2006 Annual Report
Focused
Focused
on results
driven
driven
to succeed
People
Portfolio
Enhance
Shareholder
Value
Balance Sheet
Communication
FoCuSED o n R ESuLtS
Create a Portfolio of Differentiated Assets
Sell Non-Core Assets
Develop Infill not Sprawl
Improve Portfolio Quality
Create More Stabilized Cash Flow
Maximize Operating Efficiencies
Enhance Energy Management Program
Challenge Tax Assessments
Expand Strategic Sourcing
Leverage Better Practices
Strengthen Balance Sheet
Reduce Overall Leverage
Pay Down High Coupon Debt and Preferred Stock
Reduce Cost of Debt and Equity Capital
Enhance Communications
Augment Branding
Conduct Active Performance Research
Encourage Proactive Communications
GlenLake Four
RBC Plaza
Highwoods Bay Center
Dear Fellow Shareholders:
It is with great pleasure that I submit our 2006 annual report. Our Company had an excellent year,
generating a 50.6% total shareholder return. Put into perspective, the 2006 total return for the
S&P 500, Dow Jones Industrial Average and the Russell 2000, were 15.8%, 19.0% and 18.4%,
respectively.
Funds from Operations (“FFO”), one important indicator of the performance of an equity REIT,
was $2.37 per diluted share in 2006, compared to FFO of $2.11 per diluted share reported in 2005,
a 12% increase.
We made meaningful progress on the long-term goals of our Strategic Plan, our blueprint for
growth and profitability. The Strategic Plan is a living document that is routinely reviewed by our
Board and management team. It encompasses virtually all aspects of our business and includes a
rolling, three-year forward outlook with a defined set of measurable goals and objectives. The core
initiatives of this Plan include increasing occupancy, improving the quality of our portfolio through
new development and the sale of non-differentiating older assets, strengthening our balance sheet,
selling non-core land and continuing to improve the way we do business.
Edward J. Fritsch
President and
Chief Executive Officer
In January 2005, we published our initial, three-year goals covering the years 2005 through 2007. These goals are concrete,
measurable and comprehensive in scope. Below is a report card on our progress to date.
Strategic Plan Goals
($ in Millions)
Development Starts
Non-Core Property Dispositions
Non-Core Land Sales
3 Year Goals
(2005-2007)
$200 - $300 $545 - $640
$450 - $550 $700 - $750
$60 - $70 $75 - $90
2 Years Actual
(2005-2006)
$430
$597
$58
Build Occupancy to 90%
From January 2005 through December 2006, occupancy increased 500 basis points to 90%. The original target under our Strategic
Plan was 88-90% occupancy by year-end 2007. We reached the high end of this three-year goal in two years, a full year ahead of
target. Strong leasing was the primary driver of this occupancy increase, helped also by dispositions. Looking ahead, occupancy
at the end of 2007 should be between 91% and 92.5%, and over the next two years we expect occupancy to be between 93% to
94%, which is what we consider to be the stabilized occupancy level for our portfolio as a whole.
Expand Development Pipeline
Development is an important driver of the Company’s growth and value creation for our shareholders. In 2006, we completed ten
development projects, encompassing over one million square feet, representing a total investment of $126 million. Including 2005
deliveries, this total grows to $217 million.
In 2006, we started an additional $354 million of development, including three fully-leased build-to-suit projects. Since
implementing our Strategic Plan at the beginning of 2005, we have started $452 million of development versus our original three-
year goal of $200 to $300 million. Development starts are now expected to be a robust $545 million to $640 million for the same
time period.
We are actively pursuing additional build-to-suit development projects with new and existing customers. We are also evaluating
other opportunities where we own land in highly desirable and highly occupied submarkets with significant barriers to entry and
where we believe strong demand will be sustained over the long-term. We consider just over sixty percent of our land holdings to
be core with the capacity to support almost four million square feet of future office space and almost one and a half million square
feet of future industrial space.
Dispose of Non-Differentiating, Older Properties
As part of our Plan’s long-term goal of improving the overall quality of our portfolio, we targeted the disposition of $450 million
to $550 million of older, non-differentiating buildings between 2005 and 2007. In the first two years combined, we sold $597
million of non-differentiating properties, once again beating the high-end of our initial three-year target by a full twelve months.
As of March 15, 2007, we’ve sold an additional $70 million of non-core properties, bringing total dispositions since the beginning
of 2005 to $667 million. As a result of this accelerated progress, we’ve revised our three-year disposition goal of $450 to $550
million upward to $700 to $750 million by year-end 2007.
The ultimate goal of our disposition and development programs is to continually work towards owning a higher-quality portfolio
of differentiated assets that will outpace market absorption trends and materially improve the stability of our long-term cash
flow.
Sell Non-Core Land
During 2006, we sold $34.5 million of non-core land, for a net gain of $12 million. Thus
far in 2007, we’ve sold $26.8 million of land for a net gain of $16.2 million, bringing total
land sales to $85 million from January 2005 through March 15, 2007. Our original three-
year land sales goal was $60 to $70 million and we have now revised this goal to up to $90
million by the end of 2007.
Build a Stronger Balance Sheet
Most of the proceeds from these non-core asset sales have been used to fund our expanding
development pipeline, pay down high coupon secured debt and redeem expensive preferred
stock. Since the beginning of 2005 through today, we have reduced secured debt by
approximately $150 million, including $66 million of 8.2% secured debt that was paid off
in 2007. We have also redeemed $180 million of 8% preferred stock.
FundS FroM oPerAtionS
$2.40
$2.37
$2.20
$2.00
$2.11
$2.07
2004
2005
2006
Other significant accomplishments and milestones in 2006 include the recasting and
expansion of our $250 million credit facility to $450 million (under more flexible terms and a lower interest rate), getting current
with our SEC filings and changing our independent accounting firm. We were also pleased to learn in November 2006, that the
SEC had wrapped up its investigation with a “no action” conclusion.
2007 Goals
We have established the following concrete goals for full year 2007:
• Deliver $153 million of new development
• Start $100 to $200 million of additional development
• Dispose of $100 million to $150 million of non-core properties
• Sell between $18 million and $32 million of non-core land, for total gains of $13 million to $16 million
• Issue $250+ million unsecured debt financing
• Retire $66 million of high coupon debt
• Be CAD positive by year-end
We hope you are excited about the progress we’ve made on the initiatives of our Strategic Plan. We believe that our platform is
uniquely positioned to continue to create measurable and sustainable value for our shareholders. Bottom line, the quality of our
portfolio is much better, our development pipeline is robust, our balance sheet is stronger and we have significantly improved the
way we do business. All of us at Highwoods remain focused on our Plan and we are driven to meet the goals we’ve established.
I thank and applaud my co-workers for their continued dedication, fortitude and hard work. I also extend my gratitude to our
Board for their active involvement and on-going support of the Strategic Plan, and to you, our shareholders, whose belief in our
Plan and this management team has inspired us all.
Respectfully,
Edward J. Fritsch
President and Chief Executive Officer
March 15, 2007
Focused
Focused
on results
driven
driven
to succeed
FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2006
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from________ to___________
Commission file number 1 -13100
HIGHWOODS PROPERTIES, INC.
(Exact name of registrant as specified in its charter)
Maryland
(State or other jurisdiction
of incorporation or organization)
56-1871668
(I.R.S. Employer Identification No.)
3100 Smoketree Court, Suite 600
Raleigh, N.C. 27604
(Address of principal executive offices) (Zip Code)
919-872-4924
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, $.01 par value..............................................................................................................
8 5/8% Series A Cumulative Redeemable Preferred Shares ....................................................................
8% Series B Cumulative Redeemable Preferred Shares ..........................................................................
Name of Each Exchange on
Which Registered
New York Stock Exchange
New York Stock Exchange
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
NONE
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Exchange
Act. Yes £ No S
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the
Securities Exchange Act. Yes £ No S
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 S No £
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and
will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K. £
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See
definition of ‘accelerated filer’ and ‘large accelerated filer’ in Rule 12b-2 of the Securities Exchange Act.
Large accelerated filer S Accelerated filer £ Non-accelerated filer £
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act).
Yes £ No S
The aggregate market value of shares of the Registrant’s Common Stock held by non-affiliates (based upon the closing sale
price on the New York Stock Exchange) on June 30, 2006 was approximately $1.9 billion. As of February 15, 2007, there were
56,237,458 shares of Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement to be filed in connection with its Annual Meeting of Stockholders to be held
May 18, 2007 are incorporated by reference in Part II, Item 5 and Part III, Items 10, 11, 12, 13 and 14 of this Form 10-K.
HIGHWOODS PROPERTIES, INC.
TABLE OF CONTENTS
Item No.
PART I
Page No.
1.
1A.
1B.
2.
3.
4.
X.
Business............................................................................................................................................................
Risk Factors .....................................................................................................................................................
Unresolved Staff Comments .........................................................................................................................
Properties..........................................................................................................................................................
Legal Proceedings...........................................................................................................................................
Submission of Matters to a Vote of Security Holders ..............................................................................
Executive Officers of the Registrant ...........................................................................................................
PART II
5. Market for Registrant's Common Stock, Related Stockholder Matters and Issuer
Purchases of Equity Securities .................................................................................................................
Selected Financial Data .................................................................................................................................
6.
7. Management's Discussion and Analysis of Financial Condition and Results
7A.
8.
9.
9A.
9B.
10.
11.
12.
13.
14.
of Operations ...............................................................................................................................................
Quantitative and Qualitative Disclosures About Market Risk................................................................
Financial Statements ......................................................................................................................................
Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ...................................................................................................................................
Controls and Procedures................................................................................................................................
Other Information ...........................................................................................................................................
PART III
Directors, Executive Officers and Corporate Governance ......................................................................
Executive Compensation...............................................................................................................................
Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters ...................................................................................................................................
Certain Relationships and Related Transactions, and Director Independence.....................................
Principal Accountant Fees and Services .....................................................................................................
3
6
10
11
16
16
17
19
21
22
47
47
47
48
53
54
54
54
54
54
PART IV
15.
Exhibits.............................................................................................................................................................
55
2
PART I
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," (4) the Company’s preferred stock
as “Preferred Stock,” (5) the Operating Partnership's common partnership interests as "Common Units," (6) the
Operating Partnership’s preferred partnership interests as “Preferred Units” and (7) in-service properties (excluding
rental residential units) to which the Company and/or the Operating Partnership have title and 100.0% ownership
rights as the “Wholly Owned Properties.”
General
ITEM 1. BUSINESS
The Company is a fully-integrated, self-administered and self-managed equity real estate investment trust
(“REIT”) that began operations through a predecessor in 1978. The Company completed its initial public offering in
1994 and its Common Stock is traded on the New York Stock Exchange (“NYSE” ) under the symbol “HIW.” We
are one of the largest owners and operators of suburban office, industrial and retail properties in the southeastern and
midwestern United States. At December 31, 2006, we:
• wholly owned 322 in-service office, industrial and retail properties, encompassing approximately 26.9
million rentable square feet, and 109 rental residential units;
•
owned an interest (50.0% or less) in 70 in-service office and industrial properties, encompassing
approximately 7.4 million rentable square feet, and 418 rental residential units. Five of these in-service
office properties are consolidated at December 31, 2006 as more fully described in Notes 1 and 3 to the
Consolidated Financial Statements;
• wholly owned 719 acres of undeveloped land, approximately 435 acres of which are considered core
holdings and which are suitable to develop approximately 5.3 million rentable square feet of office and
industrial space;
• were developing or re-developing 16 wholly owned properties comprising approximately 2.7 million
square feet and 139 for-sale condominiu ms that were under construction or were completed but had not
achieved 95% stabilized occupancy; and
• were developing through 50.0% owned joint ventures (a) an office property of approximately 31,000
square feet that was completed in 2006 but had not achieved 95% stabilized occupancy and (b) a for-
rent residential project comprising 332 units in three buildings.
The Company conducts substantially all of its activities through the Operating Partnership. Other than 22.4
acres of undeveloped land, 13 rental residential units and the Company’s interest in the Kessinger/Hunter, LLC and
4600 Madison Associates, LLC joint ventures (see Note 2 to the Consolidated Financial Statements), all of the
Company’s assets are owned directly or indirectly by the Operating Partnership. The Company is the sole general
partner of the Operating Partnership. At December 31, 2006, the Company owned all of the Preferred Units and
92.2% of the Common Units in the Operating Partnership. Limited partners (including certain officers and directors
of the Company) own the re maining Common Units. Each Common Unit is redeemable by the holder for the cash
value of one share of Common Stock or, at the Company's option, one share of Common Stock. Preferred Units in
the Operating Partnership were issued to the Company in connection with the Company’s Preferred Stock offerings
that occurred in 1997 and 1998.
The Company was incorporated in Maryland in 1994. The Operating Partnership was formed in North Carolina
in 1994. Our executive offices are located at 3100 Smoketree Court, Suite 600, Raleigh, North Carolina 27604 and
our telephone number is (919) 872-4924. We maintain offices in each of our primary markets.
Our business is the acquisition, development and operation of rental real estate properties. We operate office,
industrial, retail and residential properties. There are no material inter-segment transactions. See Note 17 to the
Consolidated Financial Statements for a summary of the rental income, net operating income and assets for each
reportable segment.
3
In addition to this Annual Report, we file or furnish quarterly and current reports, proxy statements and other
information with the Securities and Exchange Commission (“SEC”). All documents that we file or furnish with the
SEC are made available as soon as reasonably practicable free of charge on our corporate website, which is
http://www.highwoods.com. The information on this website is not and should not be considered part of this Annual
Report and is not incorporated by reference in this document. This website is only intended to be an inactive textual
reference. You may also read and copy any document that we file or furnish at the public reference facilities of the
SEC at 100 F. Street, N.E., Room 1580, Washington, D.C. 20549. Please call the SEC at (800) 732-0330 for further
information about the public reference facilities. These documents also may be accessed through the SEC’s
electronic data gathering, analysis and retrieval system (“EDGAR”) via electronic means, including the SEC’s home
page on the Internet (http://www.sec.gov). In addition, since some of our securities are listed on the NYSE, you can
read similar information about us at the offices of the NYSE at 20 Broad Street, New York, New York 10005.
During 2006, we filed unqualified Section 303A certifications with the NYSE. We have also filed the CEO and
CFO certifications required by Sections 302 and 906 of the Sarbanes-Oxley Act of 2002 as exhibits to our 2006
Annual Report.
Customers
The following table sets forth information concerning the 20 largest customers of our Wholly Owned Properties
(including properties classified as held for sale) as of December 31, 2006:
Customer
Rental
Square Feet
Percent of Total Weighted Average
Annualized Cash Annualized Cash Remaining Lease
Rental Revenue (1) Rental Revenue (1) Term in Years
Federal Government .......................................................
AT&T.............................................................................
PricewaterhouseCoopers................................................
State of Georgia..............................................................
T-Mobile USA................................................................
Syniverse Technologies, Inc...........................................
US Airways....................................................................
Volvo ..............................................................................
Lockton Companies........................................................
Northern Telecom...........................................................
SCI Services, Inc. ...........................................................
Metropolitan Life Insurance ...........................................
BB&T .............................................................................
Fluor Enterprises, Inc.....................................................
Jacob’s Engineering Group, Inc.....................................
Vanderbilt University.....................................................
Lifepoint Corporate Services .........................................
Wachovia .......................................................................
Icon Clinical Research ...................................................
The Martin Agency ........................................................
Total (2)..........................................................................
1,532,005
672,986
332,931
360,683
205,855
198,750
293,007
278,940
151,076
246,000
162,784
174,944
209,237
147,041
181,794
126,617
122,703
97,792
101,249
118,518
5,714,912
(in thousands)
$ 26,486
12,701
8,475
7,252
5,287
4,581
3,995
3,974
3,713
3,651
3,499
3,437
3,131
2,658
2,535
2,386
2,351
2,109
2,066
2,038
$ 106,325
6.79%
3.25
2.17
1.86
1.36
1.17
1.02
1.02
0.95
0.94
0.90
0.88
0.80
0.68
0.65
0.61
0.60
0.54
0.53
0.52
27.24%
8.1
2.1
3.3
3.2
7.0
9.8
0.8
3.3
8.2
1.2
10.6
7.0
5.6
4.8
9.0
8.8
4.5
3.3
6.1
10.3
5.8
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus additional rent based on the level of operating
expenses, excluding straight-line rent) for the month of December 2006 multiplied by 12.
(2) Excludes customers that may lease space in joint venture properties that are consolidated but are not Wholly Owned
Properties.
4
Operating Strategy
Efficient, Customer Service-Oriented Organization. We provide a complete line of real estate services to our
customers and third parties. We believe that our in-house development, acquisition, construction management,
leasing and property management services allow us to respond to the many demands of our existing and potential
customer base. We provide our customers with cost-effective services such as build-to-suit construction and space
modification, including tenant improvements and expansions. In addition, the breadth of our capabilities and
resources provides us with market information not generally available. We believe that the operating efficiencies
achieved through our fully integrated organization also provide a competitive advantage in setting our lease rates
and pricing other services.
Capital Recycling Program. Our strategy has been to focus our real estate activities in markets where we
believe our extensive local knowledge gives us a competitive advantage over other real estate developers and
operators. Through our capital recycling program, we generally seek to:
•
•
•
selectively dispose of non-core properties in order to use the net proceeds to improve our balance
sheet by reducing outstanding debt and Preferred Stock balances, to make new investments or for
other purposes;
engage in the development of office and industrial projects in our existing geographic markets,
primarily in suburban in-fill business parks; and
acquire selective suburban office and industrial properties in our existing geographic markets at prices
below replacement cost that offer attractive returns.
Our capital recycling activities benefit from our local market presence and knowledge. Because our division
officers have significant real estate experience in their respective markets, we believe that we are in a better position
to evaluate capital recycling opportunities than many of our competitors. In addition, our relationships with our
customers and those tenants at properties for which we conduct third-party fee-based services may lead to
development projects when these tenants seek new space.
The following table summarizes the changes in square footage in our in-service Wholly Owned Properties
during the past three years:
Office, Industrial and Retail Properties:
Dispositions....................................................................................................
Contributions to Joint Ventures .....................................................................
Developments Placed In-Service (2)...............................................................
Redevelopment/Other ....................................................................................
Acquisitions ...................................................................................................
Net Change of In-Service Wholly Owned Properties.......................................
2006
2004
2005
(rentable square feet in thousands)
(2,982)
-
33
(74)
70
(2,953)
(4,641)
-
713
(133)
-
(4,061)
(1,263)
(1,270)(1)
141
(21)
1,357 (1)
(1,056)
(1) Includes 1,270,000 square feet of properties in Orlando, Florida acquired from MG-HIW, LLC in March 2004 and
contributed to HIW-KC Orlando, LLC in June 2004.
(2) We consider a development project to be stabilized upon the earlier of the original projected stabilization date or the date
such project is at least 95% occupied.
Conservative and Flexible Balance Sheet. We are committed to maintaining a conservative and flexible
balance sheet that allows us to capitalize on favorable development and acquisition opportunities as they arise. We
expect to meet our short- and long-term liquidity requirements through a combination of any one or more of:
•
•
•
cash flow from operating activities;
borrowings under our credit facilities;
the issuance of unsecured debt;
5
•
•
•
•
the issuance of secured debt;
the issuance of equity securities by both the Company and the Operating Partnership;
the selective disposition of non-core land and other assets ; and
private equity capital raised from unrelated joint venture partners involving the sale or contribution of our
Wholly Owned Properties, development projects or development land.
Geographic Diversification. We do not believe that our operations are significantly dependent upon any
particular geographic market. Today, including our various joint ventures, our portfolio consists primarily of office
and industrial properties throughout the Southeast, retail and office properties in Kansas City, Missouri, including
one significant mixed retail and office property, and office properties in Des Moines, Iowa.
Competition
Our properties compete for tenants with similar properties located in our markets primarily on the basis of
location, rent, services provided and the design and condition of the facilities. We also compete with other REITs,
financial institutions, pension funds, partnerships, individual investors and others when attempting to acquire,
develop and operate properties.
Employees
As of December 31, 2006, the Company had 476 employees.
ITEM 1A. RISK FACTORS
An investment in our equity and debt securities involves various risks. All investors should carefully consider
the following risk factors in conjunction with the other information contained in this Annual Report before trading in
our securities. If any of these risks actually occur, our business, operating results, prospects and financial condition
could be harmed.
Our performance is subject to risks associated with real estate investment. We are a real estate company
that derives most of our income from the ownership and operation of our properties. There are a number of factors
that may adversely affect the income that our properties generate, including the following:
• Economic Downturns. Downturns in the national economy, particularly in the Southeast, generally will
negatively impact the demand and rental rates for our properties.
• Oversupply of Space. An oversupply of space in our markets would typically cause rental rates and
occupancies to decline, making it more difficult for us to lease space at attractive rental rates.
• Competiti ve Properties. If our properties are not as attractive to tenants (in terms of rent, services,
condition or location) as properties owned by our competitors, we could lose tenants to those properties or
receive lower rental rates.
• Renovation Costs. In order to maintain the quality of our properties and successfully compete against
other properties, we periodically must spend money to maintain, repair and renovate our properties.
• Customer Risk. Our performance depends on our ability to collect rent from our customers. Our financial
condition could be adversely affected by financial difficulties experienced by a major customer, or by a
number of smaller customers, including bankruptcies, insolvencies or general downturns in business.
6
• Reletting Costs. As leases expire, we try to either relet the space to the existing customer or attract a new
customer to occupy the space. In either case, we likely will incur significant costs in the process, including
potentially substantial tenant improvement expense or lease incentives . In addition, if market rents have
declined since the time the expiring lease was executed, the terms of any new lease likely will not be as
favorable to us as the terms of the expiring lease, thereby reducing the rental revenue earned from that
space.
• Regulatory Costs. There are a number of government regulations, including zoning, tax and accessibility
laws, that apply to the ownership and operation of our properties. Compliance with existing and newly
adopted regulations may require us to incur significant costs on our properties.
• Rising Operating Costs. Costs of operating our properties, such as real estate taxes, utilities, insurance,
maintenance and other costs , can rise faster than our ability to increase rental income. While we do receive
some additional rent from our tenants that is based on recovering a portion of operating expenses, generally
increased operating expenses will negatively impact our net operating income. Our revenues and expense
recoveries are subject to longer term leases and may not be quickly increased sufficient to recover an
increase in operating costs and expenses .
• Fixed Nature of Costs. Most of the costs associated with owning and operating a property are not
necessarily reduced when circumstances such as market factors and competition cause a reduction in rental
revenues from the property. Increases in such fixed operating expenses, such as increased real estate taxes
or insurance costs, would reduce our net income.
• Environmental Problems . Federal, state and local laws and regulations relating to the protection of the
environment may require a current or previous owner or operator of real property to investigate and clean
up hazardous or toxic substances or petroleum product releases at the property. The clean up can be costly.
The presence of or failure to clean up contamination may adversely affect our ability to sell or lease a
property or to borrow funds using a property as collateral.
• Competition. A number of other major real estate investors with significant capital compete with us. These
competitors include publicly-traded REITs, private REITs, private real estate investors and private
institutional investment funds.
Future acquisitions and development properties may fail to perform in accordance with our expectations
and may require renovation and development costs exceeding our estimates. In the normal course of business,
we typically evaluate potential acquisitions, enter into non-binding letters of intent, and may, at any time, enter into
contracts to acquire additional properties. Our acquisition investments may fail to perform in accordance with our
expectations due to lease up risk, renovation cost risks and other factors . In addition, the renovation and
improvement costs we incur in bringing an acquired property up to market standards may exceed our estimates. We
may not have the financial resources to make suitable acquisitions or renovations on favorable terms or at all.
In addition to acquisitions, we periodically consider developing and constructing properties. Risks associated
with development and construction activities include:
•
•
•
•
the unavailability of favorable financing;
construction costs exceeding original estimates;
construction and lease-up delays resulting in increased debt service expense and construction costs; and
lower than anticipated occupancy rates and rents at a newly completed property causing a property to be
unprofitable.
7
If new developments are financed through construction loans, there is a risk that, upon completion of
construction, permanent financing for newly developed properties will not be available or will be available only on
disadvantageous terms. Development activities are also subject to risks relating to our ability to obtain, or delays in
obtaining, all necessary zoning, land-use, building, occupancy and other required governmental and utility company
authorizations.
Illiquidity of real estate investments and the tax effect of dispositions could significantly impede our
ability to sell assets or to respond to favorable or adverse changes in the performance of our properties.
Because real estate investments are relatively illiquid, our ability to promptly sell one or more properties in our
portfolio in response to changing economic, financial and investment conditions is limited. In addition, we have a
significant amount of mortgage debt under which we could incur significant prepayment penalties if such loans were
paid off in connection with the sale of the underlying real estate assets. Such loans, even if assumed by a buyer
rather than being paid off, could reduce the sale proceeds we receive if we sold such assets.
We intend to continue to sell some of our properties in the future. However, we cannot predict whether we will
be able to sell any property for the price or on the terms set by us, or whether the price or other terms offered by a
prospective purchaser would be acceptable to us. We also cannot predict the length of time needed to find a willing
purchaser and to close the sale of a property.
Certain of our properties have low tax bases relative to their fair value, and accordingly, the sale of such assets
would generate significant taxable gains unless we sold such properties in a tax-free exchange under Section 1031 of
the Internal Revenue Code or another tax-free or tax-deferred transaction. For an exchange to qualify for tax-
deferred treatment under Section 1031, the net proceeds from the sale of a property must be held by an escrow agent
until applied toward the purchase of real estate qualifying for gain deferral. Given the competition for properties
meeting our investment criteria, there could be a delay in reinvesting such proceeds. Any delay in using the
reinvestment proceeds to acquire additional income producing assets would reduce our income from operations.
In addition, the sale of certain properties acquired in the J.C. Nichols Company merger in July 1998, including
assets acquired in connection with Section 1031 exchanges with properties originally acquired in the J.C. Nichols
Company merger, would require us to pay corporate-level tax under Section 1374 of the Internal Revenue Code on
the built-in gain relating to such properties unless we sold such properties in a tax-free exchange under Section 1031
of the Internal Revenue Code or another tax-free or tax-deferred transaction. This tax will no longer apply after July
2008 because we will have owned the assets for 10 years or more. As a result, we may choose not to sell these
properties even if management determines that such a sale would otherwise be in the best interests of our
stockholders. We have no current plans to dispose of any properties in a manner that would require us to pay
corporate-level tax under Section 1374. However, we would consider doing so if our management determines that a
sale of a property would be in our best interests based on consideration of a number of factors, including the price
being offered for the property, the operating performance of the property, the tax consequences of the sale and other
factors and circumstances surrounding the proposed sale.
Because holders of our Common Units, including some of our officers and directors, may suffer adverse
tax consequences upon the sale of some of our properties, it is possible that we may sometimes make decisions
that are not in your best interest. Holders of Common Units may suffer adverse tax consequences upon our sale of
certain properties. Therefore, holders of Common Units, including certain of our officers and directors, may have
different objectives than our stockholders regarding the appropriate pricing and timing of a property’s sale.
Although we are the sole general partner of the Operating Partnership and have the exclusive authority to sell all of
our individual Wholly Owned Properties, officers and directors who hold Common Units may seek to influence us
not to sell certain properties even if such sale might be financially advantageous to stockholders or influence us to
enter into tax deferred exchanges with the proceeds of such sales when such a reinvestment might not otherwise be
in our best interests.
The success of our joint venture activity depends upon our ability to work effectively with financially
sound partners. Instead of owning properties directly, we have in some cases invested, and may continue to invest,
as a partner or a co-venturer with one or more third parties. Under certain circumstances, this type of investment
may involve risks not otherwise present, including the possibility that a partner or co-venturer might become
bankrupt or that a partner or co-venturer might have business interests or goals inconsistent with ours. Also, such a
partner or co-venturer may take action contrary to our instructions or requests or contrary to provisions in our joint
venture agreements that could harm us.
8
Our insurance coverage on our properties may be inadequate. We carry comprehensive insurance on all of
our properties, including insurance for liability, fire, windstorms , flood and business interruption. Insurance
companies, however, limit coverage against certain types of losses, such as losses due to terrorist acts, named
windstorms and toxic mold. Thus, we may not have insurance coverage, or sufficient insurance coverage, against
certain types of losses and/or there may be decreases in the insurance coverage available. Should an uninsured loss
or a loss in excess of our insured limits occur, we could lose all or a portion of the capital we have invested in a
property or properties, as well as the anticipated future revenue from the property or properties. If any of our
properties were to experience a catastrophic loss, it could disrupt our operations, delay revenue and result in large
expenses to repair or rebuild the property. Such events could adversely affect our financial condition. Our existing
property, casualty and liability insurance policies are scheduled to expire on June 30, 2007.
Our use of debt to finance our operations could have a material adverse effect on our cash flow and
ability to make distributions. We are subject to risks normally associated with debt financing, such as the
sufficiency of cash flow to meet required payment obligations, difficulty in complying with financial ratios and
other covenants and the ability to refinance existing indebtedness. Increases in interest rates on our variable rate debt
would increase our interest expense. If we fail to comply with the financial ratios and other covenants under our
credit facilities, we would likely not be able to borrow any further amounts under such facilities, which could
adversely affect our ability to fund our operations, and our lenders could accelerate outstanding debt.
We generally do not intend to reserve funds to retire existing secured or unsecured debt upon maturity. We may
not be able to repay, refinance or extend any or all of our debt at maturity or upon any acceleration. If any
refinancing is done at higher interest rates, the increased interest expense could adversely affect our cash flow and
ability to pay dividends to stockholders. Any such refinancing could also impose tighter financial ratios and other
covenants that restrict our ability to take actions that could otherwise be in our stockholders’ best interest, such as
funding new development activity, making opportunistic acquisitions, repurchasing our securities or paying
distributions. If we do not meet our mortgage financing obligations, any properties securing such indebtedness could
be foreclosed on, which would have a material adverse effect on our cash flow and ability to make distributions.
We may be subject to taxation as a regular corporation if we fail to maintain our REIT status. Our failure
to qualify as a REIT for income tax purposes would have serious adverse consequences to our stockholders. Many
of the requirements for taxation as a REIT are highly technical and complex and depend upon various factual
matters and circumstances that may not be entirely within our control. For example, to qualify as a REIT, at least
95.0% of our gross income must come from certain sources that are itemized in the REIT tax laws. We are also
required to distribute to stockholders at least 90.0% of our REIT taxable income, excluding capital gains. The fact
that we hold substantially all of our assets through the Operating Partnership and its subsidiaries further complicates
the application of the REIT requirements. Even a technical or inadvertent mistake could jeopardize our REIT status.
Furthermore, Congress and the Internal Revenue Service (“IRS”) might change the tax laws and regulations and the
courts might issue new rulings that make it more difficult, or impossible, for us to remain qualified as a REIT. If we
fail to qualify as a REIT, we would be subject to federal income tax at regular corporate rates. Also, unless the IRS
granted us relief under certain statutory provisions, we would remain disqualified as a REIT for four years following
the year we first failed to qualify. If we failed to qualify as a REIT, we would have to pay significant income taxes
and would, therefore, have less cash available for investments or to pay dividends to stockholders. This would likely
have a significant adverse effect on the value of our securities. In addition, if we lost our REIT status, we would no
longer be required to pay dividends to stockholders.
Because provisions contained in Maryland law, our charter and our bylaws may have an anti-takeover
effect, investors may be prevented from receiving a “control premium” for their shares. Provisions contained
in our charter and bylaws as well as Maryland general corporation law may have anti-takeover effects that delay,
defer or prevent a takeover attempt, and thereby prevent stockholders from receiving a “control premium” for their
shares. For example, these provisions may defer or prevent tender offers for our Common Stock or purchases of
large blocks of our Common Stock, thus limiting the opportunities for our stockholders to receive a premium for
their Common Stock over then-prevailing market prices. These provisions include the following:
• Ownership limit. Our charter prohibits direct, indirect or constructive ownership by any person or entity of
more than 9.8% of our outstanding capital stock. Any attempt to own or transfer shares of our capital stock
in excess of the ownership limit without the consent of our Board of Directors will be void.
9
• Preferred Stock. Our charter authorizes our Board of Directors to issue Preferred Stock in one or more
classes and to establish the preferences and rights of any class of Preferred Stock issued. These actions can
be taken without stockholder approval. The issuance of Preferred Stock could have the effect of delaying or
preventing someone from taking control of us, even if a change in control were in our stockholders' best
interest.
• Staggered board. Our Board of Directors is divided into three classes. As a result, each director generally
serves for a three-year term. This staggering of our Board may discourage offers for us or make an
acquisition of us more difficult, even when an acquisition is in the best interest of our stockholders.
• Maryland control share acquisition statute. Maryland's control share acquisition statute applies to us,
which means that persons, entities or related groups that acquire more than 20% of our Common Stock may
not be able to vote such excess shares under certain circumstances if such shares were acquired in one or
more transactions not approved by at least two-thirds of our outstanding Common Stock held by
disinterested stockholders.
• Maryland unsolicited takeover statute. Under Maryland law, our Board of Directors could adopt various
anti-takeover provisions without the consent of stockholders. The adoption of such measures could
discourage offers for us or make an acquisition of us more difficult, even when an acquisition is in the best
interest of our stockholders.
• Anti -takeover protections of Operating Partnership agreement. Upon a change in control of the
Company, the limited partnership agreement of the Operating Partnership requires certain acquirers to
maintain an umbrella partnership real estate investment trust (“UPREIT”) structure with terms at least as
favorable to the limited partners as are currently in place. For instance, the acquirer would be required to
preserve the limited partner’s right to continue to hold tax-deferred partnership interests that are
redeemable for capital stock of the acquirer. Some change of control transactions involving the Company
could require the approval of two-thirds of the limited partners of the Operating Partnership (other than the
Company). These provisions may make a change of control transaction involving the Company more
complicated and therefore might decrease the likelihood of such a transaction occurring, even if such a
transaction would be in the best interest of the Company’s stockholders.
• Dilutive effect of stockholder rights plan. We have a stockholder rights plan, which is currently
scheduled to expire on October 6, 2007, pursuant to which our existing stockholders would have the ability
to acquire additional Common Stock at a significant discount in the event a person or group attempts to
acquire us on terms that our Board of Directors does not approve. These rights are designed to deter a
hostile takeover by increasing the takeover cost. As a result, such rights could discourage offers for us or
make an acquisition of us more difficult, even when an acquisition is in the best interest of our
stockholders. The rights plan should not interfere with any merger or other business combination the Board
of Directors approves since we may generally terminate the plan at any time at nominal cost.
Material weaknesses in our internal control over financial reporting could directly or indirectly cause a
material misstatement of our financial statements. Additionally, no assurance can be provided that we will be
able to prevent or detect material misstatements to our financial statements in the future. Material weaknesses
in our internal control over financial reporting could cause a material misstatement of our financial statements. Our
internal control over financial reporting was not effective at December 31, 2006. For a description of the material
weaknesses that existed as of such date, see “Item 9A. Controls and Procedures.” Although we have taken various
measures to improve our internal control over financial reporting, we have not yet completed all of our planned
remediation activities. As a result, no assurance can be provided that we will be able to prevent or detect material
misstatements to our financial statements in the future. Furthermore, because of the material weaknesses that have
existed in our internal control over financial reporting, we cannot assure you that our disclosure controls and
procedures are currently effective.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
10
Wholly Owned Properties
ITEM 2. PROPERTIES
As of December 31, 2006, we owned all of the ownership interests in 322 in-service office, industrial and retail
properties, encompassing approximately 26.9 million rentable square feet, and 109 rental residential units, including
0.3 million rentable square feet with a net book value of $19.8 million that was classified as held for sale. The
following table sets forth information about our Wholly Owned Properties (including properties classified as held
for sale) and our development properties as of December 31, 2006 and 2005:
December 31, 2006
December 31, 2005
In-Service:
Office (1).........................................................
Industrial ........................................................
Retail (2) .........................................................
Total or Weighted Average .....................
Development:
Completed—Not Stabilized (4)
Office (1).........................................................
Industrial ........................................................
Retail ..............................................................
Total or Weighted Average .....................
In Process (5)
Office (1).........................................................
Industrial ........................................................
Retail ..............................................................
For Sale Residential (6)...................................
Total or Weighted Average (3) ................
Total:
Office (1).........................................................
Industrial ........................................................
Retail (2) .........................................................
Total or Weighted Average (3) (5) (7)........
Percent
Leased/
Pre-Leased
89.0%
91.7
95.7
90.0%
62.8%
44.0
-
54.3%
55.3%
-
-
-
43.1%
Rentable
Square Feet
19,244,000
6,281,000
1,327,000
26,852,000 (3)
504,000
418,000
-
922,000
1,357,000
383,000
-
139 units
1,740,000
21,105,000
7,082,000
1,327,000
29,514,000
Percent
Leased/
Pre-Leased
87.5%
92.4
97.5
89.1%
-
-
87.0%
87.0%
37.2%
-
-
-
37.2%
Rentable
Square Feet
21,412,000
6,977,000
1,416,000
29,805,000 (3)
-
-
9,600
9,600
533,000
-
-
-
533,000
21,945,000
6,977,000
1,425,600
30,347,600
(1) Substantially all of our office properties are located in suburban markets.
(2) Excludes 430,000 square feet of basement space in the Country Club Plaza and other Kansas City retail properties.
(3) Rentable square feet excludes the 109 residential units.
(4) We consider a development project to be stabilized upon the earlier of the original projected stabilization date or the date
such project is at least 95% occupied.
(5) December 31, 2005 excludes a 156-unit multi-family residential property under development that was 50.0% owned and
which was consolidated (see Notes 1, 2 and 4 to the Consolidated Financial Statements). This development commenced in
late 2004 and was sold in late 2006.
(6) In January 2007, we executed a joint venture agreement for this development. We now have a 93% interest and will
consolidate this joint venture. There are currently 309 reservations for the 139 units. Reservations are fully refundable until
mid 2007 at which time binding sales contracts will be accepted and non-refundable deposits will be retained. Residential
units and reservation numbers are not part of the In-Process total or weighted average for square feet and pre-leasing
percentage.
(7) Excludes the following joint venture properties that are consolidated but are not Wholly Owned Properties: (1) one office
property that was sold to SF-HIW Harborview Plaza, LP, a 20% owned joint venture, but which is accounted for as a
financing under SFAS No. 66 and thus remains consolidated as described in Note 3 to the Consolidated Financial
Statements, and (2) four office properties owned by Highwoods-Markel Associates, LLC, a 50% owned joint venture, which
is consolidated beginning January 1, 2006, as described in Notes 1 and 2 to the Consolidated Financial Statements.
11
The following table sets forth geographic information about our in service Wholly Owned properties (including
properties classified as held for sale) at December 31, 2006
Market
Raleigh, NC (2) ...........................
Atlanta, GA ................................
Kansas City, MO........................
Tampa, FL..................................
Nashville, TN .............................
Piedmont Triad, NC (4)...............
Richmond, VA............................
Memphis, TN..............................
Greenville, SC ............................
Orlando, FL ................................
Columbia, SC .............................
Other...........................................
Total (5)......................................
Rentable
Square Feet
3,810,000
5,515,000
2,225,000 (3)
2,332,000
2,876,000
5,195,000
2,024,000
1,197,000
1,108,000
218,000
252,000
100,000
26,852,000
Occupancy
86.1%
94.0
90.1
97.7
91.6
88.7
89.8
91.8
75.3
100.0
48.7
73.6
90.0%
Industrial
Percentage of Annualized Cash Rental Revenue (1)
Total
14.6%
14.3
14.0
13.2
13.0
10.7
8.9
5.6
3.5
1.2
0.5
0.5
100.0%
Retail
-
-
9.7%
-
-
-
-
-
-
-
-
-
9.7%
-
4.0%
-
-
-
3.7
-
-
0.1
-
-
-
7.8%
Office
14.6%
10.3
4.3
13.2
13.0
7.0
8.9
5.6
3.4
1.2
0.5
0.5
82.5%
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus additional rent based on the level of operating
expenses, excluding straight-line rent) for the month of December 2006 multiplied by 12.
(2) The Raleigh market encompasses the Raleigh, Durham, Cary and Research Triangle metropolitan area.
(3) Excludes 430,000 square feet of basement space in the Country Club Plaza and other Kansas City retail properties.
(4) The Piedmont Triad market encompasses the Greensboro and Winston-Salem metropolitan area.
(5) Excludes the following joint venture properties that are consolidated but are not Wholly Owned Properties: (1) one office
property that was sold to SF-HIW Harborview Plaza, LP, a 20% owned joint venture, but which is accounted for as a
financing under SFAS No. 66 and thus remains consolidated as described in Note 3 to the Consolidated Financial
Statements, and (2) four office properties owned by Highwoods-Markel Associates, LLC, a 50% owned joint venture, which
is consolidated beginning January 1, 2006, as described in Notes 1 and 2 to the Consolidated Financial Statements.
Development Land
We wholly owned 719 acres of development land as of December 31, 2006. We estimate that we can develop
approximately 5.3 million square feet of office and industrial space on the approximately 435 acres that we consider
core long term holdings for our future development needs. Our development land is zoned and available for office
and industrial development, and nearly all of the land has utility infrastructure in place. We believe that our
commercially zoned and unencumbered land in existing business parks gives us a development advantage over other
commercial real estate development companies in many of our markets. Any future development, however, is
dependent on the demand for office and industrial space in the area, the availability of favorable financing and other
factors, and no assurance can be given that any construction will take place on the development land. In addition, if
construction is undertaken on the development land, we will be subject to the risks associated with construction
activities, including the risks that occupancy rates and rents at a newly completed property may not be sufficient to
make the property profitable, construction costs may exceed original estimates and construction and lease-up may
not be completed on schedule, resulting in increased debt service expense and construction expense. We may also
develop properties other than office and industrial on certain parcels with unrelated joint venture partners. We
consider approximately 284 acres of our development land at December 31, 2006 to be non-core assets because this
land is not necessary for our foreseeable future development needs. We are actively working to dispose of such non-
core development land through sales to other parties or contributions to joint ventures. Approximately 108 acres
with a net book value of $14.4 million are under contract to be sold and are included in “Real estate and other assets,
net, held for sale” in our Consolidated Balance Sheet at December 31, 2006.
