================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------- FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2002 Commission file number: 001-13100 --------- HIGHWOODS PROPERTIES, INC. (Exact name of registrant as specified in its charter) Maryland 56-1871668 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 3100 Smoketree Court, Suite 600, Raleigh, N.C. (Address of principal executive office) 27604 (Zip Code) (919) 872-4924 (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. Yes [x] No [_] --------- The Company has only one class of common stock, par value $.01 per share, with 52,906,199 shares outstanding as of May 7, 2002. ================================================================================
HIGHWOODS PROPERTIES, INC. QUARTERLY REPORT FOR THE PERIOD ENDED MARCH 31, 2002 TABLE OF CONTENTS <TABLE> <CAPTION> Page ---- <S> <C> PART I FINANCIAL INFORMATION Item 1. Financial Statements ................................................................. 3 Consolidated Balance Sheets as of March 31, 2002 and December 31, 2001 ............... 4 Consolidated Statements of Income for the three months ended March 31, 2002 and 2001 .......................................................................... 5 Consolidated Statements of Stockholders' Equity for the three months ended March 31, 2002 .................................................................... 6 Consolidated Statements of Cash Flows for the three months ended March 31, 2002 and 2001 .......................................................................... 7 Notes to Consolidated Financial Statements ........................................... 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ........................................................................ 14 Disclosure Regarding Forward-Looking Statements ...................................... 14 Overview ............................................................................. 14 Results of Operations ................................................................ 16 Liquidity and Capital Resources ...................................................... 18 Impact of Recently Issued Accounting Standards ....................................... 22 Funds From Operations and Cash Available for Distributions ........................... 22 Property Information ................................................................. 24 Inflation ............................................................................ 32 Item 3. Quantitative and Qualitative Disclosures About Market Risk ........................... 33 </TABLE> 2
PART I -- FINANCIAL INFORMATION Item 1. Financial Statements We refer to (1) Highwoods Properties, Inc. as the "Company," (2) Highwoods Realty Limited Partnership as the "Operating Partnership," (3) the Company's common stock as "Common Stock" and (4) the Operating Partnership's common partnership interests as "Common Units." The information furnished in the accompanying balance sheets, statements of income, statements of stockholders' equity and statements of cash flows reflects all adjustments (consisting of normal recurring accruals) that are, in our opinion, necessary for a fair presentation of the aforementioned financial statements for the interim period. The aforementioned financial statements should be read in conjunction with the notes to consolidated financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations included herein and in our 2001 Annual Report on Form 10-K. 3
HIGHWOODS PROPERTIES, INC. Consolidated Balance Sheets ($ in thousands) <TABLE> <CAPTION> March 31, December 31, 2002 2001 ----------- ----------- (Unaudited) <S> <C> <C> Assets Real estate assets, at cost: Land and improvements .............................................................. $ 448,160 $ 440,100 Buildings and tenant improvements .................................................. 2,964,482 2,930,792 Development in process ............................................................. 82,787 108,118 Land held for development .......................................................... 162,009 151,337 Furniture, fixtures and equipment .................................................. 19,666 19,398 ----------- ----------- 3,677,104 3,649,745 Less - accumulated depreciation .................................................... (411,429) (384,104) ----------- ----------- Net real estate assets ............................................................. 3,265,675 3,265,641 Property held for sale ................................................................ 72,985 96,545 Cash and cash equivalents ............................................................. 3,863 576 Restricted cash ....................................................................... 4,412 5,685 Accounts receivable, net .............................................................. 20,513 23,659 Advances to related parties ........................................................... 788 788 Notes receivable ...................................................................... 39,852 43,761 Accrued straight-line rents receivable ................................................ 51,118 49,078 Investment in unconsolidated affiliates ............................................... 83,257 83,393 Other assets: Deferred leasing costs ............................................................. 106,812 102,502 Deferred financing costs ........................................................... 26,055 26,121 Prepaid expenses and other ......................................................... 10,843 10,461 ----------- ----------- 143,710 139,084 Less - accumulated amortization .................................................... (64,073) (59,924) ----------- ----------- Other assets, net ................................................................ 79,637 79,160 ----------- ----------- Total Assets .......................................................................... $ 3,622,100 $ 3,648,286 =========== =========== Liabilities and Stockholders' Equity Mortgages and notes payable ........................................................... $ 1,725,032 $ 1,719,230 Accounts payable, accrued expenses and other liabilities .............................. 102,078 120,235 ----------- ----------- Total Liabilities .................................................................. 1,827,110 1,839,465 Minority interest ..................................................................... 200,918 203,181 Stockholders' Equity: Preferred stock, $.01 par value, 50,000,000 authorized shares; 8 5/8% Series A Cumulative Redeemable Preferred Shares (liquidation preference $1,000 per share), 104,945 shares issued and outstanding at March 31, 2002 and December 31, 2001 ..................................................................... 104,945 104,945 8% Series B Cumulative Redeemable Preferred Shares (liquidation preference $25 per share), 6,900,000 shares issued and outstanding at March 31, 2002 and December 31, 2001 .............................................................................. 172,500 172,500 8% Series D Cumulative Redeemable Preferred Shares (liquidation preference $250 per share), 400,000 shares issued and outstanding at March 31, 2002 and December 31, 2001 .............................................................................. 100,000 100,000 Common stock, $.01 par value, 200,000,000 authorized shares; 52,906,199 and 52,891,822 shares issued and outstanding at March 31, 2002 and December 31, 2001, respectively .......................................................................... 529 529 Additional paid-in capital ............................................................ 1,375,874 1,376,546 Distributions in excess of net earnings ............................................... (147,501) (135,878) Accumulated other comprehensive loss .................................................. (8,853) (9,441) Deferred compensation--restricted stock ............................................... (3,422) (3,561) ----------- ----------- Total Stockholders' Equity ......................................................... 1,594,072 1,605,640 ----------- ----------- Total Liabilities and Stockholders' Equity ............................................ $ 3,622,100 $ 3,648,286 =========== =========== </TABLE> See accompanying notes to consolidated financial statements. 4
HIGHWOODS PROPERTIES, INC. Consolidated Statements of Income (Unaudited and $ in thousands except per share amounts) <TABLE> <CAPTION> Three Months Ended March 31, ---------------------------- 2002 2001 ---------- --------- <S> <C> <C> Revenue: Rental property ...................................................................... $ 124,971 $ 128,203 Equity in earnings of unconsolidated affiliates ...................................... 2,564 833 Interest and other income ............................................................ 3,415 7,813 ---------- --------- Total Revenue ........................................................................... 130,950 136,849 Operating expenses: Rental property ...................................................................... 38,506 36,805 Depreciation and amortization ........................................................ 31,286 29,125 Interest expense: Contractual ........................................................................ 26,034 28,321 Amortization of deferred financing costs ........................................... 339 665 ---------- --------- 26,373 28,986 General and administrative ........................................................... 5,174 5,212 ---------- --------- Income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item ......................... 29,611 36,721 Gain on disposition of land and depreciable assets ................................... 944 7,071 ---------- --------- Income before minority interest, discontinued operations and extraordinary item .... 30,555 43,792 Minority interest ....................................................................... (3,722) (5,223) ---------- --------- Income from continuing operations .................................................... 26,833 38,569 Discontinued Operations Income from discontinued operations, net of minority interest ........................ 202 205 ---------- --------- Net income before extraordinary item ................................................. 27,035 38,774 Extraordinary item--loss on early extinguishment of debt ................................ - (193) ---------- --------- Net income ........................................................................... 27,035 38,581 Dividends on preferred stock ............................................................ (7,713) (8,145) ---------- --------- Net income available for common shareholders ............................................ $ 19,322 $ 30,436 ========== ========= Net income per common share--basic: Income from continuing operations .................................................... $ 0.36 $ 0.54 Income from discontinued operations .................................................. - - Extraordinary item--loss on early extinguishment of debt ............................. - - ---------- --------- Net income ........................................................................... $ 0.36 $ 0.54 ========== ========= Weighted average shares outstanding--basic ........................................... 52,896 56,393 ========== ========= Net income per common share--diluted: Income from continuing operations .................................................... $ 0.36 $ 0.54 Income from discontinued operations .................................................. - - Extraordinary item--loss on early extinguishment of debt ............................. - - ---------- --------- Net income ........................................................................... $ 0.36 $ 0.54 ========== ========= Weighted average shares outstanding--diluted ......................................... 53,393 56,659 ========== ========= Distributions declared per common share ................................................. $ 0.585 $ 0.57 ========== ========= </TABLE> See accompanying notes to consolidated financial statements. 5
