498 |
) |
|
|
|
$ |
|
|
The consolidation of these joint ventures had no effect on our Consolidated Statements of Operations for the three months ended March 31, 2004 and 2003. The following table sets forth condensed combined statements of operations for the joint ventures that we began consolidating effective March 31, 2004:
Revenues |
|
$ |
118 |
|
Property operating expenses |
|
(41 |
) |
|
Interest expense |
|
(14 |
) |
|
Depreciation and amortization expense |
|
(44 |
) |
|
Net income |
|
$ |
19 |
|
Additional information regarding our real estate joint ventures is available in Note 5 to the Consolidated Financial Statements.
Operating properties consisted of the following:
|
|
March 31, |
|
December
31, |
|
||
Land |
|
$ |
229,558 |
|
$ |
216,703 |
|
Buildings and improvements |
|
1,071,701 |
|
1,003,214 |
|
||
|
|
1,301,259 |
|
1,219,917 |
|
||
Less: accumulated depreciation |
|
(110,155 |
) |
(103,070 |
) |
||
|
|
$ |
1,191,104 |
|
$ |
1,116,847 |
|
11
Projects we had under construction or development consisted of the following:
|
|
March 31, |
|
December
31, |
|
||
Land |
|
$ |
59,231 |
|
$ |
53,356 |
|
Construction in progress |
|
35,387 |
|
13,793 |
|
||
|
|
$ |
94,618 |
|
$ |
67,149 |
|
2004 Acquisitions
We acquired the following office properties during the three months ended March 31, 2004:
Project Name |
|
Location |
|
Date of |
|
Number of |
|
Total |
|
Initial Cost |
|
|
400 Professional Drive |
|
Gaithersburg, MD |
|
3/5/2004 |
|
1 |
|
129,030 |
|
$ |
23,182 |
|
Wildewood and Exploration/ Expedition Office Parks |
|
St. Marys County, MD |
|
3/24/2004 |
|
8 |
|
430,869 |
|
50,101 |
|
|
In connection with the Wildewood and Exploration/Expedition Office Parks transaction, we also acquired a parcel of land for $1,905.
2004 Construction/Development
As of March 31, 2004, we had construction underway on two new buildings in Annapolis Junction, Maryland, one new building in Chantilly, Virginia, and one new building through a joint venture in Lanham, Maryland. We also had development underway on two new buildings located in Annapolis Junction, Maryland and one new building located in Chantilly, Virginia.
5. Real Estate Joint Ventures
Our investments in and advances to unconsolidated real estate joint ventures accounted for using the equity method of accounting included the following:
|
|
Balance at |
|
|
|
|
|
|
|
Total |
|
Maximum |
|
||||||
|
|
March 31, |
|
December
31, |
|
Date |
|
Ownership |
|
Nature of |
|
Assets at |
|
Exposure |
|
||||
Route 46 Partners, LLC |
|
$ |
1,059 |
|
$ |
1,055 |
|
3/14/03 |
|
20% |
|
Operating building (2) |
|
$ |
23,359 |
|
$ |
1,379 |
|
Gateway 70 LLC |
|
|
|
3,017 |
|
4/5/01 |
|
See Below |
|
Developing land parcel (3) |
|
N/A |
|
N/A |
|
||||
MOR Forbes 2 LLC |
|
|
|
735 |
|
12/24/02 |
|
See Below |
|
Constructing building (4) |
|
N/A |
|
N/A |
|
||||
MOR Montpelier 3 LLC |
|
|
|
455 |
|
2/21/02 |
|
See Below |
|
Developing land parcel (5) |
|
N/A |
|
N/A |
|
||||
|
|
$ |
1,059 |
|
$ |
5,262 |
|
|
|
|
|
|
|
$ |
23,359 |
|
$ |
1,379 |
|
(1) Derived from the sum of our investment balance, loan guarantees (based on maximum loan balance) and maximum additional unilateral capital contributions required from us. Not reported above are additional amounts that we and our partners are required to fund when needed by these joint ventures; these funding requirements are proportional to our ownership percentage.
(2) This joint ventures property is located in Fairfield, New Jersey.
(3) This joint ventures property is located in Columbia, Maryland.
(4) This joint ventures property is located in Lanham, Maryland.
(5) This joint ventures property is located in Laurel, Maryland.
As discussed in Note 3, we adopted FIN 46R effective March 31, 2004 for VIEs created prior to February 1, 2003. Upon this adoption, we began using the consolidation method of accounting for the following joint ventures that had previously been accounted for using either the equity or financing methods of accounting:
12
|
|
Date |
|
Ownership |
|
Nature of |
|
Total |
|
Collateralized |
|
||
NBP 220, LLC |
|
1/31/03 |
|
20% |
|
Constructing building (1) |
|
17,103 |
|
16,168 |
|
||
MOR Forbes 2 LLC |
|
12/24/02 |
|
50% |
|
Constructing building (2) |
|
4,442 |
|
4,188 |
|
||
Gateway 70 LLC |
|
4/5/01 |
|
80% |
|
Developing land parcel (3) |
|
3,722 |
|
3,722 |
|
||
MOR Montpelier 3 LLC |
|
2/21/02 |
|
50% |
|
Developing land parcel (4) |
|
947 |
|
947 |
|
||
|
|
|
|
|
|
|
|
$ |
26,214 |
|
$ |
25,025 |
|
(1) This joint ventures property is located in Annapolis Junction, Maryland.
(2) This joint ventures property is located in Lanham, Maryland.