12
Other Properties
As of December 31, 2006, we owned an interest (50.0% or less) in 70 in -service properties. These properties
include primarily office and industrial buildings encompassing approximately 7.4 million rentable square feet and
418 rental residential units. The following table sets forth information about the stabilized in-service joint venture
properties by segment and by geographic location at December 31, 2006:
Market
Des Moines, Iowa ..................
Orlando, Florida .....................
Atlanta, Georgia .....................
Kansas City, Missouri............
Richmond, Virginia (4) ...........
Raleigh, North Carolina (5) ....
Piedmont Triad, North
Carolina (6) ........................
Tampa, Florida (7) ..................
Charlotte, North Carolina.......
Other.......................................
Total.......................................
Rentable
Square Feet
2,475,000 (2)
1,686,000
835,000
721,000
413,000
455,000
Percentage of Annualized Cash Rental Revenue (1)
Occupancy
Office
93.6% (3) 28.4%
94.7
95.0
82.2
100.0
99.6
27.2
11.4
8.8
5.0
3.7
Industrial
4.2%
-
-
-
-
-
Retail
Multi-Family
3.4%
-
-
-
-
-
1.0%
-
-
-
-
-
Total
37.0%
27.2
11.4
8.8
5.0
3.7
364,000
205,000
148,000
110,000
7,412,000
100.0
100.0
100.0
100.0
94.3%
3.6
2.0
0.8
0.5
91.4%
-
-
-
-
4.2%
-
-
-
-
1.0%
-
-
-
-
3.4%
3.6
2.0
0.8
0.5
100.0%
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus additional rent based on the level of operating
expenses, excluding straight-line rent) for the month of December 2006 multiplied by 12.
(2) Excludes 418 residential units.
(3) Excludes residential occupancy percentage of 95.9%.
(4) We own a 50.0% interest in this joint venture (Highwoods-Markel Associates, LLC) which is consolidated (see Notes 1 and
2 to the Consolidated Financial Statements).
(5) The Raleigh market encompasses the Raleigh, Durham, Cary and Research Triangle metropolitan area.
(6) The Piedmont Triad market encompasses the Greensboro and Winston-Salem metropolitan area.
(7) We own a 20.0% interest in this joint venture (SF-HIW Harborview Plaza, LP) which is consolidated (see Notes 1 and 3 to
the Consolidated Financial Statements).
In addition to the properties described above, as of December 31, 2006, two joint ventures in which we hold
50.0% interests were developing a 332-unit residential property and had developed a 31,000 square foot office
building that was completed but had not yet achieved stabilized occupancy. The following table sets forth
information about these properties at December 31, 2006 ($ in thousands):
Property
Brickstone ......................
Weston Lakeside ............
Total...............................
%
Ownership
Market Feet
Rentable Anticipated
Square
Total
Investment
at
Investment 12/31/2006 Pre -leasing
$
50.0% Des Moines
50.0%
Raleigh
31,000
332 units
31,000
5,149
33,200
$ 38,349
$
4,343
31,104
$ 35,447
Actual or
Estimated
Completion Stabilization
Date
Estimated
35%
43%
4Q06
1Q07 (1)
Date
4Q07
1Q08
(1) Estimated Completion Date is the date the last unit is expected to be delivered; currently there are 136 units leased. In 2006,
the Weston Lakeside joint venture entered into a contract to sell to a third party all of the assets, which sale occurred in
February 2007, as described in more detail in Note 2 to the Consolidated Financial Statements.
13
Lease Expirations
The following tables set forth scheduled lease expirations for existing leases at our Wholly Owned Properties
(including properties classified as held for sale but excluding residential units) as of December 31, 2006. The tables
include (1) expirations of leases in properties that are completed but not yet stabilized and (2) the effects of any
early renewals exercised by tenants as of December 31, 2006.
Office Properties (1):
Lease Expiring
2007 (3)...........................................................
2008................................................................
2009................................................................
2010................................................................
2011................................................................
2012................................................................
2013................................................................
2014................................................................
2015................................................................
2016................................................................
Thereafter.......................................................
Industrial Properties:
Lease Expiring
2007 (4)...........................................................
2008................................................................
2009................................................................
2010................................................................
2011................................................................
2012................................................................
2013................................................................
2014................................................................
2015................................................................
2016................................................................
Thereafter.......................................................
Rentable
Square Feet
Subject to
Expiring
Leases
Percentage of
Leased
Percent of
Average
Annualized Cash
Annual
Annualized Cash Rental Rate Rental Revenue
Per Square Represented by
Square Footage Rental Revenue
Represented by Under Expiring
Expiring Leases
Foot for
Expirations
1,554,029
2,145,074
2,799,327
2,323,591
2,804,723
1,731,147
838,925
550,008
667,412
729,111
1,198,962
9.0%
12.4
16.1
13.4
16.2
10.0
4.8
3.2
3.8
4.2
6.9
Leases (2)
($ in thousands)
$
28,027
39,793
53,375
46,889
51,220
30,337
15,145
10,668
13,427
13,882
19,253
17,342,309
100.0%
$ 322,016
1,011,155
1,214,386
961,855
558,583
639,024
257,895
166,289
212,965
169,882
264,597
486,150
17.0%
20.3
16.2
9.4
10.8
4.3
2.8
3.6
2.9
4.5
8.2
Leases (2)
($ in thousands)
$
5,807
5,589
5,226
3,004
3,123
1,287
1,032
1,151
695
883
2,724
5,942,781
100.0%
$
30,521
Expiring
Leases (2)
8.7%
12.4
16.5
14.6
15.9
9.4
4.7
3.3
4.2
4.3
6.0
100.0%
Expiring
Leases (2)
19.1%
18.3
17.1
9.8
10.2
4.2
3.4
3.8
2.3
2.9
8.9
100.0%
$18.04
18.55
19.07
20.18
18.26
17.52
18.05
19.40
20.12
19.04
16.06
$18.57
$ 5.74
4.60
5.43
5.38
4.89
4.99
6.21
5.40
4.09
3.34
5.60
$ 5.14
Rentable
Square Feet
Subject to
Expiring
Leases
Percentage of
Leased
Percent of
Average
Annualized Cash
Annual
Annualized Cash Rental Rate Rental Revenue
Per Square Represented by
Square Footage Rental Revenue
Represented by Under Expiring
Expiring Leases
Foot for
Expirations
(1) Excludes the following joint venture properties that are consolidated but are not Wholly Owned Properties: (1) one office
property that was sold to SF-HIW Harborview Plaza, LP, a 20% owned joint venture, but which is accounted for as a
financing under SFAS No. 66 and thus remains consolidated as described in Note 3 to the Consolidated Financial
Statements and (2) four office properties owned by Highwoods-Markel Associates, LLC, a 50% owned joint venture, which
is consolidated beginning January 1, 2006, as described in Notes 1 and 2 to the Consolidated Financial Statements.
(2) Annualized Cash Rental Revenue is cash rental revenue (base rent plus additional rent based on the level of operating
expenses, excluding straight-line rent) for the month of December 2006 multiplied by 12.
(3) Includes 68,000 square feet of leases that are on a month-to-month basis, which represent 0.2% of total annualized cash
rental revenue.
(4) Includes 86,000 square feet of leases that are on a month-to-month basis, which represent 0.1% of total annualized cash
rental revenue.
14
Retail Properties:
Lease Expiring
2007 (2)...........................................................
2008................................................................
2009................................................................
2010................................................................
2011................................................................
2012................................................................
2013................................................................
2014................................................................
2015................................................................
2016................................................................
Thereafter.......................................................
Total (3):
Lease Expiring
2007 (4)...........................................................
2008................................................................
2009................................................................
2010................................................................
2011................................................................
2012................................................................
2013................................................................
2014................................................................
2015................................................................
2016................................................................
Thereafter.......................................................
Rentable
Square Feet
Subject to
Expiring
Leases
Percentage of
Leased
Percent of
Average
Annualized Cash
Annual
Annualized Cash Rental Rate Rental Revenue
Per Square Represented by
Square Footage Rental Revenue
Represented by Under Expiring
Expiring Leases
Foot for
Expirations
65,255
126,550
142,868
98,944
71,009
143,793
55,903
86,274
130,127
67,224
281,837
5.1%
10.0
11.3
7.8
5.6
11.3
4.4
6.8
10.2
5.3
22.2
Leases (1)
($ in thousands)
$
1,771
3,658
4,032
3,438
2,075
4,322
2,174
1,673
4,232
2,639
7,653
1,269,784
100.0%
$
37,667
Rentable
Square Feet
Subject to
Expiring
Leases
Percentage of
Leased
Percent of
Average
Annualized Cash
Annual
Annualized Cash Rental Rate Rental Revenue
Per Square Represented by
Square Footage Rental Revenue
Represented by Under Expiring
Expiring Leases
Foot for
Expirations
2,630,439
3,486,010
3,904,050
2,981,118
3,514,756
2,132,835
1,061,117
849,247
967,421
1,060,932
1,966,949
10.7%
14.2
16.0
12.1
14.3
8.7
4.3
3.5
3.9
4.3
8.0
Leases (1)
($ in thousands)
$
35,605
49,040
62,633
53,331
56,418
35,946
18,351
13,492
18,354
17,404
29,630
24,554,874
100.0%
$ 390,204
Expiring
Leases (1)
4.7%
9.7
10.7
9.1
5.5
11.5
5.8
4.4
11.2
7.0
20.4
100.0%
Expiring
Leases (1)
9.1%
12.6
16.0
13.7
14.4
9.2
4.7
3.5
4.7
4.5
7.6
100.0%
$27.14
28.91
28.22
34.75
29.22
30.06
38.89
19.39
32.52
39.26
27.15
$29.66
$13.54
14.07
16.04
17.89
16.05
16.85
17.29
15.89
18.97
16.40
15.06
$15.89
(1) Annualized Cash Rental Revenue is cash rental revenue (base rent plus additional rent based on the level of operating
expenses, excluding straight-line rent) for the month of December 2006 multiplied by 12.
(2) Includes 3,000 square feet of leases that are on a month-to-month basis or less than 0.1% of total annualized cash rental
revenue.
(3) Excludes the following joint venture properties that are consolidated but are not Wholly Owned Properties: (1) one office
property that was sold to SF-HIW Harborview Plaza, LP, a 20% owned joint venture, but which is accounted for as a
financing under SFAS No. 66 and thus remains consolidated as described in Note 3 to the Consolidated Financial
Statements and (2) four office properties owned by Highwoods-Markel Associates, LLC, a 50% owned joint venture, which
is consolidated beginning January 1, 2006, as described in Notes 1 and 2 to the Consolidated Financial Statements.
(4) Includes 157,000 square feet of leases that are on a month-to-month basis, which represent 0.3% of total annualized cash
rental revenue.
15
ITEM 3. LEGAL PROCEEDINGS
We are from time to time a party to a variety of legal proceedings, claims and assessments arising in the
ordinary course of our business. We regularly assess the liabilities and contingencies in connection with these
matters based on the latest information available. For those matters where it is probable that we have incurred or will
incur a loss and the loss or range of loss can be reasonably estimated, reserves are recorded in the Consolidated
Financial Statements. In other instances, because of the uncertainties related to both the probable outcome and
amount or range of loss, a reasonable estimate of liability, if any, cannot be made. Based on the current expected
outcome of such matters, none of these proceedings, claims or assessments is expected to have a material adverse
effect on our business, financial condition and results of operations.
In June, August, September and October 2006, we received assessments for state excise taxes and related
interest amounting to approximately $4.5 million, related to periods 2002 through 2004. We believe that we are not
subject to such taxes and have vigorously disputed the assessment. Based on the advice of counsel concerning the
status of settlement discussions and on our own analysis, we currently believe it is probable that all excise tax
assessments, including potential assessments for 2005 and 2006, can be settled by the payment of franchise taxes of
approximately $0.5 million, and in the fourth quarter of 2006 such amount was accrued and charged to operating
expenses. Legal fees related to this matter were nominal and were charged to operating expenses as incurred in
2006.
As previously disclosed, the SEC’s Division of Enforcement issued a confidential formal order of investigation
in connection with the Company’s previous restatement of its financial results. In November 2006, the Company
was informed that the SEC’s Division of Enforcement had closed its investigation and was not taking any action
with respect to this matter.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
16
ITEM X. EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth information with respect to our executive officers:
Name
Edward J. Fritsch
Age
48
Michael E. Harris
57
Terry L. Stevens
58
Gene H. Anderson
61
Position and Background
Director, President and Chief Executive Officer.
Mr. Fritsch became our chief executive officer and chair of the investment
committee of our board of directors on July 1, 2004 and our president in
December 2003. Prior to that, Mr. Fritsch was our chief operating officer from
January 1998 to July 2004 and was a vice president and secretary from June
1994 to January 1998. Mr. Fritsch joined our predecessor in 1982 and was a
partner of that entity at the time of our initial public offering in June 1994. Mr.
Fritsch serves on the University of North Carolina’s Board of Visitors, the
Board of Trustees of St. Timothy’s Episcopal School and the Board of Directors
of the YMCA of the Triangle.
Executive Vice President and Chief Operating Officer.
Mr. Harris became chief operating officer in July 2004. Prior to that, Mr. Harris
was a senior vice president and was responsible for our operations in Memphis,
Nashville, Kansas City and Charlotte. Mr. Harris was executive vice president of
Crocker Realty Trust prior to its merger with us in 1996. Before joining Crocker
Realty Trust, Mr. Harris served as senior vice president, general counsel and
chief financial officer of Towermarc Corporation, a privately owned real estate
development firm. Mr. Harris is a member o f the Advisory Board of Directors of
SouthTrust Bank of Memphis and Allen & Hoshall, Inc.
Vice President and Chief Financial Officer.
Prior to joining us in December 2003, Mr. Stevens was executive vice president,
chief financial officer and trustee for Crown American Realty Trust, a public
REIT. Before joining Crown American Realty Trust, Mr. Stevens was director
of financial systems development at AlliedSignal, Inc., a large multi-national
manufacturer. Mr. Stevens was also an audit partner with Price Waterhouse for
approximately seven years. Mr. Stevens currently serves as trustee, chairman of
the Audit Committee and member of the Investment and Finance Committee of
First Potomac Realty Trust, a public REIT. Mr. Stevens is a member of the
American and the Pennsylvania Institutes of Certified Public Accountants.
Director, Senior Vice President and Regional Manager.
Mr. Anderson has been a senior vice president since our combination with
Anderson Properties, Inc. in February 1997, and in July 2006 became Executive
Vice President of Highwoods Development, LLC, a taxable subsidiary of the
Company formed to pursue the development of office and industrial properties
for existing customers in core and non-core markets. Additionally, Mr.
Anderson manages our Atlanta operations and oversees our Triad operations.
Mr. Anderson served as president of Anderson Properties, Inc. from 1978 to
February 1997. Mr. Anderson was past president of the Georgia chapter of the
National Association of Industrial and Office Properties and is a national board
member of the National Association of Industrial and Office Properties.
17
Name
Michael F. Beale
Age
53
Mack D. Pridgen III
57
W. Brian Reames
43
Position and Background
Senior Vice President and Regional Manager.
Mr. Beale manages our Orlando and oversees our Tampa operations. Prior to
joining us in 2000, Mr. Beale served as vice president of Koger Equity, Inc.,
where he was responsible for Koger’s acquisitions and developments throughout
the Southeast. Mr. Beale is currently the president of the Central Florida Chapter
of the National Association of Industrial and Office Properties and also serves
on various committees
the Mid-Florida Economic Development
Commission.
for
Vice President, General Counsel and Secretary.
Prior to joining us in 1997, Mr. Pridgen was a partner with Smith Helms Mulliss
& Moore, L.L.P. and prior to that a partner with Arthur Andersen & Co. Mr.
Pridgen is an attorney and a certified public accountant.
Senior Vice President and Regional Manager.
Mr. Reames became senior vice president and regional manager in August 2004.
Mr. Reames manages our Nashville and oversees our Memphis, Greenville and
Columbia operations. Prior to that, Mr. Reames was vice president responsible
for the Nashville division, a position he held since 1999. Mr. Reames was a
partner and owner at Eakin & Smith, Inc., a Nashville -based office real estate
firm, from 1989 until its merger with us in 1996. Mr. Reames is a past Nashville
chapter President of the National Association of Industrial and Office Properties.
He is currently serving on the Board of Directors of H.G. Hill Realty and the
Nashville Zoo and as President of the Board of Trustees at Harding Academy in
Nashville, Tennessee.
18
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
Our Common Stock is traded on the NYSE under the symbol "HIW." The following table sets forth the
quarterly high and low stock prices per share reported on the NYSE for the quarters indicated and the dividends paid
per share during such quarter.
Quarter Ended
March 31....................................
June 30 .......................................
September 30..............................
December 31 ..............................
High
$
2006
Low
34.77 $
36.18
38.15
41.31
29.20
29.56
35.39
36.40
Dividend
.425
$
.425
.425
.425
High
$
2005
Low
27.82 $
30.54
31.86
29.91
24.27
26.15
28.43
26.72
Dividend
.425
$
.425
.425
.425
On February 15, 2007, the last reported stock price of our Common Stock on the NYSE was $45.70 per share
and we had 1,574 common stockholders of record.
The following stock price performance graph compares the performance of our Common Stock to the S&P 500,
the Russell 2000 and the FTSE NAREIT Equity REIT Index. In 2006, the National Association of Real Estate
Investment Trusts replaced the equity index previously used by us in our performance graph with the FTSE
NAREIT Equity REIT Index. FTSE Group is an independent company whose sole business is the creation and
management of indexes and associated data services. The stock price performance graph assumes an investment of
$100 in our Common Stock and the three indices on December 31, 2001 and further assumes the reinvestment of all
dividends. Equity REITs are defined as those that derive more than 75.0% of their income from equity investments
in real estate assets. The FTSE NAREIT Equity REIT Index includes all REITs listed on the NYSE, the American
Stock Exchange or the NASDAQ National Market System. Stock price performance is not necessarily indicative of
future results.
Total Return Performance
Highwoods Properties, Inc.
S&P 500
Russell 2000
FTSE NAREIT Equity REIT Index
300
250
200
150
100
50
l
e
u
a
V
x
e
d
n
I
0
12/31/01
12/31/02
12/31/03
12/31/04
12/31/05
12/31/06
Index
Highwoods Properties, Inc.....................
S&P 500 .................................................
Russell 2000...........................................
FTSE NAREIT Equity REIT Index.......
12/31/01
100.00
100.00
100.00
100.00
12/31/02
93.74
77.90
79.52
103.82
19
Period Ending
12/31/03
117.04
100.25
117.09
142.37
12/31/04
136.77
111.16
138.55
187.33
12/31/05
149.32
116.61
144.86
210.12
12/31/06
224.80
135.03
171.47
283.78
The performance graph is being furnished as part of this Annual Report solely in accordance with the
requirement under Rule 14a-3(b)(9) to furnish our stockholders with such information and, therefore, is not deemed
to be filed, or incorporated by reference in any filing, by the Company or the Operating Partnership under the
Securities Act of 1933 or the Securities Exchange Act of 1934.
We intend to continue to pay quarterly dividends to holders of shares of Common Stock and make distributions
to holders of Common Units. Future dividends and distributions will be at the discretion of the Board of Directors
and will depend on our actual funds from operations, our financial condition, capital requirements, the annual
dividend requirements under the REIT provisions of the Internal Revenue Code and such other factors as the Board
of Directors deems relevant. See “Management’s Discussion and Analysis of Financial Condition and Results of
Operations – Liquidity and Capital Resources –Stockholder Dividends.”
During 2006, cash dividends on Common Stock totaled $1.70 per share, $0.97 of which represented return of
capital for income tax purposes. The minimum dividend per share of Common Stock required for the Company to
maintain its REIT status (excluding any net capital gains) was $0.24 per share in 2005. Aggregate dividends paid on
Preferred Stock exceeded REIT taxable income (excluding capital gains) in 2006, which resulted in no required
dividend on Common Stock in 2006 for REIT qualification purposes .
During the fourth quarter of 2006, we did not issue any Common Stock that was not registered under the
Securities Act of 1933 nor did we repurchase any Common Stock or Preferred Stock.
The Company has a Dividend Reinvestment and Stock Purchase Plan under which holders of Common Stock
may elect to automatically reinvest their dividends in additional shares of Common Stock and may make optional
cash payments for additional shares of Common Stock. The administrator of the Dividend Reinvestment and Stock
Purchase Plan has been instructed by the Company to purchase Common Stock in the open market for purposes of
satisfying the Company’s obligations thereunder. However, the Company may in the future elect to satisfy such
obligations by issuing additional shares of Common Stock.
The Company has an Employee Stock Purchase Plan for all active employees, under which participants may
contribute up to 25.0% of their compensation for the purchase of Common Stock. Generally, at the end of each
three-month offering period, each participant's account balance is applied to acquire newly issued shares of
Common Stock at a cost that is calculated at 85.0% of the lower of the average closing price on the NYSE on the
five consecutive days preceding the first day of the quarter or the five days preceding the last day of the quarter.
Information about our equity compensation plans and other related stockholder matters is incorporated herein
by reference to the Company’s Proxy Statement to be filed in connection with our annual meeting of stockholders to
be held on May 18, 2007.
20
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data as of December 31, 2006 and 2005 and for each of the three years in the
period ended December 31, 2006 is derived from the Company’s audited Consolidated Financial Statements
included elsewhere herein. The selected financial data as of December 31, 2004, 2003 and 2002 and for each of the
two years in the period ended December 31, 2003 is derived from previously issued financial statements and, as
required by SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” (“SFAS No. 144”),
results and balance sheet data for the years ended December 31, 2005, 2004, 2003 and 2002 were reclassified from
previously reported amounts to reflect in discontinued operations the operations for those properties sold or held for
sale in 2006 which qualified for discontinued operations presentation. The information in the following table should
be read in conjunction with the Company’s audited Consolidated Financial Statements and related notes included
herein ($ in thousands, except per share data):
Rental and other revenues...................................
Income from continuing operations...................
Income/(loss) from continuing operations
available for common stockholders................
Net income ............................................................
Net income available for common stockholders
Net income per common share – basic:
Income/(loss) from continuing operations........
Net income .........................................................
Net income per common share – diluted:
Income/(loss) from continuing operations.........
Net income .........................................................
Dividends declared per common share..............
$
$
$
$
$
$
$
$
$
$
2006
416,798 $
Years Ended December 31,
2004
389,587 $
2005
396,075 $
2003
414,745 $
2002
424,354
36,465 $
27,728 $
21,044 $
7,906 $
32,780
17,599 $
(3,782) $
(9,808) $
(22,946) $
1,928
53,744 $
62,458 $
41,577 $
42,649 $
80,052
34,878 $
30,948 $
10,725 $
11,797 $
49,200
0.32 $
0.64 $
(0.07) $
0.58 $
(0.18) $
0.20 $
(0.43) $
0.22 $
0.31 $
0.62 $
(0.07) $
0.58 $
(0.18) $
0.20 $
(0.43) $
0.22 $
0.04
0.93
0.04
0.93
1.70 $
1.70 $
1.70 $
1.86 $
2.34
2006
2005
December 31,
2004
2003
2002
Balance Sheet Data:
Total assets.........................................................
Total mortgages and notes payable....................
Financing obligations.........................................
Co-venture obligation ........................................
$ 2,844,853 $ 2,908,978 $ 3,239,658 $ 3,513,224 $ 3,745,269
$ 1,465,129 $ 1,471,616 $ 1,572,574 $ 1,718,274 $ 1,796,167
122,666
$
43,511
$
125,777 $
- $
35,530 $
- $
34,154 $
- $
65,309 $
- $
21
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
You should read the following discussion and analysis in conjunction with the accompanying Consolidated
Financial Statements and related notes contained elsewhere in this Annual Report.
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
Some of the information in this Annual Report 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;
• 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;
•
increases in interest rates would increase our debt service costs;
• we may not be able to meet our liquidity requirements or obtain capital on favorable terms to fund our
working capital needs and growth initiatives or to repay or refinance outstanding debt upon maturity;
• we could lose key executive officers; and
•
our southeastern and midwestern markets may suffer unexpected 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 this Annual Report.
Given these uncertainties, you should not place undue reliance on forward-looking statements. We undertake no
obligation to publicly release the results of any revisions to these forward-looking statements to reflect any future
events or circumstances or to reflect the occurrence of unanticipated events.
OVERVIEW
We are a fully integrated, self-administered and self-managed equity REIT that provides leasing, management,
development, construction and other customer-related services for our properties and for third parties. As of
December 31, 2006, we owned or had an interest in 392 in-service office, industrial and retail properties,
encompassing approximately 34.3 million square feet, which includes seven in-service office and
industrial
development properties that had not yet reached 95% stabilized occupancy aggregating approximately 953,000
square feet, and 527 rental residential units. As of that date, we also owned development land and other properties
under development as described under ”Business” above. We are based in Raleigh, North Carolina, and our
properties and development land are located in Florida, Georgia, Iowa, Kansas, Maryland, Missouri, North Carolina,
South Carolina, Tennessee and Virginia.
22
Results of Operations
Approximately 82% of our rental and other revenue from continuing operations in 2006 was derived from our
office properties. As a result, while we own and operate a limited number of industrial, retail and residential
properties, our operating results depend heavily on successfully leasing our office properties. Furthermore, since
approximately 65% of our annualized revenues from office properties come from properties located in Florida,
Georgia, North Carolina and Tennessee, economic growth in those states is and will continue to be an important
determinative factor in predicting our future operating results.
The key components affecting our rental revenue stream are dispositions, acquisitions, new developments
placed in service, average occupancy and rental rates. Average occupancy generally increases during times of
improving economic growth, as our ability to lease space outpaces vacancies that occur upon the expirations of
existing leases. Average occupancy generally declines during times of slower economic growth, when new
vacancies tend to outpace our ability to lease space. Asset acquisitions, dispositions and new developments placed in
service directly impact our rental revenues and could impact our average occupancy, depending upon the occupancy
rate of the properties that are acquired, sold or placed in service. A further indicator of the predictability of future
revenues is the expected lease expirations of our portfolio. As a result, in addition to seeking to increase our average
occupancy by leasing current vacant space, we also must concentrate our leasing efforts on renewing leases on
expiring space. For more information regarding our lease expirations, see “Properties – Lease Expirations.”
Whether or not our rental revenue tracks average occupancy proportionally depends upon whether rents under
new leases signed are higher or lower than the rents under the previous leases. The average rental rate per square
foot on second generation and renewal leases signed in our Wholly Owned Properties compared to the rent under the
previous leases (based on straight line rental rates) was 2.5% higher in 2006, 2.2% lower in 2005 and 1.5% lower in
2004. The annualized rental revenues from second generation leases signed during any particular year is generally
less than 15% of our total annual rental revenues.
Our expenses primarily consis t of rental property expenses, depreciation and amortization, general and
administrative expenses and interest expense. Rental property expenses are expenses associated with our ownership
and operation of rental properties and include expenses that vary somewhat proportionately to occupancy levels ,
such as common area maintenance and utilities, and expenses that do not vary based on occupancy, such as property
taxes and insurance. Depreciation and amortization is a non-cash expense associated with the ownership of real
property and generally remains relatively consistent each year, unless we buy or sell assets, since we depreciate our
properties and related building and tenant improvement assets on a straight-line basis over a fixed life. General and
adminis trative expenses, net of amounts capitalized, consist primarily of management and employee salaries and
other personnel costs, corporate overhead and long-term incentive compensation. Interest expense depends upon the
amount of our borrowings, the weighted average interest rates on our debt and the amount of interest capitalized on
development projects.
Liquidity and Capital Resources
We incur capital expenditures to lease space to our customers and to maintain the quality of our properties to
successfully compete against other properties. Tenant improvements are the costs required to customize the space
for the specific needs of the customer. Lease commissions are costs incurred to find the customer for the space.
Lease incentives are costs paid to or on behalf of tenants to induce them to enter into leases and that do not relate to
customizing the space for the tenant’s specific needs. Building improvements are recurring capital costs not related
to a customer to maintain the buildings. As leases expire, we either attempt to relet the space to an existing customer
or attract a new customer to occupy the space. Generally, customer renewals require lower leasing capital
expenditures than reletting to new customers. However, market conditions such as supply of available space on the
market, as well as demand for space, drive not only customer rental rates but also tenant improvement costs. Leasing
capital expenditures are amortized over the term of the lease and building improvements are depreciated over the
appropriate useful life of the assets acquired. Both are included in depreciation and amortization in results of
operations.
Because we are a REIT, we are required under the federal tax laws to distribute at least 90.0% of our REIT
taxable income , excluding capital gains, to our stockholders. We generally use rents received from customers and
proceeds from sales of non-core development land to fund our operating expenses, recurring capital expenditures
and stockholder dividends. To fund property acquisitions, development activity or building renovations, we may sell
23
other assets and may incur debt from time to time. As of December 31, 2006, we had $741.6 million of secured debt
outstanding and $723.5 million of unsecured debt outstanding. Our debt generally consists of mortgage debt,
unsecured debt securities and borrowings under our credit facilities.
On January 31, 2007, we obtained a $150 million unsecured non-revolving credit facility. This facility has an
initial term of six months and can be extended at our option for two additional three-month periods provided we are
not in default. This facility has identical interest rate terms and financial covenants as our revolving credit facility.
We currently plan to repay all amounts outstanding under the non-revolving facility with proceeds from newly
issued secured or unsecured debt. As of February 15, 2007, we had borrowed $60.0 million on the non-revolving
facility.
As of December 31, 2006 and February 15, 2007, we had approximately $113 million and $216 million,
respectively, of additional combined borrowing availability under our existing unsecured credit facilities and under
our secured revolving construction credit facility.
Our credit facilities and the indenture governing our outstanding long-term unsecured debt securities require us
to satisfy various operating and financial covenants and performance ratios. As a result, to ensure that we do not
violate the provisions of these debt instruments, we may from time to time be limited in undertaking certain
activities that may otherwise be in the best interest of our stockholders, such as repurchasing capital stock, acquiring
additional assets, increasing the total amount of our debt or increasing stockholder dividends. We review our current
and expected operating results, financial condition and planned strategic actions on an ongoing basis for the purpose
of monitoring our continued compliance with these covenants and ratios. Any unwaived event of default could result
in an acceleration of some or all of our debt, severely restrict our ability to incur additional debt to fund short- and
long-term cash needs or result in higher interest expense.
To generate additional capital to fund our growth and other strategic initiatives and to lessen the ownership risks
typically associated with owning 100.0% of a property, we may sell some of our properties or contribute them to
joint ventures. When we create a joint venture with a strategic partner, we usually contribute one or more properties
that we own and/or vacant land to a newly formed entity in which we retain an interest of 50.0% or less. In exchange
for our equal or minority interest in the joint venture, we generally receive cash from the partner and retain some or
all of the management income relating to the properties in the joint venture. The joint venture itself will frequently
borrow money on its own behalf to finance the acquisition of, and/or leverage the return upon, the properties being
acquired by the joint venture or to build or acquire additional buildings. Such borrowings are typically on a non-
recourse or limited recourse basis. We generally are not liable for the debts of our joint ventures, except to the extent
of our equity investment, unless we have directly guaranteed any of that debt. In most cases, we and/or our strategic
partners are required to guarantee customary exceptions to non-recourse liability in non-recourse loans. See Note 15
to the Consolidated Financial Statements for additional information on certain debt guarantees. We have historically
also sold additional Common Stock or Preferred Stock or issued Common Units to fund additional growth or to
reduce our debt, but we have limited those efforts since 1998 because funds generated from our capital recycling
program in recent years have provided sufficient funds to satisfy our liquidity needs. In addition, we have recently
used funds from our capital recycling program to redeem Common Units and Preferred Stock for cash.
24
Comparison of 2006 to 2005
RESULTS OF OPERATIONS
The following table sets forth information regarding our results of operations for the years ended
December 31, 2006 and 2005 ($ in millions). As noted above and as more fully described in Note 1 to the
Consolidated Financial Statements, as required by SFAS No. 144, results for the year ended December 31, 2005
were reclassified from previously reported amounts to reflect in discontinued operations the operations for those
properties sold or held for sale in 2006 which qualified for discontinued operations presentation.
$
Rental and other revenues...........................................................
Operating expenses:
Rental property and other expenses ...........................................
Depreciation and amortization...................................................
Impairment of assets held for use..............................................
General and administrative ........................................................
Total operating expenses........................................................
Interest expense:
Contractual.................................................................................
Amortization of deferred financing costs...................................
Financing obligations.................................................................
Other income /(expense):
Interest and other income...........................................................
Settlement of bankruptcy claim .................................................
Loss on debt extinguishments....................................................
Income/(loss) before disposition of property, minority interest
and equity in earnings of unconsolidated affiliates...............
Gains on disposition of property, net.........................................
Minority interest.........................................................................
Equity in earnings of unconsolidated affiliates ..........................
Income from continuing operations............................................
Discontinued operations:
Income from discontinued operations, net of minority
interest................................................................................
Gains, net of impairments, on sales of discontinued
operations, net of minority interest ....................................
Net income.....................................................................................
Dividends on preferred stock.....................................................
Excess of preferred stock redemption cost over carrying
value .......................................................................................
Net income available for common stockholders ........................
$
Rental and Other Revenues
Years Ended December 31,
2005
396.1
2006
416.8
$
153.5
115.0
2.6
37.3
308.4
94.2
2.4
4.2
100.8
7.0
1.6
(0.5)
8.1
15.7
16.2
(2.2)
6.8
36.5
3.4
13.9
17.3
53.8
(17.1)
(1.8)
34.9
$
141.6
109.6
7.6
33.0
291.8
98.7
3.4
5.0
107.1
7.1
-
(0.5)
6.6
3.8
14.1
0.5
9.3
27.7
11.5
23.2
34.7
62.4
(27.2)
(4.3)
30.9
2006 to 2005
$ Change % Change
5.2%
$
20.7
11.9
5.4
(5.0)
4.3
16.6
(4.5)
(1.0)
(0.8)
(6.3)
(0.1)
1.6
-
1.5
11.9
2.1
(2.7)
(2.5)
8.8
8.4
4.9
(65.8)
13.0
5.7
(4.6)
(29.4)
(16.0)
(5.9)
(1.4)
100.0
-
22.7
313.2
14.9
(540.0)
(26.9)
31.8
(8.1)
(70.4)
(9.3)
(17.4)
(8.6)
10.1
(40.1)
(50.2)
(13.8)
37.1
2.5
4.0
58.1
12.9%
$
The increase in rental and other revenues from continuing operations was primarily the result of higher average
occupancy in 2006 as compared to 2005, the contribution from developed properties placed in service in the latter
part of 2005 and in 2006 and the consolidation of the Markel joint venture effective January 1, 2006, as discussed in
Note 1 to the Consolidated Financial Statements. These increases were partly offset by a decrease in lease
termination fees from 2005 to 2006 and the recognition of Eastshore as a completed sale which occurred in the third
quarter of 2005.
As of the date of this filing, we continue to see modest improvements in employment trends in most of our
markets and an improving economic climate in the Southeast. There has been modest but steady positive absorption
of office space in most of our markets during the past year. Also, we expect to deliver approximately 1.1 million
square feet of new office and industrial development properties by the end of 2007, which are 38% pre-leased
(weighted based on investment) as of December 31, 2006. We have sold and expect to sell additional non-core
properties in 2007 that will probably be classified as discontinued operations.
25
Rental Property and Other Expenses
The increase in rental and other operating expenses primarily was a result of general inflationary increases in
certain operating expenses, such as salaries, benefits, utility costs and real estate taxes, expenses of developed
properties placed in service in the latter part of 2005 and 2006 and the consolidation of the Markel joint venture
effective January 1, 2006, as discussed in Note 1 to the Consolidated Financial Statements. These increases were
partly offset by a decrease in operating expenses as a result of the recognition of Eastshore as a completed sale
which occurred in the third quarter of 2005.
Operating margin, defined as rental and other revenue less rental property and other expenses expressed as a
percentage of rental and other revenues, decreased from 64.3% in 2005 to 63.2% in 2006. This decrease in margin
was primarily caused by operating expenses increasing from inflationary pressures at a higher rate than our rental
revenues and operating cost recoveries.
We expect rental and other operating expenses to increase in 2007 as compared to 2006 from anticipated
inflationary increases in certain fixed operating expenses, particularly higher utility costs, and by operating expenses
of the development properties placed in service during 2006 and 2007.
The increase in depreciation and amortization is primarily a result of the contribution from developed properties
placed in service in the latter part of 2005 and in 2006 and the consolidation of the Markel joint venture effective
January 1, 2006, as discussed in Note 1 to the Consolidated Financial Statements. These increases were partly offset
by a decrease related to the recognition of Eastshore as a completed sale which occurred in the third quarter of 2005.
For 2006, one office property had indicators of impairment where the carrying value exceeded the sum of the
estimated undiscounted future cash flows. Therefore, an impairment of assets held for use of $2.6 million was
recorded in the year ended December 31, 2006. For 2005, one land parcel and one office property had indicators of
impairment where the carrying value exceeded the sum of estimated undiscounted future cash flows. Therefore,
impairments of assets held for use aggregating $7.6 million were recorded in the year ended December 31, 2005.
The increase in general and administrative expenses was primarily related to higher annual and long-term
incentive compensation costs and from deferred compensation, a portion of which is recognized based on increases
in the total return on our Common Stock, which was 50.6% in 2006, higher salary and fringe benefit costs from
annual employee wage and salary increases, inflationary effects on other general and administrative expenses and
costs related to the retirement of a certain officer at June 30, 2006.
In 2007, general and administrative expenses are expected to decrease slightly as the total return-based equity
incentive compensation and deferred compensation costs are expected to be lower than in 2006, partly offset by
anticipated inflationary increases in non-equity compensation, benefits and other costs.
Interest Expense
The decrease in contractual interest was primarily due to a decrease in average borrowings from $1,511 million
in the year ended December 31, 2005 to $1,441 million in the year ended December 31, 2006, partially offset by an
increase in weighted average interest rates on outstanding debt from 6.80% in the year ended December 31, 2005 to
6.92% in the year ended December 31, 2006. In addition, capitalized interest in 2006 was approximately $2.1
million higher compared to 2005 due to increased development activity and higher average construction and
development costs . Interest allocated to discontinued operations was $1.2 million in 2005 compared to $0.6 million
in 2006.
The decrease in amortization of deferred financing costs was primarily related to obtaining the new revolving
credit facility in May 2006, as discussed further in the Note 5 to the Consolidated Financial Statements, resulting in
a reduction of amortization of deferred financing costs of approximately $1.0 million from 2005 to 2006.
The decrease in interest from financing obligations was primarily a result of the completed sale of three
buildings in Richmond, Virginia (the Eastshore transaction) in the third quarter of 2005 and the elimination of the
related financing obligation. Partly offsetting this decrease was an increase in 2006 related to SF-HIW Harborview
26
Plaza LP primarily from amortization of the option discount, as described in Note 3 to the Consolidated Financial
Statements.
Total interest expense is expected to decline in 2007 primarily from lower average interest rates as a result of
completed and planned debt refinancings in late 2006 and early 2007 at rates that are lower than the prior debt and
higher capitalized interest from increased development project costs in 2007 compared to 2006. Average debt
balances are not expected to vary materially from 2006 in 2007 since we generally expect to fund costs associated
with our development activity in 2007 with proceeds from property dispositions.
Settlement of Bankruptcy Claim
In 2006, we received a settlement of a bankruptcy claim in the amount of $1.6 million related to leases with a
former tenant that were terminated in 2003. See Note 18 to the Consolidated Financial Statements for further
discussion.
Loss on Debt Extinguishments
In 2006, we had $0.5 million from losses on early extinguishments of debt, including our old revolving credit
facility and bank term loan, which were paid off in the second quarter of 2006 upon the closing of our new revolving
credit facility. The $0.5 million of loss in 2005 relates to loans that were paid off early in 2005 from proceeds raised
from disposition activities.
Gains on Disposition of Property; Minority Interest; Equity in Earnings of Unconsolidated Affiliates
Net gains on dispositions of properties not classified as discontinued operations were $16.2 million in the year
ended December 31, 2006 compared to $14.1 million for the year ended December 31, 2005; the components of net
gains are described in Note 4 to the Consolidated Financial Statements. Gains are dependent on the specific assets
sold, their historical cost basis and other factors, and can vary significantly from period to period.
Minority interest changed from $0.5 million of income in the year ended December 31, 2005 to $2.2 million of
expense in the year ended December 31, 2006. In 2005, the Operating Partnership had a loss from continuing
operations after Preferred Unit distributions which caused minority interest income. In 2006, the Operating
Partnership had income from continuing operations after Preferred Unit distributions, resulting in minority interest
expense related to the Operating Partnership. In addition, minority interest in 2006 includes $0.6 million from the
consolidation of the Markel joint venture, the accounting for which changed from equity method to consolidation
effective January 1, 2006, as described in Note 1 to the Consolidated Financial Statements.
The decrease in equity in earnings of unconsolidated affiliates primarily resulted from the consolidation of the
Markel joint venture in 2006, and from $0.7 million of our share of a loss on early debt extinguishment from
refinancing of loans in the Des Moines joint ventures in the third quarter of 2006. The Markel joint venture
contributed $0.8 million to equity in earnings of unconsolidated affiliates during the year ended December 31, 2005.
In addition, capitalization of interest ceased and full depreciation commenced beginning December 2005 for the
office property in the Plaza Colonnade, LLC joint venture which caused an approximate $0.6 million reduction in
equity in earnings of unconsolidated affiliates in 2006 compared to 2005.