HIGHWOODS PROPERTIES, INC. Consolidated Statements of Stockholders' Equity For the Three Months Ended March 31, 2002 (Unaudited, in thousands except for number of common shares) <TABLE> <CAPTION> Accumulated Other Number of Additional Deferred Compre- Distributions Common Common Series A Series B Series D Paid-In Compen- hensive in Excess of Shares Stock Preferred Preferred Preferred Capital sation Loss Net Earnings Total --------- ------ --------- --------- --------- ---------- -------- ------------ ------------- ----- <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Balance at December 31, 2001 ... 52,891,822 $ 529 $104,945 $172,500 $100,000 $1,376,546 $ (3,561)$ (9,441) $ (135,878) $ 1,605,640 Issuance of Common Stock ........ 9,317 - - - - 203 - - - 203 Common Stock Dividends ........... - - - - - - - - (30,945) (30,945) Preferred Stock Dividends ........... - - - - - - - - (7,713) (7,713) Issuance of restricted stock ............... 5,060 - - - - 136 (136) - - - Amortization of deferred compensation ........ - - - - - - 275 - - 275 Retirement of stock options ............. - - - - - (1,011) - - - (1,011) Net Income ........... - - - - - - - - 27,035 27,035 Other comprehensive income .............. - - - - - - - 588 - 588 ---------- ----- -------- -------- -------- ---------- -------- ----------- ----------- ----------- Balance at March 31, 2002 ..... 52,906,199 $ 529 $104,945 $172,500 $100,000 $1,375,874 $ (3,422)$ (8,853) $ (147,501) $ 1,594,072 ========== ===== ======== ======== ======== ========== ======== =========== =========== =========== </TABLE> See accompanying notes to consolidated financial statements. 6
HIGHWOODS PROPERTIES, INC. Consolidated Statements of Cash Flows (Unaudited and $ in thousands) <TABLE> <CAPTION> Three Months Ended March 31, ---------------------------- 2002 2001 ------------- ------------ <S> <C> <C> Operating activities: Net income ......................................................................... $ 27,035 $ 38,581 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization ................................................... 31,705 29,871 Amortization of deferred compensation ........................................... 275 201 Minority interest ............................................................... 3,750 5,251 Equity in earnings of unconsolidated affiliates ................................. (2,564) (833) Loss on early extinguishment of debt ............................................... -- 193 Gain on disposition of land and depreciable assets ................................. (944) (7,071) Transition adjustment upon adoption of FASB 133 .................................... -- 556 Loss on ineffective portion of derivative instruments .............................. -- 466 Changes in operating assets and liabilities ........................................ (16,635) (446) --------- --------- Net cash provided by operating activities ..................................... 42,622 66,769 --------- --------- Investing activities: Additions to real estate assets .................................................... (13,602) (59,310) Proceeds from disposition of real estate assets .................................... 23,200 49,700 Payment from advances to subsidiaries .............................................. -- 27,560 Distributions from unconsolidated affiliates ....................................... 2,384 1,333 Investments in notes receivable .................................................... 4,409 8,684 Other investing activities ......................................................... (3,953) (5,705) --------- --------- Net cash provided by investing activities ..................................... 12,438 22,262 --------- --------- Financing activities: Distributions paid on common stock and common units ................................ (35,229) (36,506) Dividends paid on preferred stock .................................................. (7,713) (8,145) Payment of prepayment penalties .................................................... -- (193) Borrowings on mortgages and notes payable .......................................... 12,362 16,402 Repayments on mortgages and notes payable .......................................... (22,844) (33,733) Borrowings on revolving loans ...................................................... 137,000 69,000 Repayments on revolving loans ...................................................... (132,500) (47,000) Net proceeds from the sale of common stock ......................................... 203 68 Net change in deferred financing costs ............................................. 654 (738) Repurchase of common stock and units ............................................... (2,216) (106,847) Other financing activities ......................................................... (1,490) -- --------- --------- Net cash used in financing activities ......................................... (51,773) (147,692) --------- --------- Net increase/(decrease) in cash and cash equivalents ............................... 3,287 (58,661) Cash and cash equivalents at beginning of the period ............................... 576 104,780 --------- --------- Cash and cash equivalents at end of the period ..................................... $ 3,863 $ 46,119 ========= ========= Supplemental disclosure of cash flow information: Cash paid for interest ............................................................. $ 23,332 $ 23,489 ========= ========= </TABLE> See accompanying notes to consolidated financial statements. 7
HIGHWOODS PROPERTIES, INC. Consolidated Statements of Cash Flows (Continued) (Unaudited and $ in thousands) Supplemental disclosure of non-cash investing and financing activities: The following table summarizes the net assets contributed by the holders of Common Units in the Operating Partnership and the net assets acquired subject to mortgage notes payable: <TABLE> <CAPTION> Three Months Ended March 31, ---------------------------- 2002 2001 ----------- ----------- <S> <C> <C> Assets: Notes receivable .............................................................. $ 500 $ 675 Cash and cash equivalents ..................................................... 41 551 Rental property and equipment, net ............................................ 12,812 19,881 Liabilities: Mortgages and notes payable ................................................... 11,784 22,520 Accounts payable, accrued expenses and other liabilities ...................... 136 1,392 --------- --------- Net assets ................................................................. $ 1,433 $ (2,805) ========= ========= </TABLE> See accompanying notes to consolidated financial statements. 8
HIGHWOODS PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS March 31, 2002 (Unaudited) 1. DESCRIPTION OF THE COMPANY Highwoods Properties, Inc. (the "Company") is a self-administered and self-managed real estate investment trust ("REIT") that operates in the southeastern and midwestern United States. The Company's wholly-owned assets include: 501 in-service office, industrial and retail properties; 213 apartment units; 1,277 acres of undeveloped land suitable for future development; and an additional 16 properties under development. The Company conducts substantially all of its activities through, and substantially all of its interests in the properties are held directly or indirectly by, Highwoods Realty Limited Partnership (the "Operating Partnership"). The Company is the sole general partner of the Operating Partnership. At March 31, 2002, the Company owned 87.8% of the common partnership interests ("Common Units") in the Operating Partnership. Limited partners (including certain officers and directors of the Company) own the remaining Common Units. Holders of Common Units may redeem them for the cash value of one share of the Company's common stock, $.01 par value (the "Common Stock"), or, at the Company's option, one share (subject to certain adjustments) of Common Stock. Generally one year after issuance, the Operating Partnership is obligated to redeem each Common Unit at the request of the holder thereof for cash equal to the fair market value of one share of the Company's Common Stock at the time of such redemption, provided that the Company at its option may elect to acquire any such Common Unit presented for redemption for cash or one share of Common Stock. When a Common Unit holder redeems a Common Unit for a share of Common Stock or cash, the minority interest will be reduced and the Company's share in the Operating Partnership will be increased. The Common Units owned by the Company are not redeemable for cash. 2. BASIS OF PRESENTATION The consolidated financial statements include the accounts of the Company and the Operating Partnership and their majority-controlled affiliates. All significant intercompany balances and transactions have been eliminated in the consolidated financial statements. The extraordinary loss represents the write-off of loan origination fees and prepayment penalties paid on the early extinguishment of debt, net of the minority interest. The Company has elected and expects to continue to qualify as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended. Therefore, no provision has been made for income taxes related to REIT taxable income to be distributed to stockholders. Minority interest in the Company represents Common Units owned by various individuals and entities and not the Company in the Operating Partnership, the entity that owns substantially all of the Company's properties and through which the Company, as the sole general partner, conducts substantially all of its operations. Per share information is calculated using the weighted average number of shares outstanding (including common share equivalents). In addition, minority interest includes equity of consolidated real estate partnerships which are owned by various individuals and entities and not the Company. Certain amounts in the March 31, 2001 and December 31, 2001 financial statements have been reclassified to conform to the March 31, 2002 presentation. These reclassifications had no material effect on net income or stockholders' equity as previously reported. 9
HIGHWOODS PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued 2. BASIS OF PRESENTATION - Continued The accompanying financial information has not been audited, but in the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of our financial position, results of operations and cash flows have been made. For further information, refer to the financial statements and notes thereto included in our 2001 Annual Report on Form 10-K. 3. SEGMENT INFORMATION Our sole business is the acquisition, development and operation of rental real estate properties. We operate office, industrial and retail properties and apartment units. There are no material inter-segment transactions. Our chief operating decision maker ("CDM") assesses and measures operating results based upon property level net operating income. The operating results for the individual assets within each property type have been aggregated since the CDM evaluates operating results and allocates resources on a property-by-property basis within the various property types. Further, all operations are within the United States and no tenant comprises more than 10% of consolidated revenues. The following table summarizes the rental income, net operating income and total assets for each reportable segment for the three months ended March 31, 2002 and 2001 ($ in thousands): <TABLE> <CAPTION> Three Months Ended March 31, ---------------------------- 2002 2001 ----------- ----------- <S> <C> <C> Rental Income: Office segment ................................................................ $ 103,964 $ 103,523 Industrial segment ............................................................ 10,664 11,715 Retail segment ................................................................ 9,964 9,695 Apartment segment ............................................................. 379 3,270 ---------- ---------- Total Rental Income ........................................................ $ 124,971 $ 128,203 ========== ========== Net Operating Income: Office segment ................................................................ $ 70,610 $ 73,047 Industrial segment ............................................................ 8,828 9,976 Retail segment ................................................................ 6,835 6,584 Apartment segment ............................................................. 192 1,791 ---------- ---------- Total Net Operating Income ................................................. 86,465 91,398 ---------- ---------- Reconciliation to income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item: Equity in earnings of unconsolidated affiliates ............................... 2,564 833 Interest and other income ..................................................... 3,415 7,813 Interest expense .............................................................. (26,373) (28,986) General and administrative expense ............................................ (5,174) (5,212) Depreciation and amortization ................................................. (31,286) (29,125) ---------- ---------- Income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item ................... $ 29,611 $ 36,721 ========== ========== </TABLE> As of March 31, -------------------------- 2002 2001 ----------- ----------- Total Assets: Office segment .................................... $2,857,422 $2,700,177 Industrial segment ................................ 325,941 337,605 Retail segment .................................... 258,876 243,538 Apartment segment ................................. 10,791 86,761 Corporate and other ............................... 169,070 236,111 ---------- ---------- Total Assets ................................... $3,622,100 $3,604,192 ========== ========== 10