(3) This joint ventures property is located in Columbia, Maryland.
(4) This joint ventures property is located in Laurel, Maryland.
Our commitments and contingencies pertaining to our real estate joint ventures are disclosed in Note 16. The following table sets forth a condensed balance sheet for our one unconsolidated real estate joint venture as of March 31, 2004:
Commercial real estate property |
|
$ |
21,745 |
|
Other assets |
|
1,614 |
|
|
Total assets |
|
$ |
23,359 |
|
|
|
|
|
|
Liabilities |
|
$ |
14,716 |
|
Owners equity |
|
8,643 |
|
|
Total liabilities and owners equity |
|
$ |
23,359 |
|
13
Our investments in and advances to other unconsolidated entities include the following:
|
|
March 31, |
|
December
31, |
|
Date |
|
Ownership |
|
Investment |
|
||
TractManager, Inc. (1) |
|
$ |
1,621 |
|
$ |
1,621 |
|
Various 2000 |
|
5 |
% |
Cost |
|
(1) TractManager, Inc. has developed an Internet-based contract imaging and management system for sale to real estate owners and healthcare providers.
Intangible assets on real estate acquisitions consisted of the following:
|
|
March 31, |
|
December
31, |
|
||
Tenant value |
|
$ |
49,770 |
|
$ |
46,613 |
|
Lease to market value |
|
7,985 |
|
7,819 |
|
||
Lease cost portion of deemed cost avoidance |
|
5,993 |
|
5,294 |
|
||
Market concentration premium |
|
1,333 |
|
1,333 |
|
||
Subtotal |
|
65,081 |
|
61,059 |
|
||
Accumulated amortization |
|
(9,504 |
) |
(5,367 |
) |
||
Deferred charges, net |
|
$ |
55,577 |
|
$ |
55,692 |
|
Deferred charges consisted of the following:
|
|
March 31, |
|
December
31, |
|
||
Deferred leasing costs |
|
$ |
22,135 |
|
$ |
20,712 |
|
Deferred financing costs |
|
15,379 |
|
13,263 |
|
||
Goodwill |
|
1,880 |
|
1,880 |
|
||
Deferred other |
|
155 |
|
155 |
|
||
|
|
39,549 |
|
36,010 |
|
||
Accumulated amortization (1) |
|
(19,998 |
) |
(18,287 |
) |
||
Deferred charges, net |
|
$ |
19,551 |
|
$ |
17,723 |
|
(1) Included accumulated amortization associated with goodwill of $151.
The following table sets forth our derivative contracts and their respective fair values:
Nature of Derivative |
|
Notional |
|
One-Month |
|
Effective |
|
Expiration |
|
Fair Value
at |
|
Fair Value
at |
|
|||
Interest rate swap |
|
$ |
50.0 |
|
2.308 |
% |
1/2/2003 |
|
1/3/2005 |
|
$ |
(429 |
) |
$ |
(467 |
) |
Interest rate swap |
|
50.0 |
|
1.520 |
% |
1/7/2003 |
|
1/2/2004 |
|
|
|
|
|
|||
Total |
|
|
|
|
|
|
|
|
|
$ |
(429 |
) |
$ |
(467 |
) |
|
14
We have designated each of these derivatives as cash flow hedges. These derivatives hedge the risk of changes in interest rates on certain of our one-month LIBOR-based variable rate borrowings. At March 31, 2004, our outstanding interest rate swap was considered a highly effective cash flow hedge under Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities.
The table below sets forth our accounting application of changes in derivative fair values:
|
|
For the
three months ended |
|
||||
|
|
2004 |
|
2003 |
|
||
(Decrease) in fair value applied to AOCL (1) and minority interests |
|
$ |
(39 |
) |
$ |
(299 |
) |
Increase in fair value recognized as gain (2) |
|
$ |
77 |
|
$ |
|
|
(1) AOCL is defined below.
(2) Represents hedge ineffectiveness and is included in interest expense on our Consolidated Statements of Operations.
Over time, the unrealized losses associated with interest rate swaps that are held in the accumulated other comprehensive loss component of shareholders equity (AOCL) and minority interests will be reclassified to earnings as interest payments occur on our LIBOR-based borrowings.
Preferred Shares
On February 11, 2004, the holder of the Series D Preferred Shares of beneficial interest converted the shares into common shares on the basis of 2.2 common shares for each Series D Preferred Share, resulting in the issuance of 1,196,800 common shares.
Common Shares
During the three months ended March 31, 2004, 43,950 common units in our Operating Partnership were converted into common shares on the basis of one common share for each common unit.
During the three months ended March 31, 2004, we issued 99,935 common shares to certain employees. All of these shares are subject to forfeiture restrictions that lapse annually throughout their respective terms provided that the employees remain employed by us. During the same period, forfeiture restrictions lapsed on 100,595 common shares previously issued to employees. We also issued 4,000 unrestricted common shares to employees during this period.
We issued 234,227 common shares upon the exercise of share options during the three months ended March 31, 2004.
