UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
For the quarterly period ended June 30, 2014
or
For the transition period from to
Commission file number: 001-35908
ARMADA HOFFLER PROPERTIES, INC.
(Exact Name of Registrant as Specified in its Charter)
(IRS Employer
Identification No.)
222 Central Park Avenue, Suite 2100
Virginia Beach, Virginia
(757) 366-4000
(Registrant’s Telephone Number, Including Area Code)
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. x Yes ¨ No
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). x Yes ¨ 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 definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes x No
As of August 1, 2014, the Registrant had 19,265,664 shares of common stock outstanding.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2014
Table of Contents
Part I. Financial Information
Item 1.
Financial Statements
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
Item 4.
Controls and Procedures
Part II. Other Information
Legal Proceedings
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults Upon Senior Securities
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits
Signatures
PART I. Financial Information
Condensed Consolidated Balance Sheets
(In Thousands, except par value and share data)
ASSETS
Real estate investments:
Income producing property
Held for development
Construction in progress
Accumulated depreciation
Net real estate investments
Cash and cash equivalents
Restricted cash
Accounts receivable, net
Construction receivables, including retentions
Construction contract costs and estimated earnings in excess of billings
Other assets
Total Assets
LIABILITIES AND EQUITY
Indebtedness
Accounts payable and accrued liabilities
Construction payables, including retentions
Billings in excess of construction contract costs and estimated earnings
Other liabilities
Total Liabilities
Stockholders’ equity:
Common stock, $0.01 par value, 500,000,000 shares authorized, 19,265,919 and 19,163,413 shares issued and outstanding as of June 30, 2014 and December 31, 2013, respectively
Additional paid-in capital
Distributions in excess of earnings
Total stockholders’ deficit
Noncontrolling interests
Total Equity
Total Liabilities and Equity
See Notes to Condensed Consolidated and Combined Financial Statements.
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ARMADA HOFFLER PROPERTIES, INC. AND PREDECESSOR
Condensed Consolidated and Combined Statements of Income
(In Thousands, except per share data)
(Unaudited)
Revenues
Rental revenues
General contracting and real estate services revenues
Total revenues
Expenses
Rental expenses
Real estate taxes
General contracting and real estate services expenses
Depreciation and amortization
General and administrative expenses
Impairment charges
Total expenses
Operating income
Interest expense
Loss on extinguishment of debt
Gain on acquisitions
Other (loss) income
Income before taxes
Income tax (provision) benefit
Net income
Net income attributable to Predecessor
Net income attributable to noncontrolling interests
Net income attributable to stockholders
Net income per share:
Basic and diluted
Weighted-average outstanding:
Common shares
Common units
Dividends declared per common share and unit
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Condensed Consolidated Statement of Equity
(In Thousands, except share data)
Balance, January 1, 2014
Restricted stock award grants
Vesting of restricted stock awards
Minimum tax withholding
Restricted stock award forfeitures
Acquisitions
Exchange of owners’ equity for common units
Dividends and distributions declared
Balance, June 30, 2014
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Condensed Consolidated and Combined Statements of Cash Flows
(In Thousands)
OPERATING ACTIVITIES
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation of buildings and tenant improvements
Amortization of deferred leasing costs and in-place lease intangibles
Accrued straight-line rental revenue
Amortization of lease incentives and above or below-market rents
Accrued straight-line ground rent expense
Bad debt expense
Noncash stock compensation
Noncash interest expense
Noncash loss on extinguishment of debt
Change in the fair value of derivatives
Income from real estate joint ventures
Changes in operating assets and liabilities:
Property assets
Property liabilities
Construction assets
Construction liabilities
Net cash provided by operating activities
INVESTING ACTIVITIES
Development of real estate investments
Tenant and building improvements
Acquisitions of real estate investments, net of cash acquired
(Increase) decrease in restricted cash
Contributions to real estate joint ventures
Return of capital from real estate joint ventures
Deferred leasing costs
Leasing incentives
Net cash used for investing activities
FINANCING ACTIVITIES
Proceeds from sale of common stock
Offering costs
Formation Transactions
Debt issuances, credit facility and construction loan borrowings
Debt and credit facility payments, including principal amortization
Debt issuance costs
Predecessor distributions, net
Dividends and distributions
Net cash (used for) provided by financing activities
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents, beginning of period
Cash and cash equivalents, end of period
Supplemental cash flow information:
Cash paid for interest
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Notes to Condensed Consolidated and Combined Financial Statements
Armada Hoffler Properties, Inc. (the “Company”) is a full service real estate company with extensive experience developing, building, owning and managing high-quality, institutional-grade office, retail and multifamily properties in attractive markets throughout the Mid-Atlantic United States.
As of June 30, 2014, the Company owned 24 stabilized properties, one unstabilized property and had 10 new properties under development. The Company generally considers a property to be stabilized when it reaches 80% occupancy or three years after acquisition or completion.
As of June 30, 2014, the Company’s stabilized operating property portfolio consisted of the following properties:
Name
Segment
Location
Liberty Apartments, a 197-unit multifamily property in Newport News, Virginia, had not reached stabilization as of June 30, 2014.
As of June 30, 2014, the Company had the following properties under development:
The Company is the sole general partner of Armada Hoffler, L.P. (the “Operating Partnership”). The operations of the Company are carried on primarily through the Operating Partnership and the wholly owned subsidiaries of the Operating Partnership. Both the Company and the Operating Partnership were formed on October 12, 2012 and commenced operations upon completion of the underwritten initial public offering of shares of the Company’s common stock (the “IPO”) and certain related formation transactions (the “Formation Transactions”) on May 13, 2013.
Armada Hoffler Properties, Inc. Predecessor (the “Predecessor”) was not a single legal entity, but rather a combination of real estate and construction entities under common ownership by their individual partners, members and stockholders and under common control or
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significant influence of Daniel A. Hoffler prior to the IPO and the Formation Transactions. The financial position and results of operations of the entities under common control of Mr. Hoffler have been combined in the Predecessor financial statements for the periods prior to the completion of the IPO and the Formation Transactions. The Predecessor accounted for its investments in the entities under significant influence of Mr. Hoffler using the equity method of accounting.
Pursuant to the Formation Transactions, the Operating Partnership: (i) acquired 100% of the interests in the entities comprising the Predecessor, (ii) succeeded to the ongoing construction and development businesses of the Predecessor, (iii) assumed asset management of certain of the properties acquired from the Predecessor, (iv) succeeded to the third party asset management business of the Predecessor, (v) succeeded to the projects under development by the Predecessor, (vi) received options to acquire nine parcels of developable land from the Predecessor and (vii) entered into a contribution agreement to acquire Liberty Apartments upon satisfaction of certain conditions and transferability restrictions including completion of the project’s construction by the Company. The Operating Partnership completed the acquisition of Liberty Apartments on January 17, 2014.
Because of the timing of the IPO and the Formation Transactions, the results of operations for the three and six months ended June 30, 2013 reflect those of the Predecessor together with the Company. The financial condition as of June 30, 2014 and December 31, 2013 and the results of operations for the three and six months ended June 30, 2014 reflect only those of the Company. References to “Armada Hoffler” in these notes to consolidated and combined financial statements signify the Company for the period after the completion of the IPO and the Formation Transactions on May 13, 2013 and the Predecessor for all prior periods.
Basis of Presentation
The accompanying consolidated and combined financial statements were prepared in accordance with accounting principles generally accepted in the United States (“GAAP”).