Discontinued Operations
In accordance with SFAS No. 144, we classified net income of $17.3 million and $34.7 million as discontinued
operations for the year ended December 31, 2006 and 2005, respectively. These amounts relate to 7.6 million square
feet of office and industrial properties and 202 residential units sold during 2005 and 2006 and 0.3 million square
feet of property held for sale at December 31, 2006. These amounts include net gains on the sale of these properties
of $13.9 million and $23.2 million in the year ended December 31, 2006 and 2005, respectively.
27
Preferred Stock Dividends and Excess of Preferred Stock Redemption Costs in Excess of Carrying Value
The decreases in Preferred Stock dividends and excess of Preferred Stock redemption costs over carrying value
were due to the redemptions of $130.0 million of Preferred Stock in the third quarter of 2005 and $50.0 million of
Preferred Stock in the first quarter of 2006.
Net Income and Net Income Allocable to Common Stockholders
We recorded net income of $53.8 million in 2006 compared to $62.4 million in 2005, and net income allocable
to common stockholders of $34.9 million in 2006 compared to $30.9 million in 2005; these changes resulted from
the various factors described above.
Comparison of 2005 to 2004
The following table sets forth information regarding our results of operations for the years ended
December 31, 2005 and 2004 ($ in millions). As noted above and as more fully described in Note 1 to the
Consolidated Financial Statements, as required by SFAS No. 144, results for the years ended December 31, 2005
and 2004 were reclassified from previously reported amounts to reflect in discontinued operations the operations for
those properties sold or held for sale in 2006 which qualified for discontinued operations presentation.
$
Rental and other revenues...........................................................
Operating expenses:
Rental property and other expenses ...........................................
Depreciation and amortization...................................................
Impairment of assets held for use..............................................
General and administrative ........................................................
Total operating expenses........................................................
Interest expense:
Contractual.................................................................................
Amortization of deferred financing costs...................................
Financing obligations.................................................................
Other income /(expense):
Interest and other income...........................................................
Settlement of bankruptcy claim .................................................
Loss on debt extinguishments....................................................
Income/(loss) before disposition of property, minority interest
and equity in earnings of unconsolidated affiliates...............
Gains on disposition of prop erty, net.........................................
Minority interest.........................................................................
Equity in earnings of unconsolidated affiliates ..........................
Income from continuing operations............................................
Discontinued operations:
Income from discontinued operations, net of minority
interest................................................................................
Gains, net of impairments, on sales of discontinued
operations, net of minority interest ....................................
Net income.....................................................................................
Dividends on preferred stock.....................................................
Excess of preferred stock redemption cost over carrying
value .......................................................................................
Net income available for common stockholders ........................
$
28
Years Ended December 31,
2004
389.6
2005
396.1
$
2005 to 2004
$ Change % Change
1.7%
$
6.5
3.7
0.8
7.6
(8.5)
3.6
(6.1)
(0.3)
(5.0)
(11.4)
1.0
(14.4)
11.9
(1.5)
12.8
(7.5)
(0.5)
1.9
6.7
2.7
0.7
100.0
(20.5)
1.2
(5.8)
(8.1)
(50.0)
(9.6)
16.4
(100.0)
96.0
(18.5)
142.2
(34.7)
(50.0)
25.7
31.9
137.9
108.8
-
41.5
288.2
104.8
3.7
10.0
118.5
6.1
14.4
(12.4)
8.1
(9.0)
21.6
1.0
7.4
21.0
17.7
(6.2)
(35.0)
2.8
20.5
41.5
(30.8)
20.4
14.2
20.9
3.6
728.6
69.3
50.4
11.7
-
10.7
(4.3)
20.2
(100.0)
188.8%
$
$
141.6
109.6
7.6
33.0
291.8
98.7
3.4
5.0
107.1
7.1
-
(0.5)
6.6
3.8
14.1
0.5
9.3
27.7
11.5
23.2
34.7
62.4
(27.2)
(4.3)
30.9
Rental and Other Revenues
The $6.5 million increase in rental and other revenues from continuing operations was primarily the result of
higher average occupancy in 2005 compared to 2004, revenues contributed from new development properties placed
in service during the second half of 2005, and higher termination fee income in 2005. These positive increases were
partially offset by a reduction in revenues from sold properties that were not classified as discontinued operations.
Operating Expenses
Rental and other operating expenses from continuing operations (real estate taxes, utilities, insurance, repairs
and maintenance and other property-related expenses) increased $3.7 million in 2005 compared to 2004, primarily
as a result of higher average occupancy in 2005 and general inflationary increases in certain operating expenses,
such as salaries, benefits, utility costs and real estate taxes. These increases were partially offset by a reduction in
operating expenses from sold properties that were not classified as discontinued operations.
Operating margin, defined as rental and other revenue less rental property and other expenses expressed as a
percentage of rental and other revenues, decreased from 64.7% in 2004 to 64.3% in 2005. This decrease in margin
was primarily caused by operating expenses increasing from inflationary pressures at a higher rate than our rental
revenues and operating cost recoveries.
Depreciation and amortization from continuing operations increased slightly in 2005. This slight increase
primarily resulted from a relatively higher proportion in 2005 of leasing assets (tenant improvements and deferred
leasing costs) which have shorter lives compared to buildings which are depreciated over 40 years. This was
partially offset by a reduction in depreciation and amortization from sold properties that were not classified as
discontinued operations.
Impairments on assets held for use were $7.6 million in 2005 compared to none in 2004. In 2005 one land
parcel and one office property, which are classified as held for use, had indicators of impairment where the carrying
value exceeded the sum of projected undiscounted future cash flows. Accordingly, we recognized impairment losses
of $7.6 million during the year ended December 31, 2005.
The $8.5 million decrease in general and administrative expenses in 2005 as compared to 2004 primarily relates
to (1) $4.6 million recognized in 2004 in connection with a retirement package for our former chief executive officer
(see Note 18 to the Consolidated Financial Statements) and (2) a $5.4 million decrease in 2005 compared to 2004
primarily relating to costs of personnel, consultants and our independent auditors in connection with (a) the initial
implementation of Section 404 of the Sarbanes-Oxley Act in 2004, (b) evaluation of a strategic transaction in 2004,
and (c) the preparation and audit of the restated Consolidated Financial Statements included in our 2004 Annual
Report on Form 10-K. These decreases were partially offset by $1.6 million net increase primarily related to higher
long-term incentive compensation costs, salary and fringe benefit costs and other costs .
Interest Expense
The $6.1 million decrease in contractual interest was primarily due to a decrease in average borrowings from
$1,657 million in 2004 to $1,508 million in 2005, partially offset by an increase in weighted average interest rates
on outstanding debt from 6.46% in 2004 to 6.76% in 2005. The decrease in average debt balances outstanding in
2005 was primarily due to the debt reductions made during 2005 as described in Note 5 to the Consolidated
Financial Statements. In addition, capitalized interest in 2005 was approximately $1.9 million higher compared to
2004 due to increased development activity and higher average construction and development costs.
The $5.0 million decrease in interest expense on financing obligations was primarily a result of the purchase of
our partner’s interest in the Orlando City Group properties in MG-HIW, LLC on March 2, 2004 which eliminated
the requirement to record financing obligation interest expense with respect to the Orlando City Group properties
after that date (see Note 3 to the Consolidated Financial Statements).
29
Other Income/Expense
In 2004, we received net proceeds of $14.4 million as a result of the settlement of the bankruptcy of WorldCom
(See Note 18 to our Consolidated Financial Statements for further discussion on this settlement).
Loss on debt extinguishments decreased $11.9 million from $12.4 million in 2004 to $0.5 million in 2005. In
2004, a $12.3 million loss was recorded related to the retirement of the Exercisable Put Option Notes described in
Note 5 to the Consolidated Financial Statements. The $0.5 million of loss in 2005 relates to certain of our loans that
were paid off early in 2005 from proceeds raised from disposition activities.
Gains on Disposition of Property; Minority Interest; Equity in Earnings of Unconsolidated Affiliates
Net gains on dispositions of properties not classified as discontinued operations were $14.1 million in 2005
compared to $21.6 million in 2004; the components of net gains are described in Note 4 to the Consolidated
Financial Statements. Gains and impairments are dependent on the specific assets sold, their historical cost basis and
other factors, and can vary significantly from period to period.
Minority interest decreased from $1.0 million of income in the year ended December 31, 2004 to $0.5 million
of income in the year ended December 31, 2005 due to a corresponding decrease in the Operating Partnership’s loss
from continuing operations after Preferred Unit distributions.
The $1.9 million increase in equity in earnings from continuing operations of unconsolidated affiliates was
primarily a result of an increase related to the formation of the HIW-KC Orlando, LLC joint venture in late June
2004, which contributed approximately $1.4 million of additional equity in earnings from continuing operations of
unconsolidated affiliates in 2005. In addition, the Plaza Colonnade, LLC joint venture, which was placed in service
in the fourth quarter of 2004, contributed approximately $0.3 million more to equity in earnings in 2005 compared
to 2004.
Discontinued Operations
In accordance with SFAS No. 144, we classified net income of $34.7 million and $20.5 million, net of minority
interest, as discontinued operations for the years ended December 31, 2005 and 2004, respectively. These assets
classified as discontinued operations comprise 8.9 million square feet of office and industrial properties and 290
residential units sold during 2006, 2005 and 2004 and 0.3 million square feet of property held for sale at
December 31, 2006. These amounts include gains, net of impairments, of discontinued operations of $23.2 million
and $2.8 million, net of minority interest, in the years ended December 31, 2005 and 2004, respectively; the
components of net gains are set out in Note 4 to the Consolidated Financial Statements.
Preferred Stock Dividends and Excess of Preferred Stock Redemption Costs in Excess of Carrying Value
We recorded $27.2 million and $30.8 million in Preferred Stock dividends in 2005 and 2004, respectively. The
reduction was due to the redemption of $130.0 million of Preferred Stock in the third quarter of 2005. In connection
with the redemption of Preferred Stock, the $4.3 million excess of the redemption cost over the net carrying amount
of the redeemed shares was recorded as a reduction to net income available for common shareholders in 2005 in
accordance with EITF Topic D-42.
Net Income and Net Income Allocable to Common Stockholders
We recorded net income of $62.4 million in 2005 compared to $41.5 million in 2004, and net income allocable
to common stockholders of $30.9 million in 2005 compared to $10.7 million in 2004; these changes resulted from
the various factors described above.
30
Statement of Cash Flows
LIQUIDITY AND CAPITAL RESOURCES
As required by GAAP, we report and analyze our cash flows based on operating activities, investing activities
and financing activities. The following table sets forth the changes in our cash flows from 2005 to 2006 ($ in
thousands):
Cash Provided by Operating Activities...................................................... $
Cash Provided by Investing Activities.......................................................
Cash Used in Financing Activities .............................................................
Total Cash Flows....................................................................................... $
Years Ended December 31,
2006
145,525
64,734
(194,781)
15,478
2005
154,133
200,925
(378,328)
(23,270)
$
$
Change
(8,608)
(136,191)
183,547
38,748
$
$
In calculating cash flow from operating activities, depreciation and amortization, which are non-cash expenses,
are added back to net income. As a result, we have historically generated a significant positive amount of cash from
operating activities. From period to period, cash flow from operations depends primarily upon changes in our net
income, as discussed more fully above under “Results of Operations,” changes in receivables and payables, and net
additions or decreases in our overall portfolio, which affect the amount of depreciation and amortization expense.
Cash provided by or used in investing activities generally relates to capitalized costs incurred for leasing and
major building improvements and our acquisition, development, disposition and joint venture activity. During
periods of significant net acquisition and/or development activity, our cash used in such investing activities will
generally exc eed cash provided by investing activities, which typically consists of cash received upon the sale of
properties and distributions of capital from our joint ventures.
Cash used in financing activities generally relates to stockholder dividends, distributions on Common Units,
incurrence and repayment of debt and sales, repurchases or redemptions of Common Stock, Common Units and
Preferred Stock. As discussed previously, we use a significant amount of our cash to fund stockholder dividends and
Common Unit distributions. Whether or not we have increases in the outstanding balances of debt during a period
depends generally upon the net effect of our acquisition, disposition, development and joint venture activity. We use
our revolving credit facility for working capital purposes, which means that during any given period, in order to
minimize interest expense, we will likely record significant repayments and borrowings under our revolving credit
facility.
The decrease of $8.6 million in cash provided by operating activities in the year ended December 31, 2006
compared to the same period in 2005 was primarily the result of lower cash flows from net income adjusted for
changes in depreciation and gains and impairments, partially offset by a $1.8 million increase from net changes in
operating assets and liabilities.
The decrease of $136.2 million in cash provided by investing activities in the year ended December 31, 2006
compared to the same period in 2005 was primarily a result of a $110.7 million decrease in proceeds from
dispositions of real estate assets and a $54.3 million increase in additions to real estate assets and deferred leasing
costs. Partly offsetting these decreases was an increase of $24.2 million in other investing activities that resulted
from a collateral substitution on a secured note pursuant to which the lender refunded $11.8 million in restricted
cash in 2006, which had been paid in 2005, and an increase of $7.1 million in distributions of capital from
unconsolidated affiliates as a result of a refinancing of debt in 2006, as described in Note 2 to the Consolidated
Financial Statements.
The decrease of $183.5 million in cash used in financing activities in the year ended December 31, 2006 was
primarily a result of a decrease of $80.0 million in redemptions of Preferred Stock from 2005 to 2006, a $70.7
million reduction in net paydowns on our revolving credit facility and mortgages and notes payable, a decrease of
$10.2 million in Preferred Stock dividends resulting from our Preferred Stock redemptions, and an increase of $41.2
million in net proceeds from the sale of Common Stock due to the exercise of stock options during 2006, as
described in Note 6 to the Consolidated Financial Statements.
During 2007, we expect to have positive cash flows from operating activities. The net cash flows from investing
activities in 2007 are expected to be negative as cash inflows from property dispositions and joint ventures are
31
expected to be less than cash used for development, capitalized leasing and tenant improvement costs. Net cash
flows from operating and investing activities combined in 2007 are expected to be positive and, together with
positive financing cash flows from new debt borrowings or other sources, will be used to pay stockholder and
unitholder distributions, scheduled debt maturities, principal amortization payments and any other reductions of debt
and Preferred Stock balances (see Note 9 to the Consolidated Financial Statements).
Capitalization
The following table sets forth our capitalization as of December 31, 2006 and December 31, 2005 (in thousands,
except per share amounts):
Mortgages and notes payable, at recorded book value ..................................................
Financing obligations.....................................................................................................
Preferred Stock, at liquidation value..............................................................................
December 31,
2006
$ 1,465,129
35,530
$
197,445
$
December 31,
2005
$ 1,471,616
34,154
$
247,445
$
Common Stock and Common Units outstanding...........................................................
60,944
59,479
Per share stock price at period end.................................................................................
Market value of Common Stock and Common Units....................................................
$
40.76
$ 2,484,077
$
28.45
$ 1,692,178
Total market capitalization with debt.............................................................................
$ 4,182,181
$ 3,445,393
Based on our total market capitalization of approximately $4.2 billion at December 31, 2006 (at the
December 31, 2006 per share stock price of $40.76 and assuming the redemption for shares of Common Stock of the
approximate 4.7 million Common Units not owned by the Company), our mortgages and notes payable represented
35.0% of our total market capitalization. Mortgages and notes payable at December 31, 2006 was comprised of
$741.6 million of secured indebtedness with a weighted average interest rate of 6.78% and $723.5 million of
unsecured indebtedness with a weighted average interest rate of 6.79%. As of December 31, 2006, our outstanding
mortgages and notes payable and financing obligations were secured by real estate assets with an aggregate
undepreciated book value of approximately $1.2 billion.
We do not intend to reserve funds to retire existing secured or unsecured debt upon maturity. For a more
complete discussion of our long-term liquidity needs, see “Liquidity and Capital Resources - Current and Future
Cash Needs.”
32
Contractual Obligations
The following table sets forth a summary regarding our known contractual obligations, including required
interest payments for those items that are interest bearing, at December 31, 2006 ($ in thousands):
Total
Amounts due during years ending December 31,
2009
2010
2008
2007
2011
Thereafter
Mortgages and Notes Payable (1)
Principal payments......................................... $ 1,465,129 $ 86,709 $ 110,341 $ 564,656 $
66,045
Interest payments (2).......................................
461,179
93,503
85,908
9,057 $
46,599
9,811 $ 684,555
45,845 123,279
Financing Obligations:
SF-HIW Harborview Plaza, LP financing
obligation (3) (9) ..........................................
Tax Increment Financing obligation (4) (9) .....
Capitalized ground lease obligation (9) ..........
Capitalized lease obligations (5).......................
Purchase Obligations:
Completion contracts (10)...............................
Operating Lease Obligations:
Land leases (6) ................................................
Other Long Term Liabilities Reflected on
the Balance Sheet:
Plaza Colonnade lease guarantee (6) ..............
Highwoods DLF 97/26 DLF 99/32 LP
lease guarantee (6) ......................................
RRHWoods and Dallas County Partners
lease guarantee (6) ......................................
RRHWoods, LLC (6)......................................
Industrial environmental guarantee (6) ...........
Eastshore lease guarantee (7) ..........................
DLF payable (8)..............................................
KC Orlando, LLC lease guarantee (6) ............
KC Orlando, LLC accrued lease
20,005
28,365
2,003
481
-
2,182
52
252
-
2,182
52
188
-
2,182
52
41
-
2,182
52
-
-
2,182
52
-
20,005
17,455
1,743
-
133,862 104,902
28,960
-
-
-
-
51,191
1,063
1,079
1,119
1,137
1,157
45,636
37
419
49
28
125
4,084
3,551
420
-
-
-
-
-
4,084
526
97
-
37
419
-
-
-
-
536
97
-
-
28
-
-
546
97
-
-
-
-
-
-
556
97
-
-
-
-
-
-
567
32
-
-
49
-
125
-
820
-
commissions, tenant improvements and
building improvements (6)..........................
RRHWoods, LLC (6)......................................
Total
356
-
................................................................ $ 2,171,687 $ 293,370 $ 229,762 $ 634,803 $ 60,083 $ 59,646 $ 894,023
356
403
-
403
-
-
-
-
-
-
-
-
(1) See Note 5 to the Consolidated Financial Statements for further discussion.
(2) These amounts represent interest payments due on mortgage and notes payable, based on the stated rates for the fixed rate
debt and on the December 31, 2006 rates for the variable rate debt. The weighted average interest rate on the variable rate
debt as of December 31, 2006 was 6.15%.
(3) This liability represents a financing obligation to our joint venture partner as a result of accounting for this transaction as a
financing arrangement. See Note 3 to the Consolidated Financial Statements for further discussion.
(4) In connection with tax increment financing for construction of a public garage related to an office building constructed by
us, we are obligated to pay fixed special assessments over a 20-year period. The net present value of these assessments,
discounted at 6.93%, which represents the interest rate of the underlying bond, is shown as a financing obligation in the
Consolidated Balance Sheet. We also receive special tax revenues and property tax rebates recorded in interest and other
income which are intended, but not guaranteed, to provide funds to pay the special assessments.
(5) Included in accounts payable, accrued expenses and other liabilities.
(6) See Note 15 to the Consolidated Financial Statements for further discussion.
(7) This represents our maximum exposure to contingent loss under our Eastshore guarantee. See Notes 3 and 15 to the
Consolidated Financial Statements for further discussion.
(8) Represents a fixed obligation we owe our partner in Highwoods DLF 98/29, LP. This obligation arose from an excess
contribution from our partner at the formation of the joint venture, and the net present value of the fixed obligation
discounted at 9.62% which represents the interest rate derived from the agreement, is recorded in other liabilities. See Note 2
to the Consolidated Financial Statements for further discussion.
(9) Interest components of the contractual obligations are based on the stated fixed rates in the instruments. For floating rate
debt, interest is computed using the current rate in effect at December 31, 2006.
(10) This amount represents our estimate of contractual obligations as of December 31, 2006 related to various construction
projects.
33
Refinancings and Preferred Stock Redemptions in 2005 and 2006
During 2005, 2006 and through February 15, 2007, we paid off $490 million of outstanding loans, excluding
any normal debt amortization, which included $260 million of secured debt with a weighted average interest rate of
7.27% and $230 million of unsecured floating rate debt with a weighted average interest rate of 6.13%.
Approximately $531 million of real estate assets (based on undepreciated cost basis) became unencumbered after
paying off the secured debt. We also used some of the proceeds from our disposition activity to redeem, in August
2005 and February 2006, all of our outstanding Series D Preferred Shares and 3.2 million of our outstanding Series
B Preferred Shares, aggregating $180 million plus accrued dividends. These reductions in outstanding debt and
Preferred Stock balances were made primarily from proceeds from property dispositions that closed in 2005, 2006
and early 2007, a $270 million increase in outstanding borrowings under our revolving and non-revolving credit
facilit ies and by approximately $57 million of additional loan proceeds on an existing secured loan. In connection
with the redemption of Preferred Stock, the excess of the redemption cost over the net carrying amount of the
redeemed shares was recorded as a reduction to net income available for common shareholders. These reductions
amounted to $4.3 million and $1.8 million for the third quarter 2005 and first quarter 2006, respectively.
Unsecured Indebtedness
On May 1, 2006, we obtained a new $350 million, three-year unsecured revolving credit facility from Bank of
America, N.A. We used $273 million of proceeds from the new revolving credit facility, together with available
cash, to pay off the remaining outstanding balance of $178 million under our previous revolving credit facility and a
$100 million bank term loan. In connection with these payoffs, we wrote off approximately $0.5 million in
unamortized deferred financing costs in the second quarter of 2006 as a loss on debt extinguishment.
On August 8, 2006, this revolving credit facility was amended and restated as part of a syndication with a group
of 15 banks. The revolving credit facility was also upsized from $350 million to $450 million. Our revolving credit
facility is initially scheduled to mature on May 1, 2009. Assuming no default exists, we have an option to extend the
maturity date by one additional year and, at any time prior to May 1, 2008, may request increases in the borrowing
availability under the credit facility by up to an additional $50 million. The interest rate is LIBOR plus 80 basis
points and the annual base facility fee is 20 basis points. As of December 31, 2006 and February 15, 2007, we had
$373.5 million and $359.5 million, respectively, borrowed on this revolving credit facility.
On January 31, 2007, we obtained a $150 million unsecured non-revolving credit facility. This facility has an
initial term of six months and can be extended at our option for two additional three-month periods provided we are
not in default. This facility has identical interest rate terms and financial covenants as our revolving credit facility.
We currently intend to repay all amounts outstanding under the non-revolving facility with proceeds from newly
obtained secured or unsecured debt. As of February 15, 2007, we had $60.0 million borrowed on the non-revolving
facility.
Our credit facilities and the indenture that governs our outstanding notes require us to comply with customary
operating covenants and various financial and operating ratios. We are currently in compliance with all such
requirements. Although we expect to remain in compliance with these covenants and ratios for at least the next year,
depending upon our future operating performance, property and financing transactions and general economic
conditions, we cannot assure you that we will continue to be in compliance.
If any of our lenders ever accelerated outstanding debt due to an event of default, we would not be able to
borrow any further amounts under our credit facilities, which would adversely affect our ability to fund our
operations. If our debt cannot be paid, refinanced or extended at maturity or upon acceleration, in addition to our
failure to repay our debt, we may not be able to make distributions to stockholders at expected levels or at all.
Furthermore, if any refinancing is done at higher interest rates, the increased interest expense would adversely affect
our cash flows and ability to make distributions to stockholders. Any such refinancing could also impose tighter
financial ratios and other covenants that would restrict our ability to take actions that would otherwise be in our
stockholders’ best interest, such as funding new development activity, making opportunistic acquisitions,
repurchasing our securities or paying distributions.
In May, July, August and September 2005 and February 2006, we obtained waivers from the lenders under our
previous revolving credit facility and our previous bank term loans related to timely reporting to the lenders of
34
annual and quarterly financial statements and to covenant violations that could arise from future redemptions of
Preferred Stock due to the reclassification of Preferred Stock from equity to a liability during the period of time from
the announcement of the redemption until the redemption is completed. The aforementioned modifications did not
change the economic terms of the loans. In connection with these modifications, we incurred certain loan costs that
are capitalized and amortized over the remaining terms of the loans. In November 2005, we amended the $100.0
million bank term loan to extend the maturity date to July 17, 2006 and reduce the spread over the LIBOR interest
rate from 130 basis points to 100 basis points. These loans were paid off in May 2006 in connection with the closing
of our new revolving credit facility, as described above.
Current and Future Cash Needs
Rental and other revenues are our principal source of funds to meet our short-term liquidity requirements, which
primarily consist of operating expenses, debt service, stockholder dividends, any guarantee obligations and recurring
capital expenditures. In addition, we could incur tenant improvement costs and lease commissions related to any
releasing of vacant space.
As of February 15, 2007, other than principal amortization on certain secured loans, we have no outstanding
debt that matures prior to the end of 2007. Our non-revolving credit facility of $150.0 million will mature in January
2008 assuming we exercise our two three-month extension options. We expect to fund our short-term liquidity needs
through a combination of available working capital, cash flows from operations and the following:
•
•
•
•
•
the selective disposition of non-core land and other assets;
borrowings under our unsecured credit facilities (which have up to $178.3 million of availability in the
aggregate as of February 15, 2007) and under our existing $50.0 million secured revolving construction
loan (which has $38.2 million available at February 15, 2007);
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 would have the net effect of
generating additional capital through such sale or contributions;
the issuance of secured debt; and
the issuance of unsecured debt.
Our long-term liquidity needs generally include the funding of capital expenditures to lease space to our
customers, maintain the quality of our existing properties and build new properties. Capital expenditures include
tenant improvements, building improvements, new building completion costs and land infrastructure costs. Tenant
improvements are the costs required to customize space for the specific needs of first-generation and second-
generation customers. Building improvements are recurring capital costs not related to a specific customer to
maintain existing buildings. New building completion costs are expenses for the construction of new buildings. Land
infrastructure costs are expenses to prepare development land for future development activity that is not specifically
related to a single building. Excluding recurring capital expenditures for leasing costs and tenant improvements and
for normal building improvements, our expected future capital expenditures for started and/or committed new
development projects were approximately $260 million at December 31, 2006 and were approximately $250 million
at February 15, 2007. A significant portion of these future expenditures are currently subject to binding contractual
arrangements.
Our long-term liquidity needs also include the funding of development commitments, selective asset
acquisitions and the retirement of mortgage debt, amounts outstanding under our credit facilities and long-term
unsecured debt. Our goal is to maintain a conservative and flexible balance sheet. 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, (3) borrowings under other secured construction loans that we may enter into, as well as (4) 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 repayments of borrowings under our revolving credit
facility. As mentioned above, 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 or from proceeds from sales of properties.
35
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 needs in both the
short and long term. However, if these sources of funds are insufficient or unavailable, our ability to pay dividends
to stockholders and satisfy other cash payments may be adversely affected.
Stockholder Dividends
To maintain our qualification as a REIT, we must distribute to stockholders at least 90.0% of our REIT taxable
income, excluding capital gains. REIT taxable income, the calculation of which is determined by the federal tax
laws, does not equal net income under GAAP. The minimum dividend per share of Common Stock required for the
Company to maintain its REIT status (excluding any net capital gains) was $0.24 per share in 2005. Aggregate
dividends paid on Preferred Stock exceeded REIT taxable income (excluding capital gains) in 2006, which resulted
in no required dividend on Common Stock in 2006 for REIT qualification purposes. We generally expect to use our
cash flow from operating activities for dividends to stockholders and for payment of recurring capital expenditures.
Future dividends will be made at the discretion of our Board of Directors. The following factors will affect our cash
flows and, accordingly, influence decisions of the Board of Directors regarding dividends:
•
•
•
•
•
•
debt service requirements after taking into account debt covenants and the repayment and restructuring
of certain indebtedness;
scheduled increases in base rents of existing leases;
changes in rents attributable to the renewal of existing leases or replacement leases;
changes in occupancy rates at existing properties and execution of leases for newly acquired or
developed properties;
operating expenses and capital replacement needs, including tenant improvements and leasing costs;
and
sales of properties and non-core land.
Off Balance Sheet Arrangements
We have several off balance sheet joint venture and guarantee arrangements. The joint ventures were formed
with unrelated investors to generate additional capital to fund property acquisitions, repay outstanding debt, fund
other strategic initiatives and lessen the risks typically associated with owning 100.0% of a property. When we
create a joint venture with a strategic partner, we usually contribute one or more properties that we own to a newly
formed entity in which we retain an equal or minority interest. In exchange for an equal or minority interest in the
joint venture, we generally receive cash from the partner and frequently retain the management income relating to
the properties in the joint venture. For financial reporting purposes, certain assets we sold have been accounted for
as financing arrangements. See Notes 1, 2 and 3 to the Consolidated Financial Statements.
As discussed in Note 1, we generally account for our investments in less than majority owned joint ventures,
partnerships and limited liability companies under the equity method of accounting. As a result, the assets and
liabilities of these joint ventures are not included on our balance sheet and the results of operations of these joint
ventures are not included on our income statement, other than as equity in earnings of unconsolidated affiliates.
Generally, we are not liable for the debts of our joint ventures, except to the extent of our equity investment, unless
we have directly guaranteed any of that debt. In most cases, we and/or our strategic partners are required to
guarantee customary limited exceptions to non-recourse liability in non-recourse loans.
As of December 31, 2006, our unconsolidated joint ventures had $776.8 million of total assets and $604.9
million of total liabilities as reflected in their financial statements. At December 31, 2006, our weighted average
equity interest based on the total assets of these unconsolidated joint ventures was 40.5%. During 2006, these
unconsolidated joint ventures earned $14.7 million of total net income, of which our share, after appropriate
purchase accounting and other adjustments, was $6.8 million. For additional information about our unconsolidated
joint venture activity, see Note 2 to the Consolidated Financial Statements.
36
As of December 31, 2006, our unconsolidated joint ventures had $575.5 million of outstanding mortgage debt.
All of this joint venture debt is non-recourse to us except (1) in the case of customary exceptions pertaining to such
matters as misuse of funds, environmental conditions and material misrepresentations and (2) those guarantees and
loans described in the following paragraphs. The following table sets forth the scheduled maturities of our
proportionate share of the outstanding debt of our unconsolidated joint ventures as of December 31, 2006 ($ in
thousands):
2007................................................................................
2008................................................................................
2009................................................................................
2010................................................................................
2011................................................................................
Thereafter.......................................................................
$
3,817
4,717
8,342
23,517
6,117
198,465
$ 244,975
In connection with our Des Moines joint ventures, we guaranteed certain debt. The maximum potential amount
of future payments that we could be required to make under the guarantees is $8.6 million at December 31, 2006.
This amount relates to housing revenue bonds that require credit enhancements in addition to the real estate
mortgages. The bonds bear a floating interest rate, which at December 31, 2006 averaged 3.65%, and mature in
2015. If the joint ventures are unable to repay the outstanding balance under these housing revenue bonds, we will
be required to repay our maximum exposure under these loans. Recourse provisions exist that enable us to recover
some or all of such payments from the joint ventures’ assets . The joint venture currently generates sufficient cash
flow to cover the debt service required by the loan. On July 31, 2006, $6.0 million in other loans related to four
office buildings that had been previously guaranteed by us were refinanced with no guarantee. An additional
guarantee of $5.4 million expired upon an industrial building becoming 95% leased prior to the end of 2006.
In connection with the RRHWoods, LLC joint venture, we guaranteed $3.1 million relating to a letter of credit
and corresponding master lease, which expires in August 2010. The guarantee requires us to pay under a contingent
master lease if the cash flows from the building securing the letter of credit do not cover at least 50% of the
minimum debt service. The letter of credit along with the building secure the industrial revenue bonds used to
finance the property. These bonds mature in 2015. Recourse provisions exist such that we could recover some or all
of the payments made under the letter of credit guarantee from the joint venture’s assets. At December 31, 2006, we
recorded a $0.4 million deferred charge included in other assets and liabilities on our Consolidated Balance Sheet
with respect to this guarantee. Our maximum potential exposure under this guarantee was $3.1 million at
December 31, 2006.
The Plaza Colonnade, LLC joint venture has a $50 million non-recourse mortgage that bears a fixed interest rate
of 5.7%, requires monthly principal and interest payments and matures on January 31, 2017. We and our joint
venture partner have signed a contingent master lease limited to 30,772 square feet, which expires in December
2009. Our maximum exposure under this master lease was $1.3 million at December 31, 2006. However, the current
occupancy level of the building is sufficient to cover all debt service requirements.
In the Highwoods DLF 97/26 DLF 99/32, LP joint venture, a single tenant currently leases an entire building
under a lease scheduled to expire on June 30, 2008. The tenant also leases space in other buildings owned by us. In
conjunction with an overall restructuring of the tenant’s leases with us and with this joint venture, we agreed to
certain changes to the lease with the joint venture in September 2003. The modifications included allowing the
tenant to vacate the premises on January 1, 2006, reducing the rent obligation by 50.0% and converting the “net”
lease to a “full service” lease with the tenant liable for 50.0% of these costs at that time . In turn, we agreed to
compensate the joint venture for any economic losses incurred as a result of these lease modifications. As of
December 31, 2006, we have approximately $0.4 million in other liabilities and $0.4 million as a deferred charge in
other assets recorded on our Consolidated Balance Sheet to account for the lease guarantee. However, should new
tenants occupy the vacated space prior to the end of the guarantee period, in June 2008, our liability under the
guarantee would diminish. Our maximum potential amount of future payments with regard to this guarantee as of
December 31, 2006 was $0.7 million. No recourse provisions exis t to enable us to recover any amounts paid to the
joint venture under this lease guarantee arrangement. During 2006, we expensed $0.1 million related to the lease
guarantee.
37
RRHWOODS, LLC and Dallas County Partners financed the construction of two buildings with a $7.4 million
ten-year loan. As an inducement to make the loan at a 6.3% long-term rate, we and our partner agreed to master
lease the vacant space and each guaranteed $0.8 million of the debt with limited recourse. As leasing improves, the
guarantee obligations under the loan agreement diminish. As of December 31, 2006, no master lease payments were
necessary. We currently have recorded $0.05 million in other liabilities and $0.05 million as a deferred charge
included in other assets on our Consolidated Balance Sheet with respect to this guarantee. The maximum potential
amount of future payments that we could be required to make based on the current leases in place was
approximately $2.2 million as of December 31, 2006. The likelihood of us paying on our $0.8 million guarantee is
remote since the joint venture currently satisfies the minimum debt coverage ratio and should we have to pay our
portion of the guarantee, we would be entitled to recover the $0.8 million from other joint venture assets.
On June 28, 2004, Kapital-Consult, a European investment firm, bought a 60.0% interest in HIW-KC Orlando,
LLC. We own the remaining 40.0% interest. HIW-KC Orlando, LLC owns five in-service office properties,
encompassing 1.3 million rentable square feet, located in the central business district of Orlando, Florida, which
were valued under the joint venture agreement at $212.0 million. The joint venture borrowed $143.0 million under a
ten-year fixed rate mortgage loan from a third party lender at the time of its formation. In connection with this
transaction, we agreed to guarantee rent to the joint venture for 3,248 rentable square feet commencing in August
2004 and expiring in April 2011. In connection with this guarantee, as of June 30, 2004, we included $0.6 million in
other liabilities and reduced the total amount of gain to be recognized by the same amount. Additionally, we agreed
to guarantee re-tenanting costs for approximately 11% of the joint venture’s total square footage. We recorded a
$4.1 million contingent liability with respect to such guarantee as of June 30, 2004 and reduced the total amount of
gain to be recognized by the same amount. In the three year period ended December 31, 2006, we paid $3.7 million
in re-tenanting costs related to this guarantee. The contribution was accounted for as a partial sale as defined by
SFAS No. 66 and we recognized a $16.3 million gain in June 2004. Since we have an ongoing 40.0% financial
interest in the joint venture and since we are engaged by the joint venture to provide management and leasing
services for the joint venture, for which we receive customary management fees and leasing commissions, the
operations of these properties were not reflected as discontinued operations consistent with SFAS No. 144 and the
related gain on sale was included in continuing operations in the second quarter of 2004.
On September 27, 2004, we and an affiliate of Crosland, Inc. (“Crosland”) formed Weston Lakeside, LLC, in
which we have a 50.0% ownership interest. On June 29, 2005, we contributed 22.4 acres of land at an agreed upon
value of $3.9 million to this joint venture, and Crosland contributed approximately $2.0 million in cash.
Immediately thereafter, the joint venture distributed approximately $1.9 million to us and we recorded a gain of $0.5
million. Crosland managed and operated this joint venture, which constructed approximately 332 rental residential
units in three buildings, at a total estimated cost of approximately $33 million. Crosland received 3.25% of all
project costs other than land as a development fee and 3.5% of the gross revenue of the joint venture in management
fees. The joint venture financed the development with a $28.4 million construction loan guaranteed by Crosland. We
provided certain development services for the project and received a fee equal to 1.0% of all project costs excluding
land. We have accounted for this joint venture using the equity method of accounting. On February 22, 2007, the
joint venture sold the 332 rental residential units to a third party for gross proceeds of $45.0 million. Mortgage debt
in the amount of $27.1 million was paid off and various development related costs were paid. We received a net
distribution of $6.1 million and may receive a further small and final distribution. A gain of approximately $5
million will be recognized by us in the first quarter of 2007 related to this sale. As of February 28, 2007, the joint
venture is dormant pending the final distribution to the partners.
On December 22, 2004, we and Easlan Investment Group, Inc. (“Easlan”) formed The Vinings at University
Center, LLC. We contributed 7.8 acres of land at an agreed upon value of $1.6 million to the joint venture in
December 2004 in return for a 50.0% equity interest. Easlan contributed $1.1 million in the form of non-interest
bearing promissory notes for a 50.0% equity interest in the joint venture. Upon formation, the joint venture entered
into a $9.7 million secured construction loan to complete the construction of 156 rental residential units on the 7.8
acres of land. Easlan guaranteed this construction loan. The construction of the residential units was completed in
the first quarter of 2006. Easlan was the manager and leasing agent for these residential units and received
customary management fees and leasing commissions. We received development fees throughout the construction
project. We consolidated this joint venture from inception under the provisions of FASB Interpretation No. 46
(revised December 2003) “Consolidation of Variable Interest Entities” (“FIN 46(R)”) because Easlan had no at-risk
equity and we would absorb the majority of the joint venture’s expected losses. On November 1, 2006, the joint
venture sold the residential units to a third party for gross proceeds of $14.3 million, paid off the construction note
payable and made cash distributions to the partners. We received a distribution of $2.9 million and recorded a gain
of $1.4 million during the fourth quarter of 2006.
38
Financing Arrangements
The following summarizes significant sale transactions in 2000 and 2002 that were or continue to be accounted
for as financing arrangements under paragraphs 25 through 29 of SFAS No. 66 during the years ended
December 31, 2006, 2005 and 2004.
- S F-HIW Harborview Plaza, LP
On September 11, 2002, we contributed Harborview Plaza, an office building located in Tampa, Florida, to SF-
HIW Harborview Plaza, LP (“Harborview LP”), a newly formed entity, in exchange for a 20.0% limited partnership
interest and $35.4 million in cash. The other partner contributed $12.6 million of cash and a new loan was obtained
by the partnership for $22.8 million. In connection with this disposition, we entered into a master lease agreement
with Harborview LP for five years on the then vacant space in the building (approximately 20% of the building);
occupancy was 99.6% at December 31, 2006. We also guaranteed to Harborview LP the payment of tenant
improvements and lease commissions of $1.2 million. Our maximum exposure to loss under the master lease
agreement was $2.1 million at September 11, 2002 and was $0.3 million at December 31, 2006. Additionally, our
partner in Harborview LP was granted the right to put its 80.0% equity interest in Harborview LP to us in exchange
for cash at any time during the one-year period commencing September 11, 2014. The value of the 80.0% equity
interest will be determined at the time that such partner elects to exercise its put right, if ever, based upon the then
fair market value of Harborview LP’s assets and liabilities, less 3.0% , which amount was intended to cover the
normal costs of a sale transaction.
Because of the put option and the master lease agreement, this transaction is accounted for as a financing
transaction, as described in Note 1 to the Consolidated Financial Statements. Accordingly, the assets, liabilities and
operations related to Harborview Plaza, the property owned by Harborview LP, including any new financing by the
partnership, remain on our consolidated financial statements. As a result, we have established a financing obligation
equal to the net equity contributed by the other partner. At the end of each reporting period, the balance of the
financing obligation is adjusted to equal the greater of the original financing obligation or the current fair value of
the put option discussed above. The value of the put option was $20.0 million at December 31, 2006. This amount is
offset by a related discount account, which is being amortized prospectively through September 2014 as interest
expense on financing obligation. The amount of the financing obligation, net of the discount amount, related to
Harborview LP was $16.2 million at December 31, 2006. Additionally, the net income from the operations before
depreciation of Harborview Plaza allocable to the 80.0% partner is recorded as interest expense on financing
obligation. We continue to depreciate the property and record all of the depreciation on our consolidated financial
statements. Any payments made under the master lease agreement were expensed as incurred ($0.1 million was
expensed during each of the years ended December 31, 2006, 2005 and 2004) and any amounts paid under the tenant
improvement and lease commission guarantee are capitalized and amortized to expense over the remaining lease
term. At such time as the put option expires or is otherwise terminated, we will record the transaction as a sale and
recognize gain on sale.
- Eastshore
On November 26, 2002, we sold three buildings located in Richmond, Virginia (the “Eastshore” transaction) for
a total price of $28.5 million in cash, which was paid in full by the buyer at closing. Each of the sold properties was
a single tenant building leased on a triple-net basis to Capital One Services, Inc., a subsidiary of Capital One
Financial Services, Inc. In connection with the sale, we entered into a rental guarantee agreement for each building
for the benefit of the buyer to guarantee any shortfalls that may be incurred in the payment of rent and re-tenanting
costs for a five-year period from the date of sale (through November 2007). Our maximum exposure to loss under
the rental guarantee agreements was $18.7 million at the date of sale and was $4.1 million as of December 31, 2006.