A summary of the activity in the AOCL component of shareholders equity for the three months ended March 31, 2004 follows:
Beginning balance |
|
$ |
(294 |
) |
Unrealized loss on interest rate swaps, net of minority interests |
|
(34 |
) |
|
Ending balance |
|
$ |
(328 |
) |
15
The following table summarizes our dividends and distributions when either the payable dates or record dates occurred during the three months ended March 31, 2004:
|
|
Record Date |
|
Payable Date |
|
Dividend/ |
|
Total |
|
||
Series B Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.6250 |
|
$ |
781 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.6250 |
|
$ |
781 |
|
|
|
|
|
|
|
|
|
|
|
||
Series D Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.2500 |
|
$ |
136 |
|
|
|
|
|
|
|
|
|
|
|
||
Series E Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.6406 |
|
$ |
737 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.6406 |
|
$ |
737 |
|
|
|
|
|
|
|
|
|
|
|
||
Series F Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.6172 |
|
$ |
880 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.6172 |
|
$ |
880 |
|
|
|
|
|
|
|
|
|
|
|
||
Series G Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.5000 |
|
$ |
1,100 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.5000 |
|
$ |
1,100 |
|
|
|
|
|
|
|
|
|
|
|
||
Series H Preferred Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.1458 |
|
$ |
292 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.4688 |
|
$ |
938 |
|
|
|
|
|
|
|
|
|
|
|
||
Common Shares: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.2350 |
|
$ |
6,806 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.2350 |
|
$ |
7,178 |
|
|
|
|
|
|
|
|
|
|
|
||
Common Units: |
|
|
|
|
|
|
|
|
|
||
Fourth Quarter 2003 |
|
December 31, 2003 |
|
January 15, 2004 |
|
$ |
0.2350 |
|
$ |
2,085 |
|
First Quarter 2004 |
|
March 31, 2004 |
|
April 15, 2004 |
|
$ |
0.2350 |
|
$ |
2,074 |
|
16
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
Supplemental schedule of non-cash investing and financing activities: |
|
|
|
|
|
||
|
|
|
|
|
|
||
Consolidation of real estate joint ventures in connection with adoption of FIN 46R: |
|
|
|
|
|
||
Operating properties |
|
$ |
2,176 |
|
$ |
|
|
Projects under construction or development |
|
17,959 |
|
|
|
||
Investments in and advances to unconsolidated real estate joint ventures |
|
(3,957 |
) |
|
|
||
Restricted cash |
|
10 |
|
|
|
||
Accounts receivable, net |
|
145 |
|
|
|
||
Deferred rent receivable |
|
7 |
|
|
|
||
Deferred charges, net |
|
1,026 |
|
|
|
||
Prepaid and other assets |
|
(3,263 |
) |
|
|
||
Mortgage and other loans payable |
|
(10,171 |
) |
|
|
||
Accounts payable and accrued expenses |
|
(2,737 |
) |
|
|
||
Rents received in advance and security deposits |
|
(347 |
) |
|
|
||
Other liabilities |
|
4,650 |
|
|
|
||
Minority interests-other consolidated real estate entities |
|
(5,498 |
) |
|
|
||
Net adjustment |
|
$ |
|
|
$ |
|
|
Adjustment to purchase of commercial real estate properties by acquiring joint venture interests: |
|
|
|
|
|
||
Operating properties |
|
$ |
(83 |
) |
$ |
|
|
Investments in and advances to unconsolidated real estate joint ventures |
|
83 |
|
|
|
||
Net adjustment |
|
$ |
|
|
$ |
|
|
Debt assumed in connection with acquisitions |
|
$ |
21,218 |
|
$ |
16,917 |
|
Notes receivable assumed upon sales of real estate |
|
$ |
|
|
$ |
3,300 |
|
Investment in real estate joint venture obtained with disposition of property |
|
$ |
|
|
$ |
2,300 |
|
Increase (decrease) in accrued capital improvements and leasing costs |
|
$ |
10,087 |
|
$ |
(1,183 |
) |
Amortization of discounts and premiums on mortgage loans to commercial real estate properties |
|
$ |
92 |
|
$ |
85 |
|
Accretion of other liability to commercial real estate properties |
|
$ |
147 |
|
$ |
84 |
|
Decrease in fair value of derivatives applied to AOCL and minority interests |
|
$ |
(39 |
) |
$ |
(299 |
) |
Adjustments to minority interests resulting from changes in ownership of Operating Partnership by COPT |
|
$ |
1,129 |
|
$ |
|
|
Dividends/distribution payable |
|
$ |
12,991 |
|
$ |
9,819 |
|
Decrease in minority interests and increase in shareholders equity in connection with the conversion of common units into common shares |
|
$ |
1,003 |
|
$ |
|
|
Conversion of preferred shares adjusted to common shares and paid in capital |
|
$ |
12 |
|
$ |
|
|
Issuance of restricted shares |
|
$ |
2,271 |
|
$ |
1,223 |
|
17
We have seven primary office property segments: Baltimore/Washington Corridor, Northern Virginia, Greater Philadelphia, Northern/Central New Jersey, Greater Harrisburg, Suburban Maryland and Southern Maryland.
The table below reports segment financial information. Our segment entitled Other includes assets and operations not specifically associated with the other defined segments. We measure the performance of our segments based on total revenues less property operating expenses, a measure we define as net operating income (NOI). We believe that NOI is an important supplemental measure of operating performance for a REITs operating real estate because it provides a measure of the core operations that is unaffected by depreciation, amortization, financing and general and administrative expenses; this measure is particularly useful in our opinion in evaluating the performance of geographic segments, same-office property groupings and individual properties.