The consolidated financial statements include the financial position and results of operations of the Company, the Operating Partnership and its wholly owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.
The results of operations of the entities comprising the Predecessor have been combined because they were under common ownership by their individual partners, members and stockholders and under common control of Mr. Hoffler. All significant intercompany transactions and balances have been eliminated in combination.
In the opinion of management, the consolidated and combined financial statements reflect all adjustments, consisting of normal recurring accruals, which are necessary for the fair presentation of the financial condition and results of operations for the interim periods presented.
The accompanying consolidated and combined financial statements were prepared in accordance with the requirements for interim financial information. Accordingly, these interim financial statements have not been audited and exclude certain disclosures required for annual financial statements. Also, the operating results presented for interim periods are not necessarily indicative of the results that may be expected for any other interim period or for the entire year. These interim financial statements should be read in conjunction with the audited consolidated and combined financial statements of the Company included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported and disclosed. Such estimates are based on management’s historical experience and best judgment after considering past, current and expected events and economic conditions. Actual results could differ from management’s estimates.
Significant Accounting Policies
The accompanying consolidated and combined financial statements were prepared on the basis of the accounting principles described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013, among others.
Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board issued a new standard that provides a single, comprehensive model for recognizing revenue from contracts with customers. While the new standard does not supersede the guidance on accounting for leases, it could change the way the Company recognizes revenue from construction and development contracts with third party customers. The new standard will be effective for the Company beginning on January 1, 2017. Early adoption is not permitted. Management is currently evaluating the potential impact of the new revenue recognition standard on the Company’s consolidated financial statements.
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Net operating income (segment revenues minus segment expenses) is the measure used by Armada Hoffler’s chief operating decision-maker to assess segment performance. Net operating income is not a measure of operating income or cash flows from operating activities as measured by GAAP and is not indicative of cash available to fund cash needs. As a result, net operating income should not be considered an alternative to cash flows as a measure of liquidity. Not all companies calculate net operating income in the same manner. Armada Hoffler considers net operating income to be an appropriate supplemental measure to net income because it assists both investors and management in understanding the core operations of Armada Hoffler’s real estate and construction businesses.
Net operating income of Armada Hoffler’s reportable segments for the three and six months ended June 30, 2014 and 2013 was as follows (in thousands):
Office real estate
Property expenses
Segment net operating income
Retail real estate
Multifamily residential real estate
General contracting and real estate services
Segment revenues
Segment expenses
Net operating income
General contracting and real estate services revenues for the three and six months ended June 30, 2014 exclude revenue from intercompany construction contracts of $25.9 million and $44.6 million, respectively. General contracting and real estate services expenses for the three and six months ended June 30, 2014 exclude expenses for intercompany construction contracts of $25.5 million and $44.0 million, respectively. General contracting and real estate services expenses for the three and six months ended June 30, 2014 include noncash stock compensation of $0.1 million and $0.2 million, respectively.
General contracting and real estate services revenues for the three and six months ended June 30, 2013 exclude revenue from intercompany construction contracts of $3.7 million and $5.7 million, respectively. General contracting and real estate services expenses for the three and six months ended June 30, 2013 exclude expenses for intercompany construction contracts of $3.6 million and $5.6 million, respectively.
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The following table reconciles net operating income to net income for the three and six months ended June 30, 2014 and 2013 (in thousands):
General and administrative expenses represent costs not directly associated with the operation and management of Armada Hoffler’s real estate properties and general contracting business. General and administrative expenses include office personnel salaries and benefits, bank fees, accounting fees, legal fees and other corporate office expenses. General and administrative expenses for the three and six months ended June 30, 2014 include noncash stock compensation of $0.1 million and 0.3 million, respectively. General and administrative expenses for the three and six months ended June 30, 2013 each include noncash stock compensation of $0.8 million.
During the three and six months ended June 30, 2013, the Company recognized a $0.5 million impairment of unamortized leasing assets related to two vacated retail tenants.
During the three and six months ended June 30, 2013, the Company used proceeds from the IPO and the credit facility to repay $150.0 million of debt. The Company recognized a $1.1 million loss on extinguishment of debt representing $0.6 million of fees and $0.5 million of unamortized debt issuance costs.
Substantially concurrent with the completion of the IPO on May 13, 2013 and in connection with the Formation Transactions, the Operating Partnership acquired 100% of the interests in Bermuda Crossroads and Smith’s Landing. The acquisitions of controlling interests in Bermuda Crossroads and Smith’s Landing were accounted for as purchases at fair value under the acquisition method of accounting. Prior to the acquisition date, the Predecessor accounted for its noncontrolling interests in Bermuda Crossroads and Smith’s Landing as equity method investments. The Company recognized a $9.5 million gain on acquisitions as a result of remeasuring the Predecessor’s prior equity interests in Bermuda Crossroads and Smith’s Landing on the acquisition date.
Rental revenues of Armada Hoffler’s reportable segments for the three and six months ended June 30, 2014 and 2013 comprised the following (in thousands):
Minimum rents
Office
Retail
Multifamily
Percentage rents(1)
Other(2)
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Property expenses of Armada Hoffler’s reportable segments for the three and six months ended June 30, 2014 and 2013 comprised the following (in thousands):
Total
Rental expenses represent costs directly associated with the operation and management of Armada Hoffler’s real estate properties. Rental expenses include asset management fees, property management fees, repairs and maintenance, insurance and utilities.
The Company’s real estate investments comprised the following as of June 30, 2014 and December 31, 2013 (in thousands):
Land
Land improvements
Buildings and improvements
Development and construction costs
Real estate investments
As discussed in Note 1, the Company completed the acquisition of Liberty Apartments on January 17, 2014. The fair value of the total consideration transferred at the acquisition date to acquire Liberty Apartments was $26.7 million, consisting of 695,652 common units of the Operating Partnership, $3.0 million in cash to affiliates of the Predecessor and the assumption of $17.0 million of debt. The fair value adjustment to the assumed debt of Liberty Apartments was a $1.5 million discount. The outstanding principal balance of the assumed debt of Liberty Apartments at the acquisition date was $18.5 million.
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The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the acquisition date (in thousands):
Site improvements
Building and improvements
In-place leases
Net working capital
Net assets acquired
Liberty Apartments did not have any operations during the six months ended June 30, 2013. Rental revenues and net loss from Liberty Apartments for the period from the acquisition date to June 30, 2014 included in the consolidated statement of income was $0.3 million and $(1.2) million, respectively.
On April 16, 2014, the Company purchased land in Williamsburg, Virginia for $7.6 million for the development and construction of Lightfoot Marketplace.
On May 1, 2014, the Company purchased land in Chesapeake, Virginia for $0.3 million for the development and construction of a new administrative building for the Commonwealth of Virginia.
Subsequent to June 30, 2014
On August 1, 2014, the Company entered into an agreement to acquire Dimmock Square, a retail center located in Colonial Heights, Virginia, which would require the Company to utilize approximately $10 million of cash and issue approximately 990,000 common units of limited partnership interest in the Operating Partnership. The Company expects to complete the acquisition in 2014.
As of the date of this report, the Company has reached a preliminary agreement to sell the Virginia Natural Gas office property for approximately $8.9 million of cash. The Company expects to complete the disposition in 2014.
On January 17, 2014, the Company assumed $17.0 million of debt at fair value in connection with the acquisition of Liberty Apartments. The fair value adjustment to the assumed debt of Liberty Apartments was a $1.5 million discount. The outstanding principal balance of the assumed debt of Liberty Apartments at the acquisition date was $18.5 million. On June 13, 2014, the Company borrowed the remaining $2.4 million available under the Liberty Apartments loan. The loan amortizes over 30 years, bears interest at 5.66% and matures on November 1, 2043.