HIGHWOODS PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued 4. INVESTMENTS IN UNCONSOLIDATED AFFILIATES During the past several years, we have formed various joint ventures with unrelated investors. We have retained minority equity interests ranging from 12.50% to 50.00% in these joint ventures. As required by generally accepted accounting principals, we have accounted for our joint venture activity using the equity method of accounting, as we do not control these joint ventures. As a result, the assets and liabilities of our joint ventures are not included on our balance sheet. As of March 31, 2002, our joint ventures have approximately $590.2 million of outstanding debt. All of the joint venture debt is non-recourse to us except (1) in the case of customary exceptions pertaining to such matters as misuse of funds, environmental conditions and material misrepresentations (2) with respect to $3.4 million of construction debt related to the MG-HIW Rocky Point, LLC, which has been guaranteed in part by us subject to a pro rata indemnity from our joint venture partner. Our guarantee of the MG-HIW Rocky Point, LLC debt represented 15.00% of the outstanding loan balance at March 31, 2002 and (3) with respect to $2.4 million of construction debt related to the MG-HIW Metrowest I, LLC, which has been guaranteed in part by us subject to a pro rata indemnity from our joint venture partner. Our guarantee of the MG-HIW Metrowest I, LLC debt represented 50.00% of the outstanding loan balance at March 31, 2002. Selected financial data for unconsolidated affiliates for the three months ended March 31, 2002 and 2001 is presented below ($ in thousands): 2002 2001 Percent Owned Percent Owned ------------- ------------- Board of Trade Investment Company ............ 49.00% 49.00% Dallas County Partners I, LP ................. 50.00 50.00 Dallas County Partners II, LP ................ 50.00 50.00 Dallas County Partners III, LP ............... 50.00 50.00 Fountain Three ............................... 50.00 50.00 Kessinger/Hunter, LLC ........................ 30.00 30.00 4600 Madison Associates, LP .................. 12.50 12.50 Dreilander-Fonds 98/29 ....................... 22.81 22.81 Dreilander-Fonds 97/26 and 99/32 ............. 42.93 44.70 RRHWoods, LLC ................................ 50.00 50.00 Highwoods-Markel Associates, LLC ............. 50.00 50.00 MG-HIW, LLC .................................. 20.00 20.00 MG-HIW Peachtree Corners, LLC ................ 50.00 50.00 MG-HIW Rocky Point, LLC ...................... 50.00 50.00 MG-HIW Metrowest I, LLC ...................... 50.00 50.00 MG-HIW Metrowest II, LLC ..................... 50.00 50.00 Concourse Center Associates, LLC ............. 50.00 -- 2002 2001 ----------- ----------- Total assets ................................. $921,270 $ 863,530 Total liabilities ............................ 615,597 571,862 Total net income ............................. 8,844 3,097 5. DERIVATIVE FINANCIAL INSTRUMENTS On January 1, 2001, we adopted Financial Accounting Standards Board Statement (SFAS) No. 133/138, "Accounting for Derivative Instruments and Hedging Activities", as amended. This statement requires us to recognize all derivatives on the balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through income. If the derivative is a hedge, depending on the nature of the hedge, changes in the fair value of the derivative will either be offset against the change in fair value of the hedged assets, liabilities or firm commitments through earnings, or recognized in Accumulated Other Comprehensive Loss ("AOCL") until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value is recognized in earnings. In connection with the adoption of SFAS 133/138 in January 2001, we recorded a net transition adjustment of $555,962 of unrealized loss in interest and other income and a net transition adjustment of $125,000 in AOCL. Adoption of the standard also resulted in us recognizing $127,000 of derivative instrument liabilities and a reclassification of approximately $10.6 million of deferred financing costs from past cashflow hedging relationships from other assets to AOCL. 11
HIGHWOODS PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued 5. Derivative Financial Instruments - Continued Our interest rate risk management objective is to limit the impact of interest rate changes on earnings and cashflows and to lower overall borrowing costs. To achieve these objectives, we enter into interest rate hedge contracts such as collars, swaps, caps and treasury lock agreements in order to mitigate our interest rate risk with respect to various debt instruments. We do not hold these derivatives for trading or speculative purposes. On the date that we enter into a derivative contract, we designate the derivative as (1) a hedge of the variability of cash flows that are to be received or paid in connection with a recognized liability (a "cash flow" hedge), or (2) an instrument that is held as a non-hedge derivative. Changes in the fair value of highly effective cash flow hedges, to the extent that the hedge is effective, are recorded in accumulated other comprehensive loss, until earnings are affected by the hedged transaction (i.e. until periodic settlements of a variable-rate liability are recorded in earnings). Any hedge ineffectiveness (which represents the amount by which the changes in the fair value of the derivative exceed the variability in the cash flows of the transaction) is recorded in current-period earnings. Changes in the fair value of non-hedging instruments are reported in current-period earnings. We formally document all relationships between hedging instruments and hedged items, as well as its risk-management objective and strategy for undertaking various hedge transactions. This process includes linking all derivatives that are designated as cash flow hedges to (1) specific assets and liabilities on the balance sheet or (2) forecasted transactions. We also assess and document, both at the hedging instrument's inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows associated with the hedged items. When we determine that a derivative is not (or has ceased to be) highly effective as a hedge, we discontinue hedge accounting prospectively. All of our derivatives are designated as cashflow hedges at March 31, 2002. The effective portion of the cumulative loss on the derivative instruments was $8.9 million at March 31, 2002 and was reported as a component of AOCL in stockholders' equity and recognized into earnings in the same period or periods during which the hedged transaction affects earnings (as the underlying debt is paid down). We expect that the portion of the cumulative loss recorded in AOCL at March 31, 2002 associated with the derivative instruments which will be recognized within the next 12 months will be approximately $1.6 million. Derivative liabilities totaling approximately $207,080 related to our interest rate swap agreement, with a notional amount of $19.0 million, are recorded in accounts payable, accrued expenses and other liabilities in the Consolidated Balance Sheets at March 31, 2002. The fair value of our interest rate swap agreement was $(207,080) at March 31, 2002. For the majority of financial instruments including most derivatives, long-term investments and long-term debt, standard market conventions and techniques such as discounted cash flow analysis, option pricing models, replacement cost and termination cost are used to determine fair value. All methods of assessing fair value result in a general approximation of value, and such value may never actually be realized. 6. Other Comprehensive Income/(loss) Other comprehensive income/(loss) represents net income plus the results of certain non-stockholders' equity changes not reflected in the Consolidated Statements of Income. The components of other comprehensive income/(loss) are as follows ($ in thousands): <TABLE> <CAPTION> Three Months Ended March 31, ---------------------------- 2002 2001 ----------- ----------- <S> <C> <C> Net Income ................................................................ $ 27,035 $ 38,581 Other comprehensive income/(loss): Unrealized derivative losses on cashflow hedges ........................ 204 (411) Reclassification of past hedging relationships ......................... -- (10,597) Amortization of past hedging relationships ............................. 384 1,567 --------- -------- Total other comprehensive income/(loss) .............................. 588 (9,441) --------- -------- Total comprehensive income ........................................... $ 27,623 $ 29,140 ========= ======== </TABLE> 12
HIGHWOODS PROPERTIES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued 7. Discontinued Operations As of January 1, 2002, we have adopted FASB 144 "Accounting for the Impairment or Disposal of Long-Lived Assets," and the appropriate amounts are disclosed separately under income from discontinued operations on the consolidated income statement. Below represents the revenues, rental operating expenses, depreciation and amortization, net income and net carrying value of the properties held for sale at March 31, 2002 (which are expected to be sold during the second and third quarters of 2002), as a result of our capital recycling program and included in income from discontinued operations at March 31, 2001 and 2002 ($ in thousands): <TABLE> <CAPTION> Rental Depreciation Net Income Rentable Rental Operating and (net of minority Net Carrying Type Square Feet Acreage Revenues Expenses Amortization interest) Value ---------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> <C> March 31, 2002 - -------------- Office 155,000 -- $ 432 $ 68 $ 80 $ 250 $12,310 Land -- 16 -- 55 -- (48) 2,132 ------------------------------------------------------------------------------------------ Total 155,000 16 $ 432 $ 123 $ 80 $ 202 $14,442 ========================================================================================== March 31, 2001 - -------------- Office 155,000 -- $ 418 $ 62 $ 81 $ 242 $12,582 Land -- 16 -- 42 -- (37) 2,132 ------------------------------------------------------------------------------------------ Total 155,000 16 $ 418 $ 104 $ 81 $ 205 $14,714 ========================================================================================== </TABLE> 13
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion should be read in conjunction with all of the financial statements appearing elsewhere in the report and is based primarily on the consolidated financial statements of the Company. Disclosure Regarding Forward-looking Statements Some of the information in this Quarterly Report on Form 10-Q may contain forward-looking statements. Such statements include, in particular, statements about our plans, strategies and prospects under this section and under the heading "Business". You can identify forward-looking statements by our use of forward-looking terminology such as "may," "will," "expect," "anticipate," "estimate," "continue" or other similar words. Although we believe that our plans, intentions and expectations reflected in or suggested by such forward-looking statements are reasonable, we cannot assure you that our plans, intentions or expectations will be achieved. When considering such forward-looking statements, you should keep in mind the following important factors that could cause our actual results to differ materially from those contained in any forward-looking statement: . speculative development activity by our competitors in our existing markets could result in an excessive supply of office, industrial and retail properties relative to tenant demand; . the financial condition of our tenants could deteriorate; . the costs of our development projects could exceed our original estimates; . we may not be able to complete development, acquisition, reinvestment, disposition or joint venture projects as quickly or on as favorable terms as anticipated; . we may not be able to lease or release space quickly or on as favorable terms as old leases; . we may have incorrectly assessed the environmental condition of our properties; . an unexpected increase in interest rates would increase our debt service costs; . we may not be able to continue to meet our long-term liquidity requirements on favorable terms; . we could lose key executive officers; and . our southeastern and midwestern markets may suffer additional declines in economic growth. This list of risks and uncertainties, however, is not intended to be exhaustive. You should also review the other cautionary statements we make in "Business - Risk Factors" set forth elsewhere in our 2001 Annual Report. Given these uncertainties, we caution you not to place undue reliance on forward-looking statements. We undertake no obligation to publicly release the results of any revisions to these forward-looking statements that may be made to reflect any future events or circumstances or to reflect the occurrence of unanticipated events. Overview We are a self-administered and self-managed equity REIT that began operations through a predecessor in 1978. Since the Company's initial public offering in 1994, we have evolved into one of the largest owners and operators of suburban office, industrial and retail properties in the southeastern and midwestern United States. At March 31, 2002, we: . owned 501 in-service office, industrial and retail properties, encompassing approximately 37.5 million rentable square feet and 213 apartment units; . owned an interest (50% or less) in 75 in-service office and industrial properties, encompassing approximately 7.5 million rentable square feet and 418 apartment units; 14