No payments were made during 2003 or 2002 in respect of these rent guarantees. However, in June 2004, we began
to make monthly payments to the buyer, at an annual rate of $0.1 million, as a result of the existing tenant renewing
a lease in one building at a lower rental rate. We began making additional payments in June 2006 of approximately
$0.1 million per month due to the tenant vacating space in one of the three buildings as of May 31, 2006. These
payments will continue until the earlier of the end of the guarantee period or until replacement tenants are in place
and paying amounts equal to or more than the current tenant.
39
These rent guarantees are a form of continuing involvement as discussed in paragraph 28 of SFAS No. 66.
Because the guarantees cover the entire space occupied by a single tenant under a triple-net lease arrangement, our
guarantees were considered a guaranteed return on the buyer’s investment for an extended period of time. Therefore,
the transaction had been accounted for as a financing transaction following the accounting method described in
Note 1 to the Consolidated Financial Statements through July 2005. Accordingly, through July 2005, the assets ,
liabilities and operations were included in the Consolidated Financial Statements, and a financing obligation of
$28.8 million was recorded, which represented the amount received from the buyer, adjusted for subsequent activity.
The income from the operations of the properties, other than depreciation, was allocated 100.0% to the owner as
interest expense on financing obligations. Payments made under the rent guarantees were charged to expense as
incurred. This transaction was recorded as a completed sale transaction in July 2005 when the maximum exposure to
loss under the guarantees became less than the related deferred gain; accordingly, $1.7 million in gain was
recognized in the last six months of 2005, $3.6 million in gain was recognized in 2006 and additional gain will be
recognized in 2007 as the maximum exposure under the guarantees is reduced. Payments made under rent
guarantees after July 2005 are recorded as a reduction of the deferred gain.
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 revolving credit facility bear interest at variable rates. Our long-term debt, which
consists of secured and unsecured long-term financings and the issuance of unsecured debt securities, typically bears
interest at fixed rates although some loans bear interest at variable rates. Our interest rate risk management
objectives are 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 may 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 interest rate on all of our variable rate debt is adjusted at one and three month intervals, subject to
settlements under these interest rate hedge 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. We currently have
no outstanding interest rate hedge contracts.
Related Party Transactions
We had a contract to acquire development land in the Bluegrass Valley office development project from GAPI,
Inc., a corporation controlled by Gene H. Anderson, an executive officer and director of the Company. Under the
terms of the contract, the development land was purchased in phases, and the purchase price for each phase or parcel
was settled in cash and/or Common Units. The price for the various parcels was based on an initial value for each
parcel, adjusted for an interest factor, applied up to the closing date and also for changes in the value of the Common
Units. On January 17, 2003, we acquired an additional 23.5 acres of this land from GAPI, Inc. for 85,520 shares of
Common Stock and $384,000 in cash for total consideration of $2.3 million. In May 2003, 4.0 acres of the
remaining acres not yet acquired by us was taken by the Georgia Department of Transportation to develop a
roadway interchange for consideration of $1.8 million. The Department of Transportation took possession and title
of the property in June 2003. As part of the terms of the contract between us and GAPI, Inc., we were entitled to and
received in 2003 the $1.8 million proceeds from the condemnation. In July 2003, we appealed the condemnation and
are currently seeking additional payment from the state; the recognition of any gain has been deferred pending
resolution of the appeal process. In April 2005, we acquired for cash an additional 12.1 acres of the Bluegrass
Valley land from GAPI, Inc. and also settled for cash the final purchase price with GAPI, Inc. on the 4.0 acres that
were taken by the Georgia Department of Transportation, which aggregated approximately $2.7 million, of which
$0.7 million was recorded as a payable to GAPI, Inc. on our financial statements as of December 31, 2004. In
August 2005, we acquired 12.7 acres, representing the last parcel of land to be acquired, for cash of $3.2 million.
We believe that the purchase price with respect to each land parcel was at or below market value based on market
data and on the subsequent sale of the land at a significant gain, as discussed below. These transactions were
unanimously approved by the full Board of Directors with Mr. Anderson abstaining from the vote. The contract
provided that the land parcels could be paid in Common Units or in cash, at the option of the seller. This feature
constituted an embedded derivative pursuant to SFAS No. 133, “Accounting for Derivative Instruments and
Hedging Activities.” The embedded derivative feature was accounted for separately and adjusted based on changes
in the fair value of the Common Units. This resulted in decreases to other income of $0.4 million and $0.2 million in
40
2004 and 2005, respectively. The embedded derivative expired upon the closing of the final land transaction in
August 2005.
The majority of the Bluegrass land that we acquired from GAPI, Inc. was sold in the fourth quarter of 2006 to a
third party for a gain of approximately $7.0 million. In connection with the sale, it was determined that a portion of
the Bluegrass land that we acquired from GAPI, Inc. pursuant to this staged land take-down arrangement was not
usable or saleable for future development. The original purchase contract requires GAPI, Inc. to reimburse us for the
value of any unusable acreage. Based on current estimates, GAPI, Inc. may be required to reimburse us for up to
$750,000 pending final resolution of the matter in accordance with and in the manner required by the original
contract.
On February 28, 2005 and April 15, 2005, we sold through a third party broker three non-core industrial
buildings in Winston-Salem, North Carolina to John L. Turner and certain of his affiliates for a gross sales price of
approximately $27.0 million, of which $20.3 million was paid in cash and the remainder from the surrender of
256,508 Common Units. We recorded a gain of approximately $4.8 million upon the closing of these sales. Mr.
Turner, who was a director at the time of these transactions, retired from the Board of Directors effective
December 31, 2005. We believe that the purchase price paid for these assets by Mr. Turner and his affiliates was
equal to their fair market value based on extensive marketing of the properties prior to this sale. The sales were
unanimously approved by the full Board of Directors with Mr. Turner not being present to discuss or vote on the
matter.
CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with GAAP requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues and expenses for the reporting
period. Actual results could differ from our estimates.
The policies and estimates used in the preparation of our Consolidated Financial Statements are described in
Note 1 to our Consolidated Financial Statements for the year ended December 31, 2006. However, certain of our
significant accounting policies contain an increased level of assumptions used or estimates made in determining
their impact on our Consolidated Financial Statements. Management has reviewed our critical accounting policies
and estimates with the audit committee of the Company’s Board of Directors and the Company’s independent
auditors.
We consider our critical accounting estimates to be those used in the determination of the reported amounts and
disclosure related to the following:
• Real estate and related assets;
• Sales of real estate;
• Allowance for doubtful accounts; and
• Property operating expense recoveries.
Real Estate and Related Assets
Real estate and related assets are recorded at cost and stated at cost less accumulated depreciation. Renovations,
replacements and other expenditures that improve or extend the life of an asset are capitalized and depreciated over
their estimated useful lives. Expenditures for ordinary maintenance and repairs are charged to operating expense as
incurred. Depreciation is computed using the straight-line method over the estimated useful life of 40 years for
buildings and depreciable land infrastructure costs , 15 years for building improvements and five to seven years for
furniture, fixtures and equipment. Tenant improvements are amortized using the straight-line method over initial
fixed terms of the respective leases, which generally are from three to 10 years.
Expenditures directly related to the development and construction of real estate assets are included in net real
estate assets and are stated at cost in the Consolidated Balance Sheets. Our capitalization policy on development
41
properties is in accordance with SFAS No. 67, “Accounting for Costs and the Initial Rental Operations of Real
Estate Properties,” SFAS No. 34, “Capitalization of Interest Costs,” and SFAS No. 58, “Capitalization of Interest
Cost in Financial Statements That Include Investments Accounted for by the Equity Method.” Development
expenditures include pre-construction costs essential to the development of properties, development and
construction costs, interest costs, real estate taxes, salaries and related costs and other costs incurred during the
period of development. Interest and other carrying costs are capitalized until the building is ready for its intended
use. We consider a construction project as substantially completed and held available for occupancy upon the
completion of tenant improvements, but no later than one year from cessation of major construction activity. We
cease capitalization on the portion substantially completed and occupied or held available for occupancy, and
capitalize only those costs associated with the portion under construction.
Expenditures directly related to the leasing of properties are included in deferred leasing costs and are stated at
cost in the Consolidated Balance Sheets. We capitalize initial direct costs related to our leasing efforts in accordance
with SFAS No. 91, “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans
and Initial Direct Costs of Leases.” All leasing commissions paid to third parties for new leases or lease renewals are
capitalized. Internal leasing costs include primarily compensation, benefits and other costs such as legal fees related
to leasing activities that are incurred in connection with successfully securing leases on the properties. Capitalized
leasing costs are amortized on a straight-line basis over initial fixed terms of the respective leases, which generally
are from three to 10 years. Estimated costs related to unsuccessful activities are expensed as incurred. If our
assumptions regarding the successful efforts of leasing are incorrect, the resulting adjustments could impact
earnings.
We record liabilities under FASB Interpretation No. 47 “Accounting for Conditional Asset Retirement
Obligations, an interpretation of SFAS No. 143,” (“FIN 47”) for the performance of asset retirement activities when
the obligation to perform such activities is unconditional, whether or not the timing or method of settlement of the
obligation may be conditional on a future event.
Upon the acquisition of real estate, we assess the fair value of acquired tangible assets such as land, buildings
and tenant imp rovements, intangible assets such as above and below market leases, acquired in-place leases and
other identified intangible assets and assumed liabilities in accordance with SFAS No. 141, “Business
Combinations.” We allocate the purchase price to the acquired assets and assumed liabilities based on their relative
fair values. We assess and consider fair value based on estimated cash flow projections that utilize appropriate
discount and/or capitalization rates as well as available market information. The fair value of the tangible assets of
an acquired property considers the value of the property as if it were vacant.
Above and below market leases acquired are recorded in other assets at their fair value. Fair value is calculated
as the present value of the difference between (1) the contractual amounts to be paid pursuant to each in-place lease
and (2) management’s estimate of fair market lease rates for each corresponding in-place lease, using a discount rate
that reflects the risks associated with the leases acquired and measured over a period equal to the remaining term of
the lease for above-market leases and the initial term plus the term of any below-market fixed rate renewal options
for below-market leases. The capitalized above-market lease values are amortized as a reduction of base rental
revenue over the remaining term of the respective leases and the capitalized below-market lease values are
amortized as an increase to base rental revenue over the remaining term of the respective leases and any below
market option periods. If a tenant vacates its space prior to its contractual expiration date, any unamortized balance
is adjusted through rental revenue.
In-place leases acquired are recorded at their fair value in real estate and related assets and are amortized to
depreciation and amortization expense over the remaining term of the respective lease. The value of in-place leases
is based on our evaluation of the specific characteristics of each tenant’s lease. Factors considered include estimates
of carrying costs during hypothetical expected lease-up periods, current market conditions and costs to execute
similar leases. In estimating carrying costs, we include real estate taxes, insurance and other operating expenses and
estimates of lost rentals at market rates during the expected lease-up periods, depending on local market conditions.
In estimating costs to execute similar leases, we consider tenant improvements, leasing commissions and legal and
other related expenses. The value of in-place leases is amortized to depreciation and amortization expense over the
remaining term of the respective leases. If a tenant vacates its space prior to its contractual expiration date, any
unamortized balance of its related asset is expensed.
42
The value of a tenant relationship is based on our overall relationship with the respective tenant. Factors
considered include the tenant’s credit quality and expectations of lease renewals. The value of a tenant relationship
is amortized to depreciation and amortization exp ense over the initial term and any renewal periods defined in the
respective leases. Based on our acquisitions since the adoption of SFAS No. 141 and SFAS No. 142, we have
deemed tenant relationships to be immaterial and have not allocated any amounts to this intangible asset. We will
evaluate these items in future transactions.
Real estate and leasehold improvements are classified as long-lived assets held for sale or as long-lived assets to
be held for use. Real estate is classified as held for sale when the criteria set forth in SFAS No. 144, “Accounting for
the Impairment or Disposal of Long-Lived Assets ,” are satisfied; this determination requires management to make
estimates and assumptions, including assessing the probability that potential sales transactions may or may not
occur. Actual results could differ from those assumptions. In accordance with SFAS No. 144, we record assets held
for sale at the lower of the carrying amount or estimated fair value. Fair value of assets held for sale is equal to the
estimated or contracted sales price with a potential buyer less costs to sell. The impairment loss is the amount by
which the carrying amount exceeds the estimated fair value. With respect to assets classified as held for use, if
events or changes in circumstances, such as a significant decline in occupancy and change in use, indicate that the
carrying value may be impaired, an impairment analysis is performed. Such analysis consists of determining
whether the asset’s carrying amount will be recovered from its undiscounted estimated future operating cash flows,
including estimated residual cash flows. These cash flows are estimated based on a number of assumptions that are
subject to economic and market uncertainties including, among others, demand for space, competition for tenants,
changes in market rental rates and costs to operate each property. If the carrying amount of a held for use asset
exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the
difference between estimated fair value of the asset and the net carrying amount. We generally estimate the fair
value of assets held for use by using discounted cash flow analysis; in some instances, appraisal information may be
available and is used in addition to the discounted cash flow analysis. As the factors used in generating these cash
flows are difficult to predict and are subject to future events that may alter our assumptions, the discounted and/or
undiscounted future operating and residual cash flows estimated by us in our impairment analyses or those
established by appraisal may not be achieved and we may be required to recognize future impairment losses on our
properties held for sale and held for use.
Sales of Real Estate
We account for sales of real estate in accordance with SFAS No. 66. For sales transactions meeting the
requirements of SFAS No. 66 for full profit recognition, the related assets and liabilities are removed from the
balance sheet and the resultant gain or loss is recorded in the period the transaction closes. For sales transactions that
do not meet the criteria for full profit recognition, we account for the transactions in accordance with the methods
specified in SFAS No. 66. For sales transactions with continuing involvement after the sale, if the continuing
involvement with the property is limited by the terms of the sales contract, profit is recognized at the time of sale
and is reduced by the maximum exposure to loss related to the nature of the continuing involvement. Sales to
entities in which we have or receive an interest are accounted for in accordance with partial sale accounting
provisions as set forth in SFAS No. 66.
For sales transactions that do not meet sale criteria as set forth in SFAS No. 66, we evaluate the nature of the
continuing involvement, including put and call provisions, if present, and account for the transaction as a financing
arrangement, profit-sharing arrangement, leasing arrangement or other alternate method of accounting rather than as
a sale, based on the nature and extent of the continuing involvement. Some transactions may have numerous forms
of continuing involvement. In those cases, we determine which method is most appropriate based on the substance
of the transaction.
If we have an obligation to repurchase the property at a higher price or at a future indeterminable value (such as
fair market value), or we guarantee the return of the buyer’s investment or a return on that investment for an
extended period, we account for such transaction as a financing transaction. If we have an option to repurchase the
property at a higher price and it is likely we will exercise this option, the transaction is accounted for as a financing
transaction. For transactions treated as financings, we record the amounts received from the buyer as a financing
obligation and continue to keep the property and related accounts recorded on our consolidated financial statements.
The results of operations of the property, net of expenses other than depreciation (net operating income), will be
reflected as “interest expense” on the financing obligation. If the transaction includes an obligation or option to
repurchase the asset at a higher price, additional interest is recorded to accrete the liability to the repurchase price.
43
For options or obligations to repurchase the asset at fair market value at the end of each reporting period, the balance
of the liability is adjusted to equal the current fair value to the extent fair value exceeds the original financing
obligation. The corresponding debit or credit will be recorded to a related discount account and the revised debt
discount is amortized over the expected term until termination of the option or obligation. If it is unlikely such
option will be exercised, the transaction is accounted for under the deposit method or profit-sharing method. If we
have an obligation or option to repurchase at a lower price, the transaction is accounted for as a leasing arrangement.
At such time as these repurchase obligations expire, a sale will be recorded and gain recognized.
If we retain an interest in the buyer and provide certain rent guarantees or other forms of support where the
maximum exposure to loss exceeds the gain, we account for such transaction as a profit-sharing arrangement. For
transactions treated as profit-sharing arrangements, we record a profit-sharing obligation for the amount of equity
contributed by the other partner and continue to keep the property and related accounts recorded on our consolidated
financial statements. The results of operations of the property, net of expenses other than depreciation (net operating
income), will be allocated to the other partner for their percentage interest and reflected as “co-venture expense” in
our Consolidated Financial Statements. In future periods, a sale is recorded and profit is recognized when the
remaining maximum exposure to loss is reduced below the amount of gain deferred.
Properties that are sold or classified as held for sale are classified as discontinued operations in accordance with
SFAS No. 144 and EITF Issue No. 03-13, “Applying the Conditions of Paragraph 42 of FASB Statement No. 144 in
Determining Whether to Report Discontinued Operations,” (effective beginning in 2005) provided that (1) the
operations and cash flows of the property will be eliminated from our ongoing operations and (2) we will not have
any significant continuing involvement in the operations of the property after it is sold. Interest expense is included
in discontinued operations if the related loan securing the sold property is paid off or assumed by the buyer in
connection with the sale. If the property is sold to a joint venture in which we retain an interest, the property will not
be accounted for as discontinued operations due to our significant ongoing interest in the operations through our
joint venture interest. If we are retained to provide property management, leasing and/or other services for the
property owner after the sale, the property generally will be accounted for as discontinued operations because the
expected cash flows related to these management and leasing activities will generally not be significant in
comparison to the cash flows from the property prior to sale.
Allowance for Doubtful Accounts
Accounts receivable are reduced by an allowance for amounts that may become uncollectible in the future. Our
receivable balance is comprised primarily of rents and operating cost recoveries due from tenants as well as accrued
straight-line rents receivable. We regularly evaluate the adequacy of our allowance for doubtful accounts. The
evaluation primarily consists of reviewing past due account balances and considering such factors as the credit
quality of our tenant, historical trends of the tenant and/or other debtor, current economic conditions and changes in
customer payment terms. Additionally, with respect to tenants in bankruptcy, we estimate the expected recovery
through bankruptcy claims and increase the allowance for amounts deemed uncollectible. If our assumptions
regarding the collectibility of accounts receivable and accrued straight-line rents receivable prove incorrect, we
could experience write-offs of accounts receivable or accrued straight-line rents receivable in excess of our
allowance for doubtful accounts.
Property Operating Expense Recoveries
We receive additional rent from tenants in the form of property operating cost recoveries (or cost
reimbursements) which are determined on a lease-by-lease basis. The most common types of cost reimbursements in
our leases are common area maintenance (“CAM”) and real estate taxes, where the tenant pays its pro rata share of
operating and administrative expenses and real estate taxes, as determined in each lease.
The computation of such additional rent due from tenants is complex and involves numerous judgments,
including the interpretation of terms and other tenant lease provisions. Leases are not uniform in dealing with such
cost reimbursements and there are many variations in the computations. Many tenants make monthly fixed payments
of CAM, real estate taxes and other cost reimbursement items. We record these payments as income each month.
We also make adjustments, positive or negative, to cost recovery income to adjust the recorded amounts to our best
estimate of the final amounts to be billed and collected with respect to the cost reimbursements. After the end of the
calendar year, we compute each tenant’s final cost reimbursements and, after considering amounts paid by the tenant
during the year, issue a bill or credit for the appropriate amount to the tenant. The differences between the amounts
44
billed less previously received payments and the accrual adjustment are recorded as increases or decreases to cost
recovery income when the final bills are prepared, usually beginning in March and completed by mid-year.
FUNDS FROM OPERATIONS
We believe that FFO and FFO per share are beneficial to management and investors and are important
indicators of the performance of any equity REIT. Because FFO and FFO per share calculations exclude such
factors as depreciation and amortization of real estate assets and gains or losses from sales of operating real estate
assets (which can vary among owners of identical assets in similar conditions based on historical cost accounting
and useful life estimates), they facilitate comparisons of operating performance between periods and between other
REITs. Our management believes that historical cost accounting for real estate assets in accordance with GAAP
implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values have
historically risen or fallen with market conditions, many industry investors and analysts have considered the
presentation of operating results for real estate comp anies that use historical cost accounting to be insufficient by
themselves. As a result, management believes that the use of FFO and FFO per share, together with the required
GAAP presentations, provide a more complete understanding of our performance relative to our competitors and a
more informed and appropriate basis on which to make decisions involving operating, financing and investing
activities.
FFO and FFO per share as disclosed by other REITs may not be comparable to our calculation of FFO and FFO
per share as described below. However, you should be aware that FFO and FFO per share are non-GAAP financial
measures and therefore do not represent net income or net income per share as defined by GAAP. Net income and
net income per share as defined by GAAP are the most relevant measures in determining our operating performance
because FFO and FFO per share include adjustments that investors may deem subjective, such as adding back
expenses such as depreciation and amortization. Furthermore, FFO per share does not depict the amount that accrues
directly to the stockholders’ benefit. Accordingly, FFO and FFO per share should never be considered as
alternatives to net income or net income per share as indicators of our operating performance.
Our calculation of FFO, which we believe is consistent with the calculation of FFO as defined by the National
Association of Real Estate Investment Trusts (“NAREIT”) and which appropriately excludes the cost of capital
improvements and related capitalized interest, is as follows:
• Net income (loss) computed in accordance with GAAP;
• Less dividends to holders of Preferred Stock and less excess of Preferred Stock redemption cost over
carrying value;
• Plus depreciation and amortization of assets uniquely significant to the real estate industry;
• Less gains, or plus losses, from sales of depreciable operating properties (but excluding impairment
losses ) and excluding items that are classified as extraordinary items under GAAP;
• Plus or minus adjustments for unconsolidated partnerships and joint ventures (to reflect funds from
operations on the same basis); and
• Plus or minus adjustments for depreciation and amortization and gains/(losses) on sales and minority
interest related to discontinued operations.
Further, in calculating FFO, we add back minority interest in the income from our Operating Partnership, which
we believe is consistent with standard industry practice for REITs that operate through an UPREIT structure. We
believe that it is important to present FFO on an as-converted basis since all of the Common Units not owned by the
Company are redeemable on a one-for-one basis for shares of our Common Stock.
Other REITs may not define FFO in accordance with the current NAREIT definition or may interpret the
current NAREIT definition differently than we do.
45
FFO and FFO per share for the years ended December 31, 2006, 2005 and 2004 are summarized in the
following table ($ in thousands, except per share amounts):
2006
2005
2004
Amount
Per
Share
Amount
Per
Share
Amount
Per
Share
Funds from operations:
Net income ................................................................................. $ 53,744
Dividends to preferred stockholders..........................................
Excess of Preferred Stock redemption cost over
carrying value.........................................................................
Net income applicable to common stockholders .......................
Add/(Deduct):
Depreciation and amortization of real estate assets...............
(Gains) on disposition of depreciable properties ...................
111,848
(17,063)
(1,803)
34,878 $ 0.62
1.82
(4,114) (0.06)
$ 62,458
(27,238)
$ 41,577
(30,852)
(4,272)
30,948 $ 0.58
-
10,725 $ 0.20
106,982
1.77
(7,692) (0.13)
105,967
1.77
(18,880) (0.31)
Minority interest from the Operating Partnership in
income/(loss) from operations ...........................................
1,621
-
(475)
-
(1,026)
-
Unconsolidated affiliates:
Depreciation and amortization of real estate assets...........
11,191
0.18
10,989
0.18
9,044
0.15
Discontinued operations:
Depreciation and amortization of real estate assets...........
(Gains) on disposition of depreciable properties ...............
3,386
0.06
(15,082) (0.25)
16,841
0.28
(34,128) (0.57)
25,339
0.42
(9,380) (0.16)
Minority interest from the Operating Partnership in
income from discontinued operations............................
-
Funds from operations............................................................... $ 145,285 $ 2.37
1,557
3,756
-
$ 127,221 $ 2.11
2,371
-
$ 124,160 $ 2.07
Weighted average shares outstanding (1) ...................................
61,362
60,301
60,024
(1) Includes assumed conversion of all potentially dilutive Common Stock equivalents.
46
ITEM 7A. 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 effects, but only indicators of reasonably possible effects. 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” and the Notes to Consolidated Financial Statements 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 credit facility bear interest at variable rates. Our long-term debt, which
consists of secured and unsecured long-term financings and the issuance of unsecured debt s ecurities, typically bears
interest at fixed rates although some loans bear interest at variable rates. Our interest rate risk management
objectives are 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. We had no
interest rate hedge contracts in effect at December 31, 2006.
As of December 31, 2006, we had $1,080.7 million of fixed rate debt outstanding. The estimated aggregate fair
market value of this debt at December 31, 2006 was $1,122.3 million. If interest rates increase by 100 basis points,
the aggregate fair market value of our fixed rate debt as of December 31, 2006 would decrease by approximately
$46.2 million. If interest rates decrease by 100 basis points, the aggregate fair market value of our fixed rate debt as
of December 31, 2006 would increase by approximately $49.7 million.
As of December 31, 2006, we had $384.4 million of variable rate debt outstanding. If the weighted average
interest rate on this variable rate debt is 100 basis points higher or lower during the 12 months ended
December 31, 2007, our interest expense would be increased or decreased approximately $3.8 million.
ITEM 8. FINANCIAL STATEMENTS
See page 57 for Index to Consolidated Financial Statements.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
47
ITEM 9A. CONTROLS AND PROCEDURES
GENERAL
The purpose of this section is to discuss the effectiveness of our disclosure controls and procedures and our
internal control over financial reporting. The statements in this section represent the conclusions of Edward J.
Fritsch, our President and Chief Executive Officer, and Terry L. Stevens, our Vice President and Chief Financial
Officer.
The CEO and CFO evaluations of our disclosure controls and procedures and our internal control over financial
reporting include a review of the objectives, design and operation of the controls and the effect of the controls on the
information generated for use in this Annual Report. We seek to identify data errors, control problems or acts of
fraud and confirm that appropriate corrective action, including process improvements, is undertaken. Our disclosure
controls and procedures and our internal control over financial reporting are also evaluated on an ongoing basis by
or through the following:
•
•
•
activities undertaken and reports issued by employees in our internal audit department;
quarterly sub-certifications by representatives from appropriate business and accounting functions to
support the evaluations of our controls and procedures;
other personnel in our finance and accounting organization;
• members of our internal disclosure committee; and
• members of the audit committee of our Board of Directors.
Our management, including our CEO and CFO, do not expect that our disclosure controls and procedures and
our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how
well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control
system are met. Further, the design of disclosure controls and procedures and internal control over financial
reporting must reflect the fact that there are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent
limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur
because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some
persons, by collusion of two or more people, or by management override of the control. The design of any system of
controls also is based in part upon assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential future conditions.
MANAGEMENT’S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is required to establish and maintain internal control over financial reporting designed to
provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepting accounting principles. As defined in Rule
13a -15(f) under the Exchange Act, internal control over financial reporting includes those policies and procedures
that:
•
•
•
pertain to the maintenance of records that in reasonable detail accurately and fairly reflect our transactions
and dispositions of assets;
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepting accounting principles, and that receipts and expenditures
are being made only in accordance with authorizations of management and directors; and
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or
disposition of our assets that could have a material effect on the financial statements.
48
Under the supervision of our CEO and CFO, our management conducted an evaluation of the effectiveness of
our internal control over financial reporting as of December 31, 2006 based on the criteria established in Internal
Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
A material weakness is a significant deficiency, or a combination of significant deficiencies, that results in more
than a remote likelihood that a material misstatement of the annual or interim financial statements will not be
prevented or detected.
Our management has determined that material weaknesses existed as of December 31, 2006 in the internal
control environment associated with accounting for real estate assets. Specifically, the following material
weaknesses were identified as of such date:
First, the design and operation of our controls were not effective to reasonably assure compliance with generally
accepting accounting principles related to the proper accrual of in-process tenant improvements, building
improvements and new development completion costs that were incurred as of the reporting date but for which the
related invoices were received after the reporting date. This could result in material errors in balance sheet accounts
in our consolidated financial statements such as understatements of building and tenant improvements, development
in process, accounts payable, accrued expenses and other liabilities.
Second, the design and operation of our controls were not effective to reasonably assure compliance with
generally accepting accounting principles related to the proper accrual of tenant improvements that were constructed
by tenants but for which we are required to reimburse such tenants upon submis sion of proper documentation under
the terms of the lease. This could result in material errors in our consolidated financial statements, such as
understatements of building and tenant improvements, accounts payable, accrued expenses, other liabilities and
depreciation expense.
Third, the controls related to the consistent preparation and timely review of real estate asset account
reconciliations were not operating effectively to reasonably assure the discovery of potential errors. This could
result in material errors in real estate assets and depreciation and amortization expense in our consolidated financial
statements.
As a result of these identified material weaknesses, our management has concluded that, as of
December 31, 2006, our internal control over financial reporting was not effective. Deloitte & Touche LLP, our
independent registered public accounting firm, has issued their attestation report, which is included below, on
management’s assessment of our internal control over financial reporting and the effectiveness of our internal
control over financial reporting as of December 31, 2006.
49
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
Highwoods Properties, Inc.
Raleigh, North Carolina
We have audited management's assessment, included in the accompanying Management’s Annual Report on
Internal Control Over Financial Reporting, that Highwoods Properties, Inc. and subsidiaries (the “Company”) did
not maintain effective internal control over financial reporting as of December 31, 2006, because of the effect of the
material weaknesses identified in management's assessment based on criteria established in Internal Control—
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The
Company's management is responsible for maintaining effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an
opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over
financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in all material respects. Our audit
included obtaining an understanding of internal control over financial reporting, evaluating management's
assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such
other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinions.
A company's internal control over financial reporting is a process designed by, or under the supervision of, the
company's principal executive and principal financial officers, or persons performing similar functions, and effected
by the company's board of directors, management, and other personnel to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of the company are being made only in
accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that
could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of
collusion or improper management override of controls, material misstatements due to error or fraud may not be
prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal
control over financial reporting to future periods are subject to the risk that the controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
A material weakness is a significant deficiency, or combination of significant deficiencies, that results in more
than a remote likelihood that a material misstatement of the annual or interim financial statements will not be
prevented or detected.
Management has determined that material weaknesses existed as of December 31, 2006 in the internal control
environment associated with accounting for real estate assets. Specifically, the following material weaknesses were
identified as of such date:
First, the design and operation of the Company’s controls were not effective to reasonably assure compliance
with generally accepted accounting principles related to the proper accrual of in-process tenant improvements,
building improvements and new development completion costs that were incurred as of the reporting date but for
which the related invoices were received after the reporting date. This could result in material errors in balance sheet
accounts in the Company’s consolidated financial statements such as understatements of building and tenant
improvements, development in process, accounts payable, accrued expenses and other liabilities.
50
Second, the design and execution of the Company’s controls were not effective to reasonably assure compliance
with generally accepted accounting principles related to the proper accrual of tenant improvements that were
constructed by tenants but for which the Company is required to reimburse such tenants upon submission of proper
documentation under the terms of the lease. This could result in material errors in the Company’s consolidated
financial statements, such as understatements of building and tenant improvements, accounts payable, accrued
expenses, other liabilities and depreciation expense.
Third, the controls related to the consistent preparation and timely review of real estate asset account
reconciliations were not operating effectively to reasonably assure the discovery of potential errors. This could result
in material errors in real estate assets and depreciation and amortization expense in the Company’s consolidated
financial statements.
These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied
in our audit of the consolidated financial statements as of and for the year ended December 31, 2006, of the
Company and this report does not affect our report on such financial statements.
In our opinion, management's assessment that the Company did not maintain effective internal control over
financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on the criteria established
in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Also in our opinion, because of the effect of the material weaknesses described above on the
achievement of the objectives of the control criteria, the Company has not maintained effective internal control over
financial reporting as of December 31, 2006, based on the criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board
(United States), the consolidated financial statements as of and for the year ended December 31, 2006, of the
Company and our report dated March 1, 2007 expressed an unqualified opinion on those financial statements and
includes an explanatory paragraph relating to the Company’s change in its method of accounting for share-based
payments, effective January 1, 2006, to conform to Statement of Financial Accounting Standards No. 123(R), Share-
Based Payment, and the Company’s change in its method of accounting for joint ventures, effective January 1, 2006,
to conform to Emerging Issues Task Force Issue No. 04-5, Determining Whether a General Partner or the General
Partners as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain
Rights.
/s/ Deloitte & Touche LLP
Raleigh, North Carolina
March 1, 2007
51
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
In our Annual Report on Form 10-K for the year ended December 31, 2005, we reported the existence of
material weaknesses as of December 31, 2005 in the design of our real estate fixed asset and lease incentive
accounting processes, the design of our journal entry approval process and relating to our use of and dependence
upon manually prepared spreadsheets in accumulating and consolidating our prior restatement adjustments. In our
Quarterly Report on Form 10-Q for the three months ended September 30, 2006, we reported the discovery of an
additional control deficiency relating to the proper classification of assets held for sale under SFAS No. 144 that
existed at September 30, 2006 that could have resulted in a material misstatement of our financial statements had it
not been discovered prior to the filing of such Quarterly Report. Although we were not required to, nor did we,
undertake the procedures necessary to include a management’s report on the effectiveness of our internal control
over financial reporting as of September 30, 2006, we reported that management believed that such a control
deficiency constituted a material weakness.
We implemented various changes and improvements to our internal control over financial reporting in 2006.
We designed and implemented a quarterly process to reasonably assure that amounts spent on completed tenant
improvement jobs are accrued, classified and closed at the lease start date. Additionally, we improved our written
policies by including a more detailed and formal description of which tenant-related costs should be accounted for as
lease incentives and educated relevant accounting and division personnel to reasonably assure the proper
identification and classification of lease incentive costs. We also eliminated our use of and dependence upon
manually prepared spreadsheets in accumulating and consolidating restatement adjustments recorded in connection
with our historical financial statements by recording in our general ledger all of the restatement adjustments related
to our amended 2003 Annual Report and our 2004 Annual Report on Form 10-K (including ongoing effects of such
adjustments to balances subsequent to December 31, 2004), which eliminated the likelihood of errors in our
consolidated financial statements that resulted from our reliance upon such manually prepared spreadsheets in the
financial statement close process. We also implemented improvements to our journal entry review and approval
processes and enhanced controls over the recording and deleting of journal entries in our general ledger system to
reduce the likelihood of potential material errors in our financial statements. We also implemented revised approval
procedures over signing of construction contracts and change orders to provide reasonable assurance that such
matters are approved by management at appropriate levels in the Company. We also developed and implemented
additional procedures to ensure the proper classification of assets held for sale under SFAS No. 144 prior to the
completion of our fourth quarter financial statement close process.
We determined that, as a result of the foregoing activities, we have remediated as of December 31, 2006 the
following material weaknesses that existed as of December 31, 2005: (a) material weaknesses in the design of our
fixed asset accounting processes with regard to completed tenant improvement jobs and our lease incentive
accounting processes; (b) material weaknesses relating to our use of and dependence upon manually prepared
spreadsheets in accumulating and consolidating our prior restatement adjustments, (c) material weaknesses in the
design of our journal entry approval process; and (d) material weaknesses in controls to ensure the signing of
construction contracts and change orders by management at appropriate levels. Additionally, we determined that we
have remediated as of December 31, 2006 the control deficiency that management believed constituted a material
weakness as of September 30, 2006 relating to the proper classification of assets held for sale under SFAS No. 144.
During 2007, we plan to undertake additional activities to improve the internal control environment associated
with accounting for real estate assets and remediate the remaining material weaknesses des cribed above that existed
as of December 31, 2006. First, we are currently converting from a supplemental software package used to calculate
depreciation to the depreciation module contained within our general ledger package. This conversion will
eliminate the need to reconcile the supplemental system to the general ledger and enhance the effectiveness of our
fixed asset account reconciliations. Second, we plan to use our centralized lease approval software to identify and
properly account for all tenant improvements undertaken by tenants. Third, we plan to use our centralized invoice
approval software to process all invoices related to in-process building improvements, tenant improvements and new
development completion costs to reasonably assure that such expenses are identified and properly accrued in our
consolidated financial statements on a timely basis. Fourth, we are developing and implementing a Company-wide
policy and procedures manual for use by our divisional and accounting staff, intended to reasonably assure
consistent and appropriate assessment and application of generally accepting accounting principles. Fifth, we are
continuing our search to fill our newly created Chief Accounting Officer position. Our management is working
closely with the audit committee to monitor our ongoing efforts to improve our internal control over financial
reporting.
52
DISCLOSURE CONTROLS AND PROCEDURES
SEC rules also require us to maintain disclosure controls and procedures that are designed to ensure that
information required to be disclosed in our annual and periodic reports filed with the SEC is recorded, processed,
summarized and reported within the time periods specified in the SEC’s rules and forms. As defined in Rule 13a-
15(e) under the Exchange Act, disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by us is accumulated and communicated to
our management, including our CEO and CFO, to allow timely decisions regarding required disclosure. As
described above, since our internal control over financial reporting was not effective at December 31, 2006, our
CEO and CFO do not believe that our disclosure controls and procedures were effective at the end of the period
covered by this Annual Report.
ITEM 9B. OTHER INFORMATION
None.
53
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Information about our executive officers and directors and the code of ethics that applies to our chief executive
officer and our senior financial officers, which is posted on our website, is incorporated herein by reference to the
Company’s Proxy Statement to be filed in connection with our annual meeting of stockholders to be held on
May 18, 2007. See Item X in Part I of this Annual Report for biographical information regarding our executive
officers.
ITEM 11. EXECUTIVE COMPENSATION
Information about the compensation of our directors and executive officers is incorporated herein by reference
to the Company’s Pro xy Statement to be filed in connection with our annual meeting of stockholders to be held on
May 18, 2007.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Information about the beneficial ownership of our Common Stock and our equity compensation plans is
incorporated herein by reference to the Company’s Proxy Statement to be filed in connection with our annual
meeting of stockholders to be held on May 18, 2007.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE
Information about certain relationships and related transactions and the independence of our directors is
incorporated herein by reference to the Company’s Proxy Statement to be filed in connection with our annual
meeting of stockholders to be held on May 18, 2007.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information about fees paid to and services provided by our independent registered public accounting firms is
incorporated herein by reference to the Company’s Proxy Statement to be filed in connection with our annual
meeting of stockholders to be held on May 18, 2007.
54
PART IV
ITEM 15. EXHIBITS
FINANCIAL STATEMENTS
Reference is made to the Index of Financial Statements on page 57 for a list of the consolidated financial
statements included in this report.
Exhibit
Description of Document
EXHIBITS
3.1
3.2
4.1
4.2
4.3
10.1
10.2
10.3
10.4
10.5
10.6
10.7
10.8
Amended and Restated Articles of Incorporation of the Company (filed as part of the Company's
Current Report on Form 8-K dated September 25, 1997 and amended by articles supplementary
filed as part of the Company's Current Report on Form 8-K dated October 4, 1997 and articles
supplementary filed as part of the Company's Current Report on Form 8-K dated April 20, 1998)
Amended and Restated Bylaws of the Company (filed as part of the Company’s Annual Report on
Form 10-K for the year ended December 31, 2004)
Indenture among the Operating Partnership, the Company and First Union National Bank of North
Carolina dated as of December 1, 1996 (filed as part of the Operating Partnership's Current Report
on Form 8-K dated December 2, 1996)
Rights Agreement, dated as of October 6, 1997, between the Company and First Union National
Bank, as rights agent (filed as part of the Company's Current Report on Form 8-K dated
October 4, 1997)
Amendment No. 1, dated as of October 7, 2003, to the Rights Agreement, dated as of
October 7, 1997, between the Company and Wachovia Bank, N.A., as rights agent (filed as part of
the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2003)
Second Restated Agreement of Limited Partnership, dated as of January 1, 2000, of the Operating
Partnership (filed as part of the Company’s Annual Report on Form 10-K for the year ended
December 31, 2004)
Amendment No. 1, dated as of July 22, 2004, to the Second Restated Agreement of Limited
Partnership, dated as of January 1, 2000, of the Operating Partnership (filed as part of the
Company’s Annual Report on Form 10-K for the year ended December 31, 2004)
Amended and Restated 1994 Stock Option Plan (filed as part of the Company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 2002)
Form of Executive Supplemental Employment Agreement between the Company and Named
Executive Officers (filed as part of the Company's Annual Report on Form 10-K for the year
ended December 31, 1998)
Form of warrants to purchase Common Stock of the Company issued to former shareholders of
Associated Capital Properties, Inc. (filed as part of the Company’s Annual Report on Form 10-K
for the year ended December 31, 1997)
1999 Shareholder Value Plan (filed as part of the Company's Annual Report on Form 10-K for the
year ended December 31, 1999)
2005 Shareholder Value Plan (filed as part of the Company’s Annual Report on Form 10-K for the
year ended December 31, 2004)
Credit Agreement among the Operating Partnership, the Company, the Subsidiaries named therein
and the Lender named therein, dated May 1, 2006 (filed as part of the Company’s Current Report
on Form 8-K dated May 1, 2006)
55
Exhibit
Description of Document
10.9
21
23.1
23.2
31.1
31.2
32.1
32.2
Amendment to Credit Agreement among the Operating Partnership, the Company, the
Subsidiaries named therein and the Lender named therein, dated August 8, 2006 (filed as part of
the Company’s Current Report on Form 8-K dated August 8, 2006)
Schedule of subsidiaries of the Company (filed as part of the Company’s Annual Report on Form
10-K for the year ended December 31, 2004)
Consent of Ernst & Young LLP
Consent of Deloitte & Touche LLP
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act
56
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Reports of Independent Registered Public Accounting Firms ........................................................................
Consolidated Financial Statements:
Consolidated Balance Sheets as of December 31, 2006 and 2005.........................................................
Consolidated Statements of Income for the Years Ended December 31, 2006, 2005 and
2004...........................................................................................................................................................
Consolidated Statements of Stockholders' Equity for the Years Ended
December 31, 2006, 2005 and 2004 ....................................................................................................
Consolidated Statements of Cash Flows for the Years Ended December 31, 2006, 2005
and 2004 ...................................................................................................................................................