On February 28, 2014, the Company closed on a $19.5 million loan to fund the development and construction of the Oceaneering International facility. The construction loan bears interest at LIBOR plus 1.75% and matures on February 28, 2018. As of June 30, 2014, the Company had $3.4 million outstanding on the construction loan at an effective interest rate of 1.90%.
On April 22, 2014, the Operating Partnership amended the maximum leverage ratio covenant requirement in the credit facility to be 65% as of the last day of each fiscal quarter through maturity.
During the six months ended June 30, 2014, the Operating Partnership borrowed $18.0 million under the credit facility. As of June 30, 2014, the outstanding balance on the credit facility was $88.0 million.
During the six months ended June 30, 2014, the Company borrowed $32.9 million under its existing construction loans to fund the construction of 4525 Main Street, Encore Apartments, Whetstone Apartments and Sandbridge Commons.
On July 14, 2014, the Operating Partnership borrowed $5.0 million under the credit facility.
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On March 14, 2014, the Company executed a LIBOR interest rate cap agreement on a notional amount of $50.0 million and a strike price of 1.25% for a premium of $0.4 million. The interest rate cap agreement expires on March 1, 2017.
The Company’s derivatives comprised the following as of June 30, 2014 and December 31, 2013 (in thousands):
Pay fixed interest rate swaps
Interest rate caps
The changes in the fair value of Armada Hoffler’s derivatives during the three and six months ended June 30, 2014 and 2013 comprised the following (in thousands):
Stockholders’ Equity
As of June 30, 2014 and December 31, 2013, the Company’s authorized capital was 500 million shares of common stock and 100 million shares of preferred stock. The Company had 19.3 million and 19.2 million shares of common stock issued and outstanding as of June 30, 2014 and December 31, 2013, respectively. No shares of preferred stock were issued and outstanding as of June 30, 2014 or December 31, 2013.
Noncontrolling Interests
As of June 30, 2014 and December 31, 2013, the Company held a 58.3% and 59.5% interest in the Operating Partnership, respectively. As the sole general partner and the majority interest holder, the Company consolidates the financial position and results of operations of the Operating Partnership. Noncontrolling interests in the Company represent common units of the Operating Partnership not held by the Company.
On January 17, 2014, the Operating Partnership issued 695,652 common units as partial consideration for Liberty Apartments.
On March 31, 2014, the Operating Partnership issued 30,000 common units in exchange for all noncontrolling interests in Sandbridge Commons. The Company recognized the difference between the fair value of the common units issued and the adjustment to the carrying amount of the noncontrolling interests in Sandbridge Commons directly in equity as additional paid-in capital.
Common Stock Dividends and Common Unit Distributions
On January 9, 2014, the Company paid cash dividends of $3.1 million to common stockholders and cash distributions of $2.1 million to common unitholders.
On April 10, 2014, the Company paid cash dividends of $3.1 million to common stockholders and cash distributions of $2.2 million to common unitholders.
On May 9, 2014, the Company’s Board of Directors declared a cash dividend/distribution of $0.16 per share/unit payable on July 10, 2014 to common stockholders and common unitholders of record on July 1, 2014.
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On July 10, 2014, the Company paid cash dividends of $3.1 million to common stockholders and cash distributions of $2.2 million to common unitholders.
On August 4, 2014, the Company’s Board of Directors declared a cash dividend/distribution of $0.16 per share/unit payable on October 9, 2014 to common stockholders and common unitholders of record on October 1, 2014.
On March 3, 2014, the Company granted 99,289 shares of restricted stock to employees with a grant date fair value of $9.94 per share. These restricted stock awards to employees vest over a period of two years: one-third immediately on the grant date and the remaining two-thirds in equal amounts on the first two anniversaries following the grant date, subject to continued service to the Company.
During the three months ended June 30, 2014, the Company granted 25,488 shares of restricted stock to directors with a weighted average grant date fair value of $9.62 per share. These restricted stock awards to directors vest either immediately upon grant or over a period of one year, subject to continued service to the Company.
During the three and six months ended June 30, 2014, the Company recognized $0.3 million and $0.9 million of stock-based compensation using the accelerated attribution method. As of June 30, 2014, there were 144,044 nonvested restricted shares outstanding; the total unrecognized compensation related to nonvested restricted shares was $1.0 million, which the Company expects to recognize over the next 20 months.
Fair value measurements are based on assumptions that market participants would use in pricing an asset or a liability. The hierarchy for inputs used in measuring fair value is as follows:
Level 1 Inputs—quoted prices in active markets for identical assets or liabilities
Level 2 Inputs—observable inputs other than quoted prices in active markets for identical assets and liabilities
Level 3 Inputs—unobservable inputs
Except as disclosed below, the carrying amounts of Armada Hoffler’s financial instruments approximate their fair value. Financial assets and liabilities whose fair values are measured on a recurring basis using Level 2 inputs consist of interest rate swap and cap agreements. Armada Hoffler measures the fair values of these assets and liabilities based on prices provided by independent market participants that are based on observable inputs using market-based valuation techniques.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. For disclosure purposes, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement.
The fair value of Armada Hoffler’s secured debt is sensitive to fluctuations in interest rates. Discounted cash flow analysis based on Level 2 inputs is generally used to estimate the fair value of Armada Hoffler’s secured debt.
Considerable judgment is used to estimate the fair value of financial instruments. The estimates of fair value presented herein are not necessarily indicative of the amounts that could be realized upon disposition of the financial instruments.
The carrying amounts and fair values of our financial instruments, all of which are based on Level 2 inputs, as of June 30, 2014 and December 31, 2013 were as follows (in thousands):
Secured debt
Interest rate swap liabilities
Interest rate cap assets
Armada Hoffler provides general contracting and real estate services to certain related party entities that are not included in these consolidated and combined financial statements. Revenue from construction contracts with related party entities of Armada Hoffler was $1.6 million and $3.9 million for the three and six months ended June 30, 2014, respectively. Fees from such contracts were $0.1 million and $0.2 million for the three and six months ended June 30, 2014, respectively. Revenue from construction contracts with related party entities of Armada Hoffler was $14.2 million and $25.1 million for the three and six months ended June 30, 2013, respectively. Fees from
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such contracts were $0.5 million and $0.8 million for the three and six months ended June 30, 2013, respectively. Real estate services fees from affiliated entities of Armada Hoffler were not significant for either the three or six months ended June 30, 2014 or 2013. Affiliated entities also reimburse Armada Hoffler for monthly maintenance and facilities management services provided to the properties. Cost reimbursements earned by Armada Hoffler from affiliated entities were not significant for either the three or six months ended June 30, 2014 or 2013.
Armada Hoffler is from time to time involved in various disputes, lawsuits, warranty claims, environmental and other matters arising in the ordinary course of its business. Management makes assumptions and estimates concerning the likelihood and amount of any potential loss relating to these matters.
Armada Hoffler currently is a party to various legal proceedings, none of which management expects will have a material adverse effect on Armada Hoffler’s financial position, results of operations or liquidity. Armada Hoffler accrues a liability for litigation if an unfavorable outcome is determined by management to be probable and the amount of loss can be reasonably estimated. If an unfavorable outcome is determined by management to be probable and a range of loss can be reasonably estimated, Armada Hoffler accrues the best estimate within the range; however, if no amount within the range is a better estimate than any other, the minimum amount within the range is accrued. Legal fees related to litigation are expensed as incurred. Armada Hoffler does not believe that the ultimate outcome of these matters, either individually or in the aggregate, could have a material adverse effect on its financial position or results of operations; however, litigation is subject to inherent uncertainties.