|
|
Baltimore/ |
|
Northern |
|
Greater |
|
Northern/ |
|
Greater |
|
Suburban |
|
Southern |
|
Other |
|
Total |
|
|||||||||
Three months ended March 31, 2004: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||
Revenues |
|
$ |
25,278 |
|
$ |
10,886 |
|
$ |
2,506 |
|
$ |
4,679 |
|
$ |
2,243 |
|
$ |
1,555 |
|
$ |
124 |
|
$ |
1,700 |
|
$ |
48,971 |
|
Property operating expenses |
|
8,125 |
|
3,312 |
|
40 |
|
1,486 |
|
742 |
|
598 |
|
33 |
|
703 |
|
$ |
15,039 |
|
||||||||
NOI |
|
$ |
17,153 |
|
$ |
7,574 |
|
$ |
2,466 |
|
$ |
3,193 |
|
$ |
1,501 |
|
$ |
957 |
|
$ |
91 |
|
$ |
997 |
|
$ |
33,932 |
|
Commercial real estate property expenditures |
|
$ |
29,761 |
|
$ |
3,064 |
|
$ |
179 |
|
$ |
233 |
|
$ |
195 |
|
$ |
26,489 |
|
$ |
48,531 |
|
$ |
359 |
|
$ |
108,811 |
|
Segment assets at March 31, 2004 |
|
$ |
700,417 |
|
$ |
265,400 |
|
$ |
101,835 |
|
$ |
83,757 |
|
$ |
68,922 |
|
$ |
70,388 |
|
$ |
52,092 |
|
$ |
89,199 |
|
$ |
1,432,010 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||
Three months ended March 31, 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||
Revenues |
|
$ |
22,848 |
|
$ |
5,860 |
|
$ |
2,506 |
|
$ |
4,522 |
|
$ |
2,493 |
|
$ |
2,482 |
|
$ |
|
|
$ |
1,709 |
|
$ |
42,420 |
|
Property operating expenses |
|
8,027 |
|
1,883 |
|
34 |
|
1,628 |
|
747 |
|
1,024 |
|
|
|
659 |
|
14,002 |
|
|||||||||
NOI |
|
$ |
14,821 |
|
$ |
3,977 |
|
$ |
2,472 |
|
$ |
2,894 |
|
$ |
1,746 |
|
$ |
1,458 |
|
$ |
|
|
$ |
1,050 |
|
$ |
28,418 |
|
Commercial real estate property expenditures |
|
$ |
38,769 |
|
$ |
264 |
|
$ |
143 |
|
$ |
201 |
|
$ |
127 |
|
$ |
188 |
|
$ |
|
|
$ |
134 |
|
$ |
39,826 |
|
Segment assets at March 31, 2003 |
|
$ |
640,141 |
|
$ |
114,813 |
|
$ |
103,340 |
|
$ |
86,211 |
|
$ |
70,227 |
|
$ |
42,176 |
|
$ |
|
|
$ |
91,432 |
|
$ |
1,148,340 |
|
18
The following table reconciles our NOI for reportable segments to income before income taxes and discontinued operations as reported on our Consolidated Statements of Operations:
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
NOI for reportable segments |
|
$ |
33,932 |
|
$ |
28,418 |
|
Equity in loss of unconsolidated real estate joint ventures |
|
(88 |
) |
(153 |
) |
||
Income (loss) from service operations |
|
742 |
|
(81 |
) |
||
(Loss) gain on sales of real estate |
|
(222 |
) |
404 |
|
||
Less: |
|
|
|
|
|
||
Interest |
|
(10,262 |
) |
(10,135 |
) |
||
Depreciation and other amortization |
|
(10,359 |
) |
(8,044 |
) |
||
General and administrative |
|
(2,286 |
) |
(1,948 |
) |
||
Amortization of deferred financing costs |
|
(859 |
) |
(589 |
) |
||
Minority interests |
|
(1,452 |
) |
(1,787 |
) |
||
NOI from discontinued operations |
|
|
|
(554 |
) |
||
Income before income taxes and discontinued operations |
|
$ |
9,146 |
|
$ |
5,531 |
|
We did not allocate (loss) gain on sales of real estate, interest expense, amortization of deferred financing costs and depreciation and other amortization to segments since they are not included in the measure of segment profit reviewed by management. We also did not allocate equity in loss of unconsolidated real estate joint ventures, income (loss) from service operations, general and administrative expense and minority interests because these items represent general corporate items not attributable to segments.
COMIs provision for income tax consists of the following:
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
Current |
|
|
|
|
|
||
Federal |
|
$ |
|
|
$ |
|
|
State |
|
|
|
|
|
||
|
|
|
|
|
|
||
Deferred |
|
|
|
|
|
||
Federal |
|
(165 |
) |
24 |
|
||
State |
|
(35 |
) |
5 |
|
||
|
|
(200 |
) |
29 |
|
||
Total |
|
(200 |
) |
29 |
|
||
Minority interests |
|
47 |
|
(8 |
) |
||
Income tax (expense) benefit, net of minority interests |
|
$ |
(153 |
) |
$ |
21 |
|
Items contributing to temporary differences that lead to deferred taxes include depreciation and amortization, certain accrued compensation, compensation made in the form of contributions to a deferred nonqualified compensation plan and expenses associated with stock-based compensation.
COMIs combined Federal and state effective tax rate for the three months ended March 31, 2004 and 2003 was approximately 40%.