Notes to Consolidated Financial Statements..............................................................................................
58
60
61
62
63
65
57
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
Highwoods Properties, Inc.
Raleigh, North Carolina
We have audited the accompanying consolidated balance sheets of Highwoods Properties, Inc. and subsidiaries
(the “Company”) as of December 31, 2006 and 2005, and the related consolidated statements of income,
stockholders' equity, and cash flows for each of the two years in the period ended December 31, 2006. These
financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion
on the financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial
position of Highwoods Properties, Inc. and subsidiaries as of December 31, 2006 and 2005, and the results of their
operations and their cash flows for each of the two years in the period ended December 31, 2006, in conformity with
accounting principles generally accepted in the United States of America.
As discussed in Note 1 to the consolidated financial statements, effective January 1, 2006, the Company
changed its method of accounting for share-based payments to conform to Statement of Financial Accounting
Standards No. 123(R), Share-Based Payment, and changed its method of accounting for joint ventures to conform to
Emerging Issues Task Force Issue No. 04-5, Determining Whether a General Partner or the General Partners as a
Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights.
the effectiveness of
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board
(United States),
internal control over financial reporting as of
December 31, 2006, based on the criteria established in Internal Control—Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 1, 2007
expressed an unqualified opinion on management’s assessment of the effectiveness of the Company’s internal
control over financial reporting and an adverse opinion on the effectiveness of the Company’s internal control over
financial reporting.
the Company's
/s/ Deloitte & Touche LLP
Raleigh, North Carolina
March 1, 2007
58
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
Highwoods Properties, Inc.
We have audited the accompanying consolidated statements of income, stockholders’ equity, and cash flows of
Highwoods Properties, Inc. for the year ended December 31, 2004. These financial statements are the responsibility
of the Company’s management. Our responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated
results of operations and cash flows of Highwoods Properties, Inc. for the year ended December 31, 2004, in
conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
Raleigh, North Carolina
March 1, 2007
59
HIGHWOODS PROPERTIES, INC.
Consolidated Balance Sheets
(in thousands, except share and per share data)
Assets:
Real estate and related assets, at cost:
Land .......................................................................................................................
Buildings and tenant improvements.......................................................................
Development in process.........................................................................................
Land held for development ....................................................................................
Furniture, fixtures and equipment ..........................................................................
Less – accumulated depreciation .......................................................................
Net real estate assets......................................................................................
Real estate and other assets, net, held for sale ...........................................................
Cash and cash equivalents..........................................................................................
Restricted cash ...........................................................................................................
Accounts receivable, net of allowance of $1,253 and $1,618, respectively ..............
Notes receivable, net of allowance of $786 and $876, respectively ..........................
Accrued straight-line rents receivable, net of allowance
of $301 and $609, respectively ..............................................................................
Investments in unconsolidated affiliates ....................................................................
Deferred financing and leasing costs, net ..................................................................
Prepaid expenses and other assets..............................................................................
Total Assets................................................................................................
Liabilities, Minority Interest and Stockholders’ Equity:
Mortgages and notes payable.....................................................................................
Accounts payable, accrued expenses and other liabilities .........................................
Financing obligations.................................................................................................
Total Liabilities ..............................................................................................
Commitments and contingencies (see Note 15)
Minority interest.........................................................................................................
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
December 31, 2006 and 2005 ........................................................................
8% Series B Cumulative Redeemable Preferred Shares (liquidation
preference $25 per share), 3,700,000 and 5,700,000 shares issued and
outstanding at December 31, 2006 and 2005, respectively............................
Common stock, $.01 par value, 200,000,000 authorized shares; 56,211,148
and 54,028,507 shares issued and outstanding at December 31, 2006
and 2005, respectively........................................................................................
Additional paid-in capital.......................................................................................
Distributions in excess of net earnings ..................................................................
Accumulated other comprehensive loss.................................................................
Deferred compensation ..........................................................................................
Total Stockholders’ Equity............................................................................
Total Liabilities, Minority Interest and Stockholders’ Equity...................
December 31,
2006
2005
$
345,548
2,573,032
101,899
112,760
23,695
3,156,934
(608,612)
2,548,322
34,166
16,690
2,027
23,347
7,871
68,364
60,359
66,352
17,355
$ 2,844,853
$
341,094
2,499,419
28,727
142,717
22,467
3,034,424
(555,506)
2,478,918
177,235
1,212
16,223
24,201
9,232
60,349
69,247
59,059
13,302
$ 2,908,978
$ 1,465,129
156,737
35,530
1,657,396
$ 1,471,616
127,455
34,154
1,633,225
79,726
94,134
104,945
104,945
92,500
142,500
562
1,449,337
(538,098)
(1,515)
-
1,107,731
$ 2,844,853
540
1,419,683
(479,901)
(2,212)
(3,936)
1,181,619
$ 2,908,978
See accompanying notes to consolidated financial statements.
60
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Income
(in thousands, except per share amounts)
Rental and other revenues.......................................................................
$
Operating expenses:
Rental property and other expenses .......................................................
Depreciation and amortization...............................................................
Impairment of assets held for use..........................................................
General and administrative ....................................................................
Total operating expenses....................................................................
Interest expense:
Contractual.............................................................................................
Amortization of deferred financing costs...............................................
Financing obligations.............................................................................
Other income/(expense):
Interest and other income.......................................................................
Settlement of tenant bankruptcy claims .................................................
Loss on debt extinguishments................................................................
Income/(loss) before disposition of property, minority interest
and equity in earnings of unconsolidated affiliates...........................
Gains on disposition of property, net.....................................................
Minority interest.....................................................................................
Equity in earnings of unconsolidated affiliates ......................................
Income from continuing operations........................................................
Discontinued operations:
Income from discontinued operations, net of minority interest.........
Gains, net of impairments, on sales of discontinued operations,
net of minority interest, including a gain from related party
transactions of $4,816 in 2005......................................................
Net income.................................................................................................
Dividends on preferred stock.................................................................
Excess of preferred stock redemption cost over carrying value ............
Net income available for common stockholders ....................................
Net income per common share – basic:
Income/(loss) from continuing operations.............................................
Income from discontinued operations....................................................
Net income .........................................................................................
Weighted average common shares outstanding – basic.........................
Net income per common share – diluted:
Income/(loss) from continuing operations.............................................
Income from discontinued operations....................................................
Net income .........................................................................................
Weighted average common shares outstanding – diluted......................
Dividends declared per common share.......................................................
$
$
$
$
$
$
Years Ended December 31,
2005
396,075
$
$
2006
416,798
153,592
114,935
2,600
37,309
308,436
94,229
2,375
4,162
100,766
7,010
1,581
(494)
8,097
15,693
16,157
(2,226)
6,841
36,465
3,421
13,858
17,279
53,744
(17,063)
(1,803)
34,878
0.32
0.32
0.64
54,489
0.31
0.31
0.62
61,362
141,575
109,616
7,587
33,063
291,841
98,677
3,372
5,032
107,081
7,078
-
(453)
6,625
3,778
14,172
475
9,303
27,728
11,504
23,226
34,730
62,458
(27,238)
(4,272)
30,948
(0.07)
0.65
0.58
53,732
(0.07)
0.65
0.58
53,732
$
$
$
$
$
$
$
$
$
$
2004
389,587
137,879
108,846
-
41,485
288,210
104,768
3,698
9,999
118,465
6,094
14,435
(12,457)
8,072
(9,016)
21,636
1,026
7,398
21,044
17,750
2,783
20,533
41,577
(30,852)
-
10,725
(0.18)
0.38
0.20
53,323
(0.18)
0.38
0.20
53,323
1.70
$
1.70
$
1.70
See accompanying notes to consolidated financial statements.
61
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Stockholders' Equity
(in thousands, except share amounts)
For the Years Ended December 31, 2006, 2005 and 2004
Accumulated
Other Distributions
Number of
Common Common Series A
Shares Stock Preferred Preferred Preferred Capital
Additional Deferred Compre-
Paid-In Compen- hensive
Loss
sation
Series D
Series B
535 $ 104,945 $ 172,500 $ 100,000 $ 1,408,277 $ (4,469) $ (3,650)
-
3,270
-
2
-
-
-
in Excess
of Net
Earnings
Total
$ (338,605) $ 1,439,533
3,272
-
-
(91,198)
(30,852)
1,404
(91,198)
(30,852)
-
-
-
(883)
-
-
-
-
-
-
1
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
1,404
-
-
(883)
-
-
-
-
2,806
(2,807)
1,256
(1,256)
-
-
-
-
-
-
538
1
-
-
104,945
-
-
-
172,500
-
-
-
100,000 1,416,130
1,649
-
-
-
-
-
4,421
-
-
(4,111)
-
-
-
-
836
-
(2,814)
-
-
-
-
-
41,577
4,421
836
41,577
(419,078)
-
(91,771)
(27,238)
1,368,110
1,650
(91,771)
(27,238)
-
1
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
(4,916)
-
1,316
(1,317)
(30,000)
(100,000)
4,272
-
1,232
(1,232)
-
-
-
-
-
-
(4,916)
-
(4,272)
(130,000)
-
-
-
-
-
-
-
-
-
-
-
-
-
2,724
-
-
-
602
-
-
-
62,458
2,724
602
62,458
540
104,945
142,500
- 1,419,683
(3,936)
(2,212)
(479,901)
1,181,619
-
21
-
-
-
-
-
-
1
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
(50,000)
-
-
-
(3,936)
42,784
3,936
-
-
-
-
-
-
-
(14,726)
-
-
-
-
-
-
1,803
3,729
-
-
-
-
-
-
-
-
-
-
-
-
-
(93,075)
(17,063)
-
42,805
-
(93,075)
(17,063)
-
-
(14,726)
-
(1,803)
(50,000)
-
697
-
-
-
53,744
3,730
697
53,744
-
-
-
-
-
-
-
-
-
562 $ 104,945 $ 92,500 $
- $ 1,449,337 $
- $ (1,515)
$ (538,098) $ 1,107,731
See accompanying notes to consolidated financial statements.
62
Balance at
December 31, 2003........... 53,474,403 $
Issuance of Common Stock.....
173,313
Conversion of Common Units
to Common Stock .............
Common Stock dividends.......
Preferred Stock dividends.......
Adjustment to minority
54,308
-
-
interest of unitholders in the
Operating Partnership ........
Issuance of restricted
-
stock, net.........................
111,398
-
Fair market value of options
granted............................
Amortization of restricted stock
and stock options..............
Other comprehensive income ..
Net income ..........................
Balance at
December 31, 2004........... 53,813,422
109,528
Issuance of Common Stock.....
-
Common Stock dividends.......
-
Preferred Stock dividends.......
Adjustment to minority
-
-
-
interest of unitholders in the
Operating Partnership ........
Issuance of restricted
-
stock, net.........................
105,557
-
-
Redemption of Preferred
Stock ..............................
Fair market value of options
granted............................
Amortization of restricted stock
and stock options..............
Other comprehensive income ..
Net income ..........................
Balance at
December 31, 2005 .......... 54,028,507
Reversal of unvested
deferred compensation as
a result of the adoption
of SFAS No. 123(R)..........
-
Issuance of Common Stock..... 1,975,628
Conversion of warrants to
-
-
-
shares .............................
Common Stock dividends.......
Preferred Stock dividends.......
Adjustment to minority
interest of unitholders in the
Operating Partnership ........
Issuance of restricted
83,941
-
-
-
stock, net.........................
123,072
Redemption of Preferred
Stock ..............................
Amortization of restricted stock
and stock options..............
Other comprehensive income ..
Net income ..........................
Balance at
December 31, 2006 .......... 56,211,148 $
-
-
-
-
-
-
-
-
-
-
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Cash Fl ows
(in thousands)
Operating activities:
Net income .................................................................................................
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation.......................................................................................
Amortization of lease commissions ...................................................
Amortization of lease incentives ........................................................
Impairment of assets held for use......................................................
Amortization of stock-based compensation.......................................
Amortization of deferred financing costs...........................................
Amortization of accumulated other comprehensive loss ...................
Loss on debt extinguishments............................................................
Gains, net of impairments, on disposition of property.......................
Minority interest.................................................................................
Equity in earnings of unconsolidated affiliates ..................................
Change in financing obligations ........................................................
Distributions of earnings from unconsolidated affiliates ...................
Changes in operating assets and liabilities:
Accounts receivable, net ................................................................
Prepaid expenses and other assets..................................................
Accrued straight-line rents receivable............................................
Accounts payable accrued expenses and other liabilities ..............
Net cash provided by operating activities ..................................
Investing activities:
Additions to real estate assets and deferred leasing costs......................
Proceeds from disposition of real estate assets......................................
Distributions of capital from unconsolidated affiliates ..........................
Net repayments of notes receivable .......................................................
Cash assumed upon consolidation of unconsolidated affiliates .............
Contributions to unconsolidated affiliates .............................................
Other investing activities .......................................................................
Net cash provided by investing activities ..................................
Financing activities:
Distributions paid on common stock and common units.......................
Dividends paid on preferred stock.........................................................
Distributions paid to minority interest partner.......................................
Net proceeds from the sale of common stock........................................
Repurchases of common units ...............................................................
Redemptions of preferred stock.............................................................
Borrowings on revolving credit facility.................................................
Repayments of revolving credit facility.................................................
Borrowings on mortgages and notes payable ........................................
Repayments of mortgages and notes payable ........................................
Payments on financing obligations ........................................................
Additions to deferred financing costs ....................................................
Contributions from minority interest partner.........................................
Payments on debt extinguishments........................................................
Net cash used in financing activities ..........................................
Years Ended December 31,
2005
2006
2004
$
53,744
$
62,458
$
41,577
103,775
14,546
828
2,600
3,730
2,375
697
494
(31,239)
3,783
(6,841)
1,191
7,748
2,805
(3,626)
(8,592)
(2,493)
145,525
(222,030)
260,221
11,888
1,361
645
(100)
12,749
64,734
(101,783)
(17,063)
(737)
42,805
(26,482)
(50,000)
662,000
(479,000)
68,625
(289,188)
(863)
(3,855)
760
-
(194,781)
110,851
15,606
879
7,587
2,724
3,372
703
453
(39,926)
3,281
(9,303)
212
8,965
(8,768)
(1,495)
(7,496)
4,030
154,133
(167,763)
370,931
4,819
4,399
-
-
(11,461)
200,925
(101,483)
(27,238)
-
1,650
(11,318)
(130,000)
152,500
(132,000)
38,287
(167,075)
(775)
(621)
-
(255)
(378,328)
117,605
16,580
966
1,770
4,421
3,698
757
12,457
(24,742)
1,345
(7,398)
2,719
6,775
32
481
(7,401)
940
172,582
(126,995)
174,132
9,156
1,399
-
(9,866)
362
48,188
(101,643)
(30,852)
-
3,272
(1,165)
-
403,500
(288,500)
15,490
(140,375)
(63,187)
(2,067)
-
(12,457)
(217,984)
Net increase/(decrease) in cash and cash equivalents................................
Cash and cash equivalents at beginning of the year...................................
Cash and cash equivalents at end of the year.............................................
15,478
1,212
16,690
(23,270)
24,482
1,212
$
$
2,786
21,696
24,482
$
See accompanying notes to consolidated financial statements.
63
HIGHWOODS PROPERTIES, INC.
Consolidated Statements of Cash Flows - Continued
(in thousands)
Supplemental disclosure of cash flow information:
Cash paid for interest, net of amounts capitalized (excludes cash
distributions to owners of sold properties accounted for as
financings of $1,614, $3,454 and $5,785 for 2006, 2005
and 2004, respectively)..........................................................................
$
96,284
$
100,761
$
106,445
Years Ended December 31,
2005
2006
2004
Supplemental disclosure of non-cash investing and financing activities:
The following table summarizes the net asset acquisitions and dispositions subject to mortgage notes payable
and other non-cash transactions:
Assets:
Net real estate assets...................................................................................
Restricted cash............................................................................................
Accounts receivable....................................................................................
Notes receivable..........................................................................................
Accrued straight-line rents receivable ........................................................
Investment in unconsolidated affiliates ......................................................
Deferred leasing costs, net..........................................................................
Prepaid and other........................................................................................
Liabilities:
Mortgages and notes payable......................................................................
Accounts payable, accrued expenses and other liabilities ..........................
Financing obligation ...................................................................................
Minority Interest and Stockholders’ Equity:.........................................
Years Ended December 31,
2005
2006
2004
$
$
$
$
$
34,852
(1,865)
102
-
962
(1,938)
287
-
32,400
31,076
(1,652)
1,048
30,472
1,928
$
$
$
$
$
(20,674)
2,500
10
-
(434)
1,553
(61)
(268)
(17,374)
7,330
12,277
(30,218)
(10,611)
(6,763)
$
$
$
$
$
(147,202)
-
-
1,055
-
11,131
260
(104)
(134,860)
(135,815)
955
-
(134,860)
-
See accompanying notes to consolidated financial statements.
64
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Description of Business
Highwoods Properties, Inc., together with its consolidated subsidiaries (the "Company"), is a fully-integrated,
self-administered and self-managed equity real estate investment trust ("REIT") that operates in the southeastern and
midwestern United States. The Company conducts substantially all of its activities through Highwoods Realty
Limited Partnership (the “Operating Partnership”). Other than 22.4 acres of undeveloped land, 13 rental residential
units and the Company’s interest in the Kessinger/Hunter, LLC and 4600 Madison Associates, LLC joint ventures
(see Note 2 to the Consolidated Financial Statements), all of the Company’s assets are owned directly or indirectly
by the Operating Partnership.
The Company is the sole general partner of the Operating Partnership. At December 31, 2006, the Company
owned all of the preferred partnership interests (“Preferred Units”) and 92.2% 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. Each Common Unit is redeemable 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 of
Common Stock. In 2006, the Company redeemed 716,888 Common Units in cash, which increased the percentage
of Common Units owned by the Comp any from 90.8% at December 31, 2005 to 92.2% at December 31, 2006. In
2005, the Company redeemed 395,148 Common Units in cash and 256,508 Common Units in connection with the
sale of property (see Note 8), which increased the percentage of Common Units owned by the Company from 89.8%
at December 31, 2004 to 90.8% at December 31, 2005. Preferred Units in the Operating Partnership were issued to
the Company in connection with the Company’s Preferred Stock offerings in 1997 and 1998 (the “Preferred Stock”).
The net proceeds raised from each of the Preferred Stock issuances were contributed by the Company to the
Operating Partnership in exchange for the Preferred Units. The terms of each series of Preferred Units parallel the
terms of the respective Preferred Stock as to dividends, liquidation and redemption rights as more fully described in
Note 9.
As of December 31, 2006, the Company directly and/or through the Operating Partnership wholly owned: 322
in-service office, industrial and retail properties; 109 rental residential units; 719 acres of undeveloped land suitable
for future development, of which 435 acres are considered core holdings; and an additional 16 properties under
development. In addition, the Company owned interests (50.0% or less) in 70 in-service office and industrial
properties and 418 rental residential units, 50% interests in an office property developed in 2006 that had not yet
achieved stabilized occupancy and a for-rent residential project comprising 332 units. Five of the in-service office
properties are consolidated at December 31, 2006 as more fully described below and in Note 3 to the Consolidated
Financial Statements.
Basis of Presentation
The Consolidated Financial Statements of the Company are prepared in accordance with U.S. Generally
Accepted Accounting Principles (“GAAP”). As more fully described below and in Notes 4 and 12, as required by
SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” (“SFAS No. 144”), the
Consolidated Balance Sheet at December 31, 2005 and the Consolidated Statements of Income for the years ended
December 31, 2005 and 2004 were reclassified from previously reported amounts to reflect in real estate and other
assets held for sale and in discontinued operations the assets and operations for those properties sold or held for sale
in 2006 which qualified for discontinued operations presentation.
The Consolidated Financial Statements include the accounts of the Company, the Operating Partnership and
their majority and wholly owned subsidiaries. In accordance with EITF Issue No. 04-5, “Determining Whether a
General Partner or the General Partners as a Group, Controls a Limited Partnership or Similar Entity When the
Limited Partners Have Certain Rights” (“EITF 04-5”), the Company also consolidates less than majority-owned
partnerships, joint ventures and limited liability companies when the Company controls the major operating and
financial policies of the entity in its capacity as general partner or managing member and the limited partners or non-
managing members do not have substantive rights. In addition, the Company consolidates those entities, if any,
where the Company is deemed to be the primary beneficiary in a variable interest entity (as defined by FASB
Interpretation No. 46 (revised December 2003) “Consolidation of Variable Interest Entities” (“FIN 46(R)”)). All
intercompany transactions and accounts have been eliminated.
65
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Use of Estimates
The preparation of financial statements in accordance with GAAP requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results
could differ from those estimates.
Real Estate and Related Assets
Real estate and related assets are recorded at cost and stated at cost less accumulated depreciation. Renovations,
replacements and other expenditures that improve or extend the life of assets are capitalized and depreciated over
their estimated useful lives. Expenditures for ordinary maintenance and repairs are charged to operating expense as
incurred. Depreciation is computed using the straight-line method over the estimated useful life of 40 years for
buildings and depreciable land infrastructure costs, 15 years for building improvements and five to seven years for
furniture, fixtures and equipment. Tenant improvements are amortized using the straight-line method over initial
fixed terms of the respective leases, which generally are from three to 10 years.
Expenditures directly related to the development and construction of real estate assets are included in net real
estate assets and are stated at cost in the Consolidated Balance Sheets. The Company’s capitalization policy on
development properties is in accordance with SFAS No. 67, “Accounting for Costs and the Initial Rental Operations
of Real Estate Properties,” SFAS No. 34, “Capitalization of Interest Costs,” and SFAS No. 58, “Capitalization of
Interest Cost in Financial Statements That Include Investments Accounted for by the Equity Method.” Development
expenditures include pre-construction costs essential to the development of properties, development and
construction costs, interest costs, real estate taxes, salaries and related costs and other costs incurred during the
period of development. Interest and other carrying costs are capitalized until the building is ready for its intended
use. The Company considers a construction project as substantially completed and held available for occupancy
upon the completion of tenant improvements, but no later than one year from cessation of major construction
activity. The Company ceases capitalization on the portion substantially completed and occupied or held available
for occupancy and capitalizes only those costs associated with the portion under construction.
Expenditures directly related to the leasing of properties are included in deferred leasing costs and are stated at
cost in the Consolidated Balance Sheets. The Company capitalizes initial direct costs related to its leasing efforts in
accordance with SFAS No. 91 “Accounting for Nonrefundable Fees and Costs Associated with Originating or
Acquiring Loans and Initial Direct Costs of Leases.” All leasing commissions paid to third parties for new leases or
lease renewals are capitalized. Internal leasing costs include primarily compensation, benefits and other costs, such
as legal fees related to leasing activities, that are incurred in connection with successfully securing leases on the
properties. Capitalized leasing costs are amortized on a straight-line basis over the initial fixed terms of the
respective leases, which generally are from three to 10 years. At December 31, 2006 and 2005, gross deferred
leasing costs were $95.8 million and $86.7 million, respectively, and accumulated amortization was $37.0 million
and $34.4 million, respectively. Estimated costs related to unsuccessful activities are expensed as incurred. If the
Company’s assumptions regarding the successful efforts of leasing are incorrect, the resulting adjustments could
impact earnings.
The Company records liabilities under FASB Interpretation No. 47 “Accounting for Conditional Asset
Retirement Obligations, an interpretation of SFAS No. 143” (“FIN 47”) for the performance of asset retirement
activities when the obligation to perform such activities is unconditional, whether or not the timing or method of
settlement of the obligation may be conditional on a future event.
Upon the acquisition of real estate, the Company assesses the fair value of acquired tangible assets such as land,
buildings and tenant improvements, intangible assets such as above and below market leases, acquired in-place
leases and other identified intangible assets and assumed liabilities in accordance with SFAS No. 141, “Business
Combinations.” The Company allocates the purchase price to the acquired assets and assumed liabilities based on
their relative fair values. The Company assesses and considers fair value based on estimated cash flow projections
that utilize appropriate discount and/or capitalization rates as well as available market information. The fair value of
the tangible assets of an acquired property considers the value of the property as if it were vacant.
66
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Above and below market leases acquired are recorded in other assets at their fair value. Fair value is calculated
as the present value of the difference between (1) the contractual amounts to be paid pursuant to each in-place lease
and (2) management’s estimate of fair market lease rates for each corresponding in-place lease, using a discount rate
that reflects the risks associated with the leases acquired and measured over a period equal to the remaining term of
the lease for above-market leases and the initial term plus the term of any below-market fixed rate renewal options
for below-market leases. The capitalized above-market lease values are amortized as a reduction of base rental
revenue over the remaining term of the respective leases and the capitalized below-market lease values are
amortized as an increase to base rental revenue over the remaining term of the respective leases and any below
market option periods. If a tenant vacates its space prior to its contractual expiration date, any unamortized balance
is adjusted through rental revenue.
In-place leases acquired are recorded at their fair value in real estate and related assets and are amortized to
depreciation and amortization expense over the remaining term of the respective lease. The value of in-place leases
is based on the Company’s evaluation of the specific characteristics of each tenant’s lease. Factors considered
include estimates of carrying costs during hypothetical expected lease-up periods, current market conditions and
costs to execute similar leases. In estimating carrying costs, the Company includes real estate taxes, insurance and
other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods,
depending on local market conditions. In estimating costs to execute similar leases, the Company considers tenant
improvements, leasing commissions and legal and other related expenses. If a tenant vacates its space prior to its
contractual expiration date, any unamortized balance of its related asset is expensed.
The value of a tenant relationship is based on the Company’s overall relationship with the respective tenant.
Factors considered include the tenant’s credit quality and expectations of leas e renewals. The value of a tenant
relationship is amortized to depreciation and amortization expense over the initial term and any renewal periods
defined in the respective leases. Based on the Company’s acquisitions since the adoption of SFAS No. 141 and
SFAS No. 142, the Company has deemed tenant relationships to be immaterial and has not allocated any amounts to
this intangible asset. The Company will evaluate these items in future transactions.
Real estate and leasehold improvements are classified as long-lived assets held for sale or as long-lived assets to
be held for use. Real estate is classified as held for sale when the criteria set forth in SFAS No. 144 are satisfied; this
determination requires management to make estimates and assumptions, including assessing the probability that
potential sales transactions may or may not occur. Actual results could differ from those assumptions. In accordance
with SFAS No. 144, the Company records assets held for sale at the lower of the carrying amount or estimated fair
value. Fair value of assets held for sale is equal to the estimated or contracted sales price with a potential buyer, less
costs to sell. The impairment loss is the amount by which the carrying amount exceeds the estimated fair value. With
respect to assets classified as held for use, if events or changes in circumstances, such as a significant decline in
occupancy and change in use, indicate that the carrying value may be impaired, an impairment analysis is
performed. Such analysis consists of determining whether the asset’s carrying amount will be recovered from its
undiscounted estimated future operating cash flows, including estimated residual cash flows. These cash flows are
estimated based on a number of assumptions that are subject to economic and market uncertainties including, among
others, demand for space, competition for tenants, changes in market rental rates and costs to operate each property.
If the carrying amount of a held for use asset exceeds the sum of its undiscounted future operating and residual cash
flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the net
carrying amount. The Company generally estimates the fair value of assets held for use by using discounted cash
flow analysis; in some instances, appraisal information may be available and is used in addition to the discounted
cash flow analysis. As the factors used in generating these cash flows are difficult to predict and are subject to future
events that may alter the Company’s assumptions, the discounted and/or undiscounted future operating and residual
cash flows estimated by the Company in its impairment analyses or those established by appraisal may not be
achieved and the Company may be required to recognize future impairment losses on its properties held for sale and
held for use.
67
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Sales of Real Estate
The Company accounts for sales of real estate in accordance with SFAS No. 66, “Accounting for Sales of Real
Estate” (“SFAS No. 66”). For sales transactions meeting the requirements of SFAS No. 66 for full profit recognition,
the related assets and liabilities are removed from the balance sheet and the resultant gain or loss is recorded in the
period the transaction closes. For sales transactions that do not meet the criteria for full profit recognition, the
Company accounts for the transactions in accordance with the methods specified in SFAS No. 66. For sales
transactions with continuing involvement after the sale, if the continuing involvement with the property is limited by
the terms of the sales contract, profit is recognized at the time of sale and is reduced by the maximum exposure to
loss related to the nature of the continuing involvement. Sales to entities in which the Company has or receives an
interest are accounted for in accordance with partial sale accounting provisions as set forth in SFAS No. 66.
For sales transactions that do not meet sale criteria as set forth in SFAS No. 66, the Company evaluates the
nature of the continuing involvement, including put and call provisions, if present, and accounts for the transaction
as a financing arrangement, profit-sharing arrangement, leasing arrangement or other alternate method of
accounting, rather than as a sale, based on the nature and extent of the continuing involvement. Some transactions
may have numerous forms of continuing involvement. In those cases, the Company determines which method is
most appropriate based on the substance of the transaction.
If the Company has an obligation to repurchase the property at a higher price or at a future indeterminable value
(such as fair market value), or it guarantees the return of the buyer’s investment or a return on that investment for an
extended period, the Company accounts for such transaction as a financing transaction. If the Company has an
option to repurchase the property at a higher price and it is likely it will exercise this option, the transaction is
accounted for as a financing transaction. For transactions treated as financings, the Company records the amounts
received from the buyer as a financing obligation and continues to keep the property and related accounts recorded
on its books. The results of operations of the property, net of expenses other than depreciation (net operating
income), are reflected as “interest expense” on the financing obligation. If the transaction includes an obligation or
option to repurchase the asset at a higher price, additional interest is recorded to accrete the liability to the
repurchase price. For options or obligations to repurchase the asset at fair market value at the end of each reporting
period, the balance of the liability is adjusted to equal the current fair value to the extent fair value exceeds the
original financing obligation. The corresponding debit or credit will be recorded to a related discount account and
the revised debt discount is amortized over the expected term until termination of the option or obligation. If it is
unlikely such option will be exercised, the transaction is accounted for under the deposit method or profit-sharing
method. If the Company has an obligation or option to repurchase at a lower price, the transaction is accounted for
as a leasing arrangement. At such time as these repurchase obligations expire, a sale will be recorded and gain
recognized.
If the Company retains an interest in the buyer and provides certain rent guarantees or other forms of support
where the maximum exposure to loss exceeds the gain, the Company accounts for such transaction as a profit-
sharing arrangement. For transactions treated as profit-sharing arrangements, the Company records a profit-sharing
obligation for the amount of equity contributed by the other partner and continues to keep the property and related
accounts recorded on its books. The results of operations of the property, net of expenses other than depreciation
(net operating income), are allocated to the other partner for its percentage interest and reflected as “co-venture
expense” in the Company’s Consolidated Financial Statements. In future periods, a sale is recorded and profit is
recognized when the remaining maximum exposure to loss is reduced below the amount of gain deferred.
68
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Lease Incentives
The Company accounts for lease incentive costs, which are payments made to or on behalf of a tenant as an
incentive to sign the lease, in accordance with FASB Technical Bulletin (FTB) 88-1, “Issues Relating to Accounting
for Leases.” These costs are capitalized in deferred leasing costs and amortized on a straight-line basis over the
respective lease terms as a reduction of rental revenues.
Discontinued Operations
Properties that are sold or classified as held for sale are classified as discontinued operations in accordance with
SFAS No. 144 and EITF Issue No. 03-13, “Applying the Conditions of Paragraph 42 of FASB Statement No. 144 in
Determining Whether to Report Discontinued Operations,” (effective beginning in 2005) provided that (1) the
operations and cash flows of the property will be eliminated from the ongoing operations of the Company and (2)
the Company will not have any significant continuing involvement in the operations of the property after it is sold.
Interest expense is included in discontinued operations if the related loan securing the sold property is paid off or
assumed by the buyer in connection with the sale. If the property is sold to a joint venture in which the Company
retains an interest, the property will not be accounted for as a discontinued operation due to the Company’s
significant ongoing interest in the operations through its joint venture interest. If the Company is retained to provide
property management, leasing and/or other services for the property owner after the sale, the property generally will
be accounted for as discontinued operations because the expected cash flows related to these management and
leasing activities will generally not be significant in comparison to the cash flows from the property prior to sale.
Minority Interest
Minority interest in the accompanying Consolidated Financial Statements relates primarily to the ownership by
various individuals and entities other than the Company of Common Units in the Operating Partnership and,
beginning January 1, 2006 as described below, the 50.0% interest in a consolidated affiliate, Highwoods-Markel
Associates, LLC (“Markel”), and the 7.0% equity interest in two consolidated ventures formed during 2006 with
Real Estate Exchange Services (“REES”) as described below. As of December 31, 2006, the minority interest in the
Operating Partnership consisted of approximately 4.7 million Common Units. Minority interest in the net income of
the Operating Partnership is computed by applying the weighted average percentage of Common Units not owned
by the Company during the period (as a percent of the total number of outstanding Common Units) to the Operating
Partnership’s net income after deducting distributions on Preferred Units. The result is the amount of minority
interest expense (or income) recorded for the period. In addition, when a minority unitholder redeems a Common
Unit for a share of Common Stock or cash, the minority interest is reduced and the Company’s share in the
Operating Partnership is increased. At the end of each reporting period, the Company determines the amount that
represents the minority unitholders’ share of the net assets (at book value) of the Operating Partnership and
compares this amount to the minority interest balance that resulted from transactions during the period involving
minority interest. The Company adjusts the minority interest liability to the computed share of net assets with an
offsetting adjustment to the Company’s paid in capital.
Beginning January 1, 2006, the Company began to record minority interest upon consolidation of Markel, a
50.0% owned affiliate, as a result of the Company’s adoption of EITF Issue No. 04-5. Accordingly, the
Consolidated Balance Sheet at January 1, 2006 included approximately $44 million of real estate assets, net of
accumulated depreciation, and other assets, and approximately $39 million in mortgages and notes payable and other
liabilities, with the remaining effects primarily to investments in unconsolidated affiliates and to minority interest.
69
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
The organizational documents of Markel require the entity to be liquidated through the sale of its assets upon
reaching Decemb er 31, 2100. As controlling partner, the Company has an obligation to cause this property-owning
entity to distribute proceeds of liquidation to the minority interest partner in these partially owned properties only if
the net proceeds received by the entity from the sale of its assets warrant a distribution as determined by the
agreement. In accordance with the disclosure provisions of SFAS No. 150, “Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity” (“SFAS No. 150”), the Company estimates the value
of minority interest distributions would have been approximately $12.1 million had the entity been liquidated as of
December 31, 2006. This estimated settlement value is based on estimated third party consideration realizable by the
entity upon a hypothetical disposition of the properties and is net of all other assets and liabilities. The amount of
any actual distributions to the minority interest holder in this entity is difficult to predict due to many factors,
including the inherent uncertainty of real estate sales. If the entity’s underlying assets are worth less than the
underlying liabilities on the date of such liquidation, the Company would have no obligation to remit any
consideration to the minority interest holder.
In the fourth quarter of 2006, the Company entered into an agreement with REES to ground lease certain
development land to special purpose entities owned by REES. Under the agreement, REES will contribute 7% of the
costs of constructing properties on this land not to exceed $4.0 million outstanding at any time . REES will generally
earn an agreed fixed return for its economic investment in these entities. The balance of development costs will be
funded by third party construction loans. Until such third party construction loans are obtained, the remaining 93%
of costs are being loaned by the Company to the entities. Subject to the exercise of a purchase option, it is expected
that the properties will be acquired by the Company in the future at an amount generally equal to the actual
development costs incurred plus the fixed return earned by REES for its economic investment in these entities. As
the Company is considered the primary beneficiary, the Company consolidates these entities in accordance with FIN
46(R). These entities will be re-evaluated for primary beneficiary status when the entities undertake additional
activity, such as placing the development projects in-service. REES’s investment in the entities is included in
minority interest as shown in the tables below. All costs to form the entities and other related fees have been
expensed as incurred.
Following is minority interest as reflected in the Company’s Consolidated Statements of Income and
Consolidated Balance Sheets:
Amount shown as minority interest in continuing operations (1) ...............
Amount related to income from discontinued operations...........................
Amount related to gain on sale of discontinued operations........................
Total minority interest............................................................................
$
$
(2,226)
(333)
(1,224)
(3,783)
$
$
475
(1,228)
(2,528)
(3,281)
$
$
1,026
(2,048)
(323)
(1,345)
Years Ended December 31,
2005
2006
2004
(1) 2006 includes $0.6 million related to the consolidated entities other than the Operating Partnership.
Minority interest in the Operating Partnership...........................................................................
Minority interest in Markel.........................................................................................................
Minority interest in REES ..........................................................................................................
Total minority interest............................................................................................................
$
$
76,848
2,118
760
79,726
$
$
94,134
-
-
94,134
December 31,
2006
2005
70
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Investments in Joint Ventures
The Company accounts for its investments in less than majority owned joint ventures, partnerships and limited
liability companies under the equity method of accounting when, in accordance with EITF 04-5, the Company’s
interests represent a general partnership interest but substantive participating rights or substantive kick out rights
have been granted to the limited partners or when the Company’s interests do not represent a general partnership
interest and the Company does not control the major operating and financial policies of the entity. These
investments are initially recorded at cost, as investments in unconsolidated affiliates, and are subsequently adjusted
for the Company’s share of earnings and cash contributions and distributions. To the extent the Company’s cost
basis at formation of the joint venture is different than the basis reflected at the joint venture level, the basis
difference is amortized over the life of the related asset and included in the Company’s share of equity in earnings of
unconsolidated affiliates.
From time to time, the Company contributes real estate assets to a joint venture in exchange for a combination
of cash and an equity interest in the venture. The Company assesses whether it has continuing involvement in the
joint venture as defined in SFAS No. 66 and accounts for the transaction according to the nature and extent of such
involvement. If substantially all the risks and rewards of ownership have transferred and there are no other activities
which would represent continuing involvement with the property, a gain is recognized to the extent of the third party
investor’s interest and the Company accounts for its interest in the joint venture under the equity method of
accounting as an unconsolidated affiliate as described in the preceding paragraph. If substantially all the risks and
rewards of ownership of the property have not transferred or there are activities which would represent continuing
involvement with the property, the transaction is accounted for as a financing or profit-sharing arrangement, leasing
arrangement or other alternate method of accounting other than as a sale, as required by SFAS No. 66. See also
“Sales of Real Estate” above.
Additionally, the joint ventures will frequently borrow money on their own behalf to finance the acquisition of,
and/or leverage the return upon, the properties being acquired by the joint ventures or to build or acquire additional
buildings. Such borrowings are typically on a non-recourse or limited recourse basis. The Company generally is not
liable for the debts of its joint ventures, except to the extent of the Company’s equity investment, unless the
Company has directly guaranteed any of that debt (see Note 15 for further discussion). In most cases, the Company
and/or its joint venture partners are required to guarantee customary limited exceptions on non-recourse loans.
Rental and Other Revenues
In accordance with GAAP, rental revenue is recognized on a straight-line basis over the terms of the respective
leases. This means that, with respect to a particular lease, actual amounts billed in accordance with the lease during
any given period may be higher or lower than the amount of rental revenue recognized for the period. Straight-line
rental revenue is commenced when the tenant assumes possession of the leased premises. Accrued straight-line rents
receivable represents the amount by which straight-line rental revenue exceeds rents currently billed in accordance
with lease agreements. Termination fees are recognized as revenue when the following four conditions are met: a
fully executed lease termination agreement has been delivered; the tenant has vacated the space; the amount of the
fee is determinable; and collectibility of the fee is reasonably assured.
Property operating cost recoveries from tenants (or cost reimbursements) are determined on a lease-by-lease
basis. The most common types of cost reimbursements in the Company’s leases are common area maintenance
(“CAM”) and real estate taxes, where the tenant pays its pro-rata share of operating and administrative expenses and
real estate taxes.
71
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
The computation of property operating cost recovery income from tenants is complex and involves numerous
judgments, including the interpretation of terms and other tenant lease provisions. Leases are not uniform in dealing
with such cost reimbursements and there are many variations in the computation. Many tenants make monthly fixed
payments of CAM, real estate taxes and other cost reimbursement items. The Company records these payments as
income each month. The Company makes adjustments, positive or negative, to cost recovery income to adjust the
recorded amounts to the Company’s best estimate of the final amounts to be billed and collected with respect to the
cost reimbursements. After the end of the calendar year, the Company computes each tenant’s final cost
reimbursements and, after considering amounts paid by the tenants during the year, issues a bill or credit for the
appropriate amount to the tenant. The differences between the amounts billed less previously received payments and
the accrual adjustment are recorded as increases or decreases to cost recovery income when the final bills are
prepared, usually beginning in March and completed by mid-year.
Allowance for Doubtful Accounts
Accounts receivable are reduced by an allowance for amounts that may become uncollectible in the future. The
Company’s receivable balance is comprised primarily of rents and operating cost recoveries due from tenants as
well as accrued straight-line rents receivable. The Company regularly evaluates the adequacy of its allowance for
doubtful accounts. The evaluation primarily consists of reviewing past due account balances and considering such
factors as the credit quality of the tenant, historical trends of the tenant and/or other debtor, current economic
conditions and changes in customer payment terms. Additionally, with respect to tenants in bankruptcy, the
Company estimates the expected recovery through bankruptcy claims and increases the allowance for amounts
deemed uncollectible. If the Company’s assumptions regarding the collectibility of accounts receivable and accrued
straight-line rents receivable prove incorrect, the Company could experience write-offs of accounts receivable or
accrued straight-line rents receivable in excess of its allowance for doubtful accounts.
Cash Equivalents
The Company considers highly liquid investments with an original maturity of three months or less when
purchased to be cash equivalents.
Restricted Cash
Restricted cash includes security deposits for the Company’s commercial properties and construction-related
escrows. In addition, the Company maintains escrows and reserves, debt service, real estate taxes and property
insurance established pursuant to certain mortgage financing arrangements and to un-encumber a secured property.