Under Armada Hoffler’s leases, tenants are typically obligated to indemnify Armada Hoffler from and against all liabilities, costs and expenses imposed upon or asserted against it as owner of the properties due to certain matters relating to the operation of the properties by the tenant.
Commitments
Armada Hoffler has a bonding line of credit for its general contracting construction business and is contingently liable under performance and payment bonds, bonds for cancellation of mechanics liens and defect bonds. Such bonds collectively totaled $193.1 million and $35.8 million as of June 30, 2014 and December 31, 2013, respectively.
The Operating Partnership has entered into standby letters of credit using the available capacity under the credit facility. The letters of credit relate to the guarantee of future performance on certain of the Company’s construction contracts. Letters of credit generally are available for draw down in the event the Company does not perform. As of June 30, 2014 and December 31, 2013, the Operating Partnership had total outstanding letters of credit of $11.0 million and $3.0 million, respectively.
As discussed in Note 4, the Company entered into an agreement to acquire Dimmock Square, a retail center located in Colonial Heights, Virginia on August 1, 2014. As of the date of this report, the Company has reached a preliminary agreement to sell the Virginia Natural Gas office property, which the Company expects to complete in 2014.
As discussed in Note 5, the Operating Partnership borrowed $5.0 million under the credit facility on July 14, 2014.
As discussed in Note 7, the Company paid cash dividends of $3.1 million to common stockholders and $2.2 million to common unitholders on July 10, 2014. The Company’s Board of Directors declared a cash dividend/distribution of $0.16 per share/unit on August 4, 2014 to common stockholders and common unitholders of record on October 1, 2014.
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Review Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders of
Armada Hoffler Properties, Inc.
We have reviewed the condensed consolidated balance sheet of Armada Hoffler Properties, Inc. (successor to the entities described in Note 1) as of June 30, 2014, and the related condensed consolidated and combined statements of income for the three and six-month periods ended June 30, 2014 and 2013, the condensed consolidated and combined statements of cash flows for the six-month periods ended June 30, 2014 and 2013 and the condensed consolidated statement of equity for the six-month period ended June 30, 2014. These financial statements are the responsibility of the Company’s management.
We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should be made to the condensed consolidated and combined financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.
We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of Armada Hoffler Properties, Inc. as of December 31, 2013, and the related consolidated and combined statements of income, equity, and cash flows for the year then ended (not presented herein) and we expressed an unqualified audit opinion on those consolidated and combined financial statements in our report dated March 31, 2014. In our opinion, the accompanying condensed consolidated balance sheet as of December 31, 2013, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
Richmond, Virginia
August 5, 2014
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References to “we,” “our,” “us,” and “our company” refer to Armada Hoffler Properties, Inc., a Maryland corporation, together with our consolidated subsidiaries, including Armada Hoffler, L.P., a Virginia limited partnership, of which we are the sole general partner and which we refer to in this Quarterly Report on Form 10-Q as our Operating Partnership.
Forward-Looking Statements
The following discussion should be read in conjunction with the consolidated financial statements and notes thereto appearing elsewhere in this report. We make statements in this report that are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (set forth in Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). In particular, statements pertaining to our capital resources, portfolio performance and results of operations contain forward-looking statements. Likewise, all of our statements regarding anticipated growth in our funds from operations and estimated general contracting and real estate services are forward-looking statements. You can identify forward-looking statements by the use of forward-looking terminology such as “believes,” “expects,” “may,” “will,” “should,” “seeks,” “approximately,” “intends,” “plans,” “estimates” or “anticipates” or the negative of these words and phrases or similar words or phrases which are predictions of or indicate future events or trends and which do not relate solely to historical matters. You can also identify forward-looking statements by discussions of strategy, plans or intentions.
Forward-looking statements involve numerous risks and uncertainties and you should not rely on them as predictions of future events. Forward-looking statements depend on assumptions, data or methods which may be incorrect or imprecise and we may not be able to realize them. We do not guarantee that the transactions and events described will happen as described (or that they will happen at all). The following factors, among others, could cause actual results and future events to differ materially from those set forth or contemplated in the forward-looking statements:
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While forward-looking statements reflect our good faith beliefs, they are not guarantees of future performance. We disclaim any obligation to publicly update or revise any forward-looking statement to reflect changes in underlying assumptions or factors, of new information, data or methods, future events or other changes after the date of this Quarterly Report on Form 10-Q, except as required by applicable law. We caution investors not to place undue reliance on these forward-looking statements and urge investors to carefully review the disclosures we make concerning risks and uncertainties in the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our most recent Annual Report on Form 10-K, as well as risks, uncertainties and other factors discussed in this Quarterly Report on Form 10-Q and identified in other documents that we file from time to time with the Securities and Exchange Commission (the “SEC”).
Business Description
We are a full-service real estate company with extensive experience developing, building, owning and managing high-quality, institutional-grade office, retail and multifamily properties in attractive markets throughout the Mid-Atlantic United States.
We generally consider a property to be stabilized when it reaches 80% occupancy or three years after acquisition or completion. As of June 30, 2014, our stabilized operating property portfolio comprised seven office properties and 15 retail properties aggregating over 2.0 million net rentable square feet as well as two multifamily properties aggregating 626 apartment units. In addition to our stabilized operating property portfolio, we had five office properties and three retail properties aggregating over 0.6 million net rentable square feet as well as three multifamily properties aggregating 686 apartment units that were under development or had not yet reached stabilization as of June 30, 2014.
We are a Maryland corporation formed on October 12, 2012 to acquire the entities in which Daniel A. Hoffler and his affiliates, certain of our other officers, directors and their affiliates and other third parties owned a direct or indirect interest (the “Formation Transactions”). We did not have any operating activity until the consummation of our initial public offering of our shares of common stock (the “IPO”) and the Formation Transactions on May 13, 2013. Upon completing our IPO and the Formation Transactions, we conduct our operations through Armada Hoffler, L.P. (our “Operating Partnership”), whose assets, liabilities and results of operations we consolidate.
Our “Predecessor” is not a single legal entity, but rather a combination of real estate and construction entities that were under common control by our Executive Chairman, Daniel A. Hoffler. These entities include: (i) controlling interests in entities that owned 7 office properties, 14 retail properties and 1 multifamily property, (ii) noncontrolling interests in entities that owned one retail and one multifamily property (Bermuda Crossroads and Smith’s Landing, respectively), (iii) the property development and asset management businesses of Armada Hoffler Holding Company, Inc. and (iv) the general commercial construction businesses of Armada Hoffler Construction Company and Armada Hoffler Construction Company of Virginia.
The results of operations of the properties and entities acquired by us in connection with our IPO and the Formation Transactions are included in our results beginning on May 13, 2013. Accordingly, the results of operations for the three and six months ended June 30, 2013 reflect those of our Predecessor together with our company. The results of operations for the three and six months ended June 30, 2014 reflect those of our company.
Second Quarter 2014 Highlights
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Development Pipeline
In addition to the projects in our development pipeline, we have been selected by Johns Hopkins University to join in the redevelopment of a 1.12 acre property adjacent to the university’s Homewood campus in Baltimore, Maryland. This mixed-use development will include student housing, retail space, restaurants and parking. The goal of the completed project will be to complement the Homewood campus and nearby Charles Village neighborhood and provide a catalyst for future development in the area. The Johns Hopkins project continues to progress, with the program now defined and strong interest from retailers for the ground floor commercial space.