. owned 1,277 acres (and have agreed to purchase an additional eight acres over the next year) of undeveloped land suitable for future development; and . were developing an additional 20 properties, which will encompass approximately 2.2 million rentable square feet (including two properties encompassing 142,000 rentable square feet that we are developing with our joint venture partners). The following summarizes our capital recycling program since the beginning of 2000: <TABLE> <CAPTION> Three Months Ended Year Ended Year Ended March 31, 2002 2001 2000 ---------------- ---------- ---------- <S> <C> <C> <C> Office, Industrial and Retail Properties (rentable square feet in thousands) Dispositions (1) ............................ (128) (268) (4,743) Contributions to Joint Ventures (1) ......... -- (118) (2,199) Developments Placed In-Service .............. 404 1,351 3,480 Acquisitions ................................ -- 72 669 ------- ------- ------- Net Change in Wholly-owned In-Service Properties ..................... 276 1,037 (2,793) ======= ======= ======= Apartment Properties (in units) Dispositions ................................ -- (1,672) -- ======= ======= ======= </TABLE> - ---------- (1) Excludes wholly-owned development properties sold or contributed to joint ventures. In addition to the above property activity, we repurchased $2.2 million, $147.4 million and $100.2 million of Common Stock and Common Units during 2002, 2001 and 2000, respectively, and $18.5 million of Preferred Stock during 2001. The Company conducts substantially all of its activities through, and substantially all of its interests in the properties are held directly or indirectly by, the Operating Partnership. The Company is the sole general partner of the Operating Partnership. At March 31, 2002, the Company owned 87.8 % of the Common Units in the Operating Partnership. 15
Results of Operations The following table sets forth information regarding our results of operations for the three months ended March 31, 2002 and 2001 ($ in millions): <TABLE> <CAPTION> Three Months Ended March 31, ------------------------------ 2002 2001 $ Change ------------- ------------- ---------- <S> <C> <C> <C> Revenue: Rental property .............................................................. $ 125.0 $ 128.2 $ (3.2) Equity in earnings of unconsolidated affiliates .............................. 2.6 0.8 1.8 Interest and other income .................................................... 3.4 7.8 (4.4) --------- --------- ------- Total revenue ................................................................... 131.0 136.8 (5.8) Operating expenses: Rental property .............................................................. 38.5 36.8 1.7 Depreciation and amortization ................................................ 31.3 29.1 2.2 Interest expense: Contractual ................................................................ 26.0 28.3 (2.3) Amortization of deferred financing costs ................................... 0.4 0.7 (0.3) --------- --------- ------- 26.4 29.0 (2.6) General and administrative ................................................... 5.2 5.2 -- --------- --------- ------- Income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item ........ 29.6 36.7 (7.1) Gain on disposition of land and depreciable assets ........................... 0.9 7.1 (6.2) --------- --------- ------- Income before minority interest, discontinued operations and extraordinary item ....................................................... 30.5 43.8 (13.3) Minority interest ............................................................... (3.7) (5.2) 1.5 --------- --------- ------- Income from continuing operations ............................................ 26.8 38.6 (11.8) Discontinued operations Income from discontinued operations, net of minority interest ................ 0.2 0.2 -- --------- --------- ------- Net income before extraordinary item ......................................... 27.0 38.8 (11.8) Extraordinary item -- loss on early extinguishment of debt ...................................................................... -- (0.2) 0.2 --------- --------- ------- Net income ................................................................... 27.0 38.6 (11.6) Dividends on preferred stock .................................................... (7.7) (8.1) 0.4 --------- --------- ------- Net income available for common shareholders ............................................................... $ 19.3 $ 30.5 $ (11.2) ========= ========= ======= </TABLE> Revenues from rental operations decreased $3.2 million, or 2.5%, from $128.2 million for the quarter ended March 31, 2001 to $125.0 million for the quarter ended March 31, 2002. The decrease was primarily a result of a decrease in the average occupancy rates from 94.2% in the first quarter of 2001 to 89.0% in the first quarter of 2002 and a decrease in our property portfolio as a result of our capital recycling program. Additionally, due to lower expected economic growth and increasing market vacancy rates in our core markets, we expect a slight decline in occupancy during the remaining three quarters of 2002. Our in-service wholly-owned portfolio increased from 36.3 million square feet at March 31, 2001 to 37.5 million square feet at March 31, 2002. Same property rental revenues, which are the revenues of the 483 in-service properties wholly-owned on January 1, 2001, decreased $2.6 million, or 2.2%, for the quarter ended March 31, 2002, compared to the quarter ended March 31, 2001. This decrease was primarily a result of lower same store average occupancy, which declined from 94.2% in the first quarter of 2001 to 88.9% in the first quarter of 2002. Partially offsetting the decrease in rental revenue was an increase in termination fees from $1.4 million in the first quarter of 2001 to $1.8 million in the first quarter of 2002. In addition, same store straight line rent was $3.1 million in the first quarter of 2001 and $2.4 million in the first quarter of 2002. During the quarter ended March 31, 2002, 137 second generation leases representing 532,000 square feet of office, industrial and retail space were executed at an average rate per square foot which was 0.3% higher than the average rate per square foot on the previous leases. Rental revenue is comprised of base rent, including termination fees, recoveries from tenants and parking and other income. Base rental revenue is recognized on a straight-line basis over the terms of the respective leases. Accrued straight-line rents receivable represents the amount by which straight-line rental revenue exceeds rents currently billed in accordance with lease agreements. Recoveries from tenants represent reimbursements for certain 16
costs as provided in the lease agreements. These costs generally include real estate taxes, utilities, insurance, common area maintenance and other recoverable costs. Equity in earnings of unconsolidated affiliates increased $1.8 million from $0.8 million for the quarter ended March 31, 2001 to $2.6 million for the quarter ended March 31, 2002. The increase was primarily a result of the an increase in occupancy rates in 2002 for certain joint ventures formed with unrelated investors and earnings from a joint venture formed with unrelated investors in late December 2001. We account for our investments in unconsolidated joint ventures using the equity method of accounting because we do not control these joint venture entities. These investments are initially recorded at cost, as investments in unconsolidated affiliates, and are subsequently adjusted for equity in earnings and cash contributions and distributions. Any difference between the carrying amount of these investments on our balance sheet and the underlying equity in net assets is amortized as an adjustment to equity in earnings of unconsolidated affiliates over 40 years. Interest and other income decreased $4.4 million, or 56.4%, from $7.8 million for the quarter ended March 31, 2001 to $3.4 million for the quarter ended March 31, 2002. The decrease primarily resulted from a decrease in leasing and development fee income in the first quarter of 2002 and a decrease in interest income in the first quarter of 2002 due to lower cash balances during the period. During 2001, we had higher cash balances as a result of proceeds from dispositions related to our capital recycling program that were used in our stock repurchase program. Rental operating expenses (real estate taxes, utilities, insurance, repairs and maintenance and other property-related expenses) increased $1.7 million, or 4.6%, from $36.8 million for the quarter ended March 31, 2001 to $38.5 million for the quarter ended March 31, 2002. The increase was primarily a result of an increase in real estate taxes in 2002. Rental operating expenses as a percentage of related revenues increased from 28.7% for the quarter ended March 31, 2001 to 30.8% for the quarter ended March 31, 2002. Same property rental property expenses, which are the expenses of the 483 in-service properties wholly-owned on January 1, 2001, decreased $587,000, or 1.7%, for the quarter ended March 31, 2002, compared to the quarter ended March 31, 2001. This decrease was primarily a result of lower occupancy relative to variable operating expenses offset by increases in real estate taxes, primarily due to higher property tax assessments, utilities and small increases in various other rental expense accounts. Depreciation and amortization for the quarters ended March 31, 2002 and 2001 totaled $31.3 million and $29.1 million, respectively. The increase of $2.2 million, or 7.6%, was due to an increase in the amortization of leasing commissions and tenant improvements, partly offset by a decrease in the depreciation expense as a result of our capital recycling program during 2002 and 2001. Interest expense decreased $2.6 million, or 9.0%, from $29.0 million for the quarter ended March 31, 2001 to $26.4 million for the quarter ended March 31, 2002. The decrease was primarily attributable to the decrease in the weighted average interest rates for the quarter ended March 31, 2002, partly offset by an increase in the average outstanding debt for the quarter ended March 31, 2002. Interest expense for the quarters ended March 31, 2002 and 2001 included $339,000 and $665,000, respectively, of amortization of deferred financing costs and the costs related to our interest rate hedge contracts. General and administrative expenses as a percentage of total revenues was 4.0% in the first quarter of 2002 and 3.8% in the first quarter of 2001. Costs directly related to the development of rental properties are capitalized. Capitalized development costs include interest, wages, property taxes, insurance and other project costs incurred during the period of development. Capitalized interest for the quarters ended March 31, 2002 and 2001 was $4.0 million and $3.0 million, respectively. Gain on disposition of land and depreciable assets decreased $6.2 million from $7.1 million for the quarter ended March 31, 2001 to $944,000 for the quarter ended March 31, 2002. In 2001, the majority of the gain was a result of the disposition of 277 apartment units. In 2002, the majority of the gain was a result of the sale of 128,000 rentable square feet of office property. Income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item equaled $29.6 million and $36.7 million for the quarters ended March 31, 2002 and 2001, 17