Income Taxes
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 (the “Code”). A corporate REIT is a legal entity that holds real estate
assets and, through the payment of dividends to stockholders, is generally permitted to reduce or avoid the payment
of federal and state income taxes at the corporate level. To maintain qualification as a REIT, the Company is
required to distribute to its stockholders at least 90.0% of its annual REIT taxable income, excluding capital gains.
The minimum dividend per share of Common Stock required for the Company to maintain its REIT status
(excluding any net capital gains) was $0.24 per share in 2005. Aggregate dividends paid on Preferred Stock
exceeded REIT taxable income (excluding capital gains) in 2006, which resulted in no required dividend on
Common Stock in 2006 for REIT qualification purposes. Continued qualification as a REIT depends on the
Company’s ability to satisfy the dividend distribution tests, stock ownership requirements and various other
qualification tests prescribed in the Code. The Company conducts certain business activities through a taxable REIT
subsidiary, as permitted under the Code. The taxable REIT subsidiary is subject to federal and state income taxes on
its net taxable income and the Company records provisions for such taxes, to the extent required, based on its
income recognized for financial statement purposes, including the effects of temporary differences between such
income and the amount recognized for tax purposes.
72
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
The tax basis of the Company's assets (net of accumulated tax depreciation and amortization) and liabilities was
approximately $2.2 billion and $1.6 billion, respectively, at December 31, 2006 and was approximately $2.2 billion
and $1.5 billion, respectively, at December 31, 2005.
No provision has been made pursuant to SFAS No. 109, “Accounting for Income Taxes” (“SFAS No. 109”) for
federal and state income taxes during the years ended December 31, 2006, 2005 and 2004 because the Company
qualified as a REIT, distributed the necessary amount of taxable income and, therefore, incurred no income tax
expense during the periods. The taxable REIT subsidiary has operated at a cumulative taxable loss through
December 31, 2006 of approximately $9.3 million and has paid no income taxes since its formation. In addition to
the $3.6 million deferred tax asset for these cumulative tax loss carryforwards, the taxable REIT subsidiary also had
net deferred tax liabilities of approximately $1.0 million comprised primarily of tax versus book basis differences in
certain investments and depreciable assets held by the taxable REIT subsidiary. Because the future tax benefit of all
of the cumulative losses is not assured, the approximate $2.6 million net deferred tax asset position of the taxable
REIT subsidiary has been fully reserved as management does not believe that it is more likely than not that the net
deferred tax asset will be recognized. Accordingly, no tax benefit has been recognized in the accompanying
Consolidated Financial Statements. The tax benefit of the cumulative losses could be recognized for financial
reporting purposes in future periods to the extent the taxable REIT subsidiary generates sufficient taxable income. If
the Company decided to sell certain properties acquired in prior years, the Company would incur a corporate-level
tax under Section 1374 of the Internal Revenue Code on the built-in gain relating to such properties unless such
properties were sold in a tax-free exchange under Section 1031 of the Internal Revenue Code or another tax-free or
tax-deferred transaction. This situation only applies to assets originally acquired through the merger with J.C.
Nichols Company in July 1998 or from like-kind exchanges of those assets. The tax under Section 1374 will not
apply to any of such assets still owned by the Company after July 2008.
See Impact of Newly Adopted and Issued Accounting Standards below for discussion of the effect of FASB
Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes” on the Company’s future
accounting for income taxes.
Concentration of Credit Risk
Management of the Company performs ongoing credit evaluations of its tenants. As of December 31, 2006, the
properties (excluding residential units ) to which the Company and/or the Operating Partnership directly or indirectly
holds title and has all of the ownership rights (the “Wholly Owned Properties”) were leased to 1,958 tenants in 12
geographic locations. The Company's tenants engage in a wide variety of businesses. No single tenant of the
Company’s Wholly Owned Properties generated more than 6.8% of the Company’s consolidated revenues during
2006. In addition, as described in Note 15, in connection with various real estate sales transactions, the Company
has guaranteed to the buyers the rental income during various future periods due from Capital One Services, Inc., a
subsidiary of Capital One Financial Services, Inc. The maximum exposure under these guarantees related to Capital
One Services, Inc. aggregated $4.1 million at December 31, 2006.
73
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Employee Benefit Plans and Stock-Based Compensation
On January 1, 2003, the Company adopted the fair value method of accounting for stock-based compensation
under SFAS No. 123, “Accounting for Stock-Based Compensation.” Prior to that time, the Company followed
Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) and related
interpretations.
Under SFAS No. 123, the fair value of a stock option is estimated using an option-pricing model that takes into
account as of the grant date the exercise price and expected life of the option, the current price of the underlying
stock and its expected volatility, expected dividends on the stock and the risk-free interest rate for the expected term
of the option. SFAS No. 123 provides examples of possible pricing models and includes the Black-Scholes pricing
model, which the Company has elected to use. The Black-Scholes model was developed for use in estimating the
fair value of traded options that have no vesting restrictions and are fully transferable rather than for use in
estimating the fair value of employee stock options subject to vesting and transferability restrictions. The Company
applied the prospective method of accounting and expenses all employee stock options (and similar awards) issued
on or after January 1, 2003 over the vesting period based on the fair value of the award on the date of grant using the
Black-Scholes valuation model.
In December 2004, the FASB issued SFAS No. 123(R), “Share-Based Payment,” which revised SFAS No. 123.
SFAS No. 123(R) requires compensation costs related to share-bas ed payment transactions to be recognized in the
financial statements and forfeitures to be estimated at the grant date rather than as they occur. The Company based
its estimated forfeiture rate on historical forfeitures of all stock option grants. The Comp any adopted SFAS No.
123(R) effective January 1, 2006 using the modified-prospective method and applies the provisions of SFAS No.
123(R) to all share-based compensation. The adoption of SFAS No. 123(R) did not have any material effects on the
Company’s results of operations for the year ended December 31, 2006.
Had the compensation cost for options issued before January 1, 2003 accounted for under APB 25 been
determined based on the fair values at the grant dates for awards granted between January 1, 1995 and
December 31, 2002, consistent with the provisions of SFAS No. 123(R), the Company's net income and net income
per share for 2005 and 2004 would have decreased to the pro forma amounts indicated below. Because options
issued prior to January 1, 2002 we re vested and fully expensed by December 31, 2005, and because options issued
in 2002 were granted on March 1 and had only two months of expense in 2006, the impact on 2006 net income of
adopting this aspect of SFAS No. 123(R) is not material.
Net income available for common stockholders -- as reported .....................................................
Add: Stock option expense included in reported net income.........................................................
Deduct: Total stock option expense determined under fair value
Years Ended December 31,
2005
$ 30,948
484
2004
$ 10,725
341 (1)
recognition method for all awards .............................................................................................
Pro forma net income available for common stockholders............................................................
(727)
$ 30,705
(784)(1)
$ 10,282
Basic net income per common share - as reported.........................................................................
Basic net income per common share - pro forma ..........................................................................
Diluted net income per common share - as reported .....................................................................
Diluted net income per common share - pro forma .......................................................................
$
$
$
$
0.58
0.57
0.58
0.57
$
$
$
$
0.20
0.19
0.20
0.19
(1) Amounts include the effects of accounting for dividend equivalent rights.
Dividends paid on all outstanding restricted stock are non-forfeitable to the recipient and are paid at the same
rate and on the same date as on shares of Common Stock, whether or not vested. Dividends on shares that are
forfeited are accounted for as compensation expense with a corresponding credit to retained earnings.
74
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Awards denominated in cash amounts granted in prior years under the Company’s Shareholder Value Plans are
accounted for as liability awards.
Derivative Financial Instruments
The Company’s interest rate risk management objectives are to limit the impact of interest rate changes on
earnings and cash flows and to lower overall borrowing costs. To achieve these objectives, from time to time the
Company may enter into interest rate hedge contracts such as collars, swaps, caps and treasury lock agreements in
order to mitigate its interest rate risk with respect to various debt instruments. The Company does not hold these
derivatives for trading or speculative purposes.
SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”), as
amended by SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities,”
requires the Company 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 will be 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.
To determine the fair value of derivative instruments, the Company uses a variety of methods and assumptions
that are based on market conditions and risks existing at each balance sheet date. For the majority of financial
instruments, including most derivatives, 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.
On the date that the Company enters into a derivative contract, the Company designates 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), (2) a hedge of changes in the fair value of an asset or a liability attributable to a particular risk
(a “fair value” hedge) or (3) 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 hedges are effective, are recorded in AOCL, 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. For
derivatives designated as fair value hedges, changes in the fair value of the derivative and the hedged item related to
the hedged risk are recognized in current-period earnings. Changes in the fair value of non-hedging instruments are
reported in current-period earnings.
The Company formally documents 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. The Company also assesses and documents, 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 the Company determines that a derivative is not (or
has ceased to be) highly effective as a hedge, the Company dis continues hedge accounting prospectively.
The Company is exposed to certain losses in the event of nonperformance by the counter party under any
outstanding hedge contracts. The Company expects the counter parties, which are major financial institutions, to
perform fully under any such contracts. However, if any counter party was to default on its obligation under an
interest rate hedge contract, the Company could be required to pay the full rates on its debt, even if such rates were
in excess of the rate in the contract.
75
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
Earnings Per Share
The Company computes earnings per share in accordance with SFAS No. 128, “Earnings per Share” (“SFAS
No. 128”). Basic earnings per share is computed by dividing net income available for common stockholders by the
weighted average number of shares of Common Stock outstanding. Diluted earnings per share is computed by
dividing net income available for common stockholders plus minority interest in the Operating Partnership by the
weighted average number of shares of Common Stock plus the dilutive effect of options, warrants and convertible
securities outstanding, including Common Units, using the "treasury stock" method. Earnings per share data is
required for all periods for which an income statement or summary of earnings is presented, including summaries
outside the basic financial statements.
Impact of Newly Adopted and Issued Accounting Standards
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections” (SFAS No. 154).
The Statement replaces Accounting Principles Board Opinion No. 20, “Accounting Changes” (APB Opinion No. 20)
and Statement of Financial Accounting Standard No. 3, “Reporting Accounting Changes in Interim Financial
Statements” and changes the requirements for the accounting for and reporting of a change in accounting principle.
APB Opinion No. 20 previously required that most voluntary changes in accounting principle be recognized by
including in net income of the period of the change the cumulative effect of changing to the new accounting
principle. This Statement requires retrospective application to prior periods’ financial statements of changes in
accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative
effect of the change. The Statement was effective for any accounting changes and corrections of errors made on or
after January 1, 2006 and had no effect on the Company’s 2006 Consolidated Financial Statements.
In June 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income
Taxes, an interpretation of SFAS No. 109,” which clarifies the accounting for uncertainty in income taxes
recognized in an enterprise’s financial statements in accordance with SFAS No. 109. FIN 48 prescribes a
comprehensive model for how companies should recognize, measure, present and disclose in their financial
statements uncertain tax positions taken or expected to be taken in an income tax return. For those benefits
recognized, a tax position must be more-likely-than-not to be sustained based solely upon the technical merits of the
position. Such tax positions shall initially and subsequently be measured as the largest amount of tax benefit that, on
a cumulative basis, is greater than 50% likely of being realized upon ultimate settlement with the tax authority
assuming that the taxing authority has full knowledge of the position and all relevant facts. FIN 48 is effective for
the Company’s fiscal year beginning January 1, 2007. The Company has preliminarily assessed the effect of
adopting FIN 48 and expects to record a liability for approximately $1.4 million as of January 1, 2007 with an
offsetting cumulative effect adjustment recorded to the beginning balance of retained earnings, which is subject to
revision as management completes its analysis .
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS
No. 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair
value measurements. SFAS No. 157 becomes effective for the Company on January 1, 2008. The Company is
currently evaluating the impact SFAS No. 157 may have on its financial condition and results of operations.
In September 2006, the SEC released Staff Accounting Bulletin No. 108 (“SAB 108”), which addresses how the
effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year
financial statements. SAB 108 requires companies to quantify misstatements using both the balance sheet and
income statement approaches and to evaluate whether either approach is material. If, in transition, in evaluating
misstatements following an approach not previously used by the Company, the effect of initial adoption is
determined to be material, SAB 108 allows companies to record that effect as a cumulative effect adjustment to
beginning retained earnings. The requirements of initially applying this guidance are effective for annual financial
statements covering the first fiscal year ending after November 15, 2006. The adoption of SAB 108 in 2006 did not
have an effect on the Company’s financial condition and results of operations.
76
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES - Continued
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial
Liabilities” (“SFAS No. 159”), which permits all entities to choose to measure eligible items at fair value at
specified election dates. SFAS No. 159 becomes effective for the Company on January 1, 2008. The Company is
currently evaluating the impact SFAS No. 159 may have on its financial condition and results of operations.
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES
The Company has various joint ventures with unrelated investors and has retained minority equity interests
ranging from 12.5% to 50.0% in these joint ventures. The Company generally accounts for its unconsolidated joint
ventures using the equity method of accounting. As a result, the assets and liabilities of the joint ventures for which
the Company uses the equity method of accounting are not included on the Company’s consolidated balance sheet.
The Company has had four consolidated joint ventures. SF-HIW Harborview Plaza, LP is accounted for as a
financing arrangement pursuant to SFAS No. 66, as described in Note 3; MG-HIW, LLC was accounted for as a
financing arrangement pursuant to SFAS No. 66 as described in Note 3; The Vinings at University Center, LLC was
consolidated pursuant to FIN 46(R) as described further below until late 2006 upon the sale of the venture’s assets
and distribution of its net cash assets to its partners; and Markel is consolidated beginning January 1, 2006 pursuant
to EITF 04-5, as discussed in Note 1.
Investments in unconsolidated affiliates consisted of the following as of December 31, 2006:
Joint Venture
Board of Trade Investment Company ............
Dallas County Partners I, LP..........................
Dallas County Partners II, LP ........................
Dallas County Partners III, LP.......................
Fountain Three...............................................
RRHWoods, LLC...........................................
Kessinger/Hunter, LLC ..................................
4600 Madison Associates, LLC.....................
Plaza Colonnade, LLC ...................................
Highwoods DLF 98/29, LP ............................
Highwoods DLF 97/26 DLF 99/32, LP .........
Highwoods KC Glenridge Office, LP ............
Highwoods KC Glenridge Land, LP ..............
HIW-KC Orlando LLC ..................................
Concourse Center Associates, LLC ...............
Weston Lakeside, LLC ..................................
Total...............................................................
Location of Properties
Kansas City, MO
Des Moines, IA
Des Moines, IA
Des Moines, IA
Des Moines, IA
Des Moines, IA
Kansas City, MO
Kansas City, MO
Kansas City, MO
Atlanta, GA; Charlotte, NC;
Greensboro, NC; Raleigh, NC;
Orlando, FL; Baltimore, MD
Atlanta, GA; Greensboro, NC;
Orlando, FL
Atlanta, GA
Atlanta, GA
Orlando, FL
Greensboro, NC
Raleigh, NC
Total Rentable
Square Feet (000)
166
641
272
7
785
800 (1)
- (2)
262
290
1,199
822
185
-
1,273
118
- (3)
6,820 (4)
Ownership
Interest
49.0%
50.0%
50.0%
50.0%
50.0%
50.0%
26.5%
12.5%
50.0%
22.8%
42.9%
40.0%
40.0%
40.0%
50.0%
50.0%
(1) This joint venture also owns 418 rental residential units.
(2) This joint venture provides property management, leasing, construction and brokerage services to Wholly Owned Properties.
(3) This joint venture was constructing 332 rental residential units at December 31, 2006. These assets were sold in February
2007 as described below.
(4) Excludes properties held by consolidated joint ventures totaling 618,000 square feet.
77
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES – Continued
Combined summarized financial information for the Company’s unconsolidated joint ventures is as follows:
Balance Sheets:
Assets:
Real estate, net of accumulated depreciation .........................................................
Other assets ............................................................................................................
Total assets.........................................................................................................
Liabilities and Partners’ and Shareholders’ Equity:
Mortgage debt (1)....................................................................................................
Other liabilities .......................................................................................................
Partners’ and shareholders’ equity.........................................................................
Total Liabilities and Partners’ and Shareholders’ Equity Assets.......................
The Company’s share of historical partners’ and shareholders’ equity.........................
Net excess of cost of investments over the net book value of underlying net assets
(net of accumulated depreciation of $2,049 and $1,814, respectively) (2).................
Carrying value of investments in unconsolidated joint ventures (3)...............................
The Company’s share of unconsolidated non-recourse mortgage debt (1) .....................
December 31,
2006
2005
$
$
$
$
$
$
$
672,869
103,970
776,839
575,452
29,430
171,957
776,839
43,047
10,787
53,834
244,975
$
$
$
$
$
$
$
710,431
106,382
816,813
573,425
34,513
208,875
816,813
58,400
10,847
69,247
243,247
(1) The Company’s share of the mortgage debt through maturity as of December 31, 2006 is as follows:
2007................................................................................
2008................................................................................
2009................................................................................
2010................................................................................
2011................................................................................
Thereafter.......................................................................
$
3,817
4,717
8,342
23,517
6,117
198,465
$ 244,975
The Company generally is not liable for any of this debt, except to the extent of its investment, unless the Company has
directly guaranteed any of the debt (see Note 15). In most cases, the Company and/or its strategic partners are required to
guarantee customary limited exceptions on non-recourse loans.
(2) This amount represents the aggregate difference between the Company’s historical cost basis and the basis reflected at the
joint venture level, which is typically amortized over the life of the related asset. In addition, certain acquisition, transaction
and other costs may not be reflected in net assets at the joint venture level.
(3) During the third quarter of 2006, three of the Company’s joint ventures located in Des Moines, Iowa made cash distributions
aggregating $17.0 million in connection with a debt refinancing. The Company received 50.0% of such distributions. As a
result of these distributions, the Company’s investment account in these joint ventures became negative. Although the new
debt is non-recourse, the Company and its partner have guaranteed other debt and have contractual obligations to support the
joint ventures, which are included in the Guarantees and Other Obligations table in Note 15. Therefore, in accordance with
SOP 78-9 “Accounting for Investments in Real Estate Ventures,” the Company recorded the distributions as a reduction of
the investment account and included the resulting negative investment balances of $6.5 million in accounts payable, accrued
expenses and other liabilities in the Consolidated Balance Sheet at December 31, 2006.
78
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES – Continued
Income Statements:
Revenues...............................................................................................
Expenses:
Operating expenses ............................................................................
Depreciation and amortization...........................................................
Interest expense and loan cost amortization ......................................
Loss on debt extinguishment..............................................................
Total expenses................................................................................
Net income .............................................................................................
The Company’s share of:
Net income .............................................................................................
Depreciation and amortization (real estate related) ...............................
Interest expense and loan cost amortization ..........................................
Loss on debt extinguishment..................................................................
Years Ended December 31,
2005
2006
2004
$
139,511
$
141,775
$
115,828
60,638
29,007
33,768
1,448
124,861
14,650
6,841
11,191
14,170
724
$
$
$
$
$
58,693
29,736
34,683
-
123,112
18,663
9,303
10,989
14,572
-
$
$
$
$
$
48,018
24,357
27,764
-
100,139
15,689
7,398
9,044
11,469
-
$
$
$
$
$
The following summarizes the formation and principal activities of the Company’s unconsolidated joint
ventures.
Board of Trade Investment Company; Kessinger/Hunter, LLC; 4600 Madison Associates, LP
The Company has a 49.0% interest in Board of Trade Investment Company, a 26.5% interest in
Kessinger/Hunter, LLC and a 12.5% interest in 4600 Madison Associates, L.P. The Company is the property
manager for the Board of Trade Investment Company and 4600 Madison Associates, L.P. joint ventures, for which it
receives property management fees. In addition, Kessinger/Hunter, LLC, which is managed by the Company’s
partner, provides property management, leasing and brokerage services and provides certain construction related
services to certain Wholly Owned Properties of the Company. Kessinger/Hunter, LLC received $2.3 million, $1.2
million and $3.7 million from the Company for these related services in 2006, 2005, and 2004, respectively.
Des Moines Joint Ventures
The Company has a 50.0% ownership interest in a series of joint ventures with R&R Investors (the “Des
Moines Joint Ventures”) relating to properties in Des Moines, Iowa.
Highwoods DLF 98/29, L.P.
The Company has a 22.81% interest in a joint venture (the “DLF I Joint Venture”) with Schweiz-Deutschland-
USA Dreilander Beteiligung Objekt DLF 98/29-Walker Fink-KG ("DLF"). The Company is the property manager
and leasing agent of the DLF I Joint Venture's properties and receives customary management and leasing fees. At
the formation of this joint venture, the amount DLF contributed in cash to the venture was determined to be in
excess of the amount required based on its ownership interest and on the final agreed-upon value of the real estate
assets. The Company agreed to repay this amount to DLF over 14 years. The payments of $7.2 million were
discounted to net present value of $3.8 million using a discount rate of 9.62% specified in the agreement. Payments
of $0.5 million were made in each of the years ended December 31, 2006, 2005 and 2004, of which $0.3 million in
each year represented imputed interest expense. The balance at December 31, 2006 is $2.6 million, which is
included in other liabilities.
Highwoods DLF 97/26 DLF 99/32, L.P.
The Company has a 42.93% interest in a joint venture (the “DLF II Joint Venture”) with Dreilander-Fonds
97/26 and 99/32 ("DLF II"). The Company is the property manager and leasing agent of the DLF II Joint Venture’s
properties and receives customary management and leasing fees.
79
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES – Continued
Concourse Center Associates, LLC and Plaza Col onnade, LLC
The Company has 50.0% interests in Concourse Center Associates, LLC and Plaza Colonnade, LLC. Unrelated
investors own the remaining 50.0% ownership interest in the joint ventures. The Company is the manager and
leasing agent for the properties and receives customary management fees and leasing commissions.
MG-HIW Development Joint Ventures
On July 29, 2003, the Company entered into an option agreement with its joint venture partner, Miller Global,
to acquire Miller Global’s 50.0% interest in the assets encompassing 87,832 square feet of property and 7.0 acres of
development land (zoned for the development of 90,000 square feet of office space) of MG-HIW Metrowest I, LLC
and MG-HIW Metrowest II, LLC for $3.2 million. On March 2, 2004, the Comp any exercised its option to acquire
its partner’s 50.0% equity interest in the assets of MG-HIW Metrowest I, LLC and MG-HIW Metrowest II, LLC for
$3.2 million, to bring its ownership interest in these entities to 100.0%. At that time, the Company consolidated the
assets and liabilities and recorded revenues and expenses of these entities on a consolidated basis . A $7.4 million
construction loan to fund the development of this property, of which $7.3 million was outstanding at
December 31, 2003, was paid in full by the Company at closing.
Highwoods KC Glenridge Office, LP and Highwoods KC Glenridge Land, LP
On February 25, 2004, the Company and Kapital-Consult, a European investment firm, formed these two
ventures, which on February 26, 2004 acquired from a third party Glenridge Point Office Park, consisting of two
office buildings aggregating 185,100 square feet and 2.9 acres of development land, located in the Central Perimeter
sub-market of Atlanta. The Company contributed $10.0 million to the joint ventures in return for 40.0% equity
interests in both ventures and Kapital-Consult contributed $14.9 million for 60.0% equity interests. In 2004
Highwoods KC Glenridge Office, LP entered into a $16.5 million ten-year secured loan on the office properties, and
upon funding of the loan, the venture distributed cash of $6.5 million and $9.8 million to the Company and to
Kapital-Consult, respectively. The Company is the manager and leasing agent for the office properties and receives
customary management fees and leasing commissions. At December 31, 2006, the buildings were 96.6% occupied.
HIW-KC Orlando, LLC
On June 28, 2004, Kapital-Consult, a European investment firm, bought a 60.0% interest in HIW-KC Orlando,
LLC. The Company owns the remaining 40.0% interest. HIW-KC Orlando, LLC owns five in-service office
properties, encompassing 1.3 million rentable square feet, located in the central business district of Orlando, Florida,
which were valued under the joint venture agreement at $212.0 million. The joint venture borrowed $143.0 million
under a ten-year fixed rate mortgage loan from a third party lender at the time of its formation. In connection with
this transaction, the Company agreed to guarantee rent to the joint venture for 3,248 rentable square feet
commencing in August 2004 and expiring in April 2011. In connection with this guarantee, as of June 30, 2004, the
Company included $0.6 million in other liabilities and reduced the total amount of gain to be recognized by the
same amount. Additionally, the Company agreed to guarantee re-tenanting costs for approximately 11% of the joint
venture’s total square footage. The Company recorded a $4.1 million contingent liability with respect to such
guarantee as of June 30, 2004 and reduced the total amount of gain to be recognized by the same amount. In the
three year period ended December 31, 2006, the Company paid $3.7 million in re -tenanting costs related to this
guarantee. The contribution was accounted for as a partial sale as defined by SFAS No. 66 and the Company
recognized a $16.3 million gain in June 2004. Since the Company has an ongoing 40.0% financial interest in the
joint venture and since the Company is engaged by the joint venture to provide management and leasing services for
the joint venture, for which it receives customary management fees and leasing commissions, the operations of these
properties were not reflected as discontinued operations consistent with SFAS No. 144 and the related gain on sale
was included in continuing operations in the second quarter of 2004.
80
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES – Continued
Weston Lakeside, LLC
On September 27, 2004, the Company and an affiliate of Crosland, Inc. (“Crosland”) formed Weston Lakeside,
LLC, in which the Company has a 50.0% ownership interest. On June 29, 2005, the Company contributed 22.4 acres
of land at an agreed upon value of $3.9 million to this joint venture, and Crosland contributed approximately $2.0
million in cash. Immediately thereafter, the joint venture distributed approximately $1.9 million to the Company and
the Company recorded a gain of $0.5 million. Crosland managed and operated this joint venture, which constructed
approximately 332 rental residential units in three buildings, at a total estimated cost of approximately $33 million.
Crosland received 3.25% of all project costs other than land as a development fee and 3.5% of the gross revenue of
the joint venture in management fees. The joint venture financed the development with a $28.4 million construction
loan guaranteed by Crosland. The Company provided certain development services for the project and received a fee
equal to 1.0% of all project costs excluding land. The Company has accounted for this joint venture using the equity
method of accounting. On February 22, 2007, the joint venture sold the 332 rental residential units to a third party
for gross proceeds of $45.0 million. Mortgage debt in the amount of $27.1 million was paid off and various
development related costs were paid. The Company received a net distribution of $6.1 million and may receive a
further small and final distribution. A gain of approximately $5 million will be recognized by the Company in the
first quarter of 2007 related to this sale. As of February 28, 2007, the joint venture is dormant pending the final
distribution to the partners.
Consolidated Joint Ventures:
The following summarizes the formation and principal activities of the Company’s consolidated joint ventures.
Highwoods -Markel Associates, LLC
In 1999 and 2003, the Co mpany contributed to this 50.0% owned joint venture a total of four in-service office
properties located in Richmond, Virginia aggregating approximately 413,000 square feet. Our partner, Markel
Corporation, occupies substantially all of this space for its own use. The Company is the manager and leasing agent
for the properties and receives customary management fees and leasing commissions. As further described in Note 1,
the Company began consolidating the Markel joint venture in January 2006 under the provisions of EITF No. 04-5.
SF-HIW Harborview Plaza, LP and MG-HIW, LLC
As further described in Note 3, the Company contributed assets to these joint ventures which were accounted
for as financing arrangements under SFAS No. 66. Accordingly, the assets were or continue to be consolidated in
the Company’s consolidated financial statements.
The Vinings at University Center, LLC
On December 22, 2004, the Company and Easlan Investment Group, Inc. (“Easlan”) formed The Vinings at
University Center, LLC. The Co mpany contributed 7.8 acres of land at an agreed upon value of $1.6 million to the
joint venture in December 2004 in return for a 50.0% equity interest. Easlan contributed $1.1 million in the form of
non-interest bearing promissory notes for a 50.0% equity interest in the joint venture. Upon formation, the joint
venture entered into a $9.7 million secured construction loan to complete the construction of 156 residential units on
the 7.8 acres of land. Easlan guaranteed this construction loan. The construction of the residential units was
completed in the first quarter of 2006. Easlan was the manager and leasing agent for these residential units and
received customary management fees and leasing commissions. The Company has received development fees
throughout the construction project. The Company consolidated this joint venture from inception under the
provisions of FIN 46(R) because Easlan had no at-risk equity and the Company would absorb the majority of the
joint venture’s expected losses. On November 1, 2006, the joint venture sold the residential units to a third party for
gross proceeds of $14.3 million, paid off the construction note payable and made cash distributions to the partners.
The Company received a distribution of $2.9 million and recorded a gain of $1.4 million in the fourth quarter of
2006.
81
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
2. INVESTMENTS IN UNCONSOLIDATED AND OTHER AFFILIATES – Continued
Development, Leasing and Management Fees
As discussed above, the Company receives development, management and leasing fees for services provided to
certain of its joint ventures. These fees are recognized as income to the extent of the other joint venture partner’s
interest and are shown in rental and other revenues, as follows:
Development fees .......................................................................................
Management and leasing fees .....................................................................
Total fees................................................................................................
$
$
98
1,920
2,018
$
$
42
1,963
2,005
$
$
171
1,631
1,802
Years Ended December 31,
2005
2006
2004
3. FINANCING ARRANGEMENTS
The following summarizes sale transactions in 2000 and 2002 that were or continue to be accounted for as
the years ended
through 29 of SFAS No. 66 during
financing arrangements under paragraphs 25
December 31, 2006, 2005 and 2004.
SF-HIW Harborview Plaza, LP
On September 11, 2002, the Company contributed Harborview Plaza, an office building located in Tampa,
Florida, to SF-HIW Harborview Plaza, LP (“Harborview LP”), a newly formed entity, in exchange for a 20.0%
limited partnership interest and $35.4 million in cash. The other partner contributed $12.6 million of cash and a new
loan was obtained by the partnership for $22.8 million. In connection with this disposition, the Company entered
into a master lease agreement with Harborview LP for five years on the then vacant space in the building
(approximately 20% of the building); occupancy was 99.6% at December 31, 2006. The Company also guaranteed
to Harborview LP the payment of tenant improvements and lease commissions of $1.2 million. The Company’s
maximum exposure to loss under the master lease agreement was $2.1 million at September 11, 2002 and was $0.3
million at December 31, 2006. Additionally, the Company’s partner in Harborview LP was granted the right to put
its 80.0% equity interest in Harborview LP to the Company in exchange for cash at any time during the one-year
period commencing September 11, 2014. The value of the 80.0% equity interest will be determined at the time that
such partner elects to exercise its put right, if ever, based upon the then fair market value of Harborview LP’s assets
and liabilities less 3.0%, which amount was intended to cover the normal costs of a sale transaction.
Because of the put option and the master lease agreement, this transaction is accounted for as a financing
transaction as described in Note 1. Accordingly, the assets, liabilities and operations related to Harborview Pla za,
the property owned by Harborview LP, including any new financing by the partnership, remain in the consolidated
financial statements of the Company. As a result, the Company has established a financing obligation equal to the
net equity contributed by the other partner. At the end of each reporting period, the balance of the financing
obligation is adjusted to equal the greater of the original financing obligation or the current fair value of the put
option discussed above. The value of the put option was $20.0 million at December 31, 2006. This amount is offset
by a related discount account, which is being amortized prospectively through September 2014 as interest expense
on financing obligation. The amount of the financing obligation, net of the discount amount, related to Harborview
LP was $16.2 million at December 31, 2006. Additionally, the net income from the operations before depreciation of
Harborview Plaza allocable to the 80.0% partner is recorded as interest expense on financing obligation. The
Company continues to depreciate the property and record all of the depreciation on its books. Any payments made
under the master lease agreement were expensed as incurred ($0.1 million was expensed during each of the years
ended December 31, 2006, 2005 and 2004) and any amounts paid under the tenant improvement and lease
commission guarantee are capitalized and amortized to expense over the remaining lease term. At such time as the
put option expires or is otherwise terminated, the Company will record the transaction as a sale and recognize gain
on sale.
82
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
3. FINANCING ARRANGEMENTS - Continued
Eastshore
On November 26, 2002, the Company sold three buildings located in Richmond, Virginia (the “Eastshore”
transaction) for a total price of $28.5 million in cash, which was paid in full by the buyer at closing. Each of the sold
properties was a single tenant building leased on a triple-net basis to Capital One Services, Inc., a subsidiary of
Capital One Financial Services, Inc. In connection with the sale, the Company entered into a rental guarantee
agreement for each building for the benefit of the buyer to guarantee any shortfalls that may be incurred in the
payment of rent and re-tenanting costs for a five-year period from the date of sale (through November 2007). The
Company’s maximum exposure to loss under the rental guarantee agreements was $18.7 million at the date of sale
and was $4.1 million as of December 31, 2006. No payments were made by the Company during 2003 and 2002 in
respect of these rent guarantees. However, in June 2004, the Company began to make monthly payments to the
buyer at an annual rate of $0.1 million as a result of the existing tenant renewing a lease in one building at a lower
rental rate. The Company began to make additional payments in June 2006 of approximately $0.1 million per month
due to the tenant vacating space in one of the three buildings as of May 31, 2006. These payments will continue until
the earlier of the end of the guarantee period or until replacement tenants are in place and paying amounts equal to
or more than the current tenant.
These rent guarantees are a form of continuing involvement as discussed in paragraph 28 of SFAS No. 66.
Because the guarantees cover the entire space occupied by a single tenant under a triple -net lease arrangement, the
Company’s guarantees were considered a guaranteed return on the buyer’s investment for an extended period of
time. Therefore, through July 2005 the transaction had been accounted for as a financing transaction, following the
accounting method described in Note 1. Accordingly, through July 2005 the assets, liabilities and operations were
included in these Consolidated Financial Statements, and a financing obligation of $28.8 million was recorded,
which represented the amount received from the buyer, adjusted for subsequent activity. The income from the
operations of the properties, other than depreciation, was allocated 100.0% to the owner as interest expense on
financing obligations. Payments made under the rent guarantees were charged to expense as incurred. This
transaction was recorded as a completed sale transaction in July 2005 when the maximum exposure to loss under the
guarantees became less than the related deferred gain; accordingly, $1.7 million in gain was recognized in the last
six months of 2005, $3.6 million in gain was recognized in 2006 and additional gain will be recognized in 2007 as
the maximum exposure under the guarantees is reduced. Payments made under rent guarantees after July 2005 are
recorded as a reduction of the deferred gain.
MG-HIW, LLC
On December 19, 2000, the Company formed M G-HIW, LLC, a joint venture with Miller Global. As of
December 31, 2003, the assets in this joint venture consisted of five properties encompassing 1.3 million square feet
located in the central business district of Orlando. The Company assumed obligations to make improvements to the
assets as well as master lease obligations and guarantees on certain vacant space. Additionally, the Company
guaranteed a leveraged internal rate of return (“IRR”) of 20.0% on Miller Global’s equity. The contribution in 2000
of these Orlando properties was accounted for as a financing arrangement under SFAS No. 66. Consequently, the
assets, liabilities and operations related to the properties rema ined on the books of the Company and a financing
obligation was established for the amount of equity contributed by Miller Global related to the Orlando City Group.
The income from operations of the properties, excluding depreciation, was allocated 80.0% to Miller Global and
reported as “interest on financing obligations.” This financing obligation was also adjusted each period by accreting
the obligation up to the 20.0% guaranteed internal rate of return by a charge to interest expense, such that the
financing obligation equaled at the end of each period the amount due to Miller Global including the 20.0%
guaranteed return. The Company recorded interest expense on financing obligations in 2004 of $3.2 million, which
includes amounts related to this IRR guarantee and payments made under the rental guarantees. The Company
continued to depreciate the Orlando properties and record all of the depreciation in its financial statements.
83
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
3. FINANCING ARRANGEMENTS - Continued
On July 29, 2003, the Company also entered into an option agreement to acquire Miller Global’s 80.0% interest
in the Orlando City Group. On March 2, 2004, the Company exercised its option and acquired its partner’s 80.0%
equity interest in the Orlando City Group of MG-HIW, LLC. At the closing of the transaction, the Company paid its
partner, Miller Global, $62.5 million, assumed the existing $136.2 million loan and a $7.5 million letter of credit
previously delivered to the seller in connection with the option was cancelled. Since the initial contribution of these
assets was accounted for as a financing arrangement and since the financing obligation was adjusted each period for
the IRR guarantee, no gain or loss was recognized upon the extinguishment of the financing obligation. In June
2004, the Company contributed these assets to HIW-KC Orlando, LLC as described in Note 2.
4. ASSET DISPOSITIONS
Gains and impairments on disposition of properties, net, included in continuing operations (excluding
impairments of assets held for use which are recorded in operating expenses as described in Note 12 consisted of the
following:
Years Ended December 31,
2005
2006
2004
Gains on disposition of land .......................................................................
Impairments on land ...................................................................................
Gains on disposition of depreciable properties...........................................
Total.......................................................................................................
$
$
12,043
-
4,114
16,157
$
$
8,604
(2,124)
7,692
14,172
$
$
4,728
(1,972)
18,880
21,636
Net gains on sale and impairments of discontinued operations, net of minority interest, consisted of the
following:
Gains on sales of depreciable properties ....................................................
Impairments of depreciable properties .......................................................
Allocable minority interest .........................................................................
Total.......................................................................................................
$
$
15,082
-
(1,224)
13,858
$
$
34,128
(8,374)
(2,528)
23,226
$
$
9,380
(6,274)
(323)
2,783
Years Ended December 31,
2005
2006
2004
2007 Dispositions
In January 2007, the Company sold six office properties, encompassing 69,000 rentable square feet, which were
no longer in-service in Atlanta, Georgia for gross proceeds of approximately $9.5 million and a gain of
approximately $5.6 million. In February 2007, the Company sold four office properties encompassing 256,000
rentable square feet in Raleigh, North Carolina for gross proceeds of approximately $30.4 million and a gain of
approximately $14.0 million. These 10 properties were classified as discontinued operations in the fourth quarter of
2006. In January 2007, the Company sold 42 acres of land in Kansas City, Missouri for gross proceeds of
approximately $16.5 million and a gain of approximately $12.4 million. The land and properties were classified as
held for sale at December 31, 2006.
2006 Dispositions
During 2006, the Company sold approximately 3.0 million square feet of office and industrial properties, 17
rental residential units and the Vinings residential project for aggregate gross proceeds of approximately $241
million. The resultant gains, including recognition of certain gains deferred in prior years, are shown in the
preceding table. The significant 2006 transactions are described below, all of which except land sales were recorded
as discontinued operations. Certain other properties and development land were also classified as held for sale as of
December 31, 2006.
84
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
4. ASSET DISPOSITIONS - Continued
In the first quarter of 2006, the Company sold office and industrial properties encompassing 1,867,000 rentable
square feet located in Atlanta, Georgia, Columbia, South Carolina and Tampa, Florida in a single transaction for
gross proceeds of approximately $141 million. These properties were classified as held for sale as of
December 31, 2005 and an impairment loss of $7.7 million was recorded in the fourth quarter of 2005. The
properties subject to this sale were recorded as discontinued operations in the fourth quarter of 2005. Also, in the
first quarter of 2006, the Company sold an office property encompassing 132,000 rentable square feet located in
Raleigh, North Carolina for gross proceeds of approximately $12.9 million. A gain of approximately $1.4 million
was recorded in the first quarter of 2006. This property was classified as discontinued operations in the first quarter
of 2006.
In the third quarter of 2006, the Company sold five office and industrial properties aggregating 292,000 rentable
square feet located in Raleigh, North Carolina for gross proceeds of approximately $22.8 million. A gain of
approximately $2.8 million was recorded in the third quarter of 2006. This property was classified as discontinued
operations in the third quarter of 2006.
In the fourth quarter of 2006, the Company sold the following assets: a retail property aggregating 105,000
rentable square feet located in Kansas City, Missouri for gross proceeds of approximately $10.5 million, with a gain
of approximately $1.5 million; two office properties and 12 industrial properties aggregating 393,000 rentable
square feet in Winston-Salem and Greensboro, North Carolina for gross proceeds of approximately $16.5 million,
with a gain of approximately $3.5 million; and three office properties aggregating 193,000 rentable square feet in
Tampa, Florida for gross proceeds of approximately $22 million, with a gain of approximately $3.7 million.
During 2006, the Company also sold 220.7 acres of non-core land for gross sale proceeds of $34.5 million and
gains of $12.0 million.
2005 Dispositions
During 2005, the Company sold approximately 4.9 million square feet of office and industrial properties and 29
residential units for gross proceeds of approximately $386 million (including the Eastshore transaction recognized as
a completed sale in 2005 – see Note 3) and also sold or contributed to a joint venture approximately 200 acres of
development land for gross proceeds of $25.1 million. The resultant gains and impairments, including recognition of
certain gains deferred in prior years, are shown in the preceding table. The significant 2005 transactions are
described below, all of which except the Eastshore transaction were recorded as discontinued operations. Certain
other properties and development land were also classified as held for sale as of December 31, 2005.
In the first quarter of 2005, the Company sold an office building in Raleigh, North Carolina to an owner/user for
gross proceeds of approximately $27.3 million. In the first and second quarters, the Company sold industrial
buildings in Winston-Salem, North Carolina for gross proceeds of approximately $27.0 million, as more fully
described in Note 8. In the second quarter, the Company sold two vacant buildings in Highwoods Preserve, Tampa,
Florida to an owner/user for gross proceeds of approximately $24.5 million. In the third quarter, the Company sold
all of its operating properties and certain vacant land in Charlotte, North Carolina and certain operating properties in
Tampa, Florida in a single transaction for gross proceeds of approximately $228 million. In connection with this
sale, the Company closed its division office in Charlotte and incurred employee severance costs of approximately
$0.6 million, which were charged to general and administrative expenses during the second and third quarters. In the
third quarter of 2005, the Company also recognized as a completed sale the disposition of three office buildings in
Richmond, Virginia (the Eastshore transaction); Eastshore had been accounted for as a financing due to a significant
guarantee of rent under leases in the sold properties that was made by the Company when the sale occurred in 2002,
as more fully described in Note 3.