As of the date of this Quarterly Report on Form 10-Q, we had the following eleven properties under development ($ in thousands):
Identified Development Pipeline
Anchor
Tenants
Office/Retail
4525 Main Street (2)
Virginia Beach, VA
Clark Nexsen, Development Authority of Virginia Beach, Anthropologie (3)
Sandbridge Commons
Harris Teeter
Brooks Crossing
Newport News, VA
Huntington Ingalls (4)
Greentree Shopping Center (5)
Chesapeake, VA
Wawa (6)
Encore Apartments (2)
Whetstone Apartments
Durham, NC
Liberty Apartments (7)
Next Generation Pipeline
AnchorTenants
Oceaneering
Commonwealth of Virginia – Chesapeake
Commonwealth of Virginia
Commonwealth of Virginia – Virginia Beach
Lightfoot Marketplace
Williamsburg, VA
Our execution on all of the projects identified in the preceding table and the Johns Hopkins project are subject to, among other factors, regulatory approvals, financing availability and suitable market conditions. During the three and six months ended June 30, 2014, we capitalized development-related compensation and overhead of approximately $0.6 million and $1.2 million, respectively.
4525 Main Street is our most recent addition to the Town Center of Virginia Beach and is located across from The Cosmopolitan, One Columbus and Armada Hoffler Tower. This 15-story office tower is anchored by Clark Nexsen, an international architecture and engineering firm, to whom we delivered approximately 83,000 square feet of office space on schedule in July 2014. Additionally, we delivered to the City of Virginia Beach Development Authority approximately 23,000 square feet of office space on schedule in June 2014. 4525 Main Street will also feature approximately 26,000 square feet of ground floor retail space that will be anchored by Anthropologie, which is expected to open in the fourth quarter of 2014. All of the remaining retail space is now under lease by West Elm and Tupelo Honey Cafe.
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Sandbridge Commons continues our long-standing relationship with Harris Teeter, which has agreed to anchor the shopping center. In addition to a 53,000 square foot Harris Teeter grocery store, Sandbridge Commons will include approximately 22,000 square feet of small shop retail space. The site includes two outparcels that we plan to either lease or sell.
Brooks Crossing is a new multi-phased commercial center designed to revitalize the east end of Newport News, Virginia. We are currently in negotiations with the City of Newport News and Huntington Ingalls Industries regarding the first phase of this project.
Greentree Shopping Center is a retail power center that will feature a Wawa convenience store and gas station adjacent to a new Walmart Neighborhood Market. We delivered to Walmart their pad-ready site on schedule in the first quarter of 2014. We have a long-term ground lease with Wawa and delivered their pad on schedule in May 2014.
Encore Apartments are also located in the Town Center of Virginia Beach and sit adjacent to 4525 Main Street. Encore Apartments will feature free covered parking, a private pool, concierge service, a business center and meeting space. We anticipate delivering the first units at Encore Apartments in the third quarter of 2014.
Whetstone Apartments are conveniently located near Duke University. We expect to deliver the initial units in the third quarter of 2014.
Liberty Apartments in Newport News, Virginia feature 197 apartment units and approximately 28,000 square feet of retail space. Liberty Apartments are located next to the Newport News Apprentice School of Shipbuilding, another one of our public/private partnership projects. We completed our acquisition of Liberty Apartments on January 17, 2014.
TheOceaneering International facility will be a 155,000 square foot office and manufacturing building located in Chesapeake, Virginia. We were selected as the developer of this new build-to-suit facility that will serve as Oceaneering International’s operational base in Virginia. Oceaneering International has agreed to a 15-year lease with us. We facilitated this public/private transaction among the City of Chesapeake, the Commonwealth of Virginia and Oceaneering International.
Commonwealth of Virginia Projects: In May 2014, we announced that we will develop two new administrative buildings for the Commonwealth of Virginia – one in Chesapeake and one in Virginia Beach – for a total of 47,000 square feet. The properties are 100% pre-leased to the Commonwealth of Virginia, which signed 12-year leases for both locations. We expect both projects to be completed by early 2015.
Lightfoot Marketplace will be a grocery-anchored shopping center in Williamsburg, Virginia. This multi-phased project is a redevelopment of the Williamsburg Outlet Mall. Demolition of the existing structure began in July 2014. We expect to complete phase one of the project, consisting of approximately 88,000 square feet, in early 2016. Harris Teeter has signed a 20-year lease for approximately 53,000 square feet. Phase one of Lightfoot Marketplace will include an additional 35,000 square feet of shops and restaurants. Phase two represents an opportunity for us to develop another 42,000 square feet in the future. As the majority partner in this joint venture, we are entitled to a preferred return on our equity prior to any potential distributions to minority partners.
Acquisitions and Dispositions
On August 1, 2014, we entered into an agreement to acquire Dimmock Square, a retail center located in Colonial Heights, Virginia, which would require us to utilize approximately $10 million of cash and issue approximately 990,000 common units of limited partnership interest in the Operating Partnership. We expect to complete the acquisition in 2014.
As of the date of this report, we have reached a preliminary agreement to sell the Virginia Natural Gas office property for approximately $8.9 million of cash. We expect to complete the disposition in 2014.
Segment Results of Operations
As of June 30, 2014, we operated our business in four segments: (i) office real estate, (ii) retail real estate, (iii) multifamily residential real estate and (iv) general contracting and real estate services, which are conducted through our taxable REIT subsidiaries (“TRSs”). Net operating income (segment revenues minus segment expenses) or “NOI” is the measure used by management to assess segment performance and allocate our resources among our segments. See Note 3 to Armada Hoffler Properties, Inc. and Predecessor’s condensed consolidated and combined financial statements for additional discussion of our segments.
We define same store properties as those properties that we owned and operated and that were stabilized for the entirety of both periods presented. Same store properties exclude those that were in lease-up during either of the periods presented. We generally consider a property to be in lease-up until the earlier of: (i) the quarter after the property reaches 80% occupancy or (ii) the thirteenth quarter after the property receives its certificate of occupancy.
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Office Segment Data
NOI
Properties (1)
Square feet (1)
Occupancy (1)
Rental revenues for the three and six months ended June 30, 2014 increased $0.1 million and $0.2 million, respectively, compared to the corresponding periods in 2013 because of higher occupancy at Two Columbus. In June 2014, we also delivered the first space in our new 4525 Main Street office tower – approximately 23,000 square feet to the City of Virginia Beach Development Authority.
NOI for the three months ended June 30, 2014 increased $0.1 million compared to the corresponding period in 2013 because of higher occupancy at Two Columbus and the initial occupancy of 4525 Main Street. NOI for the six months ended June 30, 2014 decreased slightly compared to the corresponding period in 2013 because of higher asset management costs due to increased headcount.
Office Same Store Results
Office same store rental revenues, property expenses and NOI for the three and six months ended June 30, 2014 and 2013 were as follows:
Same store NOI
Non-same store NOI
Segment NOI
Same store rental revenues for the three months ended June 30, 2014 increased slightly compared to the corresponding period in 2013. Same store rental revenues for the six months ended June 30, 2014 increased $0.1 million compared to the corresponding period in 2013. The increases in same store rental revenues for the comparison periods resulted from higher occupancy at Two Columbus.