19
Income from discontinued operations includes revenues and expenses associated with an operating property located in Oxon Hill, Maryland that was sold on March 31, 2003. The table below sets forth the components of income from discontinued operations:
|
|
For the
three |
|
|
Revenue from real estate operations |
|
$ |
902 |
|
Expenses from real estate operations: |
|
|
|
|
Property operating expenses |
|
348 |
|
|
Depreciation and amortization |
|
19 |
|
|
Interest expense |
|
100 |
|
|
Expenses from real estate operations |
|
467 |
|
|
Earnings from real estate operations before gain on sale of real estate and minority interests |
|
435 |
|
|
Gain on sale of real estate |
|
3,011 |
|
|
Income from discontinued operations before minority interests |
|
3,446 |
|
|
Minority interests in discontinued operations |
|
(1,011 |
) |
|
Income from discontinued operations, net of minority interests |
|
$ |
2,435 |
|
In the normal course of business, we are involved in legal actions arising from our ownership and administration of properties. Management does not anticipate that any liabilities that may result will have a materially adverse effect on our financial position, operations or liquidity. We are subject to various Federal, state and local environmental regulations related to our property ownership and operation. We have performed environmental assessments of our properties, the results of which have not revealed any environmental liability that we believe would have a materially adverse effect on our financial position, operations or liquidity.
Acquisition
As of March 31, 2004, we were under contract to acquire two office properties in St. Marys County, Maryland for $13,650. One of these buildings was acquired on May 5, 2004 and we expect to acquire the other by July 2004.
Joint Ventures
In the event that the costs to complete construction of a building owned by NBP 220, LLC exceed amounts funded by existing credit facilities and member investments previously made, we will be responsible for making additional investments in this joint venture of up to $4,500. We do not expect that such contributions will be necessary.
We may be required to make additional unilateral capital contributions to Route 46 Partners, LLC of up to $320 to fund our partners preferred return; we do not expect that such contributions will be necessary. We may also be required to fund leasing commissions associated with leasing space in this joint ventures building to the extent such commissions exceed a defined amount; we do not expect that any such funding, if required, will be material to us.
20
We may need to make our share of additional investments in our real estate joint ventures (generally based on our percentage ownership) in the event that additional funds are needed. In the event that the other members of these joint ventures do not pay their share of investments when additional funds are needed, we may then need to make even larger investments in these joint ventures.
In three of our four real estate joint ventures owned as of March 31, 2004, we would be obligated to acquire the other members interest in each of the joint ventures (20% in the case of one and 50% each in the case of two) if defined events were to occur. The amount we would need to pay for those membership interests is computed based on the amount that the owners of those interests would receive under the joint venture agreements in the event that office properties owned by the respective joint ventures were sold for a capitalized fair value (as defined in the agreements) on a defined date. We estimate the aggregate amount we would need to pay for our partners membership interests in these joint ventures to be $1,300; however, since the determination of this amount is dependent on the operations of the office properties and none of the properties are both completed and occupied, this estimate is preliminary and could be materially different from the actual obligation.
We would be required to acquire the other members interest in NBP 220, LLC in the event that the joint venture defaults on its obligations as landlord or does not meet established construction completion timeframes. The minimum amount we would need to acquire this membership interest is $4,911 at March 31, 2004.
Operating Leases
We are obligated as lessee under five operating leases for office space. Future minimum rental payments due under the terms of these leases as of March 31, 2004 were as follows:
2004 |
|
$ |
447 |
|
2005 |
|
585 |
|
|
2006 |
|
324 |
|
|
2007 |
|
39 |
|
|
2008 |
|
29 |
|
|
|
|
$ |
1,424 |
|
Land Leases
At March 31, 2004, we were obligated as lessee under leases for two parcels of land; we have a building located on one of these parcels and the other parcel is being developed. These leases provide for monthly rent on one parcel through March 2098 and the other through September 2099. Future minimum annual rental payments due under the terms of these leases as of March 31, 2004 were as follows:
2004 |
|
$ |
265 |
|
2005 |
|
353 |
|
|
2006 |
|
353 |
|
|
2007 |
|
353 |
|
|
2008 |
|
353 |
|
|
Thereafter |
|
31,711 |
|
|
|
|
$ |
33,388 |
|
We acquired title to these two parcels of land for an aggregate purchase price of $4,000 on April 14, 2004, at which time the leases were terminated.
Other Operating Leases
We are obligated under various leases for vehicles and office equipment. Future minimum annual rental payments due under the terms of these leases as of March 31, 2004 were as follows:
21
2004 |
|
$ |
203 |
|
2005 |
|
183 |
|
|
2006 |
|
105 |
|
|
2007 |
|
17 |
|
|
|
|
$ |
508 |
|
17. Pro Forma Financial Information
We accounted for our 2003 and 2004 acquisitions using the purchase method of accounting. We included the results of operations for the acquisitions in our Consolidated Statements of Operations from their respective purchase dates through March 31, 2004.
We prepared our pro forma condensed consolidated financial information presented below as if all of our 2003 and 2004 acquisitions and dispositions of operating properties had occurred on January 1, 2003. The pro forma financial information is not necessarily indicative of the results that actually would have occurred if these acquisitions and dispositions had occurred on January 1, 2003, nor does it intend to indicate our results of operations for future periods.
|
|
For the
three months |
|
||||
|
|
2004 |
|
2003 |
|
||
|
|
|
|
|
|
||
Pro forma total revenues |
|
$ |
58,663 |
|
$ |
51,554 |
|
Pro forma net income available to common shareholders |
|
$ |
4,801 |
|
$ |
4,138 |
|
Pro forma earnings per common share on net income available to common shareholders |
|
|
|
|
|
||
Basic |
|
$ |
0.16 |
|
$ |
0.14 |
|
Diluted |
|
$ |
0.15 |
|
$ |
0.14 |
|
18. Subsequent Events
On April 15, 2004, we acquired a 178,764 square foot office property located in Northern Baltimore County, Maryland for a purchase price of approximately $16,500 primarily using borrowings under our Revolving Credit Facility.