85
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
4. ASSET DISPOSITIONS - Continued
2004 Dispositions
During 2004, the Company sold approximately 1.3 million rentable square feet of office, industrial and retail
properties and 88 residential units for gross proceeds of $96.5 million and also sold 213.7 acres of development land
for gross proceeds of $35.7 million. The Company also contributed approximately 1.3 million square feet of
buildings and land to joint ventures. The resultant gains and impairments, including recognition of certain gains
deferred in prior years, are shown in the preceding table. The larger 2004 transactions are described below, all of
which except the HIW-KC Orlando, LLC transaction were recorded as discontinued operations. Certain other
properties and development land were also classified as held for sale as of December 31, 2004.
Late in the second quarter 2004, the Company sold a building located in Highwoods Preserve, Tampa, Florida
to an owner/user for approximate gross proceeds of $20.2 million. The Company recognized an impairment loss of
$3.0 million in discontinued operations in April 2004 when the planned sale met the criteria to be classified as held
for sale. As more fully described in Note 2, in the second quarter of 2004, the Company sold a 60% interest in HIW-
KC Orlando, LLC, which owns five office buildings in Orlando, Florida. The contribution was accounted for as a
partial sale, and the Company recognized a $16.3 million gain in June 2004. The operations of these properties were
not reflected as discontinued operations consistent with SFAS No. 144, and the related gain on sale was included in
continuing operations in the second quarter of 2004. In the fourth quarter of 2004, the Company sold office and
industrial buildings in four of its markets and one 88 unit residential building in Kansas City, Missouri for gross
proceeds of $37.5 million. In the fourth quarter of 2004, the Company also sold a building located in Orlando,
Florida for gross proceeds of approximately $6.8 million, and an impairment loss of approximately $3.2 million was
recognized in the fourth quarter 2004 prior to the closing of the sale. During 2004, the Company also contributed
7.8 acres of land to The Vinings at University Center, LLC in which the Company had a 50.0% equity interest. See
Note 2 for further discussion of this joint venture.
5. MORTGAGES , NOTES PAYABLE AND FINANCING OBLIGATIONS
The Company’s consolidated mortgages and notes payable consisted of the following at December 31, 2006 and
2005:
Mortgage loans payable:
8.17% mortgage loan due 2007..................................................................................
7.77% mortgage loan due 2009..................................................................................
7.87% mortgage loan due 2009..................................................................................
7.05% mortgage loan due 2012 (1) .............................................................................
6.03% mortgage loan due 2013..................................................................................
5.68% mortgage loan due 2013..................................................................................
5.74% to 9.00% mortgage loans due between 2007 and 2017 (2), (4).........................
Variable rate mortgage loan due 2007 .......................................................................
Variable rate construction loans due 2007 (3) ............................................................
Unsecured indebtedness:
7.00% notes due 2006................................................................................................
7.13% notes due 2008................................................................................................
8.13% notes due 2009................................................................................................
7.50% notes due 2018................................................................................................
Term loan due 2006 (5)...............................................................................................
Revolving credit facility due 2006 (5)........................................................................
Revolving credit facility due 2009.............................................................................
Total.......................................................................................................................
December 31,
2006
December 31,
2005
$
61,426
82,622
52,126
190,000
137,810
123,271
83,477
-
10,897
741,629
-
100,000
50,000
200,000
-
-
373,500
723,500
$ 1,465,129
$
63,400
84,671
65,179
135,229
139,897
125,446
53,317
3,478
50,499
721,116
110,000
100,000
50,000
200,000
100,000
190,500
-
750,500
$1,471,616
(1) In December 2006, the Company and the lender agreed to a loan modification pursuant to which an additional approximate
$57 million in loan proceeds were provided to the Company, the interest rate was reduced from 7.79% to 7.05% and the
remaining term was increased by approximately one year.
86
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. MORTGAGES , NOTES PAYABLE AND FINANCING OBLIGATIONS - Continued
(2) Amount at both December 31, 2006 and 2005 includes $22.8 million of mortgage debt related to SF-HIW Harborview
Plaza, LP. See Note 3.
(3) Amount at December 31, 2005 includes a $7.7 million construction loan held by The Vinings at University Center, LLC, a
consolidated 50.0% owned joint venture. During the fourth quarter of 2006, this joint venture sold its assets and paid off the
related mortgage debt. See Note 2.
(4) Amount at December 31, 2006 includes $38.1 million of mortgage debt related to Markel, a consolidated 50.0% owned joint
venture. See Notes 1 and 2.
(5) In May , July, August and September 2005 and February 2006, the Company obtained waivers from the lenders under its
previous $250 million unsecured revolving credit facility and its various bank term loans related to timely reporting to the
lenders of annual and quarterly financial statements and to covenant violations that could arise from future redemptions of
Preferred Stock due to the reclassification of the Preferred Stock from equity to a liability during the period of time from the
announcement of the redemption until the redemption is completed. The aforementioned modifications did not change the
economic terms of the loans. In connection with these modifications, the Company incurred certain loan costs that were
capitalized and amortized over the remaining term of the loans. In November 2005, the Company amended its previous $100
million bank term loan to extend the maturity date to July 17, 2006 and reduce the spread over the LIBOR interest rate from
130 basis points to 100 basis points. These loans were paid off in May 2006 in connection with the closing of the
Company’s new revolving credit facility described below.
The following table sets forth the principal payments, including amortization, due on the Company’s mortgages
and notes payable as of December 31, 2006:
Fixed Rate Debt:
Unsecured (1):
Total
Amounts due during years ending December 31,
2009
2010
2008
2007
2011
Thereafter
Notes ..................................................
$ 350,000 $
- $ 100,000 $ 50,000 $
- $
- $ 200,000
Secured:
Mortgage loans payable (2).................
Total Fixed Rate Debt ................................
730,732
1,080,732
75,812
10,341 141,156
75,812 110,341 191,156
9,057
9,057
9,811 484,555
9,811 684,555
Variable Rate Debt:
Unsecured:
Revolving credit facility.....................
373,500
-
- 373,500
Secured:
Construction loans..............................
Total Variable Rate Debt ...........................
10,897
384,397
10,897
10,897
-
-
- 373,500
-
-
-
-
-
-
-
-
-
Total Mortgages and Notes Payable...............
$1,465,129 $ 86,709 $ 110,341 $ 564,656 $
9,057 $
9,811 $ 684,555
(1) The $350 million of unsecured notes bear interest at rates ranging from 7.125% to 8.125% with interest payable semi-
annually in arrears. Any premium and discount related to the issuance of the unsecured notes, together with other issuance
costs, is being amortized to interest expense over the life of the respective notes as an adjustment to interest expense. All of
the unsecured notes are redeemable at any time prior to maturity at the Company’s option, subject to certain conditions
including the payment of make-whole amounts. Under the indenture, the notes may be accelerated if the trustee or 25% of
the holders provide written notice of a default and such default remains uncured after 60 days. The Operating Partnership is
in compliance with all covenants under the indenture and is current on all payments required thereunder.
(2) The mortgage loans payable are secured by real estate assets with an aggregate undepreciated book value of approximately
$1.2 billion at December 31, 2006. The Company’s fixed rate mortgage loans generally are either locked out to prepayment
for all or a portion of their term or are prepayable subject to certain conditions including prepayment penalties.
87
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. MORTGAGES , NOTES PAYABLE AND FINANCING OBLIGATIONS - Continued
On May 1, 2006, the Company obtained a new $350 million, three-year unsecured revolving credit facility from
Bank of America, N.A. The Company used $273 million of proceeds from the new revolving credit facility, together
with available cash, to pay off the remaining outstanding balance of $178 million under its previous revolving credit
facility and a $100 million bank term loan, both of which were terminated. Loss on debt extinguishments of
approximately $0.5 million was recorded in the second quarter of 2006.
On August 8, 2006, the Company’s revolving credit facility was amended and restated as part of a syndication
with a group of 15 banks. The revolving credit facility was also upsized from $350 million to $450 million. The
Company’s revolving credit facility is initially scheduled to mature on May 1, 2009. Assuming no default exists, the
Company has an option to extend the maturity date by one additional year and, at any time prior to May 1, 2008,
may request increases in the borrowing availability under the credit facility by up to an additional $50 million. The
interest rate is LIBOR plus 80 basis points and the annual base facility fee is 20 basis points. The revolving credit
facility had $74.3 million of availability at December 31, 2006 and had $88.3 million of availability as of
February 15, 2007.
On January 31, 2007, the Company obtained a $150 million unsecured non-revolving credit facility. This
facility has an initial term of six months and can be extended at the Company’s option for two additional three-
month periods provided the Company is not in default. This facility has identical interest rate terms and financial
covenants as the Company’s revolving credit facility. The Co mpany currently intends to repay all amounts
outstanding under the non-revolving facility with proceeds from newly issued secured or unsecured debt. As of
February 15, 2007, there was $60.0 million borrowed on this non-revolving facility.
Other Information
The Company’s credit facilities and the indenture that governs the Company’s outstanding notes require it to
comply with customary operating covenants and various financial and operating ratios. The Company is currently in
compliance with all such requirements.
In 1997, the Operating Partnership issued $100.0 million of Exercisable Put Option Notes due June 15, 2011
(the “Put Option Notes”). The Put Option Notes bore 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 the Put Option Notes was required to be 6.39%
plus the applicable spread determined as of June 10, 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 on June 15, 2004 at 100.0% of the
principal amount. The counter party exercised this option and acquired the Put Option Notes on June 15, 2004. On
that same date, the Company exercised its option to acquire the Put Option Notes from the counter party for a
purchase price equal to the sum of the present value of the remaining scheduled payments of principal and interest
(assuming an interest rate of 6.39%) on the Put Option Notes, or $112.3 million. The difference between the $112.3
million and the $100.0 million was charged to loss on extinguishment of debt in the quarter ended June 30, 2004.
The Company borrowed funds from its revolving credit facility to make the $112.3 million payment.
Total interest capitalized to development projects was $5.0 million, $2.9 million and $1.1 million for the years
ended December 31, 2006, 2005 and 2004, respectively.
88
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
5. MORTGAGES , NOTES PAYABLE AND FINANCING OBLIGATIONS - Continued
Deferred Financing Costs
As of December 31, 2006 and 2005, deferred financing costs were $11.7 million and $12.5 million,
respectively, and related accumulated amortization was $4.2 million and $5.8 million, respectively. Deferred
financing costs include loan fees, loan closing costs, premium and discounts on bonds, notes payable and debt
issuance costs. Amortization of bond premiums and discounts is included in contractual interest expense. All other
amortization is shown as amortization of deferred financing costs. The scheduled future amortization of these
deferred financings costs will be as follows:
2007................................................................................................
2008................................................................................................
2009................................................................................................
2010................................................................................................
2011................................................................................................
Thereafter.......................................................................................
Contractual
Interest
$
111
70
37
36
36
227
517
$
Deferred
Financing
2,040
$
1,847
977
445
442
1,270
7,021
$
Total
$
$
2,151
1,917
1,014
481
478
1,497
7,538
Financing Obligations
The Company’s financing obligations consisted of the following at December 31, 2006 and 2005:
SF-HIW Harborview Plaza, LP financing obligation (1) .......................................................
Tax increment financing obligation (2) ..................................................................................
Capitalized ground lease obligation (3) ..................................................................................
Total..................................................................................................................................
(1) See Note 3 for further discussion of this financing obligation.
December 31,
2006
December 31,
2005
$
$
16,157
18,308
1,065
35,530
$
$
14,983
19,171
-
34,154
(2) In connection with tax increment financing for construction of a public garage related to an office building constructed by
the Company in 2000, the Company is obligated to pay fixed special assessments over a 20-year period. The net present
value of these assessments, discounted at 6.93% at the inception of the obligation, which represents the interest rate on the
underlying bond financing, is shown as a financing obligation in the Consolidated Balance Sheet. The Company also
receives special tax revenues and property tax rebates recorded in interest and other income, which are intended, but not
guaranteed, to provide funds to pay the special assessments.
(3) Represents a capitalized lease obligation to the lessor of land on which the Company is constructing a new building. The
Company is obligated to make fixed payments to the lessor through October 2022 and the lease provides for fixed price
purchase options in the ninth and tenth years of the lease. The Company intends to exercise the purchase option in order to
prevent an economic penalty related to conveying the building to the lessor at the expiration of the lease. The net present
value of the fixed rental payments and purchase option through the ninth year was calculated using a discount rate of 7.1%.
The assets and liabilities under the capital lease are recorded at the lower of the present value of minimum lease payments or
the fair value. The liability accretes each month for the difference between the interest rate on the financing obligation and
the fixed payments. The accretion will continue until the liability equals the purchase option of the land in the ninth year of
the lease.
89
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS
Officer, Management and Director Compensation Programs
The Company's officers participate in an annual non-equity incentive program whereby they are eligible for
incentive payments based on a percentage of their annual base salary. In addition to considering the pay practices of
the Company’s peer group in determining each officer’s incentive payment percentage, the officer’s ability to
influence the Company’s performance is also considered. Each officer has a target annual non-equity incentive
payment percentage that ranges from 25.0% to 85.0% of base salary depending on the officer’s position. The
officer’s actual incentive payment for the year is the product of the target annual incentive payment percentage times
a performance ‘factor,’ which can range from zero to 200.0%. This performance factor depends upon the
relationship between how various performance criteria compare with predetermined goals. For an officer who has
division responsibilities, goals for certain performance criteria are based partly on the division’s actual performance
relative to that division’s established goals for each criteria and partly on actual total Company performance relative
to the same criteria. Incentive payments are accrued and expensed in the year earned and are generally paid in the
first quarter of the following year.
Certain other members of management participate in an annual non-equity incentive program whereby a target
annual cash incentive payment is established based upon the job responsibilities of their position. Incentive payment
eligibility ranges from 10.0% to 40.0% of annual base salary. The actual incentive payment is determined by the
overall performance of the Company and the individual’s performance during each year. These incentive payments
are also accrued and expensed in the year earned and are generally paid in the first quarter of the following year.
The Company’s officers generally receive annual grants of stock options and restricted stock on March 1 of
each year under the Amended and Restated 1994 Stock Option Plan (the “Stock Option Plan”). Stock options have
also been granted to the Company’s directors; however, directors currently do not receive annual stock option
grants. Restricted stock grants are also made annually to directors and certain non-officer employees. Stock options
issued prior to 2005 vest ratably over four years and remain outstanding for 10 years. Stock options issued in 2005
and 2006 continue to vest ratably over a four-year period, but remain outstanding for seven years. The value of all
options as of the date of grant is calculated using the Black-Scholes option-pricing model, as described below.
The Company generally makes annual grants of time -based restricted Common Stock under its Stock Option
Plan to its directors, officers and other employees. Shares of time-based restricted stock issued prior to 2005
generally vests 50.0% three years from the date of grant and the remaining 50.0% five years from date of grant.
Shares of time-based restricted stock that were issued to officers and employees in 2005 will vest one-third on the
third anniversary, one-third on the fourth anniversary and one-third on the fifth anniversary of the date of grant.
Shares of time-based restricted stock that were issued to officers and employees in 2006 will vest 25% on the first,
second, third and fourth anniversary dates, respectively. Shares of time -based restricted stock issued to directors
generally vest 25% on January 1 of each successive year after the grant date. The value of grants of time-based
restricted stock is based on the market value of Common Stock as of the date of grant and is amortized to expense
over the respective vesting or service periods.
90
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS - Continued
During 2005 and 2006, the Company also issued shares of restricted stock to officers under its Stock Option
Plan that will vest if the Company’s total shareholder return exceeds the average total returns of a selected group of
peer companies over a three-year period. If the Company’s total shareholder return does not equal or exceed such
average total returns, none of the total return-based restricted stock will vest. The 2006 grants also contain a
provision allowing for partial vesting if the annual total return in any given year of the three-year period exceeds 9%
on an absolute basis . The Company’s total return on Common Stock was 50.6% in 2006, and accordingly 2,373
previously issued shares of total return-based restricted stock vested as of December 31, 2006, net of shares
surrendered for withholding taxes. The grant date fair values of each such share of total return-based restricted stock
were determined by an outside consultant to be approximately 76% and 87% of the market value of a share of
Common Stock as of the grant dates for the 2005 and 2006 grants, respectively. The grant date fair value of these
shares of total-return based restricted stock is being amortized to expense on a straight-line method over the three-
year period.
During 2005 and 2006, the Company also issued shares of performance-based restricted stock to officers under
its Stock Option Plan that will vest pursuant to performance-based criteria. The performance-based criteria are based
on whether or not the Company meets or exceeds four operating and financial goals established under its Strategic
Management Plan by the end of 2007 and 2008, respectively. To the extent actual performance equals or exceeds
threshold performance goals, the portion of shares of performance-based restricted stock that vest can range from
50% to 100%. If actual performance does not meet such threshold goals, none of the performance-based restricted
stock will vest. The fair value of performance-based restricted share grants is based on the market value of Common
Stock as of the date of grant and the estimated performance to be achieved at the end of the three-year period. Such
fair value is being amortized to expense during the period from grant date to December 31, 2007 and 2008,
respectively, adjusting for the expected level of vesting that will occur at those dates.
Up to 100% of additional total return-based restricted stock and up to 50% of additional performance-based
restricted stock may be issued at the end of the three-year periods if actual performance exceeds certain levels of
performance. Such additional shares, if any, would be fully vested when issued. The Company will also accrue and
record expense for additional performance-based shares during the three-year period to the extent issuance of the
additional shares is expected based on the Company’s current and projected actual performance. In accordance with
SFAS No. 123(R), no expense is recorded for additional shares of total return-based restricted stock that may be
issued at the end of the three-year period since that possibility is already reflected in the grant date fair value.
In 1997, the Company adopted the 1997 Performance Award Plan under which 349,990 nonqualified stock
options granted to certain executive officers were accompanied by a dividend equivalent right ("DER"). No other
options granted by the Company since 1997 have been accompanied by a DER. The plan provided that if the total
return on a share of Common Stock exceeded certain thresholds during the five-year vesting period ending in 2002,
the exercise price of such options with a DER would be reduced under a formula based on dividends and other
distributions made with respect to such a share during the period beginning on the date of grant and ending upon
exercise of such stock option. At the end of the five-year vesting period, the total return performance resulted in a
reduction in the option exercise price of $6.098 per share. The exercise price per option share was further reduced by
$2.96 as of December 31, 2004 as a result of the dividend payments on Common Stock from January 1, 2003
through December 31, 2004. Because of the exercise price reduction feature, the stock options accompanied by a
DER were accounted for using variable accounting as provided in FASB Interpretation No. 44, “Accounting for
Certain Transactions Involving Stock Compensation.” In December 2004, the Company entered into an agreement
with the participants to cease the additional reduction in the option exercise price, which fixed the exercise price per
share reduction at $9.06. As a result, variable accounting is no longer required after December 31, 2004 as both the
number of options and the amount required to exercise is known. The Company recorded compensation expense of
$0.06 million for the year ended December 31, 2004. Because the exercise price was not reduced after
December 31, 2004, no expense was required to be recognized in the years ended December 31, 2006 and 2005. As
of December 31, 2006, there were 67,021 outstanding options whose exercise price had been reduced in prior
periods as a result of the DERs.
91
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS - Continued
During the years ended December 31, 2006, 2005 and 2004, the Company recognized approximately $3.7
million, $2.9 million and $4.7 million, respectively, of stock-based compensation expense. Stock-based
compensation expense for 2004 includes $2.3 million related to the accelerated vesting of stock options and
restricted shares for the Company’s former Chief Executive Officer who retired on June 30, 2004. As of
December 31, 2006, there was $5.9 million of total unrecognized stock-based compensation costs, which will be
recognized over a weighted average remaining contractual term of 2.1 years.
The compensation and governance committee of the Company’s board of directors has retained the authority to
grant non-equity incentive and equity incentive awards at its discretion.
Using the Black-Scholes option valuation model, the weighted average fair values of options granted during
2006, 2005 and 2004 were $4.00, $1.89 and $1.28, respectively, per option. The fair values of the options granted
were determined at the grant dates using the following weighted average assumptions:
Risk free interest rate (1).........................................................................
Common stock dividend yield (2)...........................................................
Expected volatility (3).............................................................................
Average expected option life (years) (4).................................................
Options granted......................................................................................
2006
4.63%
5.20%
18.90%
4.75
243,610
2005
4.19%
6.45%
16.30%
7.0
662,325
2004
2.99%
6.59%
17.57%
9.2
834,078
(1) Represents interest rate on US treasury bonds having the same life as the estimated life of the option grants.
(2) The dividend yield is calculated utilizing the dividends paid for the previous one-year period and the per share price of
Common Stock on the date of grant.
(3) Based on the historical volatility of Common Stock over a period relevant to the related stock option grant.
(4) The average expected option life for the 2006 grants is based on an analysis of historical company data. The average
expected option life for the 2005 and 2004 grants is a weighted average of their respective contractual terms.
The following table summarizes information about all stock options outstanding at December 31, 2006:
Options Outstanding
Balances at December 31, 2005 .....................................................................................
Options granted..............................................................................................................
Options forfeited............................................................................................................
Options cancelled ...........................................................................................................
Options exercised ...........................................................................................................
Balances at December 31, 2006 .....................................................................................
Number
of Shares
5,153,648
243,610
(18,262)
(54,558)
(2,349,367)
2,975,071
$
Weighted Average
Exercise Price
24.23
32.40
27.16
26.51
24.46
24.67
$
Cash received or receivable from options exercised was $43.3 million, $2.7 million and $3.2 million for the
years ended December 31, 2006, 2005 and 2004, respectively. The total intrinsic value of options exercised during
the years ended December 31, 2006, 2005 and 2004 was $30.5 million, $1.0 million and $1.0 million, respectively.
The total intrinsic value of options outstanding at December 31, 2006, 2005 and 2004 was $47.9 million, $22.3
million and $18.9 million, respectively. The Company generally does not permit the net cash settlement of
exercised stock options, but does permit net share settlement for certain qualified exercises. The Company has a
policy of issuing new shares to satisfy stock option exercises.
92
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS - Continued
The following table sets forth information at December 31, 2006 about (a) the outstanding number of vested
stock options and those expected to vest and (b) the number of those options that are exercisable.
Outstanding............................................................................
Exercisable .............................................................................
Number
of Shares
2,855,941
1,902,033
Weighted
Average
Exercise
Price
$ 24.64
$ 23.32
Aggregate
Intrinsic
Value
(in 000s)
$ 46,032
$ 33,168
Weighted
Average
Remaining
Life (years)
4.78
4.18
The following table summarizes activity in the year ended December 31, 2006 for all time -based restricted
stock grants:
Nonvested shares outstanding at December 31, 2005................................................................
Awarded and issued (2)...............................................................................................................
Vested (3)....................................................................................................................................
Forfeited.....................................................................................................................................
Surrendered for payment of withholding taxes upon vesting (3)................................................
Nonvested shares outstanding at December 31, 2006................................................................
Number
of Shares
268,409 (1)
72,906
(43,903)
(18,590)
(23,702)
255,120
Weighted
Average
Grant Date
Fair Value
$ 24.79
32.50
24.22
25.68
23.82
$ 27.12
(1) Amount includes the grant of 20,396 shares of restricted stock in 2005, which were not issued until 2006, and are included
in the Consolidated Statement of Stockholders’ Equity at December 31, 2006.
(2) The weighted average fair value at grant date of time-based restricted shares issued during the years ended
December 31, 2006, 2005 and 2004 was $2.4 million, $2.5 million and $3.0 million, respectively.
(3) The vesting date fair value of time-based restricted shares that vested during the years ended December 31, 2006, 2005 and
2004 was $2.2 million, $2.4 million and $3.2 million, respectively.
The following table summarizes activity in the year ended December 31, 2006 for all performance-based and
total return-based restricted stock grants:
Nonvested shares outstanding at December 31, 2005................................................................
Awarded and issued (1)...............................................................................................................
Vested (2)....................................................................................................................................
Forfeited.....................................................................................................................................
Surrendered for payment of withholding taxes upon vesting (2)................................................
Nonvested shares outstanding at December 31, 2006................................................................
Weighted
Average
Grant Date
Fair Value
$ 26.82
30.62
28.52
28.19
28.52
$ 28.58
Number
of Shares
62,576
52,938
(2,373)
(4,546)
(1,949)
106,646
(1) The weighted average fair value at grant date of performance and total return-based restricted shares issued during the years
ended December 31, 2006 and 2005 was $1.6 million and $1.5 million, respectively. There were no performance-based and
total return-based restricted shares issued during the year ended December 31, 2004.
(2) The vesting date fair value of return-based restricted shares that vested during the year ended December 31, 2006 was $0.2
million. No performance-based or return-based restricted shares vested during 2005 and no performance-based or return-
based restricted shares were granted in 2004.
93
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS - Continued
1999 Shareholder Value Plan
Grants under the 1999 Shareholder Value Plan were intended to reward the executive officers of the Company
when the total shareholder returns measured by increases in the market value of Common Stock plus dividends
exceeded a comparable index of the Company’s peers over a three-year period. Annual grants under this Plan up to
2004 would result in cash payments based on the Company’s percentage change in shareholder return compared to
the composite index of its peer group. If the Company’s performance is not at least 100% of the peer group, no
payout is made. To the extent performance exceeds the peer group, the payout increases. No new grants were made
under the 1999 Shareholder Value Plan in 2006 and 2005. There were no cash payouts for grants under this plan for
the years ended December 31, 2005 and 2004, respectively. For the grants issued in early 2004 and whose three-year
performance period ended on December 31, 2006, payments of approximately $0.9 million were made in early
2007. The 1999 Shareholder Value Plan is accounted for as a liability award and, accordingly, at each period-end, a
liability equal to the current computed fair value under the plan for all outstanding plan units, adjusted for the three-
year vesting period, is recorded with corresponding charges or credits to compensation expense. No compensation
expense was required to be recognized during 2005 and 2004 for grants under this plan; approximately $0.9 million
was recognized as expense in 2006.
Retirement Plan
Effective for 2006, the Company adopted a retirement plan applicable to all employees, including executive
officers, who, at the time of retirement, have at least 30 years of continuous qualified service or are at least 55 years
old and have at least 10 years of continuous qualified service. Subject to advance retirement notice and execution of
a non-compete agreement with the Company, eligible retirees would be entitled to receive a pro rata amount of the
annual incentive payment earned during the year of retirement. Stock options and time-based restricted stock
granted by the Company to such eligible retiree during his or her employment would be non-forfeitable and become
exercisable according to the terms of their original grants. Eligible retirees would also be entitled to receive a pro
rata amount of any performance-based and total return-based restricted stock originally granted to such eligible
retiree during his or her employment that subsequently vests after the retirement date according to the terms of their
original grants. The benefits of this retirement plan apply only to restricted stock and stock option grants beginning
in 2006 and will be phased in 25% on March 1, 2006 and 25% on each anniversary thereof. For employees eligible
for these benefits as of the date of grant after March 1, 2006, 25% of their grants were fully expensed at the grant
date, which increased compensation expense by approximately $0.2 million in the year ended December 31, 2006.
Grants made prior to 2006 are unaffected.
94
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
6. EMPLOYEE B ENEFIT PLANS - Continued
Deferred Compensation
The Company has a deferred compensation plan pursuant to which each executive officer and director can elect
to defer a portion of base salary and/or annual incentive payments (or director fees) for investment in various
unrelated mutual funds. Prior to January 1, 2006, executive officers and directors also could elect to defer cash
compensation for investment in units of phantom common stock of the Company. At the end of each calendar
quarter, any executive officer and director who deferred compensation into phantom stock was credited with units of
phantom stock at a 15.0% discount. Dividends on the phantom units are assumed to be issued in additional units of
phantom stock at a 15.0% discount. If an officer that deferred compensation under this plan leaves the Company’s
employ voluntarily or for cause within two years after the end of the year in which such officer deferred
compensation for units of phantom stock, at a minimum, the 15.0% discount and any deemed dividends are
forfeited. Over the two-year vesting period, the Company records additional compensation expense equal to the
15.0% discount, the accrued dividends and any changes in the market value of Common Stock from the date of the
deferral, which aggregated $1.6 million, $0.4 million and $0.5 million for the years ended December 31, 2006, 2005
and 2004, respectively. Cash payments from the plan for the years ended December 31, 2006, 2005 and 2004 were
$0.5 million, $0.02 million and $0.9 million, respectively. Transfers made from the phantom stock investment to
other investments in the deferred compensation plan for the year ended December 31, 2006 was $1.1 million. There
were no transfers made for the years ended December 31, 2005 and 2004.
401(k) Savings Plan
The Company has a 401(k) savings plan covering substantially all employees who meet certain age and
employment criteria. The Company contributes amounts for each participant at a rate of 75% of the employee’s
contribution (up to 6% of each employee’s salary). During 2006, 2005 and 2004, the Company contributed $1.1
million, $1.1 million and $1.2 million, respectively, to the 401(k) savings plan. Administrative expenses of the plan
are paid by the Company.
Employee Stock Purchase Plan
The Company has an Emp loyee Stock Purchase Plan for all active employees under which employees can elect
to contribute up to 25.0% of their base and annual incentive compensation for the purchase of Common Stock. At
the end of each three-month offering period, the contributions in each participant's account balance, which includes
accrued dividends, are applied to acquire shares of Common Stock at a cost that is calculated at 85.0% of the lower
of the average closing price on the New York Stock Exchange on the five consecutive days preceding the first day
of the quarter or the five days preceding the last day of the quarter. During the year ended December 31, 2004, the
Company issued 33,693 new shares of Common Stock under the Employee Stock Purchase Plan. SEC rules
prohibited the Company from issuing shares of Common Stock pursuant to the plan under the Company’s Form S-8
registration statement during most of 2005 because of the delay in the filing of the Company’s SEC reports. As a
result, no shares were issued during 2005 under the plan, and the funds were held by a trustee. In 2006, the
Company issued 60,471 shares of Common Stock under the Employee Stock Purchase Plan, which included shares
purchased using the funds held by such trustee. The discount on newly issued shares is expensed by the Company as
additional compensation and aggregated $0.2 million in each of the years ended December 31, 2006, 2005 and 2004,
respectively.
95
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
7. RENTAL AND OTHER REVENUES ; RENTAL PROPERTY AND OTHER EXPENSES
The Company's real estate assets are leased to tenants under operating leases, substantially all of which expire
over the next 10 years. The minimum rental amounts under the leases are generally either subject to scheduled fixed
increases or adjustments based on the Consumer Price Index. Generally, the leases also require that the tenants
reimburse the Company for increases in certain costs above the base-year costs. Rental and other revenues from
continuing operations consist of the following:
Contractual rents.........................................................................................
Straight-line rental income net....................................................................
Lease incentive amortization......................................................................
Property operating cost recovery income ...................................................
Lease termination fees ................................................................................
Fee income..................................................................................................
Other miscellaneous operating income.......................................................
$
$
$
$
Years Ended December 31,
2005
338,442
6,650
(868)
34,369
5,875
4,950
6,657
396,075
2006
355,999
8,044
(796)
40,323
2,792
6,001
4,435
416,798
$
$
2004
336,567
6,601
(727)
31,248
3,471
4,639
7,788
389,587
Rental property and other expenses from continuing operations consist of the following:
Maintenance, cleaning and general building..............................................
Utilities, insurance and real estate taxes .....................................................
Division and allocated administrative expenses .........................................
Other miscellaneous operating expenses ....................................................
Years Ended December 31,
2005
2006
$
$
53,528
81,976
12,257
5,831
153,592
$
$
50,123
74,011
10,440
7,001
141,575
$
$
2004
49,043
72,528
9,080
7,228
137,879
Expected future minimum base rents to be received over the next five years and thereafter from tenants for leases
in effect at December 31, 2006 for the Wholly Owned Properties (including properties held for sale) are as follows:
2007................................................................................................................ $
2008................................................................................................................
2009................................................................................................................
2010................................................................................................................
2011................................................................................................................
Thereafter.......................................................................................................
358,823
332,844
286,718
238,445
190,922
657,750
$ 2,065,502
96
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
8. RELATED PARTY TRANSACTIONS
The Company had a contract to acquire development land in the Bluegrass Valley office development project
from GAPI, Inc., a corporation controlled by Gene H. Anderson, an executive officer and director of the Company.
Under the terms of the contract, the development land was purchased in phases, and the purchase price for each
phase or parcel was settled in cash and/or Common Units. The price for the various parcels was based on an initial
value for each parcel, adjusted for an interest factor, applied up to the closing date and also for changes in the value
of the Common Units. On January 17, 2003, the Company acquired an additional 23.5 acres of this land from GAPI,
Inc. for 85,520 shares of Common Stock and $384,000 in cash for total consideration of $2.3 million. In May 2003,
4.0 acres of the remaining acres not yet acquired by the Company was taken by the Georgia Department of
Transportation to develop a roadway interchange for consideration of $1.8 million. The Department of
Transportation took possession and title of the property in June 2003. As part of the terms of the contract between
the Company and GAPI, Inc., the Company was entitled to and received in 2003 the $1.8 million proceeds from the
condemnation. In July 2003, the Company appealed the condemnation and is currently seeking additional payment
from the state; the recognition of any gain has been deferred pending resolution of the appeal process. In April 2005,
the Company acquired for cash an additional 12.1 acres of the Bluegrass Valley land from GAPI, Inc. and also
settled for cash the final purchase price with GAPI, Inc. on the 4.0 acres that were taken by the Georgia Department
of Transportation, which aggregated approximately $2.7 million, of which $0.7 million was recorded as a payable to
GAPI, Inc. on the Company’s financial statements as of December 31, 2004. In August 2005, the Company acquired
12.7 acres, representing the last parcel of land to be acquired, for cash of $3.2 million. The Company believes that
the purchase price with respect to each land parcel was at or below market value based on market data and on the
subsequent sale of the land at a significant gain, as discussed below. These transactions were unanimously approved
by the full Board of Directors with Mr. Anderson abstaining from the vote. The contract provided that the land
parcels could be paid in Common Units or in cash, at the option of the seller. This feature constituted an embedded
derivative pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” The
embedded derivative feature was accounted for separately and adjusted based on changes in the fair value of the
Common Units. This resulted in decreases to other income of $0.4 million and $0.2 million in 2004 and 2005,
respectively. The embedded derivative expired upon the closing of the final land transaction in August 2005.
The majority of the Bluegrass land that the Company acquired from GAPI, Inc. was sold in the fourth quarter of
2006 to a third party for a gain of approximately $7.0 million. In connection with the sale, it was determined that a
portion of the Bluegrass land that was acquired from GAPI, Inc. pursuant to this staged land take-down arrangement
was not usable or saleable for future development. The original purchase contract requires GAPI, Inc. to reimburse
the Company for the value of any unusable acreage. Based on current estimates, GAPI, Inc. may be required to
reimburse us for up to $750,000 pending final resolution of the matter in accordance with and in the manner
required by the original contract.
On February 28, 2005 and April 15, 2005, the Company sold through a third party broker three non-core
industrial buildings in Winston-Salem, North Carolina to John L. Turner and certain of his affiliates for a gross sales
price of approximately $27.0 million, of which $20.3 million was paid in cash and the remainder from the surrender
of 256,508 Common Units. The Company recorded a gain of approximately $4.8 million upon the closing of these
sales. Mr. Turner, who was a director at the time of these transactions, retired from the Board of Directors effective
December 31, 2005. The Company believes that the purchase price paid for these assets by Mr. Turner and his
affiliates was equal to their fair market value based on extensive marketing of the properties prior to this sale. The
sales were unanimously approved by the full Board of Directors with Mr. Turner not being present to discuss or vote
on the matter.
9. STOCKHOLDERS’ EQUITY
Common Stock Dividends
Dividends declared and paid per share of Common Stock aggregated $1.70 for each of the years ended
December 31, 2006, 2005 and 2004.
97
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
9. STOCKHOLDERS’ EQUITY - Continued
The following table summarizes the estimated taxability of dividends paid for federal income tax purposes:
Per share:
Ordinary income ........................................................................
Capital gains...............................................................................
Return of capital.........................................................................
Total.......................................................................................
2006
2005
2004
$
$
0.04
0.69
0.97
1.70
$
$
0.66
0.99
0.05
1.70
$
$
0.30
0.10
1.30
1.70
The Company's tax returns have not been examined by the IRS and, therefore, the taxability of dividends is
subject to change.
On January 31, 2007, the Board of Directors declared a cash dividend of $0.425 per share of Common Stock
payable on March 2, 2007 to stockholders of record on February 12, 2007.
Preferred Stock
Below is a tabular presentation of the Company’s Preferred Stock as of December 31, 2006 and 2005:
Preferred Stock Issuances
December 31, 2006:
8 5/8% Series A Cumulative
Redeemable .............................
8% Series B Cumulative
Redeemable .............................
December 31, 2005:
8 5/8% Series A Cumulative
Redeemable .............................
8% Series B Cumulative
Redeemable .............................
Number
of Shares
Issued
Number
of Shares
Originally Outstanding
(in thousands ) (in thousands )
Issue
Date
Carrying
Value
Liquidation Optional
Preference Redemption
Pe r Share
Date
Annual
Dividends
Payable
Per Share
2/12/1997
125
105
$ 104,945
$ 1,000 02/12/2027
$ 86.25
9/25/1997
6,900
3,700
$ 92,500
$
25 09/25/2002
$ 2.00
2/12/1997
125
105
$ 104,945
$ 1,000 02/12/2027
$ 86.25
9/25/1997
6,900
5,700
$ 142,500
$
25 09/25/2002
$ 2.00
The net proceeds raised from Preferred Stock issuances were contributed by the Company to the Operating
Partnership in exchange for Preferred Units in the Operating Partnership. The terms of each series of Preferred Units
generally parallel the terms of the respective Preferred Stock as to distributions, liquidation and redemption rights.
Of the $86.25 dividend paid per Series A Preferred Share in 2006, $5.00 was taxable as ordinary income and
$81.25 was taxable as capital gain. Of the $2.00 dividend paid per Series B Preferred Share in 2006, $0.12 was
taxable as ordinary income and $1.88 was taxable as capital gain.
The Company used some of the proceeds from its disposition activities described in Note 4 to redeem, in
August 2005, all of the Company’s outstanding Series D Preferred Shares and 1.2 million of its outstanding Series B
Preferred Shares, aggregating $130.0 million plus accrued dividends and, in February 2006, 2.0 million of its
outstanding Series B Preferred Shares aggregating $50.0 million plus accrued dividends. In connection with these
redemptions of Preferred Stock, the excess of the redemption cost over the net carrying amount of the redeemed
shares was recorded as a reduction to net income available for common shareholders in accordance with EITF Topic
D-42. These reductions amounted to $4.3 million and $1.8 million for the third quarter 2005 and first quarter 2006,
respectively.
98
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
9. STOCKHOLDERS’ EQUITY - Continued
Stockholder Rights Plan
The Company has a stockholder rights plan, which is currently scheduled to expire on October 6, 2007,
pursuant to which existing stockholders would have the ability to acquire additional Common Stock at a significant
discount in the event a person or group attempts to acquire the Company on terms that the Company’s board does
not approve. These rights are designed to deter a hostile takeover by increasing the takeover cost. As a result, such
rights could discourage offers for the Company or make an acquisition of the Company more difficult, even when an
acquisition is in the best interest of the Company’s stockholders. The rights plan should not interfere with any
merger or other business combination the board of directors approves since the Company may generally terminate
the plan at any time at nominal cost.
Dividend Reinvestment Plan
The Company has instituted a Dividend Reinvestment and Stock Purchase Plan under which holders of
Common Stock may elect to automatically reinvest their dividends in additional shares of Common Stock and may
make optional cash payments for additional shares of Common Stock. The administrator of the Dividend
Reinvestment and Stock Purchase Plan has been instructed by the Company to purchase Common Stock in the open
market for purposes of satisfying the Company’s obligations thereunder. However, the Company may in the future
elect to satisfy such obligations by issuing additional shares of Common Stock.
10. DERIVATIVE FINANCIAL INSTRUMENTS
The Company had no outstanding hedge or derivative financial instruments during 2006. During 2004 through
June 1, 2005 the Company had an interest rate swap that effectively fixed the LIBOR base rate on $20.0 million of
floating rate debt at 1.59%.
The Accumulated Other Comprehensive Loss (“AOCL”) balance at December 31, 2006 and 2005 was $1.5
million and $2.2 million, respectively, and consisted of deferred gains and losses from past cash flow hedging
instruments which are being recognized as interest expense over the terms of the related debt (see Note 11). The
Company expects that the portion of the cumulative loss recorded in AOCL at December 31, 2006 associated with
these derivative instruments, which will be recognized as interest expense within the next 12 months, will be
approximately $0.7 million.
As described in Note 8, the land purchase agreement with GAPI, Inc. included an embedded derivative feature
due to the price for the land parcels being determined by the fair value of Common Units, which was accounted for
in accordance with SFAS No. 133.
11. OTHER COMPREHENSIVE INCOME
Other comprehensive income represents net income plus the changes in certain amounts deferred in
accumulated other comprehensive income/(loss) related to hedging activities not reflected in the Consolidated
Statements of Income. The components of other comprehensive income are as follows:
Net income .....................................................................................................
Other comprehensive income:
Realized derivative gains/(losses) on cash-flow hedges ............................
Amortization as interest expense of hedging gains and losses included
Years Ended December 31,
2005
2006
2004
$
53,744
$
62,458
$
41,577
-
(101)
79
in other comprehensive income .............................................................
Total other comprehensive income ........................................................
Total comprehensive income .................................................................