Same store NOI for the three months ended June 30, 2014 increased slightly compared to the corresponding period in 2013 because of higher occupancy at Two Columbus. Same store NOI for the six months ended June 30, 2014 decreased $0.1 million compared to the corresponding period in 2013 because of higher asset management costs due to headcount.
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Retail Segment Data
Rental revenues for the three and six months ended June 30, 2014 increased $0.3 million and $1.1 million, respectively, compared to the corresponding periods in 2013. NOI for the three and six months ended June 30, 2014 increased $0.3 million and $0.9 million, respectively, compared to the corresponding periods in 2013. The increases in rental revenues and NOI resulted primarily from our consolidation of Bermuda Crossroads upon completion of our IPO and Formation Transactions on May 13, 2013.
Retail Same Store Results
Retail same store rental revenues, property expenses and NOI for the three and six months ended June 30, 2014 and 2013 were as follows:
Same store rental revenues and NOI for the three months ended June 30, 2014 were relatively unchanged compared to the corresponding period in 2013.
Same store rental revenues and NOI for the six months ended June 30, 2014 increased $0.3 million and $0.2 million, respectively, compared to the corresponding periods in 2013. The increases in same store rental revenues and NOI resulted primarily from increased percentage rent at 249 Central Park Retail and increased occupancy at North Point Center.
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Multifamily Segment Data
Apartment units (1)
Rental revenues for the three and six months ended June 30, 2014 increased $0.7 million and $1.7 million, respectively, compared to the corresponding periods in 2013. The increases in rental revenues resulted from our consolidation of Smith’s Landing upon completion of our IPO and the Formation Transactions on May 13, 2013 and our acquisition of Liberty Apartments on January 17, 2014.
NOI for the three and six months ended June 30, 2014 increased $0.2 million and $0.6 million, respectively, compared to the corresponding periods in 2013. Positive NOI from Smith’s Landing was partially offset by negative NOI from Liberty Apartments, which had not reached stabilization as of June 30, 2014.
Multifamily Same Store Results
Multifamily same store rental revenues, property expenses and NOI for the three and six months ended June 30, 2014 and 2013 were as follows:
Same store rental revenues and NOI for the three months ended June 30, 2014 increased slightly compared to the corresponding period in 2013 because of higher multifamily and retail occupancy at The Cosmopolitan.
Same store rental revenues and NOI for the six months ended June 30, 2014 each decreased $0.1 million compared to the corresponding period in 2013 because of higher multifamily concessions at The Cosmopolitan.
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General Contracting and Real Estate Services Segment Data
Operating margin
Segment revenues for the three and six months ended June 30, 2014 decreased $2.8 million and $1.5 million, respectively, compared to the corresponding periods in 2013. The decrease in segment revenues resulted from lower volume on our construction contracts. However, NOI for the three and six months ended June 30, 2014 increased $0.4 million and $1.1 million, respectively, compared to the corresponding periods in 2013 as we continue to experience better operating margins on our construction contracts during 2014.
Backlog as of June 30, 2014 was $179.0 million compared to $58.2 million as of June 30, 2013. We executed $6.0 million and $172.0 million of new contract or change order work during the three and six months ended June 30, 2014, respectively. The changes in backlog for the three and six months ended June 30, 2014 were as follows:
Beginning backlog
New contracts/change orders
Work performed
Ending backlog
During the three months ended June 30, 2014, we executed a $4.5 million contract to build the new Harris Teeter grocery store at Sandbridge Commons in Virginia Beach, Virginia. Construction began in June 2014 with expected completion in February 2015.
During the six months ended June 30, 2014, we executed a $164.7 million contract for the construction of Harbor Point, a 900,000 square foot mixed-use tower in Baltimore, Maryland. The building will become headquarters to Exelon’s Constellation business unit. Exelon is the nation’s leading competitive energy provider. Construction began in the spring of 2014 with completion expected in the spring of 2016. As of June 30, 2014, we had $158.4 million of backlog on the Harbor Point project.
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Consolidated and Combined Results of Operations
Because of the timing of our IPO, the results of operations for the three and six months ended June 30, 2014 reflect those of the Company while the results of operations for the three and six months ended June 30, 2013 reflect those of our Predecessor together with the Company.
The following table summarizes the results of operations for the three and six months ended June 30, 2014 and 2013:
Rental Revenues. Rental revenues for the three and six months ended June 30, 2014 increased $1.1 million and $2.9 million, respectively, compared to the corresponding periods in 2013, as follows:
Office rental revenues for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013 because of higher occupancy at Two Columbus and the initial occupancy of our new 4525 Main Street office tower in June 2014.
Retail rental revenues for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013 because of our consolidation of Bermuda Crossroads upon completion of our IPO and the Formation Transactions on May 13, 2013.
Multifamily rental revenues for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013 because of our consolidation of Smith’s Landing upon completion of our IPO and the Formation Transactions on May 13, 2013 and our acquisition of Liberty Apartments on January 17, 2014.
General Contracting and Real Estate Services Revenues. General contracting and real estate services revenues for the three and six months ended June 30, 2014 decreased $2.8 million and $1.5 million, respectively, compared to the corresponding periods in 2013 because of lower volume on our construction contracts, which was partially offset by better operating margins.
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Rental Expenses. Rental expenses for the three and six months ended June 30, 2014 increased $0.4 million and $1.2 million, respectively, compared to the corresponding periods in 2013, as follows:
Office rental expenses for the three months ended June 30, 2014 were relatively consistent with those of the corresponding period in 2013. Office rental expenses for the six months ended June 30, 2014 increased compared to the corresponding period in 2013 because of higher asset management costs due to headcount.
Retail rental expenses for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013 because of our consolidation of Bermuda Crossroads upon completion of our IPO and the Formation Transactions on May 13, 2013.
Multifamily rental expenses for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013 because of our consolidation of Smith’s Landing upon completion of our IPO and the Formation Transactions on May 13, 2013 and our acquisition of Liberty Apartments on January 17, 2014.
Real Estate Taxes. Real estate taxes for the three and six months ended June 30, 2014 increased $0.2 million and $0.3 million, respectively, compared to the corresponding periods in 2013, as follows:
Office real estate taxes were relatively unchanged during the three and six months ended June 30, 2014 compared to the corresponding periods in 2013.
Retail real estate taxes increased during the three and six months ended June 30, 2014 compared to the corresponding periods in 2013 because of our consolidation of Bermuda Crossroads upon completion of our IPO and the Formation Transactions on May 13, 2013.
Multifamily real estate taxes increased during the three and six months ended June 30, 2014 compared to the corresponding periods in 2013 because of our consolidation of Smith’s Landing upon completion of our IPO and the Formation Transactions on May 13, 2013 and our acquisition of Liberty Apartments on January 17, 2014.
General Contracting and Real Estate Services Expenses. General contracting and real estate services expenses for the three and six months ended June 30, 2014 decreased $3.1 million and $2.6 million, respectively, compared to the corresponding periods in 2013 because of lower volume on our construction contracts.
Depreciation and Amortization. Depreciation and amortization for the three and six months ended June 30, 2014 increased compared to the corresponding periods in 2013. The increases were primarily attributable to depreciation and amortization associated with Bermuda Crossroads, Smith’s Landing and Liberty Apartments.
General and Administrative Expenses. General and administrative expenses for the three months ended June 30, 2014 decreased $0.9 million compared to the corresponding period in 2013 because of lower noncash stock compensation. During the three months ended June 30, 2014, we granted 25,488 shares of restricted stock with a weighted average grant date fair value of $9.62 per share. During the corresponding period in 2013, we granted 168,642 shares of restricted stock with a grant date fair value of $11.50 per share.