respectively. The Company's net income allocated to minority interest totaled $3.7 million and $5.2 million for the quarters ended March 31, 2002 and 2001, respectively. The Company recorded $7.7 million and $8.1 million in preferred stock dividends for each of the quarters ended March 31, 2002 and 2001, respectively. The decrease was a result of the $18.5 million repurchase by the Company of its preferred stock during 2001. Liquidity and Capital Resources Statement of Cash Flows. The following table sets forth the changes in the Company's cash flows from the first quarter of 2001 to the first quarter of 2002 ($ in thousands): <TABLE> <CAPTION> Quarter Ended March 31, ----------------------------- 2002 2001 Change ------------ ------------ ------------ <S> <C> <C> <C> Cash Provided By Operating Activities $ 42,622 $ 66,769 $ (24,147) Cash Provided By Investing Activities 12,438 22,262 (9,824) Cash Used in Financing Activities (51,773) (147,692) 95,919 </TABLE> The decrease in cash provided by operating activities was primarily the result of our capital recycling program and a decrease in average occupancy rates for our wholly-owned portfolio. Real estate taxes were higher in the first quarter of 2002 primarily due to higher property assessments. The level of net cash provided by operating activities is also affected by the timing of receipt of revenues and payment of expenses. The decrease in cash provided by investing activities was primarily a result of a decrease of $26.5 million in the proceeds from the disposition of real estate assets from the first quarter of 2001 to the first quarter of 2002, and a decrease in the collection of advances from subsidiaries of $27.6 million from the first quarter of 2001 to the first quarter of 2002, partly offset by the reduction in additions to real estate assets of $45.7 million from the first quarter of 2001 to the first quarter of 2002. The decrease in cash used in financing activities was primarily a result of a decrease of $104.6 million in the repurchase of Common Stock and Common Units from the first quarter of 2001 and the first quarter of 2002, partly offset by an increase of $10.7 million in net repayment on the unsecured revolving loan, mortgages and notes payable from the first quarter of 2001 to the first quarter of 2002. Capitalization. Based on our total market capitalization of $3.8 billion at March 31, 2002 (at the March 31, 2002 stock price of $28.09 and assuming the redemption for shares of Common Stock of the 7.3 million Common Units of minority interest in the Operating Partnership), our debt represented approximately 45.5% of our total market capitalization. Our total indebtedness at March 31, 2002 was $1.7 billion and was comprised of $541.5 million of secured indebtedness with a weighted average interest rate of 7.8% and $1.2 billion of unsecured indebtedness with a weighted average interest rate of 6.4%. We do not intend to reserve funds to retire existing secured or unsecured debt upon maturity. For a more complete discussion of our long-term liquidity needs, see "Current and Future Cash Needs." 18
The following table sets forth the maturity schedule of our long-term debt as of March 31, 2002 ($ in thousands): <TABLE> <CAPTION> ---------------------------------------------------------------- Within Within Within Within 2-3 4-5 6 or more Total 1 Year Years Years Years ----------- ----------- ----------- ----------- ----------- <S> <C> <C> <C> <C> <C> <C> Fixed Rate Debt: Unsecured: MOPPRS (1) ............................. $ 125,000 $ -- $ -- $ -- $ 125,000 Put Option Notes (2) ................... 100,000 -- -- -- 100,000 Notes .................................. 706,500 -- 246,500 110,000 350,000 Term Loan .............................. 18,996 18,996 -- -- -- Secured: Mortgages and loans payable ............ 525,252 20,283 64,170 113,928 326,871 ----------- ----------- ----------- ----------- ----------- Total Fixed Rate Debt ...................... 1,475,748 39,279 310,670 223,928 901,871 ----------- ----------- ----------- ----------- ----------- Variable Rate Debt: Unsecured: Revolving Loan ......................... 233,000 -- 233,000 -- -- Secured: Revolving Loan ......................... 11,784 -- 11,784 -- -- Mortgage loan payable .................. 4,500 246 526 576 3,152 ----------- ----------- ----------- ----------- ----------- Total Variable Rate Debt ................... 249,284 246 245,310 576 3,152 ----------- ----------- ----------- ----------- ----------- Total Long Term Debt ............................ $ 1,725,032 $ 39,525 $ 555,980 $ 224,504 $ 905,023 =========== =========== =========== =========== =========== </TABLE> - ---------------------- (1) On February 2, 1998, the Operating Partnership sold $125.0 million of MandatOry Par Put Remarketed Securities ("MOPPRS") due February 1, 2013. The MOPPRS bear an interest rate of 6.835% from the date of issuance through January 31, 2003. After January 31, 2003, the interest rate to maturity on such MOPPRS will be 5.715% plus the applicable spread determined as of January 31, 2003. In connection with the initial issuance of the MOPPRS, a counter party was granted a remarketing option to purchase the MOPPRS from the holders thereof on January 31, 2003 at 100.0% of the principal amount. If the counter party elects not to exercise this option, the Operating Partnership would be required to repurchase the MOPPRS from the holders on January 31, 2003 at 100.0% of the principal amount plus accrued and unpaid interest. (2) On June 24, 1997, a trust formed by the Operating Partnership sold $100.0 million of Exercisable Put Option Securities due June 15, 2004 ("X-POS"), which represent fractional undivided beneficial interest in the trust. The assets of the trust consist of, among other things, $100.0 million of Exercisable Put Option Notes due June 15, 2011 (the "Put Option Notes"), issued by the Operating Partnership. The Put Option Notes bear an interest rate of 7.19% from the date of issuance through June 15, 2004. After June 15, 2004, the interest rate to maturity on such Put Option Notes will be 6.39% plus the applicable spread determined as of June 15, 2004. In connection with the initial issuance of the Put Option Notes, a counter party was granted an option to purchase the Put Option Notes from the trust on June 15, 2004 at 100.0% of the principal amount. If the counter party elects not to exercise this option, the Operating Partnership would be required to repurchase the Put Option Notes from the Trust on June 15, 2004 at 100.0% of the principal amount plus accrued and unpaid interest. The mortgage and loans payable and the secured revolving loan were secured by real estate assets with an aggregate carrying value of $943.0 million at March 31, 2002. The Operating Partnership's unsecured notes of $931.5 million bear interest rates ranging from 6.75% to 8.125%, with interest payable semi-annually in arrears. The premium and discount related to the issuance of the unsecured notes is being amortized over the life of the respective notes as an adjustment to interest expense. All of the unsecured notes, except for the MOPPRS and Put Option Notes, are redeemable at any time at our option, subject to certain conditions including the payment of make-whole amounts. We currently have a $300.0 million unsecured revolving loan (with $233.0 million outstanding at March 31, 2002) that matures in December 2003 and a $55.2 million secured revolving loan (with $11.8 million outstanding at March 31, 2002) that matures in March 2003. Our unsecured revolving loan also includes a $150.0 million competitive sub-facility. Depending upon the corporate credit ratings assigned to us from time to time by the various rating agencies, our unsecured revolving loan bears variable rate interest at a spread above LIBOR ranging from 0.70% to 1.55% and our secured revolving loan bears variable rate interest at a spread above LIBOR ranging 19
from 0.55% to 1.50%. We currently have a credit rating of BBB- assigned by Standard & Poor's, a credit rating of BBB assigned by Fitch Inc. and a credit rating of Baa2 assigned by Moody's Investor Service. As a result, interest currently accrues on borrowings under our unsecured revolving loan at an average rate of LIBOR plus 85 basis points and under our secured revolving loan at an average rate of LIBOR plus 75 basis points. In addition, we are currently required to pay an annual facility fee equal to .20% of the total commitment under the unsecured revolving loan. The terms of each of our revolving loans and the indenture that governs our outstanding notes require us to comply with various operating and financial covenants and performance ratios. We are currently in compliance with all such requirements. In addition, based on our current expectation of future operating performance, we expect to remain in compliance for the foreseeable future. Joint Ventures. During the past several years, we have formed various joint ventures with unrelated investors. We have retained minority equity interests ranging from 12.50% to 50.00% in these joint ventures. As required by generally accepted accounting principals, we have accounted for our joint venture activity using the equity method of accounting, as we do not control these joint ventures. As a result, the assets and liabilities of our joint ventures are not included on our balance sheet. As of March 31, 2002, our joint ventures have approximately $590.2 million of outstanding debt. All of the joint venture debt is non-recourse to us except (1) in the case of customary exceptions pertaining to such matters as misuse of funds, environmental conditions and material misrepresentations (2) with respect to $3.4 million of construction debt related to the MG-HIW Rocky Point, LLC, which has been guaranteed in part by us subject to a pro rata indemnity from our joint venture partner. Our guarantee of the MG-HIW Rocky Point, LLC debt represented 15.00% of the outstanding loan balance at March 31, 2002 and (3) with respect to $2.4 million of construction debt related to the MG-HIW Metrowest I, LLC, which has been guaranteed in part by us subject to a pro rata indemnity from our joint venture partner. Our guarantee of the MG-HIW Metrowest I, LLC debt represented 50.00% of the outstanding loan balance at March 31, 2002. Interest Rate Hedging Activities. To meet in part our long-term liquidity requirements, we borrow funds at a combination of fixed and variable rates. Borrowings under our two revolving loans bear interest at variable rates. Our long-term debt, which consists of long-term financings and the unsecured issuance of debt securities, typically bears interest at fixed rates. In addition, we have assumed fixed rate and variable rate debt in connection with acquiring properties. Our interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower our overall borrowing costs. To achieve these objectives, from time to time we enter into interest rate hedge contracts such as collars, swaps, caps and treasury lock agreements in order to mitigate our interest rate risk with respect to various debt instruments. We do not hold or issue these derivative contracts for trading or speculative purposes. The following table sets forth information regarding our interest rate hedge contract as of March 31, 2002 ($ in thousands): <TABLE> <CAPTION> Notional Maturity Fixed Fair Market Type of Hedge Amount Date Reference Rate Rate Value - ------------- ------ --------- --------------------- --------- ------------ <S> <C> <C> <C> <C> <C> Swap $ 18,996 6/10/02 1-Month LIBOR + 0.75% 6.95% $ (207) </TABLE> The interest rate on all of our variable rate debt is adjusted at one- and three-month intervals, subject to settlements under these contracts. We also enter into treasury lock agreements from time to time in order to limit our exposure to an increase in interest rates with respect to future debt offerings. Net payments to counterparties under interest rate hedge contracts were $207,276 during 2002 and were recorded as additional interest expense. Current and Future Cash Needs. Historically, rental revenue has been the principal source of funds to meet our short-term liquidity requirements, which primarily consist of operating expenses, debt service, stockholder distributions and ordinary course capital expenditures. In addition, construction management, maintenance, leasing and management fees have provided sources of cash flow. We presently have no plans for major capital improvements to the existing properties, other than normal recurring building improvements, tenant improvements and lease commissions. In addition to the requirements discussed above, our short-term (within the next 12 months) liquidity requirements also include the funding of approximately $42.0 million of our existing development activity. See "Business -- Development Activity." We expect to fund our short-term liquidity requirements through a combination 20