On April 23, 2004, we sold 2,750,000 common shares in an underwritten public offering at a net price of $21.243 per share. We contributed the net proceeds totaling approximately $58,400 to our Operating Partnership in exchange for 2,750,000 common units.
On April 26, 2004, we sold for approximately $9,600 a land parcel in Columbia, Maryland and a land parcel in Linthicum, Maryland. We issued to the buyer a $5,600 mortgage loan bearing interest at 5.5% and a maturity date of July 2005; the balance of the acquisition was in the form of cash from the buyer. Upon completion of the sale, we entered into an agreement with the buyer to lease the land parcels for an aggregate monthly payment of $10 beginning July 1, 2004 until April 30, 2005, at which time the rent reduces to $1 per month until 2079. The buyer in this transaction has an option to contribute the two land parcels into our Operating Partnership between January 1, 2005 and February 28, 2005 in exchange for extinguishment of the $5,600 mortgage loan with us and $4,000 in common units in our Operating Partnership; a unit price ranging from $24.45 to $25.90 will be used to determine the number of units in the Operating Partnership that the buyer would receive if the option were exercised. If the buyer in this transaction does not exercise its option to contribute the two land parcels into our Operating Partnership, we have the option to re-acquire the properties anytime after March 15, 2005 for the same consideration described in the previous sentence.
22
On April 29, 2004, we acquired a parcel of land adjacent to an office property that we own in Herndon, Virginia for approximately $9,700.
23
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
Managements Discussion and Analysis of Financial Condition and Results of Operations
Overview
Corporate Office Properties Trust (COPT) and subsidiaries (collectively, the Company) is a real estate investment trust, or REIT, that focuses on the ownership, management, leasing, acquisition and development of suburban office properties located in select submarkets in the Mid-Atlantic region of the United States. We conduct our real estate ownership activity through our operating partnership, Corporate Office Properties, L.P. (the Operating Partnership), for which we are the sole general partner. The Operating Partnership owns real estate both directly and through subsidiary partnerships and limited liability companies. The Operating Partnership also owns an entity through which we provide real estate-related services that include (1) property management, (2) construction and development management and (3) heating and air conditioning services and controls. The number of operating properties in our portfolio totaled 129 as of March 31, 2004 and 119 as of December 31, 2003. Our growth in number of operating properties over that timeframe was achieved primarily through our acquisition and development of properties.
Most of our revenues come from rents and property operating expense reimbursements earned from tenants leasing space in our properties. Most of our expenses take the form of (1) property operating costs, such as real estate taxes, utilities and repairs and maintenance, (2) financing costs, such as interest and loan costs and (3) depreciation and amortization of our operating properties and tenant lease costs.
Cash provided from operations is our primary source of cash for funding dividends and distributions, debt service on our loans and other working capital requirements. A good place to start in evaluating our cash flow provided by operations is the line entitled net cash provided by operating activities on our Statements of Cash Flows. We also believe that the amount that we incur on our operating properties for tenant and capital improvements and leasing costs are particularly useful in evaluating our cash flow from operations since these costs are required to operate our properties; we provide this information in the section entitled Funds from Operations. Since we are a REIT and therefore distribute 100% of our REIT taxable income in order to avoid paying income taxes, our dividends and distributions paid are also useful in determining how much cash we have available for other uses; however, it is noteworthy that we have historically paid dividends in excess of our REIT taxable income.
We historically have financed our long-term capital needs, including property acquisition and development activities, through a combination of the following:
borrowings under our primary revolving credit facility (the Revolving Credit Facility);
borrowings from new loans;
issuances of common shares of beneficial interest (common shares), preferred shares of beneficial interest (preferred shares) and common units and/or preferred units in our Operating Partnership;
contributions from outside investors into real estate joint ventures;
proceeds from sales of real estate; and
any available residual cash flow from operations after application to the items described in the previous paragraph.
During the three months ended March 31, 2004, we:
experienced increased revenues, operating expenses and earnings from real estate operations due primarily to the addition of properties through acquisition and construction activities;
experienced increased revenue from Same-Office Properties of $493,000 or 1% and increased operating expenses from those properties of $56,000 or 6%;
finished the period with occupancy for our portfolio of properties at 91.9%;
renewed 84.2% of the square footage under leases expiring during the period;
acquired nine office properties and two land parcels for $75.2 million; eight of these properties represented our initial entry into the Southern Maryland region; and
24
obtained a new $300.0 million revolving credit facility which replaces our previous facility.
In this section, we discuss our financial condition and results of operations as of and for the three months ended March 31, 2004. This section includes discussions on, among other things:
our results of operations and why various components of our Consolidated Statements of Operations changed for the three months ended March 31, 2004 compared to the same period in 2003;
how we raised cash for acquisitions and other capital expenditures during the three months ended March 31, 2004;
our cash flows;
how we expect to generate cash for short and long-term capital needs;
our off-balance sheet arrangements in place that are reasonably likely to affect our financial condition, results of operations and liquidity;
our commitments and contingencies; and
the computation of our Funds from Operations for the three months ended March 31, 2004 and 2003.
You should refer to our Consolidated Financial Statements and Selected Financial Data table as you read this section.