General and administrative expenses for the six months ended June 30, 2014 increased $0.5 million compared to the corresponding period in 2013 because of higher regulatory and compliance costs incurred to operate as a public company.
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Impairment Charges. We recognized impairment charges of $0.5 million during the three and six months ended June 30, 2013 resulting from two retail tenants that vacated prior to their lease expiration. The impairment charge consisted of unamortized deferred leasing costs and lease incentives related to these two tenants.
Interest Expense. Interest expense for the three and six months ended June 30, 2014 decreased $0.6 million and $2.0 million, respectively, compared to the corresponding periods in 2013 because we decreased the overall leverage on our stabilized portfolio. Total indebtedness on our stabilized portfolio as of June 30, 2014, March 31, 2014 and December 31, 2013 was $188.0 million, $188.7 million and $189.4 million, respectively, compared to $219.2 million, $331.4 million and $332.9 million as of June 30, 2013, March 31, 2013 and December 31, 2012, respectively.
Loss on Extinguishment of Debt. During the three and six months ended June 30, 2013, we used a portion of the net proceeds from our IPO and borrowings under our credit facility to repay $150.0 million of debt. As a result, we recognized a $1.1 million loss on extinguishment of debt consisting of $0.5 million of unamortized deferred financing costs and $0.6 million of defeasance expenses.
Gain on Acquisitions. We accounted for our acquisition of controlling interests in Bermuda Crossroads and Smith’s Landing as purchases at fair value under the acquisition method of accounting in accordance with GAAP. As a result, we recognized a $9.5 million gain on acquisitions representing the difference between the fair value and carrying value of our Predecessor’s prior noncontrolling equity interests in Bermuda Crossroads and Smith’s Landing.
Other (Loss) Income. Other income for the three and six months ended June 30, 2014 decreased $0.4 million and $0.5 million, respectively, compared to the corresponding periods in 2013. The decreases in other income for the comparison period resulted from our consolidation of Bermuda Crossroads and Smith’s Landing beginning on May 13, 2013. We previously accounted for our noncontrolling interests in both Bermuda Crossroads and Smith’s Landing under the equity method and presented our earnings from each within other income. Negative mark-to-market adjustments on our interest rate derivatives also contributed to the decreases in other income during the comparison periods.
Income Tax (Provision) Benefit. Prior to the completion of our IPO on May 13, 2013, we made no provision for U.S. federal, state or local income taxes because the profits and losses of our Predecessor flowed through to its respective partners, members and shareholders who were individually responsible for reporting such amounts. Subsequent to the completion of our IPO, our TRSs through which we conduct our development and construction business are subject to federal, state and local corporate income taxes. The income tax (provision) benefit recognized during the three and six months ended June 30, 2014 and 2013 is attributable to the taxable profits or losses of our TRSs.
Liquidity and Capital Resources
Overview
We believe our primary short-term liquidity requirements consist of general contracting expenses, operating expenses and other expenditures associated with our properties, including tenant improvements, leasing commissions and leasing incentives, dividend payments to our stockholders required to maintain our REIT qualification, debt service, capital expenditures, new real estate development projects and strategic acquisitions. We expect to meet our short-term liquidity requirements through net cash provided by operations, reserves established from existing cash, borrowings under construction loans to fund new real estate development and construction and borrowings available under our credit facility.
Our long-term liquidity needs consist primarily of funds necessary for the repayment of debt at or prior to maturity, general contracting expenses, property development and acquisitions, tenant improvements and capital improvements. We expect to meet our long-term liquidity requirements with net cash from operations, long-term secured and unsecured indebtedness and the issuance of equity and debt securities. We may also fund property development, acquisitions and capital improvements using our credit facility pending long-term financing.
As of June 30, 2014, we had unrestricted cash and cash equivalents of $16.3 million and restricted cash in escrow of $3.2 million available for both current liquidity needs as well as development activities. As of June 30, 2014, we had $56.0 million available under our credit facility to meet our short-term liquidity requirements.
Credit Facility
On May 13, 2013, we closed on a $100.0 million senior secured credit facility that includes an accordion feature that allows us to increase the borrowing capacity under the facility up to $250.0 million, subject to certain conditions. On October 10, 2013, we increased the borrowing capacity under the credit facility to $155.0 million pursuant to the accordion feature by adding six properties to the borrowing base collateral. As of June 30, 2014, the following ten properties collectively served as the borrowing base collateral for the credit facility: (i) Armada Hoffler Tower, (ii) Richmond Tower, (iii) One Columbus, (iv) Two Columbus, (v) Virginia Natural Gas, (vi) Sentara Williamsburg, (vii) a portion of North Point Center, (viii) Gainsborough Square, (ix) Parkway Marketplace and (x) Courthouse 7-Eleven.
The credit facility matures on May 13, 2016 and includes an optional one-year extension (assuming our compliance with applicable covenants and conditions) for a fee equal to 0.25% of the then applicable maximum amount of the credit facility.
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The credit facility bears interest at LIBOR plus 1.60% to 2.20%, depending on our total leverage ratio. As of June 30, 2014, the interest rate on the credit facility was LIBOR plus 1.95%. In addition to interest owed under the credit facility, we are obligated to pay an annual fee based on the average unused portion of the credit facility. This fee is payable quarterly in arrears and is 0.25% of the amount of the unused portion of the credit facility if amounts borrowed are greater than 50% of the credit facility and 0.30% of the unused portion of the credit facility if amounts borrowed are less than 50% of the credit facility.
As of June 30, 2014, we had $88.0 million borrowed under the credit facility and had standby letters of credit issued under the credit facility totaling $11.0 million. As of June 30, 2014, we had $56.0 million of aggregate capacity available under the credit facility.
The credit facility requires us to comply with various financial covenants, including:
The credit facility permits investments in the following types of assets: (i) unimproved land holdings in an aggregate amount not exceeding 5% of our total asset value, (ii) construction in progress in an aggregate amount not exceeding 25% of our total asset value and (iii) unconsolidated affiliates in aggregate amount not exceeding 5% of our total asset value. Investments in these types of assets cannot exceed 30% of our total asset value. In addition to these financial covenants, the credit facility requires us to comply with various customary affirmative and negative covenants that restrict our ability to, among other things, incur debt and liens, make investments, dispose of properties and make distributions.
We are currently in compliance with all covenants under the credit facility.
Consolidated Indebtedness
During the three months ended June 30, 2014, we:
Subsequent to the three months ended June 30, 2014, we borrowed an additional $5.0 million under our credit facility.
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The following table sets forth our consolidated indebtedness as of June 30, 2014 ($ in thousands):
Oyster Point
Broad Creek Shopping Center
Note 1
Note 2
Note 3
Hanbury Village
Harrisonburg Regal
North Point Center
Note 4
Note 5
Tyre Neck Harris Teeter
249 Central Park Retail
South Retail
Studio 56 Retail
Commerce Street Retail
Fountain Plaza Retail
Dick’s at Town Center
The Cosmopolitan
Smith’s Landing
Stabilized Portfolio
4525 Main Street
Encore Apartments
Liberty Apartments
Unamortized fair value adjustments
We currently are in compliance with all covenants on our outstanding indebtedness.
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As of June 30, 2014, our outstanding indebtedness matures during the following years:
Year
2014
2015
2016
2017
2018 and thereafter
Interest Rate Derivatives
We may use interest rate derivatives from time to time to manage our exposure to interest rate risks. Using an interest rate swap lock, we fixed our interest payments under North Point Center Note 5 at 3.57% through maturity on February 1, 2017.