697
697
54,441
703
602
63,060
$
$
757
836
42,413
$
99
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
12. DISCONTINUED OPERATIONS AND THE IMPAIRMENT OF LONG-LIVED ASSETS
As part of its business strategy, the Company will from time to time selectively dispose of non-core properties
in order to use the net proceeds for investments or other purposes. The table below sets forth the net operating
results and net carrying value of those assets classified as discontinued operations in the Company’s Consolidated
Financial Statements. These assets classified as discontinued operations comprise 8.9 million square feet of office
and industrial properties and 290 residential units sold during 2006, 2005 and 2004 and 0.3 million square feet of
property held for sale at December 31, 2006. These long-lived assets relate to disposal activities that were initiated
subsequent to the effective date of SFAS No. 144, or that met certain stipulations prescribed by SFAS No. 144. The
operations of these assets have been reclassified from the ongoing operations of the Company to discontinued
operations, and the Company will not have any significant continuing involvement in the operations after the
disposal transactions:
Rental and other revenues...................................................................
Operating expenses:
Rental property and other expenses ...................................................
Depreciation and amortization...........................................................
Impairment of assets held for use......................................................
General and administrative ................................................................
Total operating expenses................................................................
Interest expense....................................................................................
Other income ........................................................................................
Income before minority interest and gains, net of impairments,
on sales of discontinued operations................................................
Minority interest in discontinued operations.....................................
Income from discontinued operations before net gains on sales and
impairment of discontinued operations.........................................
Net gains on sales and impairment of discontinued operations.........
Minority interest in discontinued operations.....................................
Gains on sales and impairment of discontinued operations,
net of minority interest....................................................................
Total discontinued operations.............................................................
Carrying value of assets held for sale and assets sold during the year ..
Years Ended December 31,
2005
2006
2004
$
12,976
$
54,613
$
83,698
5,254
3,386
-
87
8,727
560
65
3,754
(333)
3,421
15,082
(1,224)
23,158
16,841
-
859
40,858
1,218
195
12,732
(1,228)
11,504
25,754
(2,528)
34,962
25,339
1,770
498
62,569
1,561
230
19,798
(2,048)
17,750
3,106
(323)
13,858
17,279
228,616
$
$
23,226
34,730
523,301
$
$
2,783
20,533
623,170
$
$
SFAS No. 144 also requires that a long-lived asset classified as held for sale be measured at the lower of the
carrying value or fair value less cost to sell. As a result, the Company recorded impairments with respect to certain
properties sold or held for sale aggregating $8.4 million and $6.3 million during the years ended December 31, 2005
and 2004, respectively. These impairments were included in discontinued operations. There were no such
impairments recorded in the year ended December 31, 2006.
At December 31, 2006, the Company had 0.3 million rentable square feet of properties and 108 acres of
development land classified as held for sale. As of February 15, 2007, most of these assets had been sold.
100
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
12. DISCONTINUED OPERATIONS AND THE IMPAIRMENT OF LONG-LIVED ASSETS - Continued
The following table includes the major classes of assets and liabilities of the properties held for sale as of
December 31, 2006 and 2005:
Land ........................................................................................................................................
Land held for development .....................................................................................................
Buildings and tenant improvements .......................................................................................
Development in process..........................................................................................................
Accumulated depreciation ......................................................................................................
Net real estate assets...............................................................................................................
Deferred leasing costs, net......................................................................................................
Accrued straight line rents receivable.....................................................................................
Prepaid expenses and other.....................................................................................................
Total assets..............................................................................................................................
Tenant security deposits, deferred rents and accrued costs (1) ...............................................
Mortgages payable (2).............................................................................................................
(1)
Included in accounts payable, accrued expenses and other liabilities.
(2)
Included in mortgages and notes payable.
December 31,
2006
$
3,462
14,210
21,949
-
(6,829)
32,792
435
727
212
$ 34,166
525
$
-
$
2005
$ 28,716
19,653
165,961
(28)
(42,296)
172,006
2,503
2,674
52
$ 177,235
1,240
$
1,873
$
SFAS No. 144 also requires that if indicators of impairment exist, the carrying value of a long-lived asset
classified as held for use be compared to the sum of its estimated undiscounted future cash flows. If the carrying
value is greater than the sum of its undiscounted future cash flows, an impairment loss should be recognized for the
excess of the carrying amount of the asset over its estimated fair value. During 2006, one office property which was
classified as held for use had indicators of impairment where the carrying value exceeded the sum of undiscounted
future cash flows. Accordingly, the Company recognized an impairment loss of $2.6 million which was included in
impairment of assets held for use for the year ended December 31, 2006. During 2005, one land parcel and one
office property which were classified as held for use had indicators of impairment where the carrying value
exceeded the sum of undiscounted future cash flows. Accordingly, the Company recognized impairment losses of
$7.6 million which were included in impairment of assets held for use for the year ended December 31, 2005.
During 2004, there were two properties held for use, one of which was later sold in 2004 and the other was sold in
2005, with indicators of impairment where the carrying value exceeded the sum of undiscounted future cash flows.
Accordingly impairment losses of $1.6 million were recognized during the year ended December 31, 2004. Since
these properties subsequently were sold, the impairment losses have now been classified in income from
discontinued operations.
101
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
13. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share:
Basic income/(loss) per share:
Numerator:
Income from continuing operations...........................................................
Preferred Stock dividends (1) .....................................................................
Excess of Preferred Stock redemption costs over carrying value (1) .........
Income/(loss) from continuing operations attributable to
common stockholders ........................................................................
Income from discontinued operations........................................................
Net income attributable to common stockholders......................................
Denominator:
Denominator for basic earnings per share – weighted average shares (2)..
Basic earnings per share:
Income/(loss) from continuing operations.................................................
Income from discontinued operations........................................................
Net income .............................................................................................
Diluted income/(loss) per share:
Numerator:
Income from continuing operations...........................................................
Preferred Stock dividends ..........................................................................
Excess of Preferred Stock redemption costs over carrying value ..............
Minority interest in the Operating Partnership ..........................................
Income/(loss) from continuing operations attributable to
common stockholders ........................................................................
Income from discontinued operations........................................................
Minority interest in the Operating Partnership in discontinued
operations...............................................................................................
Income from discontinued operations....................................................
Net income attributable to common stockholders......................................
Denominator:
Denominator for basic earnings per share – weighted average shares (2)..
Add:
Employee stock options and warrants....................................................
Common Units.......................................................................................
Unvested restricted stock.......................................................................
Denominator for diluted earnings per share – adjusted weighted
Years Ended December 31,
2005
2006
2004
$
$
$
$
$
$
36,465
(17,063)
(1,803)
17,599
17,279
34,878
54,489
0.32
0.32
0.64
36,465
(17,063)
(1,803)
1,621
19,220
17,279
1,557
18,836
38,056
$
$
$
$
$
$
$
$
$
$
27,728
(27,238)
(4,272)
(3,782)
34,730
30,948
53,732
(0.07)
0.65
0.58
27,728
(27,238)
(4,272)
-
(3,782)
34,730
-
34,730
30,948
$
$
54,489
53,732
21,044
(30,852)
-
(9,808)
20,533
10,725
53,323
(0.18)
0.38
0.20
21,044
(30,852)
-
-
(9,808)
20,533
-
20,533
10,725
53,323
1,394
5,193
286
- (3)
- (3)
- (3)
- (3)
- (3)
- (3)
average shares and assumed conversions...............................................
61,362 (4)
53,732
53,323
Diluted earnings per share (3):
Income/(loss) from continuing operations.................................................
Income from discontinued operations........................................................
Net income .............................................................................................
$
$
0.31
0.31
0.62
$
$
(0.07)
0.65
0.58
$
$
(0.18)
0.38
0.20
(1) For additional disclosures regarding outstanding Preferred Stock, see Note 9 included herein.
(2) Weighted average shares exclude shares of unvested restricted stock pursuant to SFAS 128.
(3) Pursuant to SFAS No. 128, income from continuing operations, after preferred dividends and preferred stock redemption
charge, is the amount used to determine whether potential common shares are dilutive or antidilutive. Because such potential
common shares would be antidilutive to income from continuing operations allocable to common shareholders, diluted
earnings per share is the same as basic earnings per share for the years ended December 31, 2005 and 2004. Potential
common shares include stock options, warrants, shares issuable upon conversion of Common Units and unvested restricted
shares, and would have amounted to approximately 6.6 million shares and 6.7 million shares for the years ended
December 31, 2005 and 2004, respectively.
102
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
13. EARNINGS PER SHARE - Continued
(4) Options and warrants aggregating approximately 0.2 million shares were outstanding during 2006 but were not included in
the computation of diluted earnings per share because the exercise prices of the options and warrants were higher than the
average market price of the common shares during the year. At December 31, 2006 there were no options and warrants
outstanding with exercise prices that are higher than the $40.76 price of the common shares at that date.
The number of shares of Common Stock reserved for future issuance is as follows:
Outstanding warrants .................................................................................................
Outstanding stock options..........................................................................................
Possible future issuance under Stock Option Plan.....................................................
December 31,
2006
35,000
2,975,071
1,481,864
4,491,935
December 31,
2005
766,715
5,153,648
1,731,835
7,652,198
As of December 31, 2006, the Company had 143,788,852 remaining shares of Common Stock authorized to be
issued under its charter.
14. WARRANTS
The following table sets forth information regarding warrants to acquire Common Stock that were outstanding
as of December 31, 2006:
Date of Issuance
October 1997..................................................................................................
December 1997 ..............................................................................................
Total.......................................................................................................
Number of
Warrants
25,000
10,000
35,000
Exercise
Price
$ 32.50
$ 34.13
All warrants were issued in connection with property acquisitions in 1999 and 1997 and are exercisable from
the dates of issuance. The warrants granted in December 1997 expire 10 years from the respective dates of issuance.
The warrants granted in October 1997 do not have an expiration date. In 2005, 35,000 warrants with an exercise
price of $21.00 per share were exercised and 120,000 warrants with an exercise price of $28.00 per share were
exercised. In 2006, 30,000 warrants with an exercise price of $28.00 per share were exercised, 591,715 warrants
with an exercise price of $32.50 per share were exercised and 100,000 warrants with an exercis e price of $34.13
were exercised.
15. COMMITMENTS AND CONTINGENCIES
Concentration of Credit Risk
The Company maintains its cash and cash equivalent investments and its restricted cash at financial institutions.
The combined account balances at each institution typically exceed FDIC insurance coverage and, as a result, there
is a concentration of credit risk related to amounts on deposit in excess of FDIC insurance coverage.
103
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
15. COMMITMENTS AND CONTINGENCIES - Continued
Land Leases
Certain properties in the Company’s wholly owned portfolio are subject to land leases expiring through 2082.
Rental payments on these leases are adjusted annually based on either the consumer price index (CPI) or on a
predetermined schedule. Land leases subject to increases under a pre-determined schedule are accounted for under
the straight-line method. Total expense recorded for land leases was $1.3 million, $1.4 million and $1.6 million for
the 2006, 2005 and 2004, respectively.
For three properties owned at December 31, 2006, the Company has the option to purchase the leased land
during the lease term at the greater of 85.0% of appraised value or approximately $30,000 per acre. For one property
owned at December 31, 2006, the Company has the option to purchase the leased land at an initial stated purchase
price of $1.0 million, which increases 2% per year beginning in year five through the ninety-ninth year of the lease.
As of December 31, 2006, the Company’s payment obligations for future minimum payments on operating land
leases (which include scheduled fixed increases, but exclude increases based on CPI) were as follows:
2007.................................................................................................................... $
2008....................................................................................................................
2009....................................................................................................................
2010....................................................................................................................
2011....................................................................................................................
Thereafter...........................................................................................................
1,063
1,079
1,119
1,137
1,157
45,636
$ 51,191
Environmental Matters
Substantially all of the Company’s in-service properties have been subjected to Phase I environmental
assessments (and, in certain instances, Phase II environmental assessments). Such assessments and/or updates have
not revealed, nor is management aware of, any environmental liability that management believes would have a
material adverse effect on the accompanying Consolidated Financial Statements.
Guarantees and Other Obligations
The following is a tabular presentation and related discussion of various guarantees and other obligations as of
December 31, 2006:
Entity or Transaction
Type of
Guarantee or Other Obligation
Des Moines Joint Ventures (1),(6) ................................... Debt
RRHWoods, LLC (2),(7)..................................................
Plaza Colonnade (2),(8)....................................................
SF-HIW Harborview Plaza, LP (3),(5) ............................ Rent and tenant improvement (4)
Eastshore (Capital One) (3),(9) ........................................ Rent (4)
Industrial (3),(10).............................................................. Environmental costs (4)
Indirect Debt (4)
Indirect Debt (4)
Highwoods DLF 97/26 DLF 99/32, LP (2),(11)............... Rent (4)
RRHWoods, LLC and Dallas County Partners (2),(12)...
RRHWoods, LLC (2),(14)................................................
HIW-KC Orlando, LLC (3),(13)....................................... Rent (4)
HIW-KC Orlando, LLC (3),(13)....................................... Leasing Costs
Capitalized Lease Obligations (15) ................................. Debt
Indirect Debt (4)
Indirect Debt (4)
Amount
Recorded/
Deferred
-
$
$
$
$
$
$
$
$
$
$
$
$
403
37
-
4,084
125
419
49
28
420
356
481
Date
Guarantee
Expires
Various through
11/2015
8/2010
12/2009
9/2007
11/2007
Until
Remediated
6/2008
6/2014
11/2009
4/2011
Until Paid
Various
104
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
15. COMMITMENTS AND CONTINGENCIES - Continued
(1) Represents guarantees entered into prior to the January 1, 2003 effective date of FASB Interpretation No. 45, “Guarantor’s
Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”
(“FIN 45”) for initial recognition and measurement.
(2) Represents guarantees that fall under the initial recognition and measurement requirements of FIN 45.
(3) Represents guarantees that are excluded from the fair value accounting and disclosure provisions of FIN 45 because the
existence of such guarantees prevents sale treatment and/or the recognition of profit from the sale transaction.
(4) The maximum potential amount of future payments disclosed for these guarantees assumes the Company pays the maximum
possible liability under the guaranty with no offsets or reductions. With respect to the rent guarantee, if the space is leased, it
assumes the existing tenant defaults at December 31, 2006 and the space remains unleased through the remainder of the
guaranty term. If the space is vacant, it assumes the space remains vacant through the expiration of the guaranty. Since it is
assumed that no new tenant will occupy the space, lease commissions, if applicable, are excluded.
(5) As more fully described in Note 3, in 2002 the Company granted its partner in SF-HIW Harborview Plaza, LP a put option
and entered into a master lease arrangement for five years covering vacant space in the building owned by the joint venture.
The Company also agreed to pay certain tenant improvement costs. The maximum potential amount of future payments the
Company could be required to make related to the rent guarantees and tenant improvements was $0.3 million as of
December 31, 2006.
(6) The Company has guaranteed certain loans in connection with the Des Moines joint ventures. The maximum potential
amount of future payments that
the Company could be required to make under the guarantees is $8.6 million at
December 31, 2006. This amount relates to housing revenue bonds that require credit enhancements in addition to the real
estate mortgages. The bonds bear a floating interest rate, which at December 31, 2006 averaged 3.65%, and mature in 2015.
If the joint ventures are unable to repay the outstanding balance under these housing revenue bonds, the Company will be
required to repay its maximum exposure under these loans. Recourse provisions exist that enable the Company to recover
some or all of such payments from the joint ventures’ assets. The joint venture currently generates sufficient cash flow to
cover the debt service required by the loan. On July 31, 2006, $6.0 million in other loans related to four office buildings that
had been previously guaranteed by the Company were refinanced with no guarantee. An additional guarantee of $5.4 million
expired upon an industrial building becoming 95% leased prior to the end of 2006.
(7) In connection with the RRHWoods, LLC joint venture, the Company guaranteed $3.1 million relating to a letter of credit
and corresponding master lease, which expires in August 2010. The guarantee requires the Company to pay under a
contingent master lease if the cash flows from the building securing the letter of credit do not cover at least 50% of the
minimum debt service. The letter of credit along with the building secure the industrial revenue bonds used to finance the
property. These bonds mature in 2015. Recourse provisions exist such that the Company could recover some or all of the
payments made under the letter of credit guarantee from the joint venture’s assets. At December 31, 2006, the Company
recorded a $0.4 million deferred charge included in other assets and liabilities on its Consolidated Balance Sheet with
respect to this guarantee. The Company’s maximum potential exposure under this guarantee was $3.1 million at
December 31, 2006.
(8) The Plaza Colonnade, LLC joint venture has a $50 million non-recourse mortgage that bears a fixed interest rate of 5.7%,
requires monthly principal and interest payments and matures on January 31, 2017. The Company and its joint venture
partner have signed a contingent master lease limited to 30,772 square feet, which expires in December 2009. The
Company’s maximum exposure under this master lease was $1.3 million at December 31, 2006. However, the current
occupancy level of the building is sufficient to cover all debt service requirements.
(9) As more fully described in Note 3, in connection with the sale of three office buildings to a third party in 2002 (the
“Eastshore” transaction), the Company agreed to guarantee rent shortfalls and re-tenanting costs for a five-year period of
time from the date of sale (through November 2007). The Company’s maximum exposure to loss under these agreements as
of December 31, 2006 was $4.1 million. These three buildings were leased to a single tenant, Capital One Services, Inc., a
subsidiary of Capital One Financial Services, Inc., under leases that expire from May 2006 to March 2010. This transaction
had been accounted for as a financing transaction and was recorded as a completed sale transaction in the third quarter of
2005 when the maximum exposure to loss under these guarantees became less than the related deferred gain; gain is being
recognized beginning in the third quarter of 2005 as the maximum exposure under the guarantees is reduced.
105
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
15. COMMITMENTS AND CONTINGENCIES - Continued
(10) In December 2003, the Company sold 1.9 million square feet of industrial property for $58.4 million in cash, a $5.0 million
note receivable that bore interest at 12.0% and a $1.7 million note receivable that bore interest at 8.0%. In addition, the
Company agreed to guarantee, over various contingency periods through December 2006, any rent shortfalls on 16.3% of
the rentable square feet of the industrial property, which is occupied by two tenants. The total gain as a result of the
transaction was $6.0 million. Because the terms of the notes required only interest payments to be made by the buyer until
2005, in accordance with SFAS No. 66, the entire $6.0 million gain was deferred and offset against the note receivable on
the balance sheet and the cost recovery method was being used for this transaction. On June 30, 2005, the Company agreed
to modify the note receivable to reduce the amount due by $0.3 million. The modified note balance and all accrued interest
aggregating $6.2 million, was paid in full on July 1, 2005. Because the maximum exposure to loss from the rent guarantee at
July 1, 2005 was $0.8 million, that amount of gain was deferred and $4.3 million of the deferred gain was recognized at that
date. The Company’s contingent liability with respect to the rent guarantee expired at December 31, 2006 and thus $0.1
million of the remaining gain was recognized in the fourth quarter of 2006. Additionally, as part of the sale, the Company
agreed to indemnify and hold the buyer harmless with respect to environmental concerns on the property of up to $0.1
million. As a result, $0.1 million of the gain was deferred at the time of sale and will remain deferred until the
environmental concerns are remediated.
(11) In the Highwoods DLF 97/26 DLF 99/32, LP joint venture, a single tenant currently leases an entire building under a lease
scheduled to expire on June 30, 2008. The tenant also leases space in other buildings owned by the Company. In conjunction
with an overall restructuring of the tenant’s leases with the Company and with this joint venture, the Company agreed to
certain changes to the lease with the joint venture in September 2003. The modifications included allowing the tenant to
vacate the premises on January 1, 2006, reducing the rent obligation by 50.0% and converting the “net” lease to a “full
service” lease with the tenant liable for 50.0% of these costs at that time. In turn, the Company agreed to compensate the
joint venture for any economic losses incurred as a result of these lease modifications. As of December 31, 2006, the
Company has approximately $0.4 million in other liabilities and $0.4 million as a deferred charge in other assets recorded on
its Consolidated Balance Sheet to account for the lease guarantee. However, should new tenants occupy the vacated space
prior to the end of the guarantee period, in June 2008, the Company’s liability under the guarantee would diminish. The
Company’s maximum potential amount of future payments with regard to this guarantee as of December 31, 2006 was $0.7
million. No recourse provisions exist to enable the Company to recover any amounts paid to the joint venture under this
lease guarantee arrangement. During 2006, the Company expensed $0.1 million related to the lease guarantee.
(12) RRHWoods, LLC and Dallas County Partners financed the construction of two buildings with a $7.4 million ten-year loan.
As an inducement to make the loan at a 6.3% long-term rate, the Company and its partner agreed to master lease the vacant
space and each guaranteed $0.8 million of the debt with limited recourse. As leasing improves, the guarantee obligations
under the loan agreement diminish. As of December 31, 2006, no master lease payments were necessary. The Company
currently has recorded $0.05 million in other liabilities and $0.05 million as a deferred charge included in other assets on its
Consolidated Balance Sheet with respect to this guarantee. The maximum potential amount of future payments that the
Company could be required to make based on the current leases in place was approximately $2.2 million as of
December 31, 2006. The likelihood of the Company paying on its $0.8 million guarantee is remote since the joint venture
currently satisfies the minimum debt coverage ratio and should the Company have to pay its portion of the guarantee, it
would be entitled to recover the $0.8 million from other joint venture assets.
(13) As more fully described in Note 2, in connection with the formation of HIW-KC Orlando, LLC, the Company agreed to
guarantee rent to the joint venture for 3,248 rentable square feet commencing in August 2004 and expiring in April 2011.
The Company’s maximum potential amount of future payments with regard to the guarantee is $0.4 million as of
December 31, 2006. Additionally, the Company agreed to guarantee the initial leasing costs, originally estimated at $4.1
million, for approximately 11% of the total square feet of the property owned by the joint venture. The Company has paid
approximately $0.3 million in 2006 and $1.1 million in 2005 under this guarantee, and approximately $0.4 million is
estimated to remain under the guarantee at December 31, 2006.
(14) In connection with the RRHWoods, LLC joint venture, the Company and its partner each guaranteed $2.9 million to a bank.
This guarantee expires in November 2009 and can be renewed, at the joint venture’s option, through November 2011. The
bank provides a letter of credit securing industrial revenue bonds, which mature in November 2015. The joint venture’s
industrial building secures the bonds. The Company would be required to perform under the guarantee should the joint
venture be unable to repay the bonds. The Company has recourse provisions to recover from the joint venture’s assets. The
property collateralizing the bonds generates sufficient cash flow to cover the debt service required by the bond financing. In
addition to the direct guarantee, the Company is committed to a master lease for 50% of the debt service should the cash
flow from the property not be able to pay the debt service of the bonds. As a result of this master lease, the Company has
recorded $0.03 million in other liabilities and as a deferred charge in other assets on its Consolidated Balance Sheet at
December 31, 2006.
106
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
15. COMMITMENTS AND CONTINGENCIES - Continued
(15) Represents capitalized lease obligations of $0.5 million related to office equipment, which is included in accounts payable,
accrued expenses and other liabilities on the Company’s Consolidated Balance Sheet at December 31, 2006.
Litigation, Claims and Assessments
The Company is from time to time a party to a variety of legal proceedings, claims and assessments arising in
the ordinary course of its business. The Company regularly assesses the liabilities and contingencies in connection
with these matters based on the latest information available. For those matters where it is probable that the Company
has incurred or will incur a loss and the loss or range of loss can be reasonably estimated, reserves are recorded in
the Consolidated Financial Statements. In other instances, because of the uncertainties related to both the probable
outcome and amount or range of loss, a reasonable estimate of liability, if any, cannot be made. Based on the current
expected outcome of such matters, none of these proceedings, claims or assessments is expected to have a material
adverse effect on the Company’s business, financial condition or results of operations.
In June, August, September and October 2006, the Company received assessments for state excise taxes and
related interest amounting to approximately $4.5 million, related to periods 2002 through 2004. The Co mpany
believes that it is not subject to such taxes and has vigorously disputed the assessment. Based on the advice of
counsel concerning the status of settlement discussions and on the Company’s analysis, the Company currently
believes it is probable that all excise tax assessments, including potential assessments for 2005 and 2006, can be
settled by the payment of franchise taxes of approximately $0.5 million, and in the fourth quarter of 2006 such
amount was accrued and charged to operating expenses. Legal fees related to this matter were nominal and were
charged to operating expenses as incurred in 2006.
As previously disclosed, the SEC’s Division of Enforcement issued a confidential formal order of investigation
in connection with the Company’s previous restatement of its financial results. In November 2006, the Company
was informed that the SEC’s Division of Enforcement had closed its investigation and was not taking any action
with respect to this matter.
107
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
16. DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosures of estimated fair value were determined by management using available market
information and appropriate valuation methodologies. Considerable judgment is used to interpret market data and
develop estimated fair values. Accordingly, the estimates presented herein are not necessarily indicative of the
amounts that the Company could realize upon disposition of the financial instruments. The use of different market
assumptions and/or estimation methodologies may have a material effect on the estimated fair values. The carrying
amounts and estimated fair values of the Company's financial instruments at December 31, 2006 and 2005 were as
follows:
Carrying
Amount
Fair
Value
December 31, 2006
Cash and cash equivalents............................................................................
Accounts and notes receivable .....................................................................
Mortgages and notes payable.......................................................................
Financing obligations...................................................................................
$
16,690
31,218
$
$ 1,465,129
35,530
$
$
16,690
31,218
$
$ 1,506,693
39,121
$
December 31, 2005
Cash and cash equivalents............................................................................
Accounts and notes receivable .....................................................................
Mortgages and notes payable.......................................................................
Financing obligations ...................................................................................
1,212
$
$
33,433
$ 1,471,616
34,154
$
1,212
$
$
35,509
$ 1,562,997
34,235
$
The fair values of the Company's fixed rate mortgages and notes payable and financing obligations were
estimated using discounted cash flow analysis based on the Company's estimated incremental borrowing rate at
December 31, 2006 and 2005 for similar types of borrowing arrangements. The carrying amounts of the Company's
variable rate borrowings approximate fair value.
Disclosures about the fair value of financial instruments are based on relevant information available to the
Company at December 31, 2006. Although management is not aware of any factors that would have a material
effect on the fair value amounts reported herein, such amounts have not been revalued since that date and current
estimates of fair value may significantly differ from the amounts presented herein.
108
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
17. SEGMENT INFORMATION
The sole business of the Company is the acquisition, development and operation of rental real estate properties.
The Company operates in four segments: office, industrial, retail and residential properties. Each segment has
different customers and economic characteristics as to rental rates and terms, cost per square foot of buildings, the
purposes for which customers use the space, the degree of maintenance and customer support required and customer
dependency on different economic drivers, among others. There are no material inter-segment transactions.
The accounting policies of the segments are the same as those described in Note 1 included herein. Further, all
operations are within the United States and, at December 31, 2006, no tenant of the Wholly Owned Properties
comprised more than 6.8% of the Company’s consolidated revenues.
The following table summarizes the rental income, net operating income and assets for each reportable segment
for the years ended December 31, 2006, 2005 and 2004:
Rental and Other Revenues (1):
Office segment ...................................................................................
Industrial segment ..............................................................................
Retail segment ....................................................................................
Residential segment ...........................................................................
Total Rental and Other Revenues ..........................................................
Net Operating Income (1):
Office segment ...................................................................................
Industrial segment ..............................................................................
Retail segment ....................................................................................
Residential segment ...........................................................................
Total Net Operating Income ..................................................................
Reconciliation to income before disposition of property, minority
interest and equity in earnings of unconsolidated affiliates:
Depreciation and amortization...........................................................
Impairment of assets held for use......................................................
General and administrative expenses .................................................
Interest expense..................................................................................
Interest and other income...................................................................
Settlement of tenant bankruptcy claim...............................................
Loss on debt extinguishment..............................................................
Income before disposition of property, minority interest and
equity in earnings of unconsolidated affiliates ..................................
Total Assets (2):
Office segment ...................................................................................
Industrial segment ..............................................................................
Retail segment ....................................................................................
Residential segment ...........................................................................
Corporate and other............................................................................
Total Assets............................................................................................
(1) Excludes discontinued operations.
Years Ended December 31,
2005
2006
2004
$
$
$
341,851
30,958
42,762
1,227
416,798
211,610
23,365
27,892
339
263,206
$
$
$
329,168
26,589
39,213
1,105
396,075
207,207
20,078
26,703
512
254,500
$
$
$
324,948
26,971
36,605
1,063
389,587
205,233
20,847
25,107
521
251,708
(114,935)
(2,600)
(37,309)
(100,766)
7,010
1,581
(494)
(109,616)
(7,587)
(33,063)
(107,081)
7,078
-
(453)
(108,846)
-
(41,485)
(118,465)
6,094
14,435
(12,457)
$
15,693
$
3,778
$
(9,016)
2006
$ 2,218,705
230,103
247,887
21,933
126,225
$ 2,844,853
December 31,
2005
$ 2,245,595
226,199
259,544
21,121
156,519
$ 2,908,978
2004
$ 2,529,577
256,340
262,515
12,207
179,019
$ 3,239,658
(2) Real estate and other assets held for sale are included in this table according to the segment type.
109
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
18. OTHER EVENTS
Retirement of Former Chief Executive Officer
The Company’s former Chief Executive Officer retired on June 30, 2004. In connection with his retirement, the
Company’s Board of Directors approved a retirement package for him that included a lump sum cash payment,
accelerated vesting of stock options and restricted stock, extended lives of stock options and continued coverage
under the Company’s health and life insurance plan for three years at the Company’s expense. The total cost
recognized under GAAP for the six months ended June 30, 2004 was $4.6 million, comprised of a $2.2 million cash
payment, $0.6 million related to the vesting of stock options, $1.7 million related to the vesting of restricted shares
and about $0.1 million for continued insurance coverage.
Settlement of Tenant Bankruptcy Claims
On July 21, 2002, WorldCom filed a voluntary petition with the United States Bankruptcy Court seeking relief
under Chapter 11 of the United States Bankruptcy Code. WorldCom emerged from bankruptcy (now MCI, Inc.) on
April 20, 2004. On August 27, 2004, the Company and various MCI subsidiaries and affiliates (the “MCI Entities”)
executed a settlement agreement pursuant to which the MCI Entities paid the Company $8.6 million in cash and
transferred to it approximately 340,000 shares of new MCI, Inc. stock in September 2004. The Company
subsequently sold the stock for net proceeds of approximately $5.8 million, and recorded the full settlement of $14.4
million as Other Income in the third quarter of 2004.
In the fourth quarter of 2006, the Company received shares of Redback Networks, Inc., a public company, in
settlement of a bankruptcy claim by the Company related to leases with this former tenant that were terminated in
2003. The shares were sold for net cash proceeds of $1.6 million and recorded as Other Income.
Casualty from Hurricane and Related Insurance Claim
In the fourth quarter of 2005, one of the Company’s office properties located in southeastern Florida sustained
damage in a hurricane. The damages are fully insured except for a $341,000 deductible, which was expensed in the
fourth quarter of 2005. The Company did not incur any significant loss of rental income as a result of the damages.
In 2006, the Company received $2.4 million from the insurance company as advances on the final settlement; these
amounts were primarily for clean up costs and certain repairs. The Company is in the process of completing final
permanent repairs. On February 6, 2007, the insurance company paid the Company an additional $5.0 million in
settlement of the claim. The Company currently estimates that a gain of approximately $4 million will be recorded
under FASB Interpretation No. 30, “Accounting for Involuntary Conversion of Non-Monetary Assets to Monetary
Assets” in the first quarter of 2007.
110
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
19. QUARTERLY FINANCIAL DATA (Unaudited)
The following tables set forth quarterly financial information for the Company’s fiscal years ended
December 31, 2006 and 2005 and have been adjusted to reflect the reporting requirements of discontinued
operations under SFAS No. 144:
Rental and other revenues (2) .................................
Income from continuing operations (2) ..................
Income from discontinued operations (2)...............
Net income .............................................................
Dividends on preferred stock..............................
Excess of preferred stock redemption cost over
carrying value.................................................
Net income available for common stockholders....
Net income per share-basic:
Income from continuing operations...................
Discontinued operations.....................................
Net income .........................................................
Net income per share-diluted:
Income from continuing operations...................
Discontinued operations.....................................
Net income .........................................................
Rental and other revenues (2) .................................
Income from continuing operations (2) ..................
Income from discontinued operations (2)...............
Net income .............................................................
Dividends on preferred stock.............................
Excess of preferred stock redemption cost over
carrying value.................................................
Net income available for common stockholders....
Net income per share-basic:
(Loss)/income from continuing operations........
Discontinued operations.....................................
Net income .........................................................
Net income per share-diluted:
(Loss)/income from continuing operations........
Discontinued operations.....................................
Net income .........................................................
First
Quarter
$ 101,079
For the Year Ended December 31, 2006
Third
Second
Fourth
Quarter
Quarter
Quarter
$ 108,508
$ 104,328
$ 102,883
Total
$ 416,798
10,965
3,181
14,146
(4,724)
(1,803)
7,619
0.08
0.06
0.14
0.08
0.06
0.14
$
$
$
$
$
5,332
941
6,273
(4,113)
-
2,160
0.02
0.02
0.04
0.02
0.02
0.04
$
$
$
$
$
5,538
3,371
8,909
(4,113)
-
4,796
0.03
0.06
0.09
0.03
0.06
0.09
$
$
$
$
$
$
$
$
$
$
14,630
9,786
24,416
(4,113)
36,465
17,279
53,744
(17,063)
-
20,303 (1) $
(1,803)
34,878
0.19
0.17
0.36
0.18
0.17
0.35
$
$
$
$
0.32
0.32
0.64
0.31
0.31
0.62
First
Quarter
98,969
$
For the Year Ended December 31, 2005
Third
Second
Fourth
Quarter
Quarter
Quarter
$ 100,738
98,159
$
98,209
$
Total
$ 396,075
3,442
17,712
21,154
(7,713)
7,730
3,704
11,434
(7,713)
10,369
12,502
22,871
(6,699)
6,187
812
6,999
(5,113)
-
13,441
$
-
3,721
(0.08) $
0.33
0.25
$
(0.08) $
0.33
0.25
$
-
0.07
0.07
-
0.07
0.07
$
$
$
$
$
$
$
$
$
$
(4,272)
11,900
$
-
1,886
(0.01) $
0.23
0.22
$
(0.01) $
0.23
0.22
$
0.02
0.02
0.04
0.02
0.01
0.03
27,728
34,730
62,458
(27,238)
(4,272)
30,948
(0.07)
0.65
0.58
(0.07)
0.65
0.58
$
$
$
$
$
(1) The increase in net income available for common stockholders from the third quarter of 2006 to the fourth quarter of 2006
was primarily a result of the settlement of a $1.6 million tenant bankruptcy claim received in the fourth quarter of 2006
related to leases with a former tenant that were terminated in 2003 (see Note 18 for further discussion) and an increase of
$11.5 million in gains on disposed properties in both continuing and discontinued operations from the third quarter of 2006
to the fourth quarter of 2006.
111
HIGHWOODS PROPERTIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(tabular dollar amounts in thousands, except per share data)
19. QUARTERLY FINANCIAL DATA (Unaudited) – Continued
(2) The amounts presented for the first three quarters are not equal to the same amounts previously reported in Form 10-Q for
each period as a result of discontinued operations. Below is a reconciliation to the amounts previously reported in Form
10-Q:
March 31,
2006
104,249
(3,170)
101,079
$
$
For the Quarter Ended
June 30,
2006
105,803
(2,920)
102,883
$
$
September 30,
2006
106,291
(1,963)
104,328
$
$
$
$
$
$
$
$
$
11,754
(789)
10,965
2,392
789
3,181
$
$
$
$
6,088
(756)
5,332
185
756
941
$
$
$
$
6,003
(465)
5,538
2,906
465
3,371
For the Quarter Ended
June 30,
2005
September 30,
2005
December 31,
2005
101,238
(3,029)
98,209
8,540
(810)
$
$
$
100,051
(1,892)
98,159
10,929
(560)
$
$
$
104,475
(3,737)
100,738
7,183
(996)
Total rental and other revenues previously reported..........................
Discontinued operations.....................................................................
Revised total rental and other revenues .........................................
Income from continuing operations previously reported...................
Discontinued operations.....................................................................
Revised income from continuing operations .................................
Income from discontinued operations previously reported................
Additional discontinued operations from properties sold
subsequent to the respective reporting period................................
Revised income from discontinued operations..............................
March 31,
2005
Total rental and other revenues previously
reported..............................................................
Discontinued operations.........................................
Revised total rental and other revenues .............
Income from continuing operations previously
reported..............................................................
Discontinued operations.........................................
Revised income from continuing
operations.......................................................
Income from discontinued operations previously
reported..............................................................
Additional discontinued operations from
properties sold subsequent to the respective
102,166
(3,197)
98,969
4,020
(578)
$
$
$
$
3,442
$
7,730
$
10,369
$
6,187
$
17,134
$
2,894
$
11,942
$
(184)
reporting period..................................................
578
810
560
Revised income from discontinued
operations.......................................................
$
17,712
$
3,704
$
12,502
$
996
812
112
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, in the City of
Raleigh, State of North Carolina, on March 1, 2007.
HIGHWOODS PROPERTIES, INC.
By:
/s/ EDWARD J. FRITSCH
Edward J. Fritsch
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the Registrant and in the capacity and on the dates indicated.
Signature
Title
Date
/s/
/s/
/s/
/s/
/s/
/s/
/s/
/s/
/s/
/s/
O. Temple Sloan, Jr.
O. Temple Sloan, Jr.
Edward J. Fritsch
Edward J. Fritsch
Gene H. Anderson
Gene H. Anderson
Thomas W. Adler
Thomas W. Adler
Kay N. Callison
Kay N. Callison
Lawrence S. Kaplan
Lawrence S. Kaplan
Sherry A. Kellett
Sherry A. Kellett
L. Glenn Orr, Jr.
L. Glenn Orr, Jr.
F. William Vandiver, Jr.
F. William Vandiver, Jr.
Terry L. Stevens
Terry L. Stevens
Chairman of the Board of
March 1, 2007
Directors
President, Chief Executive
Officer, and Director
March 1, 2007
Senior Vice President and
March 1, 2007
Director
Director
Director
Director
Director
Director
Director
March 1, 2007
March 1, 2007
March 1, 2007
March 1, 2007
March 1, 2007
March 1, 2007
Vice President and Chief Financial
March 1, 2007
Officer
Exhibit 31.1
CERTIFICATION PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT
I, Edward J. Fritsch, certify that:
1.
I have reviewed this Annual Report on Form 10-K of Highwoods Properties Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state
a material fact necessary to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report,
fairly present in all material respects the financial condition, results of operations and cash flows of the
Registrant as of, and for, the periods presented in this report;
4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control
over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Registrant and
have:
(a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to
be designed under our supervision, to ensure that material information relating to the Registrant,
including its consolidated subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
(b) designed such internal control over financial reporting, or caused such internal control over financial
reporting to be designed under our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
(c) evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in this
report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) disclosed in this report any change in the Registrant’s internal control over financial reporting that
occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the
case of an annual report) that has materially affected, or is reasonably likely to materially affect, the
Registrant’s internal control over financial reporting; and
5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of
internal control over financial reporting, to the Registrant’s auditors and the Audit Committee of the
Registrant’s Board of Directors (or persons performing the equivalent functions):
(a) all significant deficiencies and material weaknesses in the design or operation of internal control over
financial reporting which are reasonably likely to adversely affect the Registrant’s ability to record,
process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or other employees who have a
significant role in the Registrant’s internal control over financial reporting.
Date: March 1, 2007
/s/ EDWARD J. FRITSCH
Edward J. Fritsch
President and Chief Executive Officer
Exhibit 31.2
CERTIFICATION PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT
I, Terry L. Stevens, certify that:
1.
I have reviewed this Annual Report on Form 10-K of Highwoods Properties Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state
a material fact necessary to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report,
fairly present in all material respects the financial condition, results of operations and cash flows of the
Registrant as of, and for, the periods presented in this report;
4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control
over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Registrant and
have:
(a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to
be designed under our supervision, to ensure that material information relating to the Registrant,
including its consolidated subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
(b) designed such internal control over financial reporting, or caused such internal control over financial
reporting to be designed under our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
(c) evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in this
report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(d) disclosed in this report any change in the Registrant’s internal control over financial reporting that
occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the
case of an annual report) that has materially affected, or is reasonably likely to materially affect, the
Registrant’s internal control over financial reporting; and
5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of
internal control over financial reporting, to the Registrant’s auditors and the Audit Committee of the
Registrant’s Board of Directors (or persons performing the equivalent functions):
(a) all significant deficiencies and material weaknesses in the design or operation of internal control over
financial reporting which are reasonably likely to adversely affect the Registrant’s ability to record,
process, summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or other employees who have a
significant role in the Registrant’s internal control over financial reporting.
Date: March 1, 2007
/s/ TERRY L. STEVENS
Terry L. Stevens
Vice President and Chief Financial Officer
Exhibit 32.1
CERTIFICATION PURSUANT TO SECTION 906
OF THE SARBANES-OXLEY ACT
In connection with the Annual Report of Highwoods Properties, Inc. (the “Comp any”) on Form 10-K for the
period ended December 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the
“Report”), I, Edward J. Fritsch, President and Chief Executive Officer of the Company, certify, pursuant to 18
U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:
1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act
of 1934, as amended; and
2) The information contained in the Report fairly presents, in all material respects, the financial condition and
results of operations of the Company.
/s/ EDWARD J. FRITSCH
Edward J. Fritsch
President and Chief Executive Officer
March 1, 2007
Exhibit 32.2
CERTIFICATION PURSUANT TO SECTION 906
OF THE SARBANES-OXLEY ACT
In connection with the Annual Report of Highwoods Properties, Inc. (the “Company”) on Form 10-K for the
period ended December 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the
“Report”), I, Terry L. Stevens, Vice President and Chief Financial Officer of the Company, certify, pursuant to 18
U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:
1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act
of 1934, as amended; and
2) The information contained in the Report fairly presents, in all material respects, the financial condition and
results of operations of the Company.
/s/ TERRY L. STEVENS
Terry L. Stevens
Vice President and Chief Financial Officer
March 1, 2007