of working capital, cash flows from operations and the following: . borrowings under our unsecured revolving loan (up to $85.0 million of availability as of May 3, 2002); . borrowings under our secured revolving loan (up to $40.9 million of availability as of May 3, 2002); . the selective disposition of non-core assets; . the sale or contribution of some of our wholly-owned properties, development projects and development land to strategic joint ventures to be formed with unrelated investors, which will have the net effect of generating additional capital through such sale or contributions; and . the issuance of secured debt (at March 31, 2002, we had $2.8 billion of unencumbered real estate assets at cost). Our long-term liquidity needs generally include the funding of existing and future development activity, selective asset acquisitions and the retirement of mortgage debt, amounts outstanding under the two revolving loans and long-term unsecured debt. We remain committed to maintaining a flexible capital structure. Accordingly, we expect to meet our long-term liquidity needs through a combination of (1) the issuance by the Operating Partnership of additional unsecured debt securities, (2) the issuance of additional equity securities by the Company and the Operating Partnership as well as (3) the sources described above with respect to our short-term liquidity. We expect to use such sources to meet our long-term liquidity requirements either through direct payments or repayment of borrowings under the unsecured revolving loan. We do not intend to reserve funds to retire existing secured or unsecured indebtedness upon maturity. Instead, we will seek to refinance such debt at maturity or retire such debt through the issuance of equity or debt securities. We anticipate that our available cash and cash equivalents and cash flows from operating activities, with cash available from borrowings and other sources, will be adequate to meet our capital and liquidity in both the short and long term. However, if these sources of funds are insufficient or unavailable, the Company's ability to make the expected distributions to stockholders discussed below and satisfy other cash payments may be adversely affected. Distributions to Stockholders. To maintain qualification as a REIT, the Company must distribute to stockholders at least 90% of REIT taxable income. The Company expects to use its cash flow from operating activities for distributions to stockholders and for payment of recurring, non-incremental revenue-generating expenditures. The following factors will affect cash flows from operating activities and, accordingly, influence the decisions of the Board of Directors regarding distributions: (1) debt service requirements after taking into account the repayment and restructuring of certain indebtedness; (2) scheduled increases in base rents of existing leases; (3) changes in rents attributable to the renewal of existing leases or replacement leases; (4) changes in occupancy rates at existing properties and procurement of leases for newly acquired or developed properties; and (5) operating expenses and capital replacement needs. Share and Unit Repurchase Program. On April 25, 2001, we announced that the Company's Board of Directors authorized the repurchase of up to an additional 5.0 million shares of Common Stock and Common Units. As of May 1, 2002, under the new repurchase program, the Company had repurchased 1.4 million shares of Common Stock and Common Units at a weighted average purchase price of $24.55 per share and a total purchase price of $33.9 million under this new repurchase program. In determining whether or not to repurchase additional capital stock, we will consider, among other factors, the effect of repurchases on our liquidity and the price of our Common Stock. Disposition Activity. As part of our ongoing capital recycling program, during the three months ended March 31, 2002, we have sold 128,000 square feet of office properties and 50.9 acres of development land for gross proceeds of $23.2 million. In addition, we had 551,152 square feet of office properties and 128.8 acres of land under contract for sale in various transactions totaling $103.4 million. These transactions are subject to customary closing conditions, including due diligence and documentation, and are expected to close during the second and third quarters of 2002. However, we can provide no assurance that all or parts of these transactions will be consummated. When properties are identified as held for sale, we discontinue depreciation and estimate the net proceeds expected from the disposition of such properties. If, in our opinion, the net sales price of the properties that have 21
been identified for sale is less than the net book value of the properties, a valuation allowance is established. Additionally, on a periodic basis, we assess whether there are any indicators that the value of our real estate properties may be impaired. A property's value is impaired only if our estimate of the aggregate future cash flows (undiscounted and without interest charges) to be generated by the property are less than the carrying value of the property. To the extent impairment has occurred, the loss is measured as the excess of the carrying amount of the property over the fair value of the property. We do not believe that the value of any of our rental properties is impaired. Impact of Recently Issued Accounting Standards In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment of Disposal of Long-Lived Assets," which addresses financial accounting and reporting for the impairment of disposal of long-lived assets. This standard harmonizes the accounting for impaired assets and resolves some of the implementation issues as originally described in SFAS No. 121. We adopted SFAS No. 144 in the first quarter of 2002. The net income from discontinued operations, net of minority interest, for properties meeting the criteria in accordance with SFAS No. 144 is reflected in the consolidated statements of income as Discontinued Operations for all periods presented. Funds From Operations and Cash Available for Distributions We consider funds from operations ("FFO") to be a useful financial performance measure of the operating performance of an equity REIT because, together with net income and cash flows, FFO provides investors with an additional basis to evaluate the ability of a REIT to incur and service debt and to fund acquisitions and other capital expenditures. FFO does not represent net income or cash flows from operating, investing or financing activities as defined by GAAP. It should not be considered as an alternative to net income as an indicator of our operating performance or to cash flows as a measure of liquidity. FFO does not measure whether cash flow is sufficient to fund all cash needs, including principal amortization, capital improvements and distributions to stockholders. Further, FFO as disclosed by other REITs may not be comparable to our calculation of FFO, as described below. FFO and cash available for distributions should not be considered as alternatives to net income as an indication of our performance or to cash flows as a measure of liquidity. FFO equals income from continuing operations before minority interest (computed in accordance with GAAP) excluding gains (or losses) from debt restructuring and sales of depreciable property and dividends paid to preferred shareholders, plus depreciation and amortization. In addition, FFO includes both recurring and non-recurring operating results and income from discontinued operations. As a result, non-recurring items that are not defined as "extraordinary" under GAAP are reflected in the calculation of FFO. Cash available for distribution is defined as funds from operations increased by the amortization of deferred financing activities and reduced by rental income from straight-line rents and non-revenue enhancing capital expenditures for building improvements and tenant improvements and lease commissions related to second generation space. 22
FFO and cash available for distribution for the three months ended March 31, 2002 and 2001 are summarized in the following table (in thousands): <TABLE> <CAPTION> Three Months Ended March 31 ------------------------------ 2002 2001 ------------- ------------- <S> <C> <C> FFO: Income before gain on disposition of land and depreciable assets, minority interest, discontinued operations and extraordinary item ................... $ 29,611 $ 36,721 Add/(Deduct): Dividends to preferred shareholders ........................................ (7,713) (8,145) Transition adjustment upon adoption of FAS 133 ............................. -- 556 Income from discontinued operations ........................................ 230 233 (Loss)/Gain on disposition of land ......................................... (232) 1,026 Depreciation and amortization .............................................. 31,366 29,206 Depreciation on unconsolidated subsidiaries ................................ 2,484 1,992 ----------- --------- FFO .................................................................... 55,746 61,589 Cash Available for Distribution: Add/(Deduct): Rental income from straight-line rents ..................................... (2,367) (3,102) Amortization of deferred financing costs ................................... 339 665 Non-incremental revenue generating capital expenditures (1): Building improvements paid ............................................... (751) (1,073) Second generation tenant improvements paid ............................... (3,531) (3,755) Second generation lease commissions paid ................................. (2,610) (4,787) ----------- --------- Cash available for distribution ........................................ $ 46,826 $ 49,537 =========== ========= Weighted average shares/units outstanding (2) -- basic .......................... 60,249 64,094 =========== ========= Weighted average shares/units outstanding (2) -- diluted ........................ 60,747 64,359 =========== ========= Dividend payout ratios: FFO ........................................................................ 63.7% 59.6% =========== ========= Cash available for distribution ............................................ 75.9% 74.1% =========== ========= </TABLE> - ----------------------- (1) Amounts represent cash expenditures. (2) Assumes redemption of Common Units for shares of Common Stock. Minority interest Common Unit holders and the stockholders of the Company share equally on a per Common Unit and per share basis; therefore, the per share information is unaffected by conversion. 23
Property Information The following table sets forth certain information with respect to our wholly owned in-service and development properties (excluding apartment units) as of March 31, 2002 and 2001: <TABLE> <CAPTION> March 31, 2002 March 31, 2001 -------------------------- ----------------------------- Percent Percent Rentable Leased/ Rentable Leased/ Square Feet Pre-Leased Square Feet Pre-Leased -------------- ----------- --------------- ------------- <S> <C> <C> <C> <C> In-Service Office ..................................... 25,214,000 89.0% 24,509,000 93.8% Industrial ................................. 10,607,000 84.3 10,358,000 95.3 Retail (1) ................................. 1,651,000 96.0 1,645,000 94.4 ---------- ----- ---------- ----- Total or Weighted Average ................ 37,472,000 88.0% 36,512,000 94.2% ========== ===== ========== ===== Development Completed -- Not Stabilized Office ..................................... 1,472,000 51.3% 524,000 78.0% Industrial ................................. 136,000 29.4 306,000 52.0 Retail ..................................... 20,000 90.0 -- -- ---------- ----- ---------- ----- Total or Weighted Average ................ 1,628,000 49.9% 830,000 69.0% ========== ===== ========== ===== In-Process Office ..................................... 415,000 85.5% 2,079,000 52.0% Industrial ................................. -- -- 122,000 -- Retail ..................................... -- -- 20,000 34.0 ---------- ---- ---------- ----- Total or Weighted Average ................ 415,000 85.5% 2,221,000 49.0% ========== ===== ========== ===== Total Office ..................................... 27,101,000 27,112,000 Industrial ................................. 10,743,000 10,786,000 Retail (1) ................................. 1,671,000 1,665,000 ---------- ---------- Total .................................... 39,515,000 39,563,000 ========== ========== </TABLE> - --------------------- (1) Excludes Kansas City's basement space. 24