This section contains forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, that are based on our current expectations, estimates and projections about future events and financial trends affecting the financial condition and operations of our business. Forward-looking statements can be identified by the use of words such as may, will, should, expect, estimate or other comparable terminology. Forward-looking statements are inherently subject to risks and uncertainties, many of which we cannot predict with accuracy and some of which we might not even anticipate. Although we believe that the expectations, estimates and projections reflected in such forward-looking statements are based on reasonable assumptions at the time made, we can give no assurance that these expectations, estimates and projections will be achieved. Future events and actual results may differ materially from those discussed in the forward-looking statements. Important factors that may affect these expectations, estimates and projections include, but are not limited to:
our ability to borrow on favorable terms;
general economic and business conditions, which will, among other things, affect office property demand and rents, tenant creditworthiness, interest rates and financing availability;
adverse changes in the real estate markets, including, among other things, increased competition with other companies;
risks of real estate acquisition and development activities;
risks of investing through joint venture structures, including risks that our joint venture partners may not fulfill their financial obligations as investors or may take actions that are inconsistent with our objectives;
governmental actions and initiatives; and
environmental requirements.
We undertake no obligation to update or supplement forward-looking statements.
25
Corporate Office Properties Trust
Operating Data Variance Analysis
(Dollars for this table are in thousands, except per share data)
|
|
For the three months ended March 31, |
|
|||||||||
|
|
2004 |
|
2003 |
|
Variance |
|
% Change |
|
|||
Real Estate Operations: |
|
|
|
|
|
|
|
|
|
|||
Revenues |
|
|
|
|
|
|
|
|
|
|||
Rental revenue |
|
$ |
43,194 |
|
$ |
35,989 |
|
$ |
7,205 |
|
20 |
% |
Tenant recoveries and other revenue |
|
5,777 |
|
5,529 |
|
248 |
|
4 |
% |
|||
Revenues from real estate operations |
|
48,971 |
|
41,518 |
|
7,453 |
|
18 |
% |
|||
Expenses |
|
|
|
|
|
|
|
|
|
|||
Property operating |
|
15,039 |
|
13,654 |
|
1,385 |
|
10 |
% |
|||
Interest |
|
10,262 |
|
10,135 |
|
127 |
|
1 |
% |
|||
Amortization of deferred financing costs |
|
859 |
|
589 |
|
270 |
|
46 |
% |
|||
Depreciation and other amortization |
|
10,359 |
|
8,044 |
|
2,315 |
|
29 |
% |
|||
Expenses from real estate operations |
|
36,519 |
|
32,422 |
|
4,097 |
|
13 |
% |
|||
Earnings from real estate operations before equity in loss of unconsolidated real estate joint ventures |
|
12,452 |
|
9,096 |
|
3,356 |
|
37 |
% |
|||
Equity in loss of unconsolidated real estate joint ventures |
|
(88 |
) |
(153 |
) |
65 |
|
(42 |
)% |
|||
Earnings from real estate operations |
|
12,364 |
|
8,943 |
|
3,421 |
|
38 |
% |
|||
Income (loss) from service operations |
|
742 |
|
(81 |
) |
823 |
|
N/A |
|
|||
General and administrative expense |
|
(2,286 |
) |
(1,948 |
) |
(338 |
) |
17 |
% |
|||
(Loss) gain on sales of real estate |
|
(222 |
) |
404 |
|
(626 |
) |
N/A |
|
|||
Income before minority interests, income taxes and discontinued operations |
|
10,598 |
|
7,318 |
|
3,280 |
|
45 |
% |
|||
Minority interests |
|
(1,452 |
) |
(1,787 |
) |
335 |
|
(19 |
)% |
|||
Income tax (expense) benefit, net |
|
(153 |
) |
21 |
|
(174 |
) |
N/A |
|
|||
Income from discontinued operations, net |
|
|
|
2,435 |
|
(2,435 |
) |
(100 |
)% |
|||
Net income |
|
8,993 |
|
7,987 |
|
1,006 |
|
13 |
% |
|||
Preferred share dividends |
|
(4,456 |
) |
(2,533 |
) |
(1,923 |
) |
76 |
% |
|||
Net income available to common shareholders |
|
$ |
4,537 |
|
$ |
5,454 |
|
$ |
(917 |
) |
(17 |
)% |
Basic earnings per common share |
|
|
|
|
|
|
|
|
|
|||
Income before discontinued operations |
|
$ |
0.15 |
|
$ |
0.13 |
|
$ |
0.02 |
|
15 |
% |
Net income available to common shareholders |
|
$ |
0.15 |
|
$ |
0.23 |
|
$ |
(0.08 |
) |
(35 |
)% |
Diluted earnings per common share |
|
|
|
|
|
|
|
|
|
|||
Income before discontinued operations |
|
$ |
0.14 |
|
$ |
0.12 |
|
$ |
0.02 |
|
17 |
% |
Net income available to common shareholders |
|
$ |
0.14 |
|
$ |
0.22 |
|
$ |
(0.08 |
) |
(36 |
)% |
26
Results of Operations
While reviewing this section, you should refer to the Operating Data Variance Analysis table set forth on the preceding page, as it reflects the computation of the variances described in this section.
Occupancy and leasing
Over the last three years, the United States economy suffered from an economic slowdown that we believe had an adverse effect on the office real estate leasing market. Occupancy rates declined in most parts of the country, placing downward pressure on rental rates and increasing the competitive environment for attracting tenants. We believe that the national trend was felt in each of our geographic regions, contributing towards decreased occupancy in our portfolio of properties. We also experienced downward pressure on rental rates and increased competition for tenants in our properties. During the latter portion of 2003 and in the first quarter of 2004, we believe that there was an increase in leasing activity in our regions. We expect the increased leasing activity trend in our regions to continue in 2004, which we expect would improve occupancy levels in those regions and in our properties.