As of June 30, 2014, we were party to the following LIBOR interest rate cap agreements ($ in thousands):
Effective Date
May 31, 2012
September 1, 2013
October 4, 2013
March 14, 2014
As of June 30, 2014, the notional amounts of our LIBOR interest rate cap agreements with strike rates below and above 1.50% were as follows ($ in thousands):
Strike Rate
£ 1.50%
>1.50%
Off-Balance Sheet Arrangements
We have entered into standby letters of credit relating to the guarantee of future performance on certain of our construction contracts. Letters of credit generally are available for draw down in the event we do not perform. As of June 30, 2014, we had aggregate outstanding letters of credit totaling $11.0 million, which are scheduled to expire during 2014 and 2015. However, we may renew our standby letters of credit for additional periods until completion of the underlying contractual obligation.
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Cash Flows
Operating activities
Investing activities
Financing activities
Net (decrease) increase
Net cash from operating activities increased $2.1 million during the six months ended June 30, 2014 compared to the corresponding period in 2013. The increase resulted from higher NOI from our retail and multifamily segments and higher gross profits from our general contracting and real estate services segment.
Net cash used in investing activities increased $41.7 million during the six months ended June 30, 2014 compared to the corresponding period in 2013. The increase resulted from greater investments in new real estate development as well as tenant and building improvements to our existing operating property portfolio.
Net cash from financing activities increased $31.6 million during the six months ended June 30, 2014 compared to the corresponding period in 2013. The increase resulted from borrowings on our construction loans and credit facility to fund new real estate development and lower debt repayments.
Non-GAAP Financial Measures
We calculate FFO in accordance with the standards established by NAREIT. NAREIT defines FFO as net income (loss) (calculated in accordance with GAAP), excluding gains (or losses) from sales of depreciable operating property, real estate related depreciation and amortization (excluding amortization of deferred financing costs) and after adjustments for unconsolidated partnerships and joint ventures.
FFO is a supplemental non-GAAP financial measure. Management uses FFO as a supplemental performance measure because it believes that FFO is beneficial to investors as a starting point in measuring our operational performance. Specifically, in excluding real estate related depreciation and amortization and gains and losses from property dispositions, which do not relate to or are not indicative of operating performance, FFO provides a performance measure that, when compared year over year, captures trends in occupancy rates, rental rates and operating costs. We also believe that, as a widely recognized measure of the performance of REITs, FFO will be used by investors as a basis to compare our operating performance with that of other REITs.
However, because FFO excludes depreciation and amortization and captures neither the changes in the value of our properties that result from use or market conditions nor the level of capital expenditures and leasing commissions necessary to maintain the operating performance of our properties, all of which have real economic effects and could materially impact our results from operations, the utility of FFO as a measure of our performance is limited. In addition, other equity REITs may not calculate FFO in accordance with the NAREIT definition as we do, and, accordingly, our FFO may not be comparable to such other REITs’ FFO. Accordingly, FFO should be considered only as a supplement to net income as a measure of our performance. FFO should not be used as a measure of our liquidity, nor is it indicative of funds available to fund our cash needs, including our ability to pay dividends or service indebtedness. FFO also should not be used as a supplement to or substitute for cash flow from operating activities computed in accordance with GAAP.
The following table sets forth a reconciliation of FFO for the three and six months ended June 30, 2014 and 2013 to net income, the most directly comparable GAAP equivalent:
Real estate joint ventures, net
Funds from operations
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Net income for the three and six months ended June 30, 2014 includes noncash stock compensation of $0.2 million and $0.5 million, respectively. FFO for the three and six months ended June 30, 2014 includes negative FFO from non-stabilized development projects of $(0.3) million and $(0.6) million, respectively.
Net income for the three and six months ended June 30, 2013 includes noncash stock compensation of $0.8 million, noncash impairment charges of $0.5 million and noncash debt extinguishment losses of $0.5 million.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated and combined financial statements that have been prepared in accordance with GAAP. The preparation of these financial statements requires us to exercise our best judgment in making estimates that affect the reported amounts of assets, liabilities, revenues and expenses. We base our estimates on historical experience and other assumptions that we believe to be reasonable under the circumstances. We evaluate our estimates on an ongoing basis, based upon current available information. Actual results could differ from these estimates. We discuss the accounting policies and estimates that are most critical to understanding our reported financial results in our Annual Report on Form 10-K for the year ended December 31, 2013.
The primary market risk to which we are exposed is interest rate risk. Our primary interest rate exposure is daily LIBOR. We primarily use fixed interest rate financing to manage our exposure to fluctuations in interest rates. On a limited basis, we also use derivative financial instruments to manage interest rate risk. We do not use these derivatives for trading or other speculative purposes. We have not designated any of our derivatives as hedges for accounting purposes.
As of June 30, 2014, approximately $145.3 million, or 42%, of our debt had fixed interest rates and approximately $204.5 million, or 58%, had variable interest rates. Considering interest rate swaps, approximately $203.8 million of our debt is subject to interest rate risk. Assuming no increase in the level of our variable rate debt, if interest rates increased by 1.0%, our cash flow would decrease by approximately $2.0 million per year. As of June 30, 2014, LIBOR was approximately 15 basis points. Assuming no increase in the level of our variable rate debt, if LIBOR was reduced to 0 basis points, our cash flow would increase by approximately $0.3 million per year.
We maintain disclosure controls and procedures (as such term is defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed in our reports under the Exchange Act is processed, recorded, summarized and reported within the time periods specified in the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
We have carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, regarding the effectiveness of our disclosure controls and procedures as of June 30, 2014, the end of the period covered by this report. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer have concluded, as of June 30, 2014, that our disclosure controls and procedures were effective in ensuring that information required to be disclosed by us in reports filed or submitted under the Exchange Act: (i) is processed, recorded, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate to allow for timely decisions regarding required disclosure.
No changes to our internal control over financial reporting were identified in connection with the evaluation referenced above that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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We are not currently a party, as plaintiff or defendant, to any legal proceedings that we believe to be material or which, individually or in the aggregate, would be expected to have a material effect on our business, financial condition or results of operations if determined adversely to us. We may be subject to on-going litigation relating to our portfolio and the properties comprising our portfolio, and we expect to otherwise be party from time to time to various lawsuits, claims and other legal proceedings that arise in the ordinary course of our business.
There have been no material changes from the risk factors disclosed in Item 1A. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2013.
Unregistered Sales of Equity Securities
None.
Issuer Purchases of Equity Securities
During the three months ended June 30, 2014, certain of our directors and employees surrendered shares of common stock owned by them to satisfy their minimum statutory federal and state tax obligations associated with the vesting of restricted shares of common stock issued under our 2013 Equity Incentive Plan (the “2013 Plan”). The following table summarizes all of these repurchases during the three months ended June 30, 2014.
Period
April 1, 2014 through April 30, 2014
May 1, 2014 through May 31, 2014
June 1, 2014 through June 30, 2014
Not applicable.
The exhibits listed in the accompanying Exhibit Index are filed, furnished or incorporated by reference (as stated therein) as part of this Quarterly Report on Form 10-Q.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly cause this report to be signed on its behalf by the undersigned thereunto duly authorized.
/s/ LOUIS S. HADDAD
President and Chief Executive Officer
(Principal Executive Officer)
/s/ MICHAEL P. O’HARA
Chief Financial Officer and Treasurer
(Principal Accounting and Financial Officer)
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Exhibit Index
Exhibit
No.
Description
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