As of March 31, 2002, we were developing 16 suburban office properties, one industrial property and one retail property totaling 2.0 million rentable square feet of office and industrial space. The following table summarizes these development projects. In addition to the properties described in this table, we are developing with our joint venture partners two additional properties totaling 142,000 rentable square feet. At March 31, 2002, these two development projects had an aggregate anticipated total investment of $16.9 million and were 8.0% pre-leased. In-Process <TABLE> <CAPTION> Anticipated Rentable Total Investment Pre-Leasing Estimated Estimated Name Market Square Feet Investment at 03/31/02 Percentage (1) Completion Stabilization (2) - ---- ------ ----------- -------------- ----------- -------------- ---------- ----------------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> <C> Office: International Place 3 Memphis 214,000 $ 34,272 $ 29,170 100% 2Q02 2Q02 1825 Century Center (3) Atlanta 101,000 16,254 11,746 100 3Q02 3Q02 801 Raleigh Corporate Center (3) Research Triangle 100,000 12,016 3,635 40 4Q02 2Q04 --------- ---------- ----------- ---- In-Process Office Total or Weighted Average 415,000 $ 62,542 $ 44,551 86% ========= ========== =========== ==== Total or Weighted Average of all In-Process Development Projects 415,000 $ 62,542 $ 44,551 86% ========= ========== =========== ==== </TABLE> - -------------------- (1) Letters of intent comprise 4% of the total pre-leasing percentage. (2) We generally consider a development project to be stabilized upon the earlier of the first date such project is at least 95% occupied or one year from the date of completion. (3) We are developing these properties for a third party and own an option to purchase each property. 25
Completed--Not Stabilized <TABLE> <CAPTION> Anticipated Rentable Total Investment Pre-Leasing Estimated Estimated Name Market Square Feet Investment at 03/31/02 Percentage (1) Completion Stabilization (2) - ---- ------ ----------- ----------- ----------- -------------- ---------- ----------------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> <C> Office: Highwoods Tower II Research Triangle 167,000 $ 25,134 $ 21,949 94% 1Q01 2Q02 Met Life Building At Brookfield Greenville 115,000 13,220 12,379 83 3Q01 3Q02 Cool Springs II Nashville 205,000 22,718 21,111 70 2Q01 3Q02 Hickory Trace Nashville 52,000 5,933 5,714 77 3Q01 3Q02 ParkWest One Research Triangle 46,000 4,364 4,113 74 2Q01 3Q02 North Shore Commons A Richmond 115,000 14,300 13,773 79 2Q01 3Q02 Stony Point III Richmond 107,000 11,425 10,825 73 2Q01 3Q02 Shadow Creek II Memphis 81,000 8,750 6,839 19 4Q01 4Q02 Highwoods Park at Jefferson Village Piedmont Triad 98,000 11,290 9,789 4 4Q01 4Q02 Seven Springs I Nashville 131,000 15,556 12,248 8 1Q02 1Q03 Centre Green Two Research Triangle 97,000 11,596 9,798 31 2Q01 1Q03 Centre Green Four Research Triangle 100,000 11,764 9,088 33 4Q01 2Q03 GlenLake I Research Triangle 158,000 22,417 18,090 15 4Q01 2Q03 ----------- ---------- --------- ---- Office Total or Weighted Average 1,472,000 $ 178,467 $ 155,716 51% =========== ========== ========= ==== Industrial: Newpont IV Atlanta 136,000 $ 5,288 $ 4,283 29% 4Q01 4Q02 ----------- ---------- --------- ---- Completed-Not Stabilized Industrial Total or Weighted Average 136,000 $ 5,288 $ 4,283 29% =========== ========== ========= ==== Retail: Granada Shops Kansas City 20,000 $ 4,680 $ 4,131 90% 4Q01 4Q02 ----------- ---------- --------- ---- Completed-Not Stabilized Retail Total or Weighted Average 20,000 $ 4,680 $ 4,131 90% =========== ========== ========= ==== Total or Weighted Average of all Completed- Not Stabilized Development Projects 1,628,000 $ 188,435 $ 164,130 50% =========== ========== ========= ==== Total or Weighted Average of all Development Projects 2,043,000 $ 250,977 $ 208,681 57% =========== ========== ========= ==== </TABLE> - -------------- (1) Letters of intent comprise 4% of the total pre-leasing percentage. (2) We generally consider a development project to be stabilized upon the earlier of the first date such project is at least 95% occupied or one year from the date of completion. 26
Development Analysis <TABLE> <CAPTION> Anticipated Rentable Total Pre-Leasing Square Feet Investment Percentage (1) ------------- ------------- ---------------- ($ in thousands) <S> <C> <C> <C> Summary by Estimated Stabilization Date: Second Quarter 2002 ............................. 381,000 $ 59,406 97% Third Quarter 2002 .............................. 741,000 88,214 79% Fourth Quarter 2002 ............................. 335,000 30,008 23% First Quarter 2003 .............................. 228,000 27,152 18% Second Quarter 2003 ............................. 258,000 34,181 22% Second Quarter 2004 ............................. 100,000 12,016 40% --------- --------- --- Total or Weighted Average ....................... 2,043,000 $ 250,977 57% ========= ========= === Summary by Market: Atlanta ......................................... 237,000 $ 21,542 59% Greenville ...................................... 115,000 13,220 83% Kansas City ..................................... 20,000 4,680 90% Memphis ......................................... 295,000 43,022 78% Nashville ....................................... 388,000 44,207 50% Piedmont Triad .................................. 98,000 11,290 4% Research Triangle ............................... 668,000 87,291 47% Richmond ........................................ 222,000 25,725 76% --------- --------- --- Total or Weighted Average ....................... 2,043,000 $ 250,977 57% ========= ========= === Build-to-Suit ................................... 315,000 $ 50,526 100% Multi-Tenant .................................... 1,728,000 200,451 49% --------- --------- --- Total or Weighted Average ....................... 2,043,000 $ 250,977 57% ========= ========= === </TABLE> <TABLE> <CAPTION> Average Average Rentable Anticipated Square Total Average Feet Investment Pre-Leasing (1) --------- --------- --------------- ($ in thousands) <S> <C> <C> <C> Average Per Property By Type: Office .......................................... 117,938 $ 15,063 59% Industrial ...................................... 136,000 5,288 29% Retail .......................................... 20,000 4,680 90% -------- -------- --- Weighted Average ................................ 113,500 $ 13,943 57% ======== ======== === </TABLE> - ------------------ (1) Letters of intent comprise 4% of the total pre-leasing percentage. 27
The following tables set forth certain information about leasing activities at our wholly owned in-service properties (excluding apartment units) for the three months ended March 31, 2002 and December 31, September 30 and June 30, 2001. <TABLE> <CAPTION> Office Leasing Statistics Three Months Ended --------------------------------------------------------------------------- 3/31/02 12/31/01 9/30/01 6/30/01 Average ----------- ------------ ------------- ------------- ------------- <S> <C> <C> <C> <C> <C> Net Effective Rents Related to Re-Leased Space: Number of lease transactions (signed leases) ..... 110 116 135 155 129 Rentable square footage leased ................... 417,102 437,454 630,043 773,415 564,504 Average per rentable square foot over the lease term: Base rent ..................................... $ 16.83 $ 17.85 $ 17.03 $ 16.36 $ 17.02 Tenant improvements ........................... (0.98) (1.19) (0.90) (1.17) (1.06) Leasing commissions ........................... (0.78) (0.97) (0.59) (0.67) (0.75) Rent concessions .............................. (0.15) (0.11) (0.11) (0.03) (0.10) ----------- ---------- ----------- ----------- ----------- Effective rent ................................ $ 14.92 $ 15.58 $ 15.43 $ 14.49 $ 15.11 Expense stop(1) ............................... (5.17) (4.50) (4.54) (3.37) (4.40) ----------- ---------- ----------- ----------- ----------- Equivalent effective net rent ................. $ 9.75 $ 11.08 $ 10.89 $ 11.12 $ 10.71 =========== ========== =========== =========== =========== Average term in years ............................ 4.1 4.6 4.5 4.9 4.5 =========== ========== =========== =========== =========== Capital Expenditures Related to Released Space: Tenant Improvements: Total dollars committed under signed leases ................................. $ 2,031,231 $ 2,647,115 $ 2,431,063 $ 5,052,983 $ 3,040,598 Rentable square feet .......................... 417,102 437,454 630,043 773,415 564,504 ----------- ----------- ----------- ----------- ----------- Per rentable square foot ...................... $ 4.87 $ 6.05 $ 3.86 $ 6.53 $ 5.39 =========== =========== =========== =========== =========== Leasing Commissions: Total dollars committed under signed leases ................................. $ 984,220 $ 1,277,523 $ 1,018,216 $ 1,991,418 $ 1,317,844 Rentable square feet .......................... 417,102 437,454 630,043 773,415 564,504 ----------- ----------- ----------- ----------- ----------- Per rentable square foot ...................... $ 2.36 $ 2.92 $ 1.62 $ 2.57 $ 2.33 =========== =========== =========== =========== =========== Total: Total dollars committed under signed leases ................................. $ 3,015,450 $ 3,924,637 $ 3,449,279 $ 7,044,401 $ 4,358,442 Rentable square feet .......................... 417,102 437,454 630,043 773,415 564,504 ----------- ----------- ----------- ----------- ----------- Per rentable square foot ...................... $ 7.23 $ 8.97 $ 5.47 $ 9.11 $ 7.72 =========== =========== =========== =========== =========== Rental Rate Trends: Average final rate with expense pass throughs ................................. $ 16.45 $ 16.47 $ 16.27 $ 14.84 $ 16.01 Average first year cash rental rate .............. $ 15.84 $ 17.25 $ 16.51 $ 15.54 $ 16.28 ----------- ----------- ----------- ----------- ----------- Percentage (decrease)/increase ................... (3.8)% 4.7% 1.5% 4.7% 1.7% =========== =========== =========== =========== =========== </TABLE> - -------------------- (1) "Expense stop" represents operating expenses (generally including taxes, utilities, routine building expense and common area maintenance) which we will not be reimbursed by our tenants. 28
<TABLE> <CAPTION> Industrial Leasing Statistics Three Months Ended --------------------------------------------------------------- 3/31/02 12/31/01 9/30/01 6/30/01 Average --------- ---------- --------- --------- ----------- <S> <C> <C> <C> <C> <C> Net Effective Rents Related to Re-Leased Space: Number of lease transactions (signed leases) ............. 15 31 26 23 24 Rentable square footage leased ........................... 78,844 894,865 285,241 153,507 353,114 Average per rentable square foot over the lease term: Base rent ............................................. $ 6.95 $ 3.52 $ 4.71 $ 5.84 $ 5.26 Tenant improvements ................................... (1.10) (0.24) (0.38) (0.27) (0.50) Leasing commissions ................................... (0.21) (0.10) (0.11) (0.15) (0.14) Rent concessions ...................................... -- -- -- -- -- --------- ---------- --------- --------- ---------- Effective rent ........................................ $ 5.64 $ 3.18 $ 4.22 $ 5.42 $ 4.62 Expense stop (1) ...................................... (0.72) (0.18) (0.30) (0.49) (0.42) --------- ---------- --------- --------- ---------- Equivalent effective net rent ......................... $ 4.92 $ 3.00 $ 3.92 $ 4.93 $ 4.19 ========= ========== ========= ========= ========== Average term in years .................................... 4.1 2.2 3.3 2.5 3.0 ========= ========== ========= ========= ========== Capital Expenditures Related to Re-leased Space: Tenant Improvements: Total dollars committed under signed leases ........... $ 386,263 $ 661,591 $ 606,380 $ 175,777 $ 457,503 Rentable square feet .................................. 78,844 894,865 285,241 153,507 353,114 --------- ---------- --------- --------- ---------- Per rentable square foot .............................. $ 4.90 $ 0.74 $ 2.13 $ 1.15 $ 1.30 ========= ========== ========= ========= ========== Leasing Commissions: Total dollars committed under signed leases ........... $ 44,100 $ 257,010 $ 87,034 $ 63,679 $ 112,956 Rentable square feet .................................. 78,844 894,865 285,241 153,507 353,114 --------- ---------- --------- --------- ---------- Per rentable square foot .............................. $ 0.56 $ 0.29 $ 0.31 $ 0.41 $ 0.32 ========= ========== ========= ========= ========== Total: Total dollars committed under signed leases ........... $ 430,363 $ 918,601 $ 693,414 $ 239,456 $ 570,458 Rentable square feet .................................. 78,844 894,865 285,241 153,507 353,114 --------- ---------- --------- --------- ---------- Per rentable square foot .............................. $ 5.46 $ 1.03 $ 2.43 $ 1.56 $ 1.62 ========= ========== ========= ========= ========== Rental Rate Trends: Average final rate with expense pass throughs ............ $ 6.99 $ 3.58 $ 4.85 $ 5.73 $ 5.29 Average first year cash rental rate ...................... $ 6.69 $ 3.49 $ 4.60 $ 5.75 $ 5.13 --------- ---------- --------- --------- ---------- Percentage (decrease)/increase ........................... (4.2)% (2.3)% (5.1)% 0.4% (2.9)% ========= ========== ========= ========= ========== </TABLE> - ---------- (1) "Expense stop" represents operating expenses (generally including taxes, utilities, routine building expense and common area maintenance) which we will not be reimbursed by our tenants. 29