The table below sets forth certain occupancy and leasing information:
|
|
March 31, |
|
December
31, |
|
||
Occupancy for portfolio of properties |
|
91.9 |
% |
91.2 |
% |
||
Average contractual rental rate (1) |
|
$ |
19.81 |
|
$ |
20.06 |
|
Weighted average lease term (in years) |
|
4.7 |
|
4.9 |
|
||
(1) Includes estimated expense reimbursements.
We were able to renew 84.2% of the square footage under leases expiring in the three months ended March 31, 2004; these renewals took place at an average contractual rental rate per square foot of $19.35. The occupancy and leasing information reflected in the table above includes the effects of properties acquired during the three months ended March 31, 2004; these properties were 94.0% occupied, had an average contractual rental rate per square foot of $16.84 and a weighted average lease term of 4.6 years as of March 31, 2004.
As we discussed above, we are beginning to see signs of improvement in leasing trends in many of our submarkets. However, since rental conditions in many of our regions continue to be affected by the economic downturn, we expect that the operating performance of our properties may be adversely affected as we attempt to lease vacant space and renew leases that are scheduled to expire. Our exposure over the remainder of 2004 and 2005 is reduced somewhat by the fact that only 16.8% of our annualized rental revenues from leases in place as of March 31, 2004 were from leases scheduled to expire by the end of 2005.
Annualized rental revenue is a measure that we use to evaluate the source of our rental revenue as of a point in time. It is computed by multiplying by 12 the sum of monthly contractual base rents and estimated monthly expense reimbursements under active leases in our portfolio of properties as of a point in time. Portfolio annualized rental revenue is annualized rental revenue for our entire portfolio of properties as of a point in time, including both consolidated properties and properties owned through unconsolidated real estate joint ventures. We consider annualized rental revenue to be a useful measure for analyzing revenue sources because, since it is point-in-time based, it does not contain increases and decreases in revenue associated with periods in which lease terms were not in effect; historical revenue under generally accepted accounting principles (GAAP) does contain such fluctuations. We find the measure particularly useful for leasing, tenant, segment and industry analysis.
Most of the leases with our largest tenant, the United States Government, provide for consecutive one-year terms or provide for early termination rights; all of the leasing statistics set forth above assume that the United States Government will remain in the space that they lease through the end of the respective
27
arrangements, without ending consecutive one-year leases prematurely or exercising early termination rights. We reported the statistics in this manner since we manage our leasing activities using these same assumptions and believe these assumptions to be probable.
Geographic concentration of property operations
During the three months ended March 31, 2004, we acquired eight properties in St. Marys County, Maryland, which is located in Southern Maryland; this acquisition marked our entry into that submarket of the Greater Washington, D.C. area. We also acquired one property in Suburban Maryland. The table below sets forth the regional allocation of our portfolio annualized rental revenue:
|
|
% of
Portfolio Annualized |
|
||
Region |
|
March 31, |
|
December
31, |
|
Baltimore/Washington Corridor |
|
51.8 |
% |
53.6 |
% |
Northern Virginia |
|
18.3 |
% |
19.8 |
% |
Northern/Central New Jersey |
|
9.1 |
% |
9.5 |
% |
Greater Philadelphia |
|
5.4 |
% |
5.7 |
% |
Harrisburg, Pennsylvania |
|
4.6 |
% |
5.1 |
% |
Suburban Maryland |
|
4.3 |
% |
2.9 |
% |
Southern Maryland |
|
3.1 |
% |
N/A |
|
Other |
|
3.4 |
% |
3.4 |
% |
|
|
100.0 |
% |
100.0 |
% |
The changes in the percentages between the two points in time are attributable primarily to the property acquisitions. We expect that we will focus most of our acquisition and development activities in the Northern Virginia, Baltimore/Washington Corridor and Suburban Maryland regions in 2004. In addition, we are contractually obligated to acquire two additional office properties in the Southern Maryland region.
Concentration of leases with certain tenants
The following schedule lists our 20 largest tenants based on percentage of portfolio annualized rental revenue:
28
|
|
Percentage
of Portfolio |
|
||
Tenant |
|
March 31, |
|
December
31, |
|
|
|
|
|
|
|
United States of America |
|
14.2 |
% |
14.8 |
% |
Computer Sciences Corporation (1) |
|
6.3 |
% |
6.3 |
% |
AT&T Corporation (1) |
|
5.1 |
% |
5.2 |
% |
VeriSign, Inc. |
|
4.7 |
% |
5.1 |
% |
General Dynamics Corporation |
|
4.2 |
% |
3.3 |
% |
Unisys (2) |
|
4.1 |
% |
4.4 |
% |
Booz Allen Hamilton, Inc. |
|
2.6 |
% |
2.6 |
% |
Northrop Grumman Corporation |
|
2.4 |
% |
2.5 |
% |
Ciena Corporation |
|
2.1 |
% |
2.2 |
% |
The Boeing Company (1) |
|
2.0 |
% |
2.1 |
% |
The Aerospace Corporation |
|
1.8 |
% |
1.9 |
% |
Magellan Health Services, Inc. |
|
1.6 |
% |
1.8 |
% |
Commonwealth of Pennsylvania (1) |
|
1.5 |
% |
1.5 |
% |
Johns Hopkins University (1) |
|
1.3 |
% |
1.3 |
% |
Titan Corporation (1) |
|
1.3 |
|