<TABLE> <CAPTION> Retail Leasing Statistics Three Months Ended -------------------------------------------------------------- 3/31/02 12/31/01 9/30/01 6/30/01 Average ----------- ---------- --------- ---------- --------- <S> <C> <C> <C> <C> <C> Net Effective Rents Related to Re-Leased Space: Number of lease transactions (signed leases) ............. 12 12 9 14 12 Rentable square footage leased ........................... 59,649 26,019 40,283 21,072 36,756 Average per rentable square foot over the lease term: Base rent ............................................. $ 25.66 $ 15.75 $ 16.33 $ 22.84 $ 20.15 Tenant improvements ................................... (1.87) (0.63) (1.49) (0.66) (1.16) Leasing commissions ................................... (0.35) (0.82) (0.75) (0.57) (0.62) Rent concessions ...................................... (0.02) -- -- -- (0.01) ----------- ---------- --------- ---------- --------- Effective rent ........................................ $ 23.42 $ 14.30 $ 14.09 $ 21.61 $ 18.35 Expense stop (1) ...................................... -- -- -- -- -- ----------- ---------- --------- ---------- --------- Equivalent effective net rent ......................... $ 23.42 $ 14.30 $ 14.09 $ 21.61 $ 18.35 =========== ========== ========= ========== ========= Average term in years .................................... 6.5 6.7 8.8 5.3 6.8 =========== ========== ========= ========== ========= Capital Expenditures Related to Re-leased Space: Tenant Improvements: Total dollars committed under signed leases ........... $ 738,605 $ 148,860 $ 526,500 $ 121,713 $ 383,919 Rentable square feet .................................. 59,649 26,019 40,283 21,072 36,756 ----------- ---------- --------- ---------- --------- Per rentable square foot .............................. $ 12.38 $ 5.72 $ 13.07 $ 5.78 $ 10.45 =========== ========== ========= ========== ========= Leasing Commissions: Total dollars committed under signed leases ........... $ 61,981 $ 73,314 $ 196,296 $ 61,537 $ 98,282 Rentable square feet .................................. 59,649 26,019 40,283 21,072 36,756 ----------- ---------- --------- ---------- --------- Per rentable square foot .............................. $ 1.04 $ 2.82 $ 4.87 $ 2.92 $ 2.67 =========== ========== ========= ========== ========= Total: Total dollars committed under signed leases ........... $ 800,586 $ 222,174 $ 722,796 $ 183,250 $ 482,201 Rentable square feet .................................. 59,649 26,019 40,283 21,072 36,756 ----------- ---------- --------- ---------- --------- Per rentable square foot .............................. $ 13.42 $ 8.54 $ 17.94 $ 8.70 $ 13.12 =========== ========== ========= ========== ========= Rental Rate Trends: Average final rate with expense pass throughs ............ $ 18.25 $ 14.16 $ 11.28 $ 17.99 $ 15.42 Average first year cash rental rate ...................... $ 23.54 $ 16.24 $ 14.82 $ 21.51 $ 19.03 ----------- ---------- --------- ---------- --------- Percentage increase ...................................... 28.9% 14.7% 31.4% 19.6% 23.4% =========== ========== ========= ========== ========= </TABLE> - ---------- (1) "Expense stop" represents operating expenses (generally including taxes, utilities, routine building expense and common area maintenance) which we will not be reimbursed by our tenants. 30
The following tables set forth scheduled lease expirations at our wholly owned in-service properties (excluding apartment units) as of March 31, 2002, assuming no tenant exercises renewal options. Office Properties: <TABLE> <CAPTION> Average Percentage of Percentage of Annual Leased Rents Rentable Leased Annual Rents Rental Rate Represented Number of Square Feet Square Footage Under Per Square by Lease Leases Subject to Represented by Expiring Foot for Expiring Expiring Expiring Expiring Leases Expiring Leases Leases (1) Expirations Leases - -------- -------- --------------- --------------- -------------- ----------- ----------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> 2002 632 2,817,270 12.2% $ 46,969 $16.67 11.9% 2003 549 3,454,440 15.1% 59,785 17.31 15.1% 2004 497 2,907,224 12.6% 52,347 18.01 13.2% 2005 413 3,104,392 13.5% 54,093 17.42 13.7% 2006 313 2,799,525 12.2% 50,280 17.96 12.7% 2007 97 1,368,541 5.9% 21,137 15.44 5.3% 2008 78 1,824,503 7.9% 28,934 15.86 7.3% 2009 22 711,208 3.1% 12,327 17.33 3.1% 2010 41 1,394,039 6.1% 24,623 17.66 6.2% 2011 39 1,344,417 5.8% 22,822 16.98 5.8% Thereafter 64 1,279,727 5.6% 22,757 17.78 5.7% ----- ---------- ----- -------- ------ ----- 2,745 23,005,286 100.0% $396,074 $17.22 100.0% ===== ========== ===== ======== ====== ===== </TABLE> Industrial Properties: <TABLE> <CAPTION> Average Percentage of Percentage of Annual Leased Rents Rentable Leased Annual Rents Rental Rate Represented Number of Square Feet Square Footage Under Per Square by Lease Leases Subject to Represented by Expiring Foot for Expiring Expiring Expiring Expiring Leases Expiring Leases Leases (1) Expirations Leases - -------- -------- --------------- --------------- -------------- ----------- ----------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> 2002 138 1,763,116 19.5% $ 8,225 $ 4.67 19.1% 2003 91 1,157,795 12.8% 6,104 5.27 14.1% 2004 94 2,567,310 28.4% 10,372 4.04 24.0% 2005 43 713,572 7.9% 4,187 5.87 9.7% 2006 38 781,946 8.7% 4,589 5.87 10.6% 2007 19 1,179,641 13.1% 4,932 4.18 11.4% 2008 7 214,340 2.4% 1,394 6.50 3.2% 2009 6 268,813 3.0% 1,907 7.09 4.4% 2010 3 46,508 0.5% 329 7.07 0.8% 2011 1 33,555 0.4% 159 4.74 0.4% Thereafter 10 297,519 3.3% 987 3.32 2.3% ---- ---------- ----- -------- ------ ----- 450 9,024,115 100.0% $ 43,185 $ 4.79 100.0% ==== ========== ===== ======== ====== ===== </TABLE> - ---------- (1) Annual Rents Under Expiring Leases are March 2002 rental revenue (base rent plus operating expense pass-throughs) multiplied by 12. 31
Retail Properties: <TABLE> <CAPTION> Average Percentage of Percentage of Annual Leased Rents Rentable Leased Annual Rents Rental Rate Represented Number of Square Feet Square Footage Under Per Square by Lease Leases Subject to Represented by Expiring Foot for Expiring Expiring Expiring Expiring Leases Expiring Leases Leases (1) Expirations Leases - -------- --------- --------------- --------------- -------------- ----------- ----------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> 2002 43 122,465 7.8% $ 1,901 $15.52 5.8% 2003 38 102,067 6.5% 2,372 23.24 7.3% 2004 39 208,315 13.2% 2,268 10.89 7.0% 2005 41 95,027 6.0% 2,391 25.16 7.3% 2006 36 103,317 6.5% 3,005 29.09 9.2% 2007 25 96,990 6.1% 1,734 17.88 5.3% 2008 24 120,168 7.6% 3,472 28.89 10.7% 2009 21 168,355 10.7% 3,832 22.76 11.8% 2010 18 97,372 6.2% 2,531 25.99 7.8% 2011 20 108,418 6.9% 2,230 20.57 6.9% Thereafter 22 355,906 22.5% 6,817 19.15 20.9% ---- ---------- ----- -------- ------ ----- 327 1,578,400 100.0% $ 32,553 $20.62 100.0% ==== ========== ===== ======== ====== ===== </TABLE> Total: <TABLE> <CAPTION> Average Percentage of Percentage of Annual Leased Rents Rentable Leased Annual Rents Rental Rate Represented Number of Square Feet Square Footage Under Per Square by Lease Leases Subject to Represented by Expiring Foot for Expiring Expiring Expiring Expiring Leases Expiring Leases Leases (1) Expirations Leases - -------- -------- --------------- --------------- -------------- ----------- ----------- ($ in thousands) <S> <C> <C> <C> <C> <C> <C> 2002 813 4,702,851 14.0% $ 57,095 $12.14 12.1% 2003 678 4,714,302 14.0% 68,261 14.48 14.4% 2004 630 5,682,849 16.9% 64,987 11.44 13.8% 2005 497 3,912,991 11.6% 60,671 15.51 12.9% 2006 387 3,684,788 11.0% 57,874 15.71 12.3% 2007 141 2,645,172 7.9% 27,803 10.51 5.9% 2008 109 2,159,011 6.4% 33,800 15.66 7.2% 2009 49 1,148,376 3.4% 18,066 15.73 3.8% 2010 62 1,537,919 4.6% 27,483 17.87 5.8% 2011 60 1,486,390 4.4% 25,211 16.96 5.3% Thereafter 96 1,933,152 5.8% 30,561 15.81 6.5% ----- ---------- ----- -------- ------ ----- 3,522 33,607,801 100.0% $471,812 $14.04 100.0% ===== ========== ===== ======== ====== ===== </TABLE> - ---------- (1) Annual Rents Under Expiring Leases are March 2002 rental revenue (base rent plus operating expense pass-throughs) multiplied by 12. Inflation In the last five years, inflation has not had a significant impact on us because of the relatively low inflation rate in our geographic areas of operation. Most of the leases require the tenants to pay their share of increases in operating expenses, including common area maintenance, real estate taxes and insurance, thereby reducing our exposure to inflation. 32
Item 3. Quantitative and Qualitative Disclosures About Market Risk The effects of potential changes in interest rates are discussed below. Our market risk discussion includes "forward-looking statements" and represents an estimate of possible changes in fair value or future earnings that would occur assuming hypothetical future movements in interest rates. These disclosures are not precise indicators of expected future losses, but only indicators of reasonably possible losses. As a result, actual future results may differ materially from those presented. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources" for a description of our accounting policies and other information related to these financial instruments. To meet in part our long-term liquidity requirements, we borrow funds at a combination of fixed and variable rates. Borrowings under our revolving loans bear interest at variable rates. Our long-term debt, which consists of long-term financings and the issuance of debt securities, typically bears interest at fixed rates. In addition, we have assumed fixed rate and variable rate debt in connection with acquiring properties. Our interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower our overall borrowing costs. To achieve these objectives, from time to time we enter into interest rate hedge contracts such as collars, swaps, caps and treasury lock agreements in order to mitigate our interest rate risk with respect to various debt instruments. We do not hold or issue these derivative contracts for trading or speculative purposes. Certain Variable Rate Debt. As of March 31, 2002, the Company had approximately $268.3 million of variable rate debt outstanding that was not protected by interest rate hedge contracts. If the weighted average interest rate on this variable rate debt is 100 basis points higher or lower during the 12 months ended March 31, 2002, our interest expense would be increased or decreased approximately $2.7 million. Interest Rate Hedge Contracts. For a discussion of our interest rate hedge contract in effect at March 31, 2002, see "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources--Capitalization." If interest rates increase by 100 basis points, the aggregate fair market value of this interest rate hedge contract as of March 31, 2002 would increase by approximately $38,283. If interest rates decrease by 100 basis points, the aggregate fair market value of this interest rate hedge contract as of March 31, 2002 would decrease by approximately $38,431. In addition, we are exposed to certain losses in the event of nonperformance by the counterparties under the hedge contract. We expect the counterparties, which are major financial institutions, to perform fully under this contract. However, if the counterparties were to default on their obligations under the interest rate hedge contract, we could be required to pay the full rates on our debt, even if such rates were in excess of the rates in the contract. 33
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Highwoods Properties, Inc. By: /s/ Ronald P. Gibson ----------------------------------------- Ronald P. Gibson President and Chief Executive Officer By: /s/ Carman J. Liuzzo ----------------------------------------- Carman J. Liuzzo Chief Financial Officer (Principal Accounting Officer) Date: May 14, 2